On February 18, something happened that should be taken as a wake-up call by investors with secret foreign bank accounts: UBS AG signed a deferred prosecution agreement with the U.S. Department of Justice that resulted in the names and private Swiss account records of 300 U.S. taxpayers being released to the IRS.
The reverberations of the agreement ran strong in the community of offshore bankers, advisors, lawyers and other practitioners whose businesses depend on bank secrecy. Many of these advisors had been telling their customers not to worry about the well-publicized federal investigations into offshore accounts because bank secrecy was thought to be impenetrable. That perception, it turns out, was misguided. U.S. taxpayers with secret accounts are at risk-a reality that was underscored by the criminal charges recently brought against a yacht broker and an accountant in Florida for allegedly failing to disclose foreign bank accounts in their tax returns.
The environment is such that anyone with an offshore account needs to make sure they're in compliance with local, state and federal tax laws, regardless of why the accounts were originally set up or even if the accounts were inherited.
The primary consideration for clients and their advisors should be whether a "voluntary disclosure" can be achieved. The voluntary disclosure is a method by which a taxpayer discloses past noncompliance. This could include underreporting income earned in a foreign account (from dividends, interest, capital gains, etc.), failing to file income tax returns, failing to file IRS forms required for foreign corporations, partnerships, trusts and "disregarded entities," and failing to file or falsely filing a Report of Foreign Bank and Financial Accounts (FBAR). The IRS and most states-which have their own form of voluntary disclosure-will typically refrain from criminally prosecuting a taxpayer who makes a voluntary disclosure and will only require the payment of the appropriate taxes, interest and penalties.
The IRS and most states require that a taxpayer's voluntary disclosure is "timely" and "complete" and that the unreported assets or income are not from illegal sources. The taxes due must also be paid and the taxpayer must "cooperate" with the government.
Earlier this year, the IRS announced a six-month initiative allowing taxpayers with undisclosed offshore accounts and offshore entities to make voluntary disclosures with reduced civil penalties, thus reducing the overall tax cost of the voluntary disclosure. This initiative requires: (1) contact with the IRS's Criminal Investigation (CI) division and disclosure of the taxpayer's name, Social Security or employer identification number and a description of the facts and circumstances of the accounts; (2) the filing of amended or overdue tax returns for the last six years (2003-2008); and (3) payment of the tax, interest and penalties. The penalties are 20% of the tax due for each of the six years and one 20% FBAR penalty applied to the highest balance on deposit in the offshore account during the six-year period. With looming fraud penalties equal to 75% of the tax due and FBAR penalties of up to 50% of the amount on deposit in each of the tax years of noncompliance, the initiative offers an immediate and tangible incentive to step into the light before September 23, when the program is scheduled to end.
Although guidance relating to the voluntary disclosure program is available on the IRS's Web site at irs.gov, the making of a voluntary disclosure, including those that fall under the offshore account initiative, is fraught with peril for the inexperienced and poorly advised. The Department of Justice, which prosecutes violations of the tax code and bank secrecy statutes, says it has 30 prosecutors around the country pursuing criminal investigations of offshore account holders. IRS agents are similarly engaged. Thus, each prospective voluntary disclosure needs to be evaluated in terms of its ability to withstand a criminal prosecution. In particular, it is imperative to determine whether the IRS has information about the account holder's secret account. If it does, voluntary disclosure is not an option and information provided to the IRS can be used against the taxpayer in a criminal case.
What does this mean for the account holder? What should the account holder do? Consider the following common scenario. Mr. and Mrs. X emigrated to the United States 20 years ago. While they were citizens and residents of a foreign country they established, from money earned in their home country, a numbered Swiss bank account because of concerns over political or social instability or religious persecution where they lived. The Swiss account became their nest egg, providing them with financial security. When they emigrated to the United States, they left the account in Switzerland. Mr. and Mrs. X told no one about this account. When asked whether they had a foreign bank account in the U.S. tax return organizer provided by their CPA, they answered "no." When they provided interest, dividends and capital gains information, they failed to include any activity from the Swiss account. Mr. and Mrs. X never brought any of the money from the Swiss account to the U.S., but when they vacationed in Europe, they paid their expenses in cash taken out of the account.
Do these facts expose Mr. and Mrs. X to possible indictment for tax evasion, conspiracy, filing false income tax returns and willful failure to file FBARs? The answer is yes.
The first thing a secret account holder should do is retain an attorney who is experienced in criminal tax matters. A taxpayer's first inclination is often to speak about his situation with the trusted accountant who prepares his tax returns. This is a bad idea. Unlike attorneys, accountants are not obligated to keep client matters confidential.