If you are one of the many U.S. residents who own overseas assets and were not aware of the disclosure requirements for these accounts, you should consider disclosing your offshore assets and becoming tax compliant without delay.  New information-sharing agreements between the United States, foreign governments, and foreign financial institutions are closing the door on bank secrecy and are exposing non-compliant taxpayers who hold undisclosed assets abroad.  The IRS’s Offshore Voluntary Disclosure Program (OVDP) offers a path for U.S. tax residents to become compliant with their outstanding filing obligations while mitigating or minimizing the penalties associated with non-compliance — however, this program can close at any time.  Alternatively, the IRS could choose to limit the types of taxpayers who may enter into the OVDP, or increase the penalties offered within the OVDP framework.  Once the program closes, taxpayers may once again face full audits and investigations, full FBAR penalties, and potential prosecution.  Depending on the aggregate amount of a taxpayer’s offshore assets, penalties could reach as high as 50% of the value of each overseas account per year.

The main objectives of the OVDP are to make U.S. citizens and tax residents compliant with U.S. tax law and to prevent tax fraud and tax evasion.  Since 2009, the risk involved with failing to disclose offshore assets has been steadily increasing.  The U.S. Treasury has been ramping up its enforcement of cross-border withholding taxes and increasing non-compliance penalties.  In addition, the U.S. Department of Justice is increasing its civil and criminal prosecution for tax fraud and evasion, and the IRS is increasing its civil and criminal audit enforcement.

Advantages to Disclosure and Risks of Non-Disclosure

There are many advantages to disclosing offshore assets through the OVDP.  First, it enables the taxpayer to become FBAR, FATCA, and tax compliant going forward.  In addition, the OVDP allows a taxpayer to avoid substantial civil penalties as well as limit the risk of criminal prosecution that could occur through a full audit and prosecution.

The OVDP offers taxpayers, in lieu of stiff penalties for each specific failure to disclose offshore assets, a one-year miscellaneous FBAR penalty. The penalty is calculable within a reasonable degree of certainty before entering into the program, which allows each taxpayer to gauge the total cost of resolving their offshore tax issues.  Disclosures made outside the OVDP, while susceptible to uncertain civil penalties, can also limit and reduce the potential for criminal prosecution.

There are various risks to not disclosing offshore assets, including the potential for the following non-disclosure penalties:

  • Fraud penalties
  • Foreign information return penalties
  • Willful and non-willful FBAR penalties
  • Failing to file Form 3520 and Form 3520-A penalties
  • Failing to file Form 8938 penalties

In addition, appropriate cases may be referred to IRS Criminal Investigations and/or the Department of Justice for criminal prosecution.

Submission through the OVDP can reduce the penalties faced but can come at a heavy cost.  Disclosure through OVDP can be a time-consuming and complex process.  There is a significant amount of documentation which must be gathered and prepared for each offshore account.  However, disclosing through OVDP can give taxpayers the peace of mind in knowing the penalties up-front and mitigating or eliminating the risk of criminal prosecution, full audit, and harsh penalties.

Foreign Account Tax Compliance Act (FATCA)

            With the increased U.S. scrutiny of offshore accounts, there has also been a greater emphasis on increased international cooperation and financial information sharing.  One of the methods the U.S. is using to substantially improve international financial information reporting is through the Foreign Account Tax Compliance Act (FATCA) passed in 2010.  FATCA is a new information and reporting scheme for payments made to foreign financial institutions and entities.  A primary goal of FATCA is to gain information on U.S. tax residents that are gaining unreported income through overseas accounts.  Various countries have entered into agreements with the U.S. to implement FATCA’s information-sharing provisions. The following countries have already entered into FATCA agreements with the United States:

  • Mexico
  • Canada
  • United Kingdom
  • Japan
  • Germany
  • Switzerland
  • Ireland
  • Denmark
  • Norway
  • Spain

Countries that are in the final stages of finalizing FATCA agreements with the U.S. are:

  • Bermuda
  • Malta

Countries that are currently in discussions and negotiations for a FATCA agreement with the U.S. are:

  • Taiwan
  • Singapore
  • Bahamas
  • Cayman Islands
  • European Union

More and more countries are getting on board with the United States’ initiative to increase international transparency and compliance in tracking down tax evaders.  In addition to the FATCA agreements, the IRS and U.S. Treasury have also worked to revise tax treaties and tax information exchange agreements (TIEAs) to make it more difficult for taxpayers to evade taxes by sending their assets overseas.

Foreign Financial Institutions and Entities (FFI)

            Under FATCA, Foreign Financial Institutions (FFIs) may register with the IRS to report certain information about their account holders who are U.S. tax residents.  FFIs that do not comply fully with the agreement may be required to withhold 30% on certain payments to foreign payees.  Furthermore, FFIs that do not register with the IRS to agree to report information on U.S. tax resident account holders face a 30% withholding tax on certain U.S. source payments made to them.  Therefore, banks located in countries that have not yet entered into FATCA agreements may already be preparing to report on their account holders to avoid the stiff withholding penalty for not cooperating with the IRS.  Given the present course, it is likely that all financial institutions doing a significant portion of business in the United States will share account information with the IRS. Accordingly, the overseas protections and tax shelters formerly used to shield assets may soon become obsolete.

“John Doe” Summons

            Another powerful legal tool that the IRS and Department of Justice are using to track down holders of undisclosed offshore assets is the “John Doe” summons.  This summons can be issued to international financial institutions to obtain information for a group or class of persons whose identities are still unknown.  This summons has been used to seek bank records from thousands of suspected tax evaders from financial institutions with and without U.S. branches or entities.  Extending the reach of the “John Doe” summons to financial institutions with no U.S. affiliates allows the IRS and U.S Treasury to gain information that many thought would be secret.  Foreign courts will aid the United States in appropriate circumstances in enforcing these “John Doe” summonses outside US borders.

Written by Timothy Canney

JDKatz: Attorney's At LawJDKatz, P.C. is a full-service law firm focused on tax lawbusiness and transactional lawestate planning and elder law. We are dedicated to minimizing your existing liability and risks while providing valuable tax planning to streamline your tax issues in the future. Please call us at 301-913-2948 to schedule an appointment to meet with one of our trusted attorneys, or visit http://www.taxattorneymd.com.