Foreign Nationals & Expats
Houston Tax Attorney
- 1 IRS Tax Amnesty & Voluntary Disclosure Practice
- 1.1 Domestic Voluntary Disclosure
- 1.2 Offshore Voluntary Disclosure Program
- 1.3 Requirements for Tax Amnesty
- 1.4 How to make a Voluntary Disclosure
IRS Tax Amnesty & Voluntary Disclosure Practice
What do you do if you have committed a serious tax crime but the IRS has not yet discovered it? Tax amnesty has been a longstanding practice of the IRS Criminal Investigation division whereby taxpayers are allowed to make timely, accurate, and complete voluntary disclosures to avoid criminal prosecution.
Taxpayers are given tax amnesty for “coming clean” regarding their tax crimes. There are two such programs depending on whether the tax evasion involves domestic or foreign income:
- Domestic Voluntary Disclosure Program (not to be confused with streamlined domestic offshore procedures which is a completely unrelated program)
- Offshore Voluntary Disclosure Program (OVDP)
Domestic Voluntary Disclosure
The domestic voluntary disclosure program has been around since the 1950s. It is used by persons who have two specific types of tax issues – those who have seriously delinquent (unfiled) tax returns and those with significant unreported income. Read more about how the IRS discovers unreported income.
Taxpayers who have many years of delinquent tax returns can be subject to criminal prosecution. A well-known example is actor, Wesley Snipes, who was sentenced to federal prison for 3 years for willfully failing to file his tax returns.
It is important to note that not all cases involving delinquent returns require making a voluntary disclosure. The other option is to simply file up to 6 years of previously unfiled tax returns. 6 years (and not further) is recommended because the IRS’ Policy Statement 5-133 requires the filing of returns for the last 6 years, with prior managerial approval required to pick up more or less than six years of returns. The IRS recognizes that records tend to become unavailable or unreliable further back than 6 years. Also there is a 6 years federal statute of limitations period for prosecuting persons for failure to file a tax return.
Domestic Tax Evasion
When taxpayers have knowingly omitted income on their tax returns, they have committed tax evasion. Whether the IRS will discover the tax evasion or will refer it for prosecution is another matter. A large number of taxpayers probably underreport some income, accidentally or knowingly. Those that have significantly omitted income and do not have a valid reason for the under-reporting should consider entering into the domestic voluntary disclosure program.
How much is significant? It depends on various factors as well as the local criminal investigations group. Usually each local group has a threshold for deciding whether to refer a case to the DOJ for criminal prosecution. Cases referred for prosecution usually involve over $100,000 of total tax loss (not income).
For cases where the unreported amount is not as significant, the tax returns may simply be amended for a period of 3 or 6 years, depending on the situation.
Pros and Cons
Entering into the domestic voluntary disclosure program isn’t simply a matter of filing late taxes or amended returns for 6 years and calling it even with the IRS. The IRS may assess a 75% fraud related penalty on the balance due.
So if you file your tax return and owe $100,000 in taxes, a 75% fraud penalty would increase that total to $175,000. And you’ll still pay failure-to-file and failure-to-pay penalties, and interest on top of that. If you have a low level risk of criminal prosecution, you might be well-served by simply filing the returns or correcting the omission, whatever the case may be.
On the other hand, almost all tax crimes can be cured through a voluntary disclosure, which means not having to face criminal prosecution and potential jail time.
Offshore Voluntary Disclosure Program
The Offshore Voluntary Disclosure Program (OVDP) has been available since 2009. It’s based on the same principles as the Domestic Voluntary Disclosure Program. It’s available for taxpayers who have unreported foreign income and assets.
The OVDP is a very structured program with specific requirements. Taxpayers are required to amend or file 8 years of the most recent tax returns and FBARs.
This program is for those who have criminal exposure for unreported foreign income. It should be used by individuals who have significant unreported foreign-sourced income and where there is evidence of willfulness.
Pros and Cons
A successful OVDP disclosure protects the taxpayer from criminal prosecution for failing to report their offshore income and assets. However, it comes at a very steep price. The taxpayer will be subject to a 27.5% miscellaneous Title 26 penalty on the highest aggregate value of their unreported financial assets during the 8 year look-back period. In addition, the taxpayer will be subject to a 20% accuracy-related penalty on the additional income tax.
Requirements for Tax Amnesty
In order to qualify for tax amnesty under the voluntary disclosure programs, the disclosure must be truthful, timely, and complete.
- Truthful and complete: The taxpayer shows a willingness to cooperate (and does in fact cooperate) with the IRS in determining his or her correct tax liability. The taxpayer makes good faith arrangements with the IRS to pay in full, the tax, interest, and any penalties determined by the IRS to be applicable.
- Timely: A disclosure is timely if it is received before:
- The IRS has initiated a civil examination or criminal investigation of the taxpayer, or has notified the taxpayer that it intends to commence such an examination or investigation.
- The IRS has received information from a third party (e.g., informant, other governmental agency, or the media) alerting the IRS to the specific taxpayer’s noncompliance.
- The IRS has initiated a civil examination or criminal investigation which is directly related to the specific liability of the taxpayer.
- The IRS has acquired information directly related to the specific liability of the taxpayer from a criminal enforcement action (e.g., search warrant, grand jury subpoena).
How to make a Voluntary Disclosure
Domestic Voluntary Disclosure
Note that a voluntary disclosure will not automatically guarantee immunity from prosecution. However, it has been IRS’s practice to not refer voluntary disclosure cases for prosecution except where the income comes from illegal sources.
Taxpayers or their representatives initiate a voluntary disclosure by contacting IRS Criminal Investigations. Examples of voluntary disclosures include:
- A letter from an attorney which encloses amended returns from a client which are complete and accurate (reporting legal source income omitted from the original returns), which offers to pay the tax, interest, and any penalties determined by the IRS to be applicable in full.
- A disclosure made by a taxpayer of omitted income facilitated through a widely promoted scheme that is the subject of an IRS civil compliance project. Although the IRS already obtained information which might lead to an examination of the taxpayer, it not yet commenced any such examination or investigation or notified the taxpayer of its intent to do so. In addition, the taxpayer files complete and accurate returns and makes arrangements with the IRS to pay in full, the tax, interest, and any penalties determined by the IRS to be applicable. This is a voluntary disclosure because the civil compliance project involving the scheme does not yet directly relate to the specific liability of the taxpayer.
- A disclosure made by an individual who has not filed tax returns after the individual has received a notice stating that the IRS has no record of receiving a return for a particular year and inquiring into whether the taxpayer filed a return for that year. The individual files complete and accurate returns and makes arrangements with the IRS to pay, in full, the tax, interest, and any penalties determined by the IRS to be applicable. This is a voluntary disclosure because the IRS has not yet commenced an examination or investigation of the taxpayer or notified the taxpayer of its intent to do so.
Offshore Voluntary Disclosure
A person desiring to enter the OVDP program must take the following steps:
- Obtain a preclearance: Prior to making a disclosure, taxpayers may request a preclearance letter from the IRS Criminal Investigation Lead Development Center. If the IRS has already learned of the taxpayer’s noncompliance then the preclearance letter will be rejected. A decision can take up to 30 days. If a preclearance letter is granted, the taxpayer has 90 days to fully comply with all the provisions in the letter.
- Submit an application: After the initial letters are submitted to the IRS, the IRS will respond back with a letter stating that if the taxpayer completely and truthfully submits documents required under the OVDP, the IRS will not recommend prosecution by the Department of Justice for noncompliance. Taxpayers have 90 days from the date of the IRS letter to submit the required documents. Additional time may be requested.
The OVDP submission will then be reviewed by the IRS and at the completion of the review, the IRS will propose a closing agreement (Form 906). The taxpayer must then sign the agreement or decide to opt out of the OVDP. If the taxpayer cannot full pay the additional tax, penalties, and interest, an installment agreement may be requested.
Internal Revenue Manual (IRM) 18.104.22.168
IRS Policy Statement 5-133, IRM 22.214.171.124.18