“Sometimes for taxpayers, who have serious tax non-compliance issues or may be facing international tax enforcement, the option of initiating a state voluntary disclosure contemporaneously with the making of a federal voluntary disclosure is the client’s best course of action. The Internal Revenue Service has had a voluntary disclosure program for more than half a century, and it provides a mechanism for taxpayers to get back into compliance by making a truthful, timely and complete disclosure, showing a willingness to cooperate, and making good faith arrangements to pay in full the tax, interest and penalties. Taxpayers greatly benefit because the program enables them to become compliant, avoid substantial civil penalties and generally eliminate the risk of criminal prosecution”
Yet unlike the Internal Revenue Service, the California Franchise Tax Board as no similar procedure for voluntary disclosure communications. The current practice is to file amended state tax returns with a brief statement regarding the omitted income and payment of the tax and interest. The case could end there, after the filing of the state tax returns with little or no communication back from the Board. However, if the Franchise Tax Board decides to impose civil penalties or there is a final federal determination as a result of an Internal Revenue Service civil examination, the case could reemerge. But what if the taxpayer does not come forward and file amended returns, how will the Franchise Tax Board find out that amended federal returns were filed?
IRC Section 6103(d) authorizes the IRS to share any tax return information with State agencies. California taxpayers who amend federal returns for voluntary disclosure purposes expose themselves to enforcement actions by the FTB as the information released to the IRS during the voluntary disclosure process will ultimately be shared with the California authorities.
California has made several limited attempts at voluntary disclosure programs. During the months of August 1, 2011 through October 31, 2011 California established a Voluntary Compliance Initiative (hereinafter “VCI 2”) which provided an amnesty period for taxpayers to come forward by filing amended state returns and remitting unpaid tax and interest resulting from unreported offshore financial arrangements. In exchange for entering VCI 2, the FTB would waive all penalties, other than the Large Corporate Understatement Penalty and the Amnesty Penalty, and grant qualified participants protections from criminal action.
However, VCI 2 was not the first attempt by CA to encourage taxpayers to come forward with offshore financial arrangements used to underreport California income tax liability. In 2003, CA enacted the first Voluntary Compliance Initiative (hereinafter “VCI 1”) that permitted taxpayers to file amended returns, pay the tax and interest associated with abusive tax avoidance transactions. Similar to VCI 2, the VCI 1 was available for a limited period of time from January 1, 2004 through April 15, 2004.
VCI 1 and 2 in some ways conformed to the federal program by the IRS, the Offshore Voluntary Disclosure Initiative (OVDI), available to taxpayers at the same time. The IRS enacted OVDI to encourage taxpayers with undisclosed foreign accounts and undisclosed foreign entities used to evade or avoid tax to come forward and be in compliance with United States tax laws. Similarly, California enacted a voluntary disclosure programs to offer California taxpayers an opportunity to correct their California income tax liability.
Currently, the FTB offers a only a limited Voluntary Disclosure Program for qualified entities, qualified shareholders, or beneficiaries that have incurred an unpaid California tax liability or an unfulfilled filing requirement to disclose their liability voluntarily. The program is available for nonresident shareholders, beneficiaries, and entities that have never filed a return with the FTB. The FTB is authorized to waive any or all penalties related to a failure to make and file a return and any penalty related to a failure to pay any amount due to the FTB. Waiver of penalties requires full compliance with the Voluntary Disclosure Program by participants
A new Voluntary Disclosure Program should be developed that allows all non-compliant California taxpayers to come forward . The state program could be as simple as posting a series of frequently asked questions and answers on the Franchise Tax Board’s website with procedural rules regarding how and when to make a voluntary disclosure, along with the Franchise Tax Board’s policy concerning what constitutes a voluntary disclosure. Regardless of the mechanics, there is little doubt that a genuine need exists in California for a clear disclosure policy.
The Franchise Tax Board surely stands to gain by implementing a voluntary disclosure program because it acts as a revenue accelerator and works to efficiently resolve tax disputes and reduce case inventories. The state benefits from receiving substantial sums of delinquent civil taxes, while obtaining future tax compliance by prior offenders. Notably, the Board already has the authority to develop and implement a program, based on the existing Revenue and Taxation Code without needing legislative action or approval. Taxpayers, in turn, benefit from having the opportunity to clear past tax debts on favorable terms and generally avoid criminal prosecution.
A PROPOSED VOLUNTARY DISCLOSURE PROGRAM FOR INDIVIDUALS AND BUSINSSES SEEKING TO BECOME TAX COMPLLIANT WITH THE CALIFORNIA FRANCHISE TAX BOARD, Sanford I. Millar and Steven L. Walker, February 2013.