Requirements for Timely Filing Tax Returns for U.S. Persons Living Overseas

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Are you a U.S. person for living overseas who is required to file U.S. taxes? Then you should be especially aware of U.S. filing deadlines, and the importance of timely filing your tax return under IRC Section 7502. Filing a tax return is often stressful enough for most people living in the U.S. Filing a return while living overseas can be yet an additional burden, particularly for those who do not speak a foreign language fluently, or for those residing in remote areas where access to sufficient postal delivery may be limited. Failure to timely file your tax return can lead to penalties and interest (and further, failure to timely file a refund claim can result in the expiration of such a claim). Hence, if you are a U.S. person living overseas you should ensure that you follow the rules that are outlined in this article.

This article strives to explain the basics of IRC Section 7502 and various revenue rulings clarifying the IRS position regarding timely filing of U.S. tax returns and other documents mailed from foreign countries. It is not intended to constitute tax or legal advice.

International taxation can involve many complex tax and legal issues, so it is highly advisable to seek an experienced attorney in these matters. Sherayzen Law Office, PLLC can assist you in all of your tax and legal needs, and help you avoid making costly mistakes.

A Brief History of IRC Section 7502 and Other Rules

Under the general rule of Internal Revenue Code Section 7502:

“if any return, claim, statement, or other document required to be filed, or any payment required to be made, within a prescribed period or on or before a prescribed date under authority of any provision of the internal revenue laws is, after such period or such date, delivered by United States mail to the agency, officer, or office with which such return, claim, statement, or other document is required to be filed, or to which such payment is required to be made, the date of the United States postmark stamped on the cover in which such return, claim, statement, or other document, or payment, is mailed shall be deemed to be the date of delivery or the date of payment, as the case may be.”

In other words, generally, if a taxpayer mailed a return or the other specified items before a stated deadline, the mailing date would be treated as the filing date, even though the return or other specified documents were received after the actual deadline (this is also commonly known as the “mailbox rule”).

For U.S. taxpayers living overseas, in Rev. Rul. 80-218 the IRS further clarified, “United States federal tax returns mailed by taxpayers in foreign countries will be accepted as timely filed if they bear an official postmark dated on or before midnight of the last date prescribed for filing, including any extension of time for such filing.” Note that Rev. Rul. 80-218 only addressed federal tax returns, and not the other types of items specified in IRC Section 7502, above.

Obstacles Overseas Taxpayers Face in Timely Filing Their Tax Returns

U.S. taxpayers living overseas have faced many obstacles when mailing various tax documents to the IRS from foreign countries, though. For instance, Pekar v. Commissioner, 113 T.C. 158 (1999), the Tax Court upheld the IRS’ determination that a taxpayer was liable for an addition to tax under IRC Section 6651(a)(1) for failing to file a tax return on or before the date prescribed for filing, despite the fact that the foreign postmark date that appeared on the envelope with the return was the return’s due date. The Tax Court held that Section 7502 did not apply to foreign postmarks, and that “foreign postmarks do not effectively cause the filing date of a document to be the postmark date.” In Action on Decision 2002-04, however, the IRS later filed a motion requesting that the Tax Court modify its opinion, and stated it would not follow the opinion regarding whether the late-filing addition to tax penalty applies.

Because of uncertainty that existed as to what types of private mail delivery services would be viewed as acceptable for filing a federal tax return outside of the U.S., Congress added IRC Section 7502(f). IRS Notice 2004-83 subsequently updated the list of designated private delivery services, including certain international private delivery services.

In Rev. Rul. 2002-23, the IRS additionally addressed some of the unresolved issues mentioned above resulting from Pekar and various revenue rulings. The Service held that it would accept federal tax returns properly meeting the requirements of Rev. Rul. 80-218, and that, “A federal tax return, claim for refund, statement, or other document required or permitted to be filed with the Service or with the United States Tax Court that is given to a designated international delivery service before midnight on the last date prescribed for filing shall be deemed timely filed pursuant to section 7502(a), (d)(1), and (f)(1).”

Subpart F Income- Traps for the Unwary

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Under the IRS “Subpart F” rules (26 USC Part III, Subpart F), certain categories of income of controlled foreign corporations (“CFCs”) must be included in the gross income of specified U.S. shareholders, even though the income may not have been distributed.

In this article, we will explain the basics of Subpart F income. It is not intended to constitute tax or legal advice. Subpart F income is an extremely complex area of international tax law and U.S. taxpayers may face significant tax liabilities if they do not have proper tax planning for their CFCs. It is advisable to seek an experienced attorney. Sherayzen Law Office, Ltd. can assist you in all of your tax and legal needs, and help you avoid making costly mistakes.

Subpart F Income

Subpart F income is defined in Internal Revenue Code Section 952 to include numerous categories of income of a CFC. Specifically, it consists of insurance income (as defined in IRC section 953), IRC section 954 “foreign base company income”, income as determined under IRC section 952(a)(3) (amounts subject to the International Boycott rules of IRC section 999), illegal bribes, kickbacks, or other payments unlawful under the Foreign corrupt Practices Act of 1977, and income derived from any foreign country when IRC section 901(j) applies to such country.

Foreign base company income is comprised of the following items: foreign personal holding company income, foreign base company sales income, foreign base company services income, foreign base company shipping income, and foreign base company oil-related income.

Let’s analyze in slightly more detail one of the most common types of subpart F income for U.S. shareholders of a CFC- foreign personal holding company income.

Foreign Personal Holding Company Income

In general, foreign personal holding company income (FPHCI) includes the following items: dividends (or payments in lieu of dividends), rents, royalties, annuities, interest (and income equivalent to interest); net gains from the sale and exchange of certain properties (including gains from the sale or other disposition of any interest in a partnership or trust); gains from commodities transactions; net currency gains from nonfunctional transactions; and income from notional principal contracts.

Certain specific items are excluded from being treated as FPHCI. For example, dividends and interest received may be excluded if they are received from corporations that are related persons and organized in the same country with a substantial part of assets (more than 50 percent) used in its trade or business in that country. Another set of importance exclusions includes: rents and royalties received from unrelated persons in the ordinary conduct of business of the CFC or from related persons for use of property in country of organization; gains from the sale or exchange of inventory; dealer property; property that gives rise to active rent or royalty income; and property that was used in the CFC’s trade or business. In general, exclusions also exist for various insurance and banking business-related activities.

De Minimis Exclusion of Subpart F Income

IRC Section 954 sets forth the de minimis rule for exclusion of Subpart F income. This rule excludes all gross income for the taxable year from being treated as foreign base company income or insurance income if the sum of the CFC’s gross foreign base company income and gross insurance income is less than the lower of 5% of gross income or $1 million. On the other hand, it should be noted that, if the sum of foreign base company income and gross insurance income for the taxable year exceeds 70 percent of gross income, subject to certain provisions, then the entire gross income of the CFC will be treated as foreign base company income or insurance income.

Contact Sherayzen Law Office for Help With Subpart F International Tax Issues

If you own a foreign corporation, you may be subject to Subpart F rules with complex compliance tax issues. These issues are so complex that you should approach them only with an experienced tax professional.

Our international tax firm is highly experienced in dealing with Controlled Foreign Corporations and Subpart F issues. Contact Sherayzen Law Office for professional help with Subpart F tax compliance and tax planning.

IRS Audit and the Constructive Dividends Trap

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Do you own or work for a closely-held corporation? Do you make frequent payments between your small C corporation and your shareholders? Then you should be especially careful about the constructive dividend rules. Under these rules, the IRS can deem certain payments made to or on behalf of its shareholders as dividends, even though they have not been officially declared as dividends. In such cases, both the corporation and the shareholder may face steep additional tax liabilities, as well as significant penalties and interest on the resulting liabilities.

This article will explain the basics of constructive dividends. It is not intended to constitute tax or legal advice.

Corporate taxation can involve many complex tax and legal issues, so it may be advisable to seek an experienced attorney in these matters. Failure to do proper tax planning can result in significant adverse tax consequences. Sherayzen Law Office, Ltd. can assist you in all of your tax and legal needs, and help you avoid making costly mistakes.

Constructive Dividends

In general, a constructive dividend can be any type of economic benefit made to the shareholders by a corporation without an expectation of repayment that represents an undeclared dividend. If the economic benefits were primarily of a personal nature rather than business–related interests to the corporation, they will likely be treated as constructive dividends. Constructive dividends, as with declared dividends, can thus be distributions of cash and/or property as well as other types of payments that provide an economic benefit to the shareholder(s).

Because of the greater potential for self-dealing in closely-held and family-owned small corporations, the IRS is especially vigilant when it comes to possible constructive dividend situations in such entities. Shareholder-owners will often run afoul of tax laws if they attempt to have the corporation make payments for their personal, non-corporate related expenses, of if they try to distribute corporate profits to themselves by having the corporation report illegitimate expenses, rather than by paying a dividend.

Types of Constructive Dividends

There are numerous types of payments or economic benefits to shareholders that can be re-characterized as constructive dividends. If you are a shareholder in a closely-held corporation you should be aware of the possibilities.

One common constructive dividend is unreasonable compensation paid by a corporation to a shareholder-employee. Frequently, members of family-owned corporations will try to shift income by having their corporations pay excessive salaries (compared to the work actually performed) to family members who pay at lower tax rates, thereby reducing corporate net income at the same time. Because of the potential for tax abuse, shareholder-owners of small corporations will need to be able to show that the salaries paid were legitimate. Some factors to consider, among others, will be the nature and complexity of the work performed by the employee, the employee’s qualifications for the job, a comparison of salary paid by the corporation to prevailing salaries for similar jobs, as well as the ratio of dividends paid to salary by the corporation.

Bargain sales or rentals of property by the corporation to its shareholder(s) will also likely be deemed to be constructive dividends, depending upon the circumstances. For example, if a shareholder purchases property at a bargain rate below its true fair market value, a constructive dividend will arise on the amount of difference between what the property was purchased for and its actual value. Thus, if you are making such transactions, you should have a legitimate appraisal of the property and treat the sale at arm’s length in order to decrease the potential for a constructive dividend to be declared.

A constructive dividend can also arise when a corporation makes payments on behalf of its shareholder-employees personal expenses, or if the shareholder-employees use corporate property for personal use. An example of the latter situation may occur when shareholders use a company car or plane for non-corporate reasons without adequate payment to the corporation for personal use.

Constructive dividends may also be deemed by the IRS to be paid when a corporation makes payments to shareholders that are not bona fide loans. The determination of whether a payment was in fact a bona fide loan is a very complex tax issue that involves numerous factors, such as whether interest was actually paid by the shareholder to the corporation, and whether a loan agreement existed.

Proper Tax Planning is Required To Reduce the Probability of Constructive Dividend Classification During IRS Audit

While representing clients in IRS audits, I see that the widespread use of constructive dividends by the IRS. While this is a fairly common audit issue, it is appalling to see that this problem may have been prevented through timely tax planning by the taxpayers or their accountants.

This is why it is important to resolve this issue before the IRS audit begins, even if it means amending already filed tax returns. However, this is a job for an experienced tax attorney; I would strongly advise against doing the tax planning for such complex issues by yourself.

Contact Sherayzen Law Office for Help With Tax Planning

This is why you should contact Sherayzen Law Office before the IRS finds you. Attorney Eugene Sherayzen constantly deals with the IRS, and knows what to look for and where potential problems may arise, and we can use this knowledge to help you.

Termination of a Partnership

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Because partnerships have many different features from corporations, a question is frequently asked concerning partnerships: when do they officially end? While corporations theoretically have an indefinite life and identifying the closure of a corporation may sometimes be regarded as relatively easy, it may not always be as apparent when a partnership has terminated.

This article will explain the basics of partnership termination for U.S. federal tax purposes only (please, consult specific state statutes for relevant partnership termination provisions). Remember that there are numerous exceptions to and modifications of these basic rules on state and federal levels. This article is not intended to constitute tax or legal advice.

Partnerships can involve many complex tax and legal issues, so it may be advisable to seek an experienced attorney in these matters. Failure to do proper tax planning can result in significant adverse tax consequences. Sherayzen Law Office, Ltd. can assist you in all of your partnership tax and legal needs, and help you avoid making costly mistakes.

Termination of a Partnership

There are many ways in which a partnership can be terminated; this article will focus only on several common situations. First, as should be obvious from the definition of a partnership, a partnership will end when it no longer has at least two partners. This may occur, for instance, when one partner purchases the other partner’s complete interest in a two-person partnership, thus creating a new sole proprietorship.

A partnership may also terminate if none of its partners continues to carry on the partnership’s business. This may occur, for example, because of a partnership liquidation.

The third way a partnership may terminate is if there is a sale or exchange of 50% or more of the total partnership capital and profits interest within a twelve-month period. In such a case, the IRS is likely to treat such situation as a formation of a new partnership. It is important to remember that multiple sales of shares of the same partnership interest with percentages less than 50% will not be aggregated. For example, assume that partner A in an equally-owned four person partnership ABCD sells his partnership share to a new partner, who subsequently sells this 25% share again to yet another new partner. In this case, the original ABCD partnership is likely to be treated as still existing (barring any other circumstance that forces the termination of a partnership). In most cases, a partnership will not be terminated simply because of the admittance of a new partner to the partnership.

Furthermore, the death or liquidation of a partner normally is not likely to terminate a partnership where a partner owns a minority partnership interest (unless, for example, it involves a two-person partnership). While the partnership itself may not be terminated, for the deceased or liquidated partner, the partnership tax year will end at that point. The share of partnership profits or loss will be determined as of the date of death or liquidation for that partner, and will be reported for tax purposes in the year the event occurs.

The examples above state the general law and it is highly important to remember that a partnership agreement may modify the application of this law to specific partnership. While, unless the law expressly permits so, a partnership agreement cannot override the law, it may add to it (for example, a death of a partner can be made a termination event in a partnership agreement even if this partner owned a very small percentage of the partnership interest). Therefore, you should always make sure to consult the existing partnership agreements before arriving to a legal conclusion. In such complex situations, it is highly advisable to retain an experienced attorney.

Partnership Mergers

When two partnerships merge, partnership terminations may also arise, depending upon the circumstances. An interesting situation may occur under federal tax law where the IRS may deem the partnership of any partners who have more than a 50% interest in the newly-formed partnership to be continued. For instance, if partnership AB merges with partnership CD, and the partners of CD own more than a 50% interest in the new resulting partnership, partnership ABCD may be treated as a termination of partnership AB, and continuation of partnership CD.

Contact Sherayzen Law Office for Partnership Legal and Tax Help

If you own a partnership interest and would like to receive a legal and tax advice with respect such ownership, contact the experienced tax firm of Sherayzen Law Office.

IRS Audit Reconsideration

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Have your tax returns been subject to an IRS audit? You should be aware that IRS procedures may allow you to contest the findings through IRS Audit Reconsideration, provided that you meet certain requirements. If the amount is significant or you believe that the IRS was erroneous in its determination, you contact Sherayzen Law Office, PLLC.  Our experienced law firm can assist you with your IRS Audit Reconsideration and help you avoid making costly mistakes.

This article will explain the basics of audit reconsideration. It is not intended to constitute tax or legal advice.

IRS Audit Reconsideration: Reasons the IRS May Reconsider an Audit

There are various reasons for which you may request IRS Audit Reconsideration. For example, if you were not able to appear for your audit, or if you moved during the audit and did not receive correspondence from the IRS, the IRS may grant the request. Additionally, if you believe that you have additional important information to substantiate your case that was not available to you during the audit, you may be allowed to have the IRS reconsider the audit. Further, if you disagree with the assessment from the audit, a request may be granted, depending upon the IRS’ discretion. You are well-advised not to make the determination by yourself about whether you have a sufficient reason for IRS Audit Reconsideration; this is a question for an experienced tax attorney.

Process for Requesting IRS Audit Reconsideration

In general, there are several steps you will need to take if you are requesting IRS Audit Reconsideration. If you are planning upon making the claim that you are presenting new evidence that you did not present before at the audit, you usually should first obtain all the necessary documentation that you will need to substantiate your claim and make sure that the evidence supports the correct tax years in question. You will then need to file a letter explaining your request for reconsideration, along with photocopies (originals will not be returned to you) of the evidence supporting your new claim.

The IRS notes that, provided you meet certain requirements, your IRS Audit Reconsideration request may be granted if: “You submit information that we have not considered previously. You filed a return after the IRS completed a return for you. You believe the IRS made a computational or processing error in assessing your tax. The liability is unpaid or credits are denied.” On the other hand, the IRS usually will not accept IRS Audit Reconsideration request if you signed an agreement agreeing to pay your amount of tax liability (such as a Form 906, Closing Agreement; a Compromise agreement; or an agreement on Form 870-AD with IRS Appeals), if the amount of tax you owe is due to the result of final partnership item adjustments under the Tax Equity Fiscal Responsibility Act (TEFRA), or if the United States Tax Court, or another court, has rendered a final determination on your tax liability.

Once the documentation for the IRS Audit Reconsideration is received by the IRS, the IRS may send you a letter requesting follow-up information regarding your request. The IRS may delay collection activity once your initial letter is received; however, collection activity will resume if you fail to respond to request from the IRS for additional information within 30 calendar days, or if the IRS deems your documentation insufficient to support your claim.

Once the IRS has completed its review of your IRS Audit Reconsideration request, you will be notified as to whether your position was accepted or rejected. If you position was accepted, the IRS may either abate your assessed tax, or partially abate the tax, depending upon the circumstances. If your position is rejected, your assessed tax will stand. If you disagree with the results you may either pay the amount (either in full, or by making other payment arrangements), or by seeking certain other remedies. In future articles, we will explain other options you may have at that point.

Contact Sherayzen Law Office for Help With An IRS Audit

If you are currently being audited or the IRS already rendered its decision and you are looking for a way to challenge it, contact Sherayzen Law Office for professional legal help. Our experienced legal team will thoroughly analyze your case, determine the available options, implement the chosen course of action (including preparation of any tax forms) and rigorously defend your interests during IRS negotiations.