There are a variety of situations where taxpayers may be accused of violating U.S. tax laws. These violations may be uncovered during a tax audit, or a taxpayer may have failed to properly report foreign assets and income. In cases where a person may face criminal charges or civil penalties for non-compliance with tax laws, they may be able to come into compliance by voluntarily disclosing information to the IRS. Taxpayers who are considering a voluntary disclosure will need to be aware of some recent changes to tax forms used to report information to the IRS.

What Is Voluntary Disclosure Practice?

Taxpayers are encouraged to disclose information to the IRS that may affect the determination of the taxes they are required to pay. Some disclosures may be civil in nature, for example if the taxpayer has made an honest and nonwillful mistake and omitted disclosure of a foreign account required to be disclosed via annual Forms 114 (FBAR). Such disclosures may be made to the IRS via Streamlined Disclosure Procedures where taxpayers may be required to pay a civil penalty without criminal prosecution. However, the IRS Criminal Investigation (CI) division is focused on uncovering criminal violations of tax laws, and depending on its findings, it may choose to pursue criminal charges against non-compliant taxpayers. If such a taxpayer voluntarily discloses applicable information to the IRS, this may affect the CI division’s decisions on whether to recommend criminal prosecution. Voluntary Disclosure Practice is an option if a taxpayer has willfully violated tax laws, and taxpayers will be required to cooperate with the IRS to determine their tax liabilities and make arrangements to pay the taxes they owe, as well as any applicable penalties or interest.

Updates to Disclosure Preclearance Forms

In Voluntary Disclosure Practice cases, one of the key forms that a taxpayer will be required to submit is Form 14457 (Voluntary Disclosure Practice Preclearance Request and Application). This form will provide information about a person’s tax liabilities, their financial accounts, and other information related to their non-compliance with tax laws. The IRS recently released a revised version of this form, including the following changes:

There are a variety of situations where taxpayers may need to respond to claims that they owe taxes to the IRS. In some cases, different forms of relief may be available that will absolve a person of their tax debts or allow them to reduce the amount they owe. Some taxpayers may be able to ask for innocent spouse relief, including when the IRS seeks to recover tax debts from a person after their divorce based on an audit of a joint tax return filed while they were married. A person may believe that they will qualify for innocent spouse relief if they had not signed a joint tax return, but they will need to understand how the IRS will address this issue.

The Tacit Consent Doctrine

Married couples will often divide different types of responsibilities, and one spouse may primarily handle matters related to a couple’s finances, including preparing and filing joint tax returns. In these situations, the other spouse may not have a full understanding of the income and assets that have been reported to the IRS, the types of deductions and credits that have been claimed, or other issues that affect the taxes they have paid or the refunds they have received.

If a spouse was not involved in preparing or filing taxes, they may not be aware of potential tax debts or penalties. In some cases, a person may not have actually signed a joint tax return, or their spouse or another party may have signed their name on tax forms for them with the intent of streamlining the tax filing process. However, even if a person had not signed a tax return or was unaware of what was being filed, the IRS may still find that they are liable for tax debts based on what is known as the “tacit consent doctrine.”

Taxpayers who owe tax debts to the IRS may have multiple options for addressing these issues. In some cases, a taxpayer may propose an offer in compromise that will allow them to pay less than the total amount owed and resolve their tax liabilities. While certain restrictions have traditionally applied in these cases, some recent policy changes by the IRS may provide benefits for taxpayers who make an offer in compromise. 

Changes to Tax Refund Offsets

In the past, when a taxpayer made an offer in compromise, they would agree that the IRS would be able to offset any tax refund they received for the current year and apply that amount toward their tax debt. For example, if a taxpayer had tax debts from 2017, and they proposed an offer in compromise in 2019, when they filed a tax return for the tax year of 2019, the IRS would be able to offset some or all of the tax refund they were eligible to receive for that year.

Starting on November 1, 2021, the IRS no longer offset tax refunds for the current calendar year after a taxpayer requests an offer in compromise. This means that if a taxpayer requests an offer in compromise in 2022, they will be able to receive a full tax refund after filing their tax return for 2022. However to prevent potential abuse, the IRS may offset refunds in cases where a taxpayer requests and receives an offer in compromise and then files an amended tax return that will allow them to receive an increased refund.

U.S. taxpayers who own foreign investments must meet certain requirements when reporting accounts and other assets to the IRS. A Report of Foreign Bank and Financial Accounts, commonly known as the FBAR, must be filed for each year in which a person has a financial interest in one or more accounts outside of the United States, and the aggregate value of these accounts is at least $10,000. Failure to report applicable accounts on an FBAR can result in significant penalties, and due to a recent court ruling, these penalties may be even higher for taxpayers who fail to report multiple accounts.

Appeals Court Addresses Non-Willful FBAR Penalties

A recent case heard by appellate judges in the Fifth Circuit addressed penalties for non-willful violations of the requirement to file an FBAR. Non-willful violations usually involve cases in which a taxpayer failed to file an FBAR or report one or more accounts because they were not aware of their requirements. The current maximum penalty for a non-willful violation is $12,921, and this amount is adjusted every year based on inflation.

Previously, courts that have addressed non-willful FBAR violations have applied the penalty on a per-year or per-form basis. That is, a single penalty would apply for each year in which a taxpayer failed to meet their requirements. However, the Fifth Circuit reviewed the applicable laws and determined that it would be more appropriate to apply the penalty on a per-account basis. This means that for each account that a person failed to report or reported incorrectly on an FBAR, they may face a separate penalty. For those with multiple accounts who failed to meet their requirements in multiple years, the penalties may add up quickly and total a much higher amount than had been previously applied.

The first few months of the year are often known as “tax season,” since this is when taxpayers will gather the necessary financial information to file their annual tax returns. While 2021 is not over yet, it is a good idea to begin preparing to address these issues, since filing a tax return as soon as possible after the new year will allow a person to receive a tax refund more quickly. When doing so, taxpayers will want to understand the changes to tax laws and IRS policies that may affect them. Some issues to be aware of include:

• Child Tax Credit - For 2021, the amount of the Child Tax Credit was increased to $3,000 or $3,600 for children 5 years old or younger. However, the amount of the credit is reduced for taxpayers who earn more than $75,000 when filing a single tax return, $112,500 when filing as head of household, and $150,000 for married couples who file jointly. In addition, the IRS began making advance cash payments of the Child Tax Credit to parents between July and December of 2021. Taxpayers can claim any remaining amount of the Child Tax Credit that had not been paid. If a person received payments totaling more than they will be able to claim on their tax return for 2021, they may need to repay some or all of the excess amount.

• Child and Dependent Care Tax Credit - The amount of the credit that a parent can claim for expenses related to the care of a child under the age of 13 has increased for 2021. This credit may be applied to $8,000 in expenses for one child or $16,000 for multiple children. The maximum percentage that may be applied to these expenses has been increased to 50 percent, and this percentage may be used by families who earned under $125,000 in 2021. Lower percentages will apply for families who earned more than $125,000 but less than $438,000.

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