On February 8, the US Internal Revenue Service announced a new “special
voluntary disclosure initiative designed to bring offshore money back into the
US tax system and to help people with undisclosed income from hidden offshore
accounts get current with their taxes.” It is called the 2011 Offshore Voluntary
Disclosure Initiative (“OVDI”).
What’s the cost?
The IRS decided to open this second
amnesty because of the response to the first amnesty in 2009. That program
closed on October 15, 2009, with 15,000 voluntary disclosures. Since then, more
than 3,000 US taxpayers came forward to disclose foreign bank
accounts. These taxpayers will also be eligible to take advantage of this
The 2011 OVDI involves filing documents
and paying back taxes for 2003-2010 by August 31, 2011.
highlight of this initiative is an offshore penalty of “only” 25 percent, but
that’s not the whole story.What penalty has to be paid if accepted into
the 2011 OVDI?
In most cases, in addition to the tax, the following OVDI
penalties will be payable: • Accuracy-related penalty of 20% on the full amount
of the additional taxes for all years.
• Failure to file penalty (5% per
month up to a maximum of 25%), if applicable.
• Failure to file penalty
(0.5% per month up to a maximum of 25%), if applicable.
penalty in lieu of all other penalties that may apply, including FBAR and
offshore- related information return penalties, equal to 25% (but see below) of
the highest aggregate balance in foreign accounts/entities or value of foreign
assets during the period covered by the voluntary disclosure.
example, failure to report rental income from an Israeli apartment subjects the
value of the apartment to the offshore penalty.What assets are subject
to the 25% offshore penalty?
All foreign assets – whether directly or indirectly
owned or controlled through an entity – that are related in any way to tax
noncompliance. Tax noncompliance includes failure to report income generated by
the asset, as well as failure to pay tax on the funds used to acquire the
The type of assets include: foreign accounts holding cash,
securities or other custodial assets; tangible assets such as real estate or
art; intangible assets such as patents or stock or other interest in business
entities.Who is entitled to the 12.5% offshore penalty?
cases, an offshore penalty of 12.5% is payable.
This applies to taxpayers
whose highest aggregate account balance in each of the years covered by the 2011
OVDI is less than $75,000. For example, if in one year your account balance was
$76,000, you will not qualify for this lower penalty.Who is entitled to
the lower 5% offshore penalty?
In additional limited cases, an offshore penalty
of 5% is payable. This applies to: (1) Taxpayers who meet all four of the
following conditions: (a) did not open or cause the account to be opened; (b)
have exercised minimal, infrequent contact with the account; (c) have, except
for a withdrawal closing the account and transferring the funds to an account in
the United States, not withdrawn more than $1,000 from the account in any year
covered by the voluntary disclosure; and (d) can establish that all applicable
US taxes have been paid on funds deposited to the account (only account earnings
have escaped US taxation).
(2) Taxpayers who are foreign residents and
who were unaware they were US citizens (“accidental US citizens”). This may be
relevant to Israeli citizens living in Israel who were born in the US but were
unaware they were also US citizens.
But proving this “unawareness” may
not be easy.Why should someone make a voluntary disclosure?
with undisclosed foreign accounts or foreign entities should seriously consider
using the OVDI. In addition to enabling one to become tax-compliant, one can
avoid substantial civil penalties and generally eliminate the risk of criminal
prosecution. The initiative also offers consistency and predictability as to the
total cost of resolving all offshore tax issues.
It is going to be
increasing difficult to hide foreign assets.
Starting with tax year 2011,
US taxpayers will be required to attach a disclosure statement to their US
income tax return if the aggregate value of all “specified foreign financial
assets” exceed $50,000. By 2013, foreign financial institutions will be required
to identify accounts held by US persons and report them to the IRS or suffer 30%
withholding tax at source on all US source income.
Additionally, the IRS
has a formal “whistle-blower” program and under tax treaties can receive
information.What happens if one does not utilize the 2011 OVDI?
If a US
taxpayer does not take advantage of this program, which expires on August 31,
2011, he could be subject to more onerous civil penalties and an increased risk
of criminal prosecution.
For example, depending upon the taxpayer’s facts
and circumstances, the civil penalty for failure to file form TDF 90- 22.1
(Report of Foreign Bank and Financial Accounts – FBAR) could be $10,000 per year
for non-willful failure, not due to reasonable cause, or the greater of $100,000
or 50% of the total balance of all foreign accounts for willful
The criminal penalties for failure to file an FBAR includes a
prison term of up to 10 years and a fine of up to $500,000. Other
penalties are also prescribed.What years are included in the 2011 OVDI?
Taxpayers must include tax years 2003-2010 in which they have either undisclosed
foreign accounts and/or undisclosed foreign entities. A fiscal-year taxpayer
must include fiscal years ending in calendar years 2003-2010.Who is a US
US taxpayers include all of the following: a US citizen; a green-card
holder (with certain exceptions); US corporation, including a sub-chapter S
corporation; US partnership; US LLC; US trust. US taxpayers living in Israel
must file US returns even if they live in Israel and also file Israeli returns.
Regulations in each country and the US-Israel tax treaty allow foreign tax
credits to help avoid double taxation.What are the terms of the 2011
(1) Pre-clearance: US taxpayers or their representatives may request a
“pre-clearance” by faxing the IRS Criminal Investigation Lead Development
The IRS Criminal Investigation (CI) division will notify
taxpayers or their representatives via fax whether they have been cleared to
make a voluntary disclosure. However, it is not clear under what circumstances a
pre-clearance should be used, particularly since the IRS has stated that a
pre-clearance does not guarantee acceptance into the 2011 OVDI.
Offshore Voluntary Disclosure Letter: If one goes through the pre-clearance
procedure, then after notification from the IRS, the taxpayer must submit within
30 days an offshore voluntary disclosure letter. Even if the taxpayer does not
go through the pre-clearance procedure, he still must submit this letter. The
IRS will review the letter and notify the taxpayer or his representative by mail
whether they have been preliminarily accepted or denied entry into the 2011
(3) Voluntary Disclosure Package: If accepted, then the taxpayer
has to submit a full voluntary disclosure package no later than August 31, 2011.
Aside from providing copies of previously filed original federal income-tax
returns and amended returns for the years covered by the voluntary disclosure,
this package includes FBARs for the years covered by the voluntary disclosure;
and questionnaires relating to foreign accounts and assets and other documents,
depending on the value of the undisclosed items.
For those applicants
disclosing foreign financial accounts with an aggregate highest account balance
in any year of $500,000 or more, copies of the statements reflecting all account
activity for each of the years covered by the voluntary disclosure must be
One must also explain any differences between the amounts
reported on the account statements and the tax returns submitted. For those
disclosing foreign accounts with an aggregate balance of less than $500,000,
these statements should be maintained and be available upon request.
payment of the tax, interest and penalties must accompany the submission by
August 31, 2011. However, it is possible for a taxpayer who is unable to make
full payment of these amounts to request the IRS to consider other payment
arrangements.Will IRS examiners have discretion to settle cases?
However, “under no circumstances will taxpayers be required to pay a penalty
greater than what they would otherwise be liable for under the maximum penalties
imposed by existing statutes.”
In fact, examiners must compare the two
types of penalties, and the taxpayer will only pay the lesser amount.Is
there any appeal if taxpayer and the IRS do not agree on the terms of the final
No! The taxpayer can make an irrevocable election to withdraw
from the 2011 OVDI by notifying the IRS in writing. The IRS can then subject all
relevant years to a complete examination (tax audit). Also, the taxpayer remains
within the Criminal Investigation’s Voluntary Disclosure Practice. And finally,
the taxpayer will be subject to potentially higher civil and criminal
penalties.What if all taxable income was reported but FBARs were not
filed in prior years?
Do not use the voluntary disclosure process. Instead, file
the delinquent FBARs according to the instructions and attach a statement
explaining why the reports are filed late. The IRS will not impose a penalty for
the failure to file the delinquent FBARs if there are no unreported tax
liabilities and the FBARs are filed by August 31, 2011.
for 2010 are due on June 30, 2011, and must be filed by that date.What
if all taxable income was reported but Forms 5471 or 3520 were not filed in
A taxpayer who has failed to file tax information returns, such as
Form 5471 for controlled foreign corporations (CFCs) or Form 3520 for foreign
trusts, but who has reported and paid tax on all their taxable income with
respect to all transactions related to the CFCs or foreign trusts, should file
delinquent information returns with the appropriate service center according to
the instructions for the form and attach a statement explaining why the
information returns are filed late.
The Form 5471 should be submitted
with an amended return showing no change to income or tax liability. The IRS
will not impose a penalty for the failure to file the information returns if
there are no underreported tax liabilities and the information returns are filed
by August 31, 2011.What does all this mean?
If you are a US taxpayer
with unreported assets and/or income, you should obtain experienced professional
advice urgently. There is much to prepare before the August 31 deadline, and the
consequences of being caught later will be worse. The IRS has shown it can
elicit information efficiently from Swiss and other financial
In Israel, there is a general voluntary disclosure process
that should also be considered.
There was talk of an Israeli amnesty last
year, but that has yet to materialize. Israel has tax treaties with the US, UK,
France and Germany, which are all reported to hold Swiss or Liechtenstein bank
data. These tax treaties can be used to exchange information between the
respective tax authorities on occasion.
If you are an Israeli resident
and also have not reported taxable income from offshore accounts or assets to
the Israel Tax Authority, you should consult with an experienced Israeli tax
adviser about filing original or amended Israeli income-tax returns. Israeli
residents have had to report worldwide income since tax year
firstname.lastname@example.org email@example.com Don Shrensky is a US and Israeli
CPA at Don Shrensky & Co.Leon Harris is a certified public
accountant and international tax specialist at Harris Consulting & Tax Ltd.