Tax Problem Attorney Blog

On July 31, 2015, President Barack Obama signed into a law HR 3236 a highway funding bill. Buried in the Bill is a provision which changes the filing date for Foreign Bank Account Reports (FBARs) to April 15th. Up until now the due date for the FBAR, which must be filed electronically on FinCEN Form 114 (formerly TD F 90-22.1) was June 30th. The Bill also provides for an extension of time of up to 6 months to file the FBAR, making the extended due date October 15th. This reconciles the due date for the FBAR with the individual tax return filing date.

Before now many taxpayers were tripped up by the differences in the filing dates. Because many taxpayers go on extension for their tax returns, and don’t have extensive discussions with their CPAs, or other tax preparers, until shortly before the extended deadline of October 15th there were many instances of individuals not realizing they had a filing responsibility until after the June 30th deadline. Those taxpayers were usually stunned to find out that the extension of the filing date for their tax return did not extend the time to file their FBARs. This was a common sense fix to an unnecessary problem.

The Bill also authorizes a first time abate (FTA) procedure of sorts. Specifically the Bill states: “[f]or any taxpayer required to file such [FBAR] Form for the first time any penalty for failure to timely request for, or file, an extension may be waived by the Secretary.” This appears to provide authority to abate an FBAR penalty if the FBAR is filed after April 15th, but before October 15th, if this is the first time the FBAR was due. The language doesn’t really add anything to the law since the IRS already has wide latitude to waive FBAR filing penalties.

On Friday the IRS released new guidance on how examiners should determine the amount of any penalty for the failure to file an FBAR (Report of Foreign Bank Account, FinCEN Form 114). The guidance is effective for all open cases as of May 13, 2015. It does not appear to apply directly to cases in the Offshore Voluntary Disclosure Program (OVDP), but it will impact clients’ decisions as to whether or not to opt-out of OVDP, or whether or not to enter OVDP in the first place.

Under the guidance examiners are instructed to make a determination of willfulness for each year of the examination. If multiple years are involved, and the conduct is willful, the total penalty amount for all years under examination is generally limited to 50 percent of the highest aggregate balance of all unreported foreign financial accounts. However, if the “facts and circumstances” justify it, an examiner may recommend a penalty of more or less than 50 percent, but in no circumstances will the penalty exceed 100% of the highest aggregate balance. Since there have been instances where the IRS has threatened penalties of 150% or more this finally places a limit on the maximum civil penalties. Presumably this was done, in part, to undercut any argument by taxpayers that the penalty violated the Constitutional prohibition against “excessive fines” that was raised in the Zwerner case in Florida. Examiners will continue to coordinate with Fraud Technical Advisors (FTA) if they have reason to believe a criminal referral may be appropriate.

If the examiner determines that the conduct was non-willful then in most cases the penalty will be limited to $10,000 for each year regardless of the number of unreported financial accounts. Previously the IRS position was that it would assert a penalty of $10,000 per year, per account. The guidance does provide that in some cases the “…facts and circumstances (considering the conduct of the person required to file, and the aggregate balance of the unreported foreign financial accounts) may indicate that asserting nonwillful penalties for each year is not warranted.” Examiners may in those cases assert a single penalty not to exceed $10,000 for one year only. The starting point for all nonwillful calculations, however will be the “mitigation guidelines” set forth in IRM 4.26.16.4.6 et. seq.

U.S. citizen, resident aliens and others who are U.S. taxpayers face a unique mode of taxation in the United States. That is, U.S. taxpayers are taxed on their worldwide income regardless of where it was earned. Predictably and understandably, this method of taxation results in many expatriates worrying about whether they will face double taxation – paying taxes on their income to both the nation they are living in and to the IRS. While there are provisions in the U.S. Tax Code, and various tax treaties to address the issue of double-taxation, these provisions can be difficult to understand, create problems for laypersons in ascertaining whether he or she qualifies, and it can present difficulties in maintaining compliance in future tax years as circumstances and finances change. However, the foreign earned income exclusion can be an essential tool in ensuring that an expatriate taxpayer does not face double-taxation and pay more than his or her fair share.

What is the foreign income exclusion?

The foreign earned income exclusion is one way the Tax Code accounts for the problems created by our status-based system of taxation. In general, U.S citizens or permanent legal residents living abroad are eligible to claim the exclusion. The amount of the exclusion is adjusted each year based on the rate of inflation. The amount of the exclusion for current and past tax years is as follows:

Since FATCA’s passage, critics of the law have assailed its provisions and the IRS’ interpretations of the law. However one of the most oft-repeated charges against the account disclosure statute was that the IRS, itself, was not ready for the law and could not handle the influx of data including complex tax filings. A December 2011 New York Times article lamented that the IRS was not prepared for the fierce reaction from overseas or differences in how each tax agency handles their process. For instance, at the time there was concern regarding how manual verification would work in tax systems like Japan’s which relies on electronic screening rather than manual actions.

Thus, foreign financial institutions were originally granted something of a temporary reprieve from FATCA and its obligations. Facing foreign pressure the IRS first delayed the registration deadline for foreign financial institutions until June 30, 2014. Then in May 2014, the IRS announced in Notice 2014-33 that the 2014 and 2015 tax years would be transition period for enforcement and administration purposes relating to entities only. Individual investors are still be required to comply with all FATCA provisions. The transition period does not delay FATCA implementation or effective dates.

However the promise of even greater detection and enforcement powers for the IRS is here. Recently, the IRS announced that its International Data Exchange Service had come online. Increased international FATCA compliance due to lower barriers to reporting should improve the IRS’ foreign account detection efforts.