When the IRS fines you, you better pay up, or else there will be more fines and penalties coming your way. That 5% penalty is because you did not report your foreign financial accounts and assets. Don’t worry, it is a pretty standard procedure for Streamlined Domestic Offshore Filers. The math, however, may prove complicated. Still, don’t worry as we are here to show you the cheat-sheet.
This is a step-by-step guide on how to file IRS form 14654 and calculate the 5% penalty for streamlined domestic offshore filers. First, however, you need to understand what exactly you are into.
Why the Penalty?
The 5% penalty may seem harsh, but it is the easy way out. This is because the IRS streamlined procedures are designed to be lenient on U.S. residents whose failure to report their foreign financial assets was not willful. U.S. residents who fail to report their assets willfully – which essentially amounts to tax evasion – get it worse.
The 5% penalty applies only to financial assets in which you have an interest. A financial asset is anything with monetary value. Examples include:
- Foreign financial accounts, including those held with foreign branches of a U.S.-based financial institution
- Foreign mutual funds
- Foreign stocks and securities
- Foreign hedge funds
- Foreign private equity funds
It takes some doing to convince the IRS that your failure to report your foreign financial assets was not willful. To do this, you will need to prove negligence, inadvertence, or any other excuse that may be proven as an unintentional mistake. Other requirements include:
- A valid taxpayer identification number
- Passing a civil examination, conducted by the IRS, of your tax returns for any taxable year
- Payment of any outstanding penalty assessments that may have been conducted in the past
Now that you have an idea of what you are dealing with, we can go on to calculating the penalty and be done with the IRS suits.
How to Do the Math for Streamlined Domestic Offshore Filers
The math can be complex, as mentioned. However, we have come up with a step-by-step, simplified guide with a case example detailed below:
1. Evaluate Your Accounts and Assets
Begin by computing all of your foreign accounts and assets. These include those covered under the Foreign Account Tax Compliance Act (FATCA) and the Report of Foreign Bank and Financial Account Form (FBAR).
Some accounts and assets are excluded from reporting. Targeted assets and accounts have to meet several requirements. This is where things get a bit complicated but stay with us. Qualifying accounts and assets include:
- All foreign financial accounts that were not reported for each of the past six years covered under the FBAR period
- All foreign financial assets that were not reported on Form 8938 for each of the past three years
- All foreign financial accounts and assets for which gross income was not reported for each of the past three years in the covered tax return period
You need to be thorough when compiling and computing the foreign accounts and assets. Any omissions may attract further penalties, but we won’t let that happen!
2. Compile Your 12/31 Year-End Balances
Take all compiled foreign accounts and assets and compile your 12/31 balances on each account and asset. Insurance policies and any other account that qualifies under the 8938 or FBAR requirements are also included. The balances should be for each year covered under the compliance period.
Tip: Stick to December 31st as your pivotal data to avoid double counting, which will see you pay more unnecessary penalties.
3. Choose an Annual Exchange Rate
You will need to choose your preferred exchange rate for each of the taxable years for both financial and asset accounts. There are various exchange rate systems to choose from, including the Department of Treasury and the IRS rates. You should choose the friendliest rate.
Tip: Stick to one exchange rate – the rate that you choose now – for future filing to avoid complications with calculations.
4. Aggregate the 12/31 Balances
Do you remember those balances you computed under step 2? Now go back and sum up all the balances for each of the six taxable years. Keep in mind that the value of any real estate property is excluded under this streamlined compliance procedure. Be keen on the balances to avoid paying additional, unnecessary penalties!
5. Identify and Select the Highest 12/31 Aggregate Balance
This is where things get interesting. You are not required to pay the 5% penalty on all of the unreported years, but rather on the year with the highest 12/31 balance aggregate. As such, put the aggregated balances in one list and pick the year with the highest balance.
Note: The year with the highest 12/31 balances aggregate doesn’t necessarily mean the highest max year balance, as is the case with Traditional Voluntary Disclosure.
6. Multiply the Aggregate Balance by 5%
If you are confident that the math covered on the above steps works out, you may proceed to calculate your due penalty. To do this, multiply the aggregate balance by 5% – the final figure is what you owe the IRS.
Case Example: Suppose you have a 12/31 aggregate balance of $1,000,000 on your highest year for the past six taxable years. Your due penalty will be $50,000: 1,000,000 X 0.05 = 50,000.
Note: Most people make the common mistake of multiplying the aggregate balance by 0.5, which often proves costly. The correct value for 5% is 0.05.
Leave for Streamlined Domestic Offshore Filers to the Experts!
You are in enough trouble as it is with the outstanding 5% streamlined domestic offshore filers penalty. You cannot afford to make any more mistakes! This is why you should let Silver Tax Group file the IRS form 14654 for you. It is what we do, and we are fast and always come through with proven results!
Would you like to learn more about how we can help? Get in touch today to speak to a tax attorney! We are glad to help.