Internal Revenue Service Program for Voluntary Disclosure of Offshore Investments Closes September 23, 2009
US citizens and residents, as well as US corporations, partnerships, estates, and trusts (“US Persons”), who have a financial interest in or signature authority over financial accounts located in a country other than the United States have a special filing requirement with the United States Department of the Treasury. If the aggregate value of these accounts at any time during the calendar year exceeds $10,000, the US Person who owns the account must file Form TD F 90-22.1 (Report of Foreign Bank and Financial Accounts) (the “FBAR”). The FBAR is due on or before June 30 of the following calendar year. In addition, US Persons are subject to information reporting requirements on a variety of other offshore financial interests. For example, US Persons who are officers, directors, or shareholders of most non-US corporations must file annually Form 5471 (Information Return of U.S. Persons With Respect to Certain Foreign Corporations). US Persons who are partners in non-US partnerships must annually file Form 8865 (Return of U.S. Persons With Respect to Certain Foreign Partnerships). US Persons who are beneficiaries of foreign trusts or estates must file Form 3520 (Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain
Foreign Gifts) in any year in which a distribution is received from a trust or estate. Form 3520 is also required for any year in which a US person receives a gift in excess of $100,000 from an individual who is not a citizen or resident of the United States. The information reporting requirements are in addition to other compliance obligations to report and pay tax on income and gains arising from non-US accounts and non-US assets. On March 23, 2009, the Internal Revenue Service announced a voluntary disclosure program intended to provide non-compliant taxpayers with an opportunity to satisfy reporting and tax obligations relating to non-US accounts and financial interests. For qualifying taxpayers, participation in the voluntary disclosure program will allow those taxpayers to avoid significant civiland criminal penalties.Eligibility to Participate
Most taxpayers are eligible to participate in the voluntary disclosure program. Two types of taxpayers are not:
(1) Taxpayers whose offshore accounts or assets represent proceeds from criminal enterprises and
(2) Taxpayers who are the subject of an Internal Revenue Service
civil or criminal examination (even though unaware of such scrutiny).
In order for a taxpayer to participate in the voluntary disclosure program, the taxpayer must make a “truthful, timely, [and] complete” disclosure of previously unreported income and file or demonstrate an intent to file all applicable information and other required returns. In addition, the taxpayer must show “a willingness to cooperate (and does in fact cooperate)” with the Internal Revenue Service to determine the taxpayer’s correct liability and makes “good faith arrangements” with the Internal Revenue Service to pay all taxes, interest, and penalties determined to apply. In this regard, taxpayers participating
in the voluntary disclosure program will not have customary opportunities otherwise available to negotiate with the Internal Revenue Service (including resorting to IRS Appeals). The voluntary disclosure program is described by the Internal Revenue Service as having “packaged terms.” These terms may either be accepted or rejected. But if rejected, the taxpayer is exposed to the full range of civil and criminal penalties which result from non-compliance.
Initiating Participation in the Program
Taxpayers wishing to participate in the voluntary disclosure program are instructed to submit a letter to the Ottawa, Ontario Office of IRS. Criminal Investigation stating the taxpayer wishes to make a voluntary disclosure. The letter must contain all identifying information regarding the taxpayer including name, address, social security number (or other taxpayer identification number), passport number, and date of birth. Taxpayers will also have to provide explanations of “any previously unreported or underreported income or incorrectly claimed deductions or credits related to undisclosed foreign accounts or
undisclosed foreign entities, including the reason(s) for the error or omission”, complete and accurate amended US income tax returns (or original returns if not previously filed) for tax years 2003 – 2008, and complete and accurate FBARs. However, only the taxpayer identifying information is required to be submitted by September 23, 2009 in order to participate in the program. The explanations and returns can be submitted subsequently.
The Package Penalty Regime
The tax cost for taxpayers participating in the voluntary disclosure program is severe. In addition to taxes and interest on six years of unreported income, an accuracy related penalty of 20% will apply and an additional penalty of 20% will be imposed on the account balances from which the unreported income arose during the six year period. Interest will be assessed on the accuracy related penalty from the date the returns were due. Interest will run on the additional penalty from the date of assessment.
Participation in the Voluntary Disclosure Program for Taxpayers Without Unreported Income
Even taxpayers who have been fully compliant in reporting offshore income and paying taxes thereon (or who for other reasons owe no tax on that income) but have failed to file FBARs or other information returns should participate in the voluntary compliance program so as to avoid penalties for failure to submit the required FBARs or other information returns. These penalties can be severe. For example, negligent failure to file an FBAR triggers an automatic $10,000 penalty for each year the Form was not filed or filed late. Willful failure to file the FBAR subjects the taxpayer to a penalty equal to the greater of $100,000 or
50% of the account balance. Taxpayers who are otherwise compliant are directed to submit copies of the delinquent FBARs along with tax returns for the relevant years to the Philadelphia Offshore Identification Unit of the Internal Revenue Service along with a statement explaining the reasons why the FBAR reports were filed late.
What Exposure is Created for Taxpayers who Choose Not to Participate in the Voluntary Compliance Program?
Despite the severity of the package terms to which taxpayers participating in the voluntary compliance program will be subject, the potential civil and criminal penalties are significantly more severe for taxpayers who miss this opportunity. In addition to the tax, accuracy related penalty, and interest described above, additional civil penalties include FBAR penalties for willful failures to file and civil fraud penalties equal to 75% of the tax due. Criminal penalties include incarceration of up to ten years and fines of up to $500,000 for failure to file the FBAR reports and incarcerations of 1 – 5 years and fines of up to $250,000 for income tax evasion, filing false returns, or failures to file an income tax return. Separate penalties apply to other information returns.
Initiation of the voluntary disclosure program suggests the US government will intensify its efforts to use every means available to identify foreign accounts and assets and their US owners who fail to report the existence of those accounts and assets or the income derived therefrom. The risk of criminal prosecution has increased. Under Article XXVI A of the Convention between Canada and the United States revenue authorities of each country have agreed to assist the other in collection of taxes imposed by thecountry of the taxpayer’s citizenship. For US citizens living in Canada this means that the CRA will assist the IRS in collection of the US taxpayer’s obligations. For those US citizens living in Canada who may be facing criminal prosecution, the United States government may also initiate extradition proceedings.