[authors: Carlene Y. Lowry and William A. Kastin]
As reported in our January 10, 2012 Legal Alert, the Internal Revenue Service (IRS) has announced another offshore voluntary disclosure program (the Current OVDP) with a goal of bringing U.S. persons into compliance with respect to their foreign asset and foreign account reporting obligations. On June 26, 2012, the IRS provided updated guidance to the Current OVDP.
The IRS previously instituted offshore voluntary disclosure initiatives in 2009 and 2011. Distinctions between the 2011 offshore voluntary disclosure initiative (2011 OVDI) and the Current OVDP include those discussed in our January 10, 2012 legal alert. For example, unlike the 2011 OVDI, there is no set deadline for U.S. persons to enter into the Current OVDP. Notwithstanding this apparent open-endedness, however, taxpayers should keep in mind the IRS may change the terms of, or terminate, the Current OVDP at any time. Another example of the differences between the 2011 OVDI and the Current OVDP is with respect to the penalty structure. The highest penalty rate has been increased from 25% (applicable in the 2011 OVDI) to 27.5% (in the Current OVDP) of the highest aggregate balance in the applicable foreign bank accounts/entities or the value of the applicable foreign assets held during the applicable disclosure period; provided, however, the 5% and 12% reduced penalty rates announced in the 2011 OVDI remain available in the Current OVDP if certain requirements are met.
In addition to these distinctions, the recent guidance issued in the form of frequently asked questions (FAQs) provide additional clarifications and information regarding the Current OVDP. The highlights are as follows:
The disclosure period (i.e., those years to which the Current OVDP relates) is the most recent eight tax years for which the due date for filing the taxpayer’s income tax return (including extensions) has passed. For example, if a taxpayer filed his 2011 tax return on or before April 15, 2012, then the applicable disclosure period for that taxpayer would be 2004-2011. Alternatively, if a taxpayer filed for an extension and has not yet filed his 2011 tax return, then the applicable disclosure period for that taxpayer would be 2003-2010.
If the taxpayer can establish that during the disclosure period he timely filed original compliant returns (i.e., original, as opposed to amended, returns which fully reported all applicable offshore accounts and assets), and did so before making a voluntary disclosure, then the disclosure period will not include the compliant years. For example, if underreporting occurred in 2004-2007, after which time the taxpayer began properly and timely reporting all foreign accounts and foreign assets on the taxpayer’s original tax and information reporting returns, then the only years included in the Current OVDP disclosure period would be 2004-2007. This is true, even if the highest aggregate balance of foreign assets and foreign accounts was in 2010.
There are set time frames for submitting required documents to the IRS once the voluntary disclosure process has been initiated. Taxpayers can, however, request an extension of up to 90 days and the IRS has provided procedures for addressing any difficulty the taxpayer may encounter in obtaining records from overseas.
The 2011 OVDI included a safe harbor to avoid information reporting penalties for U.S. persons who were “tax compliant” with respect to their foreign assets and accounts, but who failed to timely comply with their TD F 90-22.1 (FBAR), Form 5471 and/or Form 3520 filing requirements. The terms of this safe harbor had to be met by a specific date. The safe harbor is now a permanent part of the Current OVDP so long as the taxpayer has not been contacted regarding an income tax examination or a request for delinquent returns.
The IRS has clarified that spouses may participate in OVDP jointly or separately.
If the taxpayer has a Canadian registered retirement savings plan (RRSP), registered retirement income fund (RRIF) or similar Canadian plan, the Current OVDP permits a late election pursuant to the United States - Canada Income Tax Convention (treaty) to defer U.S. income tax on income earned by the plan that has not been distributed. This election may permit the value of such plans to be excluded from the Current OVDP offshore penalty base. This ability to make a late election may extend beyond Canadian-related plans in certain circumstances.
Taxpayers should be aware that if the IRS has initiated a civil examination of the taxpayer, even an exam unrelated to undisclosed foreign accounts or foreign assets, then the taxpayer is ineligible to participate in the Current OVDP. Likewise, a taxpayer under IRS criminal investigation remains ineligible to participate in the program. Additionally, a taxpayer may be ineligible for the Current OVDP based on the taxpayer’s connection to certain financial institutions or due to the taxpayer’s failure to properly notify the U.S. government of an appeal of a foreign tax administrator’s decision to authorize disclosure of account information to the IRS. Thus, it is important for taxpayers to consider participating in Current OVDP as soon as possible (i.e., prior to the commencement of any such events) despite the fact that the program currently has no expiration date.
Concurrently with the release of the Current OVDP FAQs, the IRS announced a separate forthcoming procedure (Compliance Procedure) to assist U.S. citizens residing overseas, including dual citizens, in becoming compliant with their U.S. federal tax filing obligations. Taxpayers utilizing the Compliance Procedure will be required to file delinquent tax returns along with appropriate related information returns for the past three years and to file delinquent FBARs for the past six years. The level of the IRS's review of these submissions will vary according to the compliance risk of the submission.
Submissions with low compliance risk will generally not be subject to penalties or other actions while those with higher compliance risk will be ineligible for the procedure and subject to a more thorough review and possibly a full examination. According to the IRS, “low risk” will generally be found if the returns are “simple” and there is little or no U.S. tax due (generally less than $1,500 of tax due each year will be considered low risk). The risk level will generally rise with an increase in the taxpayer’s income and assets and with indications of sophisticated tax planning or avoidance, among other factors.
Also, as part of the Compliance Procedure, the IRS will grant taxpayers retroactive relief from a taxpayer’s failure to timely elect income deferral on certain retirement and savings plans that would otherwise have been permitted under an applicable income tax treaty. There is no indication that this relief is limited to Canadian plans.
Once a taxpayer makes a submission under the Compliance Procedure, however, the taxpayer will be ineligible to participate in the Current OVDP. This means that taxpayers who would otherwise qualify for both the Current OVDP and the Compliance Program must carefully determine whether to participate in the Compliance Procedure. Taxpayers ineligible to participate in the Current OVDP will also be ineligible to participate in the Compliance Procedure. There remain many questions relating to the Compliance Program and it is expected that the IRS will issue guidance prior to the procedure’s September 1, 2012 effective date.
The above information is only a general summary of the Current OVDP and the Compliance Procedure and is not a comprehensive discussion of all the applicable requirements for participating in either. Eligibility for participation, and the decision to participate in either program, will depend upon the taxpayer’s specific situation and should be discussed with the taxpayer’s legal and tax advisors.
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