Opting-Out of the OVDP Civil Penalty Structure

Once a taxpayer has submitted all of the required disclosure materials and the IRS has issued a Form 906, Closing Agreement, the taxpayer is faced with an important decision: sign the agreement and pay the 27.5% or 50% miscellaneous OVDP penalty, or opt-out of the civil penalty structure of the program and request a reduced penalty or a waiver of all penalties, based on the particular facts and circumstances of your case. Taxpayers whose OVDP submissions are currently pending who have not yet been issued a Form 906 may be eligible for Transitional Treatment under the New Streamlined Offshore Programs.

The IRS Revenue Agents who process the OVDP submission do not have any discretion or authority to settle OVDP cases for less than the miscellaneous offshore penalty offered under the program terms. However, taxpayers can withdraw from the OVDP, opt-out of the civil penalty structure offered under the program, and request a reduced penalty or even a waiver of any penalties that may apply.

Under the Internal Revenue Code, the penalty for failure to file an information return such as Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts, Form 5471, Information Return of U.S. Persons With Respect to Certain Foreign Corporations, and Form 8938, Statement of Specified Foreign Financial Assets, can be waived if the failure to file was due to reasonable cause.

Some factors to consider in determining whether your case might meet the reasonable cause standard under the Internal Revenue Code include:

  1. Your risk tolerance and ability to be patient. The opt-out process takes at least another six months after the closing agreement has been issued. In some of the opt-out cases we've handled at Brown, PC, the opt-out process has taken an additional twelve months, making the time from the pre-clearance submission to resolution over two years.
  2. Your OVDP penalty. If it's already less than $10,000, we almost never recommend an opt-out, because the time, risks and costs associated with an OVDP opt-out case often exceed any potential benefit from opting-out.
  3. The specific facts and circumstances of your case. For example, a taxpayer who purposefully put money in an offshore account to avoid reporting the related income to the IRS would not be a good candidate for opt-out. However, a taxpayer who has accounts in a foreign country because they once lived there or they have family there to support, who simply did not know about the related reporting requirements, might be a good candidate for opt-out.
  4. The complexity of your tax returns and the status of your records. Opting-out of the OVDP civil penalty structure opens you up to a full-blown examination, and in cases which the tax returns a Schedule E with Rental Income and Expenses, a Schedule C with Business Income and Expenses, or a complex Schedule D with multiple transactions, the IRS has been requesting copies of support documents including bank statements, repair receipts, lease agreements, detailed brokerage statements and the supporting spreadsheets, and mileage logs.
  5. Your compliance history before and after entering the OVDP. Even if your tax returns did not properly report foreign income before you entered into the OVDP, whether those returns were timely and accurately filed and fully paid is a factor often taken into consideration. An audit history that reveals a history of inaccurate reporting or exaggerated refunds would weigh heavily against you. Additionally, it is important to ensure that returns and forms filed after you entered into the OVDP include all foreign income and the forms and schedules required to be filed in relation to your foreign assets. Since one of focused goals of the OVDP is future taxpayer compliance, failure to file the required forms after you have clear knowledge of the requirements through your participation in the OVDP could be considered a willful attempt to avoid reporting requirements.

Offshore Penalties - Should You Opt Out of IRS Amnesty?

No matter what the facts of your situation are, whether or not reasonable cause may apply in your case is a question of law that requires analysis by an experienced attorney. At Brown, PC, we have successfully opted a number of clients out of the OVDP civil penalty structure, resulting in a warning letter with no penalties or a penalty significantly lower than the OVDP penalty would have been. However, not all cases are right for opt-out, and the wrong step at this crucial decision making point could result in crippling penalties and possible criminal investigation.

At Brown, PC, our knowledgeable team of tax professionals can help you figure out how to best minimize your risk. If you have unreported foreign income and have not yet entered the OVDP, or if you have already entered the OVDP and want to know whether you might be a good opt-out candidate, contact us at 817-870-0025 or toll free at 888-870-0025 to schedule a consultation.

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