Important Changes to Offshore Voluntary Disclosure Program
On June 18, 2014, IRS announced important changes to its Offshore Compliance Programs. Specifically, the IRS announced that it is modifying the 2012 Offshore Voluntary Disclosure Program and expanding its offshore-related Streamlined Filing Compliance Procedures. Both programs were originally designed to encourage taxpayers with unreported foreign financial assets to come into compliance (see 2012 OVDP Updates and New Streamlined Procedure for Low-Risk U.S. Taxpayers Abroad and IRS Announces Third Opportunity for Voluntary Disclosure of Offshore Accounts ). The main changes are as follows (full details can be found at www.irs.gov):
- Stricter requirements and potentially higher penalties will apply to taxpayers participating in the Offshore Voluntary Disclosure Program (OVDP).
- Expansion of the Streamlined Filing Program (SFCP) includes taxpayers residing in the U.S. and ease of requirements for participation.
The good news is that the IRS has listened to the National Taxpayer Advocate and organizations like American Citizens Abroad (based in Washington, DC and Geneva, Switzerland) and it has stopped presuming all overseas Americans are willful tax-evaders. Under the new programs, taxpayers whose actions were not willful have much greater flexibility in avoiding penalties.
The Current OVDP
Using the words of IRS Commissioner John Koskinen, the IRS is “reshaping the terms for taxpayers to participate in OVDP.” The revised OVDP is designed to cover those whose failure to comply with reporting requirements is considered willful in nature and who therefore don’t qualify for the streamlined program (SFCP). Following are the revised guidelines for OVDP:
- Taxpayers applying to the program are required to submit more information.
- The existing reduced penalty percentage option is eliminated, since those taxpayers whose failure to comply is deemed non-willful would not be considering OVDP.
- Taxpayers are required to submit all account statements and pay the offshore penalty at the time of the OVDP application.
- Taxpayers are now able to submit all records in electronic form.
- The offshore penalty percentage is increased from 27.5% to 50% if, before the taxpayer’s OVDP pre-clearance request is submitted, it becomes public that a financial institution where the taxpayer holds an account or another party facilitating the taxpayer’s offshore arrangement is under investigation by the IRS or Department of Justice.
Observation:Taxpayers with a willful non-compliance situation whose undisclosed accounts are with certain foreign financial institution (see list below) must act by August 3, 2014 in order to be subject to the lower 27.5% penalty. Taxpayers who do not meet the deadline under the 2014 OVDP will be subject to a 50% penalty if: 1) it becomes public that a financial institution where the taxpayer holds an account, or another party facilitating the taxpayer’s offshore arrangement, is under investigation by cooperating with the IRS or Department of Justice in connection with U.S. accounts or 2) such institution or the account facilitator has been identified in a court-approved John Doe Summons.
It is especially important to remember the August 3 deadline if the undisclosed foreign bank account is with any of the following institutions (last updated by IRS June 20):
- UBS AG
- Credit Suisse AG, Credit Suisse Fides, and Clariden Leu Ltd.
- Wegelin & Co.
- Liechtensteinische Landesbank AG
- Zurcher Kantonalbank
- Swisspartners Investment Network AG, Swisspartners Wealth Management AG, Swisspartners Insurance Company SPC Ltd., and Swisspartners Versicherung AG
- CIBC First Caribbean International Bank Limited, its predecessors, subsidiaries, and affiliates
- Stanford International Bank, Ltd.; Stanford Group Company; and Stanford Trust Company, Ltd.
- Hong Kong and Shanghai Banking Corporation Limited in India (HSBC India).
- The Bank of N.T. Butterfield & Son Limited (also known as Butterfield Bank and Bank of Butterfield), its predecessors, subsidiaries, and affiliates.
The Current SFCP
The revisions to the 2012 IRS Streamlined Filing Compliance Procedures resulted in a more flexible program which applies to U.S. residents and U.S. nonresidents and to those taxpayers that either filed or have never filed U.S. tax returns. As long as the taxpayer meets the current requirements, and regardless of how large the financial accounts and how much in back taxes are owed, there could be no penalties imposed.
If the non-filer is a U.S. taxpayer who has been out of the U.S. tax system, living overseas for a while and afraid to come back into the tax system due to fear of losing a large part of his/her savings, this is exactly the program to consider. No penalties will be imposed as long as the filings are presented and any balance of tax is paid at the time of filing.
If the U.S. taxpayer resides in the U.S., has filed tax returns and has omitted certain information from offshore accounts, that taxpayer may also be a candidate for this program as long as the failure to file was not willful and he or she presents the filings along with a reasonable cause statement. The three most important changes to the program are:
- The requirement that the taxpayer have $1,500 or less of unpaid tax per year is eliminated.
- The required risk questionnaire is eliminated.
- The taxpayer must certify that previous failures to comply were due to non-willful conduct.
Separate Streamlined Filing Compliance Procedures (SFCP) apply for taxpayers residing in the U.S., and taxpayers residing outside of the U.S. (expatriates):
Taxpayers residing outside of the U.S.
- The arbitrary requirement that unreported income be $1,500 or less per year is eliminated.
- The previously required risk questionnaire and the “low risk” analysis are eliminated.
- Eligible taxpayers are required to certify under penalties of perjury that the failure to timely file or report income was due to non-willful conduct.
- All penalties are waived including late filing, late payment, accuracy related penalty information return penalties and FBAR penalty.
- Up to 3 years of delinquent income tax returns and information reports and up to 6 years of delinquent FBARS are still required.
Taxpayers residing in the U.S.
- Must file up to 3 years of amended return and accurately report and pay the tax due.
- Must file up to 6 years of delinquent or amended FBARS.
- All income tax penalties and accuracy-related penalties on any later audit, unless fraud or willfulness are found, are waived.
- Payment of a 5% Offshore Penalty in lieu of all FBAR penalties is required.
- Taxpayers who have made previous so-called “Quiet Disclosures” may request application of the SFCP. (Penalty assessments made with respect to the previously filed returns or amended returns will not be refunded).
- Taxpayers under audit, for domestic or foreign items, are ineligible for the SFCP.
- Returns filed under the SFCP will be processed like normal returns and there will be no automatic audit.
- Returns may be selected for audit later on under normal IRS procedures.
- Taxpayers using the SFCP must certify under penalties of perjury that prior non-filings or unreported income were the result of non-willful conduct. Non-willful conduct means “due to negligence, inadvertence or mistake or conduct that is the result of a good faith misunderstanding of the requirements of law.”
- No closing agreement will be executed between the taxpayer and IRS.
In the past few weeks there have been a number of stories in The New York Times and The Wall Street Journal about U.S. individuals who reside outside the U.S. and have been compliant with paying taxes in their country of residence but have not been compliant with their U.S. reporting obligations. Many of these individuals simply did not realize that, because they are U.S. citizens, they have an obligation to file U.S. tax returns. Many individuals in this situation have renounced their U.S. citizenship or are considering doing so.
The current IRS programs offer an excellent opportunity for taxpayers to get up to date with IRS filings if they have reported and paid the tax due on all income generated by their offshore financial assets and all they omitted was to comply with certain informational filings (i.e., forms 5471 or 3520 or FBAR forms).
The changes to the existing programs offer more flexibility for taxpayers with non-willful failure to report; such taxpayers who previously would have considered entering into the OVDP now may qualify for the less-costly streamlined procedure. Contrary to that, if the failure to report is deemed to be willful, those taxpayers will only qualify for OVDP, which will offer them relief from criminal prosecution.
Observation: It appears that the first and most critical decision that taxpayers and their advisors will need to make is to evaluate the willfulness aspect of their failure to file.
Various court cases highlight the willfulness issue, the Zwerner case is one. On May 28, 2014 the Department of Justice released the outcome of a trial, in which a jury in Miami found Carl R. Zwerner responsible for civil penalties for willfully failing to file required Reports of Foreign Bank and Financial Accounts (FBARs) for tax years 2004 through 2006 with respect to a secret Swiss bank account he controlled. The jury found that Zwerner’s failure to report the account was not willful for 2007. Other cases dealt with the meaning of “willful” in the FBAR context, i.e., United States v. Williams and United States v. McBride; we recommend that taxpayers get acquainted with the facts of the cases that have already been litigated.
If you consider yourself a candidate for one of these programs or if you’d like to discuss how to get into compliance with U.S. tax filings, call us. We’re here to help.