The Internal Revenue Service (IRS) is preparing another crackdown on unreported foreign accounts. A new law, the Foreign Account Tax Compliance Act, will take effect in January and require foreign banks to disclose to the IRS the presence of overseas accounts held by Americans.
Before the law comes into effect, though, the IRS is encouraging those holding foreign accounts to voluntarily disclose their existence. Voluntary disclosure can reduce the risk of jail time and result in lower associated penalties.
Many U.S. citizens have foreign accounts for various, perfectly legitimate reasons. Some accounts are used by Americans who have family abroad, hold property in another country, frequently vacation to international destinations or inherit foreign property from a loved one. Whatever the reason, the presence of a foreign account does not automatically imply that some sort of illicit or criminal activity is occurring.
Unfortunately for the countless Americans legally keeping property in another country, there are individuals who use foreign accounts to evade state and federal tax debts. The IRS estimates that over $385 billion in taxable revenue is lost annually because of tax evasion. Commissioner Douglas Shulman of the IRS told Bloomberg News that the government is ramping up efforts to identify and hold responsible those who are willfully hiding assets in foreign accounts to avoid tax obligations.
Details of the Foreign Account Tax Compliance Act
The Foreign Account Tax Compliance Act (FATCA) was enacted in 2010. It includes a model agreement developed by a panel of American, French, German, Italian, Spanish and British representatives working closely with other "partner countries." The Department of the Treasury describes the FATCA as allowing nations to "work towards common reporting and due diligence standards in support of a more global approach to effectively combating tax evasion while minimizing compliance burdens."
FATCA requires foreign financial institutions to report accounts held by U.S. taxpayers to the IRS. Under the law, all foreign financial institutions are required to:
- Work to actively identify account holders
- Report U.S. account holders to the IRS on an annual basis
- In some cases, make payments from the accounts directly to the IRS
The law requires taxpayers holding accounts that exceed $50,000 to file Form 8938 with their 2011 annual tax returns. Failure to file this form could result in monetary penalties between $10,000 and $50,000. Underpayment of taxes due could also result in penalties of up to 40 percent of the amount of the asset.
Those who do not voluntarily disclose the presence of these accounts not only face civil fines, but also possible criminal charges. Criminal tax evasion is punishable by up to five years in a federal prison and a fine of up to $250,000.
Opportunities to Disclose Foreign Accounts Voluntarily
The IRS has initiated several voluntary disclosure programs to encourage those holding foreign accounts to provide information about them and pay any related fees with the benefit of lower penalties and no jail time. The intention is to ensure that honest taxpayers do not "foot the bill" for those using foreign accounts to illegally evade taxes.
Over 30,000 voluntary disclosures were made as of June 2012 and more are expected. The IRS recently announced opening a third offshore disclosure program that is similar to the 2009 and 2011 versions, but with one key difference: there is currently no expiration date on the protections offered to those who voluntarily provide the IRS with information about foreign financial assets. While no set deadline is present now, the IRS has the right to close the program at any time and increase penalties, so it is definitely advantageous to act now.
In order to be accepted into the Offshore Voluntary Disclosure Program (OVDP) applicants must provide financial information like tax returns and tax arrears payments for the eight-year disclosure period.
Penalties that may be applied include a 27 percent charge on the highest available balance in a foreign account. There are lower options available for some taxpayers, resulting instead in a 5 or 12.5 percent penalty. The lower rate can apply in a variety of situations. For example, those with accounts less than $75,000 likely qualify for lower penalties, but the easiest way to avoid penalties is to disclose the existence of all foreign accounts and pay necessary taxes.
The best way to reduce penalties and avoid criminal tax evasion or fraud charges is following the IRS' regulations. Every person's financial situation is unique, though, so it is wise to seek the counsel of an experience tax attorney to better ensure you're your interests and legal rights are both protected.