What to Do if You Failed to Report Foreign Income to the IRS

What to Do if You Failed to Report Foreign Income to the IRS

Oh no! You just realized that you forgot to report some foreign income on your past tax returns. Don’t panic – this happens more often than you’d think. The IRS understands that living and working abroad can make filing taxes complicated. The good news is there are options for getting back into compliance. This article will walk you through exactly what to do, step-by-step.

First Things First – File Any Delinquent Returns

If you haven’t filed a tax return for the year(s) when you had unreported foreign income, you need to get those filed right away. The IRS charges failure-to-file penalties of 5% per month up to 25% of the unpaid tax. So it’s in your best interest to get the late returns filed ASAP, even if you can’t pay the tax due.

When filing past-due returns, be sure to report all worldwide income – including the foreign income you previously omitted. You’ll calculate the tax normally. Expect to owe interest and penalties, but the most important thing is getting the returns in the system.

Consider Coming Forward Voluntarily

Now that you’ve got the late returns filed, it’s time to consider coming forward voluntarily about the unreported foreign income. This means letting the IRS know about it before they detect it on their own. Doing this shows “reasonable cause” and good faith.

There are two main voluntary disclosure options – the Streamlined Filing Compliance Procedures and the Voluntary Disclosure Practice. The Streamlined Program is for people who just forgot to report foreign income, without willful intent. It’s a simpler process but still requires paying taxes and interest for the last 3 years.

The Voluntary Disclosure Practice is for intentional failures to report foreign income. It’s more complex but offers penalty relief in exchange for coming forward voluntarily.

Before picking a disclosure program, it’s wise to consult with an experienced tax attorney. They can advise which option is best based on your specific situation.

File Amended Returns to Correct the Record

For any years when you failed to report foreign income, you’ll need to file an amended return using Form 1040X. This will correct the record with the IRS and ensure you properly report the worldwide income.

On the 1040X, you’ll recalculate the tax due based on the updated income figures. Expect to pay additional tax, interest, and penalties. Work with a tax professional to ensure the amended returns are filled out properly.

Take Steps to Fix Any Underpayment Penalties

When the IRS detects unreported income, one thing they hit you with is underpayment penalties. This is because the tax you paid was too low based on your true total income. Fixing this now will save headaches later.

You may qualify to have the underpayment penalties waived if you meet the IRS’s “reasonable cause” criteria. For example, if you relied on a tax professional’s advice in good faith. Or you made a legitimate mistake trying to comply. Work with your tax attorney to see if you can get penalty abatement.

Request a Payment Plan if Needed

After filing amended returns and paying additional tax, you may still end up with a balance due to the IRS. If you can’t afford to pay in full right now, you can request a payment plan. This lets you make monthly payments over 6 years.

Payment plans do charge interest and fees, but it’s much better than defaulting on your tax debt. Be proactive in setting up a plan that works with your budget. The IRS will be more flexible if you come forward voluntarily.

Consider Taxpayer Advocate Service for Help

The IRS understands that filing old returns with added income can be complex. Fortunately, they offer the Taxpayer Advocate Service to help taxpayers navigate the process. They can assist with late filing, amending returns, setting up payment plans, and more.

If you hit snags trying to get back into compliance, don’t hesitate to contact the Advocate. They act as your voice and advocate within the IRS. They have more flexibility than regular IRS agents.

Learn from This Experience for Future Returns

Hopefully this process of reporting past undeclared foreign income will go smoothly and become just a learning experience. Make sure you understand the requirements for reporting worldwide income so you avoid any issues going forward.

Some key lessons:

• Always report any foreign income sources like rental property, foreign pensions, investments, etc.
• Remember the foreign income thresholds that determine if you must file a return.
• Keep records like foreign tax documents to support the income figures.
• Hire a tax preparer familiar with foreign reporting rules.

Mistakes happen, but the IRS is reasonable in working with taxpayers who make a good faith effort to comply. Now you know what to do if you ever find yourself needing to report past foreign income. Just take it one step at a time.

The Bottom Line

Discovering unreported foreign income from previous years can be stressful. But there are clear procedures for getting back into compliance:

1. File any delinquent returns
2. Consider voluntary disclosure programs
3. File amended returns to correct the record
4. Pay additional tax plus interest/penalties
5. Request a payment plan if needed
6. Learn from the experience for future filing

The IRS will work cooperatively as long as you make an honest effort to report and pay tax on your worldwide income. Handling this properly now will save major headaches down the road. You’ve got this!