The Foreign Service Journal, January-February 2021

66 JANUARY-FEBRUARY 2021 | THE FOREIGN SERVICE JOURNAL AFSA NEWS Other FEIE Considerations AFSA understands that IRS auditors have denied the FEIE for Foreign Service spouses and dependents for failing to meet the bona fide residence or tax home elements of the EFIE tests. Members of the Foreign Service community have successfully used the physical presence test when bona fide residence can- not be established. Those who rely on physical presence should contemporaneously document travel days and retain copies of visas and tickets to substantiate their calculation. As a response to the travel restrictions imposed due to COVID-19, the IRS issued Revenue Procedure 2020-27, which provides a temporary waiver of the time requirements under either the bona fide residence or the physical presence tests. The waiver applies to any taxpayer who reasonably expected to meet the time requirements but failed to do so due to COVID-19. Readers should review the Revenue Procedure in detail noting the specific date requirements and consult a qualified tax professional before claiming the time waiver on their 2020 tax return. Taxpayers should note that the FEIE excludes the income from the bottom tax brackets, thus leaving remaining ordinary income on the return to be taxed at the higher tax brackets applicable to the return. Consequently, for certain married taxpayers, filing separately may result in a combined lower tax liability than filing jointly.We recommend that taxpayers consult with a qualified tax professional to ascertain the most advanta- geous filing status for each tax year. Foreign Accounts and Asset Reporting When a U.S. person (defined as a citizen, resident or Green Card holder) has offshore income, assets, accounts, pensions, trust and/or entities, U.S. income tax and reporting obliga- tions can become a minefield of potential penalties. Many additional reporting forms apply to such taxpayers, but only a handful of accountants and tax attorneys have the expertise to identify which forms need to be completed and to do so correctly. The penalties for failing to file or making mistakes on such forms can be draconian. U.S. persons are taxed on their worldwide income. Members of the Foreign Service must report a wide variety of offshore assets and activities on specific U.S. reporting forms, even if such activities occur abroad. For example, U.S. persons with ownership or signature authority over a foreign bank account of any value must denote this interest in Part III of Schedule B of Form 1040. This often-overlooked section is not only part of the signed 1040 (under penalty of perjury), but it also lets the IRS know whether to expect a Foreign Bank and Financial Accounts Report (FBAR) from that taxpayer. Amisstatement on Schedule B can be used by the IRS against the taxpayer when assessing reporting penalties. The separately filed FBAR (via the BSA e-filing system) is essential. Penalties associated with failing to file or filing an erroneous FBAR are enormous. This form is required from tax- payers with non-U.S. bank accounts and other offshore assets (including some life insurance policies and pensions) that have an aggregate value of more than $10,000 at any time during the year. Failing to report a financial asset on an FBAR can lead to penalties ranging from $12,921 per account, per year (for an accidental, nonwillful error) up to the greater of $129,210 or 50 percent of each account balance, per account, per year (for a more serious offense, such as one coupled with a misstatement on Schedule B or where an investment account was reported but a pension account missed).Willful failures and errors can result in additional penalties and even jail time. These and other penalties for failing to file foreign asset reporting forms can be greater than the value of the assets for which they are filed. Taxpayers with interests in certain foreign financial assets must also file Form 8938 if the total value of such assets exceeds the applicable statutory reporting threshold (e.g., for unmarried persons living in the United States, more than $50,000 on the last day of the tax year or more than $75,000 at any time during the tax year). Errors relating to this formmay result in penalties in excess of $10,000 per year. In addition, the statute of limitations for assessment on a foreign asset report- ing form remains open for three years after the date on which the form is ultimately filed, not fromwhen it was due. Additional tax forms must be filed by taxpayers who: (1) have interests in or engage in transactions with offshore entities, trusts and pensions; (2) have investments in foreign mutual funds; (3) receive substantial gifts from non-U.S. persons; and (4) wish to claim the benefit of a treaty-based return position. Many of these reporting forms must be filed even if they have no impact on tax liability. Qualified Business Income Deduction (QBID) In an attempt to equalize the taxes paid by sole proprietor- ships and pass-through entities with those paid by C corpora- tions, the TCJA created a deduction for up to 20 percent of qualified business income (QBI), qualified real estate invest- ment trusts (REIT) income, and publicly traded partnership income. Calculate the QBID on Form 8995, for which the associated instructions are essential. Pass-through entities such as S Corporations, LLCs and sole proprietorships can claim this deduction, but pay attention to pass-through requirements (e.g., via K-1s) and do not double dip by taking the deduction at the entity level as well as the individual level through the K-1. Business income earned out- side the United States is not QBI—the income must be earned in a U.S. trade or business. Although “trade or business” is not