Voluntary Disclosure
ProgramThe IRS has announced the 2011 Offshore Voluntary Disclosure Initiative that runs through Aug. 31, 2011. The Voluntary Disclosure is a longstanding practice of IRS Criminal Investigation of taking timely, accurate, and complete voluntary disclosures from taxpayers who have failed to report or underreported their tax liability. The IRS states that it will take a Voluntary Disclosure into account in deciding whether to recommend to the Department of Justice that a taxpayer be criminally prosecuted. It enables noncompliant taxpayers to resolve their tax liabilities and minimize their chances of criminal prosecution.
It is currently the practice of the IRS that a voluntary disclosure will be considered along with all other factors in the investigation in determining whether criminal prosecution will be recommended. This Voluntary Disclosure practice creates no substantive or procedural rights for taxpayers, but rather is a matter of internal IRS practice, provided solely for guidance to IRS personnel. Taxpayers cannot rely on the fact that other similarly situated taxpayers may not have been recommended for criminal prosecution.
What is a Voluntary Disclosure?
A Voluntary Disclosure is acceptable when the communication is truthful, timely, and complete. It requires that taxpayers file 8 years of previous tax returns to reflect previously unreported foreign income. Additionally, the taxpayer must show a willingness to cooperate with the IRS in determining his or her correct tax liability; and, the taxpayer must make a good faith arrangement with the IRS to pay in full the tax, interest, and any penalties determined by the IRS to be applicable.
The IRS agrees not to charge the taxpayer criminally and to forego some of the penalties for fraud and failure to file.
The IRS Objective
The IRS stated objective for the Voluntary Disclosure Practice to bring taxpayers who have avoided or evaded paying their taxes into compliance with United States tax laws.
The FBAR and the Voluntary Disclosure
The Foreign Bank and Financial Accounts (FBAR) is required for taxpayers who have a financial interest in or signature authority over a foreign financial account, including a bank account, brokerage account, mutual fund, trust, or other type of foreign financial account. Many taxpayers have failed to file an FBAR to report their foreign account, believing that the IRS had no way to discover the foreign-held assets. Recently, however, the IRS has made great strides to discover these accounts and pursue taxpayers who have failed to report.
Recent IRS Efforts to Identify Tax Evaders and Foreign Accounts
According to IRS Commissioner Doug Shulman, IRS agents are poring over information contained in the over 14,700 voluntary disclosures and are seeking to identify individuals who have not disclosed their offshore accounts as well as financial institutions, attorneys, CPAs, investment advisors and others who promoted or otherwise facilitated U.S. persons hiding assets and income offshore.
The IRS has announced plans to increase audits and investigation of U.S. individuals and business taxpayers with foreign-sourced income, foreign accounts, and foreign trusts. In order to carry-out their announced plans, the IRS has hired as many as 800 new employees to focus solely on compliance issues.
The IRS has also obtained (through the UBS case and the Offshore Settlement Initiative) information on banks in 70 countries that may have assisted U.S. taxpayers in hiding assets and income.
Additionally, Liechtenstein and Switzerland have reversed decades of resistance and have agreed to enter into Tax Information Exchange Agreements in line with the model agreement developed by the Organization for Economic Cooperation and Development (OECD). Both countries have already initiated such agreements with the United States and other countries.
Civil Penalties
The civil liabilities for not filing an FBAR potentially include:
- Up to $10,000 for each Negligent Failure to File;
- $50,000 for a Pattern of Negligent Activity;
- The greater of $100,000 or 50% of the amount in the account at the time of violation for each Willful Failure to File;
- Penalties for Willful Failure to keep records of the account;
- 75% of the tax due for Civil Fraud Penalty for Willful Failure to Report income;
- 20% of the tax due for Accuracy Related Penalty for Negligent Failure to Report;
- Penalties for failure to file a Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts;
- 35% of amount transferred or received for a transfer to or from a foreign trust;
- 5% - 25% of the value of a gift received from a foreign person, estate, corporation, or partnership;
- Penalty for failing to file Form 3520-A, Information Return of Foreign Trust With a U.S. Owner - 5% of gross trust assets for ownership of a foreign trust under the grantor trust rules;
- Penalty for failing to file Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations - $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return;
- 10% of the value of property transferred to a foreign corporation up to $100,000 per return;
- $10,000 - $50,000 for failure to file foreign corporation information returns;
- Interest.
Criminal Penalties
Possible criminal charges related to tax returns include:
- 5 years of prison and fine up to $250,000 for Tax Evasion (26 U.S.C. § 7201);
- 3 years of prison and fine up to $250,000 for filing a false return (26 U.S.C. § 7206(1);
- 1 years of prison and fine up to $100,000 for failure to file an income tax return (26 U.S.C. § 7203);
- 10 years of prison and fine up to $500,000 for failure to file an FBAR or the filing of a false FBAR (31 U.S.C. § 5322).
Penalty Reduction with the 2011 Offshore Voluntary Disclosure Initiative
The benefit of doing a Voluntary Disclosure is the reduction in penalties. The IRS agrees not to pursue any of the above-mentioned criminal penalties. The following civil penalties will apply:
- All taxes and interest for the past 6 tax years;
- 20% accuracy-related penalty under IRC§6662(a) on the full amount of underpayments of tax for all years;;
- An additional penalty in lieu of the other penalties discussed above of 25% of the highest aggregate balance in the account during the preceding 6 years.
- 12.5% for smaller offshore accounts where assets did not surpass $75,000 in any calendar year covered by the 2011 initiative (including the fair market value of assets in undisclosed offshore entities and the fair market value of any foreign assets that were either acquired with improperly untaxed funds or produced improperly untaxed income);
- In some circumstances, this penalty may be reduced to 5%;
- Taxpayers who are foreign residents and who were unaware they were U.S. citizens, or;
- Taxpayers who meet all four of the following conditions:
- (a) did not open or cause the account to be opened
- (b) have exercised minimal, infrequent contact with the account,
- (c) have, except for a withdrawal closing the account and transferring the funds to an account in the United States not withdrawn more than $1,000 from the account in any year covered by the voluntary disclosure; and
- (d) can establish that all applicable U.S. taxes have been paid on funds deposited to the account;
- Failure to file penalties under IRC§ 6651(a)(1), if applicable;
- failure to pay penalties under IRC§ 6651(a)(2), if applicable;
Have an Expert Guide You
Given the enormity of the civil and criminal penalties for those who do not file a Voluntary Disclosure, and the effort the IRS is devoting to find those who have not reported, the Voluntary Disclosure Practice is an appealing option. However, it is critical that a taxpayer who wishes to investigate the possible implications of utilizing the Voluntary Disclosure practice seek the expertise of a knowledgeable tax attorney to consult and guide them through the process of making a voluntary disclosure that will meet the IRS requirements and be in the taxpayer's best interest.