The U.S. government's crackdown on offshore tax evasion could inflict harsh financial penalties on some American citizens who hold dual citizenship and are living in Canada.

The Internal Revenue Service is setting up a program to get American citizens who have offshore bank accounts to disclose that income before stiffer penalties come into force.

The IRS requires Americans to file tax returns even if they live, work and pay taxes in another country.

Christopher McLoon, a lawyer in Portland, Me., who specializes in cross-border tax issues, said many Americans who live in Canada and have dual citizenship are likely breaking the law unknowingly.

"It's a very unsettling situation for a lot of dual citizens. I've been talking to [people] who inadvertently failed to comply but now realize they have to," he said.

The IRS has set up the Offshore Voluntary Disclosure Initiative, which is giving those who have broken the law, knowingly or not, a reprieve.

Approved applicants have until Aug. 31 to file taxes voluntarily in exchange for less severe civil penalties.

McLoon said the penalties under the initiative are a deal compared to the cost of being caught without filing the tax returns.

"These penalties pale in comparison to the penalties that would be assessed against someone who was discovered by Internal Revenue Service as being non-compliant and forced by internal revenue to comply," McLoon said.

The chances of the IRS catching those who don't voluntarily file will go up in 2013 when a law requiring Canadian banks to share client information with the U.S. government takes effect.

This isn't the first time the U.S. government has tried to entice citizens to disclose their foreign accounts. A similar voluntary disclosure initiative was used in 2009.

The IRS says on its website that those people failing to adhere to the rules could face other legal trouble.

"Taxpayers who do not submit a voluntary disclosure run the risk of detection by the IRS and the imposition of substantial penalties, including the fraud penalty and foreign information return penalties, and an increased risk of criminal prosecution," the IRS said.

"The IRS remains actively engaged in ferreting out the identities of those with undisclosed foreign accounts."

Anyone convicted of criminal tax evasion could face a prison term of up to five years and a maximum fine of $250,000.