“Voluntary disclosure of offshore financial accounts for US entities” by Josephine L. Aldalem (May 30, 2011)

SUITS THE C-SUITE By Josephine L. Adalem
Business World (05/30/2011)

For financial assets held abroad, the United States requires its citizens, residents and business entities (such as corporations, partnerships, limited liability companies, or trusts organized under US law) to file disclosure reports that are popularly known as FBARs (officially, Form TD F 90-22.1, Report of Foreign Bank and Financial Accounts).

Specifically, US citizens, residents or business entities whose offshore financial accounts, taken altogether, are worth more than $10,000 at any point during a calendar year are required to file FBARs within six months after the close of that year.

Penalties for not filing this form can be severe and may even entail criminal prosecution.

This requirement applies to US expatriates living in the Philippines, Filipinos with dual US and Philippine citizenships and Filipinos who are US residents (such as green cardholders). Also covered are Filipinos who are not US citizens or residents but may be responsible for US business entities that have to file if they are officers or directors, or have signature authority over the accounts of such a business. Filipinos who are US citizens or residents may have to file if they have signature authority over the accounts of non-US businesses.

In 2009, the US Treasury Department gave delinquent FBAR filers a chance to come forward and file. This was the 2009 Offshore Voluntary Disclosure Initiative (OVDI) that provided for reduced penalties and protection against criminal prosecution in most cases.

Although many people took advantage of the OVDI, there are many who did not apply and risk US Internal Revenue Service (IRS) detection as well as severe civil and criminal penalties.

This year, the US government granted one last chance for taxpayers concerned to participate in the 2011 OVDI. In doing so, they will generally avoid criminal prosecution and may be able to substantially reduce their exposure to civil penalties.

The 2011 OVDI resembles the 2009 program, but there are differences. For example, participants must now disclose up to seven years’ worth of delinquent returns, rather than five years under the 2009 program. The “offshore penalty” (explained below) is limited to 25%, rather than 20% under the 2009 program. But some taxpayers will now qualify for a further penalty reduction (to just 12.5% or even as low as 5% in some cases), an option that was not available previously.

To participate, taxpayers must, among other things, file complete and accurate amended (or original) returns and FBARs, along with any other information returns that may apply, for each year between 2003 and 2010 when they were not able to fully comply with the requirements. This process, including the filing of all required returns, must be completed by Aug. 31, 2011.

Additionally, participants must generally (i) pay all tax due with interest, (ii) pay a 20% accuracy penalty, plus interest on the underpaid tax for each year and (iii) pay failure-to-file and failure-to-pay penalties of up to 25%, where applicable, (iv) provide information including the names of “facilitators” who helped them open and maintain offshore accounts, and (v) pay an “offshore” penalty equal to 25% of the highest aggregate balance in the undeclared foreign accounts (plus the value of the taxpayer’s interests in certain foreign entities, such as corporations or partnerships and the value of certain other foreign assets) during the period covered by the voluntary disclosure.

A reduced penalty of 5%, in lieu of 25%, is available to those who may have inherited certain offshore accounts that they largely ignored.

To qualify for the 5% penalty, the taxpayer must: (i) not have opened (or caused anyone else to open) any foreign accounts (with an exception if a bank required a new account to be opened in place of an inherited account upon the death of a prior account holder), (ii) have had no more than minimal, infrequent contact with any financial institution about any foreign account, and (iii) not have withdrawn more than $1,000 from any foreign account (or possibly from all foreign accounts taken together) in any year covered by the voluntary disclosure, and (iv) be able to show that all US taxes that may apply to the funds deposited in each foreign account were, in fact, paid.

There is also a reduced penalty of 12.5% for people with relatively minor offshore holdings. For this to apply, the aggregate value of all foreign accounts and other foreign assets to which the 25% penalty would otherwise apply must have been less than $75,000 throughout the years covered by the voluntary disclosure.

It is significant to note that taxpayers who have always paid the tax due on all their income, whether offshore or onshore, do not have to participate in this disclosure program.

Instead, the IRS states:

“For taxpayers who reported and paid tax on all their taxable income for prior years, but did not file FBARs, you should file the delinquent FBAR reports according to the instructions (send to Department of Treasury, Post Office Box 32621, Detroit, MI 48232-0621) and attach a statement explaining why the reports are filed late. The IRS will not impose a penalty for the failure to file the delinquent FBARs if there are no underreported tax liabilities and the FBARs are filed by Aug. 31, 2011. However, FBARs for 2010 are due on June 30, 2011 and must be filed by that date.”

For most qualified taxpayers, the 2011 OVDI penalty structure is more favorable than the civil penalties the government might impose. However, it may be more advisable for some to pursue other alternatives, such as an individually negotiated voluntary disclosure agreement.

The advantages and disadvantages of this approach must be carefully considered based on all of the facts and circumstances particular to each taxpayer. Given that each case may have individual complexities that may require further discussion and analysis, early action is very crucial if taxpayers wish to meet the OVDI deadline on Aug. 31, 2011.

(Josephine L. Adalem is a Tax Executive Director of SGV & Co.)

This article was originally published in the BusinessWorld newspaper. It is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the author and do not necessarily represent the views of SGV & Co.