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Watchdog slams IRS for alienating expats Add to ...

A U.S. federal watchdog slammed the Internal Revenue Service for making Americans in Canada and other countries feel “terrified, tricked or cheated” by a campaign to collect tax owed by U.S. citizens living abroad.

U.S. National Taxpayer Advocate Nina Olson warns that the IRS is driving honest “benign actors” underground with devastating penalties and an over-complex international tax reporting regime.

“The complexity of international tax law, combined with the administrative burden placed on these taxpayers, creates an environment where taxpayers who are trying their best to comply simply cannot,” Ms. Olson complained in a 144-page report to the U.S. Congress.

While she “supports the IRS’s efforts to combat offshore tax evasion,” she said those efforts shouldn’t confuse and frighten people who make honest mistakes.

An IRS crackdown on taxes owed by citizens living abroad has caused fear and confusion among the estimated one million Americans living in Canada, many of whom have never filed U.S. taxes.

“The IRS is squandering an opportunity to substantially improve voluntary compliance by millions of low-profile U.S. taxpayers abroad,” Ms. Olson added.

Among the “benign actors,” Ms. Olson counts the many Canadian-U.S. dual citizens who have “never lived or filed tax returns in the U.S.”

Non-compliance is already rampant in Canada and elsewhere, according to the report. Of the estimated five million to seven million U.S. citizens who live outside the country, fewer than a million filed U.S. tax returns in 2009. And in 2008, just 218,840 of them filed mandatory foreign bank and financial account reports (FBARs) – a tiny fraction of those required to do so.

The IRS has “no way” to accurately identify offshore taxpayers, according to the watchdog.

A big part of the problem is that people fear coming forward because of penalties that Ms. Olson said are often “disproportionate” to the taxes they owe. And the IRS uses the threat of those penalties to entice people into often very costly amnesty programs, the report said.

She also complained that Americans in Canada and elsewhere generally have inadequate access to IRS services, including toll-free hotlines. And the complexity of reporting can be daunting, with the various forms and instructions for foreign filers running to 7,322 pages.

In a formal response to the watchdog’s report, the IRS acknowledged there’s been “confusion” and “inaccurate assertions” about its application of penalties. But the agency insisted “measures are in place to prevent taxpayers from being subjected to financially devastating penalties.”

The IRS also recognized there are “issues faced by foreign taxpayers in fulfilling their U.S. tax obligations.”

The agency said it continues to “look for opportunities to improve service.”

In December, the IRS confirmed it will waive penalties for not filing old tax returns – providing those taxpayers owe no U.S. tax. And it has since pledged to publish new procedures to help dual citizens become compliant.

The new procedures, along with other information for offshore filers, will be posted “within the next month” on the IRS website, spokesman Dean Patterson said

“The IRS recognizes that many Canadians face complex tax situations because of dual citizenship. The IRS stresses that its international tax compliance effort is not focused on any one country and we continue to work to strike the right balance in administering U.S. tax laws,” Mr. Patterson said.

But Ms. Olson urged the IRS must do much more to reach out to honest taxpayers who owe little or nothing, by offering them a clearer and simpler path to coming forward.

Follow on Twitter: @barriemckenna

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