Taxpayer’s often find themselves facing substantial penalties for failing to file or late payment of income estate or gift tax return. Some taxpayers face enormous penalties for failing to file a Report of Foreign Bank or Financial Account, commonly known as an FBAR. Penalties, can include the risk of prosecution, and for some possible deportation. There is a defense to some of the penalties and that is the “reasonable cause” defense. The reasonable cause defense is valid in cases where the taxpayer obtained the written advice of a tax practitioner, who was fully informed on all the facts and provided advice on a substantive, non-procedural, aspect of tax law. The taxpayer must then have relied on that advice.
The key distinction is whether the penalty is asserted because the taxpayer failed to timely file a return or otherwise comply with an unambiguous statute (like the due date of a return such as an FBAR versus whether the advice of a professional is on a matter of tax law, such as whether a liability exists or a disclosure is necessary. In the case where the taxpayer relies of the advice of an accountant or lawyer on a substantive issue of tax law, the taxpayer can assert a “reasonable cause” defense. Caution, discussions with accountants are not privileged for criminal tax purposes, whereas communications with lawyers have the benefit of the attorney client privilege.
In the case of ownership or control of offshore assets reliance on written advice of skilled professionals can be extremely valuable. Whether a taxpayer has “control” of a foreign account or assets can be critical in avoiding FBAR penalties and in determining if information returns like and FBAR or Form 3520,Report of Foreign Gift, Devise or Bequest, or Form 5471, Return of Controlled Foreign Corporation , are required and how the content of the return. The penalties for failure to file an FBAR if a reasonable cause defense is absent range from a “Non-willful” penalty of $10,000 per undisclosed account per year (for 6 years) to the greater of $100,000 or 50% of the the highest account balance per year per account (for 6 years) for “willful” violations, to criminal prosecution and willful civil penalties. The failure to timely report a foreign gift or inheritance in excess of $100,000 per year ranges from 25% -35% of the Fair Market Value of the Gift. Failure to file a CFC return is $10.000 per year. These penalties and others are avoidable if the taxpayer obtains a written opinion from a skilled practitioner in advance of the due date of the return. For some taxpayer’s the risk of criminal prosecution is a serious possibility if they act without advice. Omissions from visa applications (such as an EB-5 investor visa) are one example. Acts that are intended to avoid reporting of money transfers which may give rise to liability for Money Laundering charges or violations of sanctions can be prevented by timely advise and appropriate action are another expample.
The key to penalty risk avoidance is competent written advice in advance on a substantive issue of tax law. By acting on their own, taxpayers are simply playing the “audit” lottery. and will all know the odds of winning the lottery are slim at best, But, if a taxpayer has not obtained an advance opinion there is for the time being the Offshore Voluntary Disclosure Program (OVDP), the domestic voluntary disclosure program and/or other curative actions. It is always better to come forward and have something to negotiate than it is to play hide and seek and wait to be caught.