Another new year has come and gone, which means tax season is approaching for Americans. Filing a tax return is hardly a pleasant task at the best of times, and recent changes in various taxation laws have left many people confused.
Calvin Tong, an American taxation expert and long-term resident of this country, spoke to The Japan Times about the latest information and how it relates to those residing in Japan.
Tong started out as a securities broker, then switched gears to work as a tax specialist in Tokyo for two of the global “Big Four” accounting firms for some 20 years. He currently works as an independent tax consultant.
Firstly, can you remind our readers of the deadlines for filing their U.S. tax returns?
The statutory deadline for 2014 for those of us living overseas is June 15, 2015. Americans have it engraved in our minds that it should be April 15. However, for overseas filers, the Internal Revenue Service (IRS) grants an automatic two-month extension. Nothing has to be done — it is automatic. The only thing to note is that late interest is charged for the two-month period.
I should mention here that the IRS considers anyone who has a Green Card and is, for example, a holder of a work visa, to be a “U.S. person.” The rules for a U.S. person are substantially the same, whether they are a citizen or not.
There have been a number of changes in U.S. tax laws over the last few years. How do these affect U.S. citizens living abroad?
The most high-profile tax-law change is the assigning of the IRS as the enforcing agent for the Patient Protection and Affordable Care Act (PPACA), aka “Obamacare.” For most of us with normal income levels and by virture of our living overseas, we are exempt from paying that tax directly.
There is a box on Form 1040 (the front two pages of a U.S. tax return package). Place a check in the box, then attach a completed Form 8965, “Health Coverage Exemptions.” The form and instructions may look challenging, but the required information is actually fairly simple. If you are a high-income earner, however, be aware that you may be subject to an indirect tax intended to help fund Obamacare.
Next, I would suggest paying attention to what is, in my opinion, the most dangerous of laws to ignore: This is the annual filing requirement of what is called the Foreign Bank Account Reporting FinCEN/FBAR Form 114.
Technically, this isn’t an IRS form. It is overseen by the Department of the Treasury, which is the parent agency of the IRS. Moreover, although the words “bank account” are used, it also covers brokerages and insurance accounts with investment components as well.
If your financial accounts on the aggregate are valued at over $10,000 during the year then the following applies: “A person who willfully fails to report an account or provide account identifying information may be subject to a civil penalty equal to the greater of $100,000 or 50 percent of the balance in the account at the time of the violation. Willful violations may also be subject to criminal penalties.” Very severe!
To those who have been complying, good for you. For those who have not done so, the dilemma has been how to “come current” in light of the penalties, which the IRS has made a priority of enforcing in recent years.
There is some good news, however! To their credit, the IRS has come to recognize that those of us living normal lives overseas do have legitimate non-U.S. banking needs, and that we are not deliberately trying to cheat them.
As of June 2014, the IRS has revised one of its compliance programs. Called the “New Streamlined Procedures,” it is a sort of amnesty program for Americans overseas. In a nutshell, for anyone who is delinquent and has been living overseas at least part of the time of the relevant tax years, that person has a high probability of being excused from the penalties if they are willing to do the following: File or amend tax returns to report the unreported income (such as from Japanese bank interest) for the last three years (2011-2013 as of now) and file the foreign bank-account reporting forms for the last six years (2008-2013 as of now). Thus, for Americans who haven’t reported their Japanese accounts, if the total balances were equivalent to $10,000 or more, I would recommend considering this amnesty program.
The last trending issue I will mention is a law passed in 2010 called the Foreign Account Tax Compliance Act (FATCA). There are many components to this new law. It is far-reaching in scope and extremely controversial, and a full explanation would take up far too much space. Here I’ll just touch on how residents of Japan are going to be impacted.
First, it will require any Japanese financial institution that does business in the U.S. to report accounts owned by U.S. persons to the IRS. This requirement was to have started on Jan. 1, 2015.
To my knowledge, in the cases of SMBC (Sumitomo Mitsui Banking Corp.) or Shinsei Bank, if you open accounts there and they see that you are a U.S. person, you will be asked to complete an IRS form W-9. The W-9 form has actually been in existence for decades. It is required of banks in the U.S. when they open accounts for U.S. citizens or residents. Now, Japanese banks have to do it too.
The flip side of this, which we are already seeing in Europe, is that some financial institutions, rather than run the risk of the penalties, are simply refusing to open new accounts for Americans and are closing existing ones. Will this happen in Japan? Only time will tell.
Started in tax year 2011, a second component of FATCA calls for individuals to provide information similar to that on the FBAR, but covering more types of financial assets, on a separate form to be included on the tax return. It is called the F8938 Statement of Specified Foreign Assets. There are minimum thresholds. Just beware if your Japanese or other non-U.S. financial assets are valued at over $400,000 if filing jointly and $200,000 if not filing jointly. The penalty for noncompliance ranges from $10,000 to $50,000.
A third component affects entrepreneurs who own businesses, such as a kabushiki gaisha (incorporated public company) that has non-U.S. shareholders. Information on the non-U.S. persons will have to be reported.
That’s a lot to think about. So, are there any special breaks for expat Americans?
Well, for anyone who earned up to $99,200 in 2014, the Overseas Income Exclusion is still in place. Wages earned in Japan up to this amount are not taxed.
If both spouses work, each is entitled to his or her $99,200. For those with higher earnings, taxes paid to Japan can act as foreign tax credits to fully or partially offset the taxes on wages above the $99,200. The spirit behind the credits is to mitigate having to pay taxes twice on the same income.
Many American settled here have families. What are some issues for consideration by those with non-American spouses and the children of these unions?
To start with, most of us are used to thinking that filing under Married Filing Jointly (MFJ) status is the most advantageous. That would be true, if both spouses were U.S. persons. However, if the spouse is not a U.S. person, the downside of filing under MFJ is that the spouse has to report on his or her income and assets just as a U.S. person would. (Of course, if that spouse has little or no income or assets, then MFJ should not be an issue.)
If the U.S. person has a child up to college age, they may wish to consider filing under Head of Household (HOH) status. Oftentimes, the tax difference between filing as HOH versus MFJ is not that great, if any. It offers the benefit of peace of mind of the non-American spouse being entirely off the database of the U.S. government.
A point that may be worth mentioning is what is known as “accidental citizens.” These are individuals who were born in the U.S. or born overseas to a parent who was a U.S. citizen, but for practical purposes have lived their entire lives in this country, consider themselves Japanese and have no particular plans to live in the U.S.
From the tax perspective, they are actually subject to annual U.S. tax and assets filings. The U.S. bureaucracy may not have a pressing reason to contact them. However, should they be assigned to work in the U.S. by their Japanese companies someday, or should they buy real estate in the U.S., there is the real danger that they may be uncovered and be asked to file for past years, with potential non-compliance penalties to boot.
What should such accidental citizens do? Perhaps the New Streamlined Procedures mentioned above is timely, and worth considering. Then decide if U.S. citizenship is worth holding onto.
Some of the recent taxation law changes have left many people feeling uncomfortable. As a result, there are overseas-based Americans seriously considering renouncing their U.S. citizenship, believing it to be the best way to secure a life free of the stresses of U.S. tax-return filing. What is your advice in these cases?
The choice is either to bite the bullet and deal with the red tape continuously or to surrender the passport. The latter, however, entails crossing an emotional threshold, and once citizenship is given up, it is forever.
Perhaps if someone has permanent connections here, speaks Japanese fluently and does not have to think about legacy issues such as transferring assets to their children (who may be U.S. citizens), the decision is easier. Notable former Americans who have followed this path are (Japanologist) Donald Keene and (former sumo wrestler) Konishiki.
There is a two-step process for surrendering citizenship on the tax side. First is to go through the formal legal procedures via the U.S. Embassy and (the Department of) Homeland Security. Second is to go through the IRS procedures. You must file a Form 8854, “Initial and Annual Expatriation Statement.” Unless this is done, there is the potential that you are still regarded as a U.S. person for tax reasons, although no longer one for legal purposes.
Looking ahead, what are some things on the horizon that U.S. citizens should be aware of?
Probably first and foremost is to accept that the U.S. tax return and asset reporting are facts of life, and to come current if you are not. It is a new world. We talk about the global village and global connectivity — tax authorities can take advantage of this, too!
Second, one of the more far-reaching proposals that has been discussed is called resident-based taxation (RBT). The idea here is that Americans living overseas should not have to file to their home country, except maybe to pay tax on investment income derived from the U.S. This is the norm with 99 percent of the world’s countries. The U.S. happens to be one of few exceptions — and the only exception among First World countries.
The good news is that RBT may be finding traction with the new Congress of 2015. Organizations such as American Citizens Abroad (ACA) have been advocating for these measures for some time now. ACA’s proposal was cited in a report prepared in December by the Republican staff of the United States Senate Committee on Finance. Hopefully, the proposal will be seriously considered with the new Congress, which has made tax reform a priority. (For more information, check out American Citizens Abroad’s website below.)
Frequently asked questions
Taxation expert Calvin Tong answers some commonly asked questions about filing U.S. taxes.
Do I have to file even if my salary is paid in Japan?
Yes. However, this is not necessarily bad news. If your salary is under $99,200, the salary goes on top of the form as a plus and as a minus further down. Thus, net equals zero.
Is my nonworking spouse my dependent?
By definition, no. Unlike Japanese taxes, the IRS doesn’t regard the spouse as a dependent. However, under Married Filing Status, he or she can be claimed for a Personal Exemption. The result is similar: a deduction of $3,950 for 2014 above the line before tax is calculated.
Can I claim my Japanese spouse’s parents as dependents?
Only if they meet qualifying rules, one of which is that they must be U.S. persons.
Do I need to report my Japanese spouse’s income when filing under Head of Household status?
No. As long as you don’t file a joint return, you do not have to report their income.
Must I apply for a tax ID for my spouse, even though he/she has no income in the U.S. and has never been a resident?
Do I need to report accounts held by my Japanese spouse if my name is not on them?
No, as long as you don’t file a joint return.
How do I report the interest from my Japanese bank and post office accounts?
For regular accounts, the post office line entries will show the gross income and a withholding tax of 20.315 percent as a minus. Bank passbooks usually reflect only the net. To get the gross, you have to divide it by .79685. On the U.S. side, the gross is reported as income and the withholding tax as a foreign tax credit.
If I have stocks with a Japanese brokerage, do I have to report these to the IRS?
Only when you receive dividends or when you sell.
Is my Japanese kōsei-nenkin (employees’ pension insurance) taxable?
It is reportable. To the extent it is reported also in Japan, any taxes paid here can be used as foreign tax credits to offset the U.S. tax.
Can I take a deduction on mortgage interest and property taxes paid on my home in Japan?
Yes. These fall under the same rules as payments for a home in U.S. The filer is allowed the higher of the Standard Deduction or Itemized Deductions.
Can I claim a deduction on tuition paid to Japanese schools?
Am I being double-taxed?
Under the spirit of the nondouble taxation tax treaty signed by the U.S. and Japan, the answer is usually “no.” Foreign tax credits are supposed to see to that. The downer is that if there is a disparity in the Japanese vs. the U.S. tax rate, you usually end up paying the higher of the two.
I am filing a joint tax return with my noncitizen spouse. She recently inherited a house and financial assets from her deceased mother. Are they reportable?
Are the Foreign Bank Account Reporting forms filed with the tax return?
No. They must be filed separately and must be done electronically, i.e. e-filed.
What exchange rates should I use?
For tax returns, the IRS allows some leeway. Any posted rate that is used consistently is acceptable. However, they do post guidance rates. The link is in the box below.
For the FBAR and Form 3898, both must use the same set of rates as set by a Treasury sub-agency. These can be found through the FBAR website or on the instructions for Form 3898.
Some useful links
• A cheat sheet for 2015 rates, etc.: bit.ly/taxratesfor2014
• Exchange rates for tax returns: bit.ly/xchangerates
• Filing FBARs: bsaefiling.fincen.treas.gov/main.html
• IRS Streamlined Procedures for overseas U.S. persons: bit.ly/expatstaxes
• American Citizens Abroad: americansabroad.org
• Tax reform issues for discussion by the 2015 Senate: bit.ly/taxingissues (for portion on resident-based taxation, see pages 282-283 of PDF)