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Treasury Tax Inspector: IRS Not Fully Equipped to Enforce FATCA But Still Pressuring Foreign Banks to Disclose U.S. Account Holders

The office of the Treasury Inspector General for Tax Administration, or TIGTA, the independent supervisory body overseeing the IRS, just issued a highly critical report on the IRS's readiness to implement the Foreign Account Tax Compliance Act. TIGTA found serious problems that may require a major redesign of the system. This is true despite the fact that the IRS has already been actively pressuring foreign banks to disclose the identities of American offshore account holders.

To register such information from banks worldwide, the IRS began building the Foreign Financial Institution Registration System shortly after FATCA was initially passed in 2010. TIGTA estimates that between 200,000 and 400,000 foreign banks will need to register with the IRS in order to comply with FATCA.

Then, in November of last year, significant regulatory changes were made to FATCA, meaning corresponding changes had to be made to the database. All in all, the IRS has spent more than $8.6 million and 19 months developing the database in preparation for FATCA enforcement, which is set to begin in July 2014.

TIGTA's audit was meant to ensure the IRS's systems development meets FATCA's requirements, and that the project is on track. Unfortunately, TIGTA found serious deficits in the system's processes and controls involving IT program management, testing documentation, security and fraud prevention controls, and other areas.

As a result, TIGTA made six specific recommendations -- all of which the IRS agreed to. However, the IRS's chief technology officer took exception to TIGTA's conclusion that "a major redesign of the system was necessary due to IRS not sufficiently developing requirements."

TIGTA also found that budget constraints have delayed full implementation of the FATCA program, including postponements in assigning staff to the program.

Last month, four bank lobbying groups asked the Obama administration to delay the implementation of FATCA for six months. The law is already deeply unpopular abroad, despite the IRS's self-congratulation on its success in pressuring foreign banks to disclose offshore accounts controlled by Americans. As we discussed in September, critics at home and abroad have accused the IRS of violating other nations' sovereignty and protested FATCA's onerous, expensive compliance requirements.

FATCA is among the largest, most complex, and most invasive laws ever passed by Congress. Perhaps lawmakers didn't fully understand the full costs of such a law before focusing on its potential benefits?

The inability of the IRS to properly process TIGTA does not lessen the pressure it is putting on foreign banks to disclose U.S. citizens with offshore accounts. The threat of criminal prosecution and severe civil penalties is still a serious one for those who have not disclosed offshore accounts.

We have helped many clients avoid criminal prosecution and significantly reduce IRS civil penalties by using the Offshore Voluntary Disclosure Program (OVDP). Every client that we have placed in the OVDP has successfully completed the program and was not prosecuted.