The Irs's Voluntary Disclosure Program: Need for Codification

• Publication year: 2021

The IRS's Voluntary Disclosure Program: Need for Codification

Jay A. Soled
Rutgers University, jaysoled@andromeda.rutgers.edu

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THE IRS'S VOLUNTARY DISCLOSURE PROGRAM: NEED FOR CODIFICATION

Jay A. Soled^*

Abstract

For more than a century, the Internal Revenue Service (IRS) has had a voluntary disclosure program in place. Its purpose is to coax into tax compliance those wayward taxpayers who have committed criminal acts or have been remiss in fulfilling their civic tax-filing obligations. Historically, the voluntary disclosure program has had to strike a difficult balance between being attractive enough to entice tax scofflaws to participate and not being too attractive lest ordinary taxpayers feel that their compliance efforts were for naught.

A unique feature of the voluntary disclosure program is that it is entirely administrative in origin. The commissioner of the IRS formulated the program and exercises carte blanche as to its terms. The program's administrative origins have allowed it to be nimble and responsive to the evolving tax landscape, but such malleability has sometimes dissuaded qualified taxpayers from participation because they fear that the program's terms are stacked against them.

This Article advocates that Congress codify the voluntary disclosure program to bolster its appeal. By taking this legislative measure, the IRS and taxpayers would have to abide by a set of written ground rules. Doing so would curtail both real and perceived agency abuses and likely increase the number of derelict taxpayers choosing to participate.

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CONTENTS

Introduction................................................................................959

I. Background of the Voluntary Disclosure Program.....962

A. Introduction of the Income Tax...........................................963
B. Advent of Third-Party Tax Information Return Matching Program..............................................................................966
C. Lifting of Bank Secrecy Laws and the Advent of International Third-Party Tax Information Return Matching Program... 969

II. Analysis of the Voluntary Disclosure Program...........977

A. Current Features.................................................................981

1. Preclearance.................................................................981
2. Preliminary Acceptance.................................................981
3. Submission of the Corrected or Delinquent Filings.....982
4. Look-Back Period and Penalty Computation................982

i. Tax Deficiency Penalties ........................................ 982
ii. Offshore Tax-Filing Penalties ................................ 983

B. Critique ............................................................................... 983
1. Advantages....................................................................983
2. Disadvantages............................................................... 985

III. Proposed Legislative Reform..............................................987

A. Codification of the Voluntary Disclosure Program............ 988

1. Procedural Rules..........................................................988

i. Investigation Commencement Designation ............ 989
ii. IRS Timetable to Respond.......................................990
iii. Timetable to Submit Paperwork ............................. 991

2. Penalty Structure..........................................................991

i. Willfulness............................................................... 992
ii. Non-Willfulness ....................................................... 992
iii. Potential for Recidivism..........................................993

B. Critique...............................................................................994

Conclusion...................................................................................996

Appendix........................................................................................998

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Introduction

During the last century, in one form or another, the Treasury Department has overseen a voluntary disclosure program.¹ The historical focus of the program was upon taxpayers who committed criminal tax violations; they could seek absolution from the Internal Revenue Service (IRS) if, before being investigated, they approached the agency and acknowledged their guilt.² For noncompliant taxpayers, this forgiveness process often came at a steep financial cost in terms of additional taxes, penalties, and interest;³ nevertheless, in many taxpayers' minds, this price tag has been well worth the cost because it negated criminal exposure and possible prison time.

During the twentieth century, the existence of the voluntary disclosure program was not well publicized, and its contours were amorphous. This was not unexpected: the genesis of the voluntary disclosure program was (and remains) entirely administrative in nature;⁴ and thus, with every new IRS commissioner, there came the opportunity to curtail, expand, and tweak it.⁵ Its transient features

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have been captured in various renditions of the Internal Revenue Manual,⁶ an assortment of administrative pronouncements,⁷ and numerous commissioner and Treasury Department statements.⁸

However, at the turn of the century, the salience of the voluntary disclosure program changed dramatically. Through a series of discoveries, the Treasury Department learned that thousands upon thousands of taxpayers were failing to report their offshore income, and for the first time, the agency developed viable strategies to uncover the identity of culpable taxpayers.⁹ One major problem, however, was that the IRS lacked the resources to audit, let alone criminally prosecute, all of those who were guilty of tax noncompliance. The agency, therefore, commenced and broadly publicized a permutation of its voluntary disclosure program, known as the Offshore Voluntary Disclosure Program (OVDP), and its participation qualifications.¹⁰

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The OVDP proved to be resoundingly successful. It brought in billions of dollars in otherwise lost tax revenue and eliminated the need to audit and prosecute tens of thousands of taxpayers.¹¹ In addition, it caused the IRS to rethink the entirety of its voluntary disclosure program and its key attributes. Indeed, in a recent announcement, the agency released yet another iteration of its voluntary disclosure program, spelling out its salient features and the virtues associated with participation.¹²

This Article argues that the IRS—an administrative branch of government—should not have unimpeded authority to model the voluntary disclosure program's salient features and contends instead that codification is in order.¹³ Notwithstanding the fact that a legislative overlay would provide less flexibility to the IRS and participating taxpayers to orchestrate their affairs, its institution would bring continuity, uniformity, and consistency to the program.

To make the case for codification, this Article is divided into several Parts. First, Part I summarizes the history of the voluntary disclosure program. Next, Part II details the present program and critiques its strengths and weaknesses. Finally, Part III contends that Congress should enact a permanent voluntary disclosure program and explains why the advantages of doing so far outweigh the disadvantages.

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I. Background of the Voluntary Disclosure Program

In the criminal world, prosecutors know that their cases become precipitously weaker when alleged perpetrators, of their own volition, come forward, express contrition, and demonstrate a willingness to bear the consequences of their prior actions.¹⁴ The exact same phenomenon has been true for crimes that relate to tax compliance: those taxpayers who have crossed the line but subsequently seek to make amends are difficult to prosecute.¹⁵ The voluntary disclosure program, a deeply woven part of the nation's fabric for more than a century, tacitly recognizes this reality by allowing taxpayers who participate in it, in most instances, to avoid criminal exposure.¹⁶

But in the criminal world, there is another commonplace reality; namely, absent extenuating circumstances, few perpetrators are willing to come forward and throw themselves upon the mercy of prosecutors and the courts. Instead, these often-hardened risk-takers are disposed to take their chances and assume that they will not get caught. Thus, the popularity of various voluntary disclosure programs—those that are tax-related and those that are not—rise and fall, heavily dependent on external factors that often correlate with the risk of detection.¹⁷

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Consider three phases of the income tax and how they propelled the tax-related voluntary disclosure program into existence and then shaped its ever-evolving contours: (A) the introduction of the income tax, (B) the advent of the third-party tax information return matching program, and (C) the lifting of bank secrecy laws and the advent of the international third-party tax information return matching program.

A. Introduction of the Income Tax

At the inception of the income tax in 1913, tax noncompliance was likely flagrant.¹⁸ The law was new, and those who were noncompliant could always proffer the excuse that they did not know any better (i.e., they lacked the mens rea to be guilty of a crime). And for several years, the plea of ignorance under the law probably resonated with judges and juries, saving many taxpayers from incarceration for tax noncompliance.¹⁹ In addition, though the historical record is sketchy, the Bureau of Internal Revenue (the predecessor to the IRS), at its nascent stage of existence, likely lacked sufficient labor power to conduct wide-scale and thorough

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audits; and as a result, those audits it did undertake were probably fairly rudimentary in nature.²⁰

Nevertheless, the threat of criminal tax exposure always loomed. A spurned spouse, a fired...