High Time for the High Court to Handle FBAR?

Federal district courts around the country are handling a torrent of litigation on an unsettled and costly question in FBAR litigation — how should penalties for non-willful violations be calculated? The federal statute in play, 31 U.S.C. 5321(a)(5)(A), says non-willful FBAR penalties apply per violation but it does not specify whether a violation occurs for each unreported account or for each annual FBAR that is filed, which is a yearly compilation of a taxpayer’s foreign accounts.

The issue has made its way up to the federal circuit courts of appeal, where a circuit split quickly developed. The Ninth Circuit has ruled that the penalties apply per form, while the Fifth Circuit has ruled that they apply per account. Now, all eyes are on the Eleventh Circuit, which in November, received an FBAR appeal on the very same issue. But no matter how the Eleventh Circuit rules, a circuit split will still remain, and the issue may ultimately have to head to the Supreme Court for resolution.

U.S. vs. Solomon

In 2018, the U.S. Internal Revenue Service hit Evelyn Solomon, a Florida-based U.S. citizen, with $200,000 in penalties for failing to report to the Internal Revenue Service twenty different foreign bank accounts between the 2004 and 2010 tax years, as required by 31 U.S.C. § 5314 (U.S. vs. Solomon; No. 9:20-cv-82236). That statute requires taxpayers to keep and file records and reports on their foreign financial accounts and transactions. Solomon had caught the government’s attention when she disclosed the accounts and filed FBARs for each in 2012 as part of the IRS’s Offshore Voluntary Disclosure Program. After Solomon disclosed the accounts, the IRS assessed a $10,000 penalty against each unreported account under the Bank Secrecy Act, 31 U.S.C. § 5321(a)(5). Two years later, in 2020, the government filed a complaint in Florida federal court seeking a judgment for the penalties plus nearly $27,000 in accrued interest.

Solomon countered that her penalty should be reduced to only $70,000 because non-willful violations of 31 U.S.C. § 5314 should be assessed per-filing form rather than on a per-account basis.

The Government argued that her penalties were properly assessed per-account, based on the plain text and structure of the Bank Secrecy Act and its implementing regulations (see 31 U.S.C. §§ 5314(a), 5321(a)(5)(A)-(B); 31 C.F.R. §§ 1010.350, 1010.306.)

The civil penalties provision of the Bank Secrecy Act, 31 U.S.C. § 5321(a)(5), allows the Secretary of the Treasury to “impose a civil money penalty on any person who violates, or causes any violation of, any provision of section 5314.” The issue in Solomon’s case and several other FBAR cases, is that the statute does not define the term “violation.”

Substance Over “Form”: What Constitutes a Violation?

So then, the central question, as pointed out by U.S. District Court Judge Aileen M. Cannon, is whether a violation under 31 U.S.C. § 5321(a)(5)(A) is the failure to file a timely and accurate FBAR form or the failure to timely report a foreign transaction or foreign bank account.

U.S. District Court Judge Cannon turned to the implementing regulations, and found that two are important. The first, 31 C.F.R. § 1010.350(a) requires U.S. persons to report any foreign account they have a financial interest in or authority over.

The second, 31 C.F.R. § 1010.306, requires U.S. persons to annually file reports on foreign financial accounts with the Treasury Department’s U.S. Financial Crimes Enforcement Network (FinCEN), using FinCEN Form 114.

After reviewing the statute and regulations, Judge Cannon determined that a “violation” is a failure to report a foreign transaction or bank account, and is not a failure to file an FBAR annual form.

“Admittedly, there is some confusion stemming from the use of the terms “form” and “report” in the legal landscape, but as a review of the relevant provisions ultimately reveals, the FBAR “form” is simply the procedural mechanism by which the regulated person complies with her legal duty under 31 U.S.C. § 5314 to “report” her interest in foreign bank accounts and transactions,” Judge Cannon wrote.

“It is that failure to timely “report” the underlying interest in the foreign bank account or transaction that constitutes the relevant “violation” for purposes of assessing penalties under § 5321 — not the failure to “file” a FBAR “form,”” she wrote.

Solomon quickly filed an appeal with the Eleventh Circuit, which is currently pending (U.S. vs. Solomon, No. 20-cv-82236 (11th Cir. 2021)).

U.S. vs. Boyd

The Ninth Circuit, in March 2021, was the first appellate court to address the per-form vs. per-account issue, and ruled in favor of the taxpayer (U.S. vs. Boyd; No. 19-55585; 991 F.3d 1077). The case, U.S vs. Boyd, went up to the Ninth Circuit after the U.S. District Court for the Central District of California ruled in April 2019 that a taxpayer charged with several non-willful foreign bank account report violations must pay a penalty on each of her 13 undisclosed accounts, rather than pay a penalty for each year she failed to file an FBAR form. (U.S. v. Boyd, No. 2:18-cv-00803-MWF-JEM (C.D. Ca. 2019)).

On appeal, a split Ninth Circuit panel reversed and remanded the district court decision after finding that 31 U.S.C. § 5321(a)(5)(A) authorizes the IRS to impose only one non-willful penalty irrespective of the number of accounts involved. The court’s analysis focused on differences between willful violations under the Bank Secrecy Act and non-willful provisions. Under the Bank Secrecy Act, penalties for willful violations on multiple accounts are treated differently. Those penalties are based on the balance of any misreported or non-reported account. 31 U.S.C. § 5321(a)(5)(D)(i)-(ii).

The government argued that non-willful penalties should be applied in the same way – on the balance of misreported or non-reported accounts -- because Congress intended to treat the two penalty frameworks identically. Prior to 2004, the government only penalized willful violations, but in 2004, Congress updated the Bank Secrecy Act to allow for non-willful violations. The government argued before the Ninth Circuit that the 2004 amendments merely extended the existing penalties to cover non-willful violations.

The Ninth Circuit felt otherwise. It said that the presence of per-account language for willful violations indicates that Congress intentionally omitted per-account language for non-willful violations.

“Since we know Congress was aware of that language during the amendment process and left it out of the non-willful penalty provision, we think the better view is that Congress acted intentionally when it drafted the non-willful civil penalty with no reference to “account” or “balance in the account,”” the court said.

U.S. Circuit Court Judge Sandra Ikuta wrote in a dissent that the statutory language indicates that a violation of the Bank Secrecy Act is the failure to report a single account or single transaction. The judge said that the majority conflated the account reports that taxpayers must make with the reporting form they use to make those reports.

“Contrary to the majority, there is no language in the relevant statutes or regulations providing that it “is the failure to file an annual FBAR that is the violation contemplated and that triggers the civil penalty provisions of § 5321,” the dissent said.

U.S. vs. Bittner

Months later, the Fifth Circuit in November 2021 parted ways with the Ninth Circuit when it ruled that penalties apply per account and not per form. In U.S. vs. Bittner (No. 20-40597, 5^th Cir. 2021), the appellate court said that the per-form interpretation clashed with the statutory text of the Bank Secrecy Act and its corresponding regulations.

The background in Bittner was that the government assessed $2.72 million in civil penalties against businessman Alexandru Bittner for failing to report his foreign financial accounts between 2007 and 2011. The U.S. District Court for the Eastern District of Texas reduced the penalties to $50,000, saying they applied per form and not per account.

On appeal, the government contended that the district court focused too narrowly on the regulations under 31 U.S.C. § 5314 to determine what constitutes a violation and ignored the text of 31 U.S.C. § 5314 itself. The Fifth Circuit, in its analysis of 31 U.S.C. § 5314, found that the text creates a statutory requirement to report each qualifying account or transaction. The regulations create a requirement to file those foreign account reports on an FBAR form.

“If, when it amended section 5321(a)(5)(A), Congress meant to penalize a violation only of the regulations under section 5314 (i.e., the failure to file an FBAR), as opposed to a violation of section 5314 itself (i.e., the failure to report an account), “it could have done so clearly and explicitly,” the court said.

Will FBAR Litigation Reach the Supreme Court?

There is much at stake with the split between the Ninth and Fifth Circuits, and the appeal before the Eleventh Circuit will certainly be closely watched. Given the fast-moving pace of FBAR litigation, the larger question is whether the U.S. Supreme Court will eventually weigh in on this extremely important taxpayer issue. Although the U.S. Supreme Court tends to shy away from tax cases, the dollars at stake for both taxpayers and the government in this litigation could influence the high court to review the controversy and settle the split.

Taxpayers Must Proceed with Extreme Caution

At present, the threat of IRS penalties, controversial court rulings, and the intricacy of FBAR litigation means that U.S. taxpayers with foreign financial accounts must proceed with extreme caution. The most prudent course of action is to seek the advice of an established U.S. expert in cross-border and international tax accounting. With the help of an experienced expert, those individuals or entities with undeclared or under-declared foreign financial accounts can benefit from a carefully-crafted tax and report filing strategy that mitigates loss and maintains wealth.