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Offshore Tax Compliance — How Fast are you Speeding?

Kunal Patel

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Offshore Tax Compliance — How Fast are you Speeding?

In my offshore tax compliance practice, I’ve talked to hundreds of individuals from around the world – from people who’ve unintentionally violated U.S. foreign financial and tax reporting laws to those who’ve knowingly or recklessly violated them.

Two questions are invariably asked – “what are my risks, and what penalties am I facing?”

The penalty question is easier to answer. There’s a laundry list of penalties applicable to the failure to report foreign accounts and/or foreign income. The maximum penalties authorized for such violations is clear.

The difficult question is that of ‘risk.’ It involves two components: 1.) “getting caught” and 2.) the application of penalties. I’ve found that many people have a difficult time understanding risk, and think of it in black and white instead of as a continuum. This is especially the case when clients don’t understand the law. The laws involving the reporting of foreign assets and income are complicated.

To help clients understand risk in the context of offshore account compliance, I often use speeding as an example. The faster you’re speeding, the greater your risk.

Willfulness, non-willfulness, and reasonable cause

Bob, the willful speeder

Bob lives life in the fast lane, literally. He often drives 25-30 miles over the speed limit. Chances are good that he will eventually get a speeding ticket. It’s certainly much higher than someone who goes 5 or 10 miles over the speed limit.

Officer Biff spots Bob barreling down the highway in his shiny new red sports car. When he pulls Bob over, he discovers that Bob has a radar detector (which happens to be illegal in his state) and open cans of beer.

Bob tries to explain to the officer that he didn’t mean to go fast and that he didn’t know the speed limit. However, a reasonable person would know that going that fast would likely be unlawful. Officer Biff certainly doesn’t buy it and arrests him for reckless driving. Bob hires an attorney and they litigate the charges to no avail. The government argues that Bob knowingly sped based on his possession of a radar detector. In the alternative, he was acting recklessly or was willfully blind as to the speed limit. Bob’s license is suspended, receives a huge fine, and spends 30 days in jail.

Similarly, in the world of foreign accounts compliance, the chances of “being caught” depend much on the degree of non-compliance. The higher your undisclosed account balances, the higher the odds are of an FBAR audit or other type of audit. A FBAR audit can then result in the discovery of other violations, including unreported foreign income and other missing international information forms, such as Form 8938, 5471, etc. Each one of these violations carries separate penalties, the most significant of them being the willful failure to file an FBAR. A person can be considered willful when they’ve knowingly violated the law or acted recklessly or willfully blind.

Sarah, the non-willful speeder

If you’re like me, you’re sometimes distracted while driving. You look down at your speedometer to notice that you’ve exceeded the speed limit by 5 miles. Or maybe you thought the speed limit was 60, but it turns out it was actually 50 and you simply missed the sign. In either case, you did not speed knowingly; nor were you acting recklessly or willfully blind like Bob.

Sarah is cruising along the road at 45 mph, completely oblivious that the speed limit on the road dropped from 45 to 35. Officer Biff pulls her over. Sarah then remembers she forgot to renew her inspection last week which is now expired.

Things could go a number of ways. Officer Biff might not notice the expired inspection. Or he notices it but is having a pleasant day and Sarah is charming enough, so he writes her a warning for both violations. Or maybe Biff is a stickler for the law and writes her a ticket for both violations, and even one for veering slightly outside the lane.

Sarah is awarded two tickets from Officer Biff but doesn’t want to pay them, so she hires an attorney. Her attorney meets with the prosecutor. The prosecutor settles to let her off on the expired inspection ticket because she immediately corrected it, and reduces the speeding ticket since this was her first violation in 5 years. Or it could turn out that they can’t come to an acceptable agreement and decide to litigate.

Most people who’ve failed to report foreign financial assets are non-willful. Those that non-willfully fail to report foreign accounts or income from them and are caught will likely pay a penalty. Again, the risk of “getting caught” in the first place would seem to depend on the degree of the violation.

Just like in Sarah’s situation where penalties can vary based on the police officer, an FBAR or opt-out audit would be very much the same. IRS examiners are humans, and like all of us, they have different temperaments. Some might be sticklers and will look for every possible violation. Others might be more reasonable.

After penalties are assessed in examination, a taxpayer can protest the assessment with the IRS Office of Appeals. Typically, appeals officers are reasonable and trained to factor in the “hazards of litigation.” In the vast majority of cases, an acceptable settlement is made. Otherwise, it would be necessary to litigate it in either tax court or district court, depending on the type of penalty.

David, the reasonable cause speeder

David is driving with his son and notices that his son is having a severe allergic reaction. He locates the nearest hospital and hits the pedal. Before he can reach the hospital, Officer Biff stops him for speeding. After learning of David’s situation, the officer obviously does not write him a ticket. David had a very good reason for speeding.

Or it could be a very rare situation where one gets ticket for driving just a few miles over the speed limit. It’s technically breaking the law, but one would think an officer has more important priorities. Let’s say it does happen. David lives in Texas where the speed limit is 75. He’s driving to Louisiana for the first time where the speed limit is 70. He gets pulled over just as he passes through the state border for driving at 72 mph. Officer Biff doesn’t like out-of-staters and gives him a ticket, even if it’s just 2 miles over. Biff hires an attorney to dispute the ticket. Since David was barely over the speed limit and due to his other circumstances, the prosecutor decides to dismiss it.

A smaller number of people who’ve failed to report foreign financial assets will have reasonable cause for not filing.

FATCA, red light cameras, and speed traps

Till now, we’ve assumed the only way of identifying law-breakers was through officers patrolling the highway. More recent technological advancements allow authorities to identify traffic violations through automated enforcement such as red light cameras and speed traps.

The Foreign Account Tax Compliance Act (FATCA), is a U.S. federal law that requires foreign financial institutions to search their customer databases to identify individuals suspected of being U.S. persons. For those individuals, the foreign financial institution (FFI) is required to disclose the account holders’ names, identification numbers, addresses, and transactions to the U.S. Dept of Treasury.

FATCA is essentially a huge red light camera. A red light camera, however, only collects information about drivers who’ve ran the red light. Imagine if the cameras collected information about every vehicle that passed through – it would be quite difficult to find the violators. This is exactly the enforcement problem with FATCA, which requires FFIs to report information about all U.S. persons with foreign financial accounts – possibly hundreds of millions of accounts. There’s too much information, and the IRS doesn’t seem to have figured out a good way to identify the non-compliant taxpayers.

So you’re non-compliant — now what?

For the past several years, the IRS has offered taxpayers an opportunity to voluntarily come forward in a number of ways, in most cases with payment of taxes and reduced penalties. It’s not exactly because the government is being nice. It’s a business decision. The IRS, like all government agencies, has limited resources. It cannot possibly go after all FBAR and other offshore non-compliance. But the government has the cards stacked up against such taxpayers because of the maximum potential penalties. They’ve bet correctly that people will voluntarily come forward, as hundreds of thousands of taxpayers already have.

Taxpayers can voluntarily disclose their foreign assets and report income through one of three ways:

We assist taxpayers who have undisclosed foreign financial assets. Schedule an appointment to see how we can help.

Reporting Foreign Trusts

Kunal Patel

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Reporting Beneficial Interest in a Foreign Trust & Form 3520

According to the IRS, foreign trusts are a major compliance issue:

Citizens and residents of the United States are taxed on their worldwide income. To help prevent the use of foreign trusts and other offshore entities for tax avoidance or deferral, Congress has enacted several specific provisions in the Internal Revenue Code. Some provisions trigger recognition of gains that would otherwise be deferred. Others deny deferral of tax on income moved offshore.

A specialized industry has developed in attempting to circumvent these provisions. The promoters of offshore schemes often advance technical arguments which purport to show that their scheme is legal. These arguments are used to provide some comfort to their clients, who are then induced to enter into a scheme which usually involves concealing the true ownership and control of assets and income.

The foreign trusts rules in I.R.C. 671-679 are some of the most complex set of rules in the tax code. Foreign trust tax compliance typically poses three challenges: 1.) properly defining the type of entity, 2.) financial and information reporting of a U.S. person’s beneficial interest in a foreign trust 3.) and a U.S. person’s reporting of trust income and distributions. This article will discuss the first two.

Defining the entity — what is a “foreign trust”?

The Regulations define a trust as an arrangement created by either a will or inter vivos declaration whereby trustees take title to property for the purpose of protecting or conserving it for the beneficiaries.

An arrangement will be treated as a trust if it can be shown that its purpose is to vest in trustees responsibility for the protection and conservation of property for beneficiaries who cannot share in the discharge of this responsibility and, therefore, are not associates in a joint enterprise for the conduct of business for profit.

An entity created to operate a business rather than to protect or conserve assets is not recognized as a trust for U.S. tax purposes. Instead, entities conducting business activities are more properly classified as business entities.

Where a trust exists solely for tax avoidance purposes, it is an “abusive trust arrangement” or “sham” whereby the IRS may ignore the purported form for U.S. tax purposes.

Is it a foreign trust or a U.S. trust?

A trust is considered to be a foreign trust unless it meets both of the following tests: the Court Test, and the Control Test

A trust meets the Court Test if a court within the United States can exercise primary supervision over the administration of the trust.

The Court Test has a “safe harbor” rule that is satisfied if:

  • The trust instrument does not direct that the trust be administered outside of the U.S.;
  • The trust is administered exclusively in the U.S.; and
  • The trust is not subject to an automatic migration provision.

A trust meets the Control Test if one or more United States persons have the authority to control all substantial decisions of the trust with no other person having the power to veto any of the substantial decisions.

Is it a grantor trust or non-grantor trust?

Determining whether a trust is a grantor or non-grantor trust is important because it affects who is taxed on the income of the trust and when they are taxed. The consequence of grantor trust status is that the trust is generally not recognized as a separate taxable entity. Instead, the grantor continues to be treated as the owner of the property transferred to the trust and all items of trust income, gain, deduction, loss, and credit are reported directly by and taxable to the grantor.

A non-grantor trust, on the other hand, is recognized as a separate taxable entity. That is, in general, a non-grantor trust will be liable for tax on any income (including capital gains) that it retains, while to the extent the non-grantor trust distributes income to its beneficiaries, the beneficiaries will be liable instead.

I.R.C. §§ 673-679 contain various rules for determining whether an entity is a grantor trust.

I.R.C. § 679 takes precedence over the rules. IRC §679 was designed to prevent U.S. taxpayers from achieving tax-free deferral by transferring property to foreign trusts. A foreign trust that has U.S. beneficiaries will be treated as a foreign grantor trust under IRC §679 to the extent a U.S. person has gratuitously transferred property to it.

Under § 673-677, a U.S. person who is the grantor of a foreign trust will be treated as the owner of all or a portion of the trust if the grantor retains certain interests in or powers over the trust. In general, these interests and powers include:

  • a reversionary interest worth more than 5 percent of the total value of the portion to which the reversion relates,
  • certain powers of disposition over the trust property that are generally exercisable in favor of persons other than the grantor,
  • certain administrative powers that allow the grantor to deal with the trust property for his or her own benefit,
  • a power to revoke the trust, and
  • a right to the present possession, future possession, or present use of the income of the trust.

Finally, § 678 applies if a person, other than the grantor, has a power to appoint trust income or corpus to himself or herself. That person is deemed to be the owner of all or a portion of the trust, provided the grantor is not otherwise treated as the owner of all or that portion of the trust.

International information reporting

Form 3520, Annual Return to Report Transactions with Foreign Trusts. Form 3520 is due on the date your income tax return is due, including extensions. It is filed separately from your income tax return. The penalty for failure to file a Form 3520 is equal to the greater of $10,000 or 25% of the gross value of any property transferred to a foreign trust for failure by a U.S. transferor to report the creation of or transfer to a foreign trust.

A Form 3520 is required in circumstances such as where a U.S. person:

  • Creates or transfers money or property to a foreign trust
  • Receives (directly or indirectly) any distributions from a foreign trust
  • Is treated as the U.S. owner of a foreign trust

Form 3520-A, Annual Information Return of Foreign Trust with a U.S. Owner. In addition to filing Form 3520, each U.S. person treated as an owner of any portion of a foreign trust under the grantor trust rules is responsible for ensuring that the foreign trust files Form 3520-A and furnishes the required annual statements to its U.S. owners and U.S. beneficiaries.

Form FinCEN 114, Report of Foreign Bank and Financial Accounts (“FBAR”). The FBAR is required to be filed annually by “each United States person having a financial interest in, or signature or other authority over, a bank, securities, or other financial account in a foreign country.”

A person who is required to file an FBAR and fails to properly file may be subject to a civil penalty not to exceed $10,000 per violation. A person who willfully fails to report an account or account identifying information may be subject to a civil monetary penalty equal to the greater of $100,000 or 50 percent of the balance in the account at the time of the violation.

If you are required to file an FBAR, you must file it with the Department of Treasury by April 15th of each tax year. It is automatically extended to October 15 if you file an extension for your individual income tax return.

Beneficiaries: FBAR filings on FinCEN Form 114 are generally required to be made by U.S. persons who have reportable financial interests in or signature authority over a foreign financial account (“FFA”). A U.S. person who has more than a 50% present beneficial interest in a trust’s income or assets may be deemed to have an FFA interest and may be required to make an FBAR filing. A beneficiary of a foreign non-grantor trust is exempt from FBAR reporting if a trustee who is a U.S. person makes an FBAR filing disclosing the trust’s FFAs and provides information as required.

Trustees: A U.S. trustee of a foreign trust generally has signature authority over and/or a financial interest in the trust’s foreign accounts and thus, must file the FBAR form.

Form 1040, Schedule B. Part III, Foreign Accounts and Trusts must be completed if you receive a distribution from, or were grantor of, or a transferor to a foreign trust. Further, if as a trustee or beneficiary you have more than 50% beneficial interest or signature authority over trust (or personal) accounts exceeding $10,000 in the aggregate, you must indicate as such under Part III.

Form 8938, FATCA. The “FATCA” (Foreign Account Tax Compliance Act) provisions require specified individuals to report ownership of specified foreign financial assets if the total value exceeds the applicable reporting threshold. Form 8938 is due on the date your income tax return is due, including extensions. It is filed with your income tax return. Failure to report foreign financial assets on Form 8938 may result in a penalty of $10,000, and a penalty up to $50,000 for continued failure after IRS notification.

An interest in a foreign trust or a foreign estate is not a specified foreign financial asset unless you know or have reason to know based on readily accessible information of the interest. If you receive a distribution from the foreign trust or foreign estate, you are considered to know of the interest.

For a beneficiary of a foreign trust, the maximum value of your interest in the trust is the sum of 1.) the value of all of the cash or other property distributed during the tax year from the trust to you as a beneficiary, and 2.) the value using the valuation tables under section 7520 of your right as a beneficiary to receive mandatory distributions as of the last day of the tax year.

Furthermore, to alleviate the burden of duplicative tax reporting, an specified financial asset is not required to be reported on Form 8938, if that it is reported on another international information return, such as Form 3520, Form 5471, Form 8621, or Form 8865.

Reporting of foreign gifts and inheritances

A little-known related compliance issue is the reporting of foreign gifts and inheritance. Under I.R.C. 6039F, the receipt of a gift or inheritance by a U.S. person from a nonresident alien individual in excess of $100,000 is required to be reported to the IRS. Congress, in its infinite wisdom, required this information to be reported on Form 3520, the same form used to report transactions with foreign trusts.

While the use of foreign trusts can be used for tax avoidance purposes, that is not the case when one receives a foreign gift or inheritance – as there is no tax assessed on a foreign gift or inheritance. Last year the IRS announced a compliance campaign which targets noncompliance with foreign trust reporting on Form 3520/3520-A.

In furtherance of this campaign, the IRS service center has been automatically assessing penalties on Form 3520/3520-A even if a reasonable cause statement is attached. Unfortunately, individuals who simply file a late Form 3520 to report a foreign gift or inheritance are swept up in this compliance campaign (again, a campaign with has nothing to do with foreign gifts and inheritances). Penalties can be severe – up to 25% of the amount of the gift or inheritance.  Therefore, if you are late filing a Form 3520, you should be ready for an automatic penalty assessment and then for a lengthy appeals process to dispute it. It appears there is discussion about potential changes to the statute: link here.

IRS Sues Taxpayer to Collect on $5M FBAR Penalty

Kunal Patel

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IRS Sues Taxpayer to Collect on $5M FBAR Penalty

Earlier this month, in United States v. Arvind Ahuja (E.D. Wisc. Dkt. No. 18-cv-01934), the IRS sued a prominent neurosurgeon to reduce to judgment an unpaid FBAR penalty for his failure to report his interest in foreign financial accounts for calendar year 2009.

The penalty previously assessed was for a willful failure to file an FBAR. Of particular interest to clients with unreported foreign accounts are the factors that led to a finding of a willful failure to file the FBAR.

What is a willful failure to file an FBAR?

Actual and constructive knowledge

The most basic definition of willfulness is an intentional violation of a known legal duty. Per IRM 4.26.16.4.5.3:

Willfulness is shown by the person’s knowledge of the reporting requirements and the person’s conscious choice not to comply with the requirements. In the FBAR Situation, the only thing that a person need know is that he has a reporting requirement. If a person has that knowledge, the only intent needed to constitute a willful violation of the requirement is a conscious choice not to file the FBAR.

That a taxpayer knowingly disregarded his FBAR reporting obligation can be proven through their actual or constructive knowledge of those obligations.

Willful blindness and recklessness

The court in United States v. McBride, 908 F. Supp. 2d 1186, 1210 (D. Utah 2012), held that willfulness for civil FBAR violations includes both recklessness and willful blindness.

A taxpayer who understands that there may be a filing requirement, but deliberately avoids learning about FBAR filing requirements can be considered to have acted willfully. The law does not protect deliberate ignorance or conscious avoidance.

The IRM provides an example:

An example that might involve willful blindness would be a person who admits knowledge of and fails to answer a question concerning signature authority at foreign banks on Schedule B of his income tax return. This section of the return refers taxpayers to the instructions for Schedule B that provide further guidance on their responsibilities for reporting foreign bank accounts and discusses the duty to file Form 90-22.1. These resources indicate that the person could have learned of the filing and record keeping requirements quite easily. It is reasonable to assume that a person who has foreign bank accounts should read the information specified by the government in tax forms. The failure to follow-up on this knowledge and learn of the further reporting requirement as suggested on Schedule B may provide some evidence of willful blindness on the part of the person. For example, the failure to learn of the filing requirements coupled with other factors, such as the efforts taken to conceal the existence of the accounts and the amounts involved may lead to a conclusion that the violation was due to willful blindness. The mere fact that a person checked the wrong box, or no box, on a Schedule B is not sufficient, by itself, to establish that the FBAR violation was attributable to willful blindness.

The taxpayer’s background and level of education may help establish willful blindness, where a failure to file an FBAR could be construed as willful without a showing of actual or constructive knowledge of filing requirements.

FBAR willfulness factors in U.S. v. Arvind Ahuja

Below are some of the facts in this case:

  1. Taxpayer was a citizen of the U.S. during the 2009 tax period for which the FBAR was due.
  2. Taxpayer is a prominent neurosurgeon, specializing in treatments for disorders of the brain, spine, arteries and peripheral nerves.
  3. In 2008-2009 Taxpayer actively day-traded stocks, foreign currencies, and futures.
  4. Taxpayer maintained accounts with HSBC India, which held approximately 59 Certificates of Deposit in various sub-accounts and in various foreign currencies.
  5. Taxpayer transferred funds from his United States bank account to his HSBC India account to buy, and rollover, the CDs.
  6. In 2009 the highest aggregate balance in Taxpayer’s HSBC India accounts was $9,245,081.
  7. On his IRS Form 1040 for 2009, Taxpayer checked “no” on that part of Schedule B requiring him to disclose his interest in foreign bank accounts.
  8. Around October 8, 2009, Taxpayer closed his accounts at HSBC India and directed over $3 million be deposited in a domestic account in his wife’s name.
  9. In August of 2008 and on subsequent dates, Taxpayer’s accountant informed Taxpayer of his obligation to report his interest in any foreign financial accounts. Taxpayer knew or should have known he had a duty to report his interest in the foreign financial accounts.
  10. Taxpayer underreported his foreign income by $2.7 million for years 2005 through 2009 on his U.S. tax returns.
  11. Taxpayer failed to file his 2009 FBAR which was due on June 30, 2010.

Based on these and other facts, on August 22, 2012, Taxpayer was found guilty by a jury in his district for, among other charges, his willful failure to submit a Report of Foreign Bank and Financial Accounts and filing a false income tax return for the year ending December 31, 2009.

The facts supporting a finding of ‘willfulness’ here are that:

  • On at least a few occasions, Taxpayer’s accountant informed Taxpayer of his FBAR filing obligations
  • Taxpayer checked ‘no’ on Schedule B regarding the FBAR filing obligation

The Government was able to show actual or constructive knowledge based on those two facts. In the absence of that, Taxpayer’s education/profession, efforts to conceal, the number and size of the foreign accounts, day trading activity, and significant underreporting of income may have supported a finding of willful blindness or recklessness.

FBAR willfulness penalty assessment

On July 12, 2017, a delegate of the Secretary of the Treasury timely made an assessment in the amount of $4,622,540.50, under 31 U.S.C. § 5321, against the defendant, Arvind Ahuja, for his willful failure to submit a FBAR for the year ending December 31, 2009, and assessed both a late-payment penalty of $63,069.19, under 31 U.S.C. § 3717(e)(2) and 31 C.F.R. § 5.5(a), plus interest. The amount assessed under 31 U.S.C. § 5321 is commonly known as a “FBAR Penalty.” The FBAR Penalty assessed is 50% of the account balance on the day of the FBAR violation.

With interest and other statutory accruals, the amount due with respect to the assessment described above is, as of September 19, 2018, $5,007,288.38. The United States is entitled to judgment in its favor and against Ahuja in this amount, plus statutory additions including interest according to law.

What should non-compliant taxpayers do?

If taxpayers are non-compliant with the foreign asset and income reporting requirements, they should consider applying to one of IRS’ voluntary disclosure programs:

We assist taxpayers who have undisclosed foreign financial assets. Schedule an appointment to see how we can help.

IRS Updates Procedures for Voluntary Disclosures

Kunal Patel

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IRS Updates Voluntary Disclosure Practice

The IRS issued a memorandum on November 29, 2018 that updates the process for domestic and offshore voluntary disclosures after the 2014 offshore voluntary disclosure program ended on September 28, 2018.

The OVDP program began in 2014 as a modified version of the 2012 OVDP program, which itself followed voluntary disclosure programs offered in 2011 and 2009.

What is IRS Voluntary Disclosure?

Voluntary disclosure is a long-standing practice of the IRS to provide taxpayers with criminal exposure a means to come into compliance with the law and potentially avoid criminal prosecution.

The traditional IRS Voluntary Disclosure Practice is outlined in I.R.M. 9.5.11.9.  The IRS memorandum updates this IRM section. The traditional voluntary disclosure process did not have much of a framework. These new procedures provide more certainty, much like the now-discontinued OVDP program.

Steps for Making a Voluntary Disclosure Under the Revised Guidelines

1. Make a pre-clearance request

Criminal Investigation (CI) will screen all voluntary disclosure requests whether domestic, offshore, or other to determine if a taxpayer is eligible to make a voluntary disclosure.

To accomplish this, CI will require all taxpayers wishing to make a voluntary disclosure to submit a preclearance request.

Taxpayers must request pre-clearance from CI via fax or mail.
Fax: (267) 466-1115
Mail:
IRS Criminal Investigation
Attn.: Voluntary Disclosure Coordinator
2970 Market St.
1-D04-100
Philadelphia, PA 19104

2. Submit required voluntary disclosure documents

For all cases where CI grants preclearance, taxpayers must then promptly submit to CI all required voluntary disclosure documents using a forthcoming revision of Form 14457. This form will require information related to taxpayer noncompliance, including a narrative providing the facts and circumstances, assets, entities, related parties and any professional advisors involved in the noncompliance.
Once CI has received and preliminarily accepted the taxpayer’s voluntary disclosure, CI will notify the taxpayer of preliminary acceptance by letter and forward the voluntary disclosure letter and attachments to the LB&I Austin unit for case preparation before examination.

3. Go through an examination

All voluntary disclosures handled by examination will follow standard examination procedures. Examiners must develop cases, use appropriate information gathering
tools, and determine proper tax liabilities and applicable penalties. Under the voluntary disclosure practice, taxpayers are required to promptly and fully cooperate during civil examinations.

Disclosure Periods and Examination Process

Like the OVDP, the updated voluntary disclosure practice has a civil resolution framework with a discrete disclosure period.

In general, voluntary disclosures will include a six-year disclosure period. The disclosure period will require examinations of the most recent six tax years.
  • In voluntary disclosures not resolved by agreement, the examiner has discretion to expand the scope to include the full duration of the noncompliance and may assert maximum penalties under the law with the approval of management
  • In cases where noncompliance involves fewer than the most recent six tax years, the voluntary disclosure must correct noncompliance for all tax periods involved
  • With the IRS’ review and consent, cooperative taxpayers may be allowed to expand the disclosure period. Taxpayers may wish to include additional tax years in the disclosure period for various reasons (e.g., correcting tax issues with other governments that require additional tax periods, correcting tax issues before a sale or acquisition of an entity, correcting tax issues relating to unreported taxable gifts in prior tax periods).

Taxpayers must submit all required returns and reports for the disclosure period

Penalty Calculation

Examiners will determine applicable taxes, interest, and penalties under existing law and procedures. Penalties will be asserted as follows:

  • The civil penalty under I.R.C. § 6663 for fraud or the civil penalty under I.R.C. § 6651(f) for the fraudulent failure to file income tax returns will apply to the one tax year with the highest tax liability. In limited circumstances, examiners may apply the civil fraud penalty to more than one year in the six-year scope (up to all six years) based on the facts and circumstances of the case. Examiners may apply the civil fraud penalty beyond six years if the taxpayer fails to cooperate and resolve the examination by agreement.
  • Willful FBAR penalties will be asserted in accordance with existing IRS penalty guidelines under IRM 4.26.16 and 4.26.17.
  • A taxpayer is not precluded from requesting the imposition of accuracy related penalties under I.R.C. § 6662 instead of civil fraud penalties or non-willful FBAR penalties instead of willful penalties.
  • Penalties for the failure to file information returns will not be automatically imposed. Examiner discretion will take into account the application of other penalties (such as civil fraud penalty and willful FBAR penalty) and resolve the examination by agreement.
  • Penalties relating to excise taxes, employment taxes, estate and gift tax, etc. will be handled based upon the facts and circumstances with examiners coordinating with appropriate subject matter experts.
  • Taxpayers retain the right to request an appeal with the Office of Appeals.

Who Needs to Use the Voluntary Disclosure Practice?

The objective of the voluntary disclosure practice is to provide taxpayers concerned that their conduct is willful or fraudulent, and that may rise to the level of tax and tax-related criminal acts, with a means to come into compliance with the law and potentially avoid criminal prosecution.

Taxpayers with unfiled returns or unreported income who had no exposure to criminal liability or substantial civil penalties due to willful noncompliance could come into compliance using the Streamlined Filing Compliance Procedures (SFCP), the delinquent FBAR submission procedures, or the delinquent international information return submission procedures, or or by filing an amended or past due tax return.

IRS Includes FATCA in 5 New Compliance Campaigns

Kunal Patel

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IRS Adds FATCA as a Compliance Campaign

Each year the IRS rolls out campaigns to identify the the top compliance issues for the year. For each of these campaigns, the IRS will deploy resources, training, and tools, metrics and feedback to enforce compliance in these areas. One recent campaign that may have a substantial impact in the world of offshore compliance is the FATCA campaign.

The campaign comes after TIGTA recently reported that despite spending $380 million for FATCA compliance, it was not yet prepared to enforce the law.

FATCA Filing Accuracy

Per the IRS website:

The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010 as part of the HIRE Act. The overall purpose is to detect, deter and discourage offshore tax abuses through increased transparency, enhanced reporting and strong sanctions. Foreign Financial Institutions and certain Non-Financial Foreign Entities are generally required to report the foreign assets held by their U.S. account holders and substantial U.S. owners under the FATCA. This campaign addresses those entities that have FATCA reporting obligations but do not meet all their compliance responsibilities. The Service will address noncompliance through a variety of treatment streams, including termination of the FATCA status.

While this doesn’t directly impact individual taxpayers, it will have a downstream effect because the IRS uses the data provided by FFIs to identify non-compliance on Form 8938 on individual income tax returns.

Several other compliance campaigns this year are related to individual offshore tax compliance and cross border activities.

Individual Foreign Tax Credit (Form 1116)

Practice Area: Western Compliance Practice Area

Lead Executive: Paul Curtis

Individuals file Form 1116 to claim a credit that reduces their U.S. income tax liability for the amount of foreign taxes paid on foreign source income. This campaign addresses taxpayer compliance with the computation of the foreign tax credit limitation on Form 1116. Due to the complexity of computing the Foreign Tax Credit and challenges associated with third-party reporting information, some taxpayers face the risk of claiming an incorrect Foreign Tax Credit amount. The IRS will address noncompliance through a variety of treatment streams including examinations.

Individual Foreign Tax Credit Phase II

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone, director of Withholding & International Individual Compliance

Section 901 of the Internal Revenue Code alleviates double taxation through a dollar-for-dollar credit against U.S. tax on foreign-sourced income in the amount of foreign taxes paid on that income.

Individuals who meet certain requirements may qualify for the foreign tax credit. This campaign addresses taxpayers who have claimed the credit but do not meet the requirements. The IRS will address noncompliance through a variety of treatment streams, including examination.

Foreign Earned Income Exclusion Campaign

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

Individuals who meet certain requirements may qualify for the foreign earned income exclusion and/or the foreign housing exclusion or deduction. This campaign addresses taxpayers who have claimed these benefits but do not meet the requirements. The Internal Revenue Service will address noncompliance through a variety of treatment streams, including examination.

Offshore Service Providers

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone, director of Withholding & International Individual Compliance

The focus of this campaign is to address U.S. taxpayers who engaged Offshore Service Providers that facilitated the creation of foreign entities and tiered structures to conceal the beneficial ownership of foreign financial accounts and assets, generally, for the purpose of tax avoidance or evasion. The treatment stream for this campaign will be issue-based examinations.

1120-F Delinquent Returns Campaign

Practice Area: Cross Border Activities

Lead Executive: Orrin Byrd, director of Field Operations (East)

The objective of the Delinquent Returns Campaign is to encourage foreign entities to timely file Form 1120-F returns and address the compliance risk for delinquent 1120-F returns. This is accomplished by field examinations of compliance risk delinquent returns and external education outreach programs. The campaign addresses delinquent-filed returns, Form 1120-F U.S. Income Tax Return of a Foreign Corporation.

Form 1120-F must be filed on a timely basis and in a true and accurate manner for a foreign corporation to claim deductions and credits against its effectively connected income. For these purposes, Form 1120-F is generally considered to be timely filed if it is filed no later than 18 months after the due date of the current year’s return. The filing deadline may be waived, in situations based on the facts and circumstances, where the foreign corporation establishes to the satisfaction of the commissioner that the foreign corporation acted reasonably and in good faith in failing to file Form 1120-F per Treas. Reg. Section 1.882-4(a)(3)(ii). LB&I Industry Guidance 04-0118-007 dated 2/1/2018 established procedures to ensure waiver requests are applied in a fair, consistent and timely manner under the regulations.

Swiss Bank Program Campaign

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

In 2013, the U.S. Department of Justice announced the Swiss Bank Program as a path for Swiss financial institutions to resolve potential criminal liabilities. Banks that are participating in this program provide information on the U.S. persons with beneficial ownership of foreign financial accounts. This campaign will address noncompliance, involving taxpayers who are or may be beneficial owners of these accounts, through a variety of treatment streams including, but not limited to, examinations and letters.

Nonresident Alien Schedule A and Other Deductions

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

This campaign is intended to increase compliance in the proper deduction of eligible expenses by nonresident alien (NRA) individuals on Form 1040NR Schedule A. NRA taxpayers may either misunderstand or misinterpret the rules for allowable deductions under the previous and new Internal Revenue Code provisions, do not meet all the qualifications for claiming the deduction and/or do not maintain proper records to substantiate the expenses claimed. The campaign will address noncompliance through a variety of treatment streams including outreach/education and traditional examinations.

NRA Tax Credits

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

This campaign is intended to increase compliance in nonresident alien individual (NRA) tax credits. NRAs who either have no qualifying earned income, do not provide substantiation/proper documentation, or do not have qualifying dependents may erroneously claim certain dependent related tax credits. In addition, some NRA taxpayers may also claim education credits (which are only available to U.S. persons) by improperly filing Form 1040 tax returns. This campaign will address noncompliance through a variety of treatment streams including outreach/education and traditional examinations.

F3520/3520-A Non-Compliance and Campus Assessed Penalties

Practice Area:  Withholding & International Individual Compliance

Lead Executive: John Cardone, Director, WIIC

This campaign will take a multifaceted approach to improving compliance with respect to the timely and accurate filing of information returns reporting ownership of and transactions with foreign trusts. The Service will address noncompliance through a variety of treatment streams including, but not limited to, examinations and penalties assessed by the campus when the forms are received late or are incomplete.

Forms 1042/1042-S Compliance

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

Taxpayers who make payments of certain U.S.-source income to foreign persons must comply with the related withholding, deposit, and reporting requirements. This campaign addresses Withholding Agents who make such payments but do not meet all their compliance duties. The Internal Revenue Service will address noncompliance and errors through a variety of treatment streams, including examination.

Nonresident Alien Tax Treaty Exemptions

Practice Area: Withholding & International Individual Compliance

Lead Executive: John Cardone

This campaign is intended to increase compliance in nonresident alien (NRA) individual tax treaty exemption claims related to both effectively connected income and Fixed, Determinable, Annual Periodical income. Some NRA taxpayers may either misunderstand or misinterpret applicable treaty articles, provide incorrect or incomplete forms to the withholding agents or rely on incorrect information returns provided by U.S. payors to improperly claim treaty benefits and exempt U.S. source income from taxation. This campaign will address noncompliance through a variety of treatment streams including outreach/education and traditional examinations.

OVDP Declines-Withdrawals Campaign

The Practice Area is Withholding & International Individual Compliance

Lead Executive: Pamela Drenthe

The Offshore Voluntary Disclosure Program (OVDP) allows U.S. taxpayers to voluntarily resolve past non-compliance related to unreported offshore income and failure to file foreign information returns. This campaign addresses OVDP applicants who applied for pre-clearance into the program but were either denied access to OVDP or withdrew from the program of their own accord. Taxpayers, who have yet to resolve their non-compliance and who meet the eligibility criteria, are encouraged to consider entering one of the offshore programs currently available. The IRS will address continued noncompliance through a variety of treatment streams including examination and letters.

Virtual Currency

Practice Area: Withholding & International Individual Compliance

Executive Lead: John Cardone, director, Withholding & International Individual Compliance

U.S. persons are subject to tax on worldwide income from all sources including transactions involving virtual currency. IRS Notice 2014-21 states that virtual currency is property for federal tax purposes and provides information on the U.S. federal tax implications of convertible virtual currency transactions. The Virtual Currency Compliance campaign will address noncompliance related to the use of virtual currency through multiple treatment streams including outreach and examinations. The compliance activities will follow the general tax principles applicable to all transactions in property, as outlined in Notice 2014-21. The IRS will continue to consider and solicit taxpayer and practitioner feedback in education efforts, future guidance, and development of Practice Units. Taxpayers with unreported virtual currency transactions are urged to correct their returns as soon as practical. The IRS is not contemplating a voluntary disclosure program specifically to address tax non-compliance involving virtual currency.

What should non-compliant taxpayers do?

If taxpayers are non-compliant with the foreign asset and income reporting requirements, they should consider applying to one of IRS’ voluntary disclosure programs:

We assist taxpayers who have undisclosed foreign financial assets. Schedule an appointment to see how we can help.

IRS Evaluates Crytocurrency Taxable Events

Kunal Patel

0

IRS Evaluates Crytocurrency Taxable Events

At a recent conference, the IRS opened up about its cryptocurrency compliance efforts.

To combat tax evasion from those engaged in cryto trading, the IRS has created cyber units, called CCUs. The hub is in Los Angeles, and agents are posted in Las Vegas, Denver, Seattle, Phoenix, and Dallas.

IRS is using data analytics to identify whether a crypto transaction is taxable.

Virtual currencies had estimated values of $25 million in 2017 with less than 1,000 taxpayers reporting their transactions.

Darren John Guilliot, director of IRS’ field collection operations noted that they’ve begun enforcement efforts from the data received through the Coinbase summons:

“Two months ago, I got access to all of the Coinbase summons information, and I shared all of the names of the 11,000 people on that list who have cryptocurrency with my revenue officers coast to coast…And they have spent the past two months matching the entire assigned work and stuff in the queue that isn’t assigned yet.”

On the criminal tax side, the IRS added that CI has started communicating with the DOJ on how to put together a case for prosecution.

Cryptocurrency Tax Compliance

The IRS treats virtual currency as property (i.e., assets). General tax principles applicable to property transactions apply to purchase and sale of virtual currencies.

As an asset, the taxable income from the sale of a cryptocurrency unit is determined by subtracting the sales price minus the basis.

If purchased, the basis is the cost at with the units were purchased. If received as payment for goods or services, the basis is the fair market value of the virtual currency in U.S. dollars as of the date of receipt.

If mined, then when a taxpayer successfully “mines” virtual currency, the fair market value of the virtual currency as of the date of receipt is includible in gross income.

The character of the gain or loss depends on whether the virtual currency is a capital asset in the hands of the taxpayer. For most individuals, it will be a capital asset. Inventory and other property held mainly for sale to customers in a trade or business are examples of property that is not a capital asset. Cryptocurrency dealers would therefore report ordinary gain or loss.

Cryoptocurrency transactions can be challenging, especially where there are numerous purchase and sale transactions. Unlike with U.S. securities accounts, cryptocurrency exchanges do not track your gain and loss, and it falls upon the investor to calculate those.

From U.S. based exchanges,  you’ll likely receive a 1099-K but that will include your total proceeds but will provide no information regarding cost basis.

It is also important to note that a coin-to-coin trade is considered a sale or disposition.

What should non-compliant taxpayers do?

Some taxpayers with crypto accounts were able to resolve their non-compliance via the now discontinued OVDP program, and the streamlined filing compliance procedures. Those that are willful may need to look into a traditional voluntary disclosure.

As to whether a streamlined filing compliance procedures are appropriate for crypto non-compliance, it may depend on the type of account and whether there is an FBAR filing requirement.

The IRS has not explicitly stated one way or the other as to whether an FBAR must be filed for cryptocurrency. If cryptocurrency is held in a personal wallet, then it’s possible that no FBAR is required to be filed. For those holding bitcoin through a foreign financial institution or foreign exchange, there may be an FBAR filing requirement

Court Sanctions Taxpayer in $4.3M Foreign Bank Account Case

Kunal Patel

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Court Sanctions Taxpayer in FBAR Penalty Case

The court in U.S. v. Monica Toth (U.S. District Court for the District of Massachusetts) sanctioned taxpayer in an FBAR penalty suit.

The government filed a complaint to collect a civil penalty against Taxpayer for her alleged failure to timely report her financial interest in a bank account opened at UBS AG in Switzerland for the 2007 calendar year.

After the government advised taxpayer that it was seeking to collect nearly $2M in FBAR penalties and to retain an attorney, the taxpayer opted to represented herself.

Taxpayer failed to answer the complaint and the court also advised taxpayer to retain an attorney given the extensive amount of penalties involved.

After failing to meet discovery deadlines and continuously disregarding the court’s orders, the government filed a motion to impose sanctions — to which taxpayer did not respond to either.

The court grants the government’s motion for sanctions and orders that the following facts be taken as established:

  1. Defendant had legal control over, and the legal authority to direct the disposition of the funds in, the Account (and any sub-accounts), by investing the funds, withdrawing the funds, and/or transferring the funds to third-parties, between the date the Account was opened and at least December 31, 2008.

  2. Should the United States establish that Defendant is liable for the penalty alleged in the complaint, for the purposes of calculating the amount of such penalty, the Account (and any sub-accounts) contained $4,347,407 as of the penalty-calculation date.

  3. Defendant had a legal obligation to timely file an FBAR regarding the Account in each calendar year that the Account was open, including with regard to calendar year 2007.

  4. Defendant willfully failed to file an FBAR regarding the Account with respect to calendar year 2007.

The court also awarded legal costs and fees to the government.

Estates and FBAR Penalties

Kunal Patel

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Court Finds Representative of Estate Liable for Deceased’s FBAR Penalties

The Court in United States v. Schoenfeld (M.D. Fla. 3:16-cv-1248-J-34PDB) finds that a deceased taxpayer’s FBAR civil penalty liabilities are collectible from his estate’s beneficiary.

Facts

Steven Schoenfeld, a citizen of the United States, established a foreign account with UBS AG in Switzerland with funds he acquired from the sale of a New York apartment. The account generated income from interest, dividends, and passive foreign investment company gains.

The IRS asserted that taxpayer did not report any income or his financial interest in the foreign account on his tax returns or FBARs.

In 2014, the IRS assessed a civil penalty against Steven Schoenfeld pursuant to Section 5321(a)(5) for willfully failing to file an FBAR for calendar year 2008. The IRS assessed a penalty against Steven Schoenfeld in the amount of $614,300—50 percent of the account’s $1,228,600 balance.

Steven Schoenfeld died on August 21, 2015. He died testate and appointed Robert Schoenfeld as the personal representative of his estate. However, Robert Schoenfeld did not present the Will for probate.

On September 29, 2016, the Government initiated this action against Steven Schoenfeld to reduce its assessed penalty to judgment to judgment. The Government filed an amended complaint to name the Estate of Steven Schoenfeld as a defendant. The Estate filed a motion to dismiss the Amended Complaint.

Court’s findings

The Court finds that the Estate is not a proper party to the suit. However, the Government may pursue its claim against Robert Schoenfeld.

Further, it contends that “[a]s the personal representative named in Steven’s will and the sole beneficiary of his Estate, Robert is a proper party to this suit.”

Here, there is no genuine dispute that Robert Schoenfeld is the sole distributee of the Estate, as Robert Schoenfeld testified that he received 100% of his father’s assets…Thus, the Court finds that as a distributee of the estate, Robert Schoenfeld has the capacity to be sued under Rule 17. Accordingly, as to Robert Schoenfeld, the Motion is due to be denied, as the Government may pursue its claim against him.

Next the Court determines whether the Government’s claim abated upon Steven Schoenfeld’s death.

An action brought against a deceased party cannot continue “unless the cause of action, on account of which the suit was brought, is one that survives by law.” Ex parte Schreiber, 110 U.S. 76, 80 (1884). “In the absence of an expression of contrary intent, the survival of a federal cause of action is a question of federal common law.” United States v. NEC Corp., 11 F.3d 136, 137 (11th Cir. 1993), as amended, (Jan. 12, 1994) (citation omitted). Here, Congress has not specifically expressed its intention as to whether the Government’s claim survives. Thus, the Court must turn to federal common law for guidance.

“It is well-settled that remedial actions survive the death of [a party], while penal actions do not.” Id. A remedial action “compensates an individual for specific harm suffered,” whereas a penal action “imposes damages upon the defendant for a general wrong to the public.”

Ultimately, the Court is of the view that the Government’s claim survives Steven Schoenfeld’s death. In doing so, this Court joins many others which have found that a tax penalty survives.

Voluntary disclosure options for estates

While this case addresses the Government’s ability to collect a decedent’s FBAR penalties, what about the assessment of such penalties after a taxpayer is deceased? We’ve come across taxpayers who’ve discovered significant unreported foreign accounts in their deceased relative’s estate, but no FBAR penalty had been previously asserted. The question is then what should be done to correct the previous non-compliance.

IRS private guidance issued on 10/22/07 (cited in CCH JOURNAL OF TAX PRACTICE & PROCEDURE, June-July 2008), provides that if a taxpayer is deceased and the Personal Representative of the Estate discovers that an FBAR was never filed by the taxpayer and believes that the taxpayer had foreign financial accounts that may have had an aggregate amount above $10,000, the representative should file an FBAR for the estate, but will not be expected to file FBARs that the decedent should have filed.

Where there is unreported income from the financial accounts, amended returns for the deceased individuals should be filed to prevent the personal representative from being personally responsible for Title 26 taxes and penalties. They can be filed under any of IRS’ voluntary disclosure options, depending on the facts of the case. In addition, despite the IRS’ informal guidance, it might be prudent to also file protective FBARs for the deceased.

Tax Court Denies Government Summary Judgement in Foreign Income Case

Kunal Patel

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Tax Court Denies Government a Quick Win in Foreign Income Case

In Zuhovitzky v. CIR, T.C. Memo 2015-158, the government filed a motion for partial summary judgment on the issue wither the petitioner is subject to U.S. tax on worldwide income in the absence of a section 6013(g) election.

What is a 6013 election?

A 6013(g) election allows a nonresident who is married to a U.S. citizen or resident at the end of the year to be treated as a resident for income tax purposes. A couple who makes the election must file a joint return in the election year but a joint or separate return may be filed for subsequent years.

A 6013(h) election allows a dual status resident (i.e., who is a resident at the end of the year but not the beginning) that is married to an individual who is either a U.S. citizen or resident at the end of the year to be treated as a full year resident for income tax purposes.

Such an election must be made by attaching a signed statement to the joint return for the first year in which it applies.

Facts

During the years at issue, petitioner Jonathan Zuhovitzky was a citizen of both Israel and the United States; petitioner Esther Zuhovitzky was a citizen of both Israel and Austria. Esther has never resided in the United States. [The Zuhovizkys] filed joint tax returns for 1992 through 2008 but never filed an election under section 6013(g) to treat Esther as a resident of the United States during these years.

[The IRS] issued a notice of deficiency for the years at issue, in which [the IRS] determined the following:

Fraud penalty
Year Deficiency sec. 6663
2000 $276,596.00 $207,447.00
2001 265,143.00 198,857.25
2002 244,427.00 183,320.25
2003 337,244.00 252,933.00
2004 299,062.00 224,296.50
2005 174,870.00 131,152.50
2006 308,746.00 231,559.50
2007 124,137.00 93,102.75
2008 137,467.00 103,100.25

These deficiencies and penalties stem from determined unreported interest and dividend income from a UBS account in Esther’s name.

Issue

A nonresident alien has no requirement to report foreign income and assets, unless they’ve made an election to be treated as a resident, such as in this case, under IRC 6013(g).

Treas. Reg. § 1.6013-6(a)(4) provides that a 6013(g) election must be made on a signed statement attached with the tax return for the first year in which the election is made.

The issue in this case is whether a non-resident taxpayer that has filed jointly (and therefore as a U.S. tax resident) but has not made a 6013(g) election can be subject to U.S. tax on worldwide income.

Law

As discussed above, the 6013(g) election allows a non-resident spouse married to a U.S. citizen or resident to elect to be treated as a resident for tax purposes and file jointly.

The IRS argues that while the taxpayer did not make a 6013(g) election, the fact that they filed jointly should be construed as having made a valid election. The government seeks to apply two common law doctrines: substantial compliance and the duty of consistency.

Substantial compliance

The substantial compliance doctrine is a narrow equitable doctrine that we may apply to avoid hardship where one party establishes that the other party intended to comply with a provision, did everything reasonably possible to comply with the provision, but did not comply with the provision because of a failure to meet the provision’s specific requirements.

Under the substantial compliance doctrine, [taxpayers] must have both intended to make the section 6013(g) election and substantially complied with the requirements for the election. [The IRS] contends that by filing joint returns, [taxpayers] expressed their intent to make a section 6013(g) election. [Taxpayers], on the other hand, argue that they had no intent to make a section 6013(g) election. [Taxpayers’] intent is a matter of material fact in dispute, and thus, the issue of substantial compliance is inappropriate for summary judgment and requires trial.

Duty of consistency

We may also apply the equitable doctrine of “quasi-estoppel” or “the duty of consistency.” The “duty of consistency” is based on the theory that the taxpayer owes the Commissioner the duty to be consistent with his tax treatment of items and will not be permitted to benefit from his own prior error or omission.  The duty of consistency doctrine prevents a taxpayer from taking one position one year and a contrary position in a later year after the limitations period has run on the first year.

[The IRS] contends that the Court should treat [taxpayers] as if they had made a section 6013(g) election under the duty of consistency. [The IRS] argues that [taxpayers] represented that they were eligible to file joint returns by filing joint returns from 1992 through 2008. [The IRS]  further argues that because Esther was a nonresident alien, [taxpayers] were entitled to file joint returns only if: (1) they made a section 6013(g) election or (2) Esther satisfied the substantial presence test under section 7701(b)(3)…[The IRS] contends that he relied upon this representation by accepting [taxpayers’] joint returns and that [taxpayers] are now trying to change their representation about their joint-filing eligibility after the expiration of the period of limitations for 1992 through 1999.

Conclusion

The court finds that the application of the substantial compliance and duty of consistency doctrines require factual determinations which cannot be made in summary judgment, and that the case must proceed to trial.

Final word about IRC 6013 elections

It’s important that individuals immigrating to the U.S. with significant foreign income and assets have proper tax planning. Nonresident spouses should be cautious in making a 6013 election or filing jointly, which may unintentionally subject them to U.S. tax on foreign income and FBAR/FATCA reporting requirements.

A 6013(h) election is often advisable, especially since the taxpayer is a resident anyway for at least part of the year. It allows taxpayers to use lower married filing jointly tax rates, itemize deductions, and claim personal exemptions.

A 6013(g) election, on the other hand, will treat a nonresident alien spouse as a resident when they would have otherwise not been subject to U.S. tax. In addition, it would apply in subsequent years unless terminated in writing. A non-resident spouse would have to file as a U.S. resident filing jointly or separately. The 6013(g) should almost never be made, except where the nonresident spouse has insignificant foreign income and assets. Generally, where one spouse is a nonresident, the resident spouse should file separately. The nonresident spouse then has no U.S. tax return filing obligation, unless they have U.S. source income.

FATCA Conviction for Bank Executive

Kunal Patel

0

First Ever FATCA Conviction with Bank Executive Enabler’s Plea

The DOJ has recently secured it’s first conviction under the relatively new FATCA law.

Earlier today in federal court in Brooklyn, Adrian Baron, the former Chief Business Officer and former Chief Executive Officer of Loyal Bank Ltd, an off-shore bank with offices in Budapest, Hungary and Saint Vincent and the Grenadines, pleaded guilty to conspiring to defraud the United States by failing to comply with the Foreign Account Tax Compliance Act (FATCA).  Baron was extradited to the United States from Hungary in July 2018.  The guilty plea was entered before United States District Judge Kiyo A. Matsumoto.

According to court documents, in June 2017, an undercover agent met with Baron and explained that he was a U.S. citizen involved in stock manipulation schemes and was interested in opening multiple corporate bank accounts at Loyal Bank.  The undercover agent informed Baron that he did not want to appear on any of the account opening documents for his bank accounts at Loyal Bank, even though he would be the true owner of the accounts.  Baron responded that Loyal Bank could open such accounts and provide debit cards linked to them.

In July 2017, the undercover agent again met with Baron and described how his stock manipulation scheme operated, including the need to circumvent the IRS’s reporting requirements under FATCA.  During the meeting, Baron stated that Loyal Bank would not submit a FATCA declaration to regulators unless the paperwork indicated “obvious” U.S. involvement.  Subsequently, in July and August 2017, Loyal Bank opened multiple bank accounts for the undercover agent.  At no time did Baron or Loyal Bank request or collect FATCA Information from the undercover agent.

Baron’s guilty plea represents the first-ever conviction for failing to comply with FATCA.  When sentenced, Baron faces a maximum of five years in prison.

Baron is the second defendant to plead guilty in this case.  On July 26, 2018, Arvinsingh Canaye, formerly the General Manager of Beaufort Management Services Ltd. in Mauritius, pleaded guilty to conspiracy to commit money laundering.

Foreign Account Tax Compliance Act (FATCA)

The Foreign Account Tax Compliance Act (FATCA) is a law passed in 2010 requiring all non-U.S. financial institutions (FFIs) to report the identities of U.S. persons to the U.S. Department of Treasury. In addition, it includes an information reporting requirement for individuals on Form 8938. The purpose of these dual reporting requirements is for the IRS to identify individuals that have not disclosed their foreign financial assets on Form 8938 based on information received from FFIs.

Foreign financial institutions

FATCA requires financial institutions to report certain information about certain financial accounts held by United States taxpayers, or by foreign entities in which United States taxpayers hold a substantial ownership interest.

Intergovernmental Agreements (IGAs)

Foreign banks that are located in jurisdictions with which the U.S. has intergovernmental agreements (IGAs) are required to provide information as required under I.R.C. § 1471(c). A list of IGAs can be found on the Treasury website. Foreign financial institutions (FFIs) that are not located in jurisdictions with IGAs must comply with FATCA or be subject to harsh withholding rules under I.R.C. § 1471. And since most foreign financial institutions do business with the U.S. or with other financial institutions that conduct business with the U.S., a large number of FFIs not located in jurisdictions with IGAs choose to comply with FATCA. A list of FFIs can be found on the IRS website.

Information Provided by Foreign Financial Accounts under FATCA

I.R.C. § 1471(c) requires a foreign financial institution to report the following with respect to each United States account maintained by such institution:

(A) The name, address, and TIN of each account holder which is a specified United States person and, in the case of any account holder which is a United States owned foreign entity, the name, address, and TIN of each substantial United States owner of such entity.
(B) The account number.
(C) The account balance or value (determined at such time and in such manner as the Secretary may provide).
(D) Except to the extent provided by the Secretary, the gross receipts and gross withdrawals or payments from the account (determined for such period and in such manner as the Secretary may provide)

Individuals

The FATCA reporting requirement for individuals is codified in IRC 6038D. Individuals with specified foreign financial assets exceeding the thresholds identified in Treas. Reg. 1.6038D-2 must provide this form annual with their U.S. income tax return.

Filing statusLiving in:Meets reporting threshold if value of specified foreign financial assets is greater than …
Unmarried/ Married Filing SeparatelyUnited States$50,000 on last day of tax year; or $75,000 at any time during tax year
Married Filing JointlyUnited States$100,000 on last day of tax year; or $150,000 at any time during tax year
Unmarried / Married Filing SeparatelyForeign Country$200,000 on last day of tax year; or $300,000 at any time during tax year
Married Filing JointlyForeign Country$400,000 on last day of tax year; or $600,000 at any time during tax year

Exchange of Information Pursuant to Income Tax Treaties and Tax Information Exchange Agreements

In addition to automatic exchange of information under FATCA, specific and spontaneous exchanges of information may occur pursuant to tax treaties and tax information exchange agreements (TIEAs). In matters involving criminal tax evasion, the DOJ may request cooperation through mutual legal assistance treaties (MLATs).

Specific requests may arise from collection matters, criminal investigations, or other tax administrative or court procedures. Information must be first sought domestically, such as by issuance of an Information Document Request or a summons on a 3rd party possessing relevant records.

Spontaneous exchange of information, which operates through the exchange of information provisions of tax treaties and TIEAs, involves the transmission of information that has not been specifically requested by a Competent Authority, but which in the judgment of the providing authority may be of interest to a foreign partner for tax purposes. The exchange typically involves information discovered during a tax examination, investigation, or other administrative procedure that suggests or establishes noncompliance with the tax laws of a foreign partner, or that is otherwise determined to be potentially useful to a foreign partner for tax purposes. The information may pertain to nonresident aliens, United States citizens, domestic or foreign corporations, or other taxpayers.

Simultaneous examinations involve the United States and one or more of its foreign partners conducting separate independent examinations of selected taxpayer(s) within their respective jurisdictions in which the partners have a common or related interest

Tax treaty EOI – Article 26 of the U.S. Model Income Tax Convention

This following is an excerpt from the Exchange of Information Article (Article 26) of the U.S. Model Income Tax Convention (2006).

EXCHANGE OF INFORMATION AND ADMINISTRATIVE ASSISTANCE

  1. The competent authorities of the Contracting States shall exchange such information as may be relevant for carrying out the provisions of this Convention or of the domestic laws of the Contracting States concerning taxes of every kind imposed by a Contracting State to the extent that the taxation thereunder is not contrary to the Convention, including information relating to the assessment or collection of, the enforcement or prosecution in respect of, or the determination of appeals in relation to, such taxes. The exchange of information is not restricted by paragraph 1 of Article 1 (General Scope) or Article 2 (Taxes Covered).
  2. Any information received under this Article by a Contracting State shall be treated as secret in the same manner as information obtained under the domestic laws of that State and shall be disclosed only to persons or authorities (including courts and administrative bodies) involved in the assessment, collection, or administration of, the enforcement or prosecution in respect of, or the determination of appeals in relation to, the taxes referred to above, or the oversight of such functions. Such persons or authorities shall use the information only for such purposes. They may disclose the information in public court proceedings or in judicial decisions.

Deferred Prosecution Agreements

In addition to the above sources of information, certain FFIs, namely Swiss, are required to provide information pursuant to deferred prosecution agreements with the USDOJ. For example. The Swiss Bank Program, which was announced on August 29, 2013, provides a path for Swiss banks to resolve potential criminal liabilities in the United States.  Swiss banks eligible to enter the program were required to advise the department by Dec. 31, 2013, that they had reason to believe that they had committed tax-related criminal offenses in connection with undeclared U.S.-related accounts. Banks already under criminal investigation related to their Swiss-banking activities and all individuals were expressly excluded from the program.

Under the program, banks were required to:

  • Make a complete disclosure of their cross-border activities;
  • Provide detailed information on an account-by-account basis for accounts in which U.S. taxpayers have a direct or indirect interest;
  • Cooperate in treaty requests for account information;
  • Provide detailed information as to other banks that transferred funds into secret accounts or that accepted funds when secret accounts were closed;
  • Agree to close accounts of accountholders who fail to come into compliance with U.S. reporting obligations; and
  • Pay appropriate penalties.

Once the IRS is in possession of the information relating to undisclosed accounts, whether by an automatic exchange, specific request, or through a deferred prosecution agreement, any non-compliance by a U.S. account holder will subject that person to civil and criminal penalties, and in rare situations a risk of prosecution.

What should non-compliant taxpayers do?

Despite the scary cases you may have read, the vast majority of individuals with undisclosed offshore accounts will not be subject to criminal prosecution. A small percentage of  individuals with offshore accounts have ever been contacted by the IRS regarding undisclosed accounts.  A recent TIGTA audit found that the IRS is not prepared to enforce FATCA and has recommended some changes.

The FBAR is a Title 31 requirement and the IRS must show that the FBAR non-compliance was in furtherance of an apparent Title 26 violation before commencing an FBAR examination. When the IRS begins acting on information received through FATCA, Form 8938 non-compliance would be a Title 26 violation, allowing the IRS to investigate without requiring a related statute determination.

While it is clear that the IRS is sitting on a treasure trove of information received through FATCA, it’s not known when it will act on it or how heavy-handed it would be in assessing penalties when conducting taxpayer examinations for FATCA noncompliance. IRC 6038D authorizes substantial penalties for non-compliance, in addition to even more substantial 31 USC 5321 FBAR penalties. All non-compliant taxpayers should minimize their risks by filing original or amended tax returns under one of IRS’ voluntary disclosure programs:

We assist taxpayers who have undisclosed foreign financial assets. Schedule an appointment to see how we can help.

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