FBAR and Voluntary Disclosure

First presented to the: California CPA Society

I. The Problem

1. Any U.S. Citizen or resident who has signatory authority over or a financial interest in a financial account located in another country is required to file a report with the Treasury Dept. on Form TD F 90- 22.1 (Report of Foreign Bank and Financial Account) aka FBAR provided that the balance was more than $10k at any time during the calendar year. Certain non-residents are required to file as well.
   1. A "resident" of the United States is a permanent resident. "Permanent resident" is not defined in the FBAR instructions, regulations, or statute. The definition of "resident alien" found in IRC § 7701(b) is not applicable for FBAR purposes. The plain meaning of the term " resident" (in this context, someone who is living in the U.S. and not planning to permanently leave the U.S.) should be used for FBAR examination purposes. Although IRC § 7701(b) is not applicable, an individual can establish that he is not a resident for FBAR purposes if he can show that none of the following three criteria apply.
      1. The green-card test - Individuals who at any time during the calendar year have been lawfully granted the privilege of residing permanently in the U.S. under the immigration laws automatically meet the definition of resident alien under the green-card test; or
      2. Individuals who are not lawful permanent residents are defined as resident aliens under the substantial presence test if they are physically present in the U.S. for at least 183 days during the current year, or they are physically present in the U.S. for at least 31 days during the current year and meet the specifications contained in IRC § 7701(b) (3) ; or
      3. The person files a first year election on his income tax return to be treated as a resident alien under IRC§ 7701(b) (4).
      4. Therefore, if none of the three criteria listed above apply, then the person is not a resident for FBAR purposes.
   2. Foreign persons who are in the United States and who have business interests here are required to file. a) It is a facts and circumstances test and it is limited to persons who are doing business in the U.S. on a regular and continuous basis. (1) According to IRS FAQs this does not include athletes and entertainers who occasionally come to the U.S. to perform.
2. Of course any earnings on the account must be reported on the tax return 1. Schedule B contains the following question: a) At any time during 2008, did you have an interest in or a signature or other authority over a financial account in a foreign country, such as a bank account, securities account, or other financial account? See page B-2 for exceptions and filing requirements for Form TD F 90-22.1 (1) Checking the box that says "No", subjects a taxpayer to a possible criminal charge of filing a false income tax return which is a felony.

II. Not just for tax cheats. Motivation includes hiding funds from ex-spouses, as well as from potential litigants.

1. The estimate is that there are 52k people with accounts at UBS alone
2. Examples
   1. Client a U.S. Citizen decides to buy a flat in London so that he will have a place to stay while on vacation, and he might retire there. Opens an account in England and wires $500k to an account at the Bank of Scotland to use as a down payment. Two weeks later he turns that money over to his solicitor to close the purchase. The client is required to file an FBAR.
   2. Client was born in India; he has lived in this country for 20 years, but still maintains accounts in India in order to provide for family members there, and to invest a portion of his assets in the growing Indian economy.
   3. Client is the vice president of a company with a division in France. The vice president is a signer on the corporate accounts in France. The VP must file his own FBAR, in addition to any corporate FBARs.
   4. Client has a Canadian Retirement Account

III. FBARs are due by June 30th.

1. They are not filed with the tax return, but sent separately to Detroit.
2. Extensions of time to file federal income tax returns do not extend the time for filing FBARs. There is no statutory or regulatory provision specifically granting an extension of time for filing FBARs.

IV. Penalties. Both Civil and Criminal Penalties Can Be Imposed

1. Criminal FBAR Penalties
   1. Willful Failure to File an FBAR. Up to $250,000 or 5 years or both
   2. Willful Failure to file an FBAR while violating another "law of the United States" or as part of a pattern of any illegal activity involving more than 100k in a 12 month period. Up to $500k or 10 years, or both.
2. Filing a false return IRC Section 7206(1).
   1. Up to three years and $100,000 or both.
3. Tax Evasion. IRC Section 7201.
   1. Up to $100,000 or 5 years or both
4. Civil
   1. Negligent Violation. Up to $10k for each violation. a) Applies only to violations occurring after Oct. 22, 2004.
   2. Pattern of Negligent Activity. An additional 50k.
   3. Willful Failure to File. Up to the greater of $100,000, or 50 percent of the amount in the account at the time of the violation.
      1. The violation occurs on June 30th. IRM 4.26.16.4.5
         1. There is therefore a disconnect between the tax amnesty calculation and the amount of the penalty under the law. See IRM 4.26.16.4.5.5(4).
   4. Willful Failure to keep records of the account.
      1. There may be both a reporting and a record keeping violation regarding each account. The amount of the penalty is calculated per account and per violation
      2. Any person required to file the FBAR must keep certain records of the account for five years. 31 C.F.R. § 103.32
   5. Civil Fraud Penalty for Willful Failure to Report Income. 75% of the tax due
   6. Accuracy Related Penalty for negligent failure to report. 20 of the tax due
   7. Penalties for failure to file a Form 3520 reporting the transfer of funds to a foreign trust or receipt of a distribution from a foreign trust, which begins at 35% of the amount transferred to or received from the foreign trust.
   8. Penalties for failure to file a Form 3520 to report the receipt of a gift or inheritance from a foreign person or estate, or a gift received from a foreign corporation or partnership, which begins at 5% of the value of the gift and can reach as high as 25% of the value.
   9. Penalties for failure to report transfers of property to a foreign corporation (Form 926), which begin at 10% of the value of the property transferred to the corporation and which can reach a maximum of $100,000 per return;
   10. Penalties for failure to file foreign corporation information returns (Form 5471 and or Form 5472), which begin at $10,000 and can run as high as $50,000 per return
   11. Penalties for failure to file Form 3520-A reflecting ownership of a foreign trust under the grantor trust rules, which consists of a penalty of 5% of trust assets;
   12. Penalties for failure to file foreign partnership information returns (Form 8865), which start at $10,000 and can reach a maximum of $50,000 per return, plus up to $100,000 of the value of property transferred to the foreign partnership
   13. Interest

V. March 23rd Tax Amnesty

1. Who qualifies.
   1. Any taxpayer that makes a voluntary disclosure request, and who fully cooperates with the IRS both civilly and criminally
   2. Taxpayers with illegal source income will NOT qualify.
   3. Taxpayers who are under audit will not qualify
2. What penalties will be imposed under the tax amnesty.
   1. All taxes and interest going back 6 years will be assessed, i.e. 2003 to 2008 tax years
      1. Taxpayer must file amended returns, and FBARS, and any other information returns, e.g. Form 3520
         1. Accuracy related penalty MUST be imposed. No reasonable cause allowed.
   2. In lieu of all other penalties which may apply a penalty of 20% of the highest aggregate balance in the accounts during the 6 preceding years 3. A 5% penalty is available if all of the following criteria are met a) The taxpayer did not open or cause the account to be opened b) There has been no activity in the account (no deposits, withdrawals, etc.) c) Only the account earnings have escaped U.S. taxation, i.e. only previously taxed money has been deposited in the account
3. Voluntary Disclosures in General
   1. Internal Revenue Manual § 9.5.3.3.1.2.1
      1. The communication must be truthful, timely and complete; A disclosure is timely only if it is received by the IRS before the IRS has:
         1. started an investigation or has notified the taxpayer that it intends to start an exam;
         2. received information from a third party alerting it to the specific taxpayer's non-compliance
         3. initiated an exam directly related to the specific liability of the taxpayer
         4. acquired information directly related to the specific liability of the taxpayer from a criminal enforcement action such as a grand jury subpoena
      2. The taxpayer must cooperate with the IRS in determining his correct tax liability
      3. The taxpayer must also pay the liability, or make arrangements for payment of the liability
   2. The filing of amended returns and late filed FBARs will NOT be considered a voluntary disclosure for purposes of this program 3. Voluntary disclosures can only be made by contacting the local IRS Criminal Investigation Division. The FAQ recommends sending a letter to CI, however, a personal meeting with CI may be a better option. a) Some practitioners may choose to recommend filing amended returns despite IRS guidance that this is insufficient
4. What issues still need to be clarified.
   1. Will it still be possible to negotiate a better deal if the IRS can't demonstrate willfulness
   2. How much information about others will the IRS the insist on
   3. Whether the 20% penalty will be calculated on non-financial assets as literally stated by IRS FAQ # 20?
      1. Does the twenty percent penalty apply to entities? Does the twenty percent penalty apply only to cash and securities held in foreign accounts or entities or to tangible and intangible assets as well?
         1. The twenty percent penalty applies to entities. The twenty percent penalty applies to all assets (or at least the taxpayer’s share) held by foreign entities (e.g., trusts and corporations) for which the taxpayer was required to file information returns, as well as all foreign assets (e.g., financial accounts, tangible assets such as real estate or art, and intangible assets such as patents or stock or other interests in a U.S. business) held or controlled by the taxpayer.

VI. Issues Involving CPA filing of FBARs and Voluntary Disclosures

1. Circular 230 Concerns.
   1. Section 10.21. If a taxpayer seeks the advice of a tax practitioner but nonetheless decides not to make a voluntary disclosure despite the taxpayer’s noncompliance with United States tax laws, Circular 230, section 10.21, requires the practitioner to advise the client of the fact of the client’s noncompliance and the consequences of the client’s noncompliance as provided under the Code and regulations.
   2. Section 10.22 Diligence as to Accuracy
      1. Due diligence does not require that the practitioner audit their client. However, the practitioner must make reasonable inquires when a client provides information that suggests possible participation in overseas transactions subject to FBAR requirements.
      2. According to IRS Web statement: " We understand that FBAR non-filers are blaming their preparers for the failure to file.... because the preparer did not ask about or explain the foreign financial account part of the return."
      3. At an ABA Tax Section meeting in Washington, D.C. in May 2009, the Deputy Director of OPR reminded tax professionals that they cannot ignore the implications of information they receive that raises questions worth following up on
2. Statement on Standards for Tax Services No. 6, Knowledge of Error: Return Preparation
   1. If a member is requested to prepare the current year’s return and the taxpayer has not taken appropriate action to correct an error in a prior year’s return, the member should consider whether to withdraw from preparing the return and whether to continue a professional or employment relationship with the taxpayer. If the member does prepare such current year’s return, the member should take reasonable steps to ensure that the error is not repeated.
   2. While performing services for a taxpayer, a member may become aware of an error in a previously filed return or may become aware that the taxpayer failed to file a required return. The member should advise the taxpayer of the error and the measures to be taken. Such recommendation may be given orally. If the member believes that the taxpayer could be charged with fraud or other criminal misconduct, the taxpayer should be advised to consult legal counsel before taking any action
3. Partial List of Questions that must be asked of account holders
   1. What country is the account held in
   2. At what bank is it held
   3. What is the largest $ amount in the account during the last 6 years
   4. What year was it opened
   5. What was the source of the deposits in the account
      1. Has it been previously reported
         1. Are there any offsetting deductions
      2. Is it legal source income
      3. If the source of the funds is a gift or inheritance have gift and/or estate tax returns been filed?
   6. Who are the signers on the account
   7. Who are the owners of the account
   8. Is the account held through a trust or other legal entity
4. Federal Authorized Practitioner Privilege. IRC 7525
   1. Client communications with CPAs and enrolled agents about tax issues are privileged to the same extent as if the communication with an attorney, EXCEPT IT DOES NOT APPLY TO:
      1. Criminal matters
      2. Written communications regarding "tax shelters"
      3. Investigations by agencies other than the IRS
      4. By its terms to non-tax matters
         1. Although the the administration of the FBAR penalty enforcement has been delegated by the Secretary of the Treasury to the IRS, the FBAR penalty is imposed under the Bank Secrecy Act, and therefore it is unlikely that any such communications will be considered tax matters.
   2. Since the FAPP only applies to the extent that the extent the attorney client privilege would apply it is important to understand the parameters of the attorney client privilege. For example:
      1. It may waived inadvertently through disclosure to third parties
         1. Including the filing of tax returns
      2. It doesn't apply with respect to advice sought with regard to business matters