What Does the IRS Consider to be Income that is Taxable?

What is Considered Income by IRS and is it Taxable?

When does the IRS Consider Income to be Taxable?

The United States tax system is much different than many other tax systems across the globe. In general, the US tax system is very complex and even tax matters that seem relatively simple on the surface can become very complicated. One of the most unnecessarily complex aspects of filing a tax return each year is simply for taxpayers to determine whether certain transactions result in taxable income. This is especially true in situations in which the taxpayer may be from a foreign country in which that specific category of income is not actually taxable or even reportable in that foreign country (but is still taxable in the U.S.). Let’s look at four typical types of taxable income transactions.

Foreign Income from Employment

When a person is employed or conducting work as an independent contractor, the income that they earn is taxable in the United States and included on their U.S. tax return. Depending on whether or not they are W-2 employees or an independent contractor can impact how that income is taxed and the extent of other types of taxes — but from a baseline perspective, it is important to note that employment income is taxable. This is true, even if the taxpayer resides outside of the United States and works for a foreign employer. Noting, that the taxpayer may qualify for foreign tax credits or the foreign earned income exclusion to reduce or eliminate their US tax liability.

Foreign Capital Gains

One common misconception that some US persons have, is that if they sell a foreign property then they are not subject to U.S. tax on that foreign property — but that is incorrect. If a US person has an asset overseas such as real estate or securities and they sell this asset for a gain, then they have to report the gain on their U.S. tax return. Likewise, if they sell the asset for a loss, they can also claim those losses and foreign tax credits may apply to reduce or eliminate U.S. tax liability.

Foreign Dividend and Interest Income

In several foreign countries, passive income such as dividends, capital gains, and interest income are not taxable. Unfortunately, those same rules do not typically apply under the U.S. tax rules. As a result, a US person with foreign income such as passive income is still required to include this passive income on their US tax return. In other words, just because the income is not taxable overseas does not mean that it escapes taxation in the United States. As mentioned above, foreign tax credits may serve to reduce or eliminate US tax liability on foreign income that is already been taxed abroad.

Foreign Pension Income

The foreign pension income tax rules are very complicated. If a person worked overseas and generated pension or retirement income from abroad, that income is still taxable in the United States. But, several factors may impact the taxability of the foreign pension in the United States, including:

• • • Whether the US person is considered a U.S. citizen or resident,

    • If the foreign pension was generated before the taxpayer was a US person,

    • Is the foreign pension a public or private pension, and

    • whether there is a treaty in place between the two different countries.

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely report their foreign income and/or file their FBAR and other international information-related reporting forms — the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist that specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.