Much has been written about penalties faced by U.S. taxpayers residing in Canada who have, for various reasons, failed to file necessary U.S. income tax /information returns, including Foreign Bank Account Reports (FBAR).

In order to catch up, these taxpayers have had basically three options: (1) filing returns without notifying the IRS of prior years unfiled returns (“quiet disclosure”), (2) enrolling in the Offshore Voluntary Disclosure Program (“OVDP”), or (3) filing 6 years of returns along with a request for reasonable cause relief (“noisy disclosure”).  However, recent guidance from the IRS offers an additional option called, by some, an “amnesty.”  This new alternative may be welcome news for many U.S. taxpayers with unfiled returns.

this welcome news

On June 26^, 2012, the IRS released IR-2012-65, which promises a new procedure designed to simplify the catch-up filing process and reduce the risk of penalties for many taxpayers.  Notably, the release suggests a 3-year income tax/information return filing requirement, 6-year FBAR filing requirement and an assessment of the taxpayer’s compliance risk.

Risk factors assessed include the taxpayer’s level of income, assets, economic activity in the U.S., indications of sophisticated tax planning or avoidance, compliance history, and amount and type of U.S. source income.  Taxpayers with higher compliance risk may be subject to additional scrutiny and require additional filings.  It is scheduled to take effect on September 1, 2012 while specific details are unveiled over the next few months.

The costs and benefits of the abovementioned methods can be summarized as:

• Quiet disclosure. The lowest professional services fees, no relief from penalties if assessed, the IRS has specifically warned taxpayers against this.
• OVDP. High professional services fees as a result of the 8-year filing requirement and direct involvement with the IRS Criminal Division, monetary penalties can be substantial (5 to 27.5% of the value of a taxpayer’s liquid assets), protection from criminal prosecution. 
• Noisy disclosure. Mid-range professional fees, 6-year filing requirement, relief from penalties upon a showing of reasonable cause, no protection from criminal prosecution.
• IR-2012-65.  Professional fees will vary but should fall between quiet & noisy disclosure, the IRS will not assert penalties or pursue follow-up actions for “low compliance risk” taxpayers (“simple returns” with little or no U.S. tax due ($1,500 per year)), no protection from criminal prosecution.

IR-2012-65 also addresses a simplified means to obtain relief for late filed 8891 Forms (to defer income accruing in an RRSP).  In general, the taxpayer seeking relief must submit: (1) a request for extension of time to file, (2) the Form 8891 and plan description, and (3) a statement outlining reasonable cause for failure to file.

The question of who will fall into the “high compliance risk” category remains to be seen.  Details are still pending, but the new procedure gives a good indication of the IRS’s intent to provide taxpayers a less burdensome and costly means to become compliant.  For many taxpayers, this announcement may indeed be welcome news.

Thanks to Brian Dennehy JD, LL.M (U.S. Tax), CPA (IL, U.S.A.) with Shea Nerland Calnan LLP in Calgary, Alberta for this information.