Tuesday, June 14, 2011

Opting Out of the IRS 2009 OVDP and 2011 OVDI (6/14/11)

Readers have commented on prior blog entries about the opportunities and risks of opting out of the IRS 2009 OVDP and 2001 OVDI. I thought I would devote a specific blog entry to the subject to better focus readers comments, particularly as anecdotal evidence comes out about how the IRS is actually dealing with opt outs, and make them more easily accessible to readers.

The fear among taxpayers and practitioners is that the IRS will be punitive in its application of the penalty structure. We don't know yet whether the fear will be realized.

First, I quote the 2011 OVDI FAQ 51 for the opt out (as updated 6/2/11):
If, after making a voluntary disclosure, a taxpayer disagrees with the application of the offshore penalty, what can the taxpayer do?
If the offshore penalty is unacceptable to a taxpayer, that taxpayer must indicate in writing the decision to withdraw from or opt out of the program.  Once made, this election is irrevocable.  An opt out is an election made by a taxpayer to have his or her case handled under the standard audit process.  It should be recognized that in a given case, the opt out option may reflect a preferred approach.  That is, there may be instances in which the results under the applicable voluntary disclosure program appear too severe given the facts of the case.  There will be other instances where this is less clear.  In the latter cases, the Service will look to ensure that the best interests of the Service and the integrity of the voluntary disclosure program remain intact.  In these cases, it is expected that full scope examinations will occur if opt out is initiated.  It is expected that opt out will be appropriate for a discrete minority of cases.   Moreover, to the extent that issues are found upon a full scope examination that were not disclosed by the taxpayer, those issues may be the subject of review by Criminal Investigation.  In either case, opting out is at the sole discretion of the taxpayer and the taxpayer should not be treated in a negative fashion merely because he or she chooses to opt out.

The specific procedures for opting out are set forth in a separate guide titled Opt Out and Removal Guide for the 2009 OVDP and 2011 OVDI.  The guide is posted to the website.

Taxpayers are reminded, that even after opting out of the Service’s civil settlement structure, they remain within Criminal Investigation’s Voluntary Disclosure Practice.  Therefore, taxpayers are still required to cooperate fully with the examiner by providing all requested information and records and must still pay or make arrangements to pay the tax, interest, and penalties they are ultimately determined to owe.  If a taxpayer does not cooperate and make payment arrangements, or if after examination, issues exist that were not disclosed prior to opt out, the case may be referred back to Criminal Investigation.
Second, I link to the referenced Opt Out and Removal Guide for the 2009 OVDP and 2011 OVDI.

Third, I quote 2011 OVDI FAQ 5 (as updated 2/14/11) which provides the range of penalties that the IRS could apply on the opt out (FAQ 5 actually deals with the penalties that could apply if the taxpayer does not get into the program, but they are the same as could apply on an opt out when the taxpayer is subject to examination).

What are some of the civil penalties that might apply if I don't come in under voluntary disclosure and the IRS examines me? How do they work?

Depending on a taxpayer’s particular facts and circumstances, the following penalties could apply:

• A penalty for failing to file the Form TD F 90-22.1 (Report of Foreign Bank and Financial Accounts, commonly known as an “FBAR”). United States citizens, residents and certain other persons must annually report their direct or indirect financial interest in, or signature authority (or other authority that is comparable to signature authority) over, a financial account that is maintained with a financial institution located in a foreign country if, for any calendar year, the aggregate value of all foreign accounts exceeded $10,000 at any time during the year. Generally, the civil penalty for willfully failing to file an FBAR can be as high as the greater of $100,000 or 50 percent of the total balance of the foreign account per violation. See 31 U.S.C. § 5321(a)(5). Non-willful violations that the IRS determines were not due to reasonable cause are subject to a $10,000 penalty per violation.

• A penalty for failing to file Form 3520, Annual Return to Report Transactions With Foreign Trusts and Receipt of Certain Foreign Gifts. Taxpayers must also report various transactions involving foreign trusts, including creation of a foreign trust by a United States person, transfers of property from a United States person to a foreign trust and receipt of distributions from foreign trusts under IRC § 6048.This return also reports the receipt of gifts from foreign entities under section 6039F.The penalty for failing to file each one of these information returns, or for filing an incomplete return, is 35 percent of the gross reportable amount, except for returns reporting gifts, where the penalty is five percent of the gift per month, up to a maximum penalty of 25 percent of the gift.

• A penalty for failing to file Form 3520-A, Information Return of Foreign Trust With a U.S. Owner. Taxpayers must also report ownership interests in foreign trusts, by United States persons with various interests in and powers over those trusts under IRC § 6048(b).The penalty for failing to file each one of these information returns or for filing an incomplete return, is five percent of the gross value of trust assets determined to be owned by the United States person.

• A penalty for failing to file Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations. Certain United States persons who are officers, directors or shareholders in certain foreign corporations (including International Business Corporations) are required to report information under IRC §§ 6035, 6038 and 6046.The penalty for failing to file each one of these information returns is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return.

• A penalty for failing to file Form 5472, Information Return of a 25% Foreign-Owned U.S. Corporation or a Foreign Corporation Engaged in a U.S. Trade or Business. Taxpayers may be required to report transactions between a 25 percent foreign-owned domestic corporation or a foreign corporation engaged in a trade or business in the United States and a related party as required by IRC §§ 6038A and 6038C. The penalty for failing to file each one of these information returns, or to keep certain records regarding reportable transactions, is $10,000, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency.

• A penalty for failing to file Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation. Taxpayers are required to report transfers of property to foreign corporations and other information under IRC § 6038B. The penalty for failing to file each one of these information returns is ten percent of the value of the property transferred, up to a maximum of $100,000 per return, with no limit if the failure to report the transfer was intentional.

• A penalty for failing to file Form 8865, Return of U.S. Persons With Respect to Certain Foreign Partnerships. United States persons with certain interests in foreign partnerships use this form to report interests in and transactions of the foreign partnerships, transfers of property to the foreign partnerships, and acquisitions, dispositions and changes in foreign partnership interests under IRC §§ 6038, 6038B, and 6046A. Penalties include $10,000 for failure to file each return, with an additional $10,000 added for each month the failure continues beginning 90 days after the taxpayer is notified of the delinquency, up to a maximum of $50,000 per return, and ten percent of the value of any transferred property that is not reported, subject to a $100,000 limit.

• Fraud penalties imposed under IRC §§ 6651(f) or 6663. Where an underpayment of tax, or a failure to file a tax return, is due to fraud, the taxpayer is liable for penalties that, although calculated differently, essentially amount to 75 percent of the unpaid tax.

• A penalty for failing to file a tax return imposed under IRC § 6651(a)(1). Generally, taxpayers are required to file income tax returns. If a taxpayer fails to do so, a penalty of 5 percent of the balance due, plus an additional 5 percent for each month or fraction thereof during which the failure continues may be imposed. The penalty shall not exceed 25 percent.

• A penalty for failing to pay the amount of tax shown on the return under IRC § 6651(a)(2). If a taxpayer fails to pay the amount of tax shown on the return, he or she may be liable for a penalty of .5 percent of the amount of tax shown on the return, plus an additional .5 percent for each additional month or fraction thereof that the amount remains unpaid, not exceeding 25 percent.

• An accuracy-related penalty on underpayments imposed under IRC § 6662. Depending upon which component of the accuracy-related penalty is applicable, a taxpayer may be liable for a 20 percent or 40 percent penalty.
Fourth, I link to prior blog entries that have had some opt out discussions:

IRS Updates and Expands 2011 OVDI FAQs - Extension of 8/31/11 Deadline, Opting Out & 5% Penalty (6/3/11)

To OVDI or Not to OVDI - That is the Question (Of Quiet Disclosures and Doing Nothing) (5/23/11)


  1. Jack in your experience, how long does it take for the case to be assigned to a civil agent after the packet has been sent in. Is there a set guideline within the service for that?

    Thank you

  2. it's going to be tough! i know most of expats or immigrants are honest and decent people who just happen to have some money offshore and these are bloody hard earned money. however the tax law does not distinguish/discriminate us from the Swiss Bank fat cats (that is why it is called a law).

    the public is on the other side, and we are simply labeled as tax cheats by IRS the same way as other fat cats. the country is in deep trouble and we have over 9% who can not find a job. who would give sympathy to us for losing money (as some would describe as IRS robbery) while there are so many people who don't have money at all.

    i would strongly suggest to get it over with ASAP and move on with what ever left the money.

    for those who have not yet come forward, please do a lot home work first before approaching IRS and this is really a point of no return. i have a lot friends who just stay where they are (hoping that IRS won't bother to dig out all the thin cats). i am the only one who has honest stupidity (believe in gov fairness).

  3. Anonymous,

    As to experience on assignment to civil agent:

    OVDP 2009 - I have not gone back to review the timing, but sometimes it would take months from the civil submission.

    OVDI 2011: I have just sent in my first OVDI 2011 package and don't know when it will be assigned.


  4. Anonymous of June 14, 2011 11:10 AM

    For our OVDP 2009, it was about 9 months from submission to first contact by agent. btw, now a year later, still not compete.

    Do not know if that is normal or not.

  5. Based on my experience in 2009:

    Hired attorney 12/2008
    CID Submission made 5/2009
    CID Conditional Clearance Received 7/2009
    Contacted by Revenue Agent 10/2009
    Received final 906 Closing Agreement 10/2010

    I think the timeframe for resolution is unpredictable. It is not unusual to have long periods of no activity or contact. Its a nerve racking SOB. Also the more you argue a point the longer it seems to take as other IRS folks get involved to review.


  6. Jack

    In your 2011 package, did the taxpayer in question include 2010 in the FBAR/misc maximum aggregate balance calculation (since everything was done right for 2010) ? I presume tax 20% penalties can definitely be removed for 2010

  7. Just an FYI. Yesterday, I had a long conversation with my field auditor and her Manager who are still working my 2009 OVDP and possible Opt Out. I was trying to get a feel if they had any better idea of the mindset of the "Management Committee" and what discretion is being applied in the process.

    We are in the 20 day count down to decide one way or the other, and so we have a strong interest to get some indications of which way the wind is blowing. Is it still a full gale out there, or is their some moderation in wind direction or force.

    They stated that they heard that day that the very first case was being reviewed by the Committee following the new Opt Out guidelines. They didn't think the results would ever be public. They were in the dark as much as I was about possible outcomes or if discretion as allowed in the IRM was going to apply.

    It was stated that this "Opt Out" was an evolving process and generally they were uncertain on what to expect.

    So, my read is that it still seems to be a very risky proposition to take the Opt Out if there is no indication that anything but the strictest of FBAR penalties will apply.

    I am not getting any indication that someone will lift their heads from the minutia of their rules and regs to look at the large picture...ie "Does the FBAR penalty punishment really fit the so called crime." This isn't a justice system, it is a revenue collection effort. Period.

  8. Anonymous @ June 24 2011 12:41,

    I am also in the process of opting-out from the 2009 OVDI.

    Assuming that the full audit determines non-willful intent and they assess max non-willful penalty, what avenues are there for the taxpayer to contest the penalty? Is there an Appeal process? And if so, assuming the Appeals process proves unsuccessful, will the taxpayer be able to request a jury hearing?

  9. This is my speculation:
    If you opt out you are basically saying no to the in lieu of penalty that is a catch all penalty except for the 20% accuracy on backtax. IRS will then seek to apply all penalties that they can assess and collect. In order to collect the FBAR penalty, DOJ will have to prove the facts in non tax court. The big question is will they seek the willful penalty and what amount will that be. Also, they will probably throw every other tax code penalty available at you like all the ones listed in OVDI guidelines if they apply.It is in essence government pressure aimed at making you accept the OVDI outcome and moving on. If IRS allowed an easy opt out to be the norm, they would probably get log jambed. The bottom line is that IRS has painted a threatening picture of opting out and no one knows for sure how bad the outcome will be until they do it and dare the IRS to nail them with penalties outside the program. Do you believe the IRS will operate in good faith without retribution as a motive? If not I would think twice about opting out. The sad thing is that even if you have really good facts, you will have to spend time and money defending your position against one of the most powerful organizations in the world.

  10. anon@June 24, 2011 5:59 AM

    I would STRONGLY urge contacting a CPA/lawyer before taking an irrevocable step such as opting out of the OVDP. Your questions seem pretty basic and they could better evaluate your position.

    There is an appeals process, but its supposed to go through an FBAR Appeals Co-ordinator. I'm not sure what implication that has for penalties.

    FBAR penalties are Title 31 penalties, so the government would have to sue you to collect. I don't think it would be easy to legally fight a nonwillful penalty. Technically, all DoJ/IRS has to do is to show that you were legally required to fill in an FBAR and that you did not fill it. The statutory exceptions such as "reasonable cause" seem very narrow and require reporting account balance.

  11. Jack,
    Any update on your 2011 submissions?

  12. Thanks for sharing your valuable knowledge OVDP.


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