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Groundhog Day for IRS Voluntary Disclosure Do-over

January 11, 2012

Groundhog Day isn’t until next month, but the Internal Revenue Service is again invoking that same sense of déjà vu with its third Offshore Voluntary Disclosure Program in the past three years.

The IRS introduced the latest program Monday, and like the classic Bill Murray comedy it certainly had a familiar feeling (see IRS Reopens Voluntary Disclosure Program). The 2012 OVDP shares many similar characteristics with the 2011 program, which officially expired last September, except for taxpayers in the highest penalty category who could see a hike in the amount they would have to pay.

Those who come forward and declare previously undisclosed foreign bank accounts would have to pay a penalty of 27.5 percent of the highest aggregate balance in their foreign bank accounts or entities, or the value of the foreign assets during the eight full tax years prior to the disclosure. That’s an increase from 25 percent in the 2011 program. Some taxpayers would be eligible for 5 or 12.5 percent penalties, which are basically the same as in 2011.

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Unlike the 2009 and 2011 flavors of the program, though, this one is supposed to last for an indefinite time period, so the IRS doesn’t have to keep re-extending it and trying to come up with ever-harsher penalties.

Still, there’s no arguing with success, and the IRS has managed to convince a whole lot of taxpayers to fess up. So far, the IRS has collected $4.4 billion under the 2009 and 2011 programs, with a total of 33,000 voluntary disclosures. Voluntary, with a little arm twisting, that is.

In fact, the IRS has actually accumulated a backlog of cases after taxpayers reluctantly came forward, and it needed to extend both the 2009 and 2011 programs beyond their expiration dates in order to accommodate the crowds.

One attorney who has been handling cases on behalf of taxpayers coming forward under the voluntary disclosure programs is Paul Behling, a partner at the law firm Withers Bergman in New Haven, Conn. I spoke with him by phone on Tuesday and he filled me in on what he’s been seeing with the IRS’s carrot-and-stick approach to tax compliance.

“I think it’s a good move on behalf of the IRS,” he said. “They’re continuing to press Swiss and other banks to disclose information, while they’re threatening prosecution and indictment of individual bankers, and encouraging taxpayers to come forward, threatening outrageous statutory penalties of up to 50 percent of the account balance.”

He noted that some taxpayers had delayed coming forward because of uncertainty about the cap on penalties. By rolling out the new program for an indefinite time and spelling out the cap, the IRS is giving taxpayers more certainty about the extent of the penalties they potentially face.

Even though the penalties are somewhat higher under the new program, Behling believes the IRS was practically forced to increase the penalties a bit because the program is designed to encourage taxpayers to come forward ASAP.

“The earlier you come in and clean up your act, the better,” he said. “When the IRS sets up end dates, they’re really forced to increase the penalties. This increase is a wise one. Going from 25 to 27 and a half is not such a significant amount. I think it’s a good move to have an indefinite date. Instead of the IRS having to come out with new FAQs every year, they reserve the right to ratchet up the penalties from time to time. If they leave it open ended, this way every now and then they can announce an increase in penalties. They’re saying, ‘Sooner will be better than later because otherwise it will cost you money.’”

However, unlike the 2009 program, the 2011 and 2012 programs do not allow taxpayers to argue reasonable cause to get the penalties reduced. If they want to make that argument, they have to submit to an IRS audit. In some cases, taxpayers requested intervention from the IRS’s Taxpayer Advocate Service when they felt the penalty was unwarranted. If taxpayers opted out of the 2011 Offshore Voluntary Disclosure Program, they could also go to the IRS’s Appeals office.

“We’ve had cases where the income omitted was just a few thousand and that triggered penalties of tens of thousands of dollars,” said Behling.

The IRS recently granted some relief after Canadian officials complained about the new requirements under the Foreign Account Tax Compliance Act, which was included in the HIRE Act of 2010. Foreign financial institutions are supposed to provide information on the assets held by U.S. taxpayers under the new law, which concerned many U.S. citizens and dual citizens living in Canada and other countries (see IRS Offers Some Relief for Expats and Dual Citizens). Among other things, the IRS clarified that when there was no tax due, particularly if the U.S. citizen was already living in a high-tax jurisdiction and qualified for foreign tax credits, there would be no penalty.

“That was good news for Canada, but of course it prompted inquiries by other countries,” Behling noted.

Overall, he believes the new Offshore Voluntary Disclosure Program will encourage more taxpayers to come forward.

“Since the initial deadline expired, we have received inquiries from various people who have come in,” said Behling. “In about half the cases, people decided to make a disclosure. They wanted to get in, because if the IRS gets your name from some other source, you’re not eligible. People became concerned that the information would be received soon, but without a fixed cap they decided they would wait and see. Now that this program has been announced and publicized, we will get more people to come back and discuss the voluntary disclosure.”

However, he noted that voluntary disclosures and the filing of FBAR reports of foreign bank accounts have been around for a long time before the 2009 program, and he has seen a change of attitude at the IRS.

“When taxpayers came in to us and wanted to correct omissions and nonfilings, they were treated a lot better,” said Behling. “It was almost like going into penance. You were forgiven and welcomed back. When the 2009 program came in, you would have to pay a penalty, unless you could establish unique facts and circumstances. Many people felt like they were being treated the same as the person who was deliberately hiding income. They felt like, ‘I inherited an account, and I didn’t know I had to file FBARs. My money was an inheritance, but I’m being put in the same category as somebody who created a secret Swiss bank account.’ Many people complained about that, and the Taxpayer Advocate Service complained that this was a 'one size fits all' program.”

National Taxpayer Advocate Nina Olson, who heads the TAS, argued that IRS examiners treated some taxpayers unfairly under the 2009 program by subjecting them to a "one size fits all" regime and rescinding reasonable cause claims midstream. She even went as far as to issue a rare Taxpayer Advocate Directive last August, only the sixth in her office's history, according to Tax Notes, to try to force the IRS to change its audit procedures by revoking a memo from last March that directed IRS examiners to stop accepting less than a 20 percent penalty and assume that a violation is not willful unless proven otherwise. IRS Commissioner Doug Shulman is expected to decide by the end of January on the matter.

The 2011 Offshore Voluntary Disclosure Initiative took away some of the IRS’s discretion under the 2009 program and forced taxpayers to undergo an audit if they wanted the IRS to look into the mitigating factors. The new 2012 program is supposed to be essentially similar to the 2011 program, but the IRS has yet to issue the FAQs and additional guidance so there may turn out to be some wiggle room. Behling pointed out that the program is designed to streamline the process, and with an audit it can take a long time to resolve a taxpayer’s obligations. But if taxpayers want the IRS to use its discretion, then they may choose to submit to an audit and hope to be forgiven.

Otherwise, just like Groundhog Day, there’s always going to be another Offshore Voluntary Disclosure Program or initiative from the IRS.

1 Comment

Michael,

Thanks for writing about this issue, and drawing it to other's attention.

There are 5 days to go for Shulman to respond to Nina Olson's TAD. We shall see if he does the right thing, and affirms her directive to treat Expats and immigrant more fairly.

There are many things you can say about the jihad the IRS has been on in the past three, in pursuit of homeland cheats, but you can hardly call it an amnesty. An amnesty is what the Canadian tax authorities do when they have a voluntary disclosure...

Just Google Canada Voluntary Disclosure and see what you get.

Here is what the CRA web site says..

"The Voluntary Disclosures Program (VDP) allows taxpayers to come forward and correct inaccurate or incomplete information or to disclose information they have not reported during previous dealings with the CRA, "without penalty or prosecution."

Repeat: "without penalty or prosecution." Now that is an Amnesty!

Now compare that to your most recent IRS OVDI. - 27.5% penalty on 8 year highest aggregate of all accounts and FMV of assets, plus interest, plus a 20% accuracy penalty for tax underpayment!

And you wonder why Expats overseas and new immigrants to America aren't all that excited about these proposals. I would question whether or not this new measure will really increase compliance.

Actually, when I think about it, I don't know that the previous measures have had a statistically significant impact on compliance. Do you? All you have is the IRS assertions of success and some total numbers. But let's examine that for a minute.

Success depends on how you measure it. Total numbers, without context, as any accountant reading Accounting Today will tell you, means nothing. You need other numbers to make sense of what you are seeing. You need percentages, unit measures, comparisons and before and after statistics, for real "success" analysis.

For instance...

$4.4 Billion dollars collected? So, any business would want to know how much did it cost in direct and indirect cost to produce that return? What is the ROI? What portion was actual taxes owed, and what portion was draconian penalties? Don't know. The IRS isn't saying.

Of the participants who entered the first two programs, what was the Minnow to Whale ratio? Were they mostly the target UBS evading type Whales, or were they minnow Expats and US person immigrants who were just benignly negligent in following the most complex tax system in the world? Don't know. The IRS isn't saying.

These IRS programs are supposed to be about improved compliance. So how would you measure that?

Would it be represented by an increase in FBAR filings or just a total of VDP participants?

Again, totals tell you nothing, so you would want some estimate of the universe who should be filing, and how many filed before and after these initiatives. By looking at the change in compliance rates, then maybe you could come to a conclusion about success. If compliance went from 3% to 7% say, would that be deemed successful? Don't know. The IRS isn't saying.

A couple more items, but surely you are getting my point.

What is the cost to the Country of unintended consequences, such as Expats increasing renunciation of citizenship?

(You might google IsaacBrockSociety and see how some Canadians are feeling in this regard.)

or...skilled Immigrants, feeling badly dealt with and silently walking down jet ways and leaving their greencards on the airline seats as they deplane back home.

or ...the chorus of negative publicity these actions are getting around the world with many of us, now advising new immigrants who have assets in their home country that they should not consider immigrating to the US anymore. The cost, complexity, and risk associated with becoming a US person is just too high.

So a lot of unanswered questions, that Reporters don't ask, and unless we get a FOIA, we will never know.

Posted by: Just Me | January 21, 2012 4:10 AM

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