Streamlined Foreign Offshore Procedures – Non-residency Requirement

This blog post will focus on the non-residency requirement for purposes of the SFOP. U.S. citizens and green card holders meet the non-residency requirement if—in at least one year during the three-year period that tax returns must be submitted under the streamlined procedure—they meet two tests. In at least one year, the taxpayer must have both (A) had a non-U.S. “abode” and (B) have been physically outside the United States for at least 330 full days. This latter requirement means that to qualify for the SFOP, for at least one year in the Streamlined period, taxpayers did not spend more than a maximum of 35 days (36 days in a leap year) in the United States.  If married taxpayers want to file joint tax returns, both spouses must meet this non-residency requirement.
The SFOP non-residency requirement takes its genesis from the “foreign earned income exclusion” rules contained in Internal Revenue Code Section 911.  Prior to the issuance by the IRS on October 8 2014 of FAQ’s regarding the “Streamlined Foreign Offshore Procedures”  and FAQs for its counterpart, the “Streamlined Domestic Offshore Procedures” the question was raised whether a taxpayer who could not qualify for the SFOP 35-day rule could use instead the alternative test contained in Section 911(d)(1)(A) for U.S. individuals who are “bona fide residents” (BFR) of a foreign country or who are otherwise residents of certain countries with whom the U.S. has an income tax treaty in effect. Generally, under the BFR test, the foreign earned income exclusion of Section 911 is permitted if the taxpayer was a “bona fide foreign resident” of the foreign country for at least one entire taxable year.
 The Married Couple and Kids’ Summer Vacation
The IRS FAQ’s now make clear that one cannot use the BFR test in order to qualify for the SFOP.  This will impact many expatriate taxpayers who are, for all intents and purposes living abroad, but who may spend lengthy summer vacations in the United States once children are off from school. Sometimes both spouses will spend a good part of the summer in the U.S. If so, they may lose eligibility for the SFOP.  Even if only one spouse spends the summer months in the U.S., the opportunity to file joint returns and qualify for SFOP will also be destroyed.


In such a case, assuming each spouse had a filing duty, but had not filed tax returns each spouse would have to file using the status “Married Filing Separately.”  The “non-resident” spouse could participate in SFOP and file a delinquent return.  And the “resident” spouse?  Well, he or she cannot participate in SFOP at all due to the non-residency requirement. And, to add insult to injury, that spouse could also not participate in SDOP since delinquent tax returns are not permitted in the domestic procedure!
If amended tax returns (as opposed to delinquent returns) were required of the spouses, it would not be possible to change the filing status from “Married Filing Jointly” to “Married Filing Separately” with each filing separate tax returns and entering the SDOP or SFOP, as appropriate for the particular spouse. Please see IRS publication 17 (p. 22) “Once you file a joint return, you cannot choose to file separate returns for that year after the due date of the return”.    Sadly, a couple in this situation would have to resort to a far less certain means of coming into tax compliance (such as using a “quiet disclosure”, perhaps with a letter accompanying the amended returns trying to establish “reasonable cause”) or join the toxic OVDP  process.
The purpose underlying the IRS’s strict view of the non-residency requirement is presumably that individuals who spend more than 35 days in the U.S. for the three-year period under Streamlined Procedures have better access to U.S. tax advice and should have a better understanding of their U.S. tax obligations.  Common sense tells us, however, that it doesn’t make much sense to disqualify taxpayers from SFOP in the type of situation described above. The problem posed here once again demonstrates that the IRS “one-size-fits-all” approach simply does not work in the overseas setting. Hopefully IRS will go back and re-think the rules but I doubt it after already 3 overhauls !
http://blogs.angloinfo.com/us-tax/2014/10/27/2674/