• What Financial Advisers and Accountants Should Know About Expanded IRS Streamlined Filing Compliance Procedures for U.S. Taxpayers with Unreported Foreign Assets and Accounts
  • September 22, 2014 | Authors: Bruce M. Bettigole; Maia Cogen; Joseph M. DePew; Carol P. Tello; H. Karl Zeswitz
  • Law Firms: Sutherland Asbill & Brennan LLP - Washington Office ; Sutherland Asbill & Brennan LLP - Atlanta Office ; Sutherland Asbill & Brennan LLP - Washington Office
  • The Internal Revenue Service (IRS) recently announced “major changes” to its offshore compliance programs, including the Streamlined Filing Compliance Procedures (Streamlined Procedures), the delinquent international information return submission procedures (Delinquent Submission Procedures), and the Offshore Voluntary Disclosure Program (OVDP). This Legal Alert includes an overview of the new Streamlined Procedures for accountants and financial advisers because clients are likely to discuss these tax issues with their most trusted financial professionals, even before consulting an attorney.

    One of the most significant recent changes was a substantial expansion of the Streamlined Procedures, first announced in 2012. The updated Streamlined Procedures now afford eligible U.S. taxpayers, both residing in and outside the U.S., who failed to (a) report income and pay taxes on foreign financial assets, or (b) submit all required information returns with respect to foreign financial assets and accounts, including Reports of Foreign Bank and Financial Accounts (FBARs), the opportunity to come into compliance with their U.S. tax obligations without having to pay steep penalties. To be eligible for the Streamlined Procedures, a U.S. taxpayer’s non-compliance must have resulted from non-willful conduct. An eligible U.S. taxpayer who complies with the Streamlined Procedures will be subject to limited or no penalties, unless the taxpayer’s non-compliance is subsequently determined to have been willful. The OVDP, by contrast, carries higher penalties but may provide an option for taxpayers who are concerned that their non-compliance may be viewed by IRS as willful.

    I. Streamlined Procedures

    While the 2012 Streamlined Procedures were limited to eligible taxpayers living outside the U.S., the expanded Streamlined Procedures are available to eligible U.S. taxpayers residing outside the U.S. (the Streamlined Foreign Offshore Procedure) and inside the U.S. (the Streamlined Domestic Offshore Procedure). To be eligible for either of the Streamlined Procedures, the following requirements must be met: (1) the U.S. taxpayer cannot already be under civil or criminal investigation by the IRS; and (2) the taxpayer’s failure to report income and pay taxes from foreign financial assets or failure to submit information returns with respect to foreign financial assets or accounts must have been the result of non-willful conduct.

    While the IRS has defined non-willful conduct as “conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law,” the determination is fact-specific and should be made in consultation with a legal adviser. Under both of the Streamlined Procedures, the taxpayer will be required to certify, under penalties of perjury, that the failure to comply with U.S. tax obligations was the result of non-willful conduct and to set forth the specific reasons for the non-compliance. If a taxpayer relied on a professional adviser, the certification calls for the name and contact information of the adviser, as well as a summary of the advice received.

    A. Streamlined Foreign Offshore Procedure

    The updated Streamlined Foreign Offshore Procedure is broader than the 2012 version, which was limited to taxpayers with unpaid taxes of $1,500 or less per year and who were deemed to be low risk based on a risk assessment questionnaire. To be eligible for the Streamlined Foreign Offshore Procedure, in addition to satisfying the non-willful conduct requirement, a U.S. taxpayer must satisfy a non-residency requirement. The non-residency requirement for U.S. citizens and green card holders is satisfied if, in one of the three most recent years, the U.S. taxpayer did not have a U.S. abode and was physically outside the U.S. for at least 330 full days.

    Pursuant to the Streamlined Foreign Offshore Procedure, an eligible U.S. taxpayer must (i) file delinquent or amended U.S. tax returns, together with all required information returns, for each of the three most recent years for which the U.S. tax return due date has passed (April 15 absent an extension); (ii) file any delinquent FBARs for each of the six most recent years for which the FBAR due date has passed (June 30); (iii) certify that the taxpayer is eligible for the Streamlined Foreign Offshore Procedure and that the taxpayer’s U.S. tax non-compliance resulted from non-willful conduct; and (iv) pay the full amount of tax and interest due in connection with the delinquent or amended returns. An eligible U.S. taxpayer who complies with the Streamlined Foreign Offshore Procedure will not be subject to any penalties unless the taxpayer’s tax returns are selected for audit, and the IRS determines that the taxpayer’s original non-compliance was fraudulent and/or the taxpayer’s failure to file FBARs was willful.

    B. Streamlined Domestic Offshore Procedure

    The Streamlined Domestic Offshore Procedure is new; taxpayers residing in the U.S. were not eligible for the 2012 Streamlined Procedures. To be eligible for the Streamlined Domestic Offshore Procedure, in addition to the satisfying the non-willful conduct requirement, a U.S. taxpayer must fail the non-residency requirement described above and must have previously filed U.S. tax returns for each of the three most recent years for which the U.S. tax return due date has passed.

    The requirements under the Streamlined Domestic Offshore Procedure are similar to the Streamlined Foreign Offshore Procedure in that an eligible U.S. taxpayer must (i) file amended U.S. tax returns, together with all required information returns, for each of the three most recent years for which the U.S. tax return due date has passed; (ii) file any delinquent FBARs for each of the six most recent years for which the FBAR due date has passed; (iii) certify that the taxpayer is eligible for the Streamlined Domestic Offshore Procedure and that the taxpayer’s non-compliance resulted from non-willful conduct; and (iv) pay the full amount of tax and interest due in connection with the amended returns. However, the Streamlined Domestic Offshore Procedure also requires an eligible U.S. taxpayer to pay a 5% miscellaneous offshore penalty in lieu of other potentially applicable penalties. The penalty generally is equal to 5% of the highest aggregate balance/value of the U.S. taxpayer’s foreign financial assets that should have been reported on an FBAR or other information return for any year of the six most recent years. A U.S. taxpayer who complies with these procedures will not be subject to additional penalties unless the taxpayer’s tax returns are selected for audit, and the IRS determines that the taxpayer’s original non-compliance was fraudulent and/or the taxpayer’s failure to file FBARs was willful.

    II. Other Offshore Compliance Programs

    In addition to the Streamlined Procedures, the IRS offers other compliance options for U.S. taxpayers with delinquencies relating to foreign financial assets and accounts, including the Delinquent Submission Procedures and the OVDP.

    A. Delinquent Submission Procedures

    The IRS recently announced the Delinquent FBAR Submission Procedures and the Delinquent International Information Return Submission Procedures for U.S. taxpayers who failed to submit all required international information returns, including FBARs. To be eligible for these procedures, a U.S. taxpayer (i) must have timely filed U.S. tax returns and paid U.S. federal income tax on all worldwide income; and (ii) cannot already be under civil or criminal investigation by the IRS. Under the Delinquent FBAR Submission Procedures, an eligible U.S. taxpayer files any delinquent FBARs with a statement explaining why the filings are late. Under the Delinquent International Information Return Submission Procedures, an eligible U.S. taxpayers files any delinquent international information returns (other than FBARs), along with a statement establishing reasonable cause for the failure to file. An eligible taxpayer who complies with either of these procedures generally will not be subject to penalties. The Delinquent Submission Procedures are only appropriate for a U.S. taxpayer whose non-compliance is limited to the failure to file information returns; accordingly, a U.S. taxpayer whose non-compliance extends to failure to timely file U.S. tax returns and/or timely pay U.S. tax on income (including income from non-U.S. sources) should consider either the Streamlined Procedures or the OVDP, briefly described below.

    B. OVDP

    While the Streamlined Procedures and the Delinquent Submission Procedures are attractive options for eligible U.S. taxpayers, they do not offer any protection from criminal penalties or additional civil penalties; the OVDP is the only program that offers this type of protection. Accordingly, a U.S. taxpayer who is concerned that his or her non-compliance may be viewed as due to fraudulent or willful conduct and who therefore seeks assurance that he or she will not be subject to criminal liability and/or substantial monetary penalties should consider participating in the OVDP. While the details are beyond the scope of this Legal Alert, the OVDP involves a more onerous submission process (covering the most recent eight years) and requires the payment of significant penalties, including a 20% accuracy-related penalty and a 27.5% miscellaneous offshore penalty. The miscellaneous offshore penalty generally is equal to 27.5% of the highest aggregate value of the U.S. taxpayer’s OVDP assets for any year of the eight-year disclosure period.

    The IRS recently announced several modifications to the OVDP, including significant changes to the penalty structure. Under the 2012 OVDP, the offshore penalty generally was 27.5%, but a reduced rate of 12.5% or 5% applied to certain taxpayers. These reduced penalties are no longer available because it is intended that taxpayers who would have qualified for the reduced penalties will now use the Streamlined Procedures. In addition, the offshore penalty increases from 27.5% to 50% if it becomes public, before the taxpayer submits a preclearance request, that the financial institution that holds the taxpayer’s account or a party who assisted in establishing the offshore arrangement (i) is being investigated by the IRS or the Department of Justice (DOJ), (ii) is cooperating with the IRS or DOJ with respect to U.S. taxpayer accounts, or (iii) has been the subject of a summons for information about U.S. taxpayer accounts (often called a “John Doe summons”). The IRS maintains a List of Foreign Financial Institutions or Facilitators for this purpose; at present, the list identifies 10 such institutions and facilitators.

    Under the recently announced Transition Rules, a U.S. taxpayer eligible for the Streamlined Procedures who submitted a voluntary disclosure letter under the OVDP prior to July 1, 2014, and who has remained in the OVDP but not executed a closing agreement under the OVDP, may request treatment under the penalty terms available under the Streamlined Procedures (i.e., no penalty for a U.S. taxpayer residing outside the U.S. and a 5% miscellaneous offshore penalty for a U.S. taxpayer residing in the U.S.). In addition, a U.S. taxpayer eligible for the Streamlined Procedures who submitted a voluntary disclosure letter under the OVDP prior to July 1, 2014, and who later opted out of the OVDP but has not yet received a letter initiating an examination, may request treatment under the penalty terms available under the Streamlined Procedures.

    For U.S. taxpayers with unreported foreign income, assets or accounts, determining which IRS offshore compliance program is appropriate requires a careful review of the nature of the taxpayer’s non-compliance, especially whether the conduct was willful. Potential ramifications, including criminal exposure, should also be considered.