Recently the U.S. Internal Revenue Service (“IRS”) announced substantial changes to its Offshore Voluntary Disclosure Program, or OVDP, which encourages U.S. taxpayers to disclose to the IRS previously undisclosed foreign bank accounts. The OVDP allows them to pay smaller civil fines and avoid criminal liability to which they would otherwise be subject if the IRS were to discover such accounts in an audit. In addition, the IRS expanded its separate “streamlined” disclosure procedure—which provides for greatly reduced civil penalties—to U.S. citizen- residents who certify to the IRS’s satisfaction that their failure to report foreign bank accounts and foreign income was non-willful.
U.S. taxpayers (U.S. citizens and resident aliens) must disclose and pay taxes on their worldwide income, including income earned from foreign sources. Additionally, U.S. taxpayers must disclose any foreign-held bank accounts with a balance exceeding $10,000 on a Report of Foreign Bank and Financial Accounts (“FBAR”).
In 2009, the IRS began the OVDP to allow non- compliant U.S. taxpayers to come into compliance and pay a reduced FBAR penalty while avoiding criminal liability. Since 2009, the OVDP has been updated three times. With each new iteration of the OVDP, the IRS has increased the FBAR penalties, presumably to encourage taxpayers to come into compliance sooner rather than later. Importantly, the duration of each version of the OVDP is subject to IRS discretion, and the IRS can modify, expand, or eliminate the OVDP at any time.
The 2014 OVDP
Effective on July 1, 2014, the 2014 OVDP requires U.S. taxpayers to file amended returns and pay all outstanding taxes, with interest, for the past eight tax years. Additionally, participants must pay the following nonnegotiable penalties:
1. Miscellaneous (FBAR) offshore penalty a one- time penalty that is calculated as a percentage of the highest aggregate balance in all foreign bank accounts, and/or the value of foreign assets during the period covered by the voluntary disclosure:
- Before August 4, 2014, all participants are subject to a 27.5% penalty.
- On or after August 4, 2014, if the participant’s current or former foreign financial institution has been publicly identified as being under investigation or as cooperating with a U.S. government investigation prior to a U.S. taxpayer filing an OVDP pre-clearance letter with the IRS, the penalty is increased to 50% for all accounts.
- After August 4, 2014, if the foreign financial institution is not publicly identified, the penalty rate remains at 27.5%.
2. 20% accuracy (income tax) penalty on the full amount of offshore-related underpayment of tax for each of the eight tax years subject to the disclosure.
The 2014 OVDP requires participants to pay the FBAR penalty at the time of the OVDP submission and to disclose all offshore accounts, regardless of the dollar balance for the year in question.
Once taxpayers are accepted into the OVDP, they are shielded from criminal liability for prior noncompliance.
2014 Streamlined Procedures
The IRS has developed a separate Streamlined Procedure for taxpayers who can certify to the IRS’s satisfaction that their non-compliance was due to non-willful conduct. Previous versions of the Streamlined Procedures only applied to U.S. citizens who were non-U.S. residents, but the expanded 2014 Streamlined Procedure is now available to U.S. citizens who are U.S. residents.
To participate taxpayers must:
- file amended returns for each of the most recent three years with all required information returns;
- file FBARs for each of the most recent six years for which the FBAR due date has passed; and
- pay a miscellaneous offshore penalty (U.S. residents only), along with any unpaid tax, interest, and miscellaneous fees, at the time of filing.
U.S. taxpayers who are U.S. residents must pay a 5% penalty calculated as a percentage of their highest aggregate balance in foreign bank accounts/entities or the value of foreign assets during the six-year period covered by the voluntary disclosure. U.S. taxpayers who are not U.S. residents do not have to pay the 5% penalty.
As noted above, U.S. citizen resident and nonresident taxpayers must certify under penalty of perjury that their reporting failures were the result of non-willful conduct, which is defined as conduct that is due to negligence, inadvertence, mistake, or that results from a good faith misunderstanding of the law’s requirements.