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FBAR Reporting and Expired Voluntary Disclosure Program as of October 15, 2009

Tax Law Offices of David W. Klasing as your FBAR and Voluntary Disclosure Firm

So… You missed the FBAR Voluntary Disclosure Program deadline of October 15th 2009. What options are available to you now?

Let me start by informing you that the IRS is absolutely incensed by the fact that only 7,500 people made voluntary disclosures under its FBAR Voluntary Disclosure Program. They have publicly stated that they are on the warpath and looking for taxpayers who did not take advantage of the program to make examples out of.

To understand why the IRS is so upset, you need to understand that for the last couple of years the IRS has been hiring highly qualified personnel including experienced Tax Attorneys and CPAs gearing up for a massive effort to increase FBAR compliance. The IRS estimates that there may be as many as 1 million U.S. taxpayers who may be required to file an FBAR in any given year. They speculate that there may be less than 20 percent compliance in this area and thus consider this fertile ground for IRS enforcement.

The really bad news here is that thousands of UBS account holders who didn't take advantage of the IRS deal will probably get letters from UBS AG warning them that they could be in the IRS’s sights; their names are being provided by Switzerland to U.S. tax authorities under a tax-evasion settlement between the countries with the Justice Department. Even if they fight disclosure in Swiss courts, their records will almost certainly be turned over to the IRS eventually – see the calendar of events still to come in the UBS litigation.

Calendar of Events Set Forth in 8/19/9 Agreements between the United States, Switzerland, and UBS AG

If you find yourself in the group of people who had an account with UBS and failed to make a Voluntary Disclosure by October 15, 2009, you realistically have no choice but to make a voluntary disclosure, without the benefit of the favorable terms included in the FBAR Voluntary Disclosure Program that expired October 15, 2009, before your information is turned over to the IRS or you run a serious risk of criminal prosecution and jail time. Moreover, if you closed your account seeking to avoid detection, UBS supposedly will also be turning over the names of US taxpayers who closed their accounts as well. Closing your account in light of the UBS litigation will certainly be used as evidence against you, should the IRS choose to criminally prosecute you

The really - really bad news is that the special terms that existed with the FBAR Voluntary Disclosure Program that expired October 15th 2009 are no longer available and no one knows for sure if the IRS will at some point in the future roll out a similar version of the program which would almost certainly not contain terms that were as advantages as the original program that has since expired.

The really – really – really bad news is that rumor has it, that the Service is preparing to mass produce the methodology it used to go after UBS and will be serving John Doe summonses on hundreds of Financial Institutions that have been advising clients that they can invest in "tax havens" such as Switzerland and not pay any income tax on the earnings from the account in an attempt to identify Taxpayers that are in violation of the FBAR rules. The IRS has been gathering intelligence from those that turned themselves in before October 15, 2009 and is allegedly currently looking at several hundred banks in 70 countries.

Further, the press has reported, and the government has confirmed, that other persons affiliated with banks in "secrecy" jurisdictions throughout the world have stolen customer data and may be approaching the IRS and other law enforcement agencies seeking whistleblower rewards in a similar manner as led to the original suit against UBS.

How the Tax Law Office of David W. Klasing can be of assistance

The Tax Law Office of David W. Klasing can help you get back into compliance and avoid the impending wrath of the IRS and state taxing authorities. The first step is to determine how severe a problem you have. It could be as simple as filing the missing FBARs and requesting penalty abatement for reasonable cause where all of the foreign income has been duly reported. Or as involved as filing 6 years of amended returns to report the foreign income, 6 years of FBAR's and then guiding you through making a Voluntary Disclosure to the criminal investigations department of the IRS.

What exactly is an FBAR? (Report of Foreign Bank and Financial Accounts)

The FBAR is not a tax return, but a report filed with the Secretary stating that the person filing has a financial interest in, or signatory authority over, financial accounts in a foreign country with an aggregate value exceeding $10,000 at any time during the taxable year.

What are the common characteristics of the FBAR voluntary disclosures that have been made to date?

Regardless of the underlying reasons for the establishment of the foreign account, most of FBAR voluntary disclosures made to date have a number of common characteristics:

1. A failure to report income earned on the foreign accounts.
2. A failure to disclose the existence of the foreign account on the individual's U.S. tax return - there is a place to check a box answering the question whether the taxpayer has signature authority or a financial interest in a foreign account, and if so, to list the names of the countries where the account is held.
3. A failure to file annual FBAR forms disclosing he existence of the foreign account.
4. Potentially, a failure to file additional IRS forms regarding a taxpayer's relationship to a foreign trust or foreign corporation, or the taxpayer's receipt of funds from foreign sources, including gifts and bequests.

Why should you consider making a Voluntary Disclosure even though the FBAR Voluntary Disclosure program ended October 15, 2009?

Each of the reporting failures delineated above (a, b, c & d), if willful, could be the basis for tax felony prosecutions in the U.S. which, under U.S. criminal sentencing guidelines, would likely result in incarceration. Similarly, and irrespective of the criminal consequences, each of these reporting failures could also result in the assessment of significant, and potentially confiscatory, civil money penalties. The exposure to criminal prosecution could be avoided and the civil penalties could potentially be mitigated (lessoned) by making a voluntary disclosure as opposed to waiting around to be detected and subsequently prosecuted by the IRS.

Taxpayers with undisclosed foreign accounts or entities should make a voluntary disclosure because it enables them to become compliant and generally eliminate the risk of criminal prosecution. Taxpayers who do not submit a voluntary disclosure run the risk of detection by the IRS and the imposition of substantial penalties, including the fraud penalty and foreign information return penalties, and an increased risk of criminal prosecution. When a taxpayer truthfully, timely, and completely complies with all provisions of the voluntary disclosure practice, the IRS will generally not recommend criminal prosecution to the Department of Justice even where the foreign account was funded from income skimmed off a business and previously was unreported according to one IRS spokesperson.

How likely am I to be criminally prosecuted where I missed the October 15, 2009 deadline and subsequently decide to make a Voluntary Disclosure?

Because the IRS has limited investigative resources and cannot hope to detect and pursue more than a small percentage of non-filers or tax evaders, it is obviously in the government's interest to encourage taxpayers who have violated U.S. tax laws to voluntarily file amended and delinquent returns. The IRS has for many years followed a policy under which voluntary disclosure is, technically, deemed a factor to be considered in the decision whether or not to initiate a criminal investigation or recommend prosecution. The IRS takes great pains to argue that the policy does not provide an "amnesty." However, as a practical matter and in my professional opinion, it is nearly inconceivable that the IRS would recommend criminal prosecution of a person who made a voluntary disclosure that meets all the elements of the IRS’s Voluntary Disclosure Policy.

The IRS Manual makes it clear that the voluntary disclosure "policy" provides no legal or formal guarantee. It states: It is currently the practice that a voluntary disclosure will be considered with all the other factors in the investigation in determining whether criminal prosecution will be recommended. This voluntary disclosure practice creates no substantive or procedural rights for taxpayers, but rather is a matter of internal IRS practice . . .. A voluntary disclosure will not automatically guarantee immunity from prosecution; however, a voluntary disclosure may result in prosecution not being recommended.

What are the required elements to make a valid Voluntary Disclosure given that the FBAR Voluntary Disclosure program ended October 15, 2009?

Legal Income -- the voluntary disclosure policy has always been available only to taxpayers who have legal source income. Thus, any undeclared accounts that hold the proceeds of criminal conduct (other than tax fraud), such as bribery or corruption, narcotics, money laundering, etc., will not be the basis for an acceptable voluntary disclosure.

Timeliness -- the IRS Manual describes the specific criteria for determination of timeliness. A disclosure is timely if it occurs before:

1. the IRS has initiated a civil examination or criminal investigation of the taxpayer or has notified the taxpayer that it intends to commence such an examination or investigation;
2. the IRS has received information from a third party (e.g., informant, other governmental agency, or the media) alerting the IRS to the specific taxpayer's noncompliance;
3. the IRS has initiated a civil examination or criminal investigation which is directly related to the specific liability of the taxpayer; or
4. the IRS has acquired information directly related to the specific liability of the taxpayer from a criminal enforcement action (e.g., search warrant, grand jury subpoena).

Note: The timeliness test as a whole may present a serious problem for many potential Voluntary Disclosure candidates where making a determination of whether their name has been provided to the IRS or the Justice Department as having a potentially unreported foreign account is uncertain.

Truthfulness -- a voluntary disclosure must be truthful in all respects. This requirement presents some problems in the area of undeclared accounts because foreign bank information may be unobtainable or incomplete

Presumably, a taxpayer's best estimate made in good faith and based on all available information would satisfy this requirement if precision is not possible, but a taxpayer whose return contains such estimates should plainly disclose on the face of the amended return the methods used to calculate the line items.

In a voluntary disclosure involving previously undeclared accounts, the taxpayer must of course report all income earned on the account, and must acknowledge his or her signature authority and/or financial interest in the account on Schedule B of the Form 1040.

Generally, practitioners advise that the taxpayer need report as income on the amended filings only the dividends, interest, and capital gains (or losses) earned in the account. But where an account was established with funds on which taxes have never been paid, the situation gets more complex, and in some cases, especially those involving non-grantor trusts, the client may have to report amounts withdrawn from the account as income.

Completeness -- the disclosure must be complete, but that term is not defined in the Manual. The Justice Department's Criminal Tax Manual, at §4.02(2), specifies that the taxpayer must make a full disclosure of the facts.

Cooperation -- In order to take advantage of the voluntary disclosure policy, the taxpayer must cooperate with the IRS in the determination and payment of his tax liability.

No consideration will be given to a partial voluntary disclosure that is followed by a claim of the Fifth Amendment, a refusal to cooperate in an audit, or a refusal to give financial information relevant to a claim of inability to pay. This guideline provides leverage to the IRS should it audit the taxpayer's delinquent or amended returns.

Where the IRS seeks additional information about your accounts following a voluntary disclosure, you will be unable to refuse to provide requested information. Such a refusal would jeopardize the voluntary disclosure.

What if the taxpayer has already filed amended returns reporting the additional unreported income, without making a Voluntary Disclosure (i.e., quiet disclosure)?

A set of delinquent FBARs all arriving at the Detroit Computer Center might provoke a penalty examination with the attendant risks of criminal prosecution. Under the instructions issued October 1, 2008, amended or delinquent FBARs are required to include a statement explaining why the forms are amended or why they were filed late. There are rumors that the IRS has in place at the Detroit Center a mechanism to capture any "old year" FBARs that may be filed.

What are some of the criminal charges I might face if I do not come in under voluntary disclosure and the IRS finds me?

Possible criminal charges related to tax returns include tax evasion (26 U.S.C.§ 7201), filing a false return (26 U.S.C. § 7206(1)) and failure to file an income tax return (26 U.S.C. § 7203). The failure to file an FBAR and the filing of a false FBAR are both violations that are subject to criminal penalties under 31 U.S.C. § 5322.

A person convicted of tax evasion is subject to a prison term of up to five years and a fine of up to $250,000. Filing a false return subjects a person to a prison term of up to three years and a fine of up to $250,000. A person who fails to file a tax return is subject to a prison term of up to one year and a fine of up to $100,000. Failing to file an FBAR subjects a person to a prison term of up to ten years and criminal penalties of up to $500,000.

The following is a summary of potential reporting requirements and civil penalties that could apply to a taxpayer, depending on his or her particular facts and circumstances.

• A penalty for failing to file the Form TD F 90-22.1 (Report of Foreign Bank and Financial Accounts, commonly known as an "FBAR").United States citizens, residents and certain other persons must annually report their direct or indirect financial interest in, or signature authority (or other authority that is comparable to signature authority) over, a financial account that is maintained with a financial institution located in a foreign country if, for any calendar year, the aggregate value of all foreign accounts exceeded $10,000 at any time during the year. Generally, the civil penalty for willfully failing to file an FBAR can be as high as the greater of $100,000 or 50 percent of the total balance of the foreign account. See 31 U.S.C. § 5321(a)(5). Nonwillful violations are subject to a civil penalty of not more than $10,000.
• A penalty for failing to file Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts. Taxpayers must also report various transactions involving foreign trusts, including creation of a foreign trust by a United States person, transfers of property from a United States person to a foreign trust and receipt of distributions from foreign trusts under section 6048.This return also reports the receipt of gifts from foreign entities under section 6039F.The penalty for failing to file each one of these information returns, or for filing an incomplete return, is 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.
• A penalty for failing to file Form 3520-A, Information Return of Foreign Trust With a U.S. Owner. Taxpayers must also report ownership interests in foreign trusts, by United States persons with various interests in and powers over those trusts under section 6048(b).The penalty for failing to file each one of these information returns or for filing an incomplete return, is five percent of the gross value of trust assets determined to be owned by the United States person.
• A penalty for failing to file Form 5471, Information Return of U.S. Person with Respect to Certain Foreign Corporations. Certain United States persons who are officers, directors or shareholders in certain foreign corporations (including International Business Corporations) are required to report information under sections 6035, 6038 and 6046.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.
• A penalty for failing to file Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business. Taxpayers may be required to report transactions between a 25 percent foreign-owned domestic corporation or a foreign corporation engaged in a trade or business in the United States and a related party as required by sections 6038A and 6038C.The penalty for failing to file each one of these information returns, or to keep certain records regarding reportable transactions, 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.
• A penalty for failing to file Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation. Taxpayers are required to report transfers of property to foreign corporations and other information under section 6038B.The penalty for failing to file each one of these information returns is ten percent of the value of the property transferred, up to a maximum of $100,000 per return, with no limit if the failure to report the transfer was intentional.
• A penalty for failing to file Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships. United States persons with certain interests in foreign partnerships use this form to report interests in and transactions of the foreign partnerships, transfers of property to the foreign partnerships, and acquisitions, dispositions and changes in foreign partnership interests under sections 6038, 6038B, and 6046A.Penalties include $10,000 for failure to file each return, 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, and ten percent of the value of any transferred property that is not reported, subject to a $100,000 limit.
• Fraud penalties imposed under sections 6651(f) or 6663.Where an underpayment of tax, or a failure to file a tax return, is due to fraud, the taxpayer is liable for penalties that, although calculated differently, essentially amount to 75 percent of the unpaid tax.
• A penalty for failing to file a tax return imposed under section 6651(a)(1).Generally, taxpayers are required to file income tax returns. If a taxpayer fails to do so, a penalty of 5 percent of the balance due, plus an additional 5 percent for each month or fraction thereof during which the failure continues may be imposed. The penalty shall not exceed 25 percent.
• A penalty for failing to pay the amount of tax shown on the return under section 6651(a)(2).If a taxpayer fails to pay the amount of tax shown on the return, he or she may be liable for a penalty of .5 percent of the amount of tax shown on the return, plus an additional .5 percent for each additional month or fraction thereof that the amount remains unpaid, not exceeding 25 percent.
• An accuracy-related penalty on underpayments imposed under section 6662. Depending upon which component of the accuracy-related penalty is applicable, a taxpayer may be liable for a 20 percent or 40 percent penalty.

Given that the FBAR Voluntary Disclosure program containing limited civil penalties ended October 15, 2009 and the potential civil penalties delineated above, what is the maximum I am likely to pay if I make a voluntary disclosure related to my foreign account in order to limit my exposure to criminal prosecution?

Tax advisors in general simply do not know how aggressive the IRS will be in imposing the FBAR penalties delineated above against taxpayers making a voluntary disclosure after October 15, 2009 at this point. However in cases where taxpayers have been indicted for failure to disclosure foreign bank accounts and failure to report related income, the highest FBAR penalty imposed to date has been 50% of the highest value of the offshore account in the last 6 years, along with fraud penalties on the unreported income (75% of the additional income tax due on the amended returns).

The Tax Law Office of David W. Klasing cannot guarantee that the IRS will stay in this range, but it is seems logical that a taxpayer coming in under a voluntary disclosure should not incur a higher penalty than someone who was found and prosecuted by the IRS before any voluntary disclosure was made. Our office also does not expect that the IRS will offer the previously available 20% penalty, since this was offered under the program that expired on October 15 2009, and the service is not likely to treat those that make delinquent voluntary disclosures the same as those that made them timely.

Given that the expired FBAR Voluntary Disclosure program generally limited the requirement to amend previously filed returns to six years, how many years will I be required to amend if I make a Voluntary Disclosure?

If the IRS can prove by clear and convincing evidence that a taxpayer willfully failed to report income, it is authorized to go beyond the statute of limitations (generally 3 years from the later of the date the original return was due or date the original return was filed) to propose additional tax. Where the IRS can meet this burden of proof it could theoretically go back to all years that had unreported income related to the foreign account. The unreported income could be from previously unreported transactions (a previously unreported sale of foreign real estate for example) and for previously unreported dividends, interests and capital gains from the account.

The taxpayer would be required to disclose the full extent of previously unreported income to the IRS as part of the requirements to qualify for a voluntary disclosure. It would then be up to the IRS’s discretion as to how many years it would require amended returns for. The FBAR penalty apparently does not extend beyond a 6 year statute of limitations.

When determining the highest amount in each undisclosed foreign account for each year or the highest asset balance of all undisclosed foreign entities for each year, what exchange rate should be used?

Convert foreign currency by using the foreign currency exchange rate at the end of the year.

If I do not have the ability to full pay can I still participate in the IRS's Voluntary Disclosure Practice?

It is possible for a taxpayer who is unable to make full payment at that time to submit a request that includes other payment arrangements acceptable to the IRS.

Contact my office online or call 714-908-4467 or toll free 866-974-8429 to schedule a free half hour consultation to discuss your FBAR and voluntary disclosure concerns and how I can be of assistance. When you call, you will speak directly to me, not a paralegal or assistant, to get the experienced answers you need.