For more than a year, numerous taxpayers with previously undisclosed interests in foreign financial accounts and assets have been seeking participation in the current IRS offshore voluntary disclosure program (the OVDP) which began in 2012, modeled after similar programs in 2009 and 2011.
Taxpayers participating in the OVDP generally agree to file amended returns and file FINCEN Form 114 (formerly Form TD 90-22.1, Report of Foreign Bank and Financial Accounts), FBARs, for eight tax years, pay the appropriate taxes and interest together with a 20% accuracy related penalty and 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 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.
WHETHER TO PARTICIPATE IN THE OVDP. There are various considerations before a taxpayer should determine whether to pursue a voluntary disclosure of prior tax indiscretions through the OVDP or through amending returns or in some other manner. When reviewing the OVDP, many look to whether the taxpayer might be considered a realistic candidate for a criminal prosecution referral by the IRS or prosecution by the Department of Justice? (If so, the determination to participate was relatively quick and easy). Is there a possibility of reducing that prospect by filing amended or delinquent returns and FBARs in lieu of a direct participation in the OVDP?
What would be the potentially applicable penalties upon an examination of such returns and FBARs? Could the government actually carry their burden of demonstrating that the taxpayer “willfully” violated the FBAR filing requirements? Since the OVDP asserts an offshore penalty based on foreign financial accounts and asset valuations, for many with smaller financial account values the aggregate offshore penalty determination, even for multiple years, is actually less outside the OVDP.
OPT OUT CONSIDERATIONS. The IRS has recently afforded those indicating a desire to opt out with the opportunity to provide a “reasonable cause letter” explaining why they should be subjected to some lesser penalty set forth in the OVDP. The decision to opt out must take into account all relevant facts and circumstances as well as the possibility of expansive IRS discretion to perform examinations over a lengthy period of time exceeding the eight tax year period of the OVDP and penalties being asserted for multiple tax years.
Before opting out, taxpayers should carefully review the recent court decisions in United States v. Williams, No. 10-2230 (4th Cir. 2012) and United States v. McBride, No. 2:09-cv-00378 (D. Utah 2012) on the issue of determining “willfulness” for assertion of the more significant FBAR penalties (of up to 50% of the account balance, per year). Although the underlying facts in each case were not the best, the courts might not lightly view those with considerable financial resources who fail to inquire about their potential reporting requirements associated with various interests in foreign financial accounts.
Also note from previous Blogs on this site that there is a case currently pending in the Southern District of Florida – United States v. Carl R. Zwerner, Case # 1:13-cv-22082-CMA (SD Florida, June 11, 2013) – in which the government is pressing forward with the assertion of 50% FBAR penalties for each of four tax years – penalties aggregating $3,488,609.33 (as of June 6, 2013) on a foreign account where the highest value at any time during the relevant time period was $1,691,054.
Presently, there is a Motion for Summary Judgment pending where the government is asserting that: “Zwerner’s recklessness and willful blindness to his reporting obligations are sufficient to establish willfulness as a matter of law. . . . it is immaterial whether Zwerner specifically understood his FBAR reporting requirements. To keep his Swiss bank account a secret he was willing to hide it even from his own CPA, thereby guaranteeing that he would never learn of his reporting obligations. Under the recklessness and willful blindness standards discussed in Williams and McBride, that establishes willfulness as a matter of law. Although Zwerner is correct that the courts in those cases issued their opinions after trial, the facts showing Zwerner’s recklessness are not disputed. A trial here is therefore unnecessary.”
Participants in the OVDP should only consider the possibility of “opting out” of the program if their facts are unique. Having inherited funds in a foreign financial account, without more, might not be considered deserving of some lesser penalty regime by the IRS. Opt out considerations often include the source and amount of funds, how long the account has been maintained, whether there were withdrawals or deposits into the account or the account was moved to another foreign financial institution at some point, whether the taxpayer’s advisors had some degree of knowledge about the account, the sophistication and education of the taxpayer, whether foreign entities were involved as accountholders, etc.
Remaining in the OVDP can be economically oppressive given the penalty structure but it avoids exposure to numerous additional penalties associated with the income tax returns and various required foreign information reports, a detailed examination, and limits the number of tax years at issue while also providing certainty with respect to the avoidance of a referral for criminal tax prosecution.
TAXPAYER INTERVIEW QUESTIONS REVEALED. Numerous taxpayers having previously undisclosed interests in foreign financial accounts have been interviewed by representatives of the IRS as well as many having been interviewed by prosecutors associated with the Tax Division of the Department of Justice investigating various foreign institutions and advisors.
Questions relating to the opening of the account often inquire about who advised and assisted in opening the account; whether the advisor was an internal bank employee or an outside advisor referred by the bank; where the account opening(s) occurred (in the U.S., at the bank, etc.); how often the taxpayer traveled to the foreign institution or their advisor and for what reason; how funds were withdrawn from the account; documents provided by the taxpayer to open the account [i.e. U.S. or foreign passport(s), identification card, etc. – note that it might not be a good fact for a taxpayer having dual passports to open an account with their non-U.S. passport]; whether the taxpayer was asked to sign any documents or forms, including Form W-9; and identification of the advisors and representatives involved at the foreign financial institution and all communications with such individuals.
Additional questions relate to the use of foreign entities to hold title to the account(s). Specifically, why the entity was created (i.e. insurance products, trust, foundation, corporation, annuity, etc.); who formed the entity; who managed the entity; and whether the entity is still in existence. The taxpayer will be asked to disclose all communications with their domestic and foreign advisors, including when, where and in what form the communications took place; who was present and/or participated in the communications; what communications were had with the representative about the IRS OVDP; communications, if any, that occurred regarding bank secrecy, taxation, and/or disclosure of any foreign accounts; and whether letters, postcards or other personal mailings were ever sent or received.
The government will inquire about various services offered by the foreign institution and/or client advisor, including whether the creation of a foreign company, entity or foundation was ever recommended and, if so, for what purpose; was a credit card or debit card linked to the offshore account offered; was there a recommendation to repatriate funds to the U.S. using a foreign relative or entity (purported gifts from non-resident relatives); were there any offers to deliver or accept currency in the U.S.; was there any advice given on how to transport currency into the U.S.; were calling cards or cell phone services ever provided; and whether there were offers to move financial assets to another institution.
Management and administration of the foreign financial account is always of interest to the government. Taxpayers should anticipate questions regarding any instructions received regarding contacting the bank or the representative; instructions or advice received regarding receiving mail from the bank; instructions or advice received regarding taking bank statements or other bank documents from the bank; instructions or advice received regarding withdrawing funds; instructions or advice received regarding the formation of a foreign entity to hold the account and who to contact regarding formation of an appropriate entity.
Deposits and withdrawals to the foreign account can reveal intentions and knowledge of various individuals involved. The government can be expected to inquire about the manner in which deposits and/or withdrawals were made to/from the foreign account(s); the mechanics of how deposits/withdrawals were made; the form in which deposits/withdrawals occurred (i.e. cash, check, wire, travelers’ check, etc.); amounts of each withdrawal/deposit; when such deposits/withdrawals occurred; where such deposits/withdrawals occurred; whether there were there limitations on the amounts that could be deposited/withdrawn; and documents received when a deposit/withdrawal occurred (i.e. receipt, credit memo, debit memo, etc.)?
There will also be inquiries into the documentation received by or shown to the taxpayer regarding their accounts (i.e. account statements, account opening documents, etc.); whether such documents contained names of entities or the financial institution or account numbers; and whether the taxpayer retained the documentation.
Lastly, taxpayers should anticipate the government inquiring as to whether the foreign accounts remain open and if not, where the funds were transferred when the account(s) were closed. Some taxpayers closed accounts and wire transferred the funds directly to a domestic account. Others closed accounts and transferred the funds through various means to other foreign accounts. Further questions often lay within the responses to each of the foregoing questions.
Decisions regarding opting out should be carefully considered depending upon the taxpayers responses to each of the foregoing questions.