6 Requirements for Legitimate Offshore Banking

Tax havens like Switzerland and Andorra are no secret to the IRS – if you’re trying to commit tax evasion, the consequences could be staggering. You might have an offshore account to make business easier abroad, qualify as an expatriate, or possess one for other legitimate reasons. However, there are still rules to follow to comply with IRS regulations and the increase in regulations and investigations since 2008. These 6 tips will ensure you’re in the clear legally, and that your money is secure.

Report Worldwide Income

From a broad scope, as a U.S. citizen or resident, you must report all sources of income, including foreign trusts, foreign bank, and security accounts, regardless of where you live, and even if you did not receive a W-2, 1099, or foreign equivalent. If you live and work abroad, you may be able to claim the foreign earned income exclusion, where you will not pay tax up to $97,600 of your wages or other income earned abroad. This will be determined by filling out Form 2555 or 2555-EZ. Failing to report all income is tax evasion, whether you were aware of these rules or not.

Tax Return Disclosure – and More

Along with your U.S. tax return, you may need to file Schedule B, Interest and Ordinary Dividends, and Form 8938, the Statement of Specified Foreign Financial Assets. Further, some financial circumstances require you to file FinCEN Form 114, the Report of Foreign Bank and Financial Accounts, also known as an FBAR. Specifically pertaining to foreign accounts, the Bank Secrecy Act requires you to file an FBAR if you have financial interest, signature authority over an account in a foreign country, and/or the aggregate value of all foreign accounts exceeds $10,000 at any time.

Know the Penalties

Similar to the consequences of tax evasion pertaining to income and assets earned on U.S. soil, consequences pertaining to foreign accounts can include not only the additional taxes, but also substantial penalties, interest, fines, and even imprisonment.

UBS was the first major prosecution of a bank culminating in a record $780 million fine and a deferred prosecution agreement, for a large scale example. For an average citizen, failing to file an FBAR can carry a civil penalty of $10,000 for each non-willful violation. However, if your violation is found to be willful, the penalty is the greater of $100,000 or 50 percent of the amount in the account for each violation. To compound the penalty, each year you didn’t file is a separate violation. Criminal prosecution is low, but the fees can be exorbitant.

Voluntary and Quiet Disclosure are Options

The Offshore Voluntary Disclosure Program (OVDP) is offered to those taxpayers with undisclosed offshore accounts or assets. You can approach this a few ways. Primarily, you can apply for a pre-clearance, by which you fax several documents including personal and financial identification to the IRS. The Criminal Investigation department will notify you via fax of clearance or non-clearance to voluntarily disclose foreign account using the necessary letter and forms; there is no guaranteed acceptance to the program. You may choose to bypass the pre-clearance and mail the disclosures letter and Forms 14437 and 14454.

Another option is the “quiet disclosure” route. This is a suspicious and fairly clumsy approach, however. You simply mail the missing FBAR forms and amending old returns to the IRS. Thousands and thousands of taxpayers do this yearly, hoping to not be penalized. Quiet disclosure is only a safe choice if you do not receive income from the account and has no ownership interest in it, or have paid all taxes on income from the account. A letter of explanation is a smart move in these circumstances. In general, quiet disclosure is risky, especially without the assistance of a tax professional.

Stay Consistent

The IRS is flexible and understands the confusion surrounding foreign bank accounts, especially as rules and regulations have surmounted in recent years. However, it is essential to be honest and stay consistent with the information you provide. Just like any financial relationship, you can easily aggravate the other party, and they will be less likely to work with you. Be honest and report all foreign accounts opened in the past and into the future.

Know the Rules and Requirements for Filing

In addition to the above information about beginning to file accounts opened in the past, filing your tax return correctly from now on is essential. If you have a foreign account, live abroad, and cannot file by the April 15th deadline, you may qualify for a 6 month extension, accompanied by a statement of explanation. If you are abroad and have questions, there are IRS offices in Frankfurt, London, Paris, and Beijing.

Western banks aren’t safeguarded or error proof; having an offshore account can be a good idea, and even a beneficial business practice. Just remember that remaining quiet about them is the worst possible option.


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