Many U.S. persons are alarmed upon learning of their reporting obligations with respect to foreign financial accounts. Those obligations include reporting the accounts and income therefrom on U.S. income tax returns, and reporting the accounts on FinCEN Forms 114, Report of Foreign Bank and Financial Accounts, (“FBARs”).
“U.S. persons” required to report foreign financial accounts include U.S. citizens, lawful permanent residents (“green card” holders), and others who reside in the U.S. (I will explain the “substantial presence test” in a later post).
U.S. persons are subject to heavy penalties for failing to perform their reporting obligations with respect to foreign accounts. Those penalties include a negligence penalty equal to 20% of tax underreported on an income tax return, a penalty of $10,000 for failing to file a Form 8938, Statement of Specified Foreign Financial Assets, and a penalty equal to the greater of $100,000 or 50% of the taxpayer’s high aggregate balance of foreign accounts for failure to file an FBAR (this is called the “draconian” penalty). Noncompliance can also be the subject of a criminal prosecution.
Internal Revenue Service voluntary disclosure programs are available to mitigate the cost of coming into compliance with U.S. laws concerning foreign accounts. Under the Offshore Voluntary Disclosure Program (“OVDP”), the taxpayer (1) files eight years of U.S. income tax returns reporting income from foreign accounts, (2) pays tax on the income, and a negligence penalty equal to 20% of the tax, (3) files eight years of FBARs, and (4) pays an offshore penalty equal to 27.5% of the high aggregate balance in the foreign accounts.
If the taxpayer’s noncompliance was nonwillful, then the taxpayer can come into compliance with U.S. laws concerning foreign accounts by means of the Streamlined Offshore Compliance Procedures. Under the Streamlined Procedures, the taxpayer (1) files three years of tax returns reporting income from foreign accounts, (2) files six years of FBARs, and (3) pays an offshore penalty equal to 5% of the high aggregate balance in foreign accounts (there is no penalty if the taxpayer does not reside in the U.S.).
Congress enacted the FBAR filing requirement, and the draconian penalty for failure to file an FBAR, to curb the evasion of U.S. income tax by the use of foreign accounts. U.S. persons were transferring money overseas, investing it there, and not reporting the income on U.S. income tax returns. It is intuitive that the draconian penalty ought not apply to someone who has not evaded U.S. income tax by the use of foreign accounts. Indeed the IRS has acknowledged several times that a taxpayer who—
- does not need to file delinquent or amended tax returns to report and pay additional tax,
- who is not currently under IRS examination, and
- who has not been contacted by the IRS concerning delinquent FBARs,
can come into compliance with U.S. laws with respect to foreign accounts by reporting the accounts on FBARs for the last six years, the open years under the statute of limitations on assessment of the FBAR penalty. Such a taxpayer need not make a submission under the OVDP or Streamlined procedures, or pay an offshore penalty. Willfulness is not an issue for such a taxpayer. Such a taxpayer may need to file amended tax returns to file delinquent Forms 8938.
Other posts of interest: