Recent FBAR Case: IRS Seeks “Willful” Penalty $8.8M Without Much Regard for the Facts

A very recent FBAR case teaches us a few things.  My colleague, attorney John Richardson, noted this after reading the case: “When charities need to raise money they will often have a bake sale or an auction. When the US government wants to raise money it uses an ‘FBAR Fundraiser'”. Readers, draw your own opinion! Is FBAR the government’s bake sale – where a cupcake can cost millions?

Today’s blog post will explore United States v. Schik, 2022 U.S. Dist. (SD NY March 8, 2022), Court Listener documents here.  In Schik, the District Court refused to grant the government a summary judgment for a civil FBAR willful penalty assessed to the tune of US$8.82 million with respect to a single year (2007). Court order is here.

For those who do not understand legal mumbo jumbo, let’s explain “summary judgment”.   A summary judgment is requested when one party (here, the Government) believes that there are no important facts that can reasonably be disputed, and that in light of those undisputed facts, it is entitled to a judgment by the court under the applicable law without any need for a trial.   Summary judgment would be appropriate if the Government could show that there is no genuine dispute as to any material fact.  Essentially in this case, the Government (the Internal Revenue Service, IRS) took the position that the facts clearly established Mr. Schik’s failure to file a 2007 FBAR reporting certain Swiss accounts was “willful” and therefore, the penalty should apply without any need for trial.

Some Pertinent Facts

The accounts which were the subject of the 2007 FBAR penalty were at the notorious UBS. It will be recalled that in 2007, Bradley Birkenfeld outed UBS as aiding Americans to evade US taxes through “secret” offshore accounts. No small coincidence with the year or the bank.

Mr. Schik was almost 100 years old, a Holocaust survivor and felt he needed the Swiss accounts for security given his traumatic past.

While he lacked a “formal education”, Mr. Schik had significant financial sophistication and business experience, and was running businesses and owning real estate.

Mr. Schik did not manage the money in the Swiss accounts. Rather, the funds were managed by a Swiss money manager who was later indicted for “conspiring with U.S. taxpayers and foreign financial institutions, [including UBS, to enable US taxpayers] to hide Swiss bank accounts and income generated in those accounts from the IRS.”

Mr. Schik tried to enter what was the first version of the IRS offshore “Voluntary Disclosure Practice” (VDP) but was “inexplicably” rejected. I am of the view the rejection was not “inexplicable” but rather, rejection was motivated by the year, 2007 and the UBS “connection”.

Mr. Schik did not reveal the accounts to his tax return preparer, who never asked whether he had any offshore accounts and who never provided him a tax organizer.  In my experience, this was not at all uncommon in 2007.  The offshore “Voluntary Disclosure Practice”, providing a penalty framework was not initiated by the IRS until 2009.  FATCA was not enacted until 2010. Many return preparers to this day do not ask about offshore accounts or assets and do not provide clients with a tax organizer (many more did not do either of these things back in 2007).  Beware of such return preparers. In today’s day and age, to my mind, it is reckless; at a minimum, it is unprofessional and not good practice!

Mr. Schik’s return preparer answered “No” to the question on Schedule B of the Form 1040 which asked whether the taxpayer had any foreign accounts.  Mr. Schik signed the tax return, which included the Schedule B.

Mr. Schik filed amended returns and claims that there was no unpaid US tax with regard to the income earned on these accounts. In fact, he claims he was owed a substantial refund for 2007.  This was apparently due to the fact that foreign taxes were withheld on the account income and he was therefore entitled to take foreign tax credits.

In its motion for summary judgement, the Government particularly focused on the fact that Mr. Schik answered “No” to the question on Schedule B of the Form 1040 which asked whether the taxpayer had any foreign accounts. The Government believed this “no” answer demonstrated civil “willfulness” for FBAR purposes.

The court, however, felt the facts were rather distinctive in this case even though it acknowledged that other courts have granted summary judgment allowing the  civil “willful” FBAR penalty on similar cases. The court mentioned cases with similar facts when accounts are not revealed to the accountant and a “no” answer is found on the Schedule B. Furthermore, the court cited various cases supporting a finding of willfulness when the taxpayer “never asked her accountant how to properly report foreign investment income,” and “did not review her individual income tax returns for accuracy;” or where “[d]espite numerous red flags, [the taxpayers] neither made a simple inquiry to their accountant nor gave even the minimal effort necessary to render meaningful their sworn declaration that their tax returns were accurate.”  It’s clear that absent Mr. Schik’s “unique” facts, the summary judgment may well have been granted.

The Conclusion of the Court

The government’s Motion for Summary Judgment was DENIED. The court stated:  “On the record before it, drawing all inferences in favor of Mr. Schik as the nonmoving party, the Court cannot conclude that Mr. Schik willfully failed to file the required FBAR in 2007.

Interestingly, the Court determined that the case was appropriate for mediation and it could order a case to mediation, with or without the consent of the parties.  By separate order the Court referred the matter to the Southern District of New York’s Mediation Program.

Takeaways

IRS is still waging war on unreported offshore accounts and assets. The Schik case involved very early days in the FBAR enforcement crusade (the year was 2007).  Given this, one might expect a certain degree of leniency from the IRS.   The IRS view was that Mr. Schik was “willful” despite a fairly unique set of facts. It is unlikely that today, the government will seek anything less than “willful” FBAR penalties for violations if it is given any ammunition to do so.

The trend of the courts is to give the IRS wide berth in the meaning of civil “willfulness” for FBAR purposes. No bad intent is required –in the civil context, “recklessness” encompasses an objective standard.  One can be “reckless” if the action or inaction involves an “unjustifiably high risk of harm that is either known or so obvious that it should be known.”

Taxpayers must not just blithely sign a tax return.  It is foolhardy to think that because one has had a professional prepare tax returns that this will offer protection from penalties.  Reliance on the tax professional is no guarantee of protection.

Even if no tax may be owed with respect to offshore accounts, expect an FBAR failure to result in astronomical penalties.  Here, close to US$9 million!

Regaining Compliance

The IRS’ crackdown on foreign account reporting continues unabated.  Taxpayers with FBAR issues should carefully consider how it may be possible to rectify their situation.  The method chosen will be dictated by the particular taxpayer’s facts.  For example, if there is unreported income, regaining compliance might be through an IRS’ Streamlined Filing Compliance Procedure; if criminal issues are involved, the IRS’ Voluntary Disclosure Program must be considered.  If the only issue is FBAR noncompliance (e.g., late FBAR or an FBAR needing amendment) the BSA E-Filing System allows the taxpayer to enter the calendar year being reported including past years. It also offers an option to explain the reason for the late filing or to show if it is being filed in conjunction with an IRS compliance option.  More information can be found here.

If you need help with your tax/FBAR situation, reach out to me for assistance. I have years of experience navigating this minefield.

Posted May 5, 2022

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2 thoughts on “Recent FBAR Case: IRS Seeks “Willful” Penalty $8.8M Without Much Regard for the Facts

  1. Good content.
    However, the misuse of the word ‘unique’ should be rectified. In English, the definition of ‘unique’ is that something is one of a kind; that is, nothing else like it exists. A thing is either ‘unique’ or ‘NOT unique’. There is NO gray area. There is no such thing as a DEGREE of uniqueness. Something can never be ‘rather unique’ or ‘very unique’. It is either unique or it is not. Period. What people who misuse the term really mean to say is that something is ‘quite distinctive’ or ‘very distinctive’.

    Like

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