The IRS Has Changed the Rules for a Voluntary Disclosure. Will Anyone File One?
By Joel N. Crouch on September 4, 2024
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Joel N. Crouch
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When I first started practicing law in the late 1980's the procedure for making an IRS voluntary disclosure was very simple and informal. The goal of a voluntary disclosure was to correct problems or file delinquent tax returns and bring taxpayers back into compliance without too much pain or difficulty.
If a client needed to do a voluntary disclosure, I confirmed that the IRS had not contacted the client regarding a civil examination or criminal investigation, usually by asking the client if they had received any correspondence from the IRS or been contacted by the IRS. If there had been no contact, I would schedule a meeting with IRS Criminal Investigation Division (CID) to discuss the particulars of my client's situation, without identifying the client. For example, I would say my client has underreported income in the amount of $100,000 for each of the past three years or, as was the case of my first voluntary disclosure, my client has not filed a federal income tax return in 35 years. The CID Agent would then tell me that sounds like a good candidate for a voluntary disclosure, but CID must determine if there is an ongoing civil examination or criminal investigation. I would then provide the client's name and social security number for confirmation that my client qualified. Once CID confirmed there was no civil examination or criminal investigation, the client filed six years of original or amended tax returns, paid the tax and interest and in most cases avoided any penalties. Sometimes the IRS examined the new returns and sometimes they simply accepted the returns and payments without any further action. In 35 years of tax practice, I have never had the IRS deny a client's voluntary disclosure. (KNOCK ON WOOD).
Starting in 2009, the IRS Offshore Voluntary Disclosure Program started changing how a voluntary disclosure is made, and more recent changes are threatening to kill the practice of voluntary disclosures. Initially, the OVDP followed the same steps discussed above, but as more taxpayers participated in the OVDP, the process became more formal. Currently any domestic or international voluntary disclosure requires the submission of a Form 14457 Part I to the IRS. Part I includes information identifying the taxpayer(s) and related entities, financial accounts, and digital assets. The IRS will then notify the taxpayer(s) that they are "precleared" and can submit Part II of Form 14457. Part II requires more detailed information including a complete explanation of the reason for the disclosure. The taxpayers are thereafter notified of "preliminary acceptance". The case is then assigned to an IRS examiner, with whom the taxpayers are required to cooperate, for review of amended or original returns and supporting documentation. Taxpayers are required to cooperate with the IRS examiner and cooperation may include an interview of the taxpayers.
Until recently, the IRS examiner had the option of imposing a one-time 75% civil fraud penalty on the highest tax year or a lesser accuracy related penalty or even a fraud penalty for more than one year. Not surprisingly, the one-time 75% civil fraud penalty was the norm. The most recent iteration of Form 14457, dated June 2024, has removed any penalty discretion from IRS examiners. The current instructions say, "A civil fraud penalty or a fraudulent failure to file penalty, sections 6663 or 6651(f), respectively, will apply to at least one year of all voluntary disclosures" (emphasis added).
Part II of Form 14457 now requires a taxpayer to state under penalties of perjury that their noncompliance was willful. More specifically, the revised Form 14457 requires the submitting taxpayer to check a box that says, "I was willful in the actions that led to my tax noncompliance and understand that willfulness is a requirement to be considered for entry into the VDP." Below that is the following: "Note: Failure to check this box will result in an automatic denial into the VDP and no appeals or reinstatements will be granted." “Willfulness” is not defined in the form or instructions. Many practitioners are concerned that taxpayers, when checking the willfulness box, are admitting to criminal conduct before receiving preliminary acceptance into the Voluntary Disclosure Program. If the IRS turns down the voluntary disclosure or later kicks the taxpayer out of the program, this willful admission can be used against the taxpayer in a subsequent criminal investigation or civil examination.
There are also concerns with the new requirement that all amended or original tax returns and supporting information must be ready and available when Part II is submitted and the removal of the language regarding alternative payment arrangements such as Installment Agreements or Offers-in-Compromise.
The IRS Voluntary Disclosure Program has been one of the best tools available to both the IRS and taxpayers and a great use of resources for both. With the latest changes, the IRS may be killing one of its proverbial geese that laid a golden egg.
If you have any questions on this or any other tax issues, please feel free to contact me at jcrouch@meadowscollier.com.
If a client needed to do a voluntary disclosure, I confirmed that the IRS had not contacted the client regarding a civil examination or criminal investigation, usually by asking the client if they had received any correspondence from the IRS or been contacted by the IRS. If there had been no contact, I would schedule a meeting with IRS Criminal Investigation Division (CID) to discuss the particulars of my client's situation, without identifying the client. For example, I would say my client has underreported income in the amount of $100,000 for each of the past three years or, as was the case of my first voluntary disclosure, my client has not filed a federal income tax return in 35 years. The CID Agent would then tell me that sounds like a good candidate for a voluntary disclosure, but CID must determine if there is an ongoing civil examination or criminal investigation. I would then provide the client's name and social security number for confirmation that my client qualified. Once CID confirmed there was no civil examination or criminal investigation, the client filed six years of original or amended tax returns, paid the tax and interest and in most cases avoided any penalties. Sometimes the IRS examined the new returns and sometimes they simply accepted the returns and payments without any further action. In 35 years of tax practice, I have never had the IRS deny a client's voluntary disclosure. (KNOCK ON WOOD).
Starting in 2009, the IRS Offshore Voluntary Disclosure Program started changing how a voluntary disclosure is made, and more recent changes are threatening to kill the practice of voluntary disclosures. Initially, the OVDP followed the same steps discussed above, but as more taxpayers participated in the OVDP, the process became more formal. Currently any domestic or international voluntary disclosure requires the submission of a Form 14457 Part I to the IRS. Part I includes information identifying the taxpayer(s) and related entities, financial accounts, and digital assets. The IRS will then notify the taxpayer(s) that they are "precleared" and can submit Part II of Form 14457. Part II requires more detailed information including a complete explanation of the reason for the disclosure. The taxpayers are thereafter notified of "preliminary acceptance". The case is then assigned to an IRS examiner, with whom the taxpayers are required to cooperate, for review of amended or original returns and supporting documentation. Taxpayers are required to cooperate with the IRS examiner and cooperation may include an interview of the taxpayers.
Until recently, the IRS examiner had the option of imposing a one-time 75% civil fraud penalty on the highest tax year or a lesser accuracy related penalty or even a fraud penalty for more than one year. Not surprisingly, the one-time 75% civil fraud penalty was the norm. The most recent iteration of Form 14457, dated June 2024, has removed any penalty discretion from IRS examiners. The current instructions say, "A civil fraud penalty or a fraudulent failure to file penalty, sections 6663 or 6651(f), respectively, will apply to at least one year of all voluntary disclosures" (emphasis added).
Part II of Form 14457 now requires a taxpayer to state under penalties of perjury that their noncompliance was willful. More specifically, the revised Form 14457 requires the submitting taxpayer to check a box that says, "I was willful in the actions that led to my tax noncompliance and understand that willfulness is a requirement to be considered for entry into the VDP." Below that is the following: "Note: Failure to check this box will result in an automatic denial into the VDP and no appeals or reinstatements will be granted." “Willfulness” is not defined in the form or instructions. Many practitioners are concerned that taxpayers, when checking the willfulness box, are admitting to criminal conduct before receiving preliminary acceptance into the Voluntary Disclosure Program. If the IRS turns down the voluntary disclosure or later kicks the taxpayer out of the program, this willful admission can be used against the taxpayer in a subsequent criminal investigation or civil examination.
There are also concerns with the new requirement that all amended or original tax returns and supporting information must be ready and available when Part II is submitted and the removal of the language regarding alternative payment arrangements such as Installment Agreements or Offers-in-Compromise.
The IRS Voluntary Disclosure Program has been one of the best tools available to both the IRS and taxpayers and a great use of resources for both. With the latest changes, the IRS may be killing one of its proverbial geese that laid a golden egg.
If you have any questions on this or any other tax issues, please feel free to contact me at jcrouch@meadowscollier.com.
