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January 30, 2018 - Phil Hodgen

The Consequences of Filing Form 8854 Late

Form 8854, I like to say, is how you log out of the U.S. tax system when you give up U.S. citizenship or permanent resident status. Let’s look at the procedural aspects of this mandatory paperwork:

  • Why you must file Form 8854;
  • When you must file Form 8854; and
  • What happens if you don’t file Form 8854 on time?

Why Form 8854 Exists

Overview

Congress imposed the data collecting requirements for expatriates. The IRS took these instructions from Congress and, wielded its its general authority under 6011 to design forms and collect data. Form 8854 is the result. The IRS also took its authority under 6071 and set the filing deadlines that we work with.

The Legal Requirement to Collect Data

Form 8854 exists because IRC § 6039G exists. Form 8854 is fan information return.

Information returns (tax paperwork that gives the IRS some information but does not carry with it an actual tax computation and tax liability reporting) are common. Form W-2 that reports your wages is an example of an information return.

United States Code Title 26, Subtitle F, Chapter 61, Subchapter A, Part III is where you will find all of the information returns that Congress decided were important.

Internal Revenue Code Section 6039G requires expatriates to file an information return:

Notwithstanding any other provision of law, any individual to whom section 877(b) or 877A applies for any taxable year shall provide a statement for such taxable year which includes the information described in subsection (b).1

Form 8854 Was Created to Collect That Data

The IRS (well, technically the Secretary of the Treasury, who is the boss of the IRS) has generic authority to create rules and tax forms in order to enforce the tax laws:

Every person subject to any tax, or required to collect any tax, under Subtitle A of the Code, shall make such returns or statements as are required by the regulations in this chapter. The return or statement shall include therein the information required by the applicable regulations or forms.2

Thus, as long as Form 8854 is “required by the regulations in this chapter”, it is something that the IRS can validly require a taxpayer to complete. Without Form 8854, it will be impossible for the IRS to do the job required by IRC § 6039G, and it will be impossible for the IRS to determine whether an expatriate’s tax reporting is correct or not.

Why the Filing Deadlines Are What They Are

Congress has given the IRS the discretion for setting filing deadlines:

When not otherwise provided for by this title, the Secretary shall by regulations prescribe the time for filing any return, statement, or other document required by this title or by regulations.3

Since Congress did not give explicit instructions for the information return required from expatriates by IRC § 6039G, this means that the IRS has authority to set the filing deadlines.

You can find the deadlines in the Instructions to Form 8854: the same deadlines that apply to your income tax returns. If you get an extension for your income tax return, you also automatically get an extension for filing Form 8854.

Who Must File Form 8854?

Now that we know why Form 8854 exists and when it must be filed, let’s look at the question of who must file Form 8854. It’s not as easy a question as it appears.

Covered Expatriates

IRC § 6039G(a) is written in an interesting way. It defines who must give information to the IRS:

Notwithstanding any other provision of law, any individual to whom section 877(b) or 877A applies for any taxable year shall provide a statement for such taxable year which includes the information described in subsection (b).

Who is an individual “to whom section . . . 877A applies”? To me, the answer is “only covered expatriates”. Follow my reasoning and see if you agree with me:

  • Section 877A(a). These are the mark-to-market rules. They apply only to covered expatriates.
  • Section 877A(b). This is an election to defer the payment of tax due because of Section 877A(a). That means the only people who could use this deferral mechanism will be covered expatriates.
  • Section 877A(c). This says that certain types of property are not taxed under the general mark-to-market rules of Section 877A(a), but are taxed using special rules. Since only covered expatriates pay tax using the mark-to-market rules of Section 877A(a), this means that the only people who pay tax using these carve-out rules will be covered expatriates, too.
  • Section 877A(d). This is the first of the carve-out rules. Deferred compensation is taxed according to the special rules here. Littered throughout this subsection you will find references to the type of people whose deferred compensation is taxed under these special rules–covered expatriates.
  • Section 877A(e). This is the second carve-out from the mark-to-market tax system, for “specified tax deferred accounts”. Again, the subsection itself refers to how covered expatriates are taxed on this type of asset.
  • Section 877A(f). This is the third carve-out from the mark-to-market tax system, for beneficial interests in nongrantor trusts. Again, you will find that these tax rules apply only to covered expatriates.
  • Section 877A(g). These are definitions.
  • Section 877A(h). These are other tax rules–the odds and ends. They can only apply to covered expatriates.
  • Section 877A(i). This subsection is where Congress told the Treasury Department to write regulations interpreting Section 877A.

Unless I am missing something, IRC §877A (the exit tax rules) do not apply to persons who are merely expatriates. Only covered expatriates are people “to whom Section 877A applies”, so only covered expatriates will trigger the requirement built into IRC §6039G to report information to the government on Form 8854.

Notice 2009-85, Section 8.A seems to agree with the conclusion that only covered expatriates must file Form 8854:

Background. Section 301(e) of the Act amended section 6039G to impose a requirement on any individual to whom section 877A applies for any taxable year, to provide a statement that includes certain information as provided in section 6039G, including details of the individual’s income, assets, and liabilities. The Treasury Department and the IRS intend to issue regulations under section 877A that will require covered expatriates who are liable for tax under section 877A to report certain information in connection with their expatriation. Until the issuance of such regulations, covered expatriates must report information in compliance with the rules set forth in this notice and any other information that the IRS may require.4

Noncovered Expatriates

Notice 2009-85 does not discuss reporting requirements for noncovered expatriates. Silence does not mean anything except silence. Therefore, we cannot assume that Notice 2009-85 intends — by calling out covered expatriates only — to exempt noncovered expatriates from filing Form 8854.

There is no legal requirement that noncovered expatriates comply with the requirements of IRC § 6039G, if my logic is right. (And it may well be wrong).

But the general authority of the IRS to design forms and collect data needed to enforce Federal tax law can justify a requirement that noncovered expatriates file Form 8854.

How does the IRS know that a taxpayer is a covered expatriate or not? Quite simply, sufficient information must be delivered to the IRS on a form, so that the IRS can figure it out.

In order to figure out whether a taxpayer is a covered expatriate or a noncovered expatriate, the IRS must know whether various legal thresholds in IRC § 877A are satisfied or not:

  • Average tax liability for the five tax years before your expatriation year was $165,000 or more (assuming expatriation in calendar year 2016) [IRC §§877A(g)(1)(A), 877(a)(2)(A); Rev. Proc. 2017-58, §3.32]; or
  • Net worth on the expatriation date is $2,000,000 or more [IRC §§877A(g)(1)(A), 877(a)(2)(B)]; or
  • There is a failure to certify that full satisfaction of all tax filing and payment obligations for the five years before the expatriation year IRC §§877A(g)(1)(A), 877(a)(2)(C)].

Form 8854, Part IV is designed to help the IRS capture this information. Without it, it would be impossible to determine the correct tax obligation for someone who renounces U.S. citizenship or abandons permanent resident status.

Thus, while IRC § 6039G does not explicitly require noncovered expatriates to file the information return, the general authority of the IRS to require paperwork from you 🙂 justifies a filing requirement for a noncovered expatriate as well.

Filing Form 8854 Late

Let’s get back to the question of late-filing of Form 8854. What if you miss the deadline?

Covered Expatriates: $10,000 Penalty

IRC §6039G is exceedingly clear about penalties. If a person “to whom Section 877A applies” does not file the Form 8854, or you file late:

such individual shall pay a penalty of $10,000 unless it is shown that such failure is due to reasonable cause and not to willful neglect.

Noncovered Expatriates: No $10,000 Penalty

A noncovered expatriate who does not file Form 8854 on time faces an interesting void in the law. It is not clear what penalty, if any, can be imposed.

If IRC § 6039G only applies to covered expatriates, then the $10,000 penalty imposed by IRC § 6039G(c) will apply to covered expatriates only.

Noncovered Expatriates: IRC § 6651(a) Penalty?

There is a generic penalty rule for failure to file a required tax return. If you do not file, the penalty is 5% of the tax due for every month that the tax return is late, up to a cap of 25% of the tax due.5

This 5% per month (up to 25%) penalty does not apply to information returns required by United States Code Title 26, Subtitle F, Chapter 61, Subchapter A, Part III.6 That’s where IRC § 6039G is found. So if Form 8854 is required by IRC § 6039G, then the 5% per month penalty does not apply to Form 8854.

But for noncovered expatriates, my theory is that Form 8854 is not required by IRC § 6039G. Instead it is required under the Service’s generic authority to require returns to be filed. That may be enough to justify the 5% per month penalty being imposed on a noncovered expatriate who is late filing Form 8854.

Except . . . .

Form 8854 does not, itself, carry with it any tax liability. The tax liability is found on Form 1040 or Form 1040NR. So if the IRS seeks to assert the Section 6651(a)(1) penalty for a late-filed Form 8854, are we in the position of saying that the penalty is 5% of zero?

I have no good answers for noncovered expatriates who inadvertently have failed to file Form 8854 on time. (Well, except to say that you should file, even if you are late).

Does Late Filing Make You a Covered Expatriate?

Let’s look at the real risk. Assume a noncovered expatriate does not file Form 8854 by the deadline. Does that mean automatic conversion from noncovered expatriate status to covered expatriate status?

I think not.

IRC §877A(g)(1) is exceedingly clear. The only way you can become a covered expatriate is by satisfying one of the three requirements (net worth on the day before expatriation, average income tax liability over the five years prior to expatriation, or failure to have clean/correct tax filings for the five years prior to expatriation).

If Congress wanted a late-file Form 8854 to cause covered expatriate status, it would have said so.

The conclusion is not certain, however. The certification test gives us some uncertainty.

The Certification Test

Recall that you are a covered expatriate unless you certify that your previous five years of life are fully compliant with all of the requirements of Title 26 of the United States Code. IRC §§877A(g)(1)(A), 877(a)(2)(C).

Let us take on faith that IRC § 6011(a) gives the IRS the power to specify how this particular duty (your duty to certify, that is) must be carried out on paper. Let us also take it on faith that IRC § 6071(a) gives the IRS the power to specify when that piece of paper must be filed with the IRS.

Notice 2009-85, Section 2.A says that the IRS has decided that Form 8854 is the way that you satisfy the certification test. A person is a covered expatriate, says Notice 2009-85, if the person:

(3) fails to certify, under penalties of perjury, compliance with all U.S. Federal tax obligations for the five taxable years preceding the taxable year that includes the expatriation date, including, but not limited to, obligations to file income tax, employment tax, gift tax, and information returns, if applicable, and obligations to pay all relevant tax liabilities, interest, and penalties (the “certification test”). This certification must be made on Form 8854 and must be filed by the due date of the taxpayer’s Federal income tax return for the taxable year that includes the day before the expatriation date. See section 8 of this notice for information concerning Form 8854.

Emphasis added.

IRC § 877(a)(2)(C) says an expatriate will be a covered expatriate unless he or she certifies full compliance with tax obligations for the previous five years. There is no equivalent hard-wired provision in the Code for time deadlines.

IRC §877(a)(2)(C) makes the certification a prerequisite to avoiding covered expatriate status. Notice 2009-85 appears to require the certification to be a timely certification.

The government will, of course, demand action by the stated deadline. But Notice 2009-85 is silent on the consequences of missing the deadline. In order for the IRS to impose a penalty of some kind, there would need to be statutory authority granted. There is no authority in the Code (that I know of) that punishes a late certification with a permanent flip in status from expatriate to covered expatriate.

I believe this is simply a hole in the law. No one has thought this question through yet. Until we see action by Congress (in the form of revisions to the Internal Revenue Code) or by the Treasury Department (in the form of Treasury Regulations), we have no answer to the question.

My suggestion to noncovered expatriates? File your late Form 8854. The government does not have any clear law that can be used to impose a financial penalty, or to flip you from noncovered to covered expatriate status. Take advantage of the fog.

Summary

Form 8854 is required for two different reasons:

  • Covered expatriates are required to file Form 8854 to provide a raft of information specified in IRC §6039G, because they are people “to whom Section 877A applies”.
  • Noncovered expatriates and covered expatriates alike are required to file Form 8854 because they must tell the IRS whether they satisfied the net worth test, the net income tax liability test, or the certification test.
  • Covered expatriates who file a late Form 8854 face a $10,000 penalty at worst.
  • Noncovered expatriates who file a late Form 8854 face ambiguity. But arguably there is no legal basis (yet) for the IRS to impose a financial penalty, or to convert a noncovered expatriate into a covered expatriate.

  1. IRC § 6039G(a). 
  2. Reg. § 1.6011-1(a). See also IRC § 6011(a)
  3. IRC § 6071(a).  
  4. Emphasis added. 
  5. IRC § 6651(a)(1)
  6. IRC § 6651(a)(1)
Expatriation