Previously, the IRS had two programs, Offshore Voluntary Disclosure Program (2009) and Offshore Voluntary Disclosure Initiative (2011), which have been discontinued. In their place, the IRS has implemented a new program “affectionately” known as Son of OVDP, but is still known as OVDP.
The main difference to the new OVDP is that there is no deadline. The stipulation is that the IRS demands full cooperation, because if you get caught concealing foreign assets while you are in the program, all bets are off. Also, you need to act quickly, as the IRS has the option to end or adjust OVDP at its discretion, which could mean a change in guidelines or an increase in penalties.
There are three steps to OVDP:
Step 1: The taxpayer must submit a pre-clearance request to Criminal Investigations on Form 14457. The latest version of the form was released in March 2019.
- Eligibility is still determined under IRM 18.104.22.168.
- Illegal-source income is not eligible (e.g., a client who is a medical marijuana dispensary in a state where it is legal, but illegal under federal law cannot qualify for the OVPD program.)
- Timely disclosure. Get pre-clearance before the IRS notices that there is a problem. Your attorney should consult the IRS manual to see if you can still be part of this program
Step 2: After pre-clearance, the taxpayer is subject to a six-year voluntary disclosure program.
- There will definitely be an audit and the taxpayer must be able to substantiate any returns being filed.
Step 3: Penalty framework. The taxpayer will pay a 75 percent fraud penalty for the highest tax deficiency
- A wilful FBAR penalty will be 50 percent of the highest balance
- Informational return penalties will not be automatically imposed, but the examiner has discretion as to whether or not to impose those. The examiner is supposed to take into account the imposition of other penalties.
- There will be statute of limitation issues to take into consideration as well. As the FBAR penalty is pretty low, the examiner probably will impose some of the informational return penalties so the taxpayer isn’t completely off the hook.
So, that is the low-down for taxpayers who were in willful violation of FBAR. Now, let us take a look at the programs for non-willful violations.
Streamlined Programs allow you to come into the program if you have made a non-willful violation. Remember, this is a very fact-sensitive determination, and you likely should seek tax counsel’s advice on whether your circumstances would allow you to qualify.
The benefit of these programs is that you can walk away with only paying a 5 percent penalty after making full disclosures. However, you should really approach this with caution because there are no guarantees and an audit may accompany to verify that the disclosures are full and complete.
The requirements for this program are:
- Available to U.S. persons and estates only
- There has been a failure to report foreign financial assets or pay all tax due in respect of those assets
- The taxpayer is able to certify that the failures to comply were non-willful violations
- The taxpayer is not currently under IRS examination or criminal investigation
- The taxpayer has a valid Social Security of Taxpayer Identification Number
How Does the IRS Define “Non-willful?”
Before we delve into the non-willful compliance programs, we should take a look at how the IRS defines non-wilful. For streamlined programs, the IRS defines non-willful as “conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirement of the law.” You are going to have to prove your case to the IRS (under threat of perjury and punishment) that your actions were not intentional.
Here are some questions that the IRS will hard want answers to:
- What kind of evidence is relevant to demonstrate “non-willfulness” when the definition of non-willful conduct ranges from negligent conduct to conduct resulting from a good faith misunderstanding of the law?
- How do you actually prove that you did not know about including offshore income on your U.S. tax return or did not know about the FBAR filing requirement? How can you substantiate your claim?
- Did the taxpayer have any knowledge of the foreign source income, foreign
- accounts or foreign assets? Why was there income?
- What is your level and type of education?
- Do you have any specialized knowledge of tax rules or finance or awareness that the U.S. requires U.S. persons to report income received from foreign sources on your tax returns?
- Do you know anything about an FBAR or international information returns, such as a Form 5471?
- Were you a citizen or resident of the country where the accounts/assets were/are located? If not, why were the accounts opened in that country?
- If you opened the account, did you do so with a U.S. passport? Was the account opened in a jurisdiction with no bank secrecy laws?
- What were/are the sources of the funds in the accounts?
- Is the source of funds traceable to previously taxed income? Were the funds an
- inheritance? Were the funds from your work in the country where the accounts are located?
- What type of activities took place with respect to the accounts? Deposits, withdrawals, wire transfers? If so, how frequent were these activities?
- Were there any trades in the accounts? If so, who managed the accounts?
- Was there a credit card associated with the account? If so, did you ever use it? If so, how frequently?
- Has the account ever been moved? If so, why? Was it moved to a tax transparent country or to a jurisdiction with a tradition of bank secrecy?
- Was an entity used when the account was opened? If so, did the bank require the use of an entity? Was it used to disguise the true identity of the account owner?
- Did you receive regular statements from the bank? If not, did a relative or friend receive statements or did you instruct the bank to not send any statements to you?
The IRS is also going to want to know about your tax preparer and what information you may or may not have given them:
- Were you given a tax organizer by your tax preparer and if so, did you fill it out truthfully? Do you have a copy of it?
- If you did not receive an organizer from the tax advisor, did they ask you about the existence of any offshore accounts or assets, or about any foreign source income?
- If your tax preparer did not ask you about any foreign income, did you tell them about any offshore accounts, offshore assets, or foreign source income?
As you have probably deduced, it is pretty difficult to prove non-willfulness to the IRS, but you can certainly try. Let me say this … whether or not you decide to retain our firm to assist you … you would be doing yourself a great disservice to try to face this on your own. As it has been stated before, the IRS is serious about going after these offshore accounts and wringing as much tax revenue (including penalties) out of them as possible. Make one dubious or incomplete answer to any of these (and other) questions, and you could seriously sabotage your chances at passing the non-willful tests and any hope of getting into one of the streamlined programs.
The Differences Between SFOP and SDOP
The main differences between SFOP and SDOP is that in SDOP, the taxpayer qualifies as a resident taxpayer; in SFOP, you are classified as a non-resident U.S. taxpayer. Secondly, for SFOP, all penalties are waived; the taxpayer only needs to file original or amended returns, pay taxes and interest due over a three-year period, and file delinquent or amended FBARs for the most recent six years.
For SDOP, the taxpayer must have filed original returns, amended returns and paid taxes and interest due over a three-year period and a 5 percent miscellaneous penalty on the highest account balances of the taxpayer’s offshore assets (using a six-year look back period and the year-end balances).
Completing the Certification Forms
The first step that must be taken for both SFOP and SDOP is to file Forms 14654 (domestic) and 14653 (overseas). These are certification forms and are extremely complex. That is why we cannot stress strongly enough that you should have an expert in tax law help you complete this, and other resolution program forms.
- You must include a statement of facts describing specific reasons for your failure to report all income, pay all tax, and submit all required information returns,including FBARs.
- You must include the whole story — both the good and the bad.
- Your statement should include specific reasons, including your personal background, financial background, and any other relevant facts to support why you failed to report all income, pay all taxes and file all required informational forms.
- Where did the funds come from? Are they legal? Was the account or asset(s) inherited? Why did you open the account in foreign country? Were you living there?
- If you answered “NO” on Schedule B, you must include an explanation
- If you owned or controlled a foreign entity and failed to properly report ownership, why not?
- If you relied on a professional advisor, then include a summary of the advice you were given as well as the advisor’s contact information. You must also provide background information about the advisor, how you know them and how often you are in contact with them.
SFOP (for Non-Residents)
Forms needed: 14653 (certification form)
Additional Requirements: The taxpayer was outside of the U.S. for at least 330 full days for one of the streamline years. Temporary presence of the taxpayer in the U.S. or maintenance of a dwelling in the U.S. by an individual necessarily means that the taxpayer’s “abode” is in the U.S. (non-residency requirements). Taxpayers who are green card holders or not U.S. citizens,meet the non-residency requirement if they did not meet the “substantial presence” test for any of the past three years for which the U.S. tax return date has passed.
In addition to completing and submitting the required forms and paying all taxes and penalties, the you must:
- Meet the applicable non-residency requirement (for joint filers, both spouses must meet the applicable non-residency requirement)
- Not have reported the income from a foreign financial asset and failed to pay tax on it
- Not filed an informational return, such as an FBAR due to non-willful conduct
The SFOP Process
Once you are have met the eligibility for SFOP, the process is as follows:
- You must file delinquent or amended tax returns and all required informational returns for each of the most recent three years and pay any tax and interest due;
- You must file delinquent or amended FBARs for each of the most recent six years
- You must file a certification where you certify under penalty of perjury that the failure to file tax returns, report all income, pay all taxes, and submit all information returns, including FBARs was due to non-willful conduct.
SDOP (for Residents)
Forms needed: Form 14654 (certification form)
Additional Steps: You must file amended tax returns and file all required informational returns (for example: 3520, 3520-A, 5471, 5472, 8938, 926, and 8621)
You must also file any delinquent FBARs for any of the last six years missing a filing.
In addition to completing and submitting the required forms and paying all taxes and penalties, then you must:
- Not meet the applicable non-residency requirement. For joint filers, one or both spouses must fail to meet the applicable non residency requirement
- Have previously filed a U.S. tax return for each of the most recent the years for which the U.S. tax return due date (or properly extended due date) has passed
- Have not reported gross income for a foreign financial asset and pay taxes on it and not filed information return, such as an FBAR, with respect to the foreign financial asset
- Certify that such failures resulted from non-willful conduct (Form 14654).
The SDOP Process
Once you are have met the eligibility for SDOP, the process is as follows:
- You must file amended tax returns, together with all required information returns for each of the most recent three years and pay any tax and interest due;
- You must file delinquent FBARs for each of the most recent six years
- You must file a certification here you certify under penalty of perjury that the
- failure to file tax returns, report all income, pay all tax, and submit all informational returns, including FBARs, was due to non willful conduct.
Assets Included in the SDOP Miscellaneous Penalty
As we have mentioned, one major difference between SFOP and SDOP is that SDOP incurs a 5 percent miscellaneous penalty on the highest aggregate balance or value of the taxpayer’s foreign financial assets that are subject to the miscellaneous offshore penalty during the years in the covered FBAR period. The following are assets that are included in the penalty assessment.
- All foreign financial accounts (as defined in the instructions for FinCEN Form 114) in which the taxpayer has a personal financial interest that should have been, but were not reported on an FBAR for the six years covered in the FBAR period
- All foreign financial assets (as defined in the instructions for Form 8938) in which the taxpayer has a personal financial interest that should have been, but were not reported on Form 8938 for the three years covered in the tax return period,
- All foreign financial accounts/assets (as defined in the Instructions for FinCEN Form 114 or IRS Form for the three years covered in the tax return period, 8938) for which gross income was not reported for that year.
- All of the assets that meet the definition of foreign financial assets in the instructions for Form 8938 and not reported on that form, unless the taxpayer reported them on Forms 3520 or 5471 that were filed on time. (If they are reported on Forms 3520 or 5471 on time, they do not have to be reported on Form 8938 for the same tax year.)
- The penalty base includes the stock in the corporation, but not the underlying financial accounts, unless the entity is a disregarded entity for federal tax purposes. If the corporation is a disregarded entity, then the taxpayer must report the underlying foreign financial accounts.
- The same principal would apply to assets that are held in a foreign partnership or trust.