Occasionally, the U.S. Congress discovers to its great surprise that the agency it created to collect revenues for the federal government, the Internal Revenue Service, engages in systematic abuse of taxpayers. In one such moment in 1979, Congress created the Office of the Taxpayer Ombudsman as a taxpayer advocate within the IRS. This office eventually became the Taxpayer Advocate Service (TAS). by authority of first so-called “Taxpayer Bill of Rights” in 1988.
One key responsibility of the TAS is to issue an annual report to Congress. The latest report, issued earlier this month, minces no words with respect to efforts by the IRS to enforce international tax laws. The relevant subsection is tellingly entitled “The IRS’s Offshore Voluntary Disclosure Program ‘Bait And Switch’ May Undermine Trust for the IRS and Future Compliance Programs.” For details of the latest IRS Offshore Voluntary Disclosure Program (OVDP), click here. To read the latest TAS report to Congress, click here.
In her report, Taxpayer Advocate Nina Olson demonstrates that the IRS directed taxpayers guilty of nothing more than inadvertently overlooking their obligation to file Treasury Form 90-22.1, the “foreign bank account reporting form” (FBAR) into the 2009 OVDP. In this program, taxpayers were often subject to much heavier penalties than they otherwise would have faced. For instance, you can be fined up to $10,000 per unreported offshore account for each year you neglect to file the FBAR, but the sanction for a “negligent violation” is only a $500 fine.
Yet, according to Olson, in the 2009 OVDP, the IRS “strongly suggested” that anyone with any type of violation enter the program. Participating taxpayers were required to pay a minimum of 20% of the peak aggregate balance of all unreported offshore accounts for tax years 2003-2008. The IRS encouraged recalcitrant taxpayers to participate in the program by emphasizing the much heavier penalties for “willful” non-compliance with the reporting requirements. Yet, the IRS also claimed that under no circumstances would a taxpayer entering the OVDP be required to pay a penalty greater than would be required under existing statutes. “Bait-and-switch” is certainly an appropriate description of these actions. Olsen also noted the grotesquely disproportionate penalties that apply to taxpayers who fail to file additional information reporting returns for foreign trusts, foreign corporations, and numerous other offshore entities and transactions.
“Absent clear procedures and transparent guidance about how these benign actors can return into compliance without being subject to maximum penalties, the IRS is squandering an opportunity to substantially improve voluntary compliance by millions of low profile U.S. taxpayers abroad,” the report said. Indeed, “For some U.S taxpayers abroad, the tax requirements are so confusing and the compliance burden so great that they give up their U.S. citizenship.”
The report goes on to summarize the overwhelming complexity of the tax and disclosure requirements that U.S. taxpayers–especially those living abroad–now face. According to Olson, “The IRS has 16 publications that address international issues for individuals, totaling 407 pages, with 110 references to other publications totaling 4,491 pages and 137 references to forms totaling 450 pages which have an additional 2,190 pages of instructions… Publication 4732, Federal Tax Information for U.S. Taxpayers Living Abroad … refers to at least eight other relevant IRS publications, totaling 563 pages. Further, the additional documents referred to by these eight publications include 4,727 pages of instructions, 667 pages of forms, and another 1,928 pages of form instructions for a total of 7,322 pages.”
Yet, while the IRS has invested hundreds of millions of dollars in offshore compliance efforts, it approaches taxpayers who aren’t compliant in their offshore disclosure obligations as tax scofflaws. The agency’s heavy-handed dealings with U.S. taxpayers with minor violations of the FBAR reporting requirements in the 2009 OVDP is a classic example.
Olson’s report made a number of recommendations that focus on increasing IRS resources available to assist taxpayers in becoming compliant in their offshore tax and reporting obligations. But despite chronicling the overwhelming complexity of these obligations, the report says nothing about simplifying them. (The TAS is, after all, an arm of the IRS.)
What’s more, this complexity is about to increase exponentially, with new requirements for many U.S. taxpayers to prepare and file IRS Form 8938 with tax returns beginning in 2011. I’ve written extensively about these obligations, most recently here.
It’s no wonder that the numbers of U.S. citizens and permanent residents permanently severing their ties to the United States has soared in recent years. Such “expatriation” is the only way to permanently end U.S. tax and reporting obligations on non-U.S. income–although only for years after expatriation. This process requires that you give up your U.S. citizenship and passport if you’re a citizen or your green card if you’re a permanent resident. For more information on expatriation, see my special report, The Billionaire’s Loophole, available here.
The Nestmann Group, Ltd. has assisted dozens of clients in their expatriation. If you’re seriously considering expatriation, contact us today for a consultation.