2014 Offshore Voluntary Disclosure Requirements
Prior to July 1, 2014, U.S. residents with unreported offshore income had few options to come into compliance. The Offshore Voluntary Disclosure Program (OVDP), with its tiered penalty structure and intricate provisions, was the only IRS-sanctioned route to compliance. There was no differential treatment of willful versus non-willful conduct; if the 27.5% standard penalty was not acceptable, one could enter the program and then “opt out” of it—a lengthy, uncertain process which subjected the taxpayer to standard audit procedures. Taxpayers, the Taxpayer Advocate, and even the IRS Commissioner agreed that the lack of clarity and alternatives for non-willful violations were major issues. The changes to the OVDP released in June of 2014 are designed to simplify this process.
The 12.5% and 5% penalty categories, formerly applied to the highest aggregate balance of the taxpayer’s offshore accounts in the last eight years, have been eliminated in favor of new Streamlined Filing Procedures available to taxpayers whose violations were not willful. For possible willful violations, the standard offshore penalty is still 27.5%, imposed on the highest aggregate balance of offshore accounts in the last eight years. There is a new 50% offshore penalty if the taxpayer had an account with one of the financial institutions or facilitators publicly identified as being under investigation. Currently only 10 such institutions are listed.
Procedurally, materials and requirements have been updated. Preclearance procedure formerly required only name, address, social security number, and date of birth. Now those seeking preclearance must also submit financial institution information. After preclearance, there is now an IRS form, Form 14453, for penalty calculation, replacing the Excel spreadsheet previously posted with the OVDP guidance. “Voluminous documents” may be submitted via CD, DVD, or flash drive. And, most significantly, the penalty now must be paid at the time of submission.
The most significant change is the creation of Streamlined Filing Procedures, previously available only to a narrow subset of those with unreported income (non-U.S. residents who owed less than $1,500 per year in taxes). These procedures have been extended to U.S. residents; now resident and nonresident taxpayers seeking to use the streamlined procedures must certify that failure to report any income or file necessary information returns or FBARs was due to non-willful conduct. The instructions state that 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.”
With the Streamlined Filing Procedures, instead of eight years of returns and FBARs, as required by the OVDP, taxpayers must only submit the most recent three years of tax returns and six years of FBARs. U.S. Residents are subject to a reduced 5% penalty imposed on the highest end-of-year balance of offshore accounts in the last six years. Nonresidents are not required to pay a penalty. The tax due must be paid, although accuracy-related, failure-to-file, and failure-to-pay penalties will not be imposed as they are in the OVDP. There is also a provision for transitioning taxpayers already admitted to the OVDP into the streamlined penalty bracket. It is important to note that the Streamlined Filing Procedures, unlike the OVDP, do not provide a blanket immunity from imposition of fraud penalties or even prosecution if the IRS conducts an audit and finds evidence the violations were willful.
There is new guidance for those with no unreported income but unfiled FBARs or other foreign information returns. Taxpayers in both categories may file delinquent returns with a reasonable cause statement. FBARs must be filed electronically on the FinCEN website; information returns (such as Form 3520 or Form 5471) must be filed attached to an amended tax return. For the latter, “as part of the reasonable cause statement, taxpayers must also certify that any entity for which the information returns are being filed was not engaged in tax evasion.” In both cases, penalties will not be applied in cases of reasonable cause.
These new provisions vastly reduce the monetary, record-keeping, and preparation burdens on taxpayers whose failures were non-willful seeking to come into compliance. However, the stakes are raised for close cases; the certification of non-willfulness is signed under penalty of perjury, and the “willful” standard has a troubled judicial history. Those uncertain of whether their conduct was willful are advised by the new procedures to consult a tax professional.