Streamlined Voluntary Disclosure – Foreign Accounts, Investments & Income
At Golding & Golding, we limit our entire tax law practice to IRS Offshore Disclosure, including Streamlined Voluntary Disclosure Program submissions under the Streamlined Domestic and Streamlined Foreign programs.
A large portion of our practice includes working with clients in over 50 countries with preparing and submitting to the IRS Streamlined Offshore Disclosure Procedures (aka Streamlined Filing Compliance). In addition, we field thousands of questions annually on issues involving the Streamlined Offshore Disclosure Program.
In the past, we have authored numerous articles and blog postings on issues involving:
- Streamlined Offshore Disclosure Penalty Computation
- Streamlined FAQ (Frequently Asked Questions)
- FBAR Penalty Guide
- Pros and Cons of the Streamlined Program
Common Questions & Answers
Lately, we are finding that a significant number of questions we receive are quite common (along with the incorrect answers they receive by “claimed experts” in the field). We feel that by providing the public with a general Streamlined Offshore “Guide,” to the program in general, it will help you to understand the big picture — together in one article.
Therefore, this blog posting is going to focus exclusively on the IRS Streamlined Program, including:
- What is the origin of the Streamlined Program?
- What are some of the key issues are in terms of making considerations for entering the program?
- How to obtain an Established Attorney, and what you may expect in your particular case?
It is crucial to note that this summary is not for you to rely upon when you make your own submission without representation of an established attorney (15+ years of experience) in the field; It is an informational guide.
What is IRS Offshore Disclosure
Once upon a time, there were no Streamlined Offshore Procedures operating as a separate program. Rather, there was just the traditional Offshore Voluntary Disclosure Program (OVDP). The traditional OVDP program was used to bring individuals, trusts and businesses into compliance.
In the early stages of the program, it was called OVDI (Offshore Voluntary Disclosure Initiative). When the program was in its infancy stages, there were many kinks that the IRS needed to work out. Some of these kinks included whether a person was required to sign an agreement to extend the statute of limitations, what would be considered part of the penalty computation, and what to do with people who had minimal assets and income.
For individuals who had minimal assets or income to report they could “streamline” their application under certain prerequisites, and received a reduced penalty of 5%, or 12.5%. This is the origin of the “IRS Streamlined Offshore Procedures,” and these reduced penalty structures were later eliminated when the Streamlined Program was integrated.
*As a side-note, the program commenced in 2009, which predated FATCA. (FATCA was born in 2010 and enforcement began in 2014).
The Problem with Willfulness
One of the biggest issues with traditional OVDP was the issue of willfulness. Under the traditional OVDP ‘program’, a person was required to submit the full program from the beginning. This meant the individual had to submit 8 years of amended/original tax returns, 8 Years of FBARs (The FBARs are nothing new, and have been around since the 1970s) as well as pay a 20% penalty on the unreported tax amount for each year – as well as interest.
A person had to go this route, even if they were non-willful. The only saving grace would be that when it came time to pay the penalty, the applicant could opt out and risk a much higher penalty against the much lower penalty. The applicant accomplished this by authorizing the IRS to perform a full audit of the individual.
Opting-out is a Risk, and for Many People it is an Unfair Risk.
Why? Because you never know who you are going to get at the IRS. As such, if you happen to get an obnoxious IRS agent on a bad day who wants to take you to task, he or she may feel that you are just trying to weasel your way out of the penalty (or is jealous of your offshore 8-figure investment), when in fact you have a legitimate reason in part for your nondisclosure — and you earned the money (as opposed to being the recipient of a trust fund)
In that scenario, the agent could still feasibly penalize you much more than you would have been penalized under the traditional penalty structure. The traditional penalty structure started at 20%, then increased to 25%, and now is 27.5% or even 50% depending on whether your money is in a bad bank or not.
Wouldn’t an Innocent person Just Opt-Out?
Not necessarily. It is important to realize that when a person did nothing wrong other than being unaware of the requirement to report their foreign accounts, the thought of opting-out and voluntarily submitting to a full-blown audit (instead of submitting under the traditional penalty structure of traditional OVDP) is a very nerve-racking, and intense decision.
For these individuals who may have been law-abiding their entire life, only to have recently learned about the requirement to report their foreign accounts – the thought of intentionally putting themselves under audit is just too big of a gamble to take; they prefer to submit to the large traditional OVDP penalty — not because they were guilty, but due entirely to their aversion to risk.
*If a person did not qualify for the reduced penalty structure under the Streamlined procedures, the IRS was unable to negotiate the penalty, unless the person opted out.
Streamlined Program – What is it?
The Streamlined Program is intended for individuals who were non-willful. While you can ‘wax poetic’ all day about what non-willful does, or does not mean — in reality, it boils down to the question of whether you knew, should’ve known or intentionally avoided the knowledge of your reporting requirements — or your failure to report was…reckless.
One of the most comprehensive analyses we have with clients is whether their facts show non-willfulness. We tell the clients the same each time – if in your heart, you believed you were non-willful, then we will stand by you under any circumstance to ensure that even if the IRS disagrees with you, we will fight it on your behalf.
If you are audited under the IRS Streamlined Program, there is no way to know which agent you will receive, and what aspects of your story/background they may want you to expand upon in your assertion that you were non-willful — but the most important aspect of it is for you to be sure that you believe you were non-willful.
* Being non-willful does not mean fooling yourself into thinking you were non-willful solely to qualify for the reduced penalty (aka I knew I should have been filing taxes [but didn’t file], but I had never heard of an FBAR or FATCA.) Just because you never heard of an FBAR or FATCA does not negate the fact that you knowingly did not file your tax returns.
**If the IRS wants to, they can still audit you under the Streamlined Program and you would have to appear — or else the IRS will subpoena you, which will accomplish nothing more than infinitely complicating your situation with the IRS. Thus, the willfulness vs. non-willfulness analysis is very important.
Streamlined Program – The Basics
The IRS Streamlined Program is just that – a streamlined version of the traditional Offshore Voluntary Disclosure Program. The program was introduced in 2014, to support situations in which a person believes they were non-willful, and have facts to show/prove their non-willfulness. In these situations, the IRS determined that the applicant should not be subject to the overwhelming submission process and requirements of traditional OVDP.
Amend Your U.S. Tax Returns for 3 Years
Under the traditional OVDP, an individual is required to amend and/or file original returns for the last eight (8) years. Most people do not hold onto their information for that long, so it is a very big undertaking – especially if you are non-willful. As a result, the IRS reduced the requirements to three (3) years. In other words, a person has to amend their returns for the last three (3) years instead of eight (8) years.
In addition, there is no penalty on the unreported tax for each year.
Original Returns vs. Amended Returns
*If a person qualifies as a foreign resident under the streamlined program, then they do not have to had filed their prior years tax returns within the 3-year your compliance period timely. In other words, they can file original returns with their submission.
**If a person does not qualify as a foreign resident, then they they must have filed timely tax returns for the prior three years. We have spoken with the IRS on numerous occasions, and on a case-by-case circumstance, the IRS may consider a late filed return as sufficient for entering the streamlined program, but you must speak with the IRS directly first to determine (through your attorney – not directly).
***If you have unreported domestic income as well as well, it should be included in the amended return.
6 Years: Under the traditional OVDP, a person is required to file eight years of FBARs. Under the streamlined program, a person is only required to file six years of FBARs. While this is not a huge distinction, it is important to note that when a person is non-willful the statute of limitations is limited to six years. Therefore, when a person files six years of FBARs, as long as they are not held to be willful aka Fraudulent (in which the statute of limitations can go on forever) — they will be shielded from further FBAR Penalties.
The following is a breakdown of how the penalty is calculated:
Date of Value
The penalty computation under the streamlined program is much more lenient. First, the computation is based on the value of the unreported accounts and specified assets (excluding real estate and other assets which are penalized under traditional OVDP) on the last day of the year. Therefore, if your account balances were artificially high during the year, they will not be calculated into the penalty computation.
Penalty Amount (Domestic)
If a person is entering the Streamlined Domestic Offshore Procedures, the penalty is 5% value of the highest year aggregate year-end balance within the six-year compliance period. In other words, for each year within the compliance period, you aggregate (add together) the 12/31 value of all the unreported accounts and qualifying assets on a year-by-year basis, pick the year that has the highest aggregate total – and multiply it by 5% (.05). This will be the entire penalty due to the IRS.
Penalty Amount (Foreign)
If you are lucky enough to qualify for the streamlined foreign program, then congratulations – your 5% penalty is waived and you may not owe any tax liability; this is a great program if you qualify.
The Streamlined Certification is one of the most important aspects the submission. If you are domestic, it is called a Form 14654 and if you are foreign resident it is called a Form 14653. Both certifications require you to provide a summary of the facts and circumstances surrounding your failure to report and why should be considered non-willful.
You should highly consider representation by an attorney when completing this application. You are providing these facts under penalty of perjury – which means that if it is written incorrectly (even if unintentionally) then you could find yourself in very hot water. That is because it will be used against you and without an attorney — you will have no buffer.
How Much Information Should go on the Certification?
Our response is always the same – it depends on the facts and circumstances of your case, and while you want to provide just enough information to sufficiently answer all of the questions the IRS is asking to prove non-willfulness, you want to be careful not provide any extraneous material which does not really help you, is not necessary to show non-willfulness, and could be considered ambiguous (aka “willful”).
There may be additional forms you will need to file under the streamlined program.
It important to file these forms because if you do not file them, then the statute of limitations does not begin to run. Under almost all circumstances, the statute of limitations after filing a document is three years (and sometimes extended to 6 years).
But, if you do not file the necessary forms, then the statute of limitations does not begin to run on the form, and therefore the IRS may be able to audit you many years down the line, and issue severe penalties for all the years the form was not filed.
Here’s a list of common forms you may need to file with your streamlined program.
FATCA and Foreign Account Reporting
United States requires individuals to report there Foreign accounts, specified assets and other investments to the United States in a variety of different circumstances. The most common is the annual FBAR statement – which is a report a foreign bank and financial account form.
If you, your family, your business, your foreign trust, and/or PFIC (Passive Foreign Investment Company) have more than $10,000 (in annual aggregate total at any time) overseas in foreign accounts and either have ownership or signatory authority over the account, it is important that you have an understanding of what you must do to maintain FBAR (Report of Foreign Bank and Financial Accounts) compliance. There are very strict FBAR filing guidelines and requirements in accordance with general IRS tax law, Department of Treasury (DOT) filing initiatives, and FATCA (Foreign Account Tax Compliance Act).
Penalty: The penalty ranges from a Warning Letter, to $10,000 per account, per year (non-willful) to 50% value of the account per occurrence (willful)
Golding & Golding Resources: FBAR Basics, FBAR FAQ, FBAR Penalty Guide.
Beyond the FBAR, there are also many other reporting requirements to keep in mind. There summarized below for you (this is not an exhaustive list but rather a representative list of what the majority of individuals may have to report)
FATCA Form (8938)
FATCA is the Foreign Account Tax Compliance Act. For individuals, it requires the reporting of financial accounts and certain specified foreign assets (ownership in businesses, life insurance, etc.). There are different threshold requirements, depending on whether a person is Married Filing Jointly (MFJ) or Married Filing Separate (MFS)/Single, and whether a person resides in the United States or outside of the United States.
Penalty: The penalty for failing to file each one of these information returns is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return. Total Penalty can reach $60,000
Golding & Golding Resources: Form 8938 FAQ; Form 8938 Penalties
Foreign Gift Form (3520)
If you receive a gift or inheritance from a foreign person that exceeds $100,000 either in a single transaction, or a series of transactions over a year, you are required to report the gift on this form. You have to file this form, even if you are not required to file a tax return (although it is normally filed at the same time as your tax return). If you received a Trust Distribution (even for minimal value) it must be reported as well.
Penalty: The penalty for failing to file each one of these information returns, or for filing an incomplete return, is the greater of $10,000 or 35 percent of the gross reportable amount, except for returns reporting gifts, where the penalty is five percent of the gift per month, up to a maximum penalty of 25 percent of the gift.
Golding & Golding Resources: Form 3520 Penalties
Foreign Corporation or Foreign Partnership (5471 or 8865)
The rules are somewhat different for these two forms, but essentially the same (with the 5471 being much more commonplace for U.S. investors). If you own at least 10% ownership in either type of business, you are required to report the information on either a form 5471 or 8865. Both of these forms require comprehensive disclosure requirements, involving balance statements, liabilities, assets, etc. Moreover, the forms need to be filed annually, even if a person does not have to otherwise file a tax return
Penalty: The penalty for failing to file each one of these information returns is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return.
Golding & Golding Resources: Form 5471 Penalties
Passive Foreign Investment Company (PFIC)
One of the most vilified types of financial assets/investments (from the U.S. Government’s perspective) is the infamous PFIC. A PFIC is a Passive Foreign Investment Company. The reason the United States penalized this type of investment is because it cannot oversee the growth of the investment and income it generates. In other words, if a U.S. person invests overseas in a Foreign Mutual Fund or Foreign Holding Company — the assets grows and generates income outside of IRS and U.S. Government income rules and regulations.
As a result, the IRS requires annual disclosure of anyone with even a fractional interest in a PFIC (unless you meet very strict exclusionary rules)
Penalty: The Penalties for not filing an 8621 run concurrent with the 8938 penalties (see above).
Golding & Golding Resources: Form 8621 Penalties; PFIC Form 8621 Excess Distribution Calculation
Foreign Trust (3520-A)
A Foreign Trust is another type of Foreign Investment that is frowned upon by the IRS. From the IRS’ perspective, the only purpose behind a Foreign Trust is to illegally avoid US reporting and income tax requirements by moving money offshore. While there are many people who may operate illegally in this fashion, there are various legitimate reasons why you would be a trustee or beneficiary of a Foreign Trust (Your cool grandma really loves you, and placed $5 million in a foreign trust for you overseas). Form 3520-A is a relatively complex form, which must be filed annually by the Trustee and/oranybody that owns a foreign trust.
Penalty: The penalty for failing to file each one of these information returns or for filing an incomplete return, is the greater of $10,000 or 5 percent of the gross value of trust assets determined to be owned by the United States person.
Golding & Golding Resources: Form 3520-A Foreign Trust Penalties
Foreign Real Estate Income
Even if you are earning rental income from property that is located outside of the United States, you still must report the income on your U.S. taxes (even it is exempt from tax in the foreign country). Remember, United States taxes individuals on their worldwide income. Therefore, the income you are earning from your rental property(s) must also be included on your US tax return.
A few nice benefits of reporting the income is that the United States allows depreciation of the structure – which many foreign countries do not allow. Moreover, you can take the same types of deductions and expenses that you would otherwise take if the property was located in the United States.
Penalty: Varies, depending on the Nature and Extent of the non-disclosure.
Golding & Golding Resources: Foreign Real Estate Income FAQ
Your chance of audit does not increase solely because you enter the streamlined program; conversely, your chance of IRS audit does not necessarily decrease either. With that said, if you are entering the streamlined program, it is important to note that the IRS can still audit you.
Therefore, if you believe you may not be “non-willful,” then you should not be entering the streamlined program. If you are audited, you will have to appear; otherwise the IRS may subpoena you — which will turn your non-willful streamlined submission into a potential criminal tax investigation.
This is another reason why it is very important to use an attorney the entire process. If you hire a CPA and they prepare the application (but you are audited) anything you told the CPA may not be covered by any privilege-especially if the IRS believes there may be an issue of fraud, unless a Kovel Letter was issued to the CPA — and even then, it is not full-proof.
So while the CPA maybe charging you less, it may come at a very big price in the future.
What to Look for in an Attorney?
We receive numerous referrals from clients who were with a prior attorney or CPA beforehand, only to realize that the representative had no idea what they were doing. Thus, we’ve compiled a short list to help you consider what to look for in a streamlined offshore disclosure attorney:
Years of Attorney Experience
Your attorney should have at least 15 years a legal experience. Any less, and chances are they do not have the necessary experience in tough situations to know how to handle any unforeseen difficult or extraordinary circumstance that could occur in your case.
Your attorney should also be a licensed enrolled agent or CPA. Enrolled agent limits their entire practice the tax. It is a credential earned from the IRS and it is known as the highest credential the IRS awards. Alternatively, the attorney can be a CPA, which can also be very helpful – but please keep in mind that not all CPAs practice tax, and therefore the mere fact that they are CPA does not mean they have a tax background.
Master’s of Tax Law (LL.M.):
Due to the complexity of tax law, most individuals who practice offshore disclosure will have an advanced degree called an LL.M. (or a Master’s of Tax Law) in addition to a law degree – the LL.M. usually requires 2 to 3 more years of training. While it is not required in order to practice tax law, it is important in Tax — due to the complexities and intricacies on this particular area of law.
Do They Operate from a Virtual Office?
You want to use an established firm that operates from a main, established office. For example, our main office is 250 Newport Center Drive, Suite 203, Newport Beach California 92660. This has been our main office for many years and if you are able to come by the office, you would see that is our home base. While we may use other offices to meet clients, this our Headquarters. Many “fly-by-night” firms operate solely from a virtual office they rent, in order to receive mail, or take telephone calls.
Website Domain Name Marketing
Does the firm you are considering have their name in the domain name. For example, our law firm is Golding & Golding, and our domain name is GoldingLawyers.com. For advertising purposes, firms will purchase hundreds of domain names with words such as “OVDP, Offshore Disclosure, IRS Voluntary Disclosure, etc.” in the domain name to make it appear as if it is their only area of practice, when in fact, these firms own tens or even hundreds of similar websites, for different areas of law.
In other words, what portion of their practice is really dedicated offshore disclosure?
What Position at the IRS Did Your Attorney Work at?
Don’t be fooled. Since we receive about 15 to 20% of our business from clients who left other attorneys, it is always the same story when a referral comes from a “Former IRS Attorney.”
It normally goes like this: “He or she told us they worked for the IRS, but he didn’t really seem to understand offshore disclosure. How is this possible?” The reality is, who knows what the attorney did at the IRS. The IRS has many different departments, and the mere fact that an attorney worked in the sales tax, or employment tax faction of the IRS (or even as an auditor and not an attorney) would do little to nothing to assist you in your offshore disclosure case. Each department of the IRS operates differently, and if you really want to know about the “inner workings” of how the IRS operates , you just have to review the IRM (Internal Revenue Manual).
That’s right — it is so secret, that the IRS actually publishes their practices and procedures, so you can know exactly how they will act in a variety of different circumstances.
Want to Learn More About Offshore Disclosure?
Offshore Voluntary Disclosure Tax law is very complex. There are many aspects that go into any particular tax calculation, including the legal status, marital status, business status and residence status of the taxpayer.
When Do I Need to Use Voluntary Disclosure?
Voluntary Disclosure is for individuals, estates, and businesses who are out of compliance with the IRS and the Department of Treasury. What does that mean? It means that if you are required to file a U.S. tax return and you don’t do so timely, then you are out of compliance.
If the IRS discovers that you are out of compliance, you may become subject to extensive fines and penalties – ranging from a warning letter all the way up to tax liens, tax levies, seizures, and criminal investigations. To combat this, you can take the proactive approach and submit to Voluntary Disclosure.
Golding & Golding – Offshore Disclosure
At Golding & Golding, we limit our entire practice to offshore disclosure (IRS Voluntary Disclosure of Foreign and U.S. Assets). The term offshore disclosure is a bit of a misnomer, because the term “offshore” generally connotes visions of hiding money in secret places such as the Cayman Islands, Bahamas, Malta, or any other well-known tax haven jurisdiction – but that is not the case.
In fact, any money that is outside of the United States is considered to be offshore; the term offshore is not a bad word. In other words, merely because a person has money offshore (a.k.a. overseas or in a foreign country) does not mean that money is the result of ill-gotten gains or that the money is being “hidden.” It just means it is not in the United States. Many of our clients have assets and bank accounts in their homeland countries and these are considered offshore assets and offshore bank accounts.
The Devil is in the Details…
If you do have money offshore, then it is very important to ensure that the money has been properly reported to the U.S. government. In addition, it is also very important to ensure that if you are earning any foreign income from that offshore money, that the earnings are being reported on your U.S. tax return.
It does not matter whether your money is in a country that does not tax a particular category of income (for example, many Asian countries do not tax passive income). It also does not matter if you are a dual citizen and/or if that money has already been taxed in the foreign country.
Rather, the default position is that if you are required to file a U.S. tax return and you meet the minimum threshold requirements for filing a U.S. tax return, then you have to include all of your foreign income. If you already paid foreign tax on the income, you may qualify for a Foreign Tax Credit. In addition, if the income is earned income – as opposed to passive income – and you meet either the Bona-Fide Resident Test or Physical-Presence Test, then you may qualify for an exclusion of that income; nevertheless, the money must be included on your tax return.
What if You Never Report the Money?
If you are in the unfortunate position of having foreign money or specified foreign assets that should have been reported to the U.S. government, but which you have not reported — then you are in a bit of a predicament, which you will need to resolve before it is too late.
As we have indicated numerous times on our website, there are very unscrupulous CPAs, Attorneys, Accountants, and Tax Representatives who would like nothing more than to get you to part with all of your money by scaring you into believing you are automatically going to be arrested, jailed, or deported because you have unreported money. While that is most likely not the case (depending on the facts and circumstances of your specific situation), you may be subject to extremely high fines and penalties.
Moreover, if you knowingly or willfully hid your foreign accounts, foreign money, and offshore assets overseas, then you may become subject to even higher fines and penalties…as well as a criminal investigation by the special agents of the IRS and/or DOJ (Department of Justice).
Getting into Compliance
There are five main methods people/businesses use to get into compliance. Four of these methods are perfectly legitimate as long as you meet the requirements for the particular mechanism of disclosure. The fifth alternative, which is called a Quiet Disclosure a.k.a. Silent Disclosure a.k.a. Soft Disclosure, is ill-advised as it is illegal and very well may result in criminal prosecution.
We are going to provide a brief summary of each program below. We have also included links to the specific programs. If you are interested, we have also prepared very popular “FAQs from the Trenches” for FBAR, OVDP and Streamlined Disclosure reporting. Unlike the technical jargon of the IRS FAQs, our FAQs are based on the hundreds of different types of issues we have handled over the many years that we have been practicing international tax law and offshore disclosure in particular.
After reading this webpage, we hope you develop a basic understanding of each offshore disclosure alternative and how it may benefit you to get into compliance. We do not recommend attempting to disclose the information yourself as you may become subject to an IRS investigation insofar as you will have to answer questions directly to the IRS, which you can avoid with an attorney representative.
If you retain an attorney, then you will get the benefit of the attorney-client privilege which provides confidentiality between you and your representative. With a CPA, there is a relatively small privilege which does provide some comfort, but the privilege is nowhere near as strong as the confidentiality privilege you enjoy with an attorney.
Since you will be dealing with the Internal Revenue Service and they are not known to play nice or fair – it is in your best interest to obtain an experienced Offshore Disclosure Attorney.
OVDP is the Offshore Voluntary Disclosure Program — a program designed to facilitate taxpayer compliance with IRS, DOT, and DOJ International Tax Reporting and Compliance. It is generally reserved for individuals and businesses who were “Willful” (aka intentional) in their failure to comply with U.S. Government Laws and Regulations.
The Offshore Voluntary Disclosure Program is open to any US taxpayer who has offshore and foreign accounts and has not reported the financial information to the Internal Revenue Service (restrictions apply). There are some basic program requirements, with the main one being that the person/business who is applying under this amnesty program is not currently under IRS examination.
The reason is simple: OVDP is a voluntary program and if you are only entering because you are already under IRS examination, then technically, you are not voluntarily entering the program – rather, you are doing so under duress.
Any account that would have to be included on either the FBAR or 8938 form as well as additional income generating assets such as rental properties are accounts that qualify under OVDP. It should be noted that the requirements are different for the modified streamlined program, in which the taxpayer penalties are limited to only assets that are actually listed on either an FBAR or 8938 form; thus the value of a rental property would not be calculated into the penalty amount in a streamlined application, but it would be applicable in an OVDP submission.
An OVDP submission involves the failure of a taxpayer(s) to report foreign and overseas accounts such as: Foreign Bank Accounts, Foreign Financial Accounts, Foreign Retirement Accounts, Foreign Trading Accounts, Foreign Insurance, and Foreign Income, including 8938s, FBAR, Schedule B, 5741, 3520, and more.
What is Included in the Full OVDP Submission?
The full OVDP application includes:
- Eight (8) years of Amended Tax Return filings;
- Eight (8) Years of FBAR (Foreign Bank and Account Reporting Statements);
- Penalty Computation Worksheet; and
- Various OVDP specific documents in support of the application.
Under this program, the Internal Revenue Service wants to know all of the income that was generated under these accounts that were not properly reported previously. The way the taxpayer accomplishes this is by amending tax returns for eight years.
Generally, if the taxpayer has not previously reported his accounts, then there are common forms which were probably excluded from the prior year’s tax returns and include 8938 Forms, Schedule B forms, 3520 Forms, 5471 Forms, 8621 Forms, as well as proof of filing of FBARs (Foreign Bank and Financial Account Reports).
The taxpayer is required to pay the outstanding tax liability for the eight years within the disclosure period – as well as payment of interest along with another 20% penalty on that amount (for nonpayment of tax). To give you an example, let’s pick one tax year during the compliance period. If the taxpayer owed $20,000 in taxes for year 2014, then they would also have to include in the check the amount of $4,000 to cover the 20% penalty, as well as estimated interest (which is generally averaged at about 3% per year). This must be done for each year during the compliance period.
Then there is the “FBAR/8938” Penalty. The Penalty is 27.5% (or 50% if any of the foreign accounts are held at an IRS “Bad Bank”) on the highest year’s “annual aggregate total” of unreported accounts (accounts which were previously reported are not calculated into the penalty amount).
For OVDP, the annual aggregate total is determined by adding the “maximum value” of each unreported account for each year, in each of the last 8 years. To determine what the maximum value is, the taxpayer will add up the highest balances of all of their accounts for each year. In other words, for each tax year within the compliance period, the application will locate the highest balance for each account for each year, and total up the values to determine the maximum value for each year.
Thereafter, the OVDP applicant selects the highest year’s value, and multiplies it by either 27.5%, or possibly 50% if any of the money was being held in what the IRS considers to be one of the “bad banks.” When a person is completing the penalty portion of the application, the two most important things are to breathe and remember that by entering the program, the applicant is seeking to avoid criminal prosecution!
2. Streamlined Domestic Offshore Disclosure
The Streamlined Domestic Offshore Disclosure Program is a highly cost-effective method of quickly getting you into IRS (Internal Revenue Service) or DOT (Department of Treasury) compliance.
What am I supposed to Report?
There are three main reporting aspects: (1) foreign account(s), (2) certain specified assets, and (3) foreign money. While the IRS or DOJ will most likely not be kicking in your door and arresting you on the spot for failing to report, there are significantly high penalties associated with failing to comply.
In fact, the US government has the right to penalize you upwards of $10,000 per unreported account, per year for a six-year period if you are non-willful. If you are determined to be willful, the penalties can reach 100% value of the foreign accounts, including many other fines and penalties… not the least being a criminal investigation.
Reporting Specified Foreign Assets – FATCA Form 8938
Not all foreign assets must be reported. With that said, a majority of assets do have to be reported on a form 8938. For example, if you have ownership of a foreign business interest or investment such as a limited liability share of a foreign corporation, it may not need to be reported on the FBAR but may need to be disclosed on an 8938.
The reason why you may get caught in the middle of whether it must be filed or not is due largely to the reporting thresholds of the 8938. For example, while the threshold requirements for the FBAR is when the foreign accounts exceed $10,000 in annual aggregate total – and is not impacted by marital status and country of residence – the same is not true of the 8938.
The threshold requirements for filing the 8938 will depend on whether you are married filing jointly or married filing separate/single, or whether you are considered a US resident or foreign resident.
Other Forms – Foreign Business
While the FBAR and Form 8938 are the two most common forms, please keep in mind that there are many other forms that may need to be filed based on your specific facts and circumstances. For example:
- If you are the Beneficiary of a foreign trust or receive a foreign gift, you may have to file Form 3520.
- If you are the Owner of a foreign trust, you will also have to file Form 3520-A.
- If you have certain Ownerships of a foreign corporation, you have to file Form 5471.
- And (regrettably) if you fall into the unfortunate category of owning foreign mutual funds or any other Passive Foreign Investment Companies then you will have to file Form 8621 and possibly be subject to significant tax liabilities in accordance with excess distributions.
Reporting Foreign Income
If you are considered a US tax resident (which normally means you are a US citizen, Legal Permanent Resident/Green-Card Holder or Foreign National subject to US tax under the substantial presence test), then you will be taxed on your worldwide Income.
It does not matter if you earned the money in a foreign country or if it is the type of income that is not taxed in the country of origin such as interest income in Asian countries. The fact of the matter is you are required to report this information on your US tax return and pay any differential in tax that might be due.
In other words, if you earn $100,000 USD in Japan and paid 25% tax ($25,000) in Japan, you would receive a $25,000 tax credit against your foreign earnings. Thus, if your US tax liability is less than $25,000, then you will receive a carryover to use in future years against foreign income (you do not get a refund and it cannot be used against US income). If you have to pay the exact same in the United States as you did in Japan, it would equal itself out. If you would owe more money in the United States than you paid in Japan on the earnings (a.k.a. you are in a higher tax bracket), then you have to pay the difference to the U.S. Government.
3. Streamlined Foreign Offshore Disclosure
What do you do if you reside outside of the United States and recently learned that you’re out of US tax compliance, have no idea what FATCA or FBAR means, and are under the misimpression that you are going to be arrested and hauled off to jail due to irresponsible blogging by inexperienced attorneys and accountants?
If you live overseas and qualify as a foreign resident (reside outside of the United States for at least 330 days in any one of the last three tax years or do not meet the Substantial Presence Test), you may be in for a pleasant surprise.
Even though you may be completely out of US tax and reporting compliance, you may qualify for a penalty waiver and ALL of your disclosure penalties would be waived. Thus, all you will have to do besides reporting and disclosing the information is pay any outstanding tax liability and interest, if any is due. (Your foreign tax credit may offset any US taxes and you may end up with zero penalty and zero tax liability.)
*Under the Streamlined Foreign, you also have to amend or file 3 years of tax returns (and 8938s if applicable) as well as 6 years of FBAR statements just as in the Streamlined Domestic program.
4. Reasonable Cause Statement
When a Person, Estate, or Business is out-of-tax compliance for failing to report Foreign Income and/or Foreign Assets, the applicant has relatively few options for timely and safely getting into tax and foreign reporting compliance — before fines and penalties are issued.
While the most common options include the Offshore Voluntary Disclosure Program or the Streamlined Offshore Disclosure Program, there is another alternative. It is called making a Reasonable Cause submission.
Reasonable Cause Process
An individual should never attempt offshore disclosure without the assistance of a qualified attorney. With that said, it is even more important to ensure that if you are even considering a reasonable cause submission, that you do so only with the help of an attorney. That is because only with an attorney do you receive the benefit of the attorney-client privilege.
Unlike the Streamlined Program or OVDP where there are strict procedures to be followed, a reasonable cause submission is different. It should be noted that a person can submit a reasonable cause application for any number of different reasons; it is not limited only to offshore money and reporting foreign accounts. It should also be noted that there are potentially high risks and penalties associated with this Reasonable Cause process, so you have carefully weigh your options.
With a reasonable cause submission, the attorney will carefully evaluate and analyze the facts and circumstances of your case in detail. He or she should sit down with you either in person or via teleconference if you are non-local and assess the pros and cons of the potential submission in order to determine what the benefits and detriments may be to a reasonable cause disclosure. Thereafter the attorney will amend the returns, prepare the necessary forms, and draft a persuasive Reasonable Cause Letter.
At Golding & Golding, we are Tax Attorneys (with Masters of Tax Law) and Enrolled Agents credentialed by the IRS (Highest Credential awarded by the IRS), so we can handle your entire submission (Taxes, Legal, and Audit Defense) in-house, for a flat-fee.
Reasonable Cause Examples
If you were completely non-willful in your failure to disclosure and were unaware that there was any reporting requirement, then the thought of paying any penalty may sound absurd and you may consider Reasonable Cause as an alternative option.
Reasonable Cause is determined on a Case by Case basis in accordance with your specific facts and circumstances.
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