The Internal Revenue Service has announced a new initiative designed to encourage taxpayers with undisclosed offshore bank and investment accounts to make voluntary disclosure of those accounts and to bring themselves into compliance with U.S. tax laws. This new initiative — called the 2011 Offshore Voluntary Disclosure Initiative — is the second such initiative and follows the 2009 Offshore Voluntary Disclosure Program.
The overall structure of the 2011 initiative is similar to the 2009 program but with a slightly higher penalty structure, so that taxpayers who did not participate in the 2009 program will not be rewarded for having failed to participate in that program. However, the 2011 initiative does allow for a reduced penalty rate in certain situations, including those involving smaller offshore accounts.
The 2011 initiative is applicable to any individual, corporation, partnership, trust or other entity that is obligated to report and pay tax on income earned on financial accounts maintained in foreign countries, either directly or through foreign entities. The term “financial account” is broadly defined and includes most bank, brokerage and investment accounts.
The 2011 initiative covers taxpayers who have not previously reported offshore accounts for the years 2003 through 2010. As with the 2009 program, the 2011 initiative provides taxpayers with the opportunity to resolve their tax liabilities pursuant to a penalty schedule that will be less costly than if the taxpayer were examined by the IRS and required to pay all of the statutory penalties that could otherwise be applicable. In addition, by making voluntary disclosure pursuant to the 2011 initiative, the IRS will generally not recommend criminal prosecution to the Department of Justice arising from the prior failure to disclose or pay taxes.
To obtain the benefits of the 2011 initiative, taxpayers must do all of the following on or before Aug. 31, 2011:
• Provide the IRS with copies of all previously filed original (and, if applicable, previously filed amended) federal income tax returns for the tax years covered by the voluntary disclosure.
• Provide the IRS with complete and accurate amended federal income tax returns for all tax years covered by the voluntary disclosure and which reflect any previously omitted income.
• File complete and accurate original or amended offshore-related information returns, commonly known as “FBARs,” for all tax years covered by the voluntary disclosure.
• Make full and complete disclosure of all information relating to offshore accounts, assets, institutions and facilitators.
• Pay a 20 percent accuracy-related penalty on the full amount of any underpayments of tax for the years covered by the voluntary disclosure.
• Pay failure to file penalties, if applicable.
• Pay, in lieu of all other penalties that may apply, including FBAR delinquency and potential fraud penalties, a miscellaneous “offshore penalty” equal to 25 percent of the highest aggregate balance in foreign accounts during the period covered by the voluntary disclosure.
• Submit full payment of all taxes, interest and penalties with the required submission or make good faith arrangements with the IRS to pay in full.
• Execute a closing agreement with the IRS on the final determination of the amounts due.
The above requirements are very similar to the requirements of the 2009 program except that the offshore penalty under the 2009 program was equal to 20 percent of the highest aggregate balance in foreign accounts. As under the 2009 program, the penalties due under the 2011 initiative will generally be significantly lower than what could otherwise be imposed by the IRS if these issues come to light during an IRS-initiated examination.
The 2011 initiative also provides for a reduced offshore penalty of 12.5 percent (rather than 25 percent) for those taxpayers whose highest aggregate balance in a previously undisclosed offshore account in each of the years covered by the voluntary disclosure was less than $75,000.
The 2011 initiative contains another exception to the 25 percent offshore penalty for those taxpayers who have certain mitigating circumstances. For the following two categories of taxpayers the offshore penalty is reduced to 5 percent:
• Taxpayers who are foreign residents and who were unaware they were U.S. citizens subject to the disclosure and income reporting obligations concerning offshore accounts.
• Taxpayers who meet all 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 a U.S. account, not withdrawn more than $1,000 from the account in any year covered by the voluntary disclosure.
(d) Can establish that all applicable U.S. taxes have been paid on funds deposited to the account.
Taxpayers who would typically be eligible under the second category would include individuals who inherited offshore accounts from parents, spouses or other family members and who have not been closely involved in the creation or administration of the accounts. Also, taxpayers who participated in the 2009 program and believe they would have been subject to the reduced 5 percent or 12.5 percent penalties had those alternative penalty provisions been applicable under the program may petition the IRS for refund consideration.
Eligibility to participate in the 2011 initiative is denied for any taxpayer who is the subject of an IRS civil examination that has already been initiated at the time of the voluntary disclosure, regardless of whether the examination relates to undisclosed offshore accounts or undisclosed offshore entities. Taxpayers under criminal investigation by the IRS are also ineligible. The IRS will allow taxpayers to obtain “pre-clearance” concerning their eligibility to participate in the 2011 initiative if a taxpayer believes they may be subject to an ongoing IRS investigation.
If the IRS has served a “John Doe” summons on a financial institution seeking information that may identify a taxpayer as holding an undisclosed offshore account, the mere service of the summons does not make a taxpayer who could be identified in response to the summons ineligible to participate in the 2011 Initiative. However, once the IRS obtains information under a John Doe summons that does provide evidence of a specific taxpayer’s noncompliance with the tax laws, that particular taxpayer would become ineligible to participate in the 2011 initiative. Finally, taxpayers who participated in the 2009 program are not eligible to participate in the 2011 initiative.
The IRS has announced that approximately 15,000 taxpayers made voluntary disclosures about their offshore accounts pursuant to the 2009 program. The IRS obviously believes there are a significant number of taxpayers who remain noncompliant with respect to offshore accounts. In announcing the 2011 initiative, IRS Commissioner Doug Shulman stated that the goal of the initiative is to “get people back into the U.S. tax system.” •
Mark L. Silow is the administrative partner and chief operating officer of Fox Rothschild. Silow formerly was chairman of the firm’s tax and estates department. Silow’s work involves a broad range of commercial and tax matters including business and tax planning, corporate acquisitions and dispositions, real estate transactions, estate planning and employee benefits.