TAXLITIGATOR – Tax Controversy (Civil & Criminal) Report

U.S. taxpayers with previously undisclosed interests in foreign financial accounts and assets continue to analyze and seek advice regarding the most appropriate methods of coming into compliance with their U.S. filing and reporting obligations. Many are pursuing participation in the IRS offshore voluntary disclosure program (the OVDP, which began in 2012 – modeled after similar programs in 2009 and 2011).

The Internal Revenue Service announced major changes in IR-2014-73[i] regarding their offshore voluntary compliance programs, providing new options to help both taxpayers residing overseas and those residing in the United States. The changes are anticipated to provide thousands of people a new avenue to come into compliance with their U.S. tax obligations.

The changes include an expansion of the streamlined filing compliance procedures announced in 2012 and important modifications to the 2012 OVDP. The expanded streamlined procedures are intended for U.S. taxpayers whose failure to disclose their offshore assets was non-willful.

Balanced against the modified programs is the government’s ongoing effort to combat the misuse of offshore assets. The IRS, working closely with the U.S. Department of Justice, continues to investigate foreign financial institutions that may have assisted U.S. taxpayers in avoiding their tax filing and payment obligations. In addition, on July 1, 2014 the new information reporting regime resulting from the Foreign Account Tax Compliance Act (FATCA) will go into effect. Thousands of foreign financial institutions will begin reporting to the IRS foreign accounts held by US taxpayers. Since the launch of the first OVDP in 2009, more than 45,000 taxpayers have come into compliance voluntarily, paying about $6.5 billion in taxes, interest and penalties. 

STREAMLINED PROCEDURES. There have been key expansions in the streamlined procedures to accommodate a wider group of U.S. taxpayers who have unreported foreign financial accounts. The original streamlined procedures announced in 2012 were available only to non-resident, non-filers. Taxpayer submissions were subject to different degrees of review based on the amount of the tax due and the taxpayer’s response to a “risk” questionnaire.

The expanded 2014 streamlined procedures are available to a wider population of U.S. taxpayers living outside the country and, for the first time, to certain U.S. taxpayers residing in the United States. The changes include:

1. Eliminating a requirement that the taxpayer have $1,500 or less of unpaid tax per year;
2. Eliminating the required risk questionnaire;
3. Requiring the taxpayer to certify that previous failures to comply were due to non-willful conduct.

For eligible U.S. taxpayers residing outside the United States, all penalties will be waived. For eligible U.S. taxpayers residing in the United States, the only penalty will be a miscellaneous offshore penalty equal to 5 percent of the foreign financial assets that gave rise to the tax compliance issue.

Eligibility for the Streamlined Procedures. Taxpayers using either the Streamlined Foreign Offshore Procedures[ii] or the Streamlined Domestic Offshore Procedures[iii] will be required to certify, in accordance with the specific instructions set forth below, that the failure to report all income, pay all tax, and submit all required information returns, including FBARs (FinCEN Form 114, previously Form TD F 90-22.1), was due to non-willful conduct.

STREAMLINED FOREIGN OFFSHORE PROCEDURES. Taxpayers, seeking to use the Streamlined Foreign Offshore Procedures described in this section must:  (1) meet the “applicable non-residency requirement” (for joint return filers, both spouses must meet the applicable non-residency requirement) and (2) have failed to report the income from a foreign financial asset and pay tax as required by U.S. law, and may have failed to file an FBAR (FinCEN Form 114, previously Form TD F 90-22.1) with respect to a foreign financial account, and such failures resulted from non-willful conduct.  For this purpose, non-willful conduct is conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.

Non-residency requirement applicable to individuals who are U.S. citizens or lawful permanent residents (i.e., “green card holders”). Taxpayers will satisfy the “applicable non-residency requirement” if, in any one or more of the most recent three years for which the U.S. tax return due date (or properly applied for extended due date) has passed, the individual did not have a U.S. abode and the individual was physically outside the United States for at least 330 full days.  Under IRC section 911 and its regulations, which apply for purposes of the procedures, neither temporary presence of the individual in the United States nor maintenance of a dwelling in the United States by an individual necessarily mean that the individual’s abode is in the United States.

Non-residency requirement applicable to individuals who are not U.S. citizens or lawful permanent residents.  Individuals who are not U.S. citizens or lawful permanent residents, or estates of individuals who were not U.S. citizens or lawful permanent residents, meet the applicable non-residency requirement if, in any one or more of the last three years for which the U.S. tax return due date (or properly applied for extended due date) has passed, the individual did not meet the substantial presence test of IRC section 7701(b)(3).

If the IRS has initiated a civil examination of a taxpayer’s returns for any taxable year, regardless of whether the examination relates to undisclosed foreign financial assets, the taxpayer will not be eligible to use the streamlined procedures. Taxpayers eligible to use the streamlined procedures who have previously filed delinquent or amended returns in an attempt to address U.S. tax and information reporting obligations with respect to foreign financial assets (so-called “quiet disclosures” made outside of the OVDP or its predecessor programs) may still use the streamlined procedures.

Effect of Streamlined Foreign Offshore Procedures. Taxpayers eligible to use the Streamlined Foreign Offshore Procedures must (1) for each of the most recent 3 years for which the U.S. tax return due date (or properly applied for extended due date) has passed, file delinquent or amended tax returns, together with all required information returns (e.g., Forms 3520, 5471, and 8938) and (2) for each of the most recent 6 years for which the FBAR due date has passed, file any delinquent FBARs (FinCEN Form 114, previously Form TD F 90-22.1).  The full amount of the tax and interest due in connection with these filings must be remitted with the delinquent or amended returns.

A taxpayer who is eligible to use these Streamlined Foreign Offshore Procedures and who complies with all of the instructions outlined below will not be subject to failure-to-file and failure-to-pay penalties, accuracy-related penalties, information return penalties, or FBAR penalties. Even if returns properly filed under these procedures are subsequently selected for audit under existing audit selection processes, the taxpayer will not be subject to failure-to-file and failure-to-pay penalties or accuracy-related penalties with respect to amounts reported on those returns, or to information return penalties or FBAR penalties, unless the examination results in a determination that the original tax noncompliance was fraudulent and/or that the FBAR violation was willful.  Any previously assessed penalties with respect to those years, however, will not be abated.  Further, as with any U.S. tax return filed in the normal course, if the IRS determines an additional tax deficiency for a return submitted under these procedures, the IRS may assert applicable additions to tax and penalties relating to that additional deficiency.

STREAMLINED DOMESTIC OFFSHORE PROCEDURES. Taxpayers seeking to use the Streamlined Domestic Offshore Procedures must:  (1) fail to meet the applicable non-residency requirement described above above (for joint return filers, one or both of the spouses must fail to meet the applicable non-residency requirement described above); (2) have previously filed a U.S. tax return (if required) for each of the most recent 3 years for which the U.S. tax return due date (or properly applied for extended due date) has passed; (3) have failed to report gross income from a foreign financial asset and pay tax as required by U.S. law, and may have failed to file an FBAR (FinCEN Form 114, previously Form TD F 90-22.1) and/or one or more international information returns (e.g., Forms 3520, 3520-A, 5471, 5472, 8938, 926, and 8621) with respect to the foreign financial asset, and (4) such failures resulted from non-willful conduct.  For this purpose, non-willful conduct is conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.

Effect of Streamlined Domestic Offshore Procedures. A taxpayer who is eligible to use these Streamlined Domestic Offshore Procedures and who complies with all of the applicable instructions will be subject only to the Title 26 miscellaneous offshore penalty and will not be subject to accuracy-related penalties, information return penalties, or FBAR penalties. The Title 26 miscellaneous offshore penalty is equal to 5 percent of the highest aggregate balance/value of the taxpayer’s foreign financial assets that are subject to the miscellaneous offshore penalty during the years in the covered tax return period and the covered FBAR period. For this purpose, the highest aggregate balance/value is determined by aggregating the year-end account balances and year-end asset values of all the foreign financial assets subject to the miscellaneous offshore penalty for each of the years in the covered tax return period and the covered FBAR period and selecting the highest aggregate balance/value from among those years.

A foreign financial asset is subject to the 5-percent miscellaneous offshore penalty in a given year in the covered FBAR period if the asset should have been, but was not, reported on an FBAR (FinCEN Form 114) for that year. A foreign financial asset is subject to the 5-percent miscellaneous offshore penalty in a given year in the covered tax return period if the asset should have been, but was not, reported on a Form 8938 for that year. A foreign financial asset is also subject to the 5-percent miscellaneous offshore penalty in a given year in the covered tax return period if the asset was properly reported for that year, but gross income in respect of the asset was not reported in that year. A foreign financial asset may include financial accounts held at foreign financial institutions; financial accounts held at a foreign branch of a U.S. financial institution; foreign stock or securities not held in a financial account; foreign mutual funds; and foreign hedge funds and foreign private equity funds.

Compliance with the Streamlined Domestic Offshore Procedures. Domestic taxpayers seeking to use the streamlined procedures must:

1. For each of the most recent 3 years for which the U.S. tax return due date (or properly applied for extended due date) has passed, submit a complete and accurate amended tax return using Form 1040X, Amended U.S. Individual Income Tax Return, together with any required information returns (e.g., Forms 3520, 3520-A, 5471, 5472, 8938, 926, and 8621) even if these information returns would normally not be submitted with the Form 1040 had the taxpayer filed a complete and accurate original return. Delinquent income tax returns (including Form 1040, U.S. Individual Income Tax Return) may not be filed using these procedures.
2. Include at the top of the first page of each amended tax return “Streamlined Domestic Offshore” written in red to indicate that the returns are being submitted under these procedures.
3. Complete and sign a statement on the Certification by U.S. Person Residing in the U.S. certifying: (1) that they are eligible for the Streamlined Domestic Offshore Procedures; (2) that all required FBARs have now been filed (see instruction 9 below); (3) that the failure to report all income, pay all tax, and submit all required information returns, including FBARs, resulted from non-willful conduct; and (4) that the miscellaneous offshore penalty amount is accurate (see instruction 5 below). The taxpayer must maintain their foreign financial asset information supporting the self-certified miscellaneous offshore penalty computation and be prepared to provide it upon request. They must submit an original signed statement and attach copies of the statement to each tax return and information return being submitted through these procedures. Copies should not be attached to FBARs.       Failure to submit this statement, or submission of an incomplete or otherwise deficient statement, will result in returns being processed in the normal course without the benefit of the streamlined procedures.
4. Submit payment of all tax due as reflected on the tax returns and all applicable statutory interest with respect to each of the late payment amounts. Submit payment of the Title 26 miscellaneous offshore penalty (5 percent penalty).
5. For each of the most recent 6 years for which the FBAR due date has passed, file delinquent FBARs according to the FBAR instructions and include a statement explaining that the FBARs are being filed as part of the Streamlined Filing Compliance Procedures. The delinquent FBARs must be filed electronically at FinCen. On the cover page of the electronic form, select “Other” as the reason for filing late. An explanation box will appear. In the explanation box, enter “Streamlined Filing Compliance Procedures.”
6. Various additional items referenced in the Specific Instructions for the Streamlined Domestic Offshore Procedures.[iv]

GENERAL TREATMENT UNDER THE STREAMLINED PROCEDURES. Receipt of the returns will not be acknowledged by the IRS and the streamlined filing process will not conclude in the signing of a closing agreement with the IRS. Returns submitted under either the Streamlined Foreign Offshore Procedures or the Streamlined Domestic Offshore Procedures will not be subject to IRS audit automatically, but they may be selected for audit under the existing audit selection processes applicable to any U.S. tax return and may also be subject to verification procedures in that the accuracy and completeness of submissions may be checked against information received from banks, financial advisors, and other sources. As such, returns submitted under the streamlined procedures may be subject to IRS examination, additional civil penalties, and even criminal liability, if appropriate.

ADDITIONAL INFORMATION IS AVAILABLE AT:

IRS Offshore Voluntary Disclosure Efforts Produce $6.5 Billion; 45,000 Taxpayers Participate, http://www.irs.gov/uac/Newsroom/IRS-Offshore-Voluntary-Disclosure-Efforts-Produce-$6.5-Billion;-45,000-Taxpayers-Participate

Offshore Income and Filing Information for Taxpayers with Offshore Accounts http://www.irs.gov/uac/Newsroom/Offshore-Income-and-Filing-Information-for-Taxpayers-with-Offshore-Accounts

IRS Makes Changes to Offshore Programs; Revisions Ease Burden and Help More Taxpayers Come into Compliance http://www.irs.gov/uac/Newsroom/IRS-Makes-Changes-to-Offshore-Programs;-Revisions-Ease-Burden-and-Help-More-Taxpayers-Come-into-Compliance

Options Available For U.S. Taxpayers with Undisclosed Foreign Financial Assets http://www.irs.gov/Individuals/International-Taxpayers/Options-Available-For-U-S–Taxpayers-with-Undisclosed-Foreign-Financial-Assets

STREAMLINED PROCEDURES

Streamline Filing Compliance Procedures http://www.irs.gov/Individuals/International-Taxpayers/Streamlined-Filing-Compliance-Procedures

U.S. Taxpayers Residing Outside the United States http://www.irs.gov/Individuals/International-Taxpayers/U-S-Taxpayers-Residing-Outside-the-United-States

U.S. Taxpayers Residing in the United States http://www.irs.gov/Individuals/International-Taxpayers/U-S-Taxpayers-Residing-in-the-United-States

Certification by U.S. Person Residing Outside of the U.S. http://www.irs.gov/pub/irs-utl/CertNonResidents.pdf

Certification by U.S. Person Residing in the U.S. http://www.irs.gov/pub/irs-utl/CertUSResidents.pdf

SUBMISSION PROCEDURES

Delinquent FBAR Submission Procedures http://www.irs.gov/Individuals/International-Taxpayers/Delinquent-FBAR-Submission-Procedures

Delinquent International Information Return Submission Procedures http://www.irs.gov/Individuals/International-Taxpayers/Delinquent-International-Information-Return-Submission-Procedures

FREQUENTLY ASKED QUESTIONS

Offshore Voluntary Disclosure Program Frequently Asked Questions and Answers http://www.irs.gov/Individuals/International-Taxpayers/Offshore-Voluntary-Disclosure-Program-Frequently-Asked-Questions-and-Answers-2012-Revised

Transition Rules Frequently Asked Questions http://www.irs.gov/Individuals/International-Taxpayers/Transition-Rules-Frequently-Asked-Questions-FAQs

VOLUNTARY DISCLOSURE LETTER

Offshore Voluntary Disclosure Letter http://www.irs.gov/pub/irs-utl/OVDIntakeLtr.pdf

Offshore Voluntary Disclosure Letter Attachment http://www.irs.gov/pub/irs-utl/OVDIntakeLtrAttach.pdf

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[i] IRS Makes Changes to Offshore Programs; Revisions Ease Burden and Help More Taxpayers Come into Compliance, IR-2014-73, June 18, 2014

[ii]  See U.S. Taxpayers Residing Outside the United States, Eligibility for the Streamlined Foreign Offshore Procedures,  http://www.irs.gov/Individuals/International-Taxpayers/U-S-Taxpayers-Residing-Outside-the-United-States

[iii] U.S. Taxpayers Residing in the United States, Eligibility for the Streamlined Domestic Offshore Procedures, http://www.irs.gov/Individuals/International-Taxpayers/U-S-Taxpayers-Residing-in-the-United-States.

[iv] http://www.irs.gov/Individuals/International-Taxpayers/U-S-Taxpayers-Residing-in-the-United-States