As expected, the Internal Revenue Service (IRS) has announced another opportunity for U.S. taxpayers to voluntary disclose previously undisclosed foreign financial accounts, thereby likely avoiding criminal prosecution and significantly reducing civil penalties.
The new offshore voluntary disclosure initiative, although not as favorable as the previous program, is perhaps the last, best opportunity for such persons to come forward voluntarily. It also gives taxpayers who participated in the 2009 offshore voluntary disclosure program and believe they qualify for either the 5% penalty or 12.5% penalty available under the new initiative, an opportunity to request that the IRS consider their eligibility for such a reduced penalty.
Building on the IRS’s first reduced-penalty Offshore Voluntary Disclosure Program that ended in October 2009 (2009 OVDP), the new 2011 Offshore Voluntary Disclosure Initiative (2011 OVDI) is intended to bring offshore money back into the U.S. tax system, and according to IRS Commissioner Douglas Shulman, give those with money in undisclosed foreign accounts “a tough, fair way to resolve their tax problems once and for all” before the IRS finds them.
According to Shulman, “[c]ombating international tax evasion is a top priority for the IRS,” with the IRS devoting significant additional resources to track down unreported overseas accounts of U.S. taxpayers – including ongoing investigations of numerous foreign banks that service such accountholders.
Terms of the Initiative
Under the 2011 OVDI, taxpayers generally can avoid the risk of criminal prosecution and the imposition of significantly higher civil and criminal penalties if, on or before Aug. 31, 2011, they disclose all of their previously undisclosed foreign financial accounts and:
- File or amend federal income tax returns for all tax years covered by the voluntary disclosure, generally calendar years 2003 through 2010 (covered years).
- File or amend offshore-related information returns (including Form TD 90-22.1, Report of Foreign Bank and Financial Accounts (FBAR)) for the covered years.
- Cooperate in the voluntary disclosure process, and with respect to the covered years, agree to: (1) pay all unpaid taxes (and interest with respect thereto); (2) pay an accuracy or delinquency penalty on the overdue tax; and (3) in lieu of all other penalties that may apply, pay a penalty equal to 25% (or in limited cases, 12.5% or 5%) of the highest aggregate balance held in the account during the covered years (FBAR Penalty).
In contrast, under the 2009 OVDP, a U.S. person had to cooperate fully with the IRS and: (1) file or amend federal income tax returns going back six years (not eight years); (2) file or amend FBARs going back six years (not eight years); and (3) pay a 20% (not 25%) FBAR Penalty (or in limited cases, 5%) on the highest aggregate balance held in the account during such six-year period (in addition to paying all unpaid taxes and an accuracy or delinquency penalty on the overdue tax).
Notably, eligibility for the 12.5% FBAR Penalty is limited to certain taxpayers whose foreign account never had a balance greater than $75,000, whereas eligibility for the 5% FBAR Penalty is generally limited to: (1) taxpayers who are foreign residents and were unaware they were U.S. citizens; and (2) taxpayers who essentially inherited foreign accounts that were minimally used, and for which the taxpayer can establish that all applicable U.S. taxes have been paid on funds deposited to such accounts.
The eligibility terms for the 5% FBAR Penalty under the 2011 OVDI, although still stringent, represent a much welcome lower threshold than the 5% FBAR Penalty under the 2009 OVDP, under which the IRS effectively required taxpayers to establish that they did not know the foreign account existed (a near impossibility for most affected taxpayers). With this key change and the more expansive and detailed guidance released by the IRS in connection with the 2011 OVDI, it is clear that the IRS listened to and addressed many of the concerns and issues raised by taxpayers who participated in the 2009 OVDP.
The 2011 OVDI sets forth procedures for taxpayers who participated under the 2009 OVDP and believe they qualify for either the 5% penalty or 12.5% penalty of the 2011 OVDI, an opportunity to request the IRS to consider their eligibility for such a reduced penalty.
As before, in the absence of complying with the 2011 OVDI, a U.S. person’s non-willful violation of the requirement to disclose his or her interest in an applicable foreign financial account through the filing of an FBAR could result in a civil penalty up to $10,000 per violation; whereas a willful violation could result in a civil penalty equal to the greater of $100,000 or 50% of the balance in the account at the time of the violation. These penalties are in addition to any criminal penalties relating to their income tax returns (e.g., filing a false return), including fines and imprisonment that could apply.
Who Should Participate in the 2011 OVDI?
In short, any U.S. person, whether residing in the United States or abroad, who has a financial interest in or signature authority over any financial account in a foreign country, is required to file an FBAR disclosing their interest in such accounts, if the aggregate value of these accounts exceeds $10,000. Therefore, if you are a U.S. person with such an interest or signature authority over a foreign financial account during the covered years, and you have not previously filed an FBAR with respect to such account, you should strongly consider taking advantage of the 2011 OVDI.
Taxpayers who participated in the 2009 OVDP and believe they qualify for either the 5% or 12.5% FBAR Penalty of the 2011 OVDI should request the IRS to consider their eligibility for such a reduced penalty.
Filing a Voluntary Disclosure under the 2011 OVDI
In general, a timely letter which: (1) encloses complete and amended tax returns and FBARs for the covered years; (2) reports legal source income omitted from the original returns; and (3) offers to pay the tax, interest, and any penalties determined by the IRS to be applicable, constitutes a voluntary disclosure for purposes of the 2011 OVDI.
Given the high stakes involved and the amount of time it can take to obtain the foreign financial records necessary to make a voluntary disclosure by the Aug. 31, 2011 deadline, U.S. taxpayers who would like to take advantage of the 2011 OVDI should get started immediately. We have assisted numerous individuals and companies in complying with their FBAR obligations and the tax and information reporting requirements associated therewith.
Please do not hesitate to contact any of us or any member of the McGuireWoods Tax Controversy Team if you would like additional information on your options for reporting a previously undisclosed foreign financial account.