The Streamlined Domestic Offshore Procedures (SDOP) is the most commonly used program for U.S. residents who are trying to correct their past international tax mistakes and oversights. At a minimum, this program includes the accurate filing of six years of FBARs, three years of tax returns, a non-willful certification (Form 14654), and a 5% penalty based on the value of the non-compliant foreign assets.
This program is for individuals that have entirely failed to report their foreign income and foreign accounts as well as for individuals that have incorrectly reported that income and those accounts.
Before pursuing this type of program, it’s important to take a step back and review the penalty exposure associated with correcting your returns outside of a streamlined disclosure. If your filings won’t result in significant penalties, the cost of going through a streamlined disclosure might not be worth the protections that it will afford you. It’s also entirely possible that the peace of mind associated with thoroughly correcting your filings might make it worth the cost.
This might be the right program for you if:
1. You haven’t willfully failed to meet any of your tax obligations
2. The IRS hasn’t already initiated an examination or a criminal investigation
3. You have filed a tax return for each of the last three years
Determining whether your conduct has been willful generally requires a bit of reflection and a conversation with an attorney. When I’m trying to make a determination as to a client’s eligibility regarding the ‘willfulness’ of their conduct, I generally try to work backwards from present day. Some of the questions include:
How did you discover that you aren’t or might not be in compliance?
Why did you open accounts outside of the U.S.?
Were you paying tax on your foreign income in the foreign country, and is this potentially why you believed you didn’t need to report it on your U.S. filings?
Did you prepare your own returns or hire tax professionals to prepare them for you? If you hired professionals did they ask you about foreign accounts or foreign income? Did they provide you with a tax organizer that contained questions on your foreign income or foreign accounts?
Did any of your three most recent tax returns have a schedule B? Did you complete the bottom three questions of that schedule B? Do you recall reading these questions?
From here the inquiry generally becomes more tailored to your circumstances and your specific foreign activity/foreign accounts, but you should come to our consultation prepared to discuss all of your foreign activity and why you chose to conduct some affairs abroad rather than domestically.
Understanding the mechanics of the Streamlined Programs
The general order of operations for preparation, submission, and conclusion of your streamlined domestic offshore procedures disclosure is:
1. Determine your eligibility
2. Prepare your FBARs
3. Prepare your amended tax returns
4. Draft the Non-willful certification
5. Cut checks for the taxes owed and the 5% penalty
6. E-file the FBARs and paper file the amended returns and the non-willful certification
7. Wait
8. Receive IRS processing notifications for the amended tax returns
9. Wait
10. Wait
11. Wait
12. …
You’ll notice that at no point throughout this process does the IRS ever provide you with affirmative confirmation that your disclosure and the enclosed non-willful position have been accepted. Your tax returns are processed like amended returns with the most significant distinction being that the IRS does not automatically issue the failure to file penalties for the international information reporting forms. The processing notifications that you receive will be automated and will reference the amended returns, not the streamlined disclosure.
This process always leaves Taxpayers with a bit of uncertainty, but I can assure you that based on the hundreds of streamlined disclosures that I have assisted clients with, the likelihood of audit on a correctly prepared SDOP is incredibly low (or at least has been for roughly the last eight years since the program originated).
It’s important to be prepared for a potential audit and to be adequately prepared to answer any queries that the IRS may have (of course we can handle this correspondence and any potential audit for you, whether or not we prepared your disclosure). This means it is important to preserve copies of all of your filings and all of the supporting documentation used to draft those filings.
Clients always want to know how long the IRS can wait before examining their filings and challenging their streamlined disclosure. The practical answer to this question is roughly three years from the filing of the disclosure. The technically correct answer to this question is potentially forever depending on the schedules included with the filing and the IRS’ ability to determine that any of the international information reporting forms are not “substantially complete” (blog article explaining the IRS understanding of substantially complete coming soon).
I don’t want to take too big of a detour into statutes of limitation (the amount of time the IRS has to challenge specific forms and filings and assess penalties on those forms and filings) but it is worth noting that the IRS is normally limited by a three year statute of limitations on tax returns, six years if there is a ‘substantial understatement’ of your income (which means you left 25% or more of your gross income off of your return), but they are unlimited in their ability to assess penalties on unfiled international information reporting forms that are either unfiled or substantially incomplete.
The last statute of limitations issue that I’d like to point out is that the FBAR has a strict six year statute of limitations and this often can impact the FBAR years included in your disclosure.
Well now you have an overview of the program eligibility and the mechanics of the submission and processing. If you’re interested in confirming your eligibility, moving forward with a disclosure, or even having us review your disclosure, reach out, we can help.