In a previous blog post (HERE), we discussed how and when to make a voluntary disclosure to the IRS using the revised voluntary disclosure guidelines announced by the IRS in November 2018. In April 2020, the IRS quietly updated Form 14457, Voluntary Disclosure Practice Preclearance Request and Application and its instructions. The changes to the form and instructions answer some of the outstanding questions but also raise new questions. For example, while the instructions clearly state that a disclosure will not guarantee immunity from prosecution, they also state multiple times that the practice provides a way to “avoid potential criminal prosecution.”
A taxpayer seeking to make a voluntary disclosure must do so by first requesting preclearance on Form 14457, Part I. The taxpayer must fax or mail the completed Form 14457, Part I to the IRS Criminal Investigation Division (CID) for review and consideration. According to the new instructions, a preclearance request, which takes a minimum of 30 days but could take 60 days or longer to process, will not prevent a taxpayer from pursuing other compliance options. If CID preclears a taxpayer, he or she will use Part II of Form 14457 to make additional disclosures. Once Part II is submitted, a taxpayer cannot retrieve the request from CID, and the IRS can use the information in civil and criminal investigations. If CID ultimately accepts the voluntary disclosure, the taxpayer’s submission will be sent to IRS examination for review and examination. The taxpayer must cooperate with the IRS examiner or else the examiner can request that CID revoke its acceptance of the disclosure. However, according to the memo if the taxpayer and examination cannot agree, “taxpayers retain the right to request an appeal with the Office of Appeals. ” A voluntary disclosure will involve the six most recent tax years, although the IRS examiner can expand the scope of the examination if the voluntary disclosure does not result in an agreement. It is anticipated that voluntary disclosures will be resolved through the use of a closing agreement executed by both the taxpayer and the IRS. Generally, the IRS will assess one 75 percent civil fraud penalty for the year with the highest tax liability. The examiner will have the discretion to either expand the use of the civil fraud penalty or downgrade it to a 20 percent negligence penalty. In cases involving undisclosed foreign bank accounts, the IRS will follow its willful penalty guidance which typically caps the penalty at 50 percent of the highest year’s aggregate account balances. The examiner will have the discretion to apply the non-willful FBAR penalty instead of the 50 percent willful penalty.
A few highlights from the revised Form 14457 and instructions:
- If a taxpayer fails to cooperate fully, the scope of the examination can be expanded to all tax years involving willful noncompliance. Failure to cooperate can also result in revocation of preliminary acceptance into the practice.
- The voluntary disclosure program is unavailable for taxpayers with illegal-source income, including activities that are legal under state law but illegal under federal law. For example, noncompliant taxpayers involved in the production or sale of cannabis will need to determine ways to get compliant with the IRS that do not involve the voluntary disclosure program, such as making a quiet disclosure.
- In the case of joint returns, if only one spouse is at risk for criminal prosecution, the nonculpable spouse does not need to participate in the disclosure. However, the instructions make clear that the IRS may examine a spouse who does not make a voluntary disclosure.
- Taxpayers making a disclosure must provide details about the professional advisers who assisted them. Since a taxpayer is required to fully cooperate, they may be required to waive any privilege they have with their advisors.
- The instructions now indicate that “extraordinary circumstances may merit” its use for resolution of estate tax liabilities.
Any taxpayer who is considering options for resolving noncompliance should consult with a tax advisor who is familiar with all options for resolving the noncompliance, including the IRS Voluntary Disclosure Program.
For any questions on this or any other tax-related matter, please feel free to contact Joel Crouch at (214) 749-2456 or firstname.lastname@example.org.