March 13, 2014

By Dave Wolf, Esq. and Mirit Reif, Esq.

With tax season coming up, US taxpayers living abroad or with financial interests abroad are hearing the term "FATCA" accompanied by threatening stories about how their information will be given by foreign banks to the IRS without their knowledge. In this article we will try and simplify this rather complicated subject to make it easier to understand.

What does FATCA stand for?

The Foreign Account Tax Compliance Act (FATCA), enacted in 2010 as part of the Hiring Incentives to Restore Employment (HIRE) Act is an important development in U.S. efforts to combat tax evasion by U.S. persons holding investments in accounts outside the United States (hereinafter “foreign accounts”).

What does this mean?

Under FATCA, foreign financial institutions (banks, hedge funds, pension funds, insurance companies etc.) are required to report to the U.S. tax Authorities (the IRS) certain information about foreign accounts held by U.S. taxpayers, or by foreign entities in which U.S. taxpayers hold a substantial ownership interest.

So in the event that up until now you have not paid income tax and/or reported your foreign accounts to the IRS, this information will become known to the IRS through the banks.

U.S. citizen tax and reporting requirements in a nutshell

According to U.S. law, all U.S. citizens regardless where they live have an obligation to pay taxes on their worldwide income. In addition, in cases where the aggregate value of all foreign accounts exceeds $10,000 at any time during the calendar year they also have to report this information on a special form commonly known as the FBAR. Since July 1, 2013, the FBAR needs to be e-filed before June 30 of the following tax year.

In addition, a new form was created under FATCA legislation, Form 8938, which needs to be filled out and attached to the annual income tax return. This form needs to be filed by U.S. taxpayers who have an interest in foreign financial assets including financial accounts, certain foreign securities, and interests in foreign entities with an aggregate value exceeding $50,000.

I share an account with a US person but I have no beneficial interest in the account, do I still need to file an FBAR?

The FBAR requirement also applies in case you just have signatory rights over a foreign account, such as a bank account, brokerage account, mutual fund, trust, pension plan even if you do not have any beneficial interest in the account.

 

I have been living out of the U.S.A. for over 20 years and I have never reported my foreign income or accounts to the IRS. Why does FATCA now affect me?

Since FATCA is imposed on foreign financial institutions, the institutions are required to report the fact that you have a bank account, thus handing over to the IRS the knowledge of your non-compliance with your U.S. tax obligations.

 

Can the banks report my accounts without my consent?

 

The banks are requesting from all their U.S clients to sign Form W-9. This is a form that requests US citizens to provide their identification number and other personal information for U.S. tax purposes. This information is then provided to the IRS. Once the IRS has the information provided they can check and see if you have complied with your tax duties according to their files. Refusing to sign such a form can result in the bank freezing your account.

If a US account holder refuses consent for a bank to pass its information to the IRS, it will be a "recalcitrant account holder" and payments made by it, and accounts held by it, will be subject to a 30% withholding tax. Nevertheless, the IRS may also request from the tax authority of the foreign country information regarding Non- Consenting U.S. Accounts (as per Article 3 and Article 5 of the Agreement between Switzerland and the U.S.A. for Cooperation to Facilitate the Implementation of FATCA).

When will the banks in Israel start reporting my accounts?

In Israel no agreement has yet been signed but it is most likely that one will be signed in the next few months. When this happens, and starting on July 1, 2014, participating Foreign Financial Institutions will have to report to the IRS all their clients who are U.S. citizens during 2014. It is not yet sure if they will have to report earlier years as well as is in Switzerland where the requirement is for all U.S. accounts that have been in existence since 2008.

What are the implications of my non-compliance?

Not complying with your U.S. tax or FBAR reporting duties could be considered a criminal offense in addition to a civil one.

The civil penalties can be very high. For instance, the civil penalty for willfully failing to file an FBAR can be as high as the greater of $100,000 or 50% of the total balance of the foreign account per violation. The criminal penalties can be harsh, for instance a person who fails to file a tax return is subject to a prison term of up to one year and a fine of up to $100,000. Failing to file an FBAR subjects a person to a prison term of up to 10 years and criminal penalties of up to $500,000.

How can I fix this?

There are several options, but the two main options are either participating in the Offshore Voluntary Disclosure Program or participating in the Streamlined Filing Compliance Procedure.

a. Offshore Voluntary Disclosure Program (OVDP) - This program provides a uniformed penalty structure for U.S. citizens who come forward voluntarily and report all their previously undisclosed foreign accounts and assets. The voluntary disclosure period is the most recent eight tax years for which the due date has already passed. At the moment the program includes years 2005 through 2012 and there is no set deadline to apply. This procedure has a few stages, and can take a year or two until you reach a final agreement with the IRS after which it closes your file. If you are accepted into the program, you will be cleared from any criminal prosecution. Once that occurs, you will need to prepare and submit income tax returns and FBAR forms for the last 8 non compliant years (currently 2005 through 2012), together with some other documents that need to be submitted as well.

Through this program, you have to pay all income tax due including any interest and accuracy penalty involved, and an FBAR penalty, of either 5%, 12.5%, or 27.5%, (depending on the case), of the highest aggregate balance during the period covered by the voluntary disclosure.

In addition, there may be a requirement to amend state tax returns and report the undisclosed foreign income. Each state has its own rules regarding the procedure that needs to be followed in order to be compliant.

2. b. Streamlined Filing Compliance Procedures for non-resident U.S. taxpayers. This procedure is ONLY available for non-resident U.S. taxpayers who have resided outside of the U.S. since January 1, 2009 and who have not filed a U.S. tax return during the same period. Through this program you will need to file delinquent tax returns, only for the past three years and to file delinquent FBARs for the past six years. If the IRS agent accepts the case brought before him as appropriate for the Streamlined Procedure, the review of the case will be expedited and the IRS will not assert penalties or pursue follow-up actions. This means that there is a chance the FBAR penalty will be waived. This procedure is much shorter and less "painful" to your wallet but take note that the IRS has full discrepancy to decide to accept the case into this streamline procedure or not.

What should I do now?

U.S. citizens with undisclosed foreign accounts, assets, and income should consider seeking legal advice and assess their options. This compliance issue is now even more pressing as the foreign banks are under extreme pressure to identify their U.S. clients to the U.S. Authorities.

Dave is a partner in Hacohen Wolf Law Offices and head of the tax department. In addition he is a member of the American Bar Association’s FATCA and Foreign Assets Working Group subcommittees. Mirit Reif is a senior associate in Hacohen Wolf Law Offices.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. Our tax department regularly advises taxpayers in connection with voluntary disclosure of foreign accounts, assets, and income.