IRS Offshore Voluntary Disclosure Program Offers Stark Choices for Taxpayers

Friday, November 07, 2014

The program has been available to anyone except those who are already under IRS audit, those whose unreported income came from illegal activity, those who are promoters of the use of offshore tax avoidance schemes and others whose names IRS already knows. The original 2009 version of the OVDP required a 20 percent penalty for the highest balance over the prior six years. Additionally, it demanded a 20 percent accuracy penalty on the tax due plus interest on the tax. There is a guarantee of no criminal prosecution if you are permitted entry into the program. [Source:]

This penalty scheme has been described as “take it or leave it" since the IRS has no authority to reduce or limit the penalties. The 2009 OVDP began on March 26, 2009 and ended on Oct. 15, 2009. The 2009 program was successful so the IRS started another Offshore Voluntary Disclosure Initiative on Feb. 20, 2011. This time the penalty was 25 percent for the highest balance over the prior eight years. That program ended Aug. 31, 2011.

Then came the 2012 OVDP program on Jan. 9, 2012. This time the penalty was 27.5 percent for the highest balance over the prior eight years. It is open ended with no specific end date. It can close at any time without warning. The 2012 OVDP was then modified on June 18, 2014 and clarified on Sept. 10, 2014 for filers commencing July 1, 2014. The program, as modified, is now known as the 2014 OVDP.

There are now two classes of filers: willful and non-willful. Willful filers are still subject to the 27.5 percent penalty, but that can go up to 50 percent if any account is at a foreign institution that has publicly agreed to provide account information to the U.S. authorities. All willful filers still receive the guaranty of no criminal prosecution if accepted into the program.

Streamlined Filing Option
There is also a streamlined option for non-willful taxpayers. They only pay 5 percent for the highest balance over the prior three years. Under the modified program, all tax, penalties and interest must be paid at the time of the submission.

The advantages of the streamlined program are the reduced FBAR (foreign bank account report) penalty and lack of a 20 percent accuracy penalty. The disadvantages are that the taxpayer gets no guarantee of avoiding criminal prosecution. If the taxpayer fails as a streamlined candidate, he or she is ineligible to enter into the regular OVDP.

How should you and your clients decide whether to try for the reduced penalty scheme for non-willful taxpayers? Ask your clients some hard questions: Did they intend to avoid or evade U.S. taxes? Could their actions seem like they had a purpose of avoiding or evading paying U.S. tax (for example, bringing the funds out of the U.S. or back to the U.S. using cash or “mules” rather than checks and wires)? Did they move funds from account to account? What is the size of the accounts and other tangible foreign assets? Were the funds ever reported as income? Were the funds from illicit activity? What was the income earned in the accounts? Did they file FBARs for some foreign accounts but not others? Did they provide a false answer to their tax return preparer regarding whether they had a foreign account? Are they in a profession that might be held to a higher standard, such as law enforcement or government?

A new harrowing decision must be made whether to seek to enter into the streamlined program and fail to enter the regular program, perhaps risking possible criminal prosecution in exchange for a lower penalty structure if accepted. There is no law to guide us on the streamlined question. There was one jury case, but it did not precedent. In United States v. Zwerner, Civ. No. 13¬22082 (S.D. Florida May 2014), the jury awarded the U.S. a 150 percent FBAR penalty (three years at 50 percent per year) against a Swiss bank customer who attempted a “quiet disclosure” rather than entering the 2009 OVDP.

How to File
For anyone with a foreign bank account, the annual FBAR filing due date is June 30 for the prior year. The FinCEN Form 114 from the Financial Crimes Enforcement Network is electronic and replaces the prior paper form known as TD F 90-22.1.

Since 2013 this is done electronically only. Presumably the IRS will cross-reference current filers against prior FBAR filings. Since 2011, in addition to the FBAR, detailed disclosures should be made of foreign accounts and other assets on Form 8938, and attached to Form 1040 every year. Without these filings, the statute of limitations does not commence.

To enter the OVDP or the streamlined version, taxpayers and their representatives should consult the extensive Q&As on the FAQ pages on explaining the procedures for requesting either OVDP treatment or streamlined treatment.

Still unsure whether your client should enter into the OVDP at all? If your client doesn’t file and is audited, IRS auditors are issuing pointed Information Document Requests and demanding that taxpayers appear for in-person interviews. Many are referred to the Criminal Investigation Division, where steep civil penalties of 50 percent per year are being imposed.

Why are foreign banks disclosing accounts to the U.S.? The Foreign Account Tax Compliance Act, also known as FATCA, requires foreign banks to enter into agreements to disclose their U.S. customers or face 30 percent gross withholding on every transaction they conduct in the U.S. Last year, the U.S. Department of Justice announced a “Bank Program” under which banks can enter into negotiations with the DOJ, disclose the extent of their business dealings with U.S. taxpayers, and obtain either a non-prosecution agreement (NPA) or non-target letter (NTL), thereby avoiding penalties of 20 to 50 percent of the highest balance in each account.

The banks can avoid paying penalties at all if the taxpayers either reported properly or have entered the OVDP. Many banks are entering into NPAs and NTLs.

In conclusion, the ultimate decision of whether to enter into either the OVDP or the streamlined OVDP is one that should be made only after a careful and full analysis of all of the factors. Legal counsel is a must, especially since there is potential criminality involved.