When IRS Changes Course on International Penalty Enforcement

When IRS Changes Course on International Penalty Enforcement

Over the past several years, the Internal Revenue Service has significantly increased enforcement of international-related tax and reporting compliance matters. There are many different international information reporting forms that a U.S. Taxpayer may have to file when they have to report their foreign accounts, assets, investments, businesses, trusts, and gifts to the IRS. Unfortunately, many tax practitioners are unaware of these requirements and cannot properly guide their clients with filing the right forms at the time they are due. Sometimes, it can be several years after the fact when the Taxpayer learns for the first time that they are out of compliance for failing to report these assets on the different IRS tax forms. The IRS has made it known that they may penalize a Taxpayer immediately upon receiving a late-filed form through the automatically assessed penalty protocol — this is common on matters involving Form 5471, 8865, 3520-A, and 3520. Once an automatically assessable penalty has been issued, the Taxpayer has to then fight their way out from underneath the penalty. Along the way, the IRS can change the rules without notice (such as the modification of the DIIRSP program in 11/2020), which ultimately impacts which path the Taxpayer will choose — and may require changing course mid-stream during the offshore disclosure process.

Are the Streamlined Procedures Right for You?

Most Taxpayers who are out of foreign account and asset reporting compliance are non-willful. Since they are non-willful, they may be eligible to submit to the streamlined procedures to have the penalty waived or reduced — depending on which streamlined program the Taxpayer qualifies for. There are various twists and turns involving the streamlined procedures, noting that if the Taxpayer only has to file a late form but make no changes to their tax return (Forms 5471, 8865, or 3520/3520-A), then generally the streamlined procedures are not the proper program and the IRS may not accept this type of streamlined submission. Instead, the Taxpayer would then make a DIIRSP, DFSP, or RC submission instead.

Automatically Assessed Penalties for International Violations are Common

Taxpayers who do not qualify for the Streamlined Procedures will generally submit to the Delinquency Procedures and/or make a Reasonable Cause submission. Unlike other aspects of tax and reporting compliance, when it comes to international reporting penalties the IRS will typically assess penalties automatically (unless the Taxpayer qualifies for DFSP, although the IRS still reserves the right to audit/penalize the Taxpayer) and require the Taxpayer to challenge the penalty after it has been issued. When a Taxpayer files multiple international reporting forms, there is a higher likelihood that at least some of those years will be penalized — and will result in the Taxpayer having to challenge the IRS to abate those penalties.  By automatically assessing the Taxpayer, the Taxpayer is placed into a position in which they must play defense. 

The Reality of IRS International Penalties

Since the IRS has the right to change the offshore disclosure protocols at any time, it is important to note that strategies may change throughout the process as well, depending on which type of notice the Taxpayer receives and whether the IRS has modified the disclosure program. What may have worked as a means to challenge penalties at one time (such as DIIRSP or OVDP) may not work in the future, for the same matter. For example, with DIIRSP the IRS modified the program without warning in 11/2020 and even began processing submissions under the new version of the program, even for submissions that were made before the program’s change. Taxpayers may challenge the IRS’ position, but it may be a timely and costly endeavor.

Tax Court or District Court/Court of Claims

Depending on how the Taxpayer has been assessed the international penalty and the IRS enforcement protocols at that time, they may have the opportunity to go to the U.S. Tax Court. Alternatively, the Taxpayer may file an action in District Court or U.S. Court of Federal Claims, but this will generally require the Taxpayer to pay the amount due first and then challenge in federal court — although in the recent case of Mendu the court held that the Taxpayer did not have to pay the FBAR penalty first because they did not have the opportunity to go to Tax Court on an FBAR penalty.

Financial Limitations to Filing in Federal Court

For some Taxpayers, paying the penalty first is simply not feasible due to the amount of penalty they have been assessed – and this can be stressful and overwhelming to the Taxpayer and cause stress and uncertainty. If a taxpayer finds that they are in a position where they cannot pay the penalty necessary to challenge the penalties in federal court, then they must reassess their position and strategize carefully in light of any changes in enforcement protocol by the IRS.

Late Filing Penalties May Be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist Taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs. Prior Year Non-Compliance

Once a Taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, Taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for Taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

*This resource may help Taxpayers seeking to hire offshore tax counsel: How to Hire an Offshore Disclosure Lawyer.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.