Civil FBAR Penalties

In an ordinary tax case, the government must show that a taxpayer's actions constituted a “voluntary, intentional violation of a known legal duty.” U.S. v. Pomponio, 429 U.S. 10, 12 (1976). To prove this, a showing that the taxpayer acted with “careless disregard” is inadequate. Id. Furthermore, the seminal case of Cheek v. U.S., 498 U.S. 192 (1991), stands for the proposition that an honest belief that one's conduct did not violate the law, no matter how unreasonable that belief, results in a finding of non-willfulness.

Despite these long-standing legal precedents, under the OVDP, absent some extraordinary facts ' such as proof that the client's return preparer had full knowledge of the foreign account yet failed to both: 1) check the box on Schedule B reporting the account; and 2) include the account income on the return ' the IRS has been unmoved by arguments that taxpayers should receive a lower FBAR penalty for non-willful violations. The IRS's position has been that failure to check the box on Schedule B is, in and of itself, proof of willfulness.

A Reason for Optimism

A recent decision out of the Eastern District of Virginia now leaves the government's simplistic argument on shaky ground and provides a glimmer of hope that in both criminal and civil cases involving foreign accounts, lower FBAR penalties are possible and worth pursuing. In U.S. v. Williams, 2010 WL 3473311 (E.D.Va., Sept. 1, 2010), the court denied the government's request to enforce civil FBAR penalties against J. Bryan Williams for willful failure to file FBARs. Williams pleaded guilty to charges of conspiracy to defraud the United States, and criminal tax evasion in connection with his failure to report two Swiss bank accounts held under the name of a sham corporate entity. The government sought to enforce civil FBAR penalties imposed for Williams' failure to report his interest in the two Swiss bank accounts for tax year 2000. The facts showed that Williams met with Swiss authorities in the summer of 2000 concerning the bank accounts, and the accounts were frozen shortly after that meeting. In June 2001, Williams retained tax attorneys, but he was not advised to file an FBAR for 2000 by the due date of June 30, 2001. Nor had he filed any FBARs going back to 1993, when the accounts were opened. The court noted, however, that by June 2001, when the FBAR for 2000 was due, Williams was aware that Swiss and U.S. authorities already knew of his account and he had retained counsel to advise him. In addition, in January 2002, Williams disclosed the accounts to an IRS agent and filed FBARs for both 2002 and 2003, thus evidencing his lack of intent to hide the account from U.S. taxing authorities.

The government based its case on the mere fact that Williams's tax return did not report the foreign accounts and argued that his signature on the tax return was prima facie evidence that he knew the contents of that return. It therefore followed, under the government's theory, that Williams willfully failed to file an FBAR, because Schedule B, Part III, Question 7a of the tax return, which asks whether the taxpayer had “an interest in or a signature authority over a financial account in a foreign country,” also states the following: “See page B-2 for exceptions and filing requirements for Form TD F 90-22.1.” Because Schedule B of the tax return references FBAR filing requirements, then, the government argued that the taxpayer knew he was required to file an FBAR and willfully failed to do so. In rejecting the government's argument, the court displayed practical wisdom that shows an understanding of the realities of tax compliance:

• Most taxpayers rely on tax return preparers to properly complete their tax returns;
• The tax laws are too complicated for most taxpayers to fully understand; and
• It is understandable that a taxpayer would fail to read the fine print at the bottom of one of many schedules attached to a tax return.

The Ruling

The court concluded that “Williams' testimony that he only focused on the numerical calculations on the Form 1040 and otherwise relied on his accountants to fill out the remainder of the Form is credible, and should be given more weight than the mere fact that Williams checked the 'No' box.” 2010 WL 3473311 at *5. Significantly, the court rejected the government's argument that Williams was estopped by his guilty plea from arguing that he did not commit a willful FBAR violation for tax year 2000. The court noted that tax evasion is very different from an FBAR violation and found that “there is a factual incongruence between those facts necessary to his guilty plea to tax evasion and those establishing a willful [FBAR] violation.” Id.

Conclusion

Practitioners now have reason to hope that the IRS will pay heed to the Williams court's reasoning and exhibit some flexibility in the penalty scheme. Armed with the Williams decision, practitioners should not docilely accept the IRS's blanket position that all FBAR violations are willful and subject to the highest penalties. In negotiating guilty pleas and OVDP closing agreements, attorneys should, when the facts support a finding of non-willfulness, take the time to inform the government of the particular facts surrounding FBAR non-compliance.

Even if the IRS is not receptive to non-willfulness arguments, the Williams decision shows that courts are open to the notion that not every non-compliant taxpayer ' including one who enters a guilty plea to tax evasion for failure to report a foreign account ' should be subject to the draconian FBAR penalties being issued across the board in cases involving undisclosed foreign accounts.

Sharon L. McCarthy is a partner in New York's Kostelanetz & Fink, LLP.

In an ordinary tax case, the government must show that a taxpayer's actions constituted a “voluntary, intentional violation of a known legal duty.” U.S. v. Pomponio , 429 U.S. 10, 12 (1976). To prove this, a showing that the taxpayer acted with “careless disregard” is inadequate. Id. Furthermore, the seminal case of Cheek v. U.S. , 498 U.S. 192 (1991), stands for the proposition that an honest belief that one's conduct did not violate the law, no matter how unreasonable that belief, results in a finding of non-willfulness.

Despite these long-standing legal precedents, under the OVDP, absent some extraordinary facts ' such as proof that the client's return preparer had full knowledge of the foreign account yet failed to both: 1) check the box on Schedule B reporting the account; and 2) include the account income on the return ' the IRS has been unmoved by arguments that taxpayers should receive a lower FBAR penalty for non-willful violations. The IRS's position has been that failure to check the box on Schedule B is, in and of itself, proof of willfulness.

A Reason for Optimism

A recent decision out of the Eastern District of Virginia now leaves the government's simplistic argument on shaky ground and provides a glimmer of hope that in both criminal and civil cases involving foreign accounts, lower FBAR penalties are possible and worth pursuing. In U.S. v. Williams, 2010 WL 3473311 (E.D.Va., Sept. 1, 2010), the court denied the government's request to enforce civil FBAR penalties against J. Bryan Williams for willful failure to file FBARs. Williams pleaded guilty to charges of conspiracy to defraud the United States, and criminal tax evasion in connection with his failure to report two Swiss bank accounts held under the name of a sham corporate entity. The government sought to enforce civil FBAR penalties imposed for Williams' failure to report his interest in the two Swiss bank accounts for tax year 2000. The facts showed that Williams met with Swiss authorities in the summer of 2000 concerning the bank accounts, and the accounts were frozen shortly after that meeting. In June 2001, Williams retained tax attorneys, but he was not advised to file an FBAR for 2000 by the due date of June 30, 2001. Nor had he filed any FBARs going back to 1993, when the accounts were opened. The court noted, however, that by June 2001, when the FBAR for 2000 was due, Williams was aware that Swiss and U.S. authorities already knew of his account and he had retained counsel to advise him. In addition, in January 2002, Williams disclosed the accounts to an IRS agent and filed FBARs for both 2002 and 2003, thus evidencing his lack of intent to hide the account from U.S. taxing authorities.

The government based its case on the mere fact that Williams's tax return did not report the foreign accounts and argued that his signature on the tax return was prima facie evidence that he knew the contents of that return. It therefore followed, under the government's theory, that Williams willfully failed to file an FBAR, because Schedule B, Part III, Question 7a of the tax return, which asks whether the taxpayer had “an interest in or a signature authority over a financial account in a foreign country,” also states the following: “See page B-2 for exceptions and filing requirements for Form TD F 90-22.1.” Because Schedule B of the tax return references FBAR filing requirements, then, the government argued that the taxpayer knew he was required to file an FBAR and willfully failed to do so. In rejecting the government's argument, the court displayed practical wisdom that shows an understanding of the realities of tax compliance:

• Most taxpayers rely on tax return preparers to properly complete their tax returns;
• The tax laws are too complicated for most taxpayers to fully understand; and
• It is understandable that a taxpayer would fail to read the fine print at the bottom of one of many schedules attached to a tax return.

The Ruling

The court concluded that “Williams' testimony that he only focused on the numerical calculations on the Form 1040 and otherwise relied on his accountants to fill out the remainder of the Form is credible, and should be given more weight than the mere fact that Williams checked the 'No' box.” 2010 WL 3473311 at *5. Significantly, the court rejected the government's argument that Williams was estopped by his guilty plea from arguing that he did not commit a willful FBAR violation for tax year 2000. The court noted that tax evasion is very different from an FBAR violation and found that “there is a factual incongruence between those facts necessary to his guilty plea to tax evasion and those establishing a willful [FBAR] violation.” Id.

Conclusion

Practitioners now have reason to hope that the IRS will pay heed to the Williams court's reasoning and exhibit some flexibility in the penalty scheme. Armed with the Williams decision, practitioners should not docilely accept the IRS's blanket position that all FBAR violations are willful and subject to the highest penalties. In negotiating guilty pleas and OVDP closing agreements, attorneys should, when the facts support a finding of non-willfulness, take the time to inform the government of the particular facts surrounding FBAR non-compliance.

Even if the IRS is not receptive to non-willfulness arguments, the Williams decision shows that courts are open to the notion that not every non-compliant taxpayer ' including one who enters a guilty plea to tax evasion for failure to report a foreign account ' should be subject to the draconian FBAR penalties being issued across the board in cases involving undisclosed foreign accounts.

Sharon L. McCarthy is a partner in New York's Kostelanetz & Fink, LLP.