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.
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