As we slide into yet another tax season, taxpayers should be cautioned that the Internal Revenue Service (IRS) is beginning 2018 on an aggressive note. Under the leadership of John D. “Don” Fort, new Chief of the IRS’ Criminal Investigation Division (CI or CID), the IRS is prioritizing the implementation of two new programs: the International Tax Enforcement Group (ITEG), and the Nationally Coordinated Investigations Unit (NCIU).
Both focus on increasing the rate of taxpayer compliance with income reporting requirements contained in the Internal Revenue Code (IRC) – particularly those pertaining to the disclosure of foreign financial accounts, such as Swiss bank accounts, and virtual currencies, such as Bitcoin. With the recent creation of the ITEG and NCIU, it is more critical than ever to ensure that you are compliant with federal tax laws if you maintain a bank account overseas, hold other foreign assets, or have recently used cryptocurrencies to make large transactions. Failure to comply with reporting requirements on Tax Day can result in substantial civil and even criminal penalties – and, if recent statements by the Department of Justice (DOJ) are any indicator, those penalties could be increasing in the near future.
IRS cracks down on offshore and Bitcoin tax evasion
Since being sworn in as new Chief of IRS-CI (sometimes called “IRS-CID”) in June 2017, John Fort has wasted little time ramping up the Service’s tax law enforcement initiatives. Appearing before journalists in August, Fort formally announced “the formation of a dedicated international tax enforcement group,” adding that the ITEG would likely be comprised of at least 10 to 12 agents: more than the standard eight to 10 agents typical of IRS-CI groups.
Fort also announced the formation of the NCIU, explaining that the new group’s investigative technology, primarily data analytics, would be “cutting edge for CI and part of the future of IRS Criminal Investigation.” Elaborating on how the technology would be used, Fort told reporters, “This particular unit is going to report directly to our frontline executives here in Washington, D.C. The goal of the unit is to really use all of the data that we have available to us to help identify and develop areas of noncompliance.”
The “data that we have available to us” comes to the IRS from several sources, notably the following:
- The Foreign Account Tax Compliance Act (FATCA) – As the IRS explains, FATCA “generally requires that foreign financial Institutions and certain other non-financial foreign entities report on the foreign assets held by their U.S. account holders,” meaning foreign banks are required to report their American clients to the U.S. government.
- The Offshore Voluntary Disclosure Program (OVDP 2014, 2012, 2011, 2009) – The OVDP incentivizes offshore account holders to come clean about previously undisclosed accounts, offering reduced penalties in exchange for the voluntary reporting of tax information.
- The Panama Papers – In 2015, an unknown source leaked roughly 11.5 million sensitive financial documents from a Panama-based law firm, revealing hundreds of thousands of offshore tax haven entities in the process. In May 2016, the documents were published online by the International Consortium of Investigative Journalists (ICIJ), making them available to anyone with an internet connection. (The Panama Papers should not be confused with the Paradise Papers, a similar leak that occurred later.)
- The Swiss Bank Program – The Swiss Bank Program is similar to FATCA, but, as the name suggests, is specifically oriented toward Swiss banks, which can avoid criminal prosecution by giving the DOJ “detailed information” about “accounts in which U.S. taxpayers have a direct or indirect interest” and “other banks that transferred funds into secret accounts or that accepted funds when secret accounts were closed.”
With financial resources stretched thin by budget cuts, the IRS is targeting offshore accounts in part because the rate of compliance is known to be low. Despite estimates that as many as 9 million U.S. persons could live abroad, well under half a million disclose foreign income (which is reported using an FBAR, or FinCEN Form 114, and Form 8938 (Statement of Specified Foreign Financial Assets)), while just under 1 million disclose the Foreign Tax Credit (which is claimed using Form 1116 (Foreign Tax Credit)).
Digital currency reporting suffers from an even poorer rate of compliance, and thus, has likewise attracted the attention of the CID. Just over 800 taxpayers declared cryptocurrency-related capital gains or losses in 2013, 2014, or 2015, despite the fact that hundreds of thousands of individuals sell or purchase Bitcoin on Coinbase (approximately 14,000 users of which are now in jeopardy, their financial records having been recently obtained by the IRS after a court victory against Coinbase.) Those with the greatest cause for concern are Coinbase users whose Bitcoin transactions exceeded $20,000.
Traditionally, convicted FBAR offenders have been more likely to receive heavy fines than lengthy sentences, as the DOJ has typically determined FBAR sentences by calculating the tax loss resulting from the offense. However, as our criminal tax defense attorneys noted in December 2017, “Mark Daly, Senior Litigation Counsel to the DOJ Tax Division announced that the Justice Department would be seeking prison sentences in FBAR cases based on the offshore account’s value,” rather than the resulting tax loss. What would be the effect of this change if implemented by sentencing judges? Longer prison terms – in some cases, substantially so.
Bitcoin holders be cautious this tax season
Whether civil or criminal, penalties for tax offenses like failure to report domestic income, failure to report foreign income, failure to report capital gains, and failure to file a tax return can be devastating. Depending on the nature of the offense and whether the tax offender acted “willfully,” penalties may range from thousands of dollars to millions of dollars in fines and restitution, while the sentences imposed typically range from several months to several years in federal prison.
With the recent formation of the ITEG and NCIU, taxpayers are urged to proceed with extreme caution this tax season, especially in light of the recent reforms to the IRC, which are bound to cause confusion. The stakes are particularly high for taxpayers with Bitcoin wallets and/or foreign bank accounts, as the IRS is focusing substantial resources on these two areas of the U.S. tax laws.