Wednesday, June 25, 2014

FATCA ENFORCEMENT, VOLUNTARY DISCLOSURES, AND THE STREAMLINED EXPRESS: WINNERS AND LOSERS

The June 18th IRS announcements have added some new words and dates to the debate, but for the practitioner, the analysis of the issues with regard to offshore compliance is still the same. Even as some of the decision points have shifted in representing clients before the tax man, the fundamental focus remains whether a client has acted wilfully or not with regard to compliance with  tax matters involving offshore assets. Now that the dust has settled a bit and we have had a weekend to study the new rules, it is clear that there are real winners and losers here. 

Winners

1. The IRS is a winner because it threw the burden of proving compliance with foreign tax matters back on the taxpayer with the new Streamlined Express. Essentially, the IRS is saying, “If you haven’t been wilfully deceiving Uncle about your foreign stuff, just put that in writing and start filing returns and FBARs plus the years still open under the statute of limitations.  As long as you use a red pen to identify your returns when you send them in and pay current and three years back taxes, we will file them away and not charge you any penalties.” The government doesn’t have to do anything nearly as complicated and protracted as the back and forth two year process normally involved in a full-blown OVDP engagement with the government.

2. Taxpayers who can look in the mirror without laughing out loud are winners as long as they can say, "I didn't file because I didn't think I had to!" 

3.  Both taxpayers and the IRS are winners because this frees up resources to unclog the voluntary disclosure procedures which was only intended to come into play when there was a whiff of criminal or near criminal conduct.

4. Taxpayers who were advised by “what-me-worry?” tax lawyers and CPA’s who suborned the filing of quiet disclosures are winners because they now have a chance to undo the erroneous and reckless advice they received by going through the front door under the new 2014 OVD Program. In what can only be described as a highly unusual example of governmental largess, they have been given yet another chance to protect themselves (but not necessarily their tax advisors) from criminal investigation arising from their quiet disclosures despite repeated warnings from the IRS not to do so. See new OVDP FAQ 15.


5.  The National Taxpayer Advocate, Nina Olson, is a huge winner here and the Commissioner’s very public acknowledgement of her input and contribution in a sense validates and reaffirms the very need for an ombudsman at the IRS, a few steps down the hall from the Commissioner. Ms. Olson’s phenomenal work on behalf of Americans abroad, recent immigrants to the U.S., and other people who were unwittingly tripped up by the complexity of the past OVDI programs is but another example of why it is still true that we live in a country where a seemingly insensitive behemoth like the IRS can be persuaded to think outside the box solely based on the persuasiveness of the written word.

LOSERS

1. Taxpayers who have already set in motion shady deals and family arrangements attempting to make themselves invisible electronically. Those who think they are completely “off the grid” might have a chance at pulling a fast one on Uncle Sam, but for the most part, these folks will be unmasked with great folly once the FATCA vacuum cleaner starts sucking up and sharing all the mega data the government expects to start receiving for the new international data bases and computer systems.  Even with a July 1 start date, it will take a while (perhaps years) for the IRS to figure out how to manipulate and absorb all the new intel, but once it does, the National Security Agency's (NSA) annual data harvest will look small by comparison.

2. Taxpayers whose facts are murky as to non-willfulness are still left with a great deal of uncertainty if they try to board the Streamlined Express without fully vetting the issue with a qualified professional. Moreover, under the new regime, the issue of when a taxpayer’s conduct might have crossed over from non-willful to willful is going to be highly relevant here. It’s one thing for a person to say he had no idea what was going on a few years ago, but quite another to say he was still in the dark in 2014.

What if the IRS disagrees with a non-willful certification? The taxpayer is stuck with the expensive ordeal of defending himself and possibly failing despite a good faith effort to follow the new procedures. A lot of what happens here may very well turn on a taxpayer’s tolerance for risk and uncertainty. Many people will be led to believe that all they have to do is “just sign the damned thing and get it over with,” but it’s not that simple. The fanfare with which the Streamlined program has been announced may lead some to believe that the IRS is signaling a big tax holiday and that it is willing to wink and turn its head on this issue. Some will rush to sign the self-certification letter with absolutely no regard for the chance that an electronic or paper trail already exists, filled with correspondence with bankers, stock brokers, book keepers, and return preparers which conclusively show that the taxpayer knew full-well that he had a tax and FBAR filing obligation but consciously chose to ignore it.

The Canadians were not losers here. At worst, they were reminded that the IRS cannot give them what they need and deserve, which is for the United States to back off, enact a residency based tax structure, and some assurance that despite the fact that Ottawa rolled over like the Swiss and other European FATCA Friendly Co-conspirators, something must be done to address the fundamental and very real privacy and Charter issues Allison Christians, Lynne Swanson, Victoria Ferauge, and American Citizens Abroad have been talking about.  With its shared culture and proximity to Washington, there should be a great incentive now for a follow up with both governments to craft an arrangement which addresses these highly complex issues.  A repeal of FATCA is simply not going to happen and Congress is not likely to be up for a debate on RBT vs. CBT, but that does not mean the privacy and Charter issues are going to go away.

Avoiding a Train Wreck: With the June 18 announcements, the IRS may have come up with a good way to avoid a near certain train wreck of its own making if it didn't do something soon about its offshore compliance program. While the Commissioner has praised the various OVDP progress as a huge success, no government program can be deemed a success if it takes more than a year to get an agent assigned to do the work that needs to be done to allow a taxpayer to take care of a tax issue and get on with his life.  The IRS has conceded finally that “one size does not fit all” and the agency now has the chance to dispel the widely-held perception that it was not up to the task of sorting out willful from non-willful conduct and in the process bring the long standing voluntary disclosure protocols to a standstill. 

The IRS is essentially saying: "If you say so, we're done!  We don’t even need to talk to you. As long as you remember to use red ink at the top of three years of honest tax returns, and give us six years of FBARs, we trust you so much, chances are you may never hear from us again. Not even a note saying 'good job!'" This of course, assumes you get the paperwork right and can back-up your non-willfulness certification with real proof if the IRS decides at some time down the road to audit you and ask you why it should believe you when you say you didn’t think you had to file tax returns or FBARs during all those years in which the IRS had never heard from you. Keep in mind, the IRS may view the facts and equities of a case very differently than the taxpayer, hence the trap for the unwary as I previously wrote about here.

The concept of making a voluntary disclosure is still alive and well:  The recent OVD programs were of course, modern iterations of an American tax enforcement policy that dates to the early 20th Century days of national tax administration when today's vaunted IRS CID was known as the "Intelligence Division." If a person wants to confess a tax crime before the government finds out about it, you won't face criminal investigation and sanctions as long as you cooperate and tell the truth.

While it was a good idea to give people with secret overseas accounts a chance to get straight with Uncle Sam through the various OVD programs, the funnel got clogged at the small end when people who were highly unlikely to attract the time and attention of an IRS special agent in the first place started to use the OVD programs as a kind of "comfort ruling" process with the IRS.

There is an interesting irony at work here. The underlying basis for FATCA reporting, FBARs, and filing Form 8938, Report of Foreign Assets, is that we were wrong when we enacted a voluntary self-reporting system when the income tax was first enacted.  In fact the Founding Fathers had it wrong! The FATCA/FBAR self-disclosure of foreign accounts and assets is founded on the very undemocratic, Hobbesian idea that the citizenry is not in fact enlightened or inclined to “do the right thing” and that the poor slobs could not be trusted to truthfully self-report all their “taxable events" on an annual income tax return. With FBARs and FATCA, the underlying premises of Jefferson, who adored the writings of John Locke two centuries before him, and the Federalist Papers were flipped on their head. The idea became, "the government would like an annual report on what you have overseas; if we don’t get back to you after you file, don’t think we are going to forget about you.”

With the Streamlined Express, the IRS has recognized that it is ill-equipped to hold everyone's hand including old ladies in Canadian nursing homes who swear they see armed IRS special agents lurking around the bushes at night ready to arrest and humiliate them because they have disgraced themselves by failing to recognize their obligation as dual citizens to honor America with an annual tax return for all these years.

At the end of the day, Uncle Sam gets the last laugh here.  With all the mega-data he hopes to get from FATCA (as long as the computers don't start blowing fuses when the switch is  flipped on July 1) he's going to find out eventually, what kind of electronic and paper financial footprint-record you have made for at least the last three years.

Be Careful What You Wish For: This is only the first inning. We have yet to see whether the new FATCA technology will live up to its anticipated promise of an efficient, “one world” financial and banking data base. Despite the new names and new procedures nothing has really changed. At the end of the day, the basic rules are still in play: be careful what you wish for and don’t think the government is stupid. It may be slow and musclebound but it has a long memory and one thing it really hates is when people lie to the IRS about their taxes.

Friday, June 20, 2014

The New Streamlined Foreign Offshore Procedures Contain a Trap for Unwary Americans Abroad

Americans abroad should be pleased that IRS Commissioner John Koskinen kept his word when he advised us on June 3, 2014, to “stay tuned” in anticipation of new OVDP guidelines. The new guidelines make a distinction between those taxpayers who have been acting willfully with regard to their failure to report foreign income and assets and those whose conduct was simply the result of a good faith misunderstanding of the requirements of the law.

On June 18, the IRS turned the world of offshore compliance on its head with multiple announcements concerning OVDP.  Within those announcements it expanded the so-called “Streamlined Procedures,” adding menacing pronouncements about a whopping possible 50% FBAR penalty and a promise of a possible 5% penalty in some cases. The new 2014 Program also comes with a complete re-write of the 55 Frequently Asked Questions, (FAQs) and new rules which beef up the pre-clearance process.  In a note of wishful thinking, the FAQs optimistically state, “It is intended that Criminal Investigation will complete its work [on pre-clearance] within 45 days of receipt of a complete Offshore Voluntary Disclosure letter. (see new FAQ 24).

A major change to the Program requires payment of the FBAR penalty with the submission of the amended returns.  This is instead of paying at the conclusion of the disclosure when a Closing Agreement is signed with the IRS which can be as long as two years from the time a pre-clearance request is initiated. 

There is now, and will continue to be a flurry of new articles and blog posts regarding this recently released guidance.  Some people are simply reposting everything the IRS has published on June 18. For now, our office will focus on some of the more troublesome new IRS revelations which face overseas Americans.

The Streamlined eligibility rules for U.S. taxpayers residing outside the United States were neatly spelled out on the IRS web site along with all the other changes announced on June 18.  The process no longer involves a “risk assessment” or the $1,500 cap of unpaid taxes.

 Essentially, qualifying American taxpayers  can get back into Uncle Sam’s good graces as long as they (1) meet a detailed non-residency requirement (outside the homeland for more than one of the three years for which the U.S. tax return was due), (2) prepare only three years of amended or delinquent tax returns with payment plus all the appropriate attachments with a declaration “written in red” on the first page of each return, announcing the documents are filed under the new procedures, (3)  six years of delinquent FBARs plus, (4) and here is the kicker, a signed declaration on a government form which certifies inter. alia., that the disobedient ex-patriot’s conduct for the past few years “resulted from non-willful conduct.”

There is a link on this section of the IRS web site which leads to a form labeled “Certification by U.S. Person Residing Outside of the U.S.” This is a two-pager which requests a listing of tax years, amounts owed, a self-computed interest amount, and signing the declaration which says,

My failure to report all income, pay all tax, and
submit all required information returns, including
FBARs, was due to non-willful conduct. I
understand that non-willful conduct is conduct
that is due to negligence, inadvertence, or mistake
or conduct that is the result of a good faith
misunderstanding of the requirements of the law.

I recognize that if the Internal Revenue Service
receives or discovers evidence of willfulness,
fraud, or criminal conduct, it may open
an examination or investigation that could lead to
civil fraud penalties, FBAR penalties, information
return penalties, or even referral to Criminal
Investigation.

In a space below (or on an attached page), the applicant must provide specific reasons for the failure to come clean for the past three years.  Practitioners will be interested in knowing that the procedure offers the taxpayer an opportunity to throw them under bus:

If you relied on a professional advisor, provide
the name, address, and telephone number of the
advisor and a summary of the advice. If married
taxpayers submitting a joint certification have
different reasons, provide the individual reasons
for each spouse separately in the statement of
facts.

This is to be signed under penalties of perjury, the same as if it were a tax return.

The quoted language contains a good definition of non-wilful conduct but not willful conduct, perhaps because the IRS assumes we all know what willful conduct is. It means you failed to file on purpose knowing full-well that you were supposed to, or engaged in willful blindness by intentionally failing to inquire and learn of the filing obligations of Americans abroad. The law books and blogs are filled with great definitions of “willful”, most of which focus on a voluntary and purposeful violation of a known legal duty.

This is where many people are going to put themselves in danger and the consequences of failing to come up with a sufficient excuse may cause many delinquent taxpayers to rue the day they wished for this opportunity to clear their names. 

At first glance, it looks as though the IRS should get an “A” for effort with the new Streamlined Disclosure Procedure, but overseas Americans need to be very careful about what they write on the Streamlined forms if they have no reasonable basis to blame their return preparers for not knowing what an FBAR was. Some Americans abroad will follow their present “what me worry” attitude and simply blow off this new chance to clear their names, but others will see it as an opportunity to “just put something down” and hope it flies with the low level clerks at the IRS who will be reviewing these papers.

As musclebound and slow as the IRS appears to be, let there be no doubt in anyone’s mind that Uncle considers lying to its agents as a super-serious matter, and one which the government will use to make an example of someone who erroneously thought that the IRS can take a joke. The IRS has had a belly full of excuses from people in other areas of tax administration about why they are only now coming in from the cold.  As we get farther and farther away from 2009 when the first OVDP was announced, it is going to be harder and harder to convince the government that a presumably knowledgeable and enlightened American citizen abroad “just found out” about  our citizenship based tax system and the requirement on the books since the 1970s to report to the IRS on an annual basis, all their bank accounts when the sum of the balances aggregates over $10,000 via the FBAR as well as their other income producing assets which should  have been reported every year since 2011 when Form 8938 first appeared on the scene.

The message here is to be careful and not take the Streamlined Procedure lightly.  It’s not OK to “just put anything down” and assume the IRS is not going to question it.  The IRS is going to get an overwhelming number of applications under the new Offshore Streamlined Procedure and they do not have the people power to question everyone who looks suspicious or lacking in credibility.

That said, you can be sure they will not be rubber stamping these applications and some people are going to get caught filing a false statement.

Monday, June 9, 2014

New Commissioner Raises Hopes for Tax Justice for Americans Abroad

The Commissioner of Internal Revenue, John Koskinen , put the  international tax bar in suspense when he announced in a major speech on June 3, 2014,   that  very shortly, the IRS is considering publishing something which is supposed make it possible for millions of Americans abroad to start sleeping at night. In a major address before a hall filled with big shots connected to the Organization for Economic Cooperation and Development, he declared the recent offshore voluntary disclosure programs a success, and devoted three juicy paragraphs to the need for “program modifications” to allow “U.S. citizens who have resided abroad for many years….” to have a chance to “come into compliance that doesn’t involve the type of penalties” the IRS would like to impose on bona fide U.S.-resident tax cheats.

Tax practitioners generally give the IRS’s OVDI program a barely passing grade if only because the Service has put their best people on the front lines who are uniformly solid professionals. However, the long waiting time to get an agent assigned to a client's case and the “one-size fits all” approach is simply bad government.

What should we expect? So the question is, what are we going to get following this announcement? Is it too much to hope for something like a safe harbor revenue procedure for Americans abroad which lists broad enough qualifications to allow middle class,  hardworking Americans overseas, who are struggling economically as hard as their counterparts here in the US,  to simply  forget about penalties and start filing? What about the 43,000 people who have already paid more than $6 billion in back taxes and a 20 to 27.5% hefty tribute to Uncle Sam under the various voluntary disclosure programs?   Can they now apply for refund?  Probably not if they have signed an IRS closing agreement which generally cannot be revoked or amended absent fraud or mistake.

Another issue for practitioners and the Service is how to approach cases still in the pipeline?

Are people still going to have to hire an international tax lawyer or Big Four CPA firm  to run through the soon to be announced “program modifications” to see if they qualify for relief? Advocates for tax justice for Americans abroad can take credit for the fact that a high level government official has finally acknowledged that “one size” does not fit all. He said “We are well aware that there are many U.S. citizens who have resided abroad for many years, perhaps even the vast majority of their lives.” Overseas Americans have been saying for years that their local banks in Paris, Montreal, or London are no more Foreign Financial Institutions to them, than the Piggly Wiggly is to U.S. resident Americans.

If the IRS announcement doesn’t say to just start filing and forget about penalties (which it will not), are people still going to have to apply to yet another program which works like a funnel closed at the small end and wait for over a year to talk to an agent? Why should people who are minding their own business and just trying to make ends meet have to hire a lawyer or CPA at all, just to satisfy the crazy concept that says if you are an American, Uncle Sam doesn’t care where you live, you owe us an annual tax return and an annual report on all your foreign bank accounts when they add up to over $10,000?

What about the torturous “opt out” scenario which requires people to recreate their entire economic lives for the past eight years first, before they can even get to talk to an Appeals Officer? Where is Appeals anyway in this whole process and whatever happened to the Mitigation Provisions in the Internal Revenue Manual which in a nut shell advise IRS front line troops handling FBAR cases to use good judgment?

The Commish did a great job convincing us that he really wants to help in response to the conventional wisdom that no one in Washington really gives a hoot about Americans abroad. But his speech raises serious doubt, if not skepticism, about whether the IRS could possibly be up to the job when he mentions a few paragraphs later that Congress has slashed his budget by 7% since 2010 and reduced the number of employees by 10,000. “In the absence of additional resources, our ongoing funding shortfall has major, negative implications for the agency’s ability to continue to adequately fulfill its dual mission of excellent taxpayer service [he must have been trying to crack a joke here] and robust tax compliance programs.”

For the growing group of vocal and very able advocates who actually believe there is a chance to get Washington to start thinking about the injustice of citizenship based taxation, the speech should serve as a reality check. The Commish made it clear that not even a mean-spirited Congress is going to stop the top level international career bureaucrats on both sides of the Atlantic and Pacific from moving toward a “one world” international banking and financial database. He spoke of the spectacular success of the new Global Intermediary Identification Number and Foreign Financial Institutions registration system. He said, “This system allows financial intermediaries around the world to establish their FATCA-compliant status…” to prevent the 30%  FATCA withholding sledge hammer from tripping anyone up.

The speech was in essence, a glowing “thank you” tribute to all the FATCA-friendly countries who are working hard to implement FATCA. Happily, he announced that everyone’s hard work, guided by the OECD, has spawned yet another new system called the International Data Exchange System or IDES, “to ensure that FATCA information reports can be used efficiently and effectively, not only by the IRS but by our reciprocal FATCA partners as well.” (emphasis added)

Other countries’ bothersome human rights and privacy concerns were given short shrift in the speech but at least the Commish assured us that “state of the art encryption protocols” will ensure that financial data moved through IDES “will be transmitted securely, kept confidential, and used only for tax purposes.”

We now have the new Commissioner’s attention: For the Commissioner of the Internal Revenue Service to announce that relief was expected to come “in the very near future” and the fact that he specifically acknowledged the concerns of Americans abroad, is certainly good news. The IRS has been bloodied by the Tea Pot tax exemption mess, and the fact that it is bearing most of the blame because  our tax code continues to be unmanageable and unfathomable even by the very best tax professionals. The country can ill-afford yet another blow to the credibility of an agency which annually collects  over $2.4 trillion each tax year from around 234 million tax returns.

Very few Washington insiders believe there is any hope at all of repealing FATCA and the new Commissioner made it clear that moving it forward is the cornerstone of his goal of achieving “international tax transparency.” We wish him luck in a thankless job and we realize that he is not responsible for the current state of affairs. His June 3rd speech made it clear that he has had enough time to learn the new job and he has boldly outlined his priorities.

Americans abroad have not given up hope that the new guy might show some bold leadership and a common sense approach to good tax administration. As the Commissioner has requested, “We expect we will have much more to say on these program enhancements in the very near future so stay tuned.” We are all waiting patiently and hoping for the best.