Certification of Non-Willfulness Streamlined Filing Compliance Procedure

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1 Certification of Non-Willfulness Streamlined Filing Compliance Procedure Article by: Mishkin Santa, LL.M, J.D. - Director of International Advisory & Legal Services The eligibility requirements for expanded Streamline Filing were published on June 18 th, There are two ways for a taxpayer to engage in Streamline Filing. First, if the taxpayer is engaged in the offshore voluntary disclosure program (OVDP) and has yet to complete the closing agreement or form 906, the taxpayer can request transitional treatment. If the taxpayer has yet to enter OVDP, the taxpayer can directly engage the streamlined filing process (broken down into domestic and foreign). Under either direction, the taxpayer will have to certify non-willfulness in order to be granted the favorable penalty structure of the expanded streamline procedures. The certification is completed by providing a written statement under penalty of perjury certifying non-willfulness with respect to all foreign activities and assets. The statement must specifically describe the reasons for the failure to report all income, pay all tax, and submit all required information returns including FBARs, and if the taxpayer relied on a professional advisor, the name, address and phone number of the advisor and a summary of the advice given. A review of this certification is completed by an IRS examiner. If the examiner determines non-willfulness then that recommendation must be approved by the examiner s manager, i.e., congruent agreement. These recommendations are then sent to a central review committee that will conduct its own thorough review before allowing the certification to stand. If the certification fails at any point, then the taxpayer may be referred to criminal investigations and potentially may have waived their Fifth Amendment rights. In essence, a taxpayer that certifies non-willfulness must withstand three thorough reviews by the IRS. The taxpayer must be able to lay a very strong foundation and argument with proper backup documentation if requested. Additionally, if in the future the Department of Justice or IRS via whistleblower (foreign bank employee or other taxpayer disclosing offshore details that initiates an investigation), FATCA information disclosure or a tax information sharing agreement with a foreign government learns facts and circumstances that negate the taxpayer s certification, the taxpayer may have the case reopened by the IRS. This is especially true if the taxpayer

2 is not within the OVDP program for transitional treatment but rather went directly to streamline filing where there is no closing agreement. Failure to substantiate a firm foundation for the certification of non-willfulness and three reviews conducted by the IRS has potential criminal ramifications. For the individual taxpayer, there is 26 U.S. Code Fraud and false statements: Any person who willfully makes and subscribes any return, statement, or other document, which contains or is verified by a written declaration that it is made under the penalties of perjury, and which he does not believe to be true and correct as to every material matter shall be guilty of a felony and, upon conviction thereof, shall be fined not more than $100,000 ($500,000 in the case of a corporation), or imprisoned not more than 3 years, or both, together with the costs of prosecution. For the tax preparer that submits the document on behalf of the taxpayer to the IRS, there is 26 U.S. Code Fraudulent returns, statements, or other documents: Any person who willfully delivers or discloses to the Secretary any list, return, account, statement, or other document, known by him to be fraudulent or to be false as to any material matter, shall be fined not more than $10,000 ($50,000 in the case of a corporation), or imprisoned not more than 1 year, or both. Therefore, it is crucial that taxpayers or their tax preparers take the time to engage an attorney experienced with these issues to conduct a factor analysis of willfulness before completing the certification. The engagement with the attorney will be for representation for legal services in the context of resolving potential criminality and will therefore invoke the auspices of the attorney-client privilege. The privileged communications will allow the taxpayer to have a full and open disclosure of all material matters. These types of communications are not privileged when a taxpayer discloses them to a certified public accountant or tax preparer. In doing so, the accountant or preparer may end having to testify against his own client.

3 What is a factor analysis of willfulness? How has this issue been treated by the IRS and recent court decisions? Willfulness in the context of an FBAR violation is an exercise in both civil and criminal liability. This exercise has basic foundations rooted in standards of evidence and the mental state associated with willfulness. For civil liability, courts have found that recklessly failing to comply is enough circumstantial evidence to satisfy the mental state of willfulness (see U.S. v. Williams, 489 Fed.Appx. 655 (4th Cir. 2012) and U.S. v. McBride, 110 A.F.T.R.2d (D. Utah 2012) with the standard of evidence known as preponderance of the evidence. Both the standard of evidence and mental states used by these courts are in exact opposite to the guidance stated by both IRS chief counsel (CCA ) and the Internal Revenue Manual (IRM ). This guidance indicates that the mental state must showing a voluntary intentional violation of a known legal duty. In other words the actor must have purposefully or knowingly failed to comply with reporting obligations. These mental states are harder to prove than recklessly failing to comply. Additionally the guidance indicates the standard of proof is clear and convincing evidence. This standard of proof is more difficult to satisfy than preponderance of the evidence. For criminal liability, the standard of evidence is obviously beyond a reasonable doubt. The mental state standards fall into both purposefully failing to file and a knowing failure to file otherwise known as willful blindness. Here is where the crux of the matter truly lies. To be willfully blind is in essence to not truly know of the specific duty or obligation but rather to know that based on the facts and circumstances of the transaction at hand, a reasonable person would make an inquiry as to any duties or obligations of reporting. By failing to make the inquiry, the taxpayer has become willfully blind. Taxpayers should ask themselves not whether they knew they had an FBAR reporting requirement, or if they knew what an FBAR is or was, but rather if they knew they may have had some sort of obligation to report this information to a government entity such as the Internal Revenue Service and failed to inquire as to that obligation. The IRS has indicated it will review each certification of non-willful status seeking participation in the streamlined procedures as follows:

4 The source of funds held in the foreign account may be an important factor, i.e., was the source of funds in the account from reported or unreported income? Deposits and withdrawals to the foreign account can reveal intentions and knowledge of various individuals involved. In reviewing the "non-willful" certification, the government can be expected to inquire about the following: o manner in which deposits and/or withdrawals were made to/from the foreign account(s) o the mechanics of how deposits/withdrawals were made o the form in which deposits/withdrawals occurred (i.e. cash, check, wire, travelers check, etc.) o amounts of each withdrawal/deposit o when such deposits/withdrawals occurred o where such deposits/withdrawals occurred o whether there were there limitations on the amounts that could be deposited/withdrawn o documents received when a deposit/withdrawal occurred (i.e. receipt, credit memo, debit memo, etc.) Whether the existence of the account was disclosed to the return preparer or others. Whether the account was at some point moved to another foreign financial institution. Whether the taxpayer s advisors had some degree of knowledge about the account. The perceived degree of financial and business sophistication and education of the taxpayer. Whether foreign entities were involved as accountholders. Documents provided to open the account [i.e. U.S. or foreign passport(s), identification card, etc.]. Communications, if any, with others that occurred regarding bank secrecy, taxation, and/or disclosure of any foreign accounts. Failure to seek independent legal advice about how to properly handle the foreign bank account and instructions or advice received regarding holding or receiving mail from the bank, etc.

5 Lastly, in reviewing the non-willful certification under the streamlined procedures, resident taxpayers should anticipate the government inquiring as to whether the foreign accounts remain open. If they do remain open, the taxpayer may need to provide a reasonable basis for maintaining the accounts and demonstrate a willingness to actively comply with filing obligations in the future. If the accounts were closed, the IRS will want to know where the funds were transferred when the account(s) were closed. An interview by an IRS examiner should be anticipated in most cases and are more likely with respect to resident taxpayers. Once a taxpayer makes a submission under either the Streamlined Foreign Offshore Procedure, the taxpayer may not participate in 2014 OVDP.