Underpayment and Overpayment Interest Rates for the Second Quarter of 2013

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On March 1, 2013, the IRS announced that the underpayment and overpayment interest rates will remain the same for the calendar quarter beginning April 1, 2013. The rates will be:

  • three (3) percent for overpayments [two (2) percent in the case of a corporation];
  • three (3) percent for underpayments;
  • five (5) percent for large corporate underpayments; and
  • one-half (0.5) percent for the portion of a corporate overpayment exceeding $10,000.

Under the Internal Revenue Code, the rate of interest is determined on a quarterly basis. For taxpayers other than corporations, the overpayment and underpayment rate is the federal short-term rate plus 3 percentage points.

Generally, in the case of a corporation, the underpayment rate is the federal short-term rate plus 3 percentage points and the overpayment rate is the federal short-term rate plus 2 percentage points. The rate for large corporate underpayments is the federal short-term rate plus 5 percentage points. The rate on the portion of a corporate overpayment of tax exceeding $10,000 for a taxable period is the federal short-term rate plus one-half (0.5) of a percentage point.

The rate for large corporate underpayments is the federal short-term rate plus 5 percentage points. The rate on the portion of a corporate overpayment of tax exceeding $10,000 for a taxable period is the federal short-term rate plus one-half (0.5) of a percentage point.

Interest factors for daily compound interest for annual rates of 0.5 percent are published in Appendix A of Revenue Ruling 2011-32. Interest factors for daily compound interest for annual rates of 2 percent, 3 percent and 5 percent are published in Tables 7, 9, 11, and 15 of Rev. Proc. 95-17, 1995-1 C.B. 561, 563, 565, and 569.

Revenue Ruling 2013-6, announcing the rates of interest, is attached and will appear in Internal Revenue Bulletin 2013-13, dated March 25, 2013.

Application of Offshore Penalty to Business Ownership Interests

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In another essay, I previously discussed the possible inclusion of the business ownership interests in the calculation of the OVDP (2012 Offshore Voluntary Disclosure Program) Offshore Penalty.  In this article, I would like to explore in more depth the application of the Offshore Penalty to ownership of business interests.

OVDP Offshore Penalty

It is a requirement of the OVDP that the taxpayers who enter the program pay the Offshore Penalty. This penalty is imposed in lieu of all other penalties that may apply to the taxpayer’s undisclosed foreign assets and entities, including FBAR and offshore-related information return penalties and tax liabilities for years prior to the voluntary disclosure period. The default penalty rate is 27.5% (in limited cases, the penalty is reduced to 12.5% or 5%) of the highest aggregate balance in foreign bank accounts/entities or value of foreign assets during the period covered by the voluntary disclosure.

The Offshore Penalty calculation includes business ownership interests related to tax noncompliance. Tax noncompliance includes failure to report income from the assets, as well as failure to pay U.S. tax that was due with respect to the funds used to acquire the asset.

Business Ownership Interests Are Included in the Offshore Penalty; Limited Exceptions

As I previously discussed, the Offshore Penalty is much broader than simply the FBAR penalty. Among other items, the Offshore Penalty encompasses ownership interest in businesses related to income tax non-compliance or acquired by tainted funds (i.e. funds that were subject to U.S. tax but on which no such tax was paid; the definition also includes funds derived from illegal sources such as criminal and terrorist activities).

There are exceptions to this rule, however. Two most prominent exceptions deserve to be emphasized here. First, where a business interest was not obtained by tainted funds and there are no under-reported U.S. tax liabilities, the taxpayer is likely to be able to exclude the business interest from the Offshore Penalty.

Second, the OVDP rules carve out a limited exception for U.S. taxpayers who are foreign residents and quality for the third category of 5% penalty rate. For these taxpayers only, the IRS stated that the offshore penalty will not apply to non-financial assets, such as real property, business interests, or artworks, purchased with funds for which the taxpayer can establish that all applicable taxes have been paid, either in the U.S. or in the country of residence. This exception only applies if the income tax returns filed with the foreign tax authority included the offshore-related taxable income that was not reported on the U.S. tax return.

Obviously, the determination of whether either of these two exceptions (or any other exception) applies in your individual case should only be determined by an international tax attorney experienced in the area of offshore voluntary disclosures.

Major Types of Business Ownership Interests Covered by the Offshore Penalty

The biggest category of business ownership interests covered by the Offshore Penalty includes ownership of foreign entities for which information returns, such as Forms 5471, 8865, 8858, 926 and so on, should have been filed by the non-compliant taxpayer. Most often, this category includes ownership of closely-held foreign corporation, interest in the controlled foreign partnership and contribution of property to a foreign corporation.

Notice that, even if the business entity controlled by the taxpayer is not itself tax non-compliant, but it holds the assets which are non-compliant (usually because they were purchased by using tainted funds), the entire ownership interest in the business entity may be exposed to the Offshore Penalty.

Another type of business interest that is often subject to Offshore Penalty involves business entities that are virtually indistinguishable from its owners. In situations where a business entity is an alter ego or nominee of the taxpayer, the IRS may determine that the Offshore Penalty should be applied to the underlying assets of the entity.

The most spectacular reach of the OVDP, however, is the possibility of involving domestic entities. In spite of having “Offshore” in its name, the Offshore Penalty can actually apply to ownership of U.S. businesses acquired with tainted funds. This is a critically-important consideration for non-compliant U.S. taxpayers who repatriated tainted funds back to the United States and invested them into U.S. businesses.

Contact Sherayzen Law Office for Help With Your Voluntary Disclosure of Offshore and Domestic Business Ownership Interests

Sherayzen Law Office can help you with the disclosure of any of your foreign assets, including Offshore and Domestic business ownership interests. Our international tax law firm is highly experienced in conducting offshore voluntary disclosures of business interests. We will thoroughly analyze your case, assess your tax liability as well as the liability that you would face under the OVDP, determine the available disclosure options and implement the disclosure strategy (including preparation of all legal and tax documents as well as IRS representation).

Contact Sherayzen Law Office to schedule your consultation!

12.5% OVDP Offshore Penalty Category

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In an earlier article, I introduced the structure of the OVDP (Offshore Voluntary Disclosure Program) Offshore Penalty. In this essay, I would like to explore one aspect of that structure – the possibility of reducing the Offshore Penalty to 12.5%.

Offshore Penalty

The taxpayers who enter the OVDP must pay the Offshore Penalty. This penalty is imposed in lieu of all other penalties that may apply to the taxpayer’s undisclosed foreign assets and entities, including FBAR and offshore-related information return penalties and tax liabilities for years prior to the voluntary disclosure period.

The default rate of the Offshore Penalty under the OVDP is 27.5%, but, in limited circumstances, it is possible to reduce the penalty to only 12.5% (assuming that the taxpayer does not otherwise qualifies to a lesser penalty rate).

Eligibility Requirements for 12.5% Penalty Rate

The taxpayers may be qualified to a reduced Offshore Penalty rate of 12.5% under the following circumstances. During each of the years covered by the OVDP, the taxpayer’s penalty base (i.e. the highest aggregate balance in foreign bank accounts and the fair market value of assets in undisclosed offshore entities and the fair market value of any foreign assets that were either acquired with improperly untaxed funds or produced improperly untaxed income) must be less than $75,000.

Therefore, there are two basic requirements. First, the highest penalty base must be less than $75,000. Second, this must be the case in each of the years.

Strict compliance is required by the IRS. For example, in a situation where the taxpayer made one deposit in some early year covered by the OVDP and that deposit briefly brought the account balance above $75,000, the taxpayer will not be eligible to the reduced 12.5% Offshore Penalty.

Contact Sherayzen Law Office for Help With Your Offshore Voluntary Disclosure

Whether the 12.5% Offshore Penalty rate applies in your particular situation is a question that can only be answered by an international tax attorney who has thoroughly examined your case.

This is why you should contact Sherayzen Law Office for help NOW.

Our international tax firm is highly experienced in conducting offshore voluntary disclosures. We will thoroughly analyze your case, assess your current FBAR liability as well as the liability that you would face under the OVDP, determine the available disclosure options and implement the appropriate disclosure strategy (including preparation of all legal and tax documents as well as IRS representation).

Types of Assets Covered by OVDP Offshore Penalty

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Before one enters into the 2012 Offshore Voluntary Disclosure Program (“OVDP”), it is highly important to understand what kind of assets are covered by the OVDP Offshore Penalty. In this essay, I intend to broadly outline some of the major types of assets covered by the OVDP Offshore Penalty.

From the outset, it is important to emphasize that this article does not set forth the exclusive list of assets; rather, only some of the types of assets are covered. Also, this article does not represent a legal advice; rather, it is meant only for educational purposes. I strongly recommend retaining an international tax attorney before entering into the OVDP; only your attorney experienced in voluntary disclosures can assess what type of assets are covered by the OVDP Offshore Penalty.

OVDP Offshore Penalty is Broader Than the FBAR Penalty

It comes as a surprise to many of my clients that the OVDP Offshore Penalty is not equivalent to the FBAR penalties in terms of the types of assets covered. The Offshore Penalty is much broader than the FBAR penalty.

The general rule is that the offshore penalty is intended to apply to all of the taxpayer’s offshore holdings that are related in any way to tax non-compliance, regardless of the form of the taxpayer’s ownership or the character of the asset.

This is an extremely broad definition; in fact, it is so broad that it practically incorporates the assumption of willfulness and fraud on the part of the taxpayer who enters the OVDP. This is why it is important for your attorney to advise you on the possibility of other of your foreign assets to be covered in the calculation of the Offshore Penalty.

While there are many types of assets that fall under the general rule above, I would like to concentrate on the fivemajor types of assets that the OVDP Offshore Penalty covers: (1) FBAR assets not otherwise excluded; (2) real estate; (3) art and collectibles; (4) intangible assets; and (5) interest(s) in a U.S. or foreign business.

FBAR Assets Covered by Offshore Penalty

The Offshore Penalty covers all of the financial accounts listed on the FBAR, including bank accounts, securities accounts, precious metals custodial accounts and other assets that should be reported on the FBAR. Unless any of these assets are otherwise excluded under the OVDP rules, they will be used in calculation of your Offshore Penalty.

Real Estate Covered by Offshore Penalty

This type of asset constitutes a major deviation from the FBAR penalties. Under the OVDP rules, the real estate assets related to tax non-compliance are included in the calculation of the Offshore Penalty. It is important to understand that if the real estate was acquired with funds that were subject to U.S. tax but on which no such tax was paid, the offshore penalty would apply regardless of whether the real estate produced any income. Obviously, the rental real estate is also likely to be included in the calculation of the Offshore Penalty if this real estate produced income that should have been disclosed on U.S. tax return and on which U.S. taxes were not paid.

Artwork and Other Similar Assets Covered by Offshore Penalty

The same principal applies to artwork and other similar assets. As long as the artwork was related to income tax non-compliance or was acquired with funds that were subject to U.S. tax but on which no such tax was paid (so-called “tainted funds”), the offshore penalty is likely to be applied to these assets.

Intangible Assets

Intangible Assets constitute another major deviation from the FBAR penalties. The Offshore Penalty is likely to apply where intangible assets, like patents and trademarks, were acquired by tainted funds and/or are related to income tax non-compliance.

Interest in a U.S. or Foreign Business

It is important to remember that the Offshore Penalty applies in lieu of the FBAR penalty as well as other penalties that would be applicable to information returns such as Forms 5471, 8865, 8858, 926 and so on. This is why the Offshore Penalty also applies to ownership of foreign businesses.

What is unique to the OVDP is the application of the Offshore Penalty to the ownership of U.S. businesses acquired with tainted funds. The only justification for such a broad coverage of the Offshore Penalty is that it most likely comes from the aforementioned assumption that the non-compliant taxpayer engaged in fraudulent behavior.

In another article, I will explore how the Offshore Penalty applies to ownership of business interests including possible exceptions to the general rule. For the purposes of this essay, it is important to understand that the Offshore Penalty may be applied to such ownership interests.

Other Assets Maybe Covered Under the General Rule

It is important to emphasize that other assets may be included in the calculation of the Offshore Penalty pursuant to the general rule above (i.e. offshore penalty is intended to apply to all of the taxpayer’s offshore holdings that are related in any way to tax non-compliance, regardless of the form of the taxpayer’s ownership or the character of the asset). It will be up to your attorney to assess which of your assets are subject to the Offshore Penalty.

Broad Coverage of Offshore Penalty Complicates the Entrance of Non-Compliant Taxpayers into the OVDP

Such a broad application of the Offshore Penalty greatly complicates the decision to enter into the OVDP. In some situations (particularly, where the IRS cannot establish willfulness), the taxpayer may be better off taking his chances under the existing FBAR penalty structure and face the individual information return penalties rather than subject themselves to a 27.5% penalty on the highest value of all of his assets (the so-called Modified Voluntary Disclosure or Noisy Disclosure).

Again, this is the decision that can only be taken only after your attorney examines your particular situation and makes the recommendation of not entering into the OVDP.

Contact Sherayzen Law Office for Help With Your Voluntary Disclosure of Offshore Assets

Sherayzen Law Office can help you with the disclosure of any of your foreign assets. Our international tax firm is highly experienced in conducting offshore voluntary disclosures. We will thoroughly analyze your case, assess your current FBAR liability as well as the liablity that you would face under the OVDP, determine the available disclosure options and implement the disclosure strategy (including preparation of all legal and tax documents as well as IRS representation).

Contact Sherayzen Law Office NOW to schedule your consultation!