Tax Law Center Blog

Although the OVDI program has expired, a U.S. taxpayer can still make a voluntary disclosure of foreign accounts pursuant to the IRS’s general voluntary disclosure policy. For over 50 years, the IRS has maintained a voluntary disclosure policy, under which taxpayers can disclose, and rectify, any form of tax noncompliance. To make a voluntary disclosure, a taxpayer must make a truthful, timely, and complete disclosure of past noncompliance; cooperate in the determination of the correct tax liability; and pay, or make a good faith arrangement to pay, any tax, penalties, and interest determined to be due. A voluntary disclosure is generally considered to be “timely” if it is made before the government has initiated an investigation or audit of the taxpayer (or a related party), and before the government has received information from a third party (i.e., HSBC bank subpoena) about the taxpayer’s noncompliance. In essence, a voluntary disclosure is “a race to the government” – whoever gets there first wins.

Therefore, taxpayers who have unreported offshore accounts should give serious consideration to making a voluntary disclosure, even after the expiration of the IRS’s OVDI program. While the civil penalties may be different (could be higher or lower than the penalties that were imposed under the OVDI program based on circumstances) they will certainly be less than the penalties that would be imposed if the IRS were to learn of the offshore bank account from another source.

Heightening the risk of discovery by the IRS, and the attendant increased penalties and criminal exposure, is the Foreign Account Tax Compliance Act (FATCA) recently passed by Congress. Under FATCA, which goes into effect in 2013, all foreign banks that have any dealings with the U.S. financial system (that is, almost all banks) will be required to provide information to the IRS about all U.S. account holders or face a withholding regime that would require all other financial institutions to withhold 30 percent of the payments made to noncompliant banks. The intent of this punitive withholding rate is to get most, if not all, foreign banks to comply and report their U.S. clients. This approach will likely work, and by 2013, foreign banks will be reporting their U.S. clients to the IRS in a manner similar to that of 1099 tax reporting.

Estate Planning

Making a voluntary disclosure and becoming compliant also brings with it the opportunity to engage in estate planning with respect to the offshore assets. The potential for meaningful estate planning has never been better. The gift and estate tax exemption has grown to $5 million per person for 2011 and 2012. After 2012, the exemption is scheduled to decrease to $1 million. Additionally, under current law, significant valuation discounts (25-35 percent) may be utilized when transferring family-owned business units (such as real estate owned through limited liability companies). Finally, under current law, trusts may be established as so-called “dynasty trusts,” so that there is no transfer tax when the trust assets are distributed to future generations. However, legislation has been proposed to eliminate or limit these benefits.