The Shifting Landscape of the OVDP Opt-Out

Since the IRS announced the 2009 Offshore Voluntary Disclosure Program (OVDP) over five years ago, our firm has been assisting taxpayers submit accurate and complete disclosures in accordance with the program guidelines and procedures. The evolution of the OVDP through the 2011 and 2012 programs has brought a longer look-back period, steeper penalties, and more insight into IRS positions and procedures at different points in the program.

In the beginning, with the 2009 program, the idea of “opting-out” of the OVDP Civil Penalty Structure to request a waiver or reduction of civil penalties that may otherwise apply was a scary and intimidating prospect. Faced with the list of potential penalties including the failure to file, failure to pay, civil fraud, accuracy-related, and the various failure to file foreign information reporting forms penalties, some taxpayers gladly handed over their payments for 20% of the highest aggregate value of unreported foreign accounts and washed their hands of the whole affair. However, a few brave souls, many of them our clients, decided to fight back.

With a strong conviction that the 20% civil penalty proposed under the 2009 OVDP was simply too high in certain situations, we worked with some of our clients to politely decline to pay the proposed OVDP penalty and request that a warning letter, with zero penalties, or a reduced penalty be considered for our clients’ failure to file the FBAR or other foreign information reporting forms. To our pleasant surprise, the IRS was receptive to the conversation. Though some of our clients were in fact subject to an examination of several years’ returns as well as a telephone interview and a few more months of waiting, for the most part, the IRS was flexible, open-minded, and the process was relatively taxpayer friendly. All of the clients that we opted-out of the 2009 OVDP received a penalty less than what would have been assessed under the OVDP and the majority of them received warning letters with no penalties. There were no big surprises and it was not particularly arduous.

As the 2011 and 2012 OVDP packages that we submitted for our clients have been reaching the opt-out decision point over the past year or so, we have used our experience with opting-out of the 2009 OVDP to advise our clients on the risks, benefits, and what to expect should they decide to opt-out. Ultimately, our results have been the same. All of the clients that we’ve opted-out of the 2011 and 2012 OVDP received a penalty less than what would have been assessed under the OVDP and the majority of them have received warning letters with no penalties. However, over the past two months, much to our dismay, we have observed a more adversarial and often overly-aggressive approach being taken by several opt-out Revenue Agents.

Below is a list of some of the more aggressive adjustments Revenue Agents have proposed (but not yet assessed) in some of our opt-out cases:

• Zero basis (resulting in taxable income at the full sales price) for a foreign stock that was sold during the years at issue, but purchased in the 1990s, because purchase information was not available.
•  The civil fraud penalty (75% of the tax due), citing the failure to report the foreign account as one of the badges of fraud.
• willful FBAR penalty recommendation for a taxpayer who reported income from one foreign account but not another.

Furthermore, Revenue Agents have been particularly detail-oriented and demanding with regards to substantiation for expenses reported on Schedules C and E, basis reported on Schedule D, and any other information not reported directly to the IRS by a third-party.

Finally, and perhaps the most troublesome, is that we have noticed that a number of Revenue Agents are more actively conducting interviews of the CPAs who prepared the returns as originally filed. Though this is always a possibility, especially when a “reliance on a tax professional” defense is taken, we have only recently been made aware that the IRS is actively contacting tax preparers and CPAs to request statements from them signed under penalties of perjury. This is particularly troublesome because the CPA or tax preparer has an obvious conflict-of-interest from the outset. If they say they knew about a foreign account and failed to advise their client about the FBAR filing requirements, their professional reputation is at stake. However, if they say they knew nothing about foreign accounts in a statement contrary to their client’s, they put their client relationship, and therefore their business, at risk. The truth of the matter in most situations is that the tax preparer or CPA did not know to ask about foreign accounts and the taxpayer did not know they needed to tell their tax preparer or CPA about foreign accounts, so, though neither has acted willfully, there are some grey areas regarding who should have known better.

As more and more taxpayers opt-out of the OVDP, it is important to keep track of IRS procedural developments, coordinated issues, and precedential rulings as they are established. The Taxpayer Advocate’s 2012 Annual Report to Congress stated, with regard to educating taxpayers about FBAR compliance, “As the IRS receives an increasing amount of information from foreign financial institutions that will enable it to identify more FBAR noncompliance, however, it may need to devote more enforcement resources to address this noncompliance; expand its outreach and self-correction options for benign actors; or ignore the noncompliance altogether. The IRS should promote voluntary compliance by reducing compliance burdens and expanding its targeted outreach and self-correction options for benign actors.” Most recently, it seems as though the IRS has been reacting to the Senate’s admonishment of their efforts in offshore account enforcement rather than listening to the Taxpayer Advocate’s advice.

If you have a previously undisclosed offshore account and would like to discuss your compliance options, including OVDP and opt-out, contact an experienced offshore account compliance attorney as soon as possible for a consultation regarding the best available strategy for you in this complex and rapidly evolving area.