The U.S. has a series of complex tax compliance requirements when it comes to ownership of offshore assets by U.S. citizens and permanent resident aliens. Many people fail to comply because it is complex, costly or simply they are unaware that such requirements exist. If you may fall into this category of U.S. taxpayers, please read on. In this article, we address voluntary disclosure programs that may be available to get you back on the right track.
Cross-border transactions and offshore investment by U.S persons have always been pressure points for the U.S. government. Despite the various foreign reporting requirements in place, the U.S. continues struggling to enforce compliance. In March of 2009, the IRS announced a special amnesty program to encourage the taxpayers to voluntarily disclose their hidden offshore accounts by September 23, 2009, in exchange for abatement of late filing penalties. Taxpayers who failed to disclose their accounts by the deadline faced harsh civil penalties and possible criminal prosecution if their reportable accounts were discovered. Since 2009, the voluntary disclosure program has evolved into a solid program, and the level of taxpayer awareness has also increased.
These days, taxpayers have different tax amnesty options available to voluntarily disclose their unreported offshore financial holdings.
There are different types of tax systems around the world. Some countries levy tax on a territorial or quasi-territorial basis, while others levy tax on a worldwide basis. The U.S. previously had a worldwide tax system, but the Tax Cuts and Jobs Act of 2017 implemented a mixed tax system whereby U.S. residents are taxed on a worldwide basis and U.S. domestic corporations are taxed on a quasi-territorial basis. U.S. residents include U.S. citizens and green card holders (whether living in the U.S. or abroad), and individuals who spend a significant portion of the year in the U.S. (determined by the substantial presence test, which is outside the scope of this article).
Taxpayers with ties to foreign countries must contend with a cumbersome set of compliance requirements that are sometimes so complex that professionals struggle to remain current. In our practice, we repeatedly see situations where taxpayers fail to comply regardless of whether they used a tax professional to prepare their U.S. tax filings. The penalties for non-compliance are steep, ranging from $10,000 civil penalties per form per year to criminal prosecution and imprisonment. For example, the penalty for failing to file or incorrectly filing Form 5471, Information Return of a U.S. Person with Respect to Certain Foreign Corporations, is $10,000 per form. Similarly, failure to file Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engages in a U.S. Trade or Business, may result in a penalty of $25,000.
Current IRS Voluntary Disclosure Programs
Taxpayers who are delinquent on their international information returns (whether by failing to file or filing incorrectly) are encouraged to utilize these programs to voluntarily disclose previously unreported or underreported offshore income, assets, investments, and accounts to minimize civil penalties and avoid criminal prosecution. Depending on the circumstances, taxpayers have four programs available:
- IRS Criminal Investigation Voluntary Disclosure Program;
- Streamlined Filing Compliance Procedures;
- Delinquent FBAR Submission Procedures; and
- Delinquent International Information Return Submission Procedures.
In this article, we will cover Streamlined Filing Compliance Procedures.
Streamlined Filing Compliance Procedures
The Streamlined Filing Compliance Procedures provide guidelines on how to file the amended or delinquent tax return and terms for resolving tax and penalties obligations. It was first offered on September 1, 2012 but has been expanded and modified since then. Eligibility has been extended to U.S. taxpayers residing in the U.S., the $1,500 tax threshold has been eliminated, and the risk assessment process has been eliminated.
Most importantly, these procedures are only available to individual taxpayers and estates of individual taxpayers whose failure to comply with U.S. foreign reporting requirements is not willful. Non-willful conduct is conduct that is due to negligence, inadvertence, mistake, or a result of a good faith misunderstanding of the requirements of the law. To take advantage of the procedures, taxpayers must certify that their non-compliance was non-willful.
This program is not for all taxpayers. In some situations, the taxpayers may be prohibited from using the procedures even if their non-compliance was non-willful. For example, if the IRS has initiated an examination of the tax return for any taxable year, regardless of whether the examination relates to undisclosed foreign financial assets, the taxpayer may not participate in the program. Nonetheless, the streamlined procedures are available to both U.S. individual taxpayers residing outside the United States, “Streamlined Foreign Offshore Procedures”, and U.S. individual taxpayers residing in the United States, “Streamlined Domestic Offshore Procedures”.
The tax returns submitted under either of these programs will be processed like any other return submitted to the IRS. This means that the receipt of the tax returns is not acknowledged by the IRS, and there is going to be no signing of the closing agreement with the IRS. The returns are not subject to IRS audit automatically but may be selected under the existing audit selection processes applicable to any U.S. tax return. They may also be subject to verification procedures for accuracy and completeness. This means that tax returns submitted under the streamlined procedures may be subject to IRS examination, additional civil penalties, and even criminal liability. Thus, the taxpayers who are concerned that their failure to report income, pay taxes, and submit required information returns was due to willful conduct and who therefore seek assurances that they will not be subject to criminal liability and substantial monetary penalties should consider participating in the Criminal Voluntary Disclosure Practice.
It is very important to understand that the taxpayers who participate in the streamlined procedures are expected to comply with the U.S. law for all future years and file returns according to regular filing procedures.
Regardless of your situation, remember that there are options to resolve past non-compliance. Each taxpayer’s situation is unique, so it is very important to evaluate which programs you may qualify for before jumping into any particular program. It is also very important to understand the risks, costs, and penalties associated with each program. If you have any questions about these programs, please contact an HBK tax adviser. We are a full-service accounting firm and have a team of experts who can help.