In response to the high number of participants in the 2009 and 2011 Offshore Voluntary Disclosure Programs, the IRS created a third program, which opened up for submissions on January 9, 2012. However, with pending changes resulting from Foreign Account Tax Compliance Act (FATCA) agreements signed by various foreign governments this year, the U.S. government’s treatment of non-compliant taxpayers is changing considerably.
New guidance was issued by the IRS on June 18, 2014 outlining new procedures that will become effective on July 1, 2014 and a new penalty structure for taxpayers with accounts at certain banks or with certain promoters that will become effective on August 4, 2014. These revised procedures are much more onerous than those of the 2009, 2011, and 2012 programs. However, there also new programs that provide some relief for taxpayers who are willing to certify that their actions were non-willful.
Do You Have a Foreign Bank Account?
The objective of the 2014 program remains the same as the previous programs: to bring U.S. taxpayers with undisclosed foreign income and assets into compliance with the applicable banking and tax laws. Like the 2012 program, taxpayers who wish to participate in the 2014 Offshore Voluntary Disclosure Program must submit eight years of amended income tax returns and delinquent information reporting forms. However, under the 2014 program, there are two different miscellaneous offshore penalty structures that may apply. Though most taxpayers will still be subject to the 27.5 % miscellaneous civil penalty on the highest aggregate balance of foreign accounts and the highest asset value (for income-producing foreign assets) during the eight year period, taxpayers with accounts at certain banks or with certain promoters will be subject to a 50% penalty. A current list of the banks and promoters for which the increased 50% penalty would apply can be found here. The increased 50% penalty will apply to all undisclosed foreign assets owned by the taxpayer, not just those held at the institutions on the list.
The logic behind the increases in the penalty percentages from the 2009 program through the 2014 program is two-fold. First of all, higher penalties apply because, presumably, non-compliant taxpayers had the opportunity to come forward sooner, but chose not to. Second, the IRS hopes that the threat of an ever-increasing penalty structure will encourage non-compliant taxpayers to come forward sooner rather than later. The IRS has reserved the right to change the terms of the program at any time by creating stricter eligibility requirements or increasing the miscellaneous penalty, among other things.
Tax Help for IRS Offshore Account Settlements
At Brown, PC, we have a comprehensive understanding of the rapidly changing laws and policies that affect people with substantial assets in the United States and overseas. With offices in Dallas and Fort Worth, our nationwide practice is dedicated to protecting the rights of these individuals. We are focused on bringing clients’ offshore bank accounts into compliance with government regulations while minimizing the potential consequences and penalties.
Eligibility Requirements
Taxpayers with undisclosed foreign assets or accounts that are not already under criminal investigation or civil audit by the IRS are eligible for participation in the 2014 Offshore Voluntary Disclosure Program. This includes entities that may have foreign asset holdings such as corporations, partnerships, and trusts. A specific, detailed list of the eligibility requirements can be found in Section 9.5.11.9 of the Internal Revenue Manual. A complete and accepted disclosure package, along with payment of all applicable tax, interest, and penalties guarantees that the disclosing taxpayer will not be criminally prosecuted for the failure to report the income from and the existence of the foreign assets disclosed.
So far, the IRS has denied very few taxpayers the opportunity to disclose their foreign accounts in its various Offshore Voluntary Disclosure programs. However, through FATCA and the cooperation of various foreign financial institutions, the U.S. government is obtaining information about an increasing number of non-compliant U.S. taxpayers. The IRS Offshore Voluntary Disclosure Frequently Asked Questions state that if the IRS has already obtained a specific taxpayer’s information from a cooperating foreign financial institution, that taxpayer will not be eligible for participation in the program and may be subject to criminal investigation and prosecution. As the number of cooperating foreign financial institutions increases, the window for participating in the various disclosure programs offered by the IRS decreases significantly for many U.S. taxpayers.
Additionally, U.S. taxpayers will be ineligible to participate in the 2014 Offshore Voluntary Disclosure Program if they actively appealed a foreign tax administrator’s decision authorizing the providing of account information to the IRS and failed to serve the notice as required under existing law on the Attorney General of the United States when the notice of appeal was submitted.
Participation Requirements
To participate in the 2014 Offshore Voluntary Disclosure Program, all taxpayers must accurately complete and submit:
- Copies of previously filed original (and amended if applicable) federal income tax returns for the years covered by the voluntary disclosure. We may be able to help you obtain transcripts of previously filed returns if copies of the originally filed returns are not available.
- Complete and amended tax returns with Form 1040X and all other applicable schedules and forms or original compliant returns. This includes 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, for tax years 2011 and forward. To ensure that foreign income is properly reported along with any applicable foreign tax credits, we recommend that you hire a CPA or other tax professional to assist with the preparation of the amended returns.
- A completed and signed copy of the Offshore Voluntary Disclosure Letter and Attachment. Templates for the letter and attachment can be found on www.irs.gov. It is imperative that the letter and attachment are completed truthfully and precisely, as this will help the IRS to better understand your case.
- A check payable to the U.S. Treasury for any additional tax, interest, failure-to- pay, and failure-to-file penalties as reported on the amended returns. Additionally, the 2014 program, unlike its predecessors, requires that the miscellaneous civil penalty related to the aggregate high value of assets be paid in full at the time of submission. If you are unable to pay the resulting amount in full with your amended returns, payment arrangements can be made with the IRS.
- A complete and accurate Foreign Account and Asset Statement, Form 14452, for each undisclosed foreign account or asset during the disclosure period. A template for this form can be found on www.irs.gov.
- A completed penalty worksheet demonstrating the highest account balance and/or asset value (for income-producing foreign assets) and the taxpayer’s determination of the applicable penalty. The account balances must be converted to and reported in US Dollars. Currency conversion dates often impact the high balance amount significantly. The IRS often asks to view the relevant account statements to confirm reported balances.
- Signed agreements to extend the period of time to assess taxes and FBAR penalties. Generally, the IRS has three years from the date you file a return to audit or assess additional taxes. In certain cases, that period is extended to six years. To participate in the 2012 Offshore Voluntary Disclosure Program, the IRS requires that taxpayers extend statutes for the most recent eight years until December 31st, two years after the year of submission. For example, a disclosure package submitted in January 2014 would require a taxpayer to extend statutes for tax years 2005-2012 until December 31, 2016.
- Copies of electronically filed FinCEN FORM 114, Report of Foreign Bank and Financial Accounts (FBAR), disclosing all foreign accounts maintained during the disclosure period.
- Account statements, computational workpapers, and asset value statements corresponding with the disclosure documents must be submitted regardless of the value of the asset or balance in the accounts. This is a change from the 2012 program.
- A statement identifying and explaining the ownership structure of all foreign entities. This is also an additional requirement with the 2014 program.
- If foreign entities were used to disguise asset ownership and the taxpayer would like those entities to be disregarded for filing purposes, a Statement On Abandoned Entities is required. This is a new requirement for the 2014 program. The statement is available on the IRS website.
- One final change that was implemented with the 2014 program is that disclosure documents not requiring original signature may be submitted electronically on a CD or flash drive. Documents may only be submitted electronically by professional firms with established record retention policies, and representatives must submit an executed Agreement for Digital Submission of OVDP Documentation along with the CD or flash drive. This agreement is available on the IRS website.
What to Expect
Typically, an Offshore Voluntary Disclosure submission takes at least one year to process. In most cases, it takes closer to eighteen months. The timeline can be managed to a certain degree depending on your disclosure strategy, by minimizing the time it takes to prepare and submit all of the requested documents. Ultimately, however, waiting on the IRS response is what takes up the majority of that 12-18 months. Additionally, there are some situations in which waiting until the end of the response period to submit documents may work to a taxpayer’s advantage. At Brown PC, we will help you determine the best disclosure strategy based on the facts of your case.
The first step in the process requires that the taxpayer submit a pre-clearance request to the IRS Criminal Investigation Division via fax. The request must include the taxpayer’s full name, address, social security number, telephone number, and birthdate, as well as identifying and contact information for the financial institutions at which undisclosed assets or accounts were held, and identifying information for any entities related to the taxpayer’s disclosure submission. At this stage, the IRS looks to see whether the requesting taxpayer is already under criminal investigation or civil audit. If not, the IRS will generally reply with a pre-clearance confirmation within thirty days. Notably, the IRS increased this response time from ten days to thirty days in December 2013. This is likely an indication of the increased number of disclosures they are receiving; however, it could also mean that the IRS is taking more time to compare requesting taxpayers’ information with the stream of information they are gathering from foreign financial institutions.
After receiving pre-clearance confirmation from the IRS, the taxpayer has 45 days to complete the second step in the process. The second step in the process requires that the taxpayer submit a voluntary disclosure letter, along with an attachment for each previously undisclosed foreign account. The letter discloses some background information on the disclosing taxpayer, the source of the funds within the accounts being disclosed, and a basic summary of the financial information that will be disclosed in more detail on the amended returns. The attachments are more detailed and require that the taxpayer reveal specific information about each account being disclosed, including when the account was opened and whether it is still open, whether any professionals advised or assisted the taxpayer with the opening of the account, whether any entities are associated with the account, and details regarding the taxpayer’s transactions with the foreign financial institution. It is imperative that the OVDP letter and attachments be as complete and truthful as possible, as the IRS has the option to reject taxpayers from the program if they believe that the taxpayer is not being cooperative or completely honest.
The IRS has stated that, after the OVDP letter and attachments are submitted, the agency will try to reply to the taxpayer with a pre-acceptance letter within 45 days. After the taxpayer receives the pre-acceptance letter, they have 90 days to complete their OVDP submission. If the taxpayer is unable to complete their submission within that 90 day timeframe, an extension of time can be requested, and is usually granted, as long as the taxpayer can demonstrate that reasonable efforts are being made to comply.
After all of the required documents have been submitted, the waiting game begins. The IRS response time has ranged anywhere from 8 months to 14 months, with no apparent rhyme or reason. However, when they do respond, you can some questions verifying the information submitted on the disclosure documents. The IRS can then issue Form 906, a closing agreement that states the terms of resolution.
It is important to know that the Revenue Agents who issue these closing agreements and process the OVDP submission documents have absolutely no discretion to negotiate the 27.5% or 50% penalty based on a taxpayer’s particular facts and circumstances. The reduced penalty exceptions under the 2012 program for taxpayers with small account balances, some foreign residents, and others with very specific circumstances are no longer available. Taxpayers who believe they may have qualified for reduced penalties under those terms should consider submission under the New Streamlined Offshore Programs. Under the 2014 OVDP, the 27.5% or 50% penalty must be paid for the disclosure to be completed and amnesty granted.
Taxpayers who do not agree with the penalty amount and believe that their particular circumstances warrant a reduced penalty should consider whether opting-out of the OVDP Civil Penalty Structure might be the right decision for them.
Reduced Penalty Exceptions
Though IRS Revenue Agents who are processing taxpayers’ OVDP submissions do not have any discretion to negotiate the 27.5% miscellaneous penalty under the 2012 Offshore Voluntary Disclosure Program, there are some circumstances in which the IRS does allow a reduced 5% or 12.5% penalty to apply under the program. Notably, these decreased penalty exceptions are no longer available for submissions after July 1, 2014. Taxpayers who believe they may have qualified for reduced penalties under those terms should consider submission under the New Streamlined Offshore Programs.
Qualifying for the reduced penalty structure under the 2012 program, however, has proven to be relatively difficult in many cases, as the IRS has been very exacting in determining whether a taxpayers’ fact and circumstances meet the terms of the reduced penalty structure. Again, the IRS Revenue Agents do not have any discretion to consider whether a taxpayer almost meets qualifying factor or not – either the qualification is met or it is not, and if it is not, a reduced penalty is not available.
Reduced 5% Penalty
There are three circumstances under which a reduced 5% miscellaneous Offshore Voluntary Disclosure Program penalty may apply:
- Taxpayers who (a) did not open or cause the account to be opened (unless the bank required that a new account be opened, rather than allowing a change in ownership of an existing account, upon the death of the owner of the account); (b) have exercised minimal, infrequent contact with the account, for example, to request the account balance, or update accountholder information such as a change in address, contact person, or email address; (c) have, except for a withdrawal closing the account and transferring the funds to an account in the United States, not withdrawn more than $1,000 from the account in any year for which the taxpayer was non-compliant; and (d) can establish that all applicable U.S. taxes have been paid on funds deposited to the account (only account earnings have escaped U.S. taxation). For funds deposited before January 1, 1991, if no information is available to establish whether such funds were appropriately taxed, it will be presumed that they were. All four of the above conditions must be met in order for the 5% penalty to apply. The IRS Revenue Agent processing the OVDP submission has no discretion or authority to consider any other factors.
- Taxpayers who are foreign residents and who were unaware they were U.S. citizens. Non-resident taxpayers should also review the Streamlined OVDP qualifications and procedures.
- Taxpayers who are foreign residents and who: (a) reside in a foreign country; (b) have made a good faith showing that they have timely complied with all tax reporting and payment requirements in the country of residency; and (c) have $10,000 or less of U.S. source income each year. For these taxpayers only, the offshore penalty will not apply to non-financial assets, such as real property, business interests, or artworks, purchased with funds for which the taxpayer can establish that all applicable taxes have been paid, either in the U.S. or in the country of residence. This exception only applies if the income tax returns filed with the foreign tax authority included the offshore-related taxable income that was not reported on the U.S. tax return. All three conditions must be met for all years of the taxpayer’s disclosure. The IRS Revenue Agent processing the OVDP submission has no discretion or authority to consider any other factors. Non-resident taxpayers should also review the Streamlined OVDP qualifications and procedures.
Reduced 12.5% Penalty
Taxpayers whose highest aggregate account balance, including the fair market value of assets in undisclosed offshore entities and the fair market value of any foreign assets that were either acquired with improperly untaxed funds or produced improperly untaxed income, in each of the years covered by the OVDP is less than $75,000 will qualify for a 12.5% penalty. Again, the IRS Revenue Agent processing the OVDP submission has no discretion or authority to consider any other factors. If any of the above qualifications are not specifically met, the taxpayer will not qualify for a reduced penalty.
Foreign Account Compliance Attorneys
At Brown, PC, our experienced team of tax attorneys, former IRS agents and CPAs can assist you with strategies to best minimize your risk. If you have non-compliant offshore accounts, or if you have already entered the OVDP and want to know whether opting-out is an option, please contact Brown, PC at 817-870-0025 or toll free at 888-870-0025 to discuss your case or schedule a consultation.