Still Have an Undisclosed Foreign Account? IRS Rattles Its Saber and Sweetens the Pot for Taxpayers to Come Clean

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Written by Amy Walsh

Touting the $5 billion in tax revenue generated by its offshore voluntary disclosure programs, the IRS recently provided details on its 2012 program and announced a new expat program that enables “low risk” U.S. taxpayers living abroad to file delinquent tax returns and report their foreign bank accounts with minimal penalties.

2012 Offshore Voluntary Disclosure Initiative (“2012 OVDI”)

The 2012 OVDI is substantially similar to the IRS’s 2009 and 2011 offshore programs, although with some noteworthy differences. As with the prior programs, in order to be eligible for the program, there are four requirements that must be met: (1) the voluntary disclosure has to be “timely” (in other words, the taxpayer must submit his or her name to the IRS before the IRS opens an investigation or audit of the taxpayer); (2) the money in the foreign account must be from a legal source; (3) the voluntary disclosure must be accurate, truthful and complete (meaning that the taxpayer has to answer whatever questions the IRS had about the account, the bankers that the taxpayers met with, or other aspects of the taxpayer’s returns); and (4) the taxpayer must pay the tax, interest and penalties assessed.

Like the prior programs, the 2012 OVDI provides three basic benefits to taxpayers who qualify: (1) the IRS agrees not to refer the taxpayer to the Department of Justice for criminal prosecution (which in all practicality means that the taxpayer will not be prosecuted); (2) the IRS agrees to go back only to 2003 when assessing tax, interest and penalties; and (3) the IRS agrees to cap the penalties associated with the failure to disclose the accounts.

The major differences between the 2012 OVDI and the prior programs are the following, most of which is the IRS rattling its saber:   

- There is no deadline for applying, but the terms of the OVDI can change at any time.

- If a taxpayer appeals the decision of a foreign tax administrator (for example, the Swiss Federal Tax Administration) to disclose the taxpayer’s information to the IRS, and the taxpayer does not notify the government of the appeal as required by 18 U.S.C. § 3506, that taxpayer will be ineligible for the OVDI. 

- The IRS also warns that at any point, the IRS can declare that all taxpayers that have accounts at “XYZ” bank are ineligible for the OVDI if the IRS has taken action against “XYZ” bank (for example, if the U.S. government indicts or enters into a deferred prosecution with “XYZ” bank). 

- Once a taxpayer is accepted into the OVDI, the penalty for failing to file FBARs (the so-called “miscellaneous penalty”) is now 27.5% of the highest annual aggregate balance of the taxpayer’s foreign accounts since 2003.  This penalty is up from the previous 20% in the 2009 OVDP, and 25% from the 2011 OVDI. However, the 2012 OVDI retains the exceptions to the FBAR penalty that were introduced in the 2011 OVDI, namely, only a 5% penalty in some cases involving inherited accounts or expat accounts, and only a 12% penalty if the aggregate annual balance in the accounts was less than $75,000.

- There are new OVDI provisions relating to Canadian registered retirement plans that enable a taxpayer participating in the OVDI to exclude his or her Canadian retirement plan account from the miscellaneous penalty.

The question remains – and the continual tension for the IRS – is whether increasing the penalties, and threatening to make entire swaths of taxpayers immediately ineligible will increase or decrease the number of taxpayers who are motivated to come into the program. The IRS does not want to put later entrants to the program in a better (or even the same) position as the taxpayers who came in earlier, but the IRS also must sufficiently motivate taxpayers to come in.

Expat Program – A New Method of Sweetening the Pot

For U.S. taxpayers who are living abroad and have not filed U.S. tax returns, the IRS has formulated a mechanism to do so, which becomes effective September 1, 2012. Specifically, expats who are delinquent in filing their tax returns and reports of foreign bank accounts (“FBARs”) can avoid penalties and further examination by filing their delinquent tax returns and information returns for the past three years, and their delinquent FBAR returns for the past six years.

Here’s the catch: the IRS’s promise not to assess penalties applies only to expat taxpayers who present “low compliance risk.” According to the IRS, “low risk” means taxpayers who file “simple returns with “little or no U.S. tax due.” Even more specifically, according to the IRS, “absent high risk factors, if the submitted returns and application show less than $1,500 tax due in each of the years, [the taxpayers] will be treated as low risk.” See IRS, “New Filing Compliance Procedures for Non-Resident U.S. Taxpayers” at http://www.irs.gov/businesses/small/international/article/0,,id=256772,00.html.

Taxpayers who submit returns that present higher compliance risk will not be eligible for the program, and will be subject to a full examination, which may include more than three years. According to the IRS, the risk of a full examination will increase “as the income and assets of the taxpayer rise, if there are indications of sophisticated tax planning or avoidance, if there is material economic activity in the United States,” any history of tax non-compliance, and the amount and type of U.S. source income. Moreover, unlike the OVDI, this new expat program provides no protection against criminal prosecution. 

This program is clearly not for taxpayers who have any risk of criminal prosecution, who have engaged in any kind of sophisticated tax planning, or who have substantial economic activity in the U.S. Except for the expat taxpayer who has extremely simple tax returns, application to this program runs an enormous risk of submitting a confession that will be used in a criminal investigation, and short of that, in a full-blown audit. As with any decision to engage with the IRS, it is critical for a taxpayer to consult with a tax advisor before deciding to take the plunge and apply to this program.

Amy Walsh is a partner at Kostelanetz & Fink LLP.  Ms. Walsh was formerly an Assistant United States Attorney in the Eastern District of New York for 11 years, where she was the Chief of the Business & Securities Fraud Section.

Dodd-Frank Whistleblower: What Independent Auditors Need to Know

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Written by Amy Walsh

The SEC in May issued its final rules implementing the new whistleblower program of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (PL 111-203), which became effective on August 12, 2011. Whistleblowers with information about violations of the securities laws can now potentially collect between 10% and 30% of the money recovered by the SEC in a successful enforcement action.

Under certain potentially broad circumstances, independent auditors can be eligible to become Dodd-Frank whistleblowers, based on information they learn about their clients during the audit engagement. In addition, employees of an accounting firm performing an audit for a public company can become whistleblowers against the accounting firm if that firm fails to comply with its obligations under the securities laws to report unlawful conduct occurring at the public company being audited. (For the text of the final rules and the SEC’s description of them, see tinyurl.com/3l8dx9w.)

Key Definitions

Dodd-Frank provides that to be eligible for a whistleblower award: (1) an individual must be a “whistleblower” as that term is defined below; (2) the individual must “voluntarily” provide the SEC with “original information”; (3) the original information must lead to a successful enforcement action by the SEC; and (4) the successful enforcement action must result in monetary sanctions of more than $1 million arising out of the same core facts (section 21F of the Securities Exchange Act of 1934 (15 USC 78a et seq.), added by Dodd-Frank). The SEC rules further define the terms used in the Dodd-Frank statutory language.

First, a whistleblower is someone who, alone or jointly with others, provides information to the SEC relating to a possible violation of the federal securities laws that has occurred, is ongoing or is about to occur (Rule 21F-2(a)).

Information is provided voluntarily if the whistleblower makes his or her submission before a request, inquiry or demand regarding the same matter is directed to the whistleblower (or his or her representative) by the SEC, the Public Company Accounting Oversight Board (PCAOB) or any self-regulatory organization (SRO); Congress; any other federal authority; or a state attorney general or securities regulatory authority (Rule 21F-4(a)). Examples of SROs are given at Rule 21F-4(h). They include any national securities exchange, registered securities association or registered clearing agency; the Municipal Securities Rulemaking Board; and any other organization defined as an SRO under section 3(a)(26) of the Exchange Act (15 USC § 78c(a)(26)). In essence, the whistleblower must get to the government before the government gets to the whistleblower.

Information is original if it is derived from the whistleblower’s independent knowledge or independent analysis that is not already known to the SEC from any other source and is not exclusively derived from an allegation made in a judicial or administrative hearing; a governmental report, hearing, audit or investigation; or a report from the news media (Rule 21F-4(b)). In addition, original information includes only information that is initially submitted after July 21, 2010, the date Dodd-Frank was enacted.

The rules also cover how a whistleblower submission may be made and what kinds of information are required, criteria for setting the amount of a whistleblower award, confidentiality of submissions, anti-retaliation protections, appeal procedures and other aspects that are beyond the scope of this article.  The nuts and bolts of the whistleblower submission process can be found on the SEC’s new webpage at www.sec.gov/whistleblower, which was launched simultaneous with the final rules becoming effective on August 12, 2011.

Exclusion of Independent Auditors of Public Companies

Except to the extent and under circumstances described below, the rules prohibit an award to an accountant who gains information during “an audit of financial statements required under the securities laws and for whom such submission would be contrary to the requirements of Section 10A of the Securities Exchange Act,” that is, an accountant who gains information about wrongdoing during the audit of a public company (Rule 21F-8(c)(4) (eligibility for award)).

Section 10A of the Securities Exchange Act provides that if an auditor of a public company becomes aware of information indicating that an illegal act has or may have occurred, the auditor must: (1) investigate the financial materiality of the illegal act and inform management and the company’s audit committee; (2) if the company fails to take appropriate remedial action, the auditor must report its conclusions to the company’s board of directors, which is then obligated to inform the SEC within one business day; and (3) if the board of directors fails to inform the SEC within the required period, the auditor must report its conclusions directly to the SEC (see 15 USC § 78j-1(b)). Accordingly, this rule prevents an auditor who is already obligated to report information to the SEC from personally profiting from reporting that same information as a whistleblower.

Rule 21F-8(c)(6)(i) further bars from being a whistleblower any second party who acquires the information from a person subject to the above rule, unless the information involves a violation by the auditor. In other words, if an auditor, as part of an SEC-required engagement, learns about wrongdoing by the client and tells someone else about it, that person generally can’t blow the whistle. But if the second person believes that the auditor was involved in the wrongdoing, then he or she can blow the whistle.

Rule 21F-8(c) also contains other categorical disqualifications, such as for members, officers or employees of the SEC, Department of Justice, PCAOB, foreign governments and certain other agencies and organizations. Law enforcement employees and officials also are ineligible.

Limited Eligibility for Auditors of Public Companies

However, for accountants and accounting firms, perhaps the most important aspect of the whistleblower rules is the fact that an employee of (or any person associated with) an independent auditor of a public company can make a whistleblower submission alleging that the auditor failed to assess, investigate or report wrongdoing in accordance with Section 10A, or that the auditor failed to follow other professional standards (SEC Release no. 34-64545, pages 140-141).

Moreover, if the whistleblower makes such a 10A submission, the whistleblower will be able to obtain an award not only from a successful enforcement action against the auditing firm, but also from any successful enforcement action against the firm’s engagement client (Release no. 34-64545, page 141).

In allowing such claims, the goal of the SEC is to “help insure that wrongdoing by the [accounting] firm (or its employees) is reported in a timely fashion” (Release no. 34-64545, page 141). According to the SEC, this goal is paramount “because of the important gatekeeper role that auditors play in the securities markets.”

Independent Auditors of Broker-Dealers and Investment Advisers

Another hurdle also prevents independent auditors in most circumstances from making a whistleblower submission directly to the SEC in most instances. Rule 21F-4(b)(4)(iii)(D) excludes from the definition of “independent knowledge and analysis” information that was: (1) learned by employees of, or anyone associated with, a public accounting firm; (2) in connection with an audit or other engagement required under the federal securities laws; and (3) if that information relates to a violation by the engagement client or the client’s directors, officers or other employees.

However, according to the SEC, this exclusion applies only to engagements required under federal securities laws where such engagements are not covered by the rule relating to auditors of public companies, such as audits of broker-dealers and investment advisers (Release no. 34-64545, pages 72-73; Rule 21F-4(b)(4)(iii)(D) also states it applies to engagements other than an audit subject to the rule pertaining to public company audits described above). Thus, subject to the exceptions listed below, an accountant performing an annual audit for a broker-dealer cannot run to the SEC as a whistleblower when the accountant’s information about the alleged securities law violation was gained during the course of the audit engagement.

Limited Eligibility for Auditors of Broker-Dealers or Investment Advisers

An auditor of a broker-dealer or investment adviser can become a whistleblower if any one of the following circumstances applies: (1) there is a reasonable basis to believe that the disclosure of the information to the SEC is necessary to prevent the entity from engaging in conduct that is likely to cause substantial injury to the entity or investors; (2) there is a reasonable basis to believe that the entity is engaging in conduct that will impede an investigation of misconduct (for example, destroying documents, improperly influencing witnesses or engaging in other improper conduct that may hinder the investigation); or (3) 120 days have elapsed from when the independent auditor provided information about a possible violation through the entity’s internal reporting system, or provided the information to the auditor’s supervisor (or 120 days have elapsed since the auditor received the information, if circumstances indicate officers of the entity or the auditor’s supervisor were already aware of it) (Rule 21F-4(b)(4)(v)).

Although these standards present the challenge of interpreting the terms “reasonable basis to believe” and “substantial injury,” certain circumstances will stand out as clearly falling within the exceptions. For example, an auditor who has reason to believe that his or her client is engaging in a Ponzi scheme should seriously contemplate becoming a Dodd-Frank whistleblower. Or, an auditor who becomes aware that an engagement client is destroying documents during an SEC examination should similarly consider reporting that information as a whistleblower.

Other Implications for CPAs

Although the final Dodd-Frank rules appear at first blush to exclude independent auditors from becoming whistleblowers, the exceptions may swallow the rules of exclusion. From the perspective of the individual accountant performing SEC-related auditing services, certain circumstances may warrant serious consideration of whether to become a Dodd-Frank whistleblower. CPAs should consult the AICPA Code of Professional Conduct and Bylaws, as well as rules and regulations of their state boards of accountancy, since such rules may prohibit certain disclosures of confidential client and employer information.

From the perspective of the accounting firms, it will become critical to enhance internal compliance functions in order to reduce the risk that an accountant-employee will decide to provide information directly to the SEC, rather than try to resolve the issue internally, using established compliance mechanisms. The SEC has now paved the way for auditors to become Dodd-Frank whistleblowers, but only time will tell how expansive a role auditor-whistleblowers will play in the SEC’s rekindled efforts to enforce the securities laws.

Circumstances within a Company That Can Silence the Whistle

In addition to independent auditors, other roles commonly engaged in by CPAs within companies may prohibit them in most instances from becoming Dodd-Frank whistleblowers. Just as knowledge of wrongdoing gained from an independent audit may not be considered independent knowledge and analysis and therefore not “original information” eligible for an award, so too the SEC will not consider information to be independent and original if obtained because the would-be whistleblower is an employee whose principal duties involve compliance or internal audit responsibilities within an entity that is the subject of the information, or is associated with a firm retained to perform those functions (Rule 21F-4(b)(4)(iii)(B)).

Another exclusion applies to officers, directors, trustees or partners of an entity who learn about a possible violation from another person or in connection with the entity’s processes for identifying, reporting and addressing potential violations (Rule 21F-4(b)(4)(iii)(A)). A person employed by or associated with a firm retained to inquire into or investigate a possible violation is not eligible. However, in all these instances, the same limited eligibility applies as described above for engagements of broker-dealers: a reasonable belief of necessity to prevent substantial injury to the entity or investors or to prevent impeding an investigation into misconduct.   

Amy Walsh, Esq., ( This email address is being protected from spambots. You need JavaScript enabled to view it. ) is a partner at the New York law firm of Kostelanetz & Fink LLP. She represents clients in connection with government investigations of fraud, including tax fraud and securities fraud. Previously, for 11 years, she was an assistant United States attorney in the Eastern District of New York, where she was the chief of the Business & Securities Fraud Section. She is a contributor to the guide Tax Controversies: Audits, Investigations, Trials (Matthew Bender, 1980, 29th rev., 2010), and has written and spoken extensively on white-collar crime and the Dodd-Frank Act financial reforms. Stephanie Atkinson, an associate at Kostelanetz & Fink LLP, assisted in the preparation of this article.

United States Continues Its Siege Against Swiss Banks

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Written by Amy Walsh

On February 2, 2012, the United States government made an unprecedented move in its unrelenting investigation of the world of secret Swiss banking: it indicted a foreign bank with no branches in the United States for helping Americans evade taxes. Specifically, a federal grand jury sitting in Manhattan indicted Wegelin & Co. -- the oldest private bank in Switzerland – for conspiring with U.S. taxpayers and client advisors employed by Wegelin to defraud the IRS by concealing the U.S. taxpayers’ accounts at Wegelin. In addition, U.S. authorities seized $16.2 million of funds from a correspondent account that Wegelin held at UBS.

This development is a major event in the government’s ongoing investigation of the role of Swiss banks in U.S. tax evasion – an investigation that began approximately four years ago when the government focused its sights on UBS. In 2009, unable to withstand the pressure that the U.S. government brought to bear, UBS publicly admitted to conspiring to defraud the U.S. government of billions of dollars in taxes by helping wealthy Americans hide their money in secret Swiss accounts. In exchange for not being indicted, UBS agreed to turn over to the U.S. government the names of approximately 4,000 American account holders and paid a fine of $780 million.

Based on the government’s allegations, the end of secret Swiss banking for Americans at UBS was only the beginning of the story for Wegelin. The indictment alleges that after UBS and another large Swiss bank closed their business servicing undeclared U.S. accounts, Wegelin affirmatively decided to capture the illegal cross border business that UBS was giving up. According to the indictment, one Wegelin executive told the Wegelin private bankers that Wegelin was not exposed to the risk of prosecution that UBS faced in the United States because Wegelin was smaller than UBS. The indictment alleges that the executive also told the private bankers that Wegelin could charge high fees to its new U.S. clients because those clients were afraid of criminal prosecution in the United States. According to the allegations, the Wegelin private bankers, who were also indicted, told their U.S. taxpayer-clients that their undeclared accounts at Wegelin would not be revealed to the U.S. government because unlike UBS, Wegelin would not be vulnerable to U.S. law enforcement pressure since it did not have offices outside Switzerland. The charges allege that in order to hide the identity of the true beneficiary of the Swiss account, Wegelin opened accounts in the names of sham corporations and foundations formed under the laws of Panama, Hong Kong and Lichtenstein. In addition, according to the indictment, Wegelin helped their American clients repatriate undeclared money to the U.S. by issuing checks drawn on, and executing wire transfers through, Wegelin’s correspondent bank account at UBS in Stamford, Connecticut.

From a practitioner’s point of view, one of the most alarming allegations in the indictment is that one of the Wegelin private bankers advised his American clients, whose names were at risk to being turned over to the U.S. by UBS, not to make a voluntary disclosure to the IRS and assured the clients that their account information would remain secret from the U.S. government. This alleged advice must have been one of the more egregious factors for the U.S. government in weighing whether to indict a Swiss bank –  i.e., the fact that a Swiss banker not only assisted a U.S. taxpayer in hiding a Swiss bank account, but also advised the U.S. taxpayer not to even explore (perhaps with the benefit of U.S. tax counsel) the option of making a voluntary disclosure to the IRS.

The fact is that the IRS – even after having obtained names from UBS and having indicted the oldest Swiss private bank – is still accepting taxpayers into its offshore voluntary disclosure program. Recognizing that there are still many taxpayers who want to become compliant, the IRS re-opened its Offshore Voluntary Disclosure Initiative (OVDI) which had ended on September 9, 2011. Taxpayers who are not already under investigation or audit, and who make a complete and truthful voluntary disclosure to the IRS about all their foreign accounts, can eliminate the risk of criminal prosecution, as long as they pay the unpaid tax, interest, a 20% accuracy related penalty on the unpaid tax, and a one-time 27.5% penalty on the highest aggregate balance of the taxpayers foreign accounts and any other tax non-compliant foreign assets held between 2003 and the present. Moreover, there are reduced penalties for taxpayers who are foreign residents or who inherited the foreign account, if they meet certain criteria spelled out by the IRS.

The lessons learned from the Wegelin indictment are two-fold. From a banking entity’s perspective, when the U.S. government seeks cooperation from a bank and meets resistance, it will exert as much pressure as it can under the law, which includes bringing an indictment, seizing and forfeiting assets, and broadcasting these events in order to persuade other similarly situated entities to comply with U.S. demands for cooperation. From an individual taxpayer’s perspective, the doors to the OVDI are still open and there is no announced deadline to join. However, taxpayers must not delay in consulting with tax professionals to make an informed decision because several foreign banks are currently under investigation, and it will only be a matter of time before they buckle under U.S. governmental pressure to turn over the names of their clients.  In addition, the Swiss Parliament recently amended its tax treaty to make it easier for U.S. authorities to obtain information about undeclared foreign account holders. Finally, the Foreign Account Tax Compliance Act (FATCA), which was passed in 2010, will be implemented by January 2012. FATCA requires foreign financial institutions to enhance their efforts in identifying U.S. taxpayers and report certain information to the IRS to insure compliance with U.S. tax laws. For an individual with an interest in an undisclosed foreign account, the OVDI provides a relatively straightforward way to eliminate the risk of criminal prosecution, to simplify the use of the account, and to clean up reporting issues going forward.

Amy Walsh is a partner at Kostelanetz & Fink LLP.  Ms. Walsh was formerly an Assistant United States Attorney in the Eastern District of New York for 11 years, where she was the Chief of the Business & Securities Fraud Section.