Monday, April 9, 2012

Special Statute of Limitations Rules Regarding $5,000 Omissions from Foreign Accounts (4/9/12)

The IRS recently published a memorandum discussing the special 6 year statute of limitations rule for $5,000+ omissions of income from specified foreign financial assets enacted in FATCA which also contained Section 6038D special reporting on Form 8938.  See IRS Memorandum from Director, Examination Policy, dated 3/9/12, here.  The statute of limitations extension is independent of Form 8938, and thus applies to all open years on the date on the effective date of March 18, 2010.  Readers should review the linked memo for more detail (with some examples) but I offer here the guts of the discussion for present purposes:
The amendment to § 6501(e) applies to all returns as long as the period of time (determined without regard to the § 6501(e) amendments referenced above) for assessment of taxes has not expired as of March 18, 2010.  Therefore, if the income tax return was filed after March 18, 2010, or the assessment statute was otherwise still open as of that date, and more than $5,000 was omitted from gross income that is attributable to specified foreign financial assets, the statute remains open under § 6501(e) for a total of six years from the date the return was filed. 
In general, this new provision means that the year 2006, with a tax return due date is April 15, 2007, will be subject to a 6 year statute of limitations if there is a $5,000+ omission related to specified foreign financial assets.  Earlier years will be subject to the rule only if the statute were otherwise open on March 18, 2010.  Assuming the returns for those pre-2006 years were filed prior to March 18, 2007, the statute is not affected by this new 6 year statute unless (i) there were a 25% omission of gross income (whether foreign account related or not) which would have caused a 6 year statute under general rules (which would mean that the new 6 year statute would run contemporaneously with the 25% omission 6 year statute, so that the new statute of limitations applies but is irrelevant), (ii) the taxpayer timely consented to extend the statute of limitations to a date including March 18, 2010 (taxpayers in this circumstance should note that the end date of a Form 872 will not control), or (iii) the filed return was fraudulent (in which case the new 6 year statute of limitations is also irrelevant).

The memo also notes that, for years for which a Form 8938 required by Section 6038D is required (2011 forward), the statute of limitations remains open until three years after the date the taxpayer supplies the required information.  This statute extension applies to all items on the return but, upon showing of reasonable cause and not willful neglect, the extension applies only to income items associated with the failure.

36 comments:

  1. To what extent might this be considered retroactive legislation? Would taxpayers who filed 2006, 2007, 2008 and possibly 2009 returns before March 18 2010 have a case for holding the government to a three year statute of limitations, barring any issues other than the $5000 offshore limit cited? If not, what is to stop the government repeatedly passing extension laws such as this so that a statute clock already ticking in effect never runs out?

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    1. To Anonymous Apr 11, 2012 12:03 PM

      I will try to answer but caution that I have not researched this genre of issue recently, so am drawing from memory on such research done long, long ago.

      I think the issue turns upon whether the rule being applied is substantive or procedural. To cut to the quick, I think this is procedural and Congress can extend a procedural rule. Keep in mind that this rule does not apply to statutes of limitations that have already closed. Rather it applies to those still open on March 18, 2010 and all it does is to extend the statute of limitations.

      So, if that is the right answer, the Congress can repeatedly extend limitations periods. Since limitations periods do serve an important function, Congress is unlikely to do so.

      Further, even in those cases in which Congress has said there is an unlimited statute of limitations (e.g., fraud), the IRS rarely devotes the resources to go back to very old years. Even without a statute of limitations bar, the IRS has real problems developing a case for very old years. Now, the fuzz word is "very old years." I can't tell you what that means exactly, but for example, even for those persons who did not join OVDI, it is unlikely that the IRS will want to try to work pre-2003 years in the hope that it can prove fraud and thereby have an open statute of limitations.

      The same problem will exist where the IRS knows in advance that it has an open statute of limitations for an earlier year. Developing the case will still take considerable resources and, because of the lapse of time, records may not be available or, what records are available might not be meaningful.

      Jack Townsend

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  2. anonymous - The indian banks do not provide clear cut 1099 type info... We are thinking of closing a/cs in India, total about 620K. We are in OVDI 2011. Is there any problem if we wire transfer these amounts to the US banks, We suppose no forms need to be reported to treasury , like 105? These amounts are from W-2 income from the US over the years... Thanks. We want to get rid of this awful papaerwork like the FBAR and 8938. What do you folks in similar situation are thinking? (India and other countries)

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  3. Anonymously_LooneyMay 18, 2012 at 9:37 AM

    From what I understood after your explanation - it would mean that if I had an 'offshore unreported income" of more than $5000 in the year 2006 for which I would have to file 1040 by April/15/2007, only then would this extension of SOL apply. If not, then it is only applicable to the years when the unreported income went above the $5000 mark. Is this correct?

    I ask because my interest income was below the 5K mark in year 2007, but the SOL would be open on 18th March 2010.Also, is all this SOL helpful for the purpose of determining a QD? What if we do a QD for 2008 to 2010, and incidentally those are the years where the interest income has gone to around 6K(low exchange rate effect), can the IRS come back and ask us for the 2007 information too? And if they do, can we show them our Tax Returns filed in my native country, where these "offshore" accounts were held?

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  4. Can you use the Tax Returns filed in India to show how much interest income was earned?

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  5. As I understand it you have <$5,000 of unreported income from specified foreign financial assets (as defined in Section 6038) for the year 2007.  Thus, although your regular 3-year statute was open on the key date -- 3/18/10 -- the six year statute will not apply.  If you want to check the statute, it is Section 6501(e)(1)(A)and is here http://www.law.cornell.edu/uscode/text/26/6501

    And you might also review the memo.
     
    Calibrating open statutes of limitations is helpful for the QD.  In determining how many years to file in a QD, you need to know the criminal  statute of limitations (6 years for income tax and  5 years for FBAR) and the civil statute of limitations (for income tax, generally 3 years but possibly six under the exception discussed in the blog, and for FBAR 6 years).  Normally, a QD is designed to mitigate the criminal exposure, so where there is criminal exposure for income, the number of years to file is up to six years because of the criminal SOL.  The QD for the FBAR would be up to 5 years.  But, in the context we have here involving offshore  accounts, you should generally not be doing a QD if you have criminal exposure for either income tax or FBAR.  If you have criminal exposure, you should be joining the OVDI (as extended).  (I will even fudge that a bit because I think a squeaky clean QD would likely mitigate the criminal exposure, but you know you can mitigate the criminal exposure by joining the OVDI.)   The balance of this comment will address only a situation where the taxpayer does not have criminal exposure (as to which taxpayer might want to seek advice of an experienced practitioner).
     
    So, let's focus on how the civil statute of limitations bears on the issue of the number of years to file.  Generally, the applicable civil statute of limitations sets the maximum number of  years for which you should file QD amended returns and delinquent or amended FBARs.  So, if the new 6 year income tax statute were to apply, you would want to take the extended statute into consideration in filing QDs.  And, of course, a good QD would require filing up to  six years delinquent or amended FBARs.  (In each case, you might cut off 1 or 2 of the early years, depending upon your tolerance for risk, but you should seek separate advice about that.)
     
    As noted above, it appears that the 2007 year is now closed for income tax adjustment.  But, the IRS can ask for the information for 2007 or earlier years.  Its ability to ask is  virtually unlimited and, should a taxpayer resist, then it can summons the information and the law is clear that, so long as there is a minimal  reason for seeking the information, the summons will be enforced.  So, I have little doubt that, should it choose, the IRS can ask for or summons the 2007 information and you would be forced to comply.
     
    I am not sure what your last question is.  If the IRS asks  for / summonses the returns you filed in the native country, you would have to  produce them.  Are you asking whether, if you provide the IRS the native country returns, that will be sufficient for the IRS to conclude that the new 6 year statute does not apply?  Perhaps and perhaps not.  That will depend upon how curious or suspicious the agent is and how much time he or she wants to devote to chasing down the issue of a applying a statute of limitations  other than the regular 3-year statute.  I would think, however, that at a minimum, the agent will ask for all account statements and could even ask for other years in which the regular 6-year statute based on 25%  omission might apply.
     
    I hope this helps.
     
    Jack Townsend

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  6. Depends upon whether the IRS has no reason to believe or is not suspicious of the amount reported to India and, beyond  that, upon the curiosity and time the agent wants to spend.  I would think that, at a minimum, the agent might also ask  for the bank statements, although they may not be easy to decipher.

    Jack Townsend

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  7. AnonymouslyFoolishMay 18, 2012 at 11:03 AM

    How does the IRS determine if the income for the previous years - from 2005 and before - which are closed off because of the SOL, could be more than $5000? 


    If one does a QD from years 2008 onwards, wherein the 2008 income itself is below the $5000K limit, do they(IRS) still make the taxpayer open up the previous years information? 

    Also, in case of QD, what happens to the FBAR SOL of 6 years? I mean, in QD, the years 2008 onwards are accounted for, but for FBAR if we have to go back upto 2006, then again that unreported income of less than $5000 comes into picture.
    It feels like, if the IRS SOL won't get you, then the FBAR SOL will - and that too for paltry sums of around 3K, for which one would have readily paid back taxes+interest+accuracy penalty, but the In lieu penalty is the "Beware of Dog" board that is driving all away.

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  8. Are the statue of limitations rules different for US citizens, green card holders and immigrants who are in the process of getting their Green Card?

    Also, does opening of an account in one's own name with a family member, in itself constitute a crime? I read somewhere that "if you did not cause the account to be opened, you are non willful" - does that make the opening of the account itself an act of crime? All the money sent to these accounts was after paying all the taxes in the USA and taxes are also paid on those accounts in the country where they are located.

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  9. Thank you very much Jack for your reply. Can these returns and bank statements be used in QD too? or were you only talking about the OVDI?

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  10. My sincerest thanks to you Jack for replying back in such detail. My only question is, how do we know if we have "criminal exposure for income". My "offshore" accounts are all in my native country where I was born and they are all joint with my spouse and my father and all are in our names. The money sent was after paying US taxes and was sent legally through banks. Also, the interest incomes have only gone beyond the 5k(if that) mark from 2008 onwards, not before that, since I had not sent that much money before 2007. All the interest started accruing 2008 onwards alone.

    I am not sure if there are any guidelines out there on IRS website to know if we are the kind who come under the criminal prosecution criteria. Also, do the FBAR and IRS criminal prosecution guidelines differ? Can we file the FBARs for the last 6 yrs but do the 1040 QD only for 2008 to 2010? I am almost sure that we have no back taxes because we got refunds in those years and the taxes owed might be covered by that(strong hope).

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  11. No, the statute of limitations rules are not different.

    The opening of a foreign financial account is not a crime.  The failure to report the foreign financial account can be a crime depending on willfulness and, as a practical matter, other negative factors that distinguish the nonfiler from others who just acted willfully.

    Jack Townsend

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  12. Some of these answers are in more detail in an earlier post, so look around for those answers.

    1.  The IRS could determine that the $5,000 threshold is met by requesting the bank records from the person and, if they are not produced, summonsing the bank records from the person.2.  The IRS can get previous years information even if beyond the normal 3 year statute of limitations and does not have to prove first that a longer statute of limitations applies.
    3.  Most practitioners would, I think, say that QDs are required for civil statute open years.  That means six years for the FBAR, but some practitioners would drop off some of the earlier years.  Filing fewer years than the open civil statute of limitations is a delicate, fact-driven decision, and when in doubt, file 6 years or seek professional assistance.
    4.  Keep in mind that FBARs are just informational returns and require no payment with the FBARs.  They can subject you to FBAR penalties, but when a good QD works, the IRS does not start an investigation or assert any penalties, civil or criminal.
    5.  QDs are not for those with material criminal exposure.  In most such cases QDs probably will work to avoid prosecution if done perfectly but footfaults could increase criminal exposure.  For those with material criminal risk, OVDI is the way to go and stay inside the offered penalty structure (i.e., do not opt out).

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  13. The IRS may well ask for bank statements regardless of the context in which it is focusing on taxpayer -- whether QD or just regular audit.  In OVDI, you have to have the bank statements in order to prepare the amended returns and delinquent FBARs.  And, for aggregate amounts exceeding a certain threshold, you have to actually send the bank statements for all years to the IRS.

    Jack Townsend

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  14. " And, for aggregate amounts exceeding a certain threshold, you have to actually send the bank statements for all years to the IRS. "

    "Aggregate amounts exceeding certain threshold" would be the whole bank balance in itself or just the interest income? The total money I have could exceed the 80K mark, but the interest income is just $6K for 2009 and 2010 and 2011(which I will be compliant since I have filed for an extension).

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  15. I read somewhere (on IBS i think), that the SOL for the 2005 FBAR would anyways be up by June/30/2012. Does that mean that for someone doing a QD after June/30/2012, it would be okay to not file the 2005 FBAR?

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  16. The answer is maybe.  As with many of the questions, the answers are not certain.  They require considerations of multiple factors, some quite nuanced, in trying to make decisions in an environment of uncertainty.

    But, your real question should be what the IRS might do if you attempted a QD for less than all the years open at the time of the QD?  In other words, if you left off the 6th year on the notion that by the time that the IRS could do anything with the documents it gets in the QD, that 6th year would have moved beyond the statute of limitations.

    Certainly as to the 6th year, the IRS could do nothing.  The statute has closed.  Could the IRS treat it as not a valid QD because you dropped off a year?  I don't know since the IRS has never formally said what a QD is in the first place.

    Practitioners believe that the maximum number of years is set by consideration of the civil and criminal statutes of limitation.  Focusing on the income tax context, the criminal statute of limitations is 6 years and, if civil fraud is involved, the statute of limitations is not limited at all.  In doing a QD in that context, since the biggest problem is criminal prosecution, tax practitioners focus on the 6-year criminal statute of limitations and will file up to six years.  (In essence they do not recommend filing beyond the 6-year criminal statute just because the civil statute may be unlimited.) Then, focusing on the 6-year statute, there are practitioners who will cut off 1, 2 or 3 of the earliest years on the notion that, by the time the IRS would get around to doing anything with the information in the QD, the earlier 1, 2 or 3 years would have expired.  The most certain answer that can be given is that 6-year filing is best.  Then, for those who have greater risk tolerances for dealing with uncertainty, they might think of dropping one or more of the early years.  But again what they don't know is whether the IRS will view that gambit sufficiently negatively that it will then pull out the stops to get the taxpayer for years that are still open or even, for civil purposes, be motivated to go for all six years and all years beyond that.  I think that most practitioners think that that is not likely in most cases, but still cannot discount that risk.

    Now, the foregoing dealt with the usual income tax QD.  Your specific question was about the FBAR QD.  Applying a similar analysis where one is concerned about the criminal risks, one might use the 5-year FBAR criminal statute as the proper measuring point.  And then, depending upon tolerances for risk, might shave 1 or 2 years off that on the notion that they would drop before the IRS could or would do anything.  I would just say that that is more risky, but you really need individual advice tailoring your risk tolerances to your other factual circumstances.

    I have said before that taxpayers having significant criminal concerns in the context of foreign financial accounts (both income concerns and FBAR concerns) really should be joining the OVDI rather than attempting a QD.  So, if you meet the profile of someone who should be doing a QD (a person without material criminal risk), then all you have is a civil audit risk.  You may have less concern about what the IRS would do if it was not happy that your QD did not cover one or more of the earlier years.  But, the IRS could start up a criminal investigation just to test whether you have criminal exposure and, even if your call was right that you did not, you would have been caught up in a long criminal investigation that will create great angst and great expense.

    So, again, dropping off early years in the applicable statute of limitations has some risk and great uncertainty that no one can quantify for you in a meaningful way.  When in doubt, the better part of wisdom might be to file all.  But, again, with the right well-advised client willing to assume some uncertain risks, some practitioners will participate in QDs for a lesser number of years.

    Jack Townsend

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  17. Thanks Jack for the detailed response. I had asked about the FBAR SOL because the tax due would be minimal in my case, but having used the TurboTax that one year, we filed the Sch B for interest earned in USA and even marked "yes" on the "foreign account" question, but did not file the 90.22 form and I cannot remember if the software had even prompted it. The final checklist that was printed from the TTax, that we have now, did not mention anything about the 90.22 and I had not even known that we had filed a Sch B until I went back to look at previous returns. Also, I saw that when we filed subsequent years returns on our own, the USA interest had been high and we had attached the required 1099 and Sch D when the US banks advised us, but surprisingly never got any letter from the IRS asking us to file a Sch B(not sure if they do ask). It was only when I read about the FBAR and 8938 forms this April and asked back home about the money in my account, that I realised that we had more than 10K in our combined accounts, but definitely less than $5000 interest. My worry stems from the fact that, marking that "yes" on the Sch. B and then not filing the FBAR, is going to be seen as willful when we do the QD or even OVDI. My interest income has never been more than 6K in the last 3 years, and I do not think I fall in the criminally liable category, but it is that "yes" on the Sch. B that scares me. 

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  18. Your answer to Schedule B will not, on its own, make your failure to file the FBAR willful.  There are a host of other facts that bear upon willfulness. If your other facts are, on balance, not negative, it is unlikely that the IRS would assert willfulness.  I have no empirical database, but my impression is that many, perhaps most, people going into OVDI and opting out answered the question no.  I don't think they will draw willfulness penalties unless they had some other really bad facts.

    Jack Townsend

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  19. Is it correct that if you do voluntary disclosure outside OVDI, the SOL starts
    from the point when the amended returns and delinquent FBARs are filed?

    I was told that the SOL for the amended returns runs upto 2 yrs from the point of filing the amended returns and it runs 6 yrs from the point point of filing the delinquent FBARs.

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  20. The SOL for income tax starts when the original return is filed or deemed filed (deemed filed on 4/15 if filed earlier), provided the original return itself was not fraudulent.  The filing of a nonfraudulent amended return does not start or re-start the SOL.  (If the amended return is fraudulent, for some purposes, the fraudulent amended return could re-start a statute of limitations or start a new statute of limitations, at least for criminal purposes.)

    The SOL for failure to file the FBAR starts on the date the failure occurred -- the moment June 30 of the year following the reporting year turns into July 1 of the year following the reporting year.  Filing a nonfraudulent FBAR thereafter does not start or restart the statute of limitations.

    Now, to take these concepts home to the OVDI situation, participants are required to file amended returns and delinquent original FBARs (or in some cases amended FBARs).  Those filings will not start new SOLs.  Obviously, if a taxpayer accepts the inside the program settlement, the SOLs are irrelevant.  However, if a taxpayer opts out, SOLs are relevant.  In most opt out cases (shouldn't occur if there is civil or criminal fraud potential), some income tax years otherwise included in OVDI (2003 forward) will drop off because the 3 or 6 year statute of limitations will have expired for some years. The same is true for the FBARs (6 year SOL).  (Some readers worry that the IRS will apply the FBAR penalty in a way to make up for the revenue lost when early income tax years drop off; I have no data on this, but I don't think that will happen.)

    Jack Townsend

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  21. Forgive my coming back with this question, but is our original return considered fraudulent because we are did not show our Foreign Income(because of ignorance which we will show in filing the delinquint FBARs), or is it still considered amended? Same for FBARs - we did not file at the time, because we did not know, but  will it be considered a fradulent FBAR because it is being filed now or just delinquint?

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  22. It is a facts and circumstances test that require a lot of facts and circumstances to be considered.  Whether a taxpayer initially reported the income is just a fact that must be considered among others.  So, some cases where the income was not reported would be fraudulent and others not.

    I again state that a lay person is usually not able to address this issue with any degree of reasonable certainty.  In other words, a lay person taking action on his or her ill-informed belief at to either fraud or nonfraud will be at risk that the decision is incorrect.  That is necessarily a risk they assume.

    I am not trying to get business for lawyers, I am just trying to alert taxpayers that this is not an easy decision and requires development of a lot of facts and understanding how they play out in the context of determining the potential existence of fraud or nonfraud.

    Jack Townsend

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  23. you mention above that - the criminal statute of limitations is 6 years and, if civil fraud is involved, the statute of limitations is not limited at all.

    Do you mean that there is NO SOL for collection of tax and civil fraud, or do you mean that there is NO SOL for criminal purposes also.

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  24. Are deeds of property received as inheritance from foreign national parents required to be disclosed to the IRS when filing 3520, or can IRS request it at a later date.

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  25. If the criminal statute of 6 years has run out and then the IRS and ICE notice a failure to file a required form such as 709 or 3520 (prior to 6 years ago), can the naturalization process be affected and if the person has already obtained US citizenship, can the naturalization be cancelled as failure to file.

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  26. I suggest that you read the Form 3520 Instructions.http://www.irs.gov/pub/irs-pdf/i3520.pdf.

    If you do not file a required Form, the IRS can request it. The IRS can also penalize the failure. You might look under the penalties section of the Form. Now what the IRS will do is another issue.

    Jack Townsend

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  27. The unlimited SOL applies only to the civil side of the income tax. There is no unlimited criminal SOL. And, there is no unlimited civil SOL for the FBAR. If willfulness (the FBAR analog of civil fraud) is involved, the SOL is still just 6 years.

    Jack Townsend

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  28.  I kept my money in foreign accounts because of foreign investment opportunities, so it's still there (in spite of the insanely complicated reporting for amended and future returns.)  My lawyer suggested that before wiring money to the US I should meet with the manager of my bank here in the US and let him know of the source, purpose, rough amount of the transfer, so he knows that it is all legitimate.

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  29.  I seem to remember the threshhold was 500K balance (combined balance for all foreign accounts)but am not certain.  Even if you are not required to send them in with your submission you need to have them available.  In either case I would suggest having them organized and with explanation for any unclear items.

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  30.  Jack, if the taxpayer files the delinquent FBARs for the last 6yrs from 2005 - 2010, (2011 being compliant) and let's say the IRS audits these about 6 months from now.
    Would the IRS still apply penalty for year 2005, even when the statute has run out on June/30/2012 based on the fact that the taxpayer sent in the delinquint FBARs before June/30/2012?

    I guess ,what I am trying to understand is this - does the IRS apply penalties on the back taxes and delinquent FBARs based on when the taxpayer sends in the documents and the years were open or based on the date when they(IRS) audit when the years might become closed?

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  31. The SOL is based on the penalized event -- June 30 of each year passing without filing. It does not run from the date of filing a delinquent FBAR. Of course, if the delinquent FBAR is willfully false, then a statute of limitations for another crime may commence.

    Jack Townsend

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  32. yes, but i wanted to know if the property deed is to be attached with the form 3520; the form does not seem to mention the requirement to attach it.

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  33. If a civil fraud penalty is instituted, does it constitute a crime of moral turpitude

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  34. Civil fraud penalty is not a crime.

    Jack Townsend

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  35. Perhaps a little more nuanced than my prior reply.  After a tax evasion conviction, the IRS will assert the civil fraud penalty and the taxpayer will be estopped from denying civil fraud.  I would suspect that tax evasion is a crime of moral turpitude, so the conviction rather than the imposition of the civil fraud penalty is the determinant.  

    The IRS can assert the civil fraud penalty where there is no conviction for tax evasion.  But the penalty is not a crime of tax evasion, although there is significant overlap in definitions.  If the concept of crime of moral turpitude does not require a conviction for the crime in question, I suppose that imposition of the civil fraud penalty could cause someone to try to prove that the facts underlying the penalty establish the crime of moral turpitude.  And, perhaps even, a judicial finding of civil fraud in a case involving the taxpayer and the IRS might be viewed as res judicata or collateral estoppel in some other civil proceedings.  I have not researched whether the finding of civil fraud could be preclusive in other proceedings.

    No finally to close the loop on that, a preclusive finding requires a judicial determination.  The IRS's determination of civil fraud would not be preclusive. So, whoever is the proponent of moral turpitude would have to prove the commission of the crime (assuming that actual conviction for the crime is not required for the person to suffer the adverse consequences of a crime of moral turpitude).

    Jack Townsend

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