Tax Disclosures: What They Are and When You Need to File

A tax disclosure is a formal statement to the Internal Revenue Service (IRS) that reports specific transactions, tax positions, or financial holdings. The purpose is to create transparency and ensure compliance with the U.S. Tax Code. This process allows the IRS to understand the basis for certain figures on a tax return, which can preempt audits or further inquiries.

These statements are not admissions of wrongdoing but are a mechanism for clarity. They signal to the IRS that a taxpayer has engaged in a transaction or taken a position that requires specific reporting. This gives the IRS a clear view of items that have a higher potential for tax avoidance or are contrary to established guidance.

Common Situations Requiring Disclosure

A disclosure is necessary when a taxpayer takes a position on their tax return that is contrary to established IRS rules or regulations. This does not mean the position is illegal, but that it relies on an interpretation of the tax code that differs from the IRS’s official stance. For example, a taxpayer might interpret a new or ambiguous part of the tax code in their favor, based on a reasonable legal argument. Disclosing this position protects the taxpayer from certain penalties if the IRS later disagrees with the interpretation.

Another situation requiring disclosure involves holding financial assets in foreign countries. The requirement is based on the total value of these assets. If a U.S. taxpayer’s foreign financial assets exceed specific thresholds at any point during the tax year, a disclosure is mandatory. These assets can include bank accounts, brokerage accounts, and interests in foreign entities. The purpose of this reporting is to combat offshore tax evasion.

The IRS also identifies “reportable transactions,” which have a potential for tax avoidance or evasion. These are not necessarily improper, but they possess characteristics that the Treasury Department and the IRS have determined warrant closer scrutiny. When a taxpayer participates in one of these transactions, they must file a disclosure statement to provide the IRS with detailed information about the transaction and its tax implications.

Required Information and Forms

To disclose a tax position contrary to IRS rules, taxpayers use Form 8275, Disclosure Statement. If the position is contrary to a more authoritative Treasury Regulation, Form 8275-R, Regulation Disclosure Statement, must be used. For either form, the taxpayer must provide the specific tax item involved, the dollar amount of the item, and a detailed description of the relevant facts. A component is the legal basis for the taxpayer’s position, which could cite specific court cases or statutes that support their interpretation.

For reporting foreign financial assets, taxpayers must use Form 8938, Statement of Specified Foreign Financial Assets, filed with their annual income tax return. The required information includes the name and address of the foreign financial institution and the corresponding account numbers. A key requirement is reporting the maximum value of each asset during the tax year, converted to U.S. dollars. Taxpayers should use the U.S. Treasury Department’s end-of-year exchange rate or another consistently used, publicly available rate.

Participation in a reportable transaction requires filing Form 8886, Reportable Transaction Disclosure Statement. This form demands a thorough narrative of the transaction, including all parties involved, the sequence of steps, and the expected tax consequences. The form is structured to capture details about why the transaction is considered reportable. Taxpayers must also describe the transaction’s potential tax benefits and provide a factual and legal justification for the claimed tax treatment.

How to File Tax Disclosures

The method for submitting tax disclosures depends on the specific form. Many disclosure forms are part of the annual tax return filing process. For instance, Form 8275, Form 8275-R, and Form 8938 are all attached directly to the taxpayer’s main income tax form, such as Form 1040. When filing a paper return, these forms are physically sequenced behind the primary tax form, while tax preparation software allows for electronic attachment.

Some disclosure forms have dual filing requirements. Form 8886, used for reportable transactions, must be attached to the taxpayer’s income tax return for the relevant year. In addition, a separate copy of the same Form 8886 must be mailed independently to the IRS Office of Tax Shelter Analysis (OTSA) at:

Internal Revenue Service
1973 North Rulon White Blvd.
LB&I:OTSA – M/S 4916
Ogden, UT 84201

Penalties for Nondisclosure

Failing to make a required disclosure can lead to financial consequences. When a taxpayer takes a position contrary to IRS rules but does not file Form 8275 or 8275-R, they may be subject to an accuracy-related penalty if the IRS disallows the position and an underpayment of tax results. This penalty is 20% of the underpayment. While proper disclosure can provide a defense against this penalty if the position had a reasonable basis, it does not protect against the penalty if the underpayment is due to negligence.

The penalties for failing to file other specific disclosure forms are direct. Failure to file Form 8938 to report foreign financial assets can result in an initial penalty of $10,000. If the taxpayer receives a notice from the IRS and continues to not comply, additional penalties can accrue, reaching up to $50,000.

The consequences for not disclosing a reportable transaction on Form 8886 are high. For a “listed transaction,” the penalty is 75% of the decrease in tax resulting from the transaction. This penalty has a minimum of $5,000 for an individual and $10,000 for other entities, and a maximum of $100,000 for an individual and $200,000 for other entities. For other reportable transactions, the penalty is $10,000 for an individual and $50,000 for other entities.