If you are a U.S. taxpayer and have assets in another country (or countries), are you required to disclose this to the IRS? The answer is a resounding YES. Not only are you required to let the IRS know about it, but with 2010’s and the Foreign Account Tax Compliance Act (FATCA), foreign banks and financial institutions are now required to report accounts of U.S. taxpayers at their institutions to the IRS. Financial institutions that do not cooperate are forced to withhold 30% of the account as a tax and could be shut out of U.S. markets. Not surprisingly, the response has been overwhelmingly on the side of disclosure.
In addition to the squeeze of FATCA, the IRS has also established the Offshore Voluntary Disclosure Program (OVPD) to allow errant taxpayers with investments, assets, or monies over $10,000 within the last six years to come clean with the IRS provided they fork over 27.5% of the accounts at their highest during any calendar year as a penalty. While the 27.5% represents a small cut of what might be required in the case of tax evasion penalties, incarceration, and headaches, it is still a sizeable piece of your foreign pie.
Often- times, we are asked if there are viable – and legal – alternatives to participation in the OVDP and it’s punishing 27.5% non-negotiable penalty. The answer is a murky yes and no. As with most tax questions, the answer will be intensely fact-specific, but here are some potential alternative options that are worth investigating.
1) Streamlined filing: Recognizing that there may be some taxpayers whose failure to disclose offshore accounts was a not a willful act, the IRS does allow taxpayers who qualify to pay a 5% penalty rather than the 27.5%. However, to be eligible, the taxpayer must prove to the satisfaction of the IRS that their failure to disclose the offshore assets was inadvertent or negligent and not done for the purpose of evading taxes.
This can be a steep hill to climb, particularly since the Form 1040 makes it fairly clear of the obligation to disclose. Specifically, it requires taxpayers who answer “yes” to the question of whether they have a financial interest in a foreign country to also answer whether they are required to file the disclosure form, Report of Foreign Bank and Financial Accounts (FBAR). Nevertheless, there were enough taxpayers getting caught up in the 27.5% penalty who legitimately claimed inadvertent non-disclosure that the IRS enacted streamlined filing.
The biggest risk of streamlined filing is that the IRS disagrees with your claim of inadvertent non-disclosure, and in the worst case scenario, comes after you for criminal tax evasion.
2) Quiet disclosure: This is where you simply file retroactive FBAR forms and amend your 1040 tax returns and cross your fingers and wait for the statute of limitations to end. This presupposes that the failure to report the foreign financial accounts was based on reasonable cause. While this certainly sounds incredibly attractive, it is a minefield of potential liability for most taxpayers with the possible exception of those whose foreign income was so minimum or minor, or had so many losses, that the IRS did not lose any tax proceeds from the non-disclosure. Of course, if the failure to report was based on reasonable cause, this may be a reasonable route.
Even then, there is the potential pitfall for these quiet disclosure filers in the form of potential prosecution for filing a false form – as in, they failed to the file a required FBAR. Failure to file the FBAR can result in civil penalties of up to 50% the value of the accounts per year for up to 6 years or $100,000 per year whichever is greater and criminal prosecution.
Again, tax law issues are incredibly fact- specific, so the first call you should make whenever you have questions about tax law should be to the attorneys at Weisberg Kainen Mark, PL who know tax law. They can help you every step of the way to stay in compliance while minimizing your tax burden. Contact us today to get started.