Schools that fail to withhold taxes from foreigners may face millions in penalties

Approximately 250 colleges are now in a position to be audited for failing to withhold taxes from nonresident foreigners.

The audits are in response to the lack of national participation in the Voluntary Compliance on Alien Withholding Program, which was established so colleges who failed to comply thus far could work with the IRS in following the law.

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The program initially ran from January 2001 through February 2002. While coming forward did not release schools from the obligation to pay taxes owed or the accumulated interest, colleges that participated were eligible for tax breaks. IRS officials were surprised when only 12 colleges participated.

SIUC was the first school in the nation to come forward.

Kevin Bame, current director of General Accounting and former director of Tax Management and Compliance at SIUC, said the complexity of tax regulations necessitated the decision.

“In efforts to be compliant with some very complex regulations, we were in touch with the IRS before the program even began,” Bame said. “We hired two experts to help us understand the requirements and rules of reporting and how best to coordinate our presentation to the IRS.

“We wanted to be ahead of the curve on this, and we wanted the IRS’s blessing in the way the taxes for our international population were handled.”

The lack of responses to a purported nationwide problem sparked the new rounds of audits set to begin in late September.

“The IRS is going to go after the schools because they’re easy targets,” Bame said. “They always know where we are while our international students will be leaving the country in a few years. The arm of the IRS can’t reach that far.”

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A representative from the IRS said that while it is possible low participation was due to so many colleges being in compliance with the law, the audits would still root out those that were not.

“I think schools with a small international population may not have a lot of experience in dealing with the rules that apply for nonresident foreigners,” Bame said. “But any school with an international population is being naive in not taking steps to ensure compliance with the IRS.”

Many university tax representatives across the U.S. said the IRS should have anticipated a poor response to the program, largely because schools were unaware of it. Bame disagrees.

“There is a network of college tax administrators that was very proactive in keeping us in the loop on this,” Bame said. “We also had the Indiana Tax Conference for college and university tax officials going on annually. We had some of the best tax experts in higher education there, and they covered VCAP.

“Any school that says they were unaware of the program was very out of the loop,” Bame said.

Donna Kepley, a tax lawyer who is president of Arctic International LLC, said many schools that believed they were already in compliance did not think the initiative pertained to them. She said that other schools blatantly not complying with the law might not come forward for fear of serious penalties.

Arctic International has designed software to help institutions keep track of tax withholding for nonresident aliens.

There are risks for the colleges and the IRS in launching these audits. The IRS is about to sink years of manpower into audits that could yield very little. Colleges with confirmed violations may face millions in tax assessments and penalties.

Colleges that have more than 100 foreign students will be examined for the number of 1042-S forms filed with the IRS. The form reflects scholarship and fellowship payments made to nonresident foreigners and payments to independent contractors and guest speakers. Discrepancies between the number of forms submitted and the number of foreign students enrolled will prompt further examination.

The majority of colleges under investigation will initially receive compliance letters, indicating the IRS believes that the college owes tax funds. Schools will then have the opportunity to explain why they think they should be exempt from paying.

Failure to respond to the letters will result in personal visits from IRS agents, official audits and penalties up to 25 percent of the total tax owed.

Reporter Bertie Taylor can be reached at [email protected]