In a unique tax practice, the U.S. taxes the income of its citizens worldwide, regardless of whether that income was generated within the U.S. In today's global economy, this presents a big challenge to the IRS: in 2003 alone, over 4 million U.S. citizens had foreign-sourced income on which they paid foreign tax.

"It's growing all the time," said Marty Sartipi, international policy program manager, Small Business and Self-Employed Division, IRS. "With the ease of cross-border transactions with the Internet, with travel, it's not at all uncommon for people to do business outside the U.S."

According to the IRS, there are three common compliance issues when it comes to international income:

1. When individuals go overseas, they stop filing U.S. tax returns. Taxpayers need to understand that every dollar they make overseas has to be reported on a U.S. return.

2. Taxpayers entitled to the Section 911 exclusion often fail to file a return and make the election. The foreign earned income exclusion is not automatic. IRS Form 2555 must be filed in order to claim that exclusion.

3. Foreign tax credits are complicated and taxpayers often have a difficult time correctly claiming credit for foreign taxes on their U.S. tax returns.

With the various foreign exclusions and tax credits, plus international tax treaties intended to avoid double taxation, the big tax issue for foreign income may not be the taxes owed but the reporting required. The IRS requires that taxpayers self-report on many international transactions, even if tax is not due. Examples include Form 5471 for individuals owning a substantial interest in a foreign corporation and Form 5472 for a foreign corporation with a U.S. owner. And some penalties for noncompliance can be steep: maximum fines for non-willful failure to report a foreign bank account, for example, can reach $10,000 per report, while penalties for willful failure to report a foreign bank account can be as high as $100,000 per report.

In a move to tighten up enforcement of taxable international income, the IRS is currently hiring more personnel to work in the area of international compliance. The IRS is also working to identify and contact non-filers who are overseas. As a result, tax practitioners should expect to see a direct impact in terms of client audits.

"From the compliance point of view, I think they'll be hearing more from taxpayers who are being audited," predicted Richard A. Ward, planning and special programs territory manager, International Programs, Small Business Self-Employed Operating Division, IRS. "We expect to have upwards of 10,000 audits completed this year."

For those tax practitioners approached by a client who has not been filing as required for international income, tax professionals on the Tax Talk Today panel recommended three key steps:

1. Thoroughly debrief the client in a privileged environment;

2. Determine compliance and disclosure requirements (see IR 2002-135 for guidance); and

3. Complete a voluntary disclosure, which may be possible as long as the client has not already received a letter from the IRS' examination division. In addition, tax pros should keep in mind that deadlines vary for many filing and reporting requirements.

"Some of the other forms aren't due with the returns," said Robert E. Panoff, Esquire, P.A. "So there's a trap for the unwary that each practitioner should make a tickling system for."

One international income issue that U.S. tax practitioners may need to review carefully with their clients is the Passive Foreign Investment Corporation (PFIC). A client living abroad may be under the impression that a PFIC provides an investment haven similar to an IRA, but that is not the case; when selling a PFIC, tax rates can reach 35 percent, plus surcharges.

"After 20 years, it's possible that you end up with nothing after the tax and the interest surcharge," said Geoffrey DeHaven, CFP, EA, cross border tax advisor, USTaxAbroad. "It can be really devastating."

Above all, tax practitioners need to stay abreast of the issues impacting clients with international income. The IRS Web site and nationwide tax forums provide opportunities for tax professionals to learn about the filing requirements unique to international income, and to find out about new regulations as they develop.

"There's not very much training that's available out there, so when you do find it -- even though it's expensive at times -- you have to make an effort to attend," advised DeHaven.