New voluntary disclosure program for offshore accounts in 2011

The Internal Revenue Service said this week that it would soon announce a new amnesty program aimed at encouraging wealthy Americans with hidden offshore bank accounts to come forward, declare their money and pay taxes owed. An IRS spokesman said that the program would be formally announced very shortly and would not offer terms as generous as those put forth in the first voluntary disclosure initiative for offshore accounts in 2009.

Last December, the Commissioner of the Internal Revenue Service announced that the IRS may institute a second Voluntary Disclosure Program for taxpayers with undeclared foreign bank accounts, allowing them to avoid criminal prosecution upon full and complete disclosure of the accounts along with the payment of back taxes on undeclared income and penalties.

The first voluntary disclosure initiative for offshore accounts, effective from March through October of 2009, elicited disclosures from about 15,000 taxpayers. Those taxpayers avoided criminal prosecution and possible prison time by generally paying six years of back taxes (with interest) on the declared income in those foreign accounts as well as the accuracy-related penalty for underpayment of taxes, if mathematically applicable. In addition, they paid a penalty of 20% of the highest value in the undeclared foreign account during the six-year period. Another 3,000 or so taxpayers have made voluntary disclosures of foreign bank accounts since the first amnesty program expired on October 15, 2009. They face undetermined penalties, but have greatly reduced the likelihood that they would be criminally prosecuted.

Now that the IRS has announced its consideration of a new partial amnesty program, it raises questions for taxpayers about: what the penalties would likely be under such a program; what the penalties may be for taxpayers who disclosed after the first program but before the second; and what are the strategic considerations for taxpayers with undeclared foreign bank accounts who have not yet made any voluntary report.

Taxpayers who did not avail themselves of the special voluntary disclosure program with respect to foreign bank accounts that ended in October of 2009 have some new considerations. For any taxpayer who thought (wrongly) that IRS inquiries would be limited to taxpayers with Swiss bank accounts should note that the IRS has emphasized that it will pursue other banks for information on U.S. account holders. At least two candidates have been named as likely candidates for such actions, one being another well-known Swiss bank and one being an Asian bank (HSBC). One thing is clear, the mere fact that a taxpayer’s bank has not yet been the subject to IRS inquiries, does not mean that it will not be.

President Obama has targeted taxpayers with foreign accounts as lost tax revenue. The new Foreign Account Tax Compliance Act (“FATCA”) ensures that more information about foreign accounts will become available to U.S. enforcement authorities. FATCA will make it much more likely that any foreign financial institution, and non-financial foreign entities, will either require detailed information on U.S. account holders or stop serving U.S. customers. Absent such steps, a 30% withholding tax would apply to certain U.S.-source payments made to such entities. Also FATCA imposes new disclosure requirements on U.S. taxpayers who have certain specified foreign financial assets (which could include not just foreign bank accounts, but any interest in a foreign entity) worth over $50,000. Section 6038D of the Internal Revenue Code will require that information about such foreign accounts or assets be filed with the IRS on an information return that would be filed with the Form 1040. With the current emphasis on international transparency and global enforcement, taxpayers must assume that the IRS will continue to pursue information on foreign accounts, with more tools at its disposal.

We do not know what penalties will apply under any new partial amnesty program for offshore accounts. We think any new program is likely to follow the same approach of providing certain penalties for all participants. One reasonable possibility is that a second program might have enhanced understatement penalties and/or higher penalties on account values, perhaps in the range of 30-35%. The IRS Deputy Commissioner for Services and Enforcement described the new program as “somewhat similar” to the prior program.

Our law firm advises and aggressively defends taxpayers in voluntary disclosures, tax matters, tax controversies and examinations.

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