The U.S. tax system requires the disclosure of almost all foreign activities and assets regardless if they produce income.
What follows is a description of the IRS voluntary disclosure program as provided by the U.S. tax authorities to encourage noncompliant taxpayers to get in their good graces. For information specific to your tax profile, contact us to speak with an advisor skilled in assisting taxpayers to become compliant. In addition, you can subscribe to the IWTA newsletter and check our blog regularly for informative articles from IWTA’s Founder, Jack Brister.
IRS Voluntary Disclosure: Fast Facts
- The U.S. Internal Revenue Service considers it a priority to find those U.S. taxpayers who are not compliant with the tax reporting of their foreign assets, activities and transactions; and the penalties can be severe.
- The U.S. federal and state governments have long standing policies of offering voluntary disclosure programs and initiatives for both individual and business taxpayers. Some states have codified their voluntary disclosure programs.
- The U.S. federal voluntary disclosure system is not codified but rather a policy of the U.S. Internal Revenue service. The details of voluntary disclosure are described in Section 11 (Other Investigations) of Chapter 5 (Investigative Process), paragraph 9 in Part 9 (Criminal Investigation) of the IRS Internal Revenue Manual.
How FACTA Became De Facto
Since 2009 the IRS has offered a variety of targeted voluntary disclosure initiatives. In 2009 it was the Offshore Voluntary Disclosure Program (OVDP). Next came the Offshore Voluntary Disclosure Initiative announced in February 2011. This program offered an agreement of no criminal prosecution in exchange for the disclosure of the prior six years of undisclosed foreign financial assets and a penalty of 20% on the aggregate highest balance of these assets over the six-year disclosure period.
Additionally, the taxpayer would have to pay the regular penalties and interest for under-reported income and tax. In 2012 the program was updated by replacing the 20% penalty with a 27.5% penalty. Along the way, the IRS also offered another variation called the Offshore Streamlined Procedure which then was divided into two different initiatives (Offshore Domestic Streamlined Procedure and the Offshore Foreign Streamlined Procedure) aimed at those U.S. taxpayers residing abroad and living within the U.S. states.
These two programs offered no potential agreements to avoid criminal prosecution. However, the number of prior years of undisclosed foreign financial assets for income tax purposes was only three years and six years for the Foreign Financial and Bank Account Report (FBAR) respectively. Furthermore, the offshore penalty was reduced from 27.5% to 5% for U.S. residents and 0% for non-U.S. residents.
The primary purpose of the Offshore Voluntary Disclosure Program was created to combat the Swiss Secrecy Act. This was the primary tool used by the U.S. tax authorities to introduce and enact (under the 2010 HIRE Act) the Foreign Account Tax Compliance Act (FATCA). FATCA became effective in 2014. The delay was to give the foreign financial institutions and governments time to implement the rules as required by the U.S. government and work out the fine details of the intergovernmental agreements. FATCA levies a 30% penalty on the income of foreign financial institutions not in compliance with FATCA.
The United Nations of Compliance: FACTA Voluntary Disclosure
With the implementation of FATCA, only the two Streamlined Procedures exist. After years of targeting offshore tax evasion and FATCA the IRS no longer believes they need to offer leniency. FATCA will eventually catch up with those who continue to be non-compliant and when caught the penalties can be severe. The penalties can be as high as 100% of the value of the financial assets and accounts. What’s more, if the taxpayer has avoided their responsibilities and obligations for the privilege of being a U.S. citizen or permanent resident of the U.S. for a number of years, they could face criminal prosecution.
You may be wondering: How in the world did the U.S. government get the world to agree to such lunacy? Especially Switzerland, which was known for its long history of secrecy? It is very simple: the U.S. started their campaign with Switzerland. They more or less put it thus: if Switzerland’s preference not to play along nicely with the U.S., so be it. They could play elsewhere if they desired. If so, they would no longer have access to the U.S. financial markets and system. Hence, the U.S. would pretty much bankrupt Switzerland if they did not want to play by the U.S’. rules! After that, every other jurisdiction in the world signed intergovernmental agreements with the U.S. to implement FATCA.
- The U.S. government FATCA requirements state that foreign financial institutions must report financial information of all U.S. taxpayers that have an interest in a foreign financial account.
- U.S. individual taxpayers must also comply with the FACTA filing by disclosing all foreign financial accounts and trusts in which they have any interest regardless if the asset is income producing or not.
- The IRS is now begging to cross-match and check FATCA reports from foreign financial institutions to U.S. taxpayer’s income tax returns. Hence, the IRS’ lack of leniency.
- The Streamlined Procedures is now the primary way for noncompliant taxpayers to get back in the good graces of the IRS and avoid significant penalties.
- Note: Most provisions of the U.S. Code under Title 26 require income tax returns to be filed in a timely manner to avoid late filing or failure-to-file penalties. There are also many sections of the law that require that international information returns be filed within a prescribed time to avoid a penalty not related to a taxpayer’s liability.
- Of all the above instances, no penalties are as substantial as those relating to foreign trusts.
We hope this information has helped give you a better understanding of how the U.S. offers taxpayers a way to become compliant. For an in-depth analysis on how best to get into compliance, contact us to speak with a skilled international tax practitioner or book a consultation with IWTA’s Founder, Jack Brister
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