Friday, April 26, 2013

Hale Sheppard Article on Willful FBAR Penalty Cases (4/26/13)

Hale Sheppard, here, a player in the offshore account area, has published a new article, titled Government Wins Second Willful FBAR Penalty Case: What McBride Really Means for Taxpayers, J. Taxation (Spring 2013).  The article can be view, by link, on his Firm's Tax Blawg, here.  Here is a short summary of the scope of the article:
Taxpayers with undisclosed foreign accounts wish it were not true, but the reality is that the U.S. government, after a long period of inactivity and ineffectiveness, has taken significant steps over the past few years to identify and punish failures to file Forms TD F 90-22.1 (Report of Foreign Bank and Financial Accounts), or foreign bank account reports (“FBARs”) as they are commonly known.  These steps include enacting legislation obligating foreign institutions to automatically provide the IRS with information about U.S. accountholders, paying handsome rewards to whistleblowers, introducing a new information return forcing taxpayers to report their foreign financial assets (including foreign accounts) to the IRS each year, imposing multi-million dollar fines and disclosure duties on foreign banks that collaborate with taxpayers to evade U.S. taxes, extracting valuable data about international tax transgressions from taxpayers participating in the Offshore Voluntary Disclosure Program (“OVDP”), and criminally prosecuting FBAR offenders.  Another step has become apparent in the past few months; that is, litigation to collect civil penalties for “willful” FBAR violations.  To date, two cases have been decided, both in favor of the U.S. government.  The attached article, “Government Wins Second Willful FBAR Penalty Case:  Analyzing What McBride Really Means to Taxpayers,” examines the most recent case.  The article was published in the Journal of Taxation (April 2013).
The article has detailed discussions of the two decided willful FBAR penalty cases (Williams and McBride), both finally won by the Government.  As I have noted  before, both cases have bad -- indeed egregious -- facts for the taxpayer, so I am not sure how to extrapolate any real world conclusions for U.S. taxpayers with better facts.

I recommend that readers having an interest in or concern about the willful FBAR penalty read the article in its entirety because it covers a lot of ground.  Here are some excerpts that I thought might be particularly helpful to readers:

Curiously, the revenue agent in McBride asserted a civil FBAR penalty for each year (in the words of the opinion) "in the amount of $100,000 ($25,000 per account) for his willful failure to report his interest in the foreign accounts." In other words, the revenue agent asserted a penalty that may have been considerably lower than the statutory limits. 
* * * * 
Based on the law in effect at the time, the Service's guidelines about how to impose FBAR penalties, and the high balances of McBride's unreported foreign accounts, one would have expected the revenue agent to assert a total penalty of $664,507 (as shown in Exhibit 1) rather than $200,000. 
* * * * 
When does an FBAR violation occur—June 30 (i.e., the deadline for filing the FBAR)? December 31 (i.e., the last day of the calendar year)? Neither the law nor the regulations specifically address this issue, but other IRS documents reveal the government's position. For example, an infamous IRS internal legal memorandum ILM 200603026) states the following:
"The decision to base the FBAR penalty on the highest balance in an account during the year was a policy decision made during the development of the FBAR mitigation  guidelines. Section 5321(a)(5), however, limits the amount of the penalty to [a  articular amount] or the balance in the account at the time of the violation which, for failure to report accounts, is June 30 of the succeeding year." (Emphasis added.) 
This conclusion is also confirmed in the IRM, which states the following about when an FBAR violation occurs: "The date of a filing violation is June 30th of the year following the calendar year for which the accounts are being reported. This date is the last possible day for filing the FBAR so that the close of the day with no FBAR represents the first time that a violation has occurred. The amount [balance] in the account at the close of June 30th is the amount to use in calculating the filing violation."  
In McBride, the court did not make any factual findings or rulings regarding the balances of the unreported accounts as of 6/30/01 (the date of the FBAR violation for 2000) or as of 6/30/02 (the date of the FBAR violation for 2001). Indeed, the district court held only that the four accounts "carried a balance of [a certain amount] in 2000" and "carried a balance of [a certain amount] in 2001." 
One might argue, therefore, that the U.S. government, which indisputably has the burden of demonstrating that the amount of the FBAR penalties is proper, failed to meet its burden. This contention was absent from the court's opinion, implying that McBride's representatives did not raise it. Other taxpayers facing large FBAR penalties in the future sure might, though. 
Government Reverses Course on Burden of Proof 
As explained above, the district court in McBride, adhering to the judicial reasoning in Williams II, held that the proper legal standard in FBAR collection cases is preponderance of the evidence, because the relevant statute is silent on the issue and because the civil FBAR penalty involves only money, not "important individual  interests or rights." McBride shows (to those who are paying close attention) how the IRS has radically changed its position on this issue since the courts started rendering unexpected, helpful decisions. 
In 2005, the IRS issued ILM 200603026 on offshore issues, covering several items, including the burden on the IRS in civil FBAR penalties cases. The Service's position at  that time, looking into its proverbial crystal ball, was that the courts would obligate the IRS to reach a tougher threshold, clear and convincing evidence: 
"We expect that a court will find the burden in civil FBAR cases to be that of providing ‘clear and convincing evidence,’ rather than merely a ‘preponderance of the evidence.’ The clear and convincing evidence standard is the same burden the Service must meet with respect to civil tax fraud cases where the Service also has to show the intent of the taxpayer at the time of the violation. Courts have traditionally applied the clear and convincing standard with respect to fraud cases in general, not just to tax fraud cases, because, just as it is difficult to show intent, it is also difficult to show a lack of intent. 
The higher standard of clear and convincing evidence offers some protection for an individual who may be wrongly accused of fraud.... "Because the FBAR penalty is not a tax or a tax penalty, the presumption of correctness with respect to tax assessments would not apply to an FBAR penalty assessment for a willful violation—another reason we believe that the Service will need to meet the higher standard of clear and convincing evidence." 
That was then and this is now. It is interesting to witness the Service's shift of position on the burden of proof issue during the McBride case. The government attorneys, anticipating that counsel for McBride might point to ILM 200603026, essentially explained to the district court on brief that the Service's position back in 2005 was, well, wrong, and it should be ignored altogether. The following shows more accurately how the IRS tried to distance itself from its earlier analysis: 
"Though McBride may attempt to assert that the applicable burden of proof with respect to the issue of willfulness is the ‘clear and convincing standard,’ that assertion is wrong and unsupported by any law. Moreover, McBride may not cite to Internal Revenue Service Legal Memorandum [because] 26 U.S.C. §6110 specifically prohibits Chief Counsel Advice memoranda like the one mentioned by counsel for McBride from being either used or cited as precedent. Therefore, that memorandum has no controlling effect, and moreover should not have any persuasive value...." 
It is equally interesting to see the IRS attempt to put a final spin on the burden of proof debate after the IRS-favorable holdings in Williams II and McBride. High-ranking IRS attorneys at the forefront of all things FBAR stated, as recently as January 2013, that the issue has been resolved, at least from their perspective: 
"[T]he IRS office of Chief Counsel initially took a conservative position when it advised field agents on the standard of proof the government must satisfy to show willfulness for the FBAR penalty, in part because the issue had not been litigated. But the courts have since agreed with the IRS that preponderance of the evidence, rather than clear and convincing evidence, is the correct standard to apply in the civil [FBAR] context."  
* * * * 
Edging Toward Strict Liability 
McBride also is interesting because of the district court's broad interpretation of "willfulness" in the FBAR context, which seemingly pushes the concept toward one of strict liability. Although not entirely clear, it appears that McBride argued that he was aware of the FBAR filing requirement, but decided not to comply because of his belief, based to a certain extent on the analysis of Accountant Taylor, that he did not possess a sufficient interest in the foreign accounts under the peculiar FBAR attribution rules. 
As the culmination to its 18-page analysis of the "willfulness" issue, the district court effectively concluded that, if a taxpayer executes and files his Form 1040, then all failures to file FBARs, regardless of the validity of the taxpayer's rationale for not filing,  are willful and vulnerable to maximum sanctions: 
"[E]ven if the decision not to disclose McBride's interest in the foreign accounts was based on McBride's belief that he did not hold sufficient interest in those accounts to warrant disclosure, that failure to disclose those interests would constitute willfulness....
Because McBride signed his tax returns, he is charged with knowledge of the duty to comply with the FBAR requirements.... Whether McBride believed [Accountant] Taylor had determined that a disclosure was not required is irrelevant in light of [the applicable precedent], which states that the only question is whether the decision not to disclose was voluntary, as opposed to accidental. The government does not dispute that  McBride's failure to comply with FBAR was the result of his belief that he did not have  a reportable financial interest in the foreign accounts. However, ... the FBAR requirements did require that McBride disclose his interest in the foreign accounts during both the 2000 and 2001 tax years. As a result, McBride's failure to do so was willful." 
This final ruling by the district court in McBride is noteworthy because it is contrary to the position taken by the IRS, historically and recently. For instance, in the portion of the IRM discussing the notion of "willful blindness," the Service indicates that "[t]he mere fact that a person checked the wrong box, or no box, on a Schedule B is not sufficient, by itself, to establish that the FBAR violation was attributable to willful blindness." 
The IRM goes on to explain that, even where a taxpayer admits knowledge about the FBAR question on Schedule B of Form 1040, willfulness exists only where the taxpayer is incapable of providing the IRS a "reasonable explanation" for not properly responding to the question on Schedule B and not filing an FBAR. As recently as January 2013, IRS representatives have made additional statements that simultaneously  support the principles in the IRM and minimize the holding in McBride. High-ranking IRS attorneys cleared the air in the following manner: 
"Although two courts emphasized it in recent decisions, neither Williams nor United States v. McBride ... seems to turn on whether the foreign bank account box was checked on the taxpayer's return.... In Williams, other facts supported the application of a willfulness penalty, [the IRS attorney said], adding that the IRS is not instructing agents to set up cases based on how the box [on Schedule B, Form 1040] is marked. It looks at all the facts and circumstances and ‘is not pushing the envelope’ in a way that could result in lost cases [for the IRS]." 


  1. Always enjoy it when Hale Sheppard explores these subjects. You have to set aside some time for close reading. He is the FBAR scholar extraordinaire, and we would have all done good to have read his 2006 treatise, on the "Evolution of the FBAR, Where We Were, Where We Are, and Why It Matters." He sure got the "Why it Matters right! :)

  2. Jack you write that the U.S. government, which indisputably has the burden of demonstrating that the amount of the FBAR penalties is proper failed to meet its burden and that oher taxpayers facing large FBAR penalties in the future sure might, though. the IRS internal legal memorandum ILM 200603026 is BIG NEWS ! with regards that the amount [balance] in the
    account at the close of June 30th is the amount to use in calculating
    the filing violation." and not the highest balance during the tax year in question. Did you not have any recent cases where this worked in favor of your clients ? - The probabilities are scewed in favor this time for the taxpayer/client. If not ,does that mean the taxpayer has to litigate to be treated under ILM 200603026 instead of under FBAR mitigation guidelines (highest balance) ?

  3. I do not believe any court has taken this matter up.

    In the Williams case, where Williams was penalized $200k (one open year, 2 accounts, max 100K under old FBAR law), I believe the defense lawyer suggested that the 2 accounts were really sub-accounts and not a single account and should be penalized just once. I do not know if the lawyer expressly challenged the idea that the IRS could assess each account separately. The district court found for Williams and hence did not have to address that issue. At the appellate level, the defense did not bring the matter up in its briefs and the appeals court overturned the verdict.

    Jack -- can the defense argue again that Williams had just a single account, or even that the penalty should be on a per year basis when the case goes back to district court ? Or does the appellate ruling essentially close the case, with the district court limited to entering judgement for the government ? Was it a tactical error on the defense's part to not bring the matter up in its appellate briefs, just in case the appellate court found for the government (as it did) ?

    I think the more natural reading is that the penalty should be on a per year basis. Especially for the non willful penalty -- if its non willful, does it matter whether its one account or 100 ? Besides, even the DoJ is not arguing that the criminal penalty should be on a per account basis (aren't those separate violations too ?).

    The IRM does say that penalties for multiple accounts should be used only in the most egregious cases (Williams and McBride style cases), so I think its unlikely that the government will push for per account penalties in normal cases -- especially since their legal position is not certain, and losing a normal case would prevent them from applying the penalty in truly egregious cases.

  4. Researcher,

    Your comments are always good ones. Keep in mind that the willful penalty statute was revised. As a consequence, I have not attempted to address this issue under the old text. And, I have not really focused on it under the new text, but with the penalty pegged at 50%, I don't think it would be material whether it were applied per account or in the aggregate. I suppose there might be differences, but to date the IRS has merely required 50% of the aggregate high balance.

    Jack Townsend

  5. I am not aware of such cases. Keep in mind that there are very, very few -- perhaps a handful -- of cases on FBAR penalties.

    Jack Townsend

  6. Thanks for the help. Regarding the McBride case, the opinion says that the IRS assessed "$100,000 ($25,000 per account)." Since the maximum FBAR penalty is $100,000, they could have simply assessed $100,000 for the year, rather than $25,000 per account for the year. They would have reached the same result either way, but the opinion specifically says it was "$25,000 per account". There is a short paragraph in the opinion that discussed the calculation of the penalty amount, but it doesn't really get into whether it is proper to assess the penalties per simply accepts the amount.

  7. Jack,did you not have any recent cases where this worked in favor of your
    clients ? - The probabilities are scewed in favor this time for the
    taxpayer/client. If not ,does that mean the taxpayer has to litigate to
    be treated under ILM 200603026 instead of under FBAR mitigation
    guidelines (highest balance) ?

  8. BM, I do not know what you are referring to in this comment. Can you clarify and be precise as to what you want me to respond to?


    Jack Townsend


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