McDermott’s 2006 On The Subject entitled “Foreign Financial Account Holders: Prepare to File” detailed the annual information reporting requirements for individuals and entities with a financial interest in or signatory or other authority over a foreign bank or financial account (FBAR). The FBAR reporting requirements apply to any such foreign accounts where the aggregate balance exceeds $10,000 at any time during the year. As previously noted, the FBAR requirements are broad in their reach and the penalties for non-compliance were significantly increased in 2004. In an effort to encourage voluntary compliance by non-filers, the Internal Revenue Service (IRS) adopted internal guidelines in July 2008 relating to the potential imposition of penalties. More recently, on March 23, 2009, the IRS announced a penalty initiative during the next six months for non-filers who voluntarily disclose non-compliance. These developments offer welcome relief to those non-filers who have been considering voluntary disclosure, but have been reluctant to proceed.
For an FBAR violation occurring after October 22, 2004, the maximum civil penalty for a willful violation is the greater of $100,000 or 50 percent of the account balance at the time of the violation. Non-willful violations can result in a penalty of as much as $10,000. Criminal violations can result in additional fines and/or five years imprisonment.
Considering the fact that the statute authorizes the assessment of the maximum penalty per violation—which could result in a separate penalty for each foreign account for which an FBAR report was not filed and for each year in which the failure to file occurred—the prior absence of any penalty guidelines likely discouraged many non-filers from voluntary disclosure, particularly for smaller accounts. To encourage non-filers to come forward, the IRS adopted FBAR penalty guidelines in July 2008, authorizing IRS examiners to exercise discretion in imposing reduced penalties for non-compliance. Although these guidelines are not binding on the IRS, they provide valuable insight into how the IRS is expected to proceed in many cases.
The IRS’s guidelines recognize that the purpose for imposing FBAR penalties is to “serve as a tool to promote compliance.” While there is no assurance, this statement suggests that the IRS may not intend to assess penalties for FBAR violations as a tool to raise revenues. With this compliance goal in mind, the guidelines establish suggested reduced penalties if certain threshold conditions are met. IRS examiners are also instructed to consider whether, in appropriate cases, a penalty below that suggested by the guidelines should be imposed, including the possibility that only a warning letter should be issued. Most important, the guidelines state that “given the magnitude of the maximum penalties permitted for each violation, the assertion of multiple penalties and the assertion of separate penalties for multiple violations with respect to a single FBAR form, should be considered only in the most egregious cases.”
Under the IRS’s FBAR penalty guidelines, if the failure to have previously filed the required reports is not “willful,” and the threshold conditions are met, the guidelines “suggest” penalties ranging from $5,000 to $15,000, depending on the balance in the particular account. The threshold conditions are as follows:
- The person does not have a history of past FBAR penalty assessments (and, for violations occurring after October 22, 2004, the person does not have a history of criminal tax or Bank Secrecy Act convictions).
- The money that passed through any of the foreign accounts associated with the person was not from an illegal source nor used to further a criminal purpose.
- The person cooperated during the examination (i.e., the IRS did not have to resort to a summons to obtain non-privileged information; the taxpayer responded to reasonable requests for documents, meetings and interviews; or the taxpayer back-filed correct reports).
- The IRS did not sustain a civil fraud penalty against the person for an underpayment of taxes for the year in question due to the failure to report income related to any amount in a foreign account.
If a “willful” non-filer meets these conditions, the guidelines suggest penalties ranging from 5 percent to 50 percent of the maximum balance in the particular account for the year in question.
On March 23, 2009, the IRS took another step designed to encourage voluntary disclosure by announcing a penalty initiative that is available during the next six months. Under this initiative, non-filers who make voluntary disclosures, and who make all delinquent filings (FBAR and other information returns), pay back-taxes and interest for six years, and pay an accuracy or delinquency penalty for all six years, will be eligible for a one-time penalty of 20 percent of the highest asset value in any unreported account at any time during the six-year period (as opposed to a penalty for each year in which an FBAR report was not filed). This penalty is reduced to 5 percent if the taxpayer did not open the account, there was no account activity while the taxpayer controlled the account, and all taxes on the account have been paid. This initiative expires on September 23, 2009.
These penalty initiatives are clearly designed to encourage voluntary disclosure by persons who have previously failed to comply with the FBAR reporting requirements by offering a measure of predictability as to the likelihood and amount of penalties. Any individual or entity that may have failed to comply with the FBAR reporting rules in the past, whether inadvertently or purposely, should seriously consider taking advantage of these penalty initiatives. However, before any such disclosure is made, all of the relevant facts relating to the non-compliance must be evaluated to determine the likely level of penalties that may be asserted under the IRS’s suggested guidelines, and/or the availability of the IRS’s six-month penalty initiative. A non-filer should proceed with a voluntary disclosure only after a thorough evaluation of all the facts and circumstances surrounding the foreign account, and a careful consideration of the alternative corrective measures that may be available under the particular circumstances.
Amendments to FBAR Filing Requirements
In addition to the penalty initiatives described above, a number of important changes were made to Form TD F 90-22.1 and the accompanying instructions for 2008. These instructions are particularly important in that, in the absence of regulations, they essentially set out the substantive FBAR reporting rules. These changes, which are highlighted below, are applicable to FBAR reports filed after December 31, 2008. For a more detailed discussion of the instructions, see McDermott’s On the Subject “Foreign Financial Account Holders: Prepare to File.”
Definition of Foreign Financial Accounts
The 2008 instructions to Form TD F 90-22.1 (Instructions) include a number of important revisions to the definition of a foreign “financial account.” First, the definition has been expanded to include debit card and prepaid credit card accounts maintained with a foreign financial institution or other person engaged in the business of a financial institution. Second, the Instructions make it clear that individual bonds, notes or stock certificates and an unsecured loan to a foreign trade or business that is not a financial institution, are not financial accounts. Last, the Instructions provide that correspondent or “nostro” accounts (international interbank transfer accounts) maintained by banks that are used solely for the purpose of bank-to-bank settlement are also not considered financial accounts for these purposes.
Persons Required to File
As a general rule, any “United States Person” having a financial interest in or authority over a foreign financial account is required to file the appropriate FBAR forms. A “United States Person” includes a citizen or resident of the United States. The Instructions extended the definition of a United States Person to now include any foreign person in and doing business in the United States. Among other ramifications, this change means that a U.S. branch of a foreign entity is now required to file the applicable FBAR reports.
A United States Person generally has a “financial interest” in each account for which such person is the owner of record or has legal title, regardless of whether the account is maintained for the person’s own benefit or for the benefit of others (including non-United States Persons). The Instructions now provide that the owner of record or holder of legal title includes a corporation in which the United States Person owns directly or indirectly more than 50 percent of the total value or more than 50 percent of the voting power for all shares of stock, and a partnership in which the United States Person owns an interest in more than 50 percent of the profits or more than 50 percent of the capital of the partnership.
In the case of trusts, the Instructions now provide that a person will be considered to have a financial interest in each bank, securities or other financial account in a foreign country for which the owner of record or the holder of legal title is a trust, or a person acting on behalf of a trust, if the trust was established by a United States Person and a trust protector has been appointed. For these purposes, a trust protector is a person who is responsible for monitoring the activities of a trustee, who has authority to influence the decisions of the trustee or to replace, or recommend the replacement of, the trustee.
The Instructions also modified the determination of whether a United States Person has “other authority” over a foreign bank or financial account. A person will now be considered to have “other authority” over such account if the person can exercise comparable power over the account by communication with the bank or other person with whom the account is maintained, either directly or through an agent, nominee, lawyer or in some other capacity, either orally or by some other means.
Finally, an important exception to the FBAR requirements has been expanded. As a general rule, corporate officials who are U.S. residents or citizens and who have or share signature authority over an employer’s foreign bank accounts are required to report such accounts unless the “CFO Letter” exception is available. The “CFO Letter” exception provides that no report is required to be filed by an officer or employee who has signature authority over any such account if the employer is a U.S. corporation whose equity securities are listed on a national securities exchange or that has assets exceeding $10 million and 500 or more shareholders, provided that the officer or employee has no personal financial interest in the account, the account is in the employer’s name, and the officer or employee has been advised in writing by the corporation’s chief financial officer (CFO) or similar officer that the parent corporation itself has filed a current FBAR report that includes the account. Previously, this exception was limited to officers and employees of a qualifying U.S. corporation or its U.S. subsidiaries. The Instructions now extend the availability of CFO letter exception to officers and employees of non-U.S. subsidiaries of a qualifying U.S. corporation.