Penalties for Willful Violations

This is where things can go south quickly, if you knowingly did not file a FBAR. This is known as a willful violation and the sanctions can be severe. 

An area of difficulty that has arisen with regard to FBAR cases is the ambiguity of penalties individuals in violation of disclosure requirements may potentially face. The statute tells us that there are two categories of penalties that may be imposed:

1.     Willful penalty
2.     Non-willful penalty

In this chapter, I am going to define what willful violations are along with explain the penalties, which in some circumstances, may be criminal. If you are in willful violation, then time is of the essence. I strongly encourage you to call me to discuss your situation. The first order of business is to get you into compliance as quickly as possible. 

Willful Penalties

Willfulness is defined as “a voluntary, intentional violation of a known legal duty.” (See United States v. Sturman, 951 F 2d 1466 6th Cir. 1991). Aside from criminal sanctions, a willful penalty is the greater of $100,000 or 50 percent of all non-disclosed accounts, per year and for every year for which the statute of limitations is open. (See 31 U.S.C. 5321(a)(5)(C)). 

This means that the statute allows the IRS to fine a taxpayer up to 300 percent of the amount of an account in violation of disclosure obligations.

In most cases, the total penalty amount for all years under examination will be limited to 50 percent of the highest aggregate balance of all unpaid foreign financial accounts during the years under examination. 

Examiners may recommend an amount which is higher or lower than 50 percent. The total penalty should not exceed 100 percent of the highest aggregate balance.

Of course, these large fines have had their critics who have raised the issue of whether these excessive fines, when taken to their full extent under the statute, may violate a taxpayer’s rights under the Eighth Amendment.

Perhaps as a recognition of this complaint, the IRS has generally adopted a policy of limiting actual implementation of these 50 percent penalties to once or twice over the collection period. Even then, these penalties are burdensome enough to drain your account entirely.

Willful Violations

While cases of intentional concealment or fraud are generally distinguishable as willful violations, often there are cases where the distinction between a willful and non-willful violation can be difficult to assess without professional guidance. 

Depending on the circumstances surrounding the taxpayer’s failure to file, the courts may find that a taxpayer is “willfully-blind” to their filing obligations.

This means that the taxpayer made a conscious effort to avoid learning about their FBAR reporting obligations. The IRS notes that “[t]he 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.” (See Willful FBAR Violations - Defining Willfulness, in IRS 4.26.16.6.5.1).

As an example, if the taxpayer failed to inform his tax preparer about any foreign accounts he owns, a court may find that the taxpayer willfully avoided learning about their disclosure obligations.

On the other hand, if a taxpayer did inform their tax preparer, the court may look a bit deeper into the facts of the circumstances that led to the taxpayer’s failure to file. The court looks to determine whether or not the taxpayer had reasonable cause. 

The court may inquire as to whether the taxpayer has a good reason that would allow the court to excuse the violation. 

For example, if the taxpayer told his tax return preparer about the foreign accounts and the preparer misinformed the taxpayer, the court will determine whether it was reasonable for the taxpayer to rely on the tax preparer’s advice. The court may look into whether the preparer was qualified and whether they were paid.

Furthermore, the IRS notes that actions such as a failure to file when the taxpayer had filed for the specific account(s) in previous years or a failure to file after having received a warning letter from the IRS about the filing requirement would likely be deemed willful.

Any actions that can be perceived as intents to avoid filing may evidently be considered willful, including if the account is located in a place that is historically considered a “tax haven,” if the account has no connection with a business or other activities in the country, of if the name of the account is seemingly fictitious. 

The IRS may also inquire into the personal characteristics of the taxpayer, namely, the financial/educational sophistication of the taxpayer, their mental health, and their history of compliance. 

This can be a very fact-specific inquiry. If the return preparer was unpaid or known to be inexperienced, or if you had filed an FBAR in a previous year, these facts will not likely weigh in your favor. Failure to review your tax returns, on the other hand, can be considered willful blindness. (See United States v. McBride, 908 F. Supp. 2d 1186 (D. Utah 2012)).

Possible IRS Rulings

Here are some of the possible outcomes —  with variably degrees of severity:

• The IRS could determine you have been willfully blind, and you will have to pay willful FBAR penalty
• If the IRS acknowledges that if there’s no willfulness you can just file amended returns. This is a long shot as the IRS may not agree to non-willfulness determination

There may be the possibility of doing a quiet disclosure, which would entail filing the amended returns. On the other hand, you may instead decide to file accurate current year tax returns and/or FBARs and continue to do so moving forward without correcting any past returns.  While the latter course of action would trigger less scrutiny than a quiet disclosure, it could open you up to further criminal liability down the line.

However, even if you opt for a quiet disclosure, you may still be hit with willful penalties. Such was the case for a schoolteacher that held an unreported Swiss account which she ultimately reported through her amended returns. (See Norman v. United States, 18-2408 (Fed. Cir. 2019)). Eventually, she was found to have willfully violated the FBAR regulations and was assessed a penalty of $800,000. 

The court’s rulings in FBAR cases have indicated that the reasonable cause defense that is usually available in other contexts is severely limited in FBAR cases. However, if you are able to give a valid and acceptable reason as to why you violated the FBAR filing requirement, you will qualify for a non-willful penalty.

Criminal Penalties Other Than FBAR Penalties

The Internal Revenue Service has an arsenal of potential criminal charges:

• Failure to file an income tax return – IRC §7203 – not filing a required return in a timely manner. A person who fails to file a tax return is subject to a prison term of up to one year and a fine of up to $100,000.
• Filing a false return – IRC §7206(1) – filing a return containing false information. Filing a false return subjects a person to a prison term of up to three years and a fine of up to $250,000.
• Tax evasion – IRC §7201 – willfully attempting in any manner to evade paying tax. A person convicted of tax evasion is subject to a prison term of up to five years and a fine of up to $250,000.
• Tax perjury – IRC §7206(1) – willfully signing false returns under penalty of perjury. A person convicted of perjury is subject to a prison term of up to five years and a fine of up to $250,000.
• Tax obstruction – IRC §7212(a) – corruptly impairing the lawful function of the IRS. A person convicted of obstruction of justice is subject to a prison term of up to and not more than 10 years or a fine of up to $250,000.
• Conspiracy – 18 U.S.C. §371 – conspiring to commit one of the above crimes or impairing the IRS from enforcement. A person convicted of conspiracy to commit one of the above offenses or to defraud the United States is subject to a prison term of not more than five years and a fine of up to $250,000.
• Willfully failing to file an FBAR – 31 U.S.C. §5322 – Knowing of the obligation to file the FBAR and not doing so. Failing to file an FBAR subjects a person to a prison term of up to 10 years and criminal penalties of up to $500,000.
• Willfully filing a false FBAR – 31 U.S.C. §5322 – Filing a FBAR with inaccurate information. Failing to file an FBAR subjects a person to a prison term of up to 10 years and criminal penalties of up to $500,000.

Guidance for Non-Compliant Clients

When we see non-compliant clients in our office, the first thing we do is present them with a spreadsheet listing the possible penalties under different scenarios (which can include multiple years worth of filings), and we also point out the potential criminal risk. That definitely gets their attention, so we can proceed with gathering information and preparing the best defense strategy. 

But before we proceed, we make sure that the client understands the law and IRS filing guidelines 100 percent. This also a good time to remind them about the statute of limitations regarding FBAR filings.

Next, we ask client questions about their compliance status, what they know or are aware of regarding FBAR filing and gather information, such as the organizer that they filed or gave to their tax preparer. 

We verify everything by reviewing all back-up documentation including prior tax returns, relevant bank statements, and emails. If necessary, we will interview the tax preparer. Then, if necessary we will file a FOIA (Freedom of Information Act) request if we believe we have a good shot at an appeal.

IRS Letter 3708

You may find yourself reading this section of the book because you have already received a letter from the IRS demanding payment for an FBAR-related penalty. At this point, you must take action. 

Interest will begin to accrue after 30 days of the assessment and a delinquency penalty of six percent will apply if 90 days pass from the assessment date and the balance still has not been paid in full. See 31 U.S.C. § 3717(d)-(e). 

Taxpayers may opt to appeal the penalties either pre- or post-assessment. More on the penalty process is discussed in Chapter 11.

Conclusion

If you are in wilful violation of FBAR, you are pretty much painted into a corner, possibly facing penalties of 300 percent. But, you can slowly edge your way out. The IRS will examine all of the facts surrounding your case and in some instances, might deem your actions as non-willful.

There is also the option of quiet disclosure or appeal to any IRS decision. The whole point is to not get yourself in that situation in the first place. It is always advisable to stay ahead of the IRS than having to build a defense and or pay penalties after the fact.

If you know that you are in willful violation or have already been contacted by the IRS, now is the time to call me. I will review your case and determine what immediate steps we can take to lessen the blow. At the same time, we will develop a compliance plan to show good faith to the IRS and prevent problems in the future.