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To File or Not To File

The other day Erin Wilson telephoned me.  She had received a Form 1099 from the Internal Revenue Service (IRS) stating that she had received dividend income.  Somewhat alarmed, Erin (not her real name) pressed me as to whether she should file a tax return.  Married and living in Portugal for many years, she had never filed.  Now she was certain that the IRS had finally caught up with her. 

Form 1099 comes in a variety of guises, sometimes apparent; but not always.  A U.S. payer is obliged by the law to prepare a Form 1099 which must include his or her or its name (personal or business), address, and tax number; payee’s name, address and tax number, and of course the amount paid.  And while IRS would have the public believe that tax filing is voluntary compliance, the Service as well as the payee and payer receive copies of this reporting document.  Fail to report the income on your tax return is to invite audit.  For this reason you might be inclined to disagree with IRS by labeling such reporting involuntary compliance.

‘Don’t they receive a copy of this document?’ Erin queried me.  ‘Yes, they do,’ I answered.  ‘Then I have to file a tax return,’ she replied.  I could almost hear her heart pounding.  ‘They will come after me now!’ Her unasked question concerned all those other years during which she had comfortably remained hidden from the prying eyes of the taxman as a non-filer.

While IRS is in hot pursuit of non-filers, they tend to oblige them to only file their last three years of tax returns.  In the event taxes are owed, the Service may then require additional back years.  And as anyone knows who keeps records, time tends to obliterate documents. And memory.  Ask anyone under audit of his tax return from three or more years back if Alzheimer’s is only an old-timers disease.

But is Erin obliged to file?  On the surface it would appear so. There are two broad categories for filing a tax return:  U.S. citizens and residents must report world-wide income and non-resident aliens U.S. source income.  But there is a filing threshold that addresses this question.

As a U.S. citizen married to a non-resident alien with no U.S. source income, Erin must first consider her income from all sources.  Once tallied, she must then consider her filing status (which varies according to relationship, age and year) and consequent reductions to income.  As her status would be married filing separate, her threshold is the combination of her Standard Deduction, $5,150, and Exemption, $3,300.  When she realized that her dividend and other income flows fell below this $8,450 ($5,150 + $3,300) threshold, she gleefully concluded the obvious:  no filing requirement.  Still IRS could ask her for a tax return based on having received a copy of the Form 1099 reporting Erin’s dividend income.  In the event, she can simply respond that she is below the filing requirement.

I asked Erin whether she had any foreign earned income.  Even though Form 2555 excludes up to $82,400 of such income, Erin would be required to file a tax return if the total of her excluded foreign earned income and dividends exceed $8,450.  Failure to report her foreign wages can result in IRS denying her the exclusion and taxing her on the income.  Erin replied that she had no foreign earned income.  ‘My husband supports us!’ she declared.