In the recent decision in United States v Edward Flume, the court cited a 2010 article on FBAR penalty cases written by Michael Sardar. The decision in the case to deny summary judgment to collect willful FBAR is part of a recent trend away from ruling for the government in FBAR penalty cases. Michael explored the issue further in a recent article in the Journal of Tax Practice and Procedure.
As More FBAR Penalty Cases Reach the Courts, Is the Tide Finally Turning?
In 2014, only thirteen FBAR penalty cases were filed in federal courts; in 2017, 66 cases were filed, and 2018 is expected to end with more newly docketed FBAR penalty cases than any prior year. As more of these cases head to the courts, the standards for imposing FBAR penalties, especially the large penalties that may be imposed for a willful failure to file an FBAR (up to 50% of the value of each unreported account for each year), are being further refined and honed by the courts.
Initially, tax practitioners believed that it would be quite difficult for the government to prevail in court in upholding willful FBAR penalties and that only those cases where the taxpayer’s conduct was clearly willful would result in wins for the government. This belief was supported by the notion that the government would need to establish that a taxpayer intentionally violated a known legal duty in order to succeed in asserting a willful FBAR penalty. Furthermore, the government would need to prove a willful violation by clear and convincing evidence, a standard of proof that is higher than the ordinary preponderance of the evidence standard. Nonetheless, almost all of the cases in the first wave of willful FBAR penalties to reach the courts resulted in victories for the government, making it more difficult for taxpayers to challenge such penalties.
These wins came as a surprise to many. The courts held that the government need not establish willfulness by clear and convincing evidence and that a showing of willfulness by a preponderance of the evidence would suffice. What is more, these cases held that willfulness for purposes of the civil FBAR penalty did not necessarily mean a knowing or intentional failure to file. Rather, taxpayers who acted recklessly or with willful blindness could also be subject to the willful FBAR penalty. With these principals in place, the government continued to prevail in the majority of willful FBAR penalty cases it brought.
Several recent FBAR cases, however, may be moving the needle in the other direction. In United States v Edward Flume, 5:16-CV-73 August 22, 2018 (S.D. Tex.), the government sought summary judgment to collect willful FBAR penalties from Edward Flume. The government argued that Flume either knowingly failed to report a foreign account on the FBAR or recklessly disregarded the high probability that he was breaking the law by failing to report. Despite some unfavorable facts that would tend to indicate that Mr. Flume acted willfully, the Court refused to grant summary judgment to the government. The case involved an unreported UBS account that was held by a shell entity, the taxpayer’s income tax returns did not report the account on Schedule B, there was evidence that the taxpayer was concerned about the IRS’s investigation of UBS, and the taxpayer advised UBS not to invest in US securities. In its order denying summary judgment, the Court made some interesting observations. First, the Court noted that it “need not decide whether willfulness includes only knowing violations or whether it also includes reckless violations.” This language and the Court’s refusal to reach a decision already reached by many other courts could be seen as a tip-off that the Court intends to buck the trend on the issue of recklessness. Second, the Court explicitly noted that it would not follow Williams and McBride’s (two of the very first FBAR cases) constructive knowledge theory, which held that a taxpayer is charged with constructive knowledge of the contents of his tax returns (schedule B of which instructs a taxpayer on the need to file an FBAR).
Finally, the Court noted that the meaning of willful in the FBAR context was an issue of first impression in the Fifth Circuit and that not many courts had fully analyzed the question. In support of this notion, the Court cited several sources, including a 2010 article written by Michael Sardar of this firm. See footnote 8 of the Order here.
Taxpayers have also found success on a different front of the FBAR penalty battle. Three recent cases (Colliot, Wadhan, and Norman) challenged the IRS’s ability to assert a willful FBAR penalty greater than $100,000. In all three cases, the taxpayers argued that the IRS was limited in its ability to assert an FBAR penalty greater than $100,000 because of a 1987 regulation that capped FBAR penalties at that amount. The taxpayers argued that the regulation’s penalty cap applied despite the fact that congress statutorily increased the FBAR penalty in 2004 to allow for a penalty of up to 50% of the value of the account. Two of the three courts to consider this issue sided with the taxpayers and ruled that the willful FBAR penalty is capped at $100,000. To learn more about this new FBAR development read Bryan Skarlatos and Michael Sardar’s recent article in the Journal of Tax Practice and Procedure.