In a very recent decision (Maze v. IRS), the D.C. Circuit Court of Appeals upheld a lower court decision blocking several taxpayers’ efforts to leave the OVDP tax amnesty program and enter the friendlier IRS Streamlined program without utilizing the required transition rules.

The Maze case demonstrates the importance of choosing the IRS tax amnesty program that is right for you from the outset.

A Brief History Of The IRS Tax Amnesty Programs

In 2009, the IRS introduced tax amnesty programs to encourage compliance and disclosure by U.S. taxpayers who were not in compliance with reporting requirements with respect to foreign assets, accounts and income. Two of the main IRS tax amnesty programs are the Offshore Voluntary Disclosure Program (“OVDP”) and the Streamlined Filing Compliance Procedures (“Streamlined Procedures” or “Streamlined program”).

OVDP

The OVDP is designed for delinquent taxpayers with potential exposure to criminal liability and/or substantial civil penalties due to a willful failure to report foreign financial assets and pay all tax due in respect of those assets. The OVDP provides protection from criminal liability and fixed terms for resolving civil tax obligations and penalties. Under this program, the taxpayer is required to submit 8 years of tax returns and information returns 8 years of FBARs.

Under OVDP, the taxpayer avoids paying a number of penalties (e.g., failure-to-file and failure-to-pay penalties, information return penalties, FBAR penalties). The participant is, however, required to pay past unpaid taxes, interest, a potential 20% “accuracy-related” penalty, and a “miscellaneous offshore” penalty equal to 27.5% of the highest aggregate balance in foreign bank accounts/entities or value of foreign assets during the period covered by the program. (The penalty can be increased up to 50% if the taxpayer’s offshore accounts were held at a so-called “bad bank” or other financial institution).

Streamlined Procedures

The IRS Streamlined Procedures, first introduced in 2012 with strict entrance requirements, were expanded in 2014 to allow many more taxpayers to qualify. Among other things, the revised 2014 program eliminated a requirement under the 2012 program that the taxpayer have $1,500 or less of unpaid tax per year.

Under the 2014 (and still current) version of the IRS Streamlined program, taxpayers are required to file only the prior 3 years of tax returns, including required information returns, and 6 years of FBARs.

Under the Streamlined Procedures, taxpayers living abroad can come clean with the IRS and suffer no penalties. Taxpayers living in the U.S. can do so with just a 5% penalty. In order to qualify, a taxpayer must certify that that the failure to report all income, pay all tax, and submit all required information returns, including FBARs, resulted from non-willful conduct. In our experience, the IRS often scrutinizes the certification statement and asks specific follow-up questions about the taxpayer’s foreign corporations and accounts.

Under the Streamlined Procedures, unpaid taxes and interest must be paid, if due, but in many cases, taxpayers, and especially expat taxpayers, can utilize the Foreign Earned Income Exclusion and/or foreign tax credits to reduce or eliminate taxes due.

Transitioning From OVDP To Streamlined Procedures

In 2014, when the friendlier IRS Streamlined requirements were introduced, the IRS gave taxpayers the opportunity to transfer from OVDP to the Streamlined program. This allowed taxpayers to reduce the amnesty penalty from between 27.5 – 50% to 5% (for taxpayers living in the United States) or 0% (for taxpayers living abroad).

However, for OVDP participants who were granted transitional treatment, all other terms of the OVDP in which the taxpayer was participating continued to apply, including the disclosure period of 8 years, and other civil penalties imposed under the OVDP program (i.e., accuracy-related penalties).

The Maze Decision

In the Maze case, a group of taxpayers, including Ms. Maze, entered the IRS’s OVDP program after a number of years of failing to properly report their foreign bank accounts. In 2014, they tried to leave the OVDP program and start fresh with the newly revised and friendlier Streamlined Procedures. The IRS did not allow them to do so without complying with the transition rules.

The taxpayers claimed that the IRS’s decision harmed them, and they sued to have the Court allow them to directly enter the Streamlined procedures without the transition requirements. The District (lower) Court sided with the IRS, and the Court of Appeals affirmed the decision.

The Courts reasoned that the taxpayers, as participants in the OVDP, were required to pay eight years’ worth of accuracy-based penalties. The imposition of these type of penalties (treated essentially as additional taxes) are generally protected from litigation under Section 7421(a) of the Code (the “Anti-Injunction Act”), and therefore any lawsuit that sought to restrain their assessment or collection was therefore barred.

The Takeaway For Expats

The IRS’s transition rules (which have now been confirmed in the courts) indicated from the outset that the IRS is generally disapproving of taxpayers who want to transfer between the tax amnesty programs. In fact, now, a taxpayer who makes an offshore voluntary disclosure is not eligible for any transitional treatment.
This makes choosing the right IRS tax amnesty program a crucial decision.  A number of options are currently available to you, including and in addition to the two main IRS tax amnesty programs. Each option has its advantages and disadvantages, and choosing the best way forward requires a careful analysis of your particular facts and circumstances.