Understanding the Tools the IRS Has to Detect FBAR and Offshore Reporting Compliance

Aug 31, 2017

This blog post explores the devious tools used by the IRS to sniff out offshore assets and parse out noncompliant individuals with IRS offshore reporting obligations. The IRS will continue to hone its capabilities for finding and prosecuting foreign account cases, as the penalties and interest associated with such make it well worth their while. Fortunately, the FBAR Wiz is here to help provide you the information you need to stand your ground against the IRS and know your rights. A recently-adopted agreement between the U.S and Switzerland (formally known as the Agreement between the United States of America and Switzerland for Cooperation to Facilitate the Implementation of FATCA), along with the fact that the IRS frequently insists on interviewing taxpayers, indicates that there is a high risk that foreign banks and taxpayers will name others involved in foreign account facilitation, thus allowing Treasury and Justice Department to cast an ever-widening net to catch non-compliant . An adviser must look at the facts of each case and determine which path to suggest to a client, because doing nothing is no longer a viable option. Checklist for Foreign Accounts Initial inquiry: Does the client have a foreign account? If yes, is it the type of account that is covered by 31 U.S.C. Section 5314? If applicable, has the client properly completed Form 1040, Schedule B, Interest and Ordinary Dividends, Part III, Line 7a? Has the client annually reported the income from the account? Has the client filed FinCEN Form 114 (formerly TD F 90-22.1), Report of Foreign Bank and Financial Accounts (FBAR)? Has the client filed Form 8938, Statement of Specified Foreign Financial Assets, with his or her federal income tax return? Has the IRS already contacted the client about the foreign account? For a client with an unreported foreign account who has not been contacted by the IRS: How long has the client had the account? What was the source of the funds? Was the account inherited? Did the client use funds in the account or actively manage it? Is the client a nominal or beneficial owner of the account? Does an entity own the account? If yes, what is the client’s ownership of or involvement in the entity? Upon your analysis, does it appear reasonably likely that the IRS could sustain a successful criminal prosecution against the client? Upon your analysis, does it make sense to enter the Offshore Voluntary Disclosure Initiative (OVDI)? Despite the risk, is there logic in considering a quiet disclosure rather than entering the OVDI? Is there a reason to opt out of the OVDI? Are there other issues on the client’s federal income tax return that would not stand up to an IRS audit? Additional considerations when the client has been contacted by the IRS or is denied access to the OVDI: Has the client disclosed the account to his or her accountant or tax preparer? Does it appear that the IRS could sustain a willfulness penalty against the client? Do the facts support a negligence penalty? Do the mitigation guidelines apply? EXECUTIVE SUMMARY Taxpayers with an interest in or signature authority over foreign accounts generally must disclose them on their annual tax returns and file FinCEN Form 114 (formerly TD F 90-22.1), Report of Foreign Bank and Financial Accounts (FBAR), with the Treasury Department annually by June 30. The IRS is increasingly likely to detect noncompliance as it gains greater cooperation from foreign financial institutions and analyzes returns for new and “quiet” disclosures. Qualifying taxpayers wishing to limit their exposure may enter the IRS’s Offshore Voluntary Disclosure Initiative (OVDI). If taxes on income from undisclosed foreign accounts is unpaid, taxpayers in the OVDI will likely pay eight prior years’ back taxes on the income, plus a 20% accuracy penalty, and an additional penalty of 27.5% of the highest account value. In return, they will not be subject to criminal prosecution or liable for the potentially much greater penalties that could be imposed, especially if the noncompliance is willful. However, some clients may be best advised to opt out of the OVDI if, for instance, they have unreported foreign account income but no tax deficiency, and in some instances, for nonwillful failure to file FBARs.