Stunned - full double taxation, taxes on relocation??

Greetings! I hope some of you can give me feedback on the following situation:

My US employer relocated me to the UK in 2007. Means, I worked 10 months in the US and 2 months in the UK. Now I find out that:

Over 8,000 USD relocation were added to my W2 as taxable income. There was never money paid out to me. The relocation company was paid directly through my employer. So why am I supposed to pay tax on something that benefits my employer??

The 2 months UK salary were paid through UK payroll and therefore taxed accordingly in the UK. Now H&R Block is telling me that I owe US federal and state tax for these two months. The owed taxes come to over 30% of the salary earned in these two months. I'm in shock!

Now I owe over 7K in US taxes which is very, very painful. At no point in the relocation process did my employer inform me of these implications. After all - they wanted me out here!

I do not want to submit the US tax return until I sort this out. How can I file for an extention and is there a penalty associated with it?

My apologies if I sound like PollyAnna here. All this is very new to me and tremendously frustrating.

Thank you in advance for your replies.

Can't help about the relocation money being taxed but if you paid tax on your earnings for the two months already to the UK you shouldn't have to pay US taxes on that (unless you earn MEGA bucks, the limit is something like $82K earned in the Uk).

The relocation money was money that you would've spent if the company hadn't covered it, so yes, that's considered part of your income by the IRS.  Nothing you can really do about that.

As for the dual taxation, you're allowed to exclude up to $82k of foreign income each year (and you may be able to either deduct or claim a tax credit on the UK income tax paid) on your federal return.  Depending on your state, you may be able to do something similar (because the exclusion is done while computing Adjusted Gross Income, if your state's income tax form starts off with "Adjusted Gross Income from Form 1040", you're golden).

That said, the only issue that could have been avoided before you flew over is the state taxes: it's a good idea to establish residency in a state without an income tax (New Hampshire, Florida, Texas, Tennessee, South Dakota, Wyoming, Nevada, Washington, and Alaska) before coming over, though in your situation that may not have been possible.  It's very difficult to establish residency in such a state now that you're in the UK (and doing so may mean having to go through the immigration/work permit process all over again...).  The core issue is that while the federal gov't will eventually consider you a non-resident of the USA (though that doesn't get around the fact that income from anywhere in the world earned by US citizens is taxable by the USA... if you're thinking that renouncing your US citizenship is a viable option, note that if you're deemed to be renouncing for tax reasons, the USA will continue to collect taxes from you for 10 years afterwards with the penalty for nonpayment being permanent loss of your right to enter the USA for any reason), states uniformly will consider you to always be a resident of that state unless you establish residency in another state (but not another country!).

The OP needs to have lived in the UK for 330 days in a 12 month period to pass the physical presence test to to get the earned income exclusion.

There might be a way to get around this by filing for an extension.

Relax!

H & R Block are never going to have the experience to handle the combined US/UK tax issues.

You say you spent 10 months in the US and 2 in the UK.  If my maths is right you moved to the UK around the end of October 2007.

This means that when we get to October 2008 you'll have spent 330 days outside of the UK so qualify to exclude round $85,000 (pro-rata) plus the costs of foreign housing from US tax (you can't claim the foreign earned income exclusion before then because you won't qualify).

In the meantime you should file a 2350 extension form plus a separate extension for California.
 
Some of the moving expenses may qualify as foreign housing costs so could be excluded.

Other moving costs are only normally reportable in your W-2 only if they were not paid through an accountable plan but would typically be deductible (you can't double dip though & claim the moving expense deduction and foreign earned income exclusion on the same income).

You may also want to be thinking about claiming foreign tax credits.

From a UK perspective moving costs over £8,000 ignoring airfares are taxable, so you should check your contract of employment to see if your employer will gross these up for tax.

In addition you'll want to check that you are getting the best UK tax answer as well.

I typically recommend a dual qualified US/UK adviser as against a domestic US adviser who won't understand the UK tax year or how best to deduct council tax.

Again your employer might pay the costs especially in a transfer year.

In summary you can't file by April 15th but are as likely to get refunds as owe money - so spending £1,000 or £2,000 on a good dual qualified adviser may save you both $7,000 and a lot of worry.  Take time to speak to 2 or 3 well established firms over here and decide who you get on with best.

Guya 100% right. 

As a further note, as your company relocated you and did not sort this out prior to moving you, nor did they pay for an expert (H&R Block are NOT experts) to help you through this maze, you may be able to get a "tax loan" from them. A tax loan is a short-term loan to cover the difference between any additional tax you might owe in the UK against your future US refund.  You then pay them back when you get your refund. 

To get the tax loan from your employer, you'll need to compute your US and UK tax ASAP so you know how much you owe to one and are getting back from the other.  But as Guya sez, you can't file the US until you've been physically in the UK for 330 days or one full calendar year (if you returned >35 days since the date you arrived).