The Internal Revenue Service has reportedly backed away from plans to heavily penalize U.S. citizens and dual citizens living in Canada who may not have paid all of their taxes.

The plans to assess heavy penalties against taxpayers had been causing consternation north of the border. They stemmed from the Foreign Account Tax Compliance Act, or FATCA, which was included last year as part of the HIRE Act (see FATCA Isn’t Just for Fat Cats).

The law requires foreign financial institutions to report directly to the IRS information about the financial accounts held by U.S. taxpayers and the foreign entities in which U.S. taxpayers hold a substantial financial interest. U.S. citizens with bank accounts in other countries have long been required to file reports of foreign bank accounts, or FBARs. But the IRS has been stepping up its enforcement in recent years, particularly with Swiss banks, pressuring them to disclose information on their U.S. account holders.

In May, Canadian Finance Minister Jim Flaherty complained about the U.S.’s new requirements for Canadian banks to disclose the financial information of dual U.S. and Canadian citizens and other Canadians, pointing to privacy concerns (see Canadian Finance Minister Criticizes U.S. Tax Crackdown).

But U.S. Ambassador to Canada David Jacobson told the Globe and Mail on Thursday that the IRS now plans to be more lenient. “What the IRS is saying here is that if … you don’t owe taxes to the U.S. and you file your return and they show you don’t owe taxes, there aren’t going to be any penalties for filing late,” he said.

An IRS spokesperson confirmed the change in policy on Thursday, telling the Windsor Star, “There has been a lot of speculation about draconian penalties for coming into compliance. For this reason we are looking at putting out information in the near future about how the current law and rules work with respect to late-filed income tax returns. We believe this will significantly allay concerns.”

Flaherty welcomed the news, saying in a statement quoted by the Vancouver Sun, “This situation is the cause of great anxiety for many dual-citizen Canadians. We share their concerns and have raised them directly with the U.S. government. We have been working closely with them on a common-sense solution and appreciate their engagement. U.S. Ambassador Jacobson has been particularly helpful.”

The IRS has not yet officially issued any guidance, but is expected to soon produce a document laying out ways to reduce the burden on taxpayers, although the agency is limited to some degree because there has not been a change in the FATCA provisions by Congress.

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