By Anne Rosivach
Under a law passed by the legislature in March, taxpayers who underreported their California income tax liabilities through the use of abusive tax avoidance transactions (ATAT) or offshore financial arrangements (OFA) will be permitted to obtain a waiver of most penalties if they amend their returns for 2010 and all prior years in which there is underreported income. Taxpayers will be required to pay all tax and interest that is owed.
The Voluntary Compliance Initiative 2 (VCI 2) program will be available to taxpayers with California liabilities from August 1 through October 31, 2011. After October 31, taxpayers who are found to have unreported liabilities through the use of ATAT or OFA will face the full range of penalties and interest, and may be subject to criminal prosecution. Furthermore, the eight-year statute of limitations will be extended to 12 years for assessing additional tax and penalties.
Taxpayers wishing to take advantage of the penalty waiver must:
- Sign a participation agreement.
- Complete and sign an amended return reversing the ATAT or including the income from the OFA.
- Pay all tax and interest.
- Submit all of the above to the Franchise Tax Board (FTB) by October 31.
The participation agreement will be available on the FTB's web site on August 1. All other required forms are currently available.
Potential accuracy and interest-based penalties arising from activities covered by VCI2can be substantial, as shown in an example on the FTB's Frequently Asked Questions - Voluntary Compliance Initiative 2 (VCI 2) page. As an example, a taxpayer who has an underreported tax liability of $100,000 because of activities covered by VCI 2 will pay:
- Tax of $100,000
- An understatement penalty of up to $40,000,
- Interest of $72,126,
- An interest-based penalty of $72,126, and
- A total of $284,252.
If the taxpayer takes advantage of VCI 2 and reverses an ATAT, with a resulting liability of $100,000, the taxpayer will pay:
- Tax of $100,000,
- Interest of $50,378, and
- A total of $150,378.
Taxpayers currently under a FTB examination for an ATAT or OFA, or under administrative protest or appeal for an ATAT or OFA, are eligible for the penalty amnesty program.
California accepts the Internal Revenue Code definitions of abusive tax avoidance transactions, including transactions to which the noneconomic substance transaction (NEST) penalty applies under Revenue and Taxation Code.
Taxpayers with filing requirements in California who participate in the Internal Revenue Service's (IRS) Offshore Disclosure Initiative must also file amended returns for California.
The IRS voluntary compliance program, which covers only OTA, will end August 31.