Willful FBAR Penalties

Willful FBAR Penalties

Willfulness & FBAR

Willful FBAR Penalties: When it comes to international tax law, the concept of willfulness can be very deceiving to a US Person Taxpayer. The term willfulness in everyday life is usually defined as someone acting intentionally in performing a behavior or action. This is not the case when it comes civil tax law penalties. The focus of today’s article is the concept of willfulness and FBAR penalties, including how the IRS enforces willful FBAR penalties — and two recent Appellate Court decisions. While willful FBAR penalties used to be less common, courts across the nation have been affirming the IRS issuance of willful FBAR penalties — even in situations in which the Taxpayer did not act with any actual intent (reckless disregard) or actual knowledge (willful blindness). Let’s review the basics of willful FBAR penalties.

What is a FBAR Willfulness

FBAR refers to Foreign Bank and Financial Accounts — which is reported annually on FinCEN Form 114. US persons who have an annual aggregate account value totaling more than $10,000 on any day of the year are typically required to file the annual FBAR. When a taxpayer does not timely file the FBAR — or files an inaccurate FBAR — they may be subject to fines and penalties. FBAR penalties can be either civil or criminal in nature. Despite all the fear mongering you will undoubtedly find online the majority of penalties are civil.  Therefore, under most circumstances the biggest threat to taxpayers is to there finances — and not their freedom.

26 USC 5321

Civil FBAR Penalties are codified in 31 USC 5321.

      • (C)Willful violations

      • In the case of any person willfully violating, or willfully causing any violation of, any provision of section 5314—

      • (i) the maximum penalty under subparagraph (B)(i) shall be increased to the greater of— (I)$100,000, or (II)50 percent of the amount determined under subparagraph (D), and (ii)subparagraph (B)(ii) shall not apply.*

      • (D) Amount.—The amount determined under this subparagraph is—

      • (i) in the case of a violation involving a transaction, the amount of the transaction, or

      • (ii )in the case of a violation involving a failure to report the existence of an account or any identifying information required to be provided with respect to an account, the balance in the account at the time of the violation.

What makes the title of USC so important, is that Taxpayers will notice that it is not title 26 which is the Internal Revenue Code — but rather title 31, which refers to Money and Finance code. Thus, while the Internal Revenue Service is tasked with enforcing FBAR penalties, FBAR reporting is not covered under the Internal Revenue Code — and not technically a tax or tax penalty. This puts taxpayers in a tough position when they want to litigate an FBAR account violation penalty, because they cannot dispute FBAR penalties in tax court.

*The $100,000 value adjust for inflation. it used to be that the IRS could recover 50% per year up to 300% value of the account (50% *6), But that was reduced to 100%.

IRM & Willful FBAR Violations 4.26.16.6.5.1 

The IRM is the Internal Revenue Manual. While it has no “force of law” it is relied upon by the IRS personnel — and it gives Taxpayers some insight as to how the IRS agent will treat certain violations — include willful FBAR violations.

 Willful FBAR Violations – Defining Willfulness

      • The test for willfulness is whether there was a voluntary, intentional violation of a known legal duty.

      • A finding of willfulness under the BSA must be supported by evidence of willfulness.

      • The burden of establishing willfulness is on the Service.

      • Willfulness is shown by the person’s knowledge of the reporting requirements and the person’s conscious choice not to comply with the requirements. In the FBAR situation, the person only need know that a reporting requirement exists. If a person has that knowledge, the only intent needed to constitute a willful violation of the requirement is a conscious choice not to file the FBAR.

      • Under the concept of “willful blindness,” willfulness is attributed to a person who made a conscious effort to avoid learning about the FBAR reporting and recordkeeping requirements.

Example:

      • Willful blindness may be present when a person admits knowledge of, and fails to answer questions concerning, his interest in or signature or other authority over financial accounts at foreign banks on Schedule B of his Federal income tax return. This section of the income tax return refers taxpayers to the instructions for Schedule B, which provides guidance on their responsibilities for reporting foreign bank accounts and discusses the duty to file the FBAR. These resources indicate that the person could have learned of the filing and recordkeeping requirements quite easily.

        It is reasonable to assume that a person who has foreign bank accounts should read the information specified by the government in tax forms. The failure to act on this information and learn of the further reporting requirement, as suggested on Schedule B, may provide evidence of willful blindness on the part of the person.

      • Note: The failure to learn of the filing requirements coupled with other factors, such as the efforts taken to conceal the existence of the accounts and the amounts involved, may lead to a conclusion that the violation was due to willful blindness. The mere fact that a person checked the wrong box, or no box, on a Schedule B is not sufficient, in itself, to establish that the FBAR violation was attributable to willful blindness.

Willfulness & Reckless Disregard

In order to prove willfulness, the US government only has to show that the taxpayer acted with reckless disregard — no actual intent is necessary. There are two recent Appellate Court cases which affirmed the lower FBAR willfulness standard. 

FBAR Penalty Cases: Kimble and Said

While the facts of these cases are not identical, both Appellate Courts came to the same conclusion that reckless disregard is sufficient to prove a civil willful FBAR violation. It has been a longstanding tradition in tax law, that in order to prove willfulness in the civil arena, the government does not have the burden of proving intent.

In both Kimble and Said, the court concluded that reckless disregard was sufficient to meet the willfulness standard.

What is so crucial about this concept for FBAR filers, is that even though the government has not proven willfulness and instead has only shown reckless disregard — the same willful FBAR penalty scheme applies. Stated differently, even if a taxpayer was only reckless — and not intentional — in their FBAR noncompliance, they will still get stuck with the same penalties as if they had acted with intent.

Here’s how each court summed up reckless disregard as it pertains to willful FBAR Penalties: 

Said & Willful FBAR Penalties

Willfulness includes recklessness:

      • Rum argues that the district court erred when it applied a standard of willfulness that includes reckless disregard of a known or obvious risk of nonpayment. He argues that the proper standard should be violation of a known legal duty, which is the standard used in criminal cases under the Bank Secrecy Act.

      • Congress passed the Bank Secrecy Act in 1970 in response to “serious and widespread use of foreign financial facilities located in secrecy jurisdictions for the purpose of violating American law.” H.R. Rep. No. 91-975 (1970), reprinted in 1970 U.S.C.C.A.N. 4394, 4397. Under 31 U.S.C. § 5321(a)(5)(A), the Secretary of the Treasury has the authority to impose civil money penalties on any person who fails to file a required FBAR. From 1986 to 2004, § 5321 only authorized penalties for willful violations and capped such penalties at $100,000. In 2004, Congress amended § 5321 to authorize penalties up to $10,000 for non-willful violations and to increase the maximum penalty for willful violations to the greater  of $100,000 or fifty percent of the balance in the account at the time of the violation. 31 U.S.C. § 5321(a)(5)(A)-(D).

      • In civil cases, willfully has traditionally been interpreted to include recklessness. In Safeco Insurance Co. of America v. Burr, 551 U.S. 47, 127 S. Ct. 2201 (2007), while examining the Fair Credit Reporting Act, the Court noted that “‘willfully’ is a word of many meanings whose construction is often dependent on the context in which it appears, and where willfulness is a statutory condition of civil liability, we have generally taken it to cover not only knowing violations of a standard, but reckless ones as well.” 551 U.S. at 57, 127 S. Ct. at 2208 (internal quotations and citations omitted). Like the Bank Secrecy Act, the Fair Credit Reporting Act contained both criminal and civil penalties and both included willfulness as the standard for violations. However, the Court rejected the call to require actual knowledge for both, limiting that higher standard to the criminal penalties. Id. at 60, 127 S. Ct. at 2210.

      • Other courts addressing this issue in the context of FBAR civil penalties have held that willfulness includes reckless disregard. “Though ‘willfulness’ may have many meanings, general consensus among courts is that, in the civil context, the term often denotes that which is intentional, or knowing, or voluntary, as distinguished from accidental, and that it is employed to characterize conduct marked by careless disregard whether or not one has the right so to act.”  Bedrosian v. United States, 912 F.3d 144, 152(3d Cir. 2018) (internal quotations and citations omitted); see also United States v. Horowitz, 978 F.3d 80, 89 (4th Cir. 2020) (discussing Safeco and holding in the context of a civil penalty that a “willful violation” of the FBAR reporting requirement includes reckless violations); Norman v. United States, 942 F.3d 1111, 1115 (Fed. Cir. 2019) (citing Safeco and holding “that willfulness in the context of  5321(a)(5)(C) includes recklessness”).

      • In United States v. Malloy, 17 F.3d 329 (11th Cir. 1994), we rejected a taxpayer’s similar willfulness argument in a suit brought by the government to collect unpaid withholding taxes pursuant to 26 U.S.C. § 6672. We noted that we had previously held that willfully, under § 6672,is defined by prior cases as meaning, in general, a voluntary, conscious, and intentional act, such as payment of other creditors in preference to the United States, although bad motive or evil intent need not be shown

      • The willfulness requirement is satisfied if the responsible person acts with a reckless disregard of a known or obvious risk that trust funds may not be remitted to the Government, such as by failing to investigate or to correct mismanagement after being notified that withholding taxes have not been duly remitted.17 F.3d at 332 (quoting Mazo v. United States, 591 F.2d 1151, 1154 (5th Cir. 1979). We emphasized that something less than actual knowledge was sufficient  to be liable and specifically restated the test of “a reckless disregard of a known or obvious risk.” Id. In Bonner v. City of Prichard, 661 F.2d 1206, 1209 (11th Cir. 1981) (en banc), this Court adopted as binding precedent all of the decisions of the former Fifth Circuit handed down prior to the close of business on September 30, 1981. Following our precedent interpreting the analogous language in § 6672, we hold that willfulness in § 5321 includes reckless disregard of a known or obvious risk. In so doing, we join with every other circuit court that has interpreted this provision. 

Kimble & Willful FBAR Penalties 

      • Contrary to Ms. Kimble’s argument that a taxpayer cannot commit a willful violation without “actual knowledge of the obligation to file an FBAR,” Appellant’s Br. 32, we have held that “willfulness in the context of § 5321(a)(5)(C) includes recklessness,” Norman, 942 F.3d at 1115. Accordingly, a taxpayer signing their returns cannot escape the requirements of the law by failing to review their tax returns. Id. at 1116 (“[W]hether [the taxpayer] ever read her . . . tax return is of no import because ‘[a] taxpayer who signs a tax return will not be heard to claim innocence for not having actually read the return, as . . . she is charged with constructive knowledge of its contents.’”) (quoting Greer v. Comm’r, 595 F.3d 338, 347 n.4 (6th Cir. 2010)). 

Willfulness and Willful Blindness

Similar to the concept of reckless disregard, is the concept of willful blindness. With the willful blindness, it is the idea that a taxpayer is aware that they may have a responsibility to do something but seemingly and intentionally avoids learning about the requirement. This is done so if they do get caught — they can then (try) to take the position that they did not know about it. One recent case in which the court succinctly summarized the concept of willful blindness & FBAR is US vs. Horowitz.

As provided by the court in Horowitz:

      • The Horowitzes argue that their friends told them they did not need to pay taxes on the interest in their foreign accounts.

      • Maybe so, but their friends’ credentials are not before the Court, nor is there any information from which I could assess whether it was reasonable for them to have accepted what their friends told them as legally correct.

      • And, in any event, their friends’ views would not override the clear instructions on Schedule B, which, as noted, requires a “Yes” answer if the taxpayer has an interest in a foreign account, regardless of whether the funds within it constituted taxable income.

      • Moreover, the fact that the Horowitzes discussed their tax liabilities for their foreign accounts with their friends demonstrates their awareness that the income could be taxable.

      • Their failure to have the same conversation with the accountants they entrusted with their taxes for years, notwithstanding the requirement that taxpayers with foreign accounts complete Part III of Schedule B, easily shows “a conscious effort to avoid learning about reporting requirements.” Williams II, 489 Fed. App’x at 658 (quoting Sturman, 951 F.2d at 1476).

      • On these facts, willful blindness may be inferred. See Poole, 640 F.3d at 122 (“[I]n a criminal tax prosecution, when the evidence supports an inference that a defendant was subjectively aware of a high probability of the existence of a tax liability, and purposefully avoided learning the facts pointing to such liability, the trier of fact may find that the defendant exhibited ‘willful blindness’ satisfying the scienter requirement of knowledge.” (quoted in Williams II in the context of civil liability)).

      • Thus, even without the additional evidence that was present in Williams II, I find based on these undisputed facts that the Horowitzes recklessly disregarded the FBAR filing requirement. See Williams II, 489 Fed App’x at 659. This suffices for a finding of willfulness. See id.; Safeco, 551 U.S. at 57.

Mitigation and Discretion

IRS examiners do have discretion to reduce foreign bank and financial account penalties — including willful FBAR penalties. There are various factors that the taxpayer must meet in order for the examiner and their manager slash supervisor to approve penalty reduction.

Mitigation: 4.26.16.6.6

The statutory penalty computation provides a ceiling on the FBAR penalty. The actual amount of the penalty is left to the discretion of the examiner.  IRS has adopted mitigation guidelines to promote consistency by IRS employees in exercising this discretion for similarly situated persons.

Exhibit 4.26.16-1. 4.26.16.6.6.1 Mitigation Threshold Conditions

      • “For most FBAR cases, if IRS has determined that if a person meets four threshold conditions, then that person may be subject to less than the maximum FBAR penalty depending on the amounts in the accounts.

      •  For violations occurring after October 22, 2004, the four threshold conditions are:

          • The person has no history of criminal tax or BSA convictions for the preceding 10 years, as well as no history of past FBAR penalty assessments.

          • No money passing through any of the foreign accounts associated with the person was from an illegal source or used to further a criminal purpose.

          • The person cooperated during the examination (i.e., IRS did not have to resort to a summons to obtain non-privileged information; the taxpayer responded to reasonable requests for documents, meetings, and interviews (the taxpayer back-filed correct reports).

          • IRS did not sustain a civil fraud penalty against the person for an underpayment for the year in question due to the failure to report income related to any amount in a foreign account.”

What does this Mean

This part of the Internal Revenue manual provides a four-prong test to determine whether or not a taxpayer may qualify to have the FBAR penalty mitigated. In other words, if the taxpayer can meet the four-prong test as indicated above then they may be able to have their penalties mitigated by the IRS examiner –but as seen below mitigation is still at the discretion of the examiner.

4.26.16.6.7 FBAR Penalties – Examiner Discretion

      • The examiner may determine that the facts and circumstances of a particular case do not justify asserting a penalty. When a penalty is appropriate, IRS penalty mitigation guidelines aid the examiner in applying penalties in a uniform manner. The examiner may determine that a penalty under these guidelines is not appropriate or that a lesser penalty amount than the guidelines would otherwise provide is appropriate or that the penalty should be increased (up to the statutory maximum).

      • The examiner must make such a determination with the written approval of the examiner’s manager and document the decision in the workpapers. Factors to consider when applying examiner discretion may include, but are not limited to, the following:
          • Whether compliance objectives would be achieved by issuance of a warning letter.
          • Whether the person who committed the violation had been previously issued a warning letter or assessed an FBAR penalty.
          • The nature of the violation and the amounts involved.
          • The cooperation of the taxpayer during the examination.
      • Given the magnitude of the maximum penalties permitted for each violation, the assertion of multiple penalties and the assertion of separate penalties for multiple violations with respect to a single FBAR, should be carefully considered and calculated to ensure the amount of the penalty is commensurate to the harm caused by the FBAR violation.

What does this Mean

It is important to remember that just because the examiner has the discretion to reduce or eliminate FBAR penalties – does not mean they will. The analysis is subjective in nature and therefore while you may find your position to be convincing — the IRS examiner may not agree.

Likewise, even if the agent does agree, it also requires manager/supervisor approval

4.26.16.6.8 Managerial Involvement and Approval of FBAR Penalties

        • Managers must perform a meaningful review of the examiner’s penalty determination prior to assessment. The manager must verify that the penalties were fairly imposed and accurately computed; that the examiner did not improperly assert the penalties in the first instance; and that the conclusions regarding “reasonable cause” (or the lack thereof) were proper)…

          • [T]here is a penalty ceiling but no minimum amount. This discretion has been delegated to the FBAR examiner. The examiner may determine that the facts and circumstances of a particular case do not justify a penalty.
          • If there was an FBAR violation but no penalty is appropriate, the examiner must issue the FBAR warning letter, Letter 3800. When a penalty is appropriate, IRS established penalty mitigation guidelines to ensure the penalties determined by the examiner’s discretion are uniform.
          • The examiner may determine that: A penalty under these guidelines is not appropriate, or A lesser amount than the guidelines otherwise provide is appropriate.
          • The examiner must make this determination with the written approval of that examiner’s manager. The examiner’s workpapers must document the circumstances that make mitigation of the penalty under these guidelines appropriate.
          • When determining the proper penalty amount, the examiner should keep in mind that manager approval is required to assert more than one $10,000 non-willful penalty per year, and in no event can the aggregate non-willful penalties asserted exceed 50% of the highest aggregate balance of all accounts to which the violations relate during the years at issue.
        • Similarly, manager approval is required to assert willful penalties that, in the aggregate, exceed 50% of the highest aggregate balance of all accounts to which the violations relate during the years at issue, and in no event can the aggregate willful penalties exceed 100% of the highest aggregate balance of all accounts to which the violations relate during the years at issue.

To qualify for mitigation, the person must meet four criteria:

        • The person has no history of criminal tax or BSA convictions for the preceding 10 years and has no history of prior FBAR penalty assessments.

        • No money passing through any of the foreign accounts associated with the person was from an illegal source or used to further a criminal purpose.

        • The person cooperated during the examination.

        • IRS did not determine a fraud penalty against the person for an underpayment of income tax for the year in question due to the failure to report income related to any amount in a foreign account.

It should be noted that either willful or non-willful FBAR fines may be mitigated.

Willful FBAR Penalties Puts Taxpayers a Risk

In conclusion, the fact that the IRS does not need to prove a taxpayer acted with actual intent or knowledge in order to prove willfulness makes willful FBAR Penalties is very dangerous — and puts FBAR filers at great risk for willfulness exposure. In addition, courts across the country have been affirming the IRS findings that lower levels of willfulness are acceptable and not the standard willful FBAR penalty should still apply.

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