TAXLITIGATOR – Tax Controversy (Civil & Criminal) Report

Taxpayers participating in the IRS Offshore Voluntary Disclosure Program (OVDP – see www.irs.gov for OVPD information and guidance) generally agree to  an “FBAR-related” penalty (in lieu of all other potentially applicable penalties associated with a foreign financial account or entity) of 27.5% of the highest account value that existed at any time during the prior eight tax years. The ongoing OVDP does not have a stated expiration date but can be terminated by the IRS at any time as to specific classes of taxpayers or as to all taxpayers.

Under the Bank Secrecy Act, U.S. residents or a person in and doing business in the United States must file a report with the government if they have a financial account in a foreign country with a value exceeding $10,000 at any time during the calendar year. Taxpayers comply with this law by noting the account on their income tax return and by filing Form 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR). Willfully failing to file an FBAR can be subject to both criminal sanctions (i.e., imprisonment) and civil penalties equivalent to the greater of $100,000 or 50% of the balance in an unreported foreign account for up to six tax years. The FBAR for calendar year 2012 must be received by June 30, 2013.

Participation in the OVDP begins by providing IRS Criminal Investigation (CI) with the taxpayers name, address, taxpayer identification number and date of birth. No other information is required nor should additional information be provided at least until issuance by CI of a “pre-clearance letter” indicating that the taxpayer has been pre-cleared into the OVDP. Thereafter, taxpayers proceed with a more complete disclosure in the form of a summary letter with attachments known as the Offshore Voluntary Disclosure Letter. This letter is being updated and revised into IRS Forms 14457 and 14454. A CI clearance letter is typically issued following submission of the Offshore Voluntary Disclosure Letter and taxpayers then submit amended income tax returns, FBARs, a penalty worksheet and related account information.

Issuance of the pre-clearance and clearance letters is intended to provide a degree of assurance to the taxpayer that their voluntary disclosure has been timely and can proceed without potential for a criminal referral to the Tax Division of the Department of Justice for criminal prosecution. However, in recent months, various taxpayers who long ago received pre-clearance letters and then proceeded to disclose additional information regarding their previously undisclosed interests in foreign financial accounts have had their criminal referral clearance rescinded by CI. Many received letters indicating “Although your client was informed that he was accepted into the Offshore Voluntary Disclosure Program (OVDP) on or about [date], upon further review it has been determined that your client is disqualified from the OVDP.” Oops !

Many of these taxpayers have accounts at either Bank Leumi or Bank Mizrahi and it remains possible that such rescissions may have been issued in connection with a much larger, more ominous future investigation. Not dissimilar to the process of rounding up the potential targets in other criminal tax investigations and then figuring out which are the most culpable.

So far, the government has been silent regarding the possible basis for such rescissions. However, it would seem difficult for the government to actually pursue criminal prosecutions of these individuals without a strong showing that such a prosecution is not based on tainted evidence [see Kastigar v. U.S., 406 U.S. 441 (1972)]. However, these individuals might not ultimately be afforded any civil benefits otherwise associated with participation in the IRS OVDP, etc. Some of these individuals may actually never hear from the government again . . . time will tell.