The Penalties for Not Declaring Foreign Bank Accounts
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Penalties for Not Declaring Foreign Bank Accounts
When it comes to reporting foreign bank and financial accounts on the FBAR and other international information return forms to the Internal Revenue Service (IRS) and Financial Crimes Enforcement Network (FinCEN), one of the key motivating factors for most taxpayers for getting into compliance is to avoid fines and penalties. Unlike other types of penalties that the IRS can issue, the penalties assessed for matters involving the failure to file international information reporting forms can be financially debilitating. For example, if a US person missed reporting a foreign gift they received from a foreign person (even a parent), they may be on the hook for a penalty valued at 25% of the gift – even when there is no unreported income and/or a related FBAR or FATCA issue. When it comes to foreign bank accounts specifically, there are four main forms that taxpayers have to be cognizant of are the following:
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Schedule B
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FBAR (FinCEN Form 114)
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FATCA (Form 8938)
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PFIC (Form 8621)
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Let’s briefly look at each form and the potential penalties taxpayers may suffer for not being in compliance.
Schedule B (Form 1040)
Schedule B is used to report interest and dividends — whether the income is US-sourced or foreign-sourced. But, there is another purpose for Schedule B, which can be found on the bottom third of the form. Taxpayers who have ownership or signature authority over a foreign bank or financial account are required to acknowledge this information on Form 1040, Schedule B. And, the value of the foreign accounts is not dispositive when it comes to Schedule B reporting. Rather, it is based solely on whether or not the taxpayer has any ownership or signature authority over a foreign account. One of the hardest parts about filing an accurate Schedule B is that with most commercial software programs, the default position is ‘no.’ Thus, some taxpayers get stuck in the matrix, whereas it may appear as if they are trying to hide a foreign account when really they simply did not know about the form – and their tax software program let them down.
FBAR (FinCEN Form 114)
FBAR refers to Foreign Bank and Financial Account Reporting. The FBAR is required for US Persons if they have more than $10,000 in annual aggregate total in foreign accounts. The penalties for not properly reporting the FBAR are all over the board. Going from a worst-to-best-case scenario, criminal penalties (which include monetary fines and possible incarceration) are extremely rare. In other words, just because you missed reporting the FBAR does not mean you are subject to criminal enforcement. The next rung down on the ladder is willful civil penalties. The penalties for civil FBAR willfulness can be 50% of the maximum value of the foreign accounts. Depending on the value of the accounts, this may be a very substantial penalty. Finally, for non-willful civil penalties, the penalties range from a warning letter in lieu of penalty all the way up to $10,000 per account per year — for six years — although the penalty typically caps out so that it does not exceed willfulness penalties. At the time of this article, the Supreme Court is considering the issue of non-willful FBAR penalties in the case of Bittner.
FATCA (Form 8938)
FATCA refers to the Foreign Account Tax Compliance Act. Form 8938 is similar to the FBAR but may require more extensive reporting because it is not limited to foreign bank and financial accounts. Also, there are different thresholds for reporting depending on whether or not the taxpayers file jointly or single/married filing separately — and whether or not they reside in the United States or are considered foreign residents. The penalties start at $10,000 per year and can go up an additional $50,000 for an ongoing penalty when the taxpayer fails to remedy the situation.
PFIC (Form 8621)
PFIC refers to Passive Foreign Investment Companies and includes foreign investments such as overseas mutual funds and ETFs. When a Taxpayer fails to file Form 8621, there is generally no monetary penalty upfront — although the tax return can remain open indefinitely. This means a taxpayer may be audited in a future year when the tax return statutory period for audit would have already been closed — had Form 8621 been filed. Form 8621 is required even if the tax return is not required when the threshold is met (the same rule applies to FBAR, but not FATCA). Whether or not the IRS would be limited to just auditing the portion of an otherwise closed tax return for just the Form 8621 issue or the entire return is also up for debate — since the IRS would make the argument that the 8621 runs through the entire return and impact other issues, and thus the entire tax return should be subject to audit.
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 that specializes exclusively in these types of offshore disclosure matters.
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