Let’s say you are a good beekeeper, who happens to live next door to an exceptionally good gardener. You realize that your bee colonies take advantage of the variety of flowers in your neighbor’s garden. But sometimes you notice that some of your larger hives are split, and many of your bees end up in your neighbor’s hives. Now you want to take a share of the honey out of your neighbor’s hives. What would you do?  Would you barge in your neighbor’s yard without permission and take some honey? Or do you want talk to your neighbor first?

Most people would avoid barging in on their neighbors, for obvious consequences. Nevertheless, the United States clearly had the first option in its mind when it announced the Foreign Account Tax Compliance Act (“FATCA”) in 2010.[1] The FATCA targets non U.S. foreign financial institutions(“FFI”) that serve U.S. taxpayers such as bankers, brokers, insurance or other investment companies. It requires FFIs to have an agreement with the United States to disclose and report any U.S. taxpayers’ identity, account information, and other related financial information to the U.S. Department of Treasury regardless of their business frequency or  size with their U.S. taxpayer clients.  If the FFIs does not enter into an agreement with the United States, the plan was to assess the FFI , 30% of  the withholding tax for all of its U.S. source income.

How feasible is it to regulate someone who is not under your jurisdiction? What if it is against their domestic laws to disclose or share the client information to a third party? As the largest economy in the world, the United States may have the power to push the FATCA into effect. However, the Department of Treasury has wisely changed its direction to implement the FATCA. The United States is currently engaging with more than 50 countries to facilitate the FATCA implementation.

The agreements signed thus far are all based on intergovernmental information exchanges under the Model I document. Under Model I, FFIs are required to report the FATCA information to their home country revenue authorities, and the revenue authorities exchange the information directly with the Internal Revenue Service. If the Revenue Agency wants to have similar information from the United States, it can reciprocally request the information from the IRS. The United States has already established bilateral agreements this way with the United Kingdom, Denmark, Mexico and Spain.[2]  In addition, there is another intergovernmental agreement model that incorporates FFI’s direct reporting to the United States. The Model II reflects a framework that the United States is working with Japan and Switzerland. However, there is not a signed agreement yet under Model II.

The Department of Treasury clearly abandoned or set aside its unilateral approach to implement the FATCA by negotiating bilateral agreements with a number of countries.[3] By all means, the FATCA could have been viewed as a nonsense U.S. law encroaching on other countries sovereignty.  Through international reciprocity, however, the FATCA seems to find a legal basis. It is still interesting to see though, how the FATCA will be implemented against FFIs in countries without bilateral agreements with the United States.

[1] Hiring Incentives to Restore Employment Act signed into law on March 18, 2010

[2] The informaiton is available at http://www.treasury.gov/resource-center/tax-policy/treaties/Pages/FATCA.aspx

[3] U.S. Engaging with More than 50 Jurisdictions to Curtail Offshore Tax Evasion November 8, 2012 available at http://www.treasury.gov/press-center/press-releases/Pages/tg1759.aspx

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There are many routes that you can take to your destination. If the destination is a common one, you would expect a common road map showing the ideal route. Even though the Foreign Bank Account and Financial Accounts Reporting (“FBAR”) requirement has been around for a while, it appears that we still haven’t found a decent road map for taxpayers with offshore account issues.

This is partially because the previous Offshore Voluntary Disclosure Programs (OVDP) did not embrace the wide variety of situations. This was especially true for international taxpayers. In many cases, international taxpayers have a reporting obligation solely due to their United States green card or citizenship by birth, when they were, in fact, working, living, or paying taxes entirely in other countries.

Would these taxpayers be willing to take the OVDP and pay harsh penalties for mistakenly failing to file the FBAR, even when they had no intention of avoiding taxes and when the FBAR penalty truly targets U.S. tax dodgers?

Over the past years, the Internal Revenue Service (“IRS”) has responded to this frustration over the one-size-fits-all nature of the OVDP. Accordingly, taxpayers now have more options to achieve the FBAR compliance status. To give you an introduction to these options, let me outline a simple road map.

1. Offshore Voluntary Disclosure Program (“OVDP”). As introduced in the previous blog post, the 2012 OVDP is an open end program with a penalty rate of 27.5% of the maximum account balance. Regardless of the increased penalty rate, the OVDP may still be the best option for those who made voluntary and intentional violation of their known legal duty of FBAR compliance.[1]
   
   
2.  Opt-out to Standard Audit Process. The IRS is flexible enough to allow taxpayers in the OVDP to opt out of the program.[2] By doing so, taxpayers can ask the IRS to handle their cases under standard audit processes. When taxpayers are already in the OVDP and find that the OVDP penalty is not appropriate for their situation, opting out may be an appropriate choice.
   
   
3. Streamlined Filing Compliance Procedures. Effective as of September 1, 2012, international taxpayers with low compliance risk may file delinquent tax returns and FBARs without concern of serious penalties. The eligibility and compliance risk in the procedure has to be carefully reviewed, as they are quite narrowly defined.[3]
   
   
4. Delinquent Filing Procedures. Taxpayers who properly reported and paid taxes on all their taxable income in prior years can now file the delinquent FBAR or delinquent information returns.[4] Once taxpayers file delinquent FBAR or informational returns such as Forms 5471 or 3520, the IRS will not impose a penalty for failing to file.
   
   
5. Quiet Disclosure to the OVDP. Some taxpayers did so-called quiet disclosures by filing amended returns and paying any related tax and interest for previously unreported offshore incomes without notifying the IRS. The taxpayers who made quiet disclosures are also eligible to participate in OVDP. The IRS strongly encourages the taxpayers who made quiet disclosures to come forward under the OVDP to avoid harsher penalties and/or possible criminal conviction.[5]
   
   

If your case fits squarely into one of these five options, then take it and resolve your offshore account issues once and for all. However, if your case falls in the gray area, then it would be safer to consult with your legal counsel.

What you are dealing with here will be more than mere numbers, and you will need good legal advice to help you to assess relevant facts and circumstances to infer your intent objectively.

[1] IRM 4.26.16.4.5.3

[2] Offshore Voluntary Disclosure Program Frequently Asked Questions and Answers #51, 51.1 and 51.2 (June 26, 2012).

[3] Instruction available at http://www.irs.gov/uac/Instructions-for-New-Streamlined-Filing-Compliance-Procedures-for-Non-Resident-Non-Filer-US-Taxpayers

[4] Offshore Voluntary Disclosure Program Frequently Asked Questions and Answers #17 (June 26, 2012).

[5] Ibid  #16.


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Are you a U.S. taxpayer with undisclosed offshore accounts or assets?  Have those accounts or assets generated income that you did not report to the Internal Revenue Service? If so, there is currently more than one option for you to come forward.

The Internal Revenue Service announced its reopening of the Offshore Voluntary Disclosure Program (“OVDP”) on Friday, January 9th. The OVDP is an IRS initiative to bring taxpayers that have used foreign accounts or entities to avoid tax into complying with U.S. tax laws. When a taxpayer complies with all the provisions of the OVDP, the IRS accepts the penalty payment at a reduced rate and does not recommend criminal prosecution to the Department of Justice.

The penalty for the program has increased from 25% in 2011 to a current rate of 27.5%. Smaller or qualified account holders will face a reduced penalty rate of 12.5%.  If you  do not come forward and your offshore accounts are ultimately detected by an IRS audit, the penalty can be up to 75% of your income from the audited accounts and 50% of the account balance. In addition, criminal prosecution can inflict up to three to ten years of prison time.

You may think that the program penalties are set too high. Let me give you an illustrative example to compare the two different cases with and without the OVDP program.

Eight years ago, say you deposited one million in offshore income generating accounts, and earned $400,000 in interest. You neither reported the existence of the accounts nor paid tax on the income from the accounts.

If you participate in the OVDP program in 2012, you will pay about $600,000, assuming the highest income tax rate. The amount includes an income tax of $140,000 ($400,000 x 35%), accuracy related penalty costs of $28,000 ($140,000 x 20%), program penalties of $385,000 ($1,400,000 x 27.5% = $385,000), and interests on unpaid tax dues. However, if the IRS independently detects your offshore accounts and found your tax avoidance, over 4.5 million dollars of tax, penalties, and interest may be assessed.[1] That’s right: the payment may be 7.5 times more without the OVDP program.

The United States has never made an effort to regulate tax avoidance through offshore accounts. Since 2009, when the program was initially launched, the OVDP has expanded its covered periods and increased the penalties over the years. As current IRS Commissioner, Doug Shulman has stated, their effort is “gaining its momentum internationally” through bilateral tax treaties, agreements, and active lawsuits.

This is why you should consider taking advantage of the OVDP program in 2012, if you have yet undisclosed offshore accounts.

[1] See the IRS website comparing the payment dues under the two different scenarios with or without OVDP program participation at; http://www.irs.gov/businesses/international/article/0,,id=235699,00.html.

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