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December 28, 2012

IRS Offshore Voluntary Disclosure Program and Foreign Mutual Funds

    The tax attorneys at Nardone Law Group routinely represent Ohio taxpayers considering the Internal Revenue Service’s Offshore Voluntary Disclosure Program.  The Offshore Voluntary Disclosure Program may be beneficial to taxpayers with undisclosed foreign accounts and entities that should have been disclosed to the Internal Revenue Service (“IRS”).  In some circumstances a taxpayer may unknowingly have an obligation to report and pay taxes on a foreign account or investment to the IRS.  A taxpayer is many times surprised to learn that there may be federal tax reporting requirements with respect to their foreign mutual funds.  This article briefly explains that in certain instances taxpayers are required to disclose foreign mutual fund holdings to the IRS.

What is the Offshore Voluntary Disclosure Program?

The IRS’ 2012 Offshore Voluntary Disclosure Program provides taxpayers with undisclosed foreign accounts or foreign entities the opportunity to become compliant with United States tax laws while limiting exposure to civil penalties and criminal prosecution for nondisclosure.  The 2012 Offshore Voluntary Disclosure Program follows the IRS’ prior 2009 Offshore Voluntary Disclosure Program, and 2011 Offshore Voluntary Disclosure Initiative, which also provided valuable voluntary disclosure and compliance options for taxpayers with undisclosed foreign accounts or businesses.  The 2012 Offshore Voluntary Disclosure Program is available to taxpayers that meet certain requirements and provide certain information until further notice from the IRS.  But, the existence and terms of the Offshore Voluntary Disclosure Program could change at any time.  Thus, it is important for taxpayers with undisclosed foreign accounts or entities to consult with an experienced tax lawyer as soon as possible to discuss how the Offshore Voluntary Disclosure Program may benefit them.

Why Should a Taxpayer Enter the Offshore Voluntary Disclosure Program?

    Taxpayers who have undisclosed foreign accounts or entities should make a voluntary disclosure because it allows them to become compliant with federal tax law, eliminate significant civil penalties, and generally avoid the risk of criminal prosecution.  Additionally, making a voluntary disclosure enables taxpayers to calculate the total cost of resolving their offshore tax matters with a reasonable degree of confidence.  Taxpayers who do not enter the Offshore Voluntary Disclosure Program risk discovery by the IRS, assessment of significant penalties—including penalties for failure to file foreign information returns and fraud—and potential criminal prosecution.  Thus, it is important for taxpayers with undisclosed foreign accounts and entities to contact an experienced tax attorney to discuss the benefits of making a voluntary disclosure under the Offshore Voluntary Disclosure Program.

Foreign Mutual Funds as a “Passive Foreign Investment Company”

    United States tax law related to foreign trusts and investments is complex.  As a result, many taxpayers with foreign investments are likely unaware that they may have U.S. tax reporting and payment obligations related to their foreign trusts and investments.  The tax lawyers at Nardone Law Group have simplified this issue below to better inform Ohio taxpayers in this complex area.

    United States taxpayers who are beneficiaries of a foreign trust that holds shares of foreign mutual funds likely have an obligation to report that account or entity to the IRS, and pay taxes on distributions received from that account or entity.  This is because when a certain type of foreign trust with United States beneficiaries holds a foreign mutual fund, the foreign mutual fund is likely to be considered a Passive Foreign Investment Company (“PFIC”) of the U.S. beneficiary.  A foreign corporation is a PFIC if: (1) 75% or more of its gross income for the taxable year is passive income (the “income test”); or (2) 50% or more of the average yearly value of its assets produce, or are held for the production of, passive income (the “assets test”).  Passive income includes dividends, interest, and annuities.  Because mutual funds produce all passive income, a foreign mutual fund is likely to be considered a PFIC. 

    Moreover, stock in a PFIC that is owned directly or indirectly by a trust is considered to be owned by proportionately by its beneficiaries.  As a result, U.S. beneficiaries of certain foreign trusts can be treated as owning stock in a PFIC.  Consequently, taxpayers that are U.S. beneficiaries of a foreign trust holding shares of foreign mutual funds likely have an obligation to report that account or entity to the IRS.  Additionally, such taxpayers must pay taxes on dispositions of mutual fund stock made by the trust, or distributions received from that trust.  If you are a direct or indirect shareholder of foreign mutual funds, you must report that information to the IRS on Form 8621 Return by a Shareholder of a Passive Foreign Investment Company or Qualified Electing Fund, and also on Form TD F 90-22.1 Report of Foreign Bank and Financial Accounts (FBAR).  If you have failed to report to the IRS as required, you should consider the Offshore Voluntary Disclosure Program.

    Nardone Law Group represents businesses and individuals in federal and state tax issues, including the Offshore Voluntary Disclosure Program.  If you have an undisclosed foreign account or entity, you should contact an experienced tax attorney today.  Nardone Law Group’s tax lawyers and professionals have vast experience representing clients before the IRS.  Our experienced tax lawyers will thoroughly review your case to determine what options and alternatives are available, including the Offshore Voluntary Disclosure Program. Contact us today for a consultation to discuss your case.

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December 28, 2012

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