Taxpayers who failed to timely report foreign accounts on Form FinCEN 114 (formerly Form TD F 90-22.1) (“FBAR”) filed with the Internal Revenue Service (“IRS”) faced a dilemma. They could file a preclearance letter with the IRS Criminal Investigation Division (“CID”) seeking acceptance into the IRS’ Offshore Voluntary Disclosure Program ("OVDP"). Upon receipt of a preclearance letter, CID checks its files and determines whether there is an examination, investigation, or prosecution underway against the taxpayer. If there is not, CID sends the taxpayer a letter telling him that he is conditionally accepted into the OVDP, and that if he completes the program’s requirements, he will not be prosecuted for failing to file an FBAR or for failing to report income from a foreign account on an income tax return, and that his civil penalty for failing to report the foreign account on a timely-filed FBAR will not exceed that of the OVDP—27.5% of the highest balance in the accounts over the preceding eight years.
The OVDP requirements are punitive. The taxpayer must—
- sign consents waiving the statute of limitations on assessment of an FBAR penalty and income tax, penalties, and interest with respect to the account;
- file FBARS for the foreign account for the preceding eight years;
- file an income tax return reporting the account for each of the preceding eight years;
- pay a penalty equal to 27.5% of the highest balance in the account in the preceding eight years (12.5% if the balance did not exceed $75,000, or 5% if the taxpayer did not willfully fail to report the account on an FBAR); and
- pay income tax on income generated by the account over the preceding eight years, together with an accuracy penalty equal to 20% of such income tax, and interest.
To accomplish the foregoing, the taxpayer will incur substantial legal and accounting fees.
The stakes are high for a taxpayer who does nothing to comply with U.S. law concerning a foreign account. Failure to timely file an FBAR is subject to assessment of a civil penalty of 50% of the highest balance in the foreign account for each of the open years of the statute of limitations. Failure to timely file an FBAR can also be prosecuted. Income from a foreign account not reported on an income tax return is subject to assessment of income tax and penalty, and interest. The penalty is 20% of the tax or, in egregious cases, 75% of the tax for fraud. Willful failure to report income on an income tax return is also subject to prosecution.
Beginning on August 4, 2014, any taxpayer who has an undisclosed foreign financial account will be subject to a civil penalty not of 27.5%, but of 50%, if, at the time of submitting his preclearnace letter to IRS Criminal Investigation, an event has occurred constituting a public disclosure that the foreign financial institution, or another person who facilitated the taxpayer's account at the foreign financial institution, is under investigation, or is cooperating in an investigation, by the IRS or the U.S. Department of Justice concerning accounts beneficially owned by U.S. persons, of has been identified in a John Doe summons concerning such accounts. The U.S. Department of Justice publishes a list of such foreign financial institutions. If the 50% penalty applies to any of a taxpayer's foreign financial accounts, it applies to all of his foreign financial accounts.
An FBAR for a given calendar year is due to be filed by the succeeding June 30. The statute of limitations on assessment of a civil penalty for failure to timely file an FBAR is six years, 1 USC § 5321(b)(1), and it begins to run on the due date of the FBAR. Unites States v. Williams, 489 Fed. Appx. 655 (4th Cir. 2012).
Willful failure to file an FBAR when one is due is a crime, punishable by fine of not more than $250,000, or imprisonment for not more than five years, or both. 31 USC § 5322(a). But 31 USC § 5322 is silent about a statute of limitation on a prosecution. In such cases, courts borrow a statute of limitations from another, like statute. In the only case on point, United States v. Lowery, 409 Fed. Supp. 2d 432, 441 (W.D. Va. 2006) the United States District Court for the Western District of Virginia engrafted the catchall, five-year statute of limitations of 18 USC § 3282 onto 31 USC § 5322(a). As a result, an indictment returned on February 17, 2005 charging violation of 31 USC § 5322(a) for failure to file FBARs due on June 30, 2000 and June 30, 2001 was timely.
The statute of limitations on assessment of income tax or penalty is three years, and it begins to run from the filing of the return. 26 USC § 6501(a). The statute of limitations on assessment does not begin to run with respect to an income tax return not filed. 26 USC § 6501(c)(3). There is no statute of limitations on assessment with respect to a tax return that is fraudulent or willfully false. 26 USC § 6501(c)(1), (2).
The statute of limitations on a prosecution for tax evasion is six years, 26 USC 6531, and it begins to run on occurrence the last affirmative act of evasion, which may be after the filing of the false, fraudulent tax return, United States v. Dandy, 998 F.2d 1344, 1355-56, reh’g, en banc, denied, 1993 U.S. App. LEXIS 23870 (6th Cir. 1993), cert. denied, 510 U.S. 1163, 127 L. Ed. 2d 538, 114 S. Ct. 1188 (1994); United States v. Winfield, 960 F.2d 970, 973 (11th Cir. 1992), or after the due date of a tax return not filed. United States v. Ferris, 807 F.2d 269, 271 (1st Cir. 1986), cert. denied, 480 U.S. 950, 94 L. Ed. 2d 798, 107 S. Ct. 1613 (1987).
Streamlined Offshore Compliance Procedures
On June 18, 2014, the IRS announced Streamlined Offshore Compliance Procedures (“Streamlined Procedures”). The Streamlined Procedures are not punitive, and are more effective than the OVDP in encouraging compliance with the law. Significantly, the Sreamlined Procedures are available only to taxpayers whose failure to timely file an FBAR was not due to willful conduct.
There are actually two sets of Streamlined Procedures, one for U.S. taxpayers residing outside the United States, and the other for U.S. taxpayers residing in the United States.
Streamlined Procedures U.S. Taxpayers Residing Outside the United States
A U.S. taxpayer residing outside the United States is eligible for the Streamlined Procedures if (1) he meets a non-residency requirement; (2) he has failed to report the income from a foreign financial asset and pay tax as required by U.S. law, and may have failed to file an FBAR with respect to a foreign financial account; and (3) such failures must result from non-willful conduct. Non-willful conduct is 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.
U.S. citizens or lawful permanent residents meet the non-residency requirement if, in any one or more of the most recent three years for which the U.S. tax return due date (as for extended) has passed, the individual did not have a U.S. abode, and was physically present outside the United States for at least 330 full days.
Individuals who are not U.S. citizens or lawful permanent residents meet the applicable non-residency requirement if, in any one or more of the last three years for which the U.S. tax return due date, as extended, has passed, the individual did not meet the substantial presence test of Internal Revenue Code § 7701(b)(3).
For eligible U.S. taxpayers residing outside the United States, the requirements of the Streamlined Procedures are as follows:
1. For each of the most recent three years for which the U.S tax return due date (as extended) has passed:
- If a U.S. tax return has not been filed previously, submit a complete and accurate delinquent tax return using Form 1040, U.S. Individual Income Tax Return, together with the required information returns (e.g., Forms 3520, 5471, and 8938) even if these information returns would normally be filed separately from the Form 1040 had the taxpayer filed on time, or
- If a U.S. tax return has been filed previously, submit a complete and accurate amended tax return using Form 1040X, Amended U.S. Individual Income Tax Return, together with the required information returns (e.g., Forms 3520, 5471, and 8938) even if these information returns would normally be filed separately from Form 1040 had the taxpayer filed a complete and accurate original return.
2. Include at the top of the first page of each delinquent or amended tax return and at the top of each information return “Streamlined Foreign Offshore” written in red.
3. Complete and sign a statement certifying (1) that the taxpayer is eligible for the Streamlined Procedures; (2) that all required FBARs have now been filed; (3) that the failure to file tax returns, report all income, pay all tax, and submit all required income tax returns, including FBARs, resulted from non-willful conduct. The statement must be an original, signed statement, and each tax return or information return being filed pursuant to the Streamlined Procedures must be attached to it. FBARs are filed electronically, and should not be filed with the non-willfulness statement.
4. Submit payment of all tax due indicated on the tax returns, together with statutory interest, but no penalty, for failure whether the accuracy penalty under Internal Revenue Code § 6662(a), the FBAR penalty under 31 USC § 5321, or any other penalty.
Streamlined Procedures for Taxpayers Residing in the United States
A U.S. taxpayer residing in the United States is eligible for the Streamlined Procedures if (1) he fails to meet the applicable non-residency requirement for U.S. taxpayers not residing in the United States; (2) he has previously filed a U.S. tax return (if required) for each of the most recent three years for which the U.S. tax return due date, as extended, has passed; (3) he has failed to report gross income from a foreign financial asset and pay tax as required by U.S. law, and may have failed to file an FBAR and/or one or more international information returns (e.g., Forms 3520, 3530-A, 5471, 5472, 8938, 926, and 8621) with respect to the foreign financial asset; and (4) such failures resulted from non-willful conduct.
For an eligible U.S. taxpayer residing in the United States, the requirements of the Streamlined Procedures are that the taxpayer—
1. For each of the most recent three years for which the U.S. tax return due date (as extended) has passed (the “covered tax return period”), file an amended tax return, together with all required information returns
2. Include at the top of the first page of each amended ax return “Streamlined Domestic Offshore” in red.
3. Submit a statement signed by the taxpayer certifying (1) that the taxpayer is eligible for the Streamlined Procedures, (2) that all required FBARs have now been filed, (3) that the failure to report all income, pay all tax, and submit all required information returns, including FBARs resulted from non-willful conduct, and (4) that the miscellaneous offshore penalty amount (see 5 below) is accurate. The taxpayer must submit an original signed statement, and attach a copy of the statement to each tax return and each information return being submitted through the Streamlined Procedures.
4. Pay a Title 26 miscellaneous offshore penalty equal to 5 percent of the highest aggregate value of the taxpayer’s foreign financial assets at any time during the covered tax return period and the covered FBAR period.
Transitional Rules are available for taxpayers who mailed an OVDP voluntary disclosure letter with attachments to IRS Criminal Investigation by July 1, 2014, but who have not yet signed a Form 906 Closing Agreement in the OVDP.
Relief in the Streamlined Procedures is not automatic. FAQ 5 of the Transitional Rules provides:
"What will be my results if I seek transitional treatment?
"Upon approval, taxpayers currently participating in OVDP who meet the eligibility requirements of the Streamlined Foreign Offshore Procedures will not be required to pay the Title 26 miscellaneous offshore penalty prescribed under OVDP. Upon approval, taxpayers currently participating in OVDP who meet the eligibility requirements of the Streamlined Domestic Offshore Procedures will not be required to pay the Title 26 miscellaneous offshore penalty at the OVDP rate tyo continue participation in OVDP but will instead be subject [to] the miscellaneous offshore penalty terms of the Streamlined Domestic Offshore Procedures."
[Emphasis added.] Transitional Rules FAQ 7 provides:
"Is transitional relief automatic?
"No. Before transitional treatment is given, the IRS must agree that the taxpayer is eligible for transitional treatment, and must agree that the available information is consistent with the taxpayer’s certification of non-willful conduct."
No Voluntary Disclosure
Congress enacted the FBAR filing requirement of 31 USC § 5314, and the penalty provision of 31 USC § 5321, to curb evasion of income tax on foreign accounts. The penalty should not apply income tax has not been evaded. Guidance recently published by the IRS confirms that indeed this is the case.
Delinquent FBAR Submission Procedures, published by the IRS on June 18, 2014, provides that taxpayers who do not need the OVDP or the Streamlined Offshore Compliance Procedures to file amended or delinquent tax returns to report or pay additional tax, but who—
1. have not filed a required FBAR,
2. are not under a civil examination or a criminal investigation by the IRS, and
3. have not been contacted by the IRS about delinquent FBARs,
should file the delinquent FBARs according to the FBAR filing instructions, and include a statement explaining why the FBARs are filed late. All FBARs are required to be filed electronically at FinCen. On the cover page of the electronic form, the taxpayer selects the reason for filing late. The document adds: “The IRS will not impose a penalty for failure to file delinquent FBARs if you properly reported on your U.S. tax returns, and paid all tax on, the income from foreign financial accounts reported on the delinquent FBARs and your have not been previously contacted regarding an income tax examination or a request for delinquent returns for the years for which the delinquent FBARs are submitted.”
Examples
Some recent examples will illustrate the foregoing.
Example 1. Taxpayer is a naturalized U.S. citizen of U.S. birth. He has for years maintained a bank account in Germany for his use while in Germany on business. He did not know of the FBAR filing requirement until recently. He has always reported income earned on the German bank account on his U.S. income tax return.
Taxpayer has not evaded U.S. income tax. He does not need to file a delinquent or amended U.S. income tax return. He will not avail of the OVDP or the Streamlined Offshore Disclosure Procedures. He timely filed his 2013 FBAR, and he will file his delinquent FBARs for 2008-2012, the period of the statute of limitations on assessment concerning an FBAR. 31 USC § 5321(b)(1). On page 1 of the FBARs, in response to the question of why the FBARS are being filed late, Taxpayer will check the “I did not know I had to file” box. Taxpayer will pay no penalty. If IRS has any questions for Taxpayer or needs any information from him, it can contact him.
Example 2. Taxpayers reside in the United States. Husband is a naturalized U.S. citizen of German birth. Wife is a U.S. citizen by birth. They established a bank account in Germany for their use in traveling in Europe in their retirement years. They closed the account in 2009. They did not know they were required by U.S. law to report income from the account on their U.S. income tax return. Nor did they know that they were required to file FBARs reporting the account. They have timely filed their U.S. income tax return for each year.
Taxpayers were not willful. They did not fail to report income on the account in the preceding three years, the period of the statute of limitations for assessment of income tax or penalties under the Internal Revenue Code, 26 USC § 6501(a). Had taxpayers fraudulently (willfully) failed to report income from the account on their U.S. income tax return, there would be no statute of limitations on assessment of income tax and penalties against them with respect to such income tax returns. Because Taxpayers were not willful, and they did not own the account in the preceding three years, they need not file an amended income tax return with respect to the account.
Willfulness is a state of mind. It is understanding the facts and the law, and refusing to conform one’s conduct to the law. It also involves deceit, dishonesty, and misrepresentation.
Taxpayers owned the account at December 31, 2008, but not at December 31, 2009. Therefore, the 2008 FBAR is the last one due from Taxpayers with respect to the account. That FBAR was due on June 30, 2009. The six-year statute of limitations on assessment with respect to that FBAR expires on June 30, 2015.
As Taxpayers owe no income tax concerning the closed account, all they need do concerning the account is file a delinquent 2008 FBAR reporting it. On page one of the FBAR, for the explanation of why Taxpayers are filing late, they should click “I did not know I had to file.” Taxpayers do not owe a Title 26 miscellaneous (FBAR) penalty concerning the account. They are not candidates for the Streamlined Offshore Compliance Procedures.
Example 3. Taxpayers filed their voluntary disclosure letter and attachments with IRS in December, 2013. In March, 2014, the IRS sent taxpayers a letter conditionally accepting them into the OVDP. Taxpayers have not signed a Form 906 Closing Agreement with the IRS for their OVDP case.
Taxpayers will seek transitional relief under the IRS’ recently-announced Streamlined Offshore Compliance Procedures. Taxpayers’ Forms 1040, U.S. Individual Income Tax Return, did include a Schedule B, Interest and Ordinary Dividends, on which “No” was checked in response to the question, “At any time during [the year], did you have a financial interest in or signature authority over a financial account (such as a bank account, securities account, or brokerage account) located in a foreign country?” Taxpayers are health care professionals, not adept at taxes. Taxpayers’ tax returns were prepared by a CPA. The CPA knew that taxpayers travel frequently to their country of origin. The CPA likely knew that Taxpayers had a foreign account, yet in preparing Taxpayers’ Schedule B each year, he checked “No” to the question about whether Taxpayers had a financial interest in, or signature authority over, a foreign financial account, without asking Taxpayers this question.
In their OVDP submission, Taxpayers filed Forms 1040X, Amended U.S. Income Tax Return, for the preceding eight years, and paid income tax as well as a 20% accuracy penalty thereon. Taxpayers have also filed delinquent FBARs for the preceding eight years. All that remains for Taxpayers to do is submit a letter to IRS seeking transitional relief under the Streamlined Procedures, enclosing an appropriate non-willfulness statement, and payment of their Title 26 miscellaneous (FBAR) penalty.
If the IRS denies Taxpayers transitional relief under the Streamlined Procedures, Taxpayers would have to continue in the OVDP. Nothing ventured nothing gained.
Example 4. Taxpayer is a naturalized U.S. citizen. He has maintained financial accounts in his country of origin. He has not filed FBARs for the foreign accounts, nor reported income from them on his U.S. income tax returns. He has an OVDP case pending before the IRS. He has not yet signed a Form 906, Closing Agreement, for his OVDP case.
After having the Streamlined Procedures explained to him, Taxpayer declines them, and determines to proceed in the OVDP. So be it.
