IRS Penalty Assessment and form 5471 for American Expats

By ZM Ishmurzina

American expats living abroad face an overwhelming complexity of international tax forms. Although, many Americans heard about the foreign earned income exclusion and foreign housing exclusion, most of the time they are not aware of many complex forms. Foreign trust form 3520 and Form 5471 are the one of these complex international tax forms. The IRS penalty for a failure to file these forms timely is $10,000. The Internal Revenue Service is taking steps to evaluate whether the IRS penalty is correctly assessed and whether an abatement was properly granted.

IRS Penalty and Failure to file Form 5471

What is Form 5471?

Form 5471 is Information Return of US persons with Respect to Certain Foreign Corporation. Earlier we wrote an article about Form 5471. To comply with the reporting requirements of Sections 6038 and 6046 of the Tax Code, some American expats living abroad might be required to file Form 5471 if they are officers, directors or shareholders of Controlled Foreign Corporations. Form 5471 has multiple schedules and it is essential to file all required supporting schedules in order to avoid the IRS penalty.

How much is the penalty if form 5471 is filed after tax return due date including extensions?

The IRS penalty in the amount of $10,000 is assessed if form 5471 is filed after the due date of the expat tax return including extensions. Form 5471 must be filed with the US tax return. Consequently, American expats living abroad get an automatic extension until June 15 to file a US expatriate tax return. If expats need additional time to file a US tax return, then they should file form 4868 to request an extension until October 15.

How does the IRS assess penalties for a failure to timely file form 5471?

The Internal Revenue Service has developed a system to assess IRS penalty systematically. In 2013 the Treasury Inspector General for Tax Administration conducted a review to evaluate the IRS system and to estimate the accuracy of penalties and abatement. A taxpayer can request an abatement if s/he can provide a reasonable cause. It is up to the IRS to grant an abatement to American expats. Per the results of this survey, the TIGTA concluded that in general the IRS has been effective. However, several areas for improvement have been identified.

TIGTA reviewed 93 cases in which the IRS abated a taxpayer’s penalty. However, the IRS made a mistake in 40 cases that resulted in $1.75 million of incorrect abatements. If this number is projected to the rest of the population, then the final amount of $40 million is quite staggering. However, this is not the only issue that was identified.

The IRS failed to properly process eight automatic filing extensions. As a result of it, $6.4 million late-filed form 5471 penalty assessments have been abated.

Per the observations of TIGTA Inspector General J. Russell George, “One of the major management challenges facing the IRS is accelerating globalization. The increased use of late-filed penalties could be an effective tool to help improve compliance with international information return filing requirements.”

How does the IRS plan to improve tax collection efforts in case of late-filed form 5471?

American expats living abroad must be aware that the IRS is taking extra efforts to improve tax collection efforts and to assess IRS penalty correctly.

“We have already taken actions to expand systemic penalty assessments to other types of income tax forms and international information reporting returns, and we will continue to evaluate whether further expansion of our program of systemic penalty assessments is appropriate,” wrote Paul D. DeNard, acting commissioner of the IRS’s Large Business and International Division, in response to the report. “We will enhance controls on abatement of systemic penalties on late filed Forms 5471 to ensure they are processed correctly and timely. We will also improve the abatement request process, including documentation of abatement-request decisions, and we will deliver refresher training to employees.”

Conclusion

American expats living abroad must realize the extent and outreach of the IRS efforts. FATCA, John Doe Summons, whistle-blowers and other sources will force many Americans living abroad become compliant whether they want it or not. Moreover, it is essential to file all forms timely to avoid IRS penalty. The IRS streamlined program for low-risk taxpayers is the best way to get back into the system without paying IRS penalty and fees. International tax experts at Artio Partners will be pleased to assist with various expat tax issues.