Monday, June 27, 2011

OVDI 2011 - Mitigating the Penalty by Lowering the Penalty Base (6/27/11)

In the OVDI 2011 program, the "in lieu of" penalty is determined by multiplying an amount which I shall call here the penalty base (generally speaking, the highest aggregate value the U.S. tax noncompliant foreign assets, both financial accounts and otherwise) times a percentage. The percentage is 25% but may in special cases be 12.5% (see FAQ 35 ) or 5% (see FAQ 52). Mitigating the penalty, therefore, can be accomplished by achieving one of the lower percentages. Mitigating the penalty also can be accomplished by lowering the penalty base to which the percentage applies.

Regarding the penalty base, it is important to keep in mind that, for purposes of the OVDI 2011 penalty, the penalty base includes not only the foreign financial accounts (the only type of assets reported on the FBAR) but also other foreign assets, not otherwise reportable, which are U.S. tax noncompliant (either with respect to the money used to acquire the other foreign assets or the income from the other foreign assets).

The question I raise here is the ways that the penalty base can be lowered.

For example, with respect to foreign financial accounts for which the taxpayer was signatory only, those amounts will not be included in the OVDI 2011 penalty base. FAQ 38. And, if tax noncompliance is the issue, then a taxpayer who is deemed to have a financial interest because he or she is listed as a co-owner with the sole beneficial owner but who is not the beneficial owner, then that taxpayer (who also has signature authority by virtue of title being in his or her name as co-owner) should not have the amount included in the OVDI 2011 penalty base. (As I have previously discussed, that taxpayer would still report on Part II or Part III, as appropriate, but that is a separate question from ownership for inclusion in the penalty base.) The ability to achieve exclusion of the foreign financial accounts in whole or in part, of course, is dependent upon the taxpayer being able to satisfy the IRS that the taxpayer has no ownership interest in the foreign financial account.

There are other ways to get the penalty base down. For example, the U.S. taxpayer may exclude amounts transferred during the year between accounts so that, in any year of such a transfer, the same amount is subject to only one "in lieu of" penalty.  FAQ 37.

The purpose of this blog entry is to permit readers to discuss, ask questions, and share ideas and experiences as to how the penalty base may be mitigated. Thanks to the readers in advance.

103 comments:

  1. Jack,

    If a taxpayer has 10K in an offshore bank saving account, and 10M home with rental income both are not disclosed.

    In OVDI 2011, he has to include this 10M home in the base for penalty, right ?

    However, if he does VD outside OVDI 2011, his FBAR penalty is only on his 10K, not his 10M home, that may also reduce his penalty for not to get into OVDI.

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  2. tj, your comments are correct. This blog entry is focusing only on mitigation inside the OVDI program. For those who opt out, the penalty base will be the FBAR penalty base -- foreign financial accounts only but with the threat of multiple years (although the current practice of asserting a single year in the criminal cases suggests (but does not guarantee) that the IRS will not assert multi-year penalties). But remember that other penalties could apply (5471, etc.). The in lieu of penalty inside the OVDI is in lieu of all other penalties. In your simple example, there appear to be no other penalties (at least none other than the income tax penalties -- either 20% accuracy related or 75% civil fraud).

    In any event, I urge readers to limit their comments to the in lieu of penalty base inside the program.

    Jack Townsend

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  3. All,

    Facts: T has a U.S. business. T conducts his foreign sales "off the books" as a business separate and apart from the U.S. business (which means it should have been but was not reported on a Schedule C). The business sells widgets overseas. T deposits the gross revenue into his foreign financial account. T pays all cost of goods sold from that account. The business is a high cost business. His net profit is only 10% of gross revenue. Thus, over time and particularly at the highest points, up to 90% of the amount in the account is required for COGS.

    The question is the appropriate penalty base. Is it the highest aggregate amount without consideration of the fact that there is over time only 10% net equity in the account? Obviously, if that is the case the 25% will be confiscatory.

    I would appreciate readers' experience and analysis of the problem.

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  4. Jack, thanks and sorry for off the topic,

    Here is my case example for discussion...

    Since 2008, I have been reporting income from Canada banks interest income but never filed f1040b (list the all domestic and offshore banks), would that be possible for my argument that I did report income but just skip f1040b (as I always do filing on paper and IRS never bother sent it back for redo with demanding for f1040b) ?

    For certain years, I would have paid more than I should and certain years less --because I DID NOT use the exchange conversion correctly (the spot exchange instead of the end of year exchange), Now Can I claim that I had reported income from certain offshore banks with high balance, would that reduce my penalty base ?

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  5. tj,

    Just for clarity, you are saying that you reported all of the income from the foreign financial accounts but never filed Schedule B? My understanding is that you would qualify for FAQ 17 if you can prove that you reported it all.

    I don't understand what you mean that some years you would have paid more and some years you would have paid less. If it is included on the 1040, at least with respect to the foreign accounts, you should have reported and paid tax on the foreign financial accounts. Now, if there were foreign income unrelated to the foreign finanacial accounts then you could have a problem.

    And, if you have other foreign financial accounts or foreign assets for which you were noncompliant (did not pay U.S. tax), then I think you have a problem with respect to them but not the ones for which you reported on 1040 and paid tax.

    I would appreciate other's readers comments to the question.

    Jack Townsend

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  6. Response to Anonymous,

    I have a situation that is a variation on this theme (not quite so high COGS relateive to revenue), but do not yet have any answer. I am going to adjust the penalty spreadsheet to show a reduction for the portion of the account that represented COGS and hope for the best. I would suspect that, if we get relief, it will require a pretty strong showing but given the relatively few transactions involved that can be done relatively easily if the IRS is reasonable.

    If I get any information on this, I will post it as an addendum to the blog entry or as a additional comment.

    Thanks for your participation in this blog.

    Jack Townsend

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  7. Jack,

    Thanks... I only reported offshore bank income since 2008 when Canada stopped withholding. For the earlier years, I did not report.

    What I did was to ask Canada bank sent me interest payment in a check and I made deposit in US (by conversion) and reported exact amount deposited -- this could be less/more than IRS would ask for --by end of year exchange rate).

    I could at least take off some accounts since 2008 from penalty base -- because I could argue that I did report these income.

    I thought the penalty was account based (that means one has to report for all these years) to be entitle to FAQ 17

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  8. tj,

    Thanks for the clarification. If I understand your clarification, yoiu would not seem to qualify for FAQ 17. Your pre-2008 nonreporting could likely be an issue since you did not correctly report taxable income (perhaps the Canadian withholding could be claimed as a credit to offset the tax resulting from the additional taxable income), but as I understand the IRS's position, credits do not cure the underreporting of taxable income.

    Jack Townsend

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  9. Hi all,

    Facts (very greatly simplified): T establishes a brokerage account with offshore financial institution. T buys stock on 80% margin. Highest value of stock during highest year is $100,000, at which time, T has put in equity of $20,000 and owes $80,000.

    What is the penalty base?

    If, as I suspect, it is the net of $20,000, can we extrapolate that the penalty base should be the net equity in whatever guise it appears? And from that can we argue that, in the COGS situation where the funds temporarily in the account that must be paid out for the COGS should not be in the penalty base because those costs are not part of the net equity of the account.

    Just a thought.

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  10. Similar to one of the above comments, what if the foreign bank makes a loan of $1,000,000 to fund a BLIPs or other type of Son-of-Boss deal in, say 2003, but never lets any of the money leave the foreign bank. Does UST have a high balance of $1,000,000 or zero for purposes of the penalty base? The Government might be hoist on its own petard becuase it would say that is not a real account. But, I think it goes further to the point that equitable application of the penalty regime, which is pretty onerous for those who would not be subject to the willfulness FBAR penalty regime, requires that claims other than taxpayer's on the amounts in the account should be netted out.

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  11. Some how I just do not see IRS making downward adjustments to the penalty base based on COGS/Gross Margin in the case of a business or basis if you are looking at equities. The program says the high value of the bank account or market value in the case of other penalized assets so I take it at face value. I read a number of commentaries by practioners who had clients where their equities had tanked and the high watermark value was significantly higher at a different time point within the applicable years so the penalty was based on the high value thus giving them a double whammy. I think it would be great if IRS would take costs and or basis into consideration but I just do not see it happening.

    Anon123

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  12. Jack, somebody might have asked this before, it seems important to me, so I would like to ask it again,

    A taxpayer has two accounts, account A meets all the requirement for FAQ 52 (5% penalty), Account B is less than 70K. The total of A and B is over 100K.

    Would his/her penalty base be 12.5% of balance of account B plus 5% of balacne of account A

    or

    25% of the aggregated balance of A and B ?

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  13. A taxpayer purchases a vacation property in a foreign country using a foreign mortgage of $500,000. When the property is purchased, the lender transfers the $500,000 into the bank account of the purchasor who then wires it to the seller.

    The money is only in the account for a single day.

    Would that extra $500k be counted in the base figure

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  14. I have a client who had recently (post 2008) started a real estate development project in foreign country X. He had taken a number of deposits from customers that he deposited into and maintained in his principal business checking account in a financial institution in country X. At any given time, 95% of the amount in the account were deposits. The aggregate amounts are quite large. The local law did not require that he segregate the deposits in a separate account. He ran the business through a local entity that is the equivalent of a corporation for U.S. purposes. He was signatory on the account and principal owner of the entity. He had a separate tax noncompliant interest bearing account in the foreign country for a number of years, including these years.

    The penalties appear staggering under the OVDI. He feels he has no choice but to stay out of the OVDI. By staying out, he at least has a chance at the audit lottery (I don't like that concept, but clients use and employ some version of it), whereas if he gets into the program with the onerous penalty, he would have to opt out and be subjected to a certain audit. At least as he analyzes it, he is no worse off for staying out. He believes he has relatively minimal risk of criminal exposure and, given his facts, I concur. I still have to remind him that risk is risk and, while relatively minimal, it could come home to roost.

    Any thoughts from this community?

    Regards to all of you and thanks to Jack for maintaining this blog!

    ReplyDelete
  15. One solution to mitigate, depending upon the facts (ah, those pesky facts), might be to treat the entity interest as the amount includable in the penalty base rather than the account(s) owned by the entity. Your client is not the owner of the accounts, even though he is defined for FBAR purposes as having a reportable financial interest. What he owns is the entity (for which I presume he has not filed 5471s) and it is the value of the entity that goes into the penalty base. That value should be net of the deposits for valuation purposes. There are obviously a lot of nuances with this "solution" but perhaps it could work as a starting point to a comprehensive solutation.

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  16. Jack,

    Here’s another question about mitigating the penalty base. In OVDI, if one of the financial accounts is over $10K but does not produce any taxable income (just cash sitting in bank), can it be subtracted from the penalty calculation?

    What about life insurance with cash value? Can it also be subtracted from the penalty base as well because it doesn’t generate any unreported income?

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  17. Does timely filing of the 2010 FBAR when the return is on extension, eliminate 2010 from the penalty base?

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  18. Anonymous,

    Regarding your comment today at 12:15pm, the best answer I can give will be first to state my understanding of the context. The penalty base is the highest year. If 2010 is the highest year, then the answer to your question is quite important.

    The only answer I can give is that I have heard from experienced practitioners answers both ways. If I were running the program, I would exclude any year that was tax compliant. That would include 2010 for a timely filed FBAR and a timely filed 1040 (even if timely filed pursuant to extension).

    But, please understand, I do not run the program. I am told by practitioners that are sufficiently along in the process that 2010 was excluded in their cases. That is all I can report. I will try to update with further ccmment (or addendum to the blog entry) as I learn more and hope other readers will offer their experience and analysis as well.

    Jack Townsend

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  19. Thanks so much, Jack. You are correct: 2010 is the year with the highest balance. The return is on extension. Most, but not all, of the taxes owed were paid on April 15 - about $200k of taxes paid, and another $70k owed, in my estimation. The rest will be paid when the final calculations are completed. Should payment of the $70k be expedited?

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  20. Anon @June 30, 2011 9:54 AM

    At the very least, sending in the 70K would stop the interest clock. Even in these low interest days that's around $8 a day.

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  21. Anonymous on June 28 at 11:46am asked:
    "What about life insurance with cash value? Can it also be subtracted from the penalty base as well because it doesn’t generate any unreported income?"

    Prior to 2011, the law was far from clear that foreign insurance policies were considered "financial accounts" subject to FBAR reporting. Moreover, income within an insurance policy is not taxable. Thus, I would approach the issue with the IRS by pointing out that if there was no clear FBAR requirement, then there is no clear failure to disclose the policy, plus there was no taxable income, and so the policy should not be included in the penalty.

    However, there are additional relevant questions, the answers to which may affect whether the policy might escape the penalty:

    Was the policy purchased with after-tax dollars, or with unreported income? Did the taxpayer borrow against the cash value of the policy? Were there distributions or surrenders from the policy? Was the policy subject to the payment of an excise tax, and if so, was it paid? These additional questions are relevant to the issue of whether or not the insurance policy was tax-compliant, which of course is determinative of the penalty issue.

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  22. Jack,

    Regarding the issue of excluding 2010 from the years subject to penalty, I agree with your comments. However, there is little explicit authority from the IRS on this issue, apart from comments in a letter that some of my clients received from the IRS. These clients were those who initiated voluntary disclosures after the 2009 OVDP had ended, but before the 2011 OVDI program began. The point of the IRS letter was to advise that these clients would be subject to the 2011 OVDI terms. The letter advises:

    "If you properly filed your income tax returns and FBARs for the years 2009 and 2010 or if they are not yet due at the time of your submission under the 2011 OVDI, you do not need to include those years for purposes of computing the offshore penalty on the highest aggregate account balance."

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  23. Asher

    One big question mark for a foreign insurance policy is whether it would be considered a foreign insurance policy by US standards at all. Even a bona fide life foreign life insurance policy with cash value in a foreign jurisdiction may not be recognized as such under US law, in which case 'income' from said policy would be taxable, thereby rendering the policy non compliant.

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  24. JonF,

    I agree. I was discussing foreign life insurance that is recognized as foreign life insurance. You are correct regarding foreign life insurance that is not recognized as such.

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  25. Boy, after reading these blogs, my brain glazes over. This OVDI complexity certainly argues towards keeping your financial life simple. Do nothing to produce income that contributes to the GNP of America, or financial independence of you and your family. Consider taking your citizenship somewhere else, as residency alone will not solve anything. Do not recommend that immigrants come to the "Land of Opportunity". The Opportunity they seek, is the Opportunity for the IRS to make your life miserable. Seek a life somewhere else on the globe, or adopt KISS as your life strategy in the USA. If you are going to be here, do not invest or open an account anywhere outside the borders. So very sad it has come to this. I really feel for those asking the questions and can certainly understand the one who thought taking the audit lottery was a better choice.

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  26. I came across the situation for my cousin. He had a 60K on his name for 3 years and later he mage a CD in his parents name to earn higher interest.
    Now quation is
    1) IRS will calculate FBAR penalty for both son and parents?
    2)IRS will consider 60k as a gift to parents and gift tax will assessed? I never gave them as a gift.
    I would appreciate readers' feedback and analysis of the problem.

    ReplyDelete
  27. FBAR penalty only when the money was under his name.

    Now, if you loan the money (interest free) to help your parents, the money is under your parents name, so it should be your parents to pay tax on interest, and FBAR penalty (if they are US taxpayers).

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  28. Do transfers into the USA lower the penalty base? We had foreign business accounts. We periodically transferred the funds into the USA, and treated money transferred in to the USA as business income, which we reported. However, the timing was sometimes off: in some years we reported more income than earned on a cash basis and in other years we reported less.
    It seems very unfair that we pay a 25% penalty of the highest balance, when, in fact, most of that balance was reported as income and is unrelated to tax noncompliance.

    ReplyDelete
  29. ij

    Money was on my name and then later on parents name. So either of us have to pay taxes, penalty and FBR for 60k?

    Jack

    Whats your opinion?

    ReplyDelete
  30. only when the money is under your name, you are liable for FBAR. When it is under your parents name, it is not (assuming your parents are not US taxpayers).

    ReplyDelete
  31. Anon @July 3, 2011 10:50 PM

    First, you should decide whether you're talking about your cousin or yourself :-).

    Are your parents US persons ? If not, the question of FBAR penalties doesn't arise. If they are, then its a little harder to say -- whether penalties would be asserted separately in this case. It might be possible to use FAQs 37 and 41 to claim only one penalty.

    Gifts above a certain size (and you have crossed that) do need to be reported. There is no gift tax up to a lifetime exclusion.

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  32. Thanks for all your help everyone!

    I had asked a question about transfers into the USA - I had a foreign business account and made periodic transfers into the USA, declaring all income transferred in to the USA. A small amount of income was not transferred in by the end of the year in some accounts - perhaps $20k. The tax dues on that $20k might have been $8k. The highest balance in the account, though, was $200k. Would I be forced to pay a $50k penalty for $8 owed in taxes?

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  33. Probably. There are no de minimus rules.

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  34. My father needed money in 2008 due to financial burden. I transferred US tax paid money through offshore account (in my name) and gave him power of attorney so that he can withdraw cash as and when needed. It is a gift from me to him but I have not filed gift return in US.
    To an extent I also took person loan from a friend in US and transferred money to this account so that he can use it. I pay interest to my friend here.
    As my father's financial condition got better he is paying back some of this amount.

    Do I need to report the gift to my dad as my financial asset on FBAR? Can I deduct my personal loan from my friend in computing the net aggregate asset in my overseas bank account?

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  35. I posted this on the other thread but realized I should put here as this thread is created for the purpose of lowering penalty base.

    Any opinion about this if it will be considered valid for 12.5 % penalty.

    If there is a joint account with spouse for about 80K the total penalty on the entire account would be 20K (25%). However since the account technically belongs to two tax payers equally, so wouldn't each spouse liability will be equal to his/her share of 40K thus each paying 12.5% on his/her 40K.

    Joint penalty 25% on 80K = 20K

    Individual for each spouse would be 5K (12.5 % of 40K), so the total still is 10 K for both.

    Do you guys think it is a viable option given that both spouse file a joint return.

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  36. did you file joint/married with your spouse ?

    it really does not matter at all if the joint account owner is also a US taxpayer.

    ReplyDelete
  37. @ Anonymous July 18, 8:58 AM

    The short answer is no way. The penalty is based on the account high value between 2003 - 2010. The number of account holders does not change the high balance. Now, you can pay half and your wife can pay half for whatever good that may do. My opinion based on what you have posted is that you will face a 25% penalty on the 80k. I am not IRS or a practioner, only a former discloser humbled by the process and unable to cease my interest in the matter. I think anyone in this process should budget for the worst outcome and reasonably argue for relief on any viable mitigating circumstances as per the FAQ's. Good luck to you.

    Anon123

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  38. I am planning to go for 2011 OVDI. When I was looking at the transactions of my account i do not recognize 3-4 entries. There are few numbers of small entries and I am assuming that its a shares dividends, I do not have any proof. Is it necessary that i should have justification for each entry? I have a real estate which never rented and bought before we immigrated to USA. Because I am not able to give justification on certain transactions, IRS can consider real estate saying may be its a rental income?
    Thanks everyone in advance.

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  39. you do not need include your real estate in your ovdi disclosure if there is no tax issue..

    as for some transaction in your account, you do not need explain each of them. if IRS wants to build the case on "rental income", they should prove it.

    my sister made a few deposit on my account, some were used to pay back for what i bought for her in US, and some were given to my kids.. i can not remember each detail. should i worry about that IRS may consider i am a drug dealer ? of course NOT.

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  40. Thanks for responding.
    @ Anonymous July 18, 8:58 AM

    Let me clarify a bit on the question about joint account in 80K. The money in any single account was never over 75K. There are several joint account with spouse where individual account value in any single account has never crossed 75K, but the sum of all account is.

    So to take the example,

    First Joint Account : Max value is 30K
    Second Joint Account max value is 50K

    Now as I understand, both spouse will need to file their own OVDI letter, (guess they should go in the same package because tax returns are joint) so is max value for individual can be divided in half, thus both paying only 12.5 % on their own balance, rather than clubbing the balance together and paying 25% penalty.

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  41. I think you need to declare all assets abroad, but only those earning income will be used for penalty. So even real estate without income should be declared. If shares distribute dividends, they should be declared too.

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  42. According to FAQ36 no reporting is required for real estate if no income is generated.
    Partial FAQ36...
    "Assuming that the assets were acquired with after tax funds or from funds that were not subject to U.S. taxation, if the assets have not yet produced any income, there has been no U.S. taxable event and no reporting obligation to disclose."

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  43. If real estate was purchased with money from an unreported account, then there would be some interest and so some after tax funds, yes ? If bought before coming to US, then the funds would not be subject to US taxation.

    But in the asset statement it says to include all offshore assets, not just non compliant assets. Better to include something, explain why its compliant, rather than to have IRS come back 3 years later and ask you questions and do more probing.

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  44. Jack,

    IRS had announced three changes to 2011 OVDI. One of them is a reduced 5% penalty regime to certain citizens (Taxpayers who are foreign residents) if they meet three requirements (FAQ 52.3) My question is about the third requirement, in which the citizens “had $10,000 or less in US source income each year.” Does the $10,000 include US Social Security?

    Thanks.

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  45. Please help answer this dilemma for me.
    I had a home that I bought before coming to US that I rented later and did not report rental income on in the US tax return but paid all taxes(Tax deducted at source) at the foreign location.
    In that case, does the house value still need to be included in the penalty calculations ? If I have to include the house value then I am doomed ! Is there a way out ?

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  46. to anon "July 21, 2011 8:53 PM",

    Yes, your home should be included in penalty base..

    However, if you do not have other FBAR issue, I think it is better to resolve this problem outside OVDI.

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  47. Yes, house value (home value - mortgage) has to be included if there was any rental income. Its irrelevant whether foreign tax was paid (and in any case, tax deducted doesn't mean all the tax was due to the foreign country).

    The alternative is to consider opt-out, in which case the house would not be included, but regular FBAR penalties could be much higher .

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  48. so
    1. if the home was paid from after tax US dollars
    2. the rental income was reported in the foreign location where the house is located
    3. taxes paid in the foreign location,

    ...still one would need to declare that home value and include in penalty calculation ? Maybe thats what the rule is but seems absurd that you would need to report income in two countries and both get a chunk of it.

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  49. anon @July 22, 2011 12:36 PM

    Yes, the house would be included in penalty calculation if it generated rental income per the IRS. You could get a foreign tax credit in your US return for any taxes paid and due to the foreign country, so you wouldn't pay duplicate taxes.

    Of course, if there is no FBAR violation, there is no issue at all. The rental income merely has to be reported in an amended return, no OVDI.

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  50. I live abroad and recently gave away my green card. Just came to learn about all this filing. I plan to go into OVDI(because interest from bank was not reported although after foreign tax credit there is no tax liability) but very scared about how the experience will be. Can someone please tell if OVDI participation is a very scary thing? People are frightening me saying that I am putting my head in the lion's den.

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  51. Ref: @Anonymous July 19, 2011 8:49 AM

    It will be 25% penalty of 80k as max value of
    account is above 75k but only one needs to pay.

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  52. As a green card holder who lives abroad for several years and who came to know of this filing requirement recently, I am suggested to file as usual for year 2010(for which extension was filed) and send the fbar form along with an explanation on the ignorance. For the previous years bank interest was not reported but the addition of which does not cause a change in the final tax.

    Please offer your advice if this suggestion is valid.

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  53. Anonymous July 26, 2011 10:56 PM

    If you had an account over 10k, did not file FBARS, did not check box on 1040, did not report interest on 1040 you may have issues even though the taxes were offset. Some key questions to consider: how big of an account, how much interest,how many years of nonreporting, where was the account, what was source of funds and etc. You should seek legal advice from an experienced practioner in this field before doing anything or just join OVDI knowing you will likely get popped with the penalties that fit. I do not think anyone can tell you with certainty what the result will be if you do what you posted. The facts and circumstances are important and should be reviewed by a pro.

    Anon123

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  54. Anonymous July 25, 2011 12:13 PM

    Why do you worry about it since you already gave away your green card?

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  55. Ref: Anonymous@july 28,2011: 12:13 PM
    Thank You for responding to me. For year 2010, I had already filed for an extension and am about to file the original returns. I gave away the green card only in year 2011. I thought since I am a resident at least for part of the year 2011, I have to keep everything straight until 2011 as otherwise, the penalties will be horrendous from what I read on the website.
    Please give your opinions.

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  56. Ref: Anon123, Jul272011,8:39 AM.
    Thank you for your comments. I will consult with a tax attorney. Can I send you a private message? My account is not big and my interest is small and I have been paying taxes regularly to both countries and bank interest was derived on money on which tax has been paid.

    Also, is joining OVDI a bad thing to do. The program's objective states that it is for tax evaders and tax shelters and which I am not. Does joining OVDI cause a bad reputation for future years?

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  57. Anonymous July 29, 2011 12:17 AM

    I am not a practioner. I got caught up in this fiasco and participated in the 2009 OVDP. My account was inherited and was substantial. Honestly, a consultation with a practioner could give you good direction on how to proceed. You may have good facts for resolution outside of OVDI but you need a pro to review your facts in detail and advise you. As to your question if OVDI is good or bad...its both. The good is that you get more certainty as to noncriminal resolution and should be able to forecast the costs of participation with reasonable accuracy. The bad is that you pretty much have to pay the outlined penalties and they can be steep ranging from 5% to 12.5% to 25% of the high balance of noncompliant assets. I think in your first post you mentioned filing properly on your extended 2010 return(if fbar was not filed by 6/11 its late) and then remaining compliant going forward. To me this is kind of like a partial quiet disclosure that is not complete because past issues are not being corrected. Too risky in my view. Could it work? Maybe but if past noncompliance is not addressed there could be issues. Do yourself a favor and at least have your facts reviewed by an experienced disclosure practioner. Then proceed with your best option as you see it. As to contacting me, if there was a way to do it without me exposing myself I would without hesitation. I suffered with fear and anxiety in dealing with these issues and would be pleased to help anyone in making their process better. I do think that clearing the matter up is the right thing to do. The pressure from the government on these matters continues to increase.
    Best of luck to you.

    Anon123

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  58. Anonymous:
    You asked: Will participating in OVDI ruin your reputation?

    The public will have no knowledge as to your participation in OVDI when you close with a 906. If your disclosure exploded and criminal sanctions followed then it could become public. As to your reputation with IRS, I do not know. I can tell you that I heard indirectly from my revenue agent that if things were not done right in the future it would end up on his desk and I would hear from him. I guess once you close the IRS attitude is go and sin no more.

    Anon123

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  59. who cares reputation ? are you planning to run for an office ? even so, don't you see those in the capital hill and those in the tresueary also have tax problem ?

    ReplyDelete
  60. Thank You anon123 and ij for your comments.

    ReplyDelete
  61. Do I have to file a FBAR if I was a dual status alien last year (left the US after 182 days - neither citizen or gc) and only went over the 10k limit during the part of the year I was a non-resident?

    ReplyDelete
  62. Hello, I have two questions:

    1. I have a securities account with over 100 securities which will go into the ovdi program. How do you calculate the maximum value of a securities account? It is based on the highest value of each security during the year or just the high value of the entire account based on account statements?

    2. For real estate which produced no income however no 3520 was filed- (value was less than 200 k) how is this to be treated in regards to ovdi?

    ReplyDelete
  63. Jack - in terms of mitigation from penalty base if one had passive income and expenses from partnership and no reportable income (i.e. income - deductions = loss) would that asset be taken out of the penalty base?

    ReplyDelete
  64. Does anyone know whether state tax returns should be amended and back tax paid along with the fed tax If one enters 2011 OVDI? I didn't see anyone mention it.

    ReplyDelete
  65. Jack, we file MFJ in US and both husband and spouse have offshore accounts. Husband account balance exceeds 75K, so 25% penalty applies. Now spouse account has around 25K, so will she get 12.5% on her balance or will we have to pay 25% penalty on 100K altogether. Balance here is the highest balance. And funds were transferred from husband's account to spouse account.

    ReplyDelete
  66. anon -- August 9, 2011 2:14 PM

    I read that this might dependent on whether you live in a community property state, in which case accounts might be aggregated.

    ReplyDelete
  67. For those who doesn't have software to calculate IRS interest, here's a link to a fill-in PDF you may try. I found it from a website and it came out very close to my own spread sheet, only couple cents discrepancies.

    http://www.starkman.com/IRSint.pdf

    ReplyDelete
  68. I opened a checking account, not interest earned, for 2007 to 2009. Then I opened a CD in 2010, more than 100k, i did not report the interest, is there any change to get and extension from IRS and pay back that interest, and be ok??without pay the 25%.

    ReplyDelete
  69. The IRS uses FMV of assets and financial accounts as the penalty base. However, the FMV includes unrealised gain.. which may or may not be valid when the assets are finally traded. Also, when the gains are realised in future, there will again be taxation on these gains. For the lawyers out there, is there any law that would deem this unconsititutional and support using the purchase prices, instead of FMV, as the penalty base?

    If not, can these penalties be reflected against gains in the future to lower tax base when the gains are indeed realised?

    ReplyDelete
  70. Anno Aug. 12, 2011,

    The penalty on FMV is not tax. It is what taxpayers who fail to file FBAR (plus under report income) agree to pay under OVDI.

    So it is really not a matter of tax (which may have to be or appear to be fair.

    ReplyDelete
  71. Jack, can you please give your opinion for this scenario. We file MFJ in US and both husband and spouse have offshore accounts. Husband account balance exceeds 75K, so 25% penalty applies. Now spouse account has around 25K, so will she get 12.5% on her balance or will we have to pay 25% penalty on 100K altogether. Balance here is the highest balance. And funds were transferred from husband's account to spouse account.
    Thanks.

    ReplyDelete
  72. To Anonymous August 14, 2011 1:52 AM

    I have not yet had to consider this issue so I can only offer an off the cuff -- no certainty of accuracy -- response. I think that, if the accounts really are separate (not jointly titled or owned), then the wife should get the 12.5% penalty if her account is under $75,000.

    Now you shoul pay careful attention to inter-account transfers. The IRS has said that it will not double count. Where there is an inter-account transfer there may be an issue of whether the amount is accounted for the one time accounting. Example: Husband's account is $200,000 and wife's account is $70,000. On June 1 of a critical year, husband transfer's $10,000 to wife's account, thus decreasing his account to $190,000 and raising hers to $80,000. Do you eliminate the doubled $10,000 from wife's account or from husband's. If you eliminate it from husband's then wife is over $75,000 and must pay 25% on all. I don't know the answer to that question, but the foregoing should give you the arguments I would make.

    Jack Townsend

    ReplyDelete
  73. Jack,

    If they file separately, then the transfer amount would be counted on both of the couple.

    That is same as if taxpayer A transfers 10K to taxpayer B (offshore accounts). Taxpayer A and Taxpayer B are not related. When calculating their aggregated max balance, they would both have to add this 10K into their total balance.

    It is like taxpayer A spent 10K, while taxpayer B got 10K in that year -- the 10K were in both of their accounts.


    I think "no double count" can only apply to the same person (or the same couple MJF)


    Just my logic -- not a pro

    ReplyDelete
  74. To tj August 14, 2011 10:24 PM

    Thanks for your comments. You may not be a pro, but I have noted that your comments are pretty good. I don't know the answer to this question, but I thought the key to transfer question was that the transferor and transferee are both in the program so that the amount gets picked penalized once.

    That is just my thinking, however. I do have a case now where two business partners had accounts. The gross revenue flowed into one of their accounts and then the other partner's share was transferred to him. Obviously, the first partners account is inflated by the other partner's share while it is in the first partner's account. We have not submitted the final submission, but we are asking that the double counting be eliminated. In this simple model with 50-50 partners, that would mean that the two accounts will have roughly equal bases to which the penalty applies. I don't know if we'll succeed, but I am sure you can appreciate that, otherwise, the first partner's penalty base on his real equity is 50% rather than 25%, his penalty is twice what his partner's is. That is reaching the bounds of unreasonableness, in my judgment.

    Thanks for your comments.

    Jack

    ReplyDelete
  75. Jack,

    I hope you will succeed. It is certainly a good argument.

    Same as my RRSP, the key is to have back file deferral tax election succeed. Then I would have no penalty. My argument is "deny this election is just to force me evading tax" This is not IRS should advacate, and certainly a good case to TAS.

    I know I have a long shot -- but I just will try to get some fairness in this totally rough (one size for all) program.

    ReplyDelete
  76. Jack

    For the spousal case, this may depend on community property rules in the state where the husband and wife live. While there is no FBAR reporting requirement merely on the basis of community property laws (i.e. one spouse does not have to file a separate FBAR just because the other has a foreign financial account), in this case, the account could be considered community property.

    Since Texas is a community property state, you may face this situation sometime :-).

    ReplyDelete
  77. A basic question in MFJ scenario where both husband and wife have multiple joint accounts and both also have individual accounts: Are 2 sets of FBARs to be filed (per individual)? Or only one set given that both filed taxes jointly?

    Based on discussion above, is it fair to say the amount in joint accounts get attributed 50-50 to each?

    ReplyDelete
  78. I have few bank accounts which i declared on OVDI and they all are on my name only. I filled my tax returns jointly with my wife, my first question, do my wife also need CI clearance?
    Secondly does she need to sign on OVDI Penalty calculation sheet? actually i sent without getting her signed. Thirdly, My tax payer signed the POA, but again my wife signature is not there, do we need to rectify the POA to include her signature. Idea behind not signing as no income was generated on offshore from her. Please suggest some valuable advice.

    ReplyDelete
  79. Anonymous August 27 re spouse signing various documents. I was in the same boat as you. When we filed the disclosure letter with CI only I signed it. However CI asked my spouse to sign it as well though my spouse is not joint account holder and we filed only one joint return during ovdi period. If CI did not ask for your spouse signature on ovdi letter You should not worry about it. That's just my opinion.

    ReplyDelete
  80. I migrated to USA in my early fifties 8 years ago leaving two IRA type accounts in the home country created out of my earned income there.The one which is like Traditional IRA is directly administered by the foreign government and the one similar to Roth IRA
    is administered by the govt.owned commercial bank.Interest is earned within the accounts every year but is tax free as per the laws of the country in thecase of Rothlike account and taxable in the year of distribution in the other.Ques
    tion relevant to this blog is are these foreign retirement accounts opened over 20 years ago subject to FBAR rules and nonreporting penalty generally and if so subject to ovda 2011 25/12.5/5% penalty calculations if interst earned every yesr is consdered taxable in USA

    ReplyDelete
  81. Anonymous August 28, 2011 6:08 PM

    I think similar questions have been answered in other posts on this blog... You might scroll through

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

    and

    To OVDI or not to OVDI - Part 2 (7/31/11)


    That is where most of the discussion has been taking place.

    A short, non expert answer is. Yes.

    ReplyDelete
  82. I am wondering if any further information has come to light concerning whether 2010 is included in the penalty base if 2010 FBAR and 1040 timely filed and tax paid?

    Thank you...

    ReplyDelete
  83. I have a question which is very important for determination of my penalty. I am hoping Jack or other "experts" here can weigh in on this.

    If I bought property from funds in a non-tax compliant account (i.e. an account that was not reported and some amount in it was not taxed), I understand that both the account and the FMV of the property are part of the OVDI penalty base. But my question is that in determining my penalty, can I deduct the buying amount from the property FMV as it is already part of the account penalty base. Isn't the same amount being penalized twice?

    Does IRS have a clear guideline on this?

    Thanks in advance for your response.

    Anon987

    ReplyDelete
  84. Could someone - Jack? - comment on FAQ 51.3 for the OVDI?

    Would permanent residents (green card holders) who live and work abroad, have very little US income, file foreign and 1040 US taxes, and only visit the US for a few weeks in the year qualify as "foreign residents" and thus only have to pay a 5% penalty?

    It's not very clear what the IRS considers "foreign residents". The examples only mention expat citizens.

    Quote from the FAQ 51.3 below:
    ---------------------------------------


    Taxpayers who are foreign residents and who meet all three of the following conditions for all of the years of their voluntary disclosure: (a) taxpayer resides in a foreign country; (b) taxpayer has made a good faith showing that he or she has timely complied with all tax reporting and payment requirements in the country of residency; and (c) taxpayer has $10,000 or less of U.S. source income each year.

    ReplyDelete
  85. I am an accountant trying to help a client. He did not file a FBAR to report life insurance policies with a cah surrender value. However, there was no income from inception and the policy was sold at a loss during the OVDI period. This is one of many assets, some subject to the penalty, owned directly by the client. Can it be excluded from the penalty calculation separately or is it an all or nothing proposition? You can call me Confused in SOCAL

    ReplyDelete
  86. My mother opened up an account in India in 2006 and I was a co-signature; she paid Indian taxes on all income. I never disclosed having the account as I did not expect to benefit from it. She passed away last year and now the account (that ranged from 50-70K over the 6 years) is mine. Do I have to go back and submit FBAR on all the previous years and have I broken a law where one would think that I have to submit OVDI? I never received a penny from that account in all these years; do I really have to pay taxes on the interest income for the past 6 years?

    ReplyDelete
  87. Jack, as you point out in this posting of 6/27/11, the OVDP penalty base can be reduced according to FAQ #37 (counting funds transferred between accounts only once) and FAQ #38 (excluding accounts over which the taxpayer only has signature authority). Do I understand it correctly that another possibility arises from FAQs #35 and #36: If an account doesn't generate income during the disclosure period (e.g. an interest-free account which had a constant balance throughout the look-back period), then the offshore penalty doesn't apply to this account because there was no income for this account, hence no reportable income, hence the account was U.S. tax compliant? But if the account, at any time during the disclosure period, received funds transferred from another account which wasn't tax-compliant, then the account would still be considered "related to tax non-compliance" and would be included in the penalty base?
    Thanks, Henry.

    ReplyDelete
  88. I haven't faced that direct question and have not tracked back through the FAQs to determine whether they directly or by inference answer the question. I would think, however, that your argument is that the account in question is U.S. tax compliant and thus should not be included in the penalty base.

    Jack Townsend

    ReplyDelete
  89. According to the IRS’s “Comparison of Form 8938 and FBAR Requirements”
    of 3/26/2012, a foreign-issued life insurance w/ cash value has to be reported
    on both forms, though according to Asher Rubinstein’s comment of 6/30/2011
    03:39 PM the situation was “far from clear” in previous years. Following Asher’s
    line of argumentation: Assuming the insurance is recognized as life insurance
    by US standards, can it be excluded from the OVDP penalty base if (a) it was purchased
    before the beginning of the look-back period (in which case it would not even
    matter if the funds to purchase it included unreported income, as far as I
    understand FAQ #34), and (b) surrendering the policy on maturity (the taxable event)
    takes place after the look-back period, or gains have been tax-compliant when
    the policy was cashed in?

    Jack, thanks for your prompt response to my
    previous comment, Henry.

    ReplyDelete

  90. Can the late filing of the 2009 FBAR (filed before Oct 15, 2010 and before participation in the 2011 OVDI) alone be reason for the IRS to include all foreign accounts and rental property in 2009 in the penalty base for 2009?

    Thanks in advance.

    ReplyDelete
  91. If the FBAR is received after the June 30 deadline it's late, period. Doesn't matter whether it was before or after October 15.


    However it is my understanding that tax compliant accounts are excluded from the penalty base whether they are tax compliant because 1) the income was properly reported in the original return or 2) they did not generate income (such as a non-interest bearing account.)


    But if you're in OVDI it is likely that you also did not file FBARs for prior years.

    ReplyDelete
  92. Let us suppose there are 2 accounts; both jointly owned prior to becoming American citizens.
    1) offshore. balance around $70K, dormant, no account activity since inception in 1987, and has never been reported since owner understood it to be legitimately "tax free" and "non reportable" unless re-domiciled to the UK.
    2) domestic UK account, balance usually less than $5K for use in visiting UK. This account has been acknowledged in all 1040 Schedule B as ownership of foreign account; but since less than $10K balance, no FBAR was filed. In addition, the (negligible) amount of interest has been reported for the past 4 years and included as taxable income.

    For an OVDP submission, does this constitute tax compliance with respect to the second account such that it's highest balance need not be included ?

    If not, then the aggregate high balance would render the penalty base above the $75,000 bar.

    ReplyDelete
  93. I am not sure that I really understand your facts. But, as I understand the facts, you did report any interest on the second account and did reported the country of the account on Schedule B. As to that account (principally because you included the income in reporting your tax), it is U.S. income tax compliant. It is not included in the penalty base in OVDI/P to which the penalty rate (consecutively 20%, 25% and 27.5%) applies.


    Jack Townsend

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  94. Sadim, by "reported on all Schedule B" do you mean that you checked the 'yes' box? Are both accounts in the UK? If so, then the yes response would cover both accounts and this would be a good fact if you opt out.

    Of course the big issue is the FBAR. If the balance of "around 70K" NEVER EVER exceeded $75K for the years that the FBAR was not filed, then it seems you would be eligible for the penalty of 12.5% of highest balance of that account. That's $9K on a 72K high balance. If the account exceeded $75K during that period (which it may have due to GBP/USD currency fluctuation) then we're talking 20/25/27.5% penalty.

    In either case it might make sense for you to opt out depending on all your facts.

    ReplyDelete
  95. Thank you for your response - and indeed for maintaining such an interesting and informative blog site.
    Apologies that the facts were confusing; in an effort to be succinct, not too many details were created. Hopefully your analysis still holds with this additional detail.


    Account #1: the highest balance is $70K, and therefore eligible under FAQ53 for 12.5% penalty.
    The question is: if there is any arguable area regarding being "fully tax compliant" with Account #2. I assume the expectation is to have been fully tax compliant not just for the usual SOL, but for the entire period of the disclosure.
    Account#2: the interest has been reported for the 5 years 2008-2012. In prior years, it was less than $10 (for which, if it were a US domestic account a 1099 would not be generated), and although the existence of the account was acknowledged on Schedule B, this small amount of interest was not reported.
    If this omission of approximately $7 interest for each of these 3 years, renders this account not " fully compliant", the ramification of having to include it in the VD makes the difference between the penalty base of 27.5% on the combined high balances instead of 12.5% of the $70K.

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  96. Jack, do I understand this correctly that for 1) 2006 the civil FBAR SOL has run out @ 6/30/2013 which should mean outside of OVDI/P that the IRS cannot ask for an extension after the fact or can they send the taxpayer form 872 anyway ? 2) if the SOL has run out, the IRS cannot assess civil FBAR penalties . Now if the taxpayers FBAR non compliance has been found to be willful (willful blindness etc.) does this change anything with regards to SOL ?

    ReplyDelete
  97. The IRS requires the taxpayer in OVDI/P to sign a consent to extend the FBAR statute of limitations for the years involved. The FBAR consent is not like the income tax consent. The income tax consent can only cover years that are still open under the SOL when the consent is filed. The FBAR consent can cover any years covered by the consent regardless of whether the SOL is otherwise open. At least that is the IRS's position. I don't think that position has been tested in court. But I do know that the income tax rule requiring that the SOL be open when the consent is signed is based on the language of 6501 permitting consents. That language is not in the FBAR positions, so the IRS says that the consent is like any other waiver of the SOL in Anglo-American jurisprudence -- i.e., it can cover periods otherwise closed when the waiver / consent is given.


    Jack Townsend

    ReplyDelete
  98. Mr. Smith,


    First, keep in mind that FAQ 53 looks to aggregate noncompliant accounts. Certainly Account #1 is noncompliant. It appears that, for some years, Account #2 was noncompliant at least in terms of reporting the income. Technically, that is noncompliance. I have heard that some agents will not require inclusion where there is de minimis noncompliance but my understanding is that the persons in charge of the program discourage and even prohibit that.


    Still, I think you ought to run it up the flagpole, so to speak. Someone, somewhere may have some reasonable discretion so that the program does not turn upon trifles.


    Good luck.


    Jack Townsend

    ReplyDelete
  99. Jack but I was talking outside of OVDI/P and for tax year 2006 the civil FBAR SOL has run out @ 6/30/2013 which should mean that the IRS cannot ask for an extension after the
    fact.

    ReplyDelete
  100. Again, there is no prohibition in the statute for FBAR consents to have open years when filed. If you sign a consent for otherwise closed FBAR years, the IRS's position is that they are effective for those otherwise closed years. And, outside the OVDI/P, the IRS may not ask for consents for the otherwise closed FBAR years. But, keep in mind that, except in unusual cases, if they were to ask or even if they did not ask, there is plenty of penalty to apply in open years.


    If the taxpayer is not in OVDI/P and has not signed any FBAR consents for otherwise closed years and does not sign any FBAR consents for otherwise closed years, those otherwise closed years should stay closed.


    Jack Townsend

    ReplyDelete
  101. thank you Jack - "there is plenty of penalty to apply in open years"
    Are you refering to FBAR penalties ?

    ReplyDelete
  102. I have the same question, but I found this article that suggests that U.S. greencard holders can still qualify for the 5% penalty.

    Please see:



    Jerusalem Post – Don Shrensky and Leon Harris

    Dated 06/15/2011



    New 5% offshore penalty

    Under pressure from tax professionals, the IRS
    is now recognizing that the US citizen or green-card holder living in a foreign
    country should be classified differently than the US person residing in the
    United States. There is a new reduced 5% offshore penalty for US persons
    (citizens, green-card holders) living outside the US. The conditions under
    which it can be claimed are as follows:

    1. Taxpayer is a foreign resident.

    2. Meets all three of the following conditions
    for all of the years of his voluntary disclosure: a) taxpayer resides in a
    foreign country; b) taxpayer has made a good-faith showing that he or she has
    timely complied with all tax-reporting and -paying requirements in the country
    of residency; and c) taxpayer has $10,000 or less of US source income each
    year.

    The IRS also declared that for “these taxpayers
    only, the offshore penalty will not apply to nonfinancial assets, such as real
    property, business interests, or artworks, purchased with funds for which the
    taxpayer can establish that all applicable taxes have been paid, either in the
    US or in the country of residence.”

    Therefore, if you are resident of Israel and
    have been paying Israeli tax on all your foreign-source income (e.g., Israeli
    salary, rental income from Israeli real estate, pensions, etc.) and have
    $10,000 or less of US source income in each year, you should meet the
    conditions for the 5% penalty.

    The fact that many Israeli residents are not
    required to file income-tax returns should not disqualify you, providing you
    have been paying the taxes through withholding at source or payment vouchers
    (e.g., 10% tax on residential rental income).

    Taxpayers, who participated in the 2009 OVDI are
    entitled to have the new reduced 5% offshore penalty applied if they qualify.

    ReplyDelete
  103. Thank you for sharing valuable information. Nice post. I enjoyed reading this post. The whole blog is very nice found some good stuff and good information here Thanks..Also visit my page Rental Property Accountants.

    ReplyDelete

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