IRS Announces a New Voluntary Disclosure Program for Offshore Financial Accounts
Background and Deadline of the New Program
Under a previous Offshore Voluntary Disclosure Program (OVDP), U.S. taxpayers not fully disclosing their offshore financial accounts on required foreign bank account reports (FBARs) for the six years 2003-2008 were encouraged to do so and pay associated taxes by limiting penalties on such late disclosures – however, this OVDP closed on October 15, 2009. The U.S. Treasury Department has now adopted a new Offshore Voluntary Disclosure Initiative (OVDI) which covers the eight years 2003-2010 and closes on August 31, 2011 – by which date all documents must be submitted by the taxpayer – but which includes several changes from the previous OVDP.
Observation: This August 31, 2011 deadline does not provide taxpayers and their advisors much time to enter the new OVDI and provide all relevant documents to the Internal Revenue Service (IRS).
The IRS believes that it would be unfair to those that entered into the previous OVDP to maintain the same penalty provisions for those entering this new OVDI. The OVDP provided for a single penalty equal to 20% (reduced to 5% in limited cases) of the highest balance or value in the offshore account over the previous six years, in lieu of separate penalties for each of the six years.
Observation: Only a handful of taxpayers were able to take advantage of the reduced rate of 5% and many taxpayers and professionals were surprised by the IRS’s failure to consider unwitting taxpayers who either believed they were in compliance or had no knowledge of their failure to comply.
Framework of the New Program For the 2011 initiative, there is a new framework:
• The taxpayer generally must pay a penalty of 25% of the highest balance or value in the foreign account during the program’s 2003 to 2010 time period. There is no exception for de minimis unreported income.
• A taxpayer whose offshore accounts or assets did not surpass $75,000 in any calendar year covered by the new initiative will qualify for a lower penalty rate of 12.5% (rather than the 25% noted above).
• A taxpayer meeting the following four conditions will qualify for a further reduced penalty rate of 5%:
o Did not open or cause the account to be opened (unless the financial institution required that a new account be opened, rather than allowing a change in ownership of an existing account, upon the death of the previous owner);
o Has exercised minimal, infrequent contact with the account;
o Except for a withdrawal closing the account and transferring the funds to an account in the U.S., has not withdrawn more than $1,000 from the account in any year of the program 2003-2010; and
o Can establish that all applicable U.S. taxes have been paid on funds deposited to the account; for funds deposited before 1991, if no information is available to establish the funds were appropriately taxed, it is presumed that they have been so taxed.
• Taxpayers who reside abroad and who were unaware of their U.S. citizenship also qualify for the 5% penalty without having to meet the four qualifications above.
Observations: Since it is easier to qualify for the reduced penalty of 5% under the new program, a taxpayer whose previous OVDP case has been resolved and closed at a higher penalty rate may contact the Revenue Agent assigned to the case with a statement claiming qualification for the reduced rate and including contact information and a copy of the case closing information. This opportunity is also available to a taxpayer who would have qualified for the reduced 12.5% penalty.
• A participant also must pay back-taxes and interest for up to eight years as well as paying accuracy-related and/or delinquency penalties.
• Taxpayers participating in the new initiative must file all original and amended tax returns and include payments as noted above by August 31, 2011.
The IRS is processing voluntary disclosures in centralized units to handle applications more efficiently.
Coordination with Other Required Disclosures First, the IRS continues to provide an alternative to the statutory passive foreign investment company (PFIC) computation to resolve PFIC issues arising from voluntary disclosure on the basis of a mark-to-market approach.
Second, those who have reported and paid tax on income from foreign financial accounts – but did not file FBARs – do not have to use the new OVDI, but can file the delinquent FBAR reports according to the form’s instructions and attach a statement explaining why the reports are filed late. Separate income tax returns are no longer required to be filed with the FBARs in Philadelphia. Similarly, those with signature authority – but no ownership interest – in foreign financial accounts should file delinquent FBARs under these procedures. In general, the statute of limitations is six years from the date that an unfiled FBAR was due to have been filed.
Third, no penalties will apply for the failure to file certain other information returns with respect to foreign income – including Form 5471 and Form 3520 – if there are no underreported tax liabilities and the information returns are filed with an amended tax return with a statement attached explaining the reason for being late. In general, where there is a failure to file information returns such as Form 5471 or Form 3520, the statute of limitations does not begin to run.
Observations: Both the second and third exceptions above require the taxpayer to file the required returns by August 31, 2011. (The description of the FBAR exception in the new initiative refers to filing by August 31, 2010, but this is probably a typographical error since that date obviously has already passed.)
Limitations on Relief The IRS has indicated it will be looking further at financial institutions that came to its attention in the course of the previous OFDP and intends to request information from those and other institutions where they believe unreported offshore accounts exist. However, under the OFDI – similarly to the previous OFDP – a taxpayer whose identity has already been learned by the IRS will not be able to participate in the new program. Nor will participation be permitted where the foreign financial account includes property derived from illegal activities.
Observation: Since acceptance into the program allows most taxpayers to avoid criminal prosecution, taxpayers who have not come into the previous program or who have only silently disclosed by filing outside the program should strongly consider entering the new OFDI, for which there is a short window of opportunity before August 31, 2011.
If you have any questions regarding the above, please contact any of the EisnerAmper International Tax Professionals listed below:
This publication is intended to provide general information to our friends. It does not constitute accounting, tax, or legal advice; nor is it intended to convey a thorough treatment of the subject matter.