The Fifth Circuit Parts Ways with the Ninth Circuit Regarding the Non-Willful FBAR Penalty

We welcome guest blogger Andy Weiner today to provide insight on a very important case decided last year.  Professor Weiner teaches at Temple Law School where he directs their LLM program in Tax and, starting this fall, also directs their low income taxpayer clinic.  Prior to arriving at Temple, Professor Weiner spent more than a decade as an attorney in the Tax Division of the Department of Justice, initially in the Appellate Section, where he briefed and argued approximately 50 cases throughout the United States Courts of Appeals, and then at the trial level in the Court of Federal Claims Section. He received numerous distinguished service awards during his tenure.  Keith

In United States v. Bittner, the Fifth Circuit reckons with the crack down on hiding wealth offshore. At issue is the non-willful penalty in 31 U.S.C. § 5321(a)(5)(A) for failing to report interest in foreign financial accounts on an annual Report of Foreign Bank and Financial Accounts known as an FBAR. The statute provides the Secretary of the Treasury “may impose a civil monetary penalty on any person who violates, or causes any violation of, any provision of section 5314 . . . not [to] exceed $10,000.” As explained by the Fifth Circuit, the case “hinges on what constitutes a ‘violation’ of section 5314: the failure to file an FBAR (as urged by Bittner) or the failure to report an account (as urged by the government).” Slip Op. at 13. On the surface, it’s a straightforward question of statutory interpretation, and not a particularly close one at that. It becomes more complicated, however, when you consider questions of purpose and fairness, which may help to explain why the Fifth Circuit and the Ninth Circuit split on the issue.

read more...

Bittner has spent most of his life in Romania. Between 1982 and 1990, he lived in the United States and became a citizen. He then returned to Romania and made a fortune as an investor. Through holding companies, Bittner controlled dozens of bank accounts in Romania, Switzerland and Liechtenstein. He did not file timely FBARs for 2007 to 2011 disclosing these accounts. The IRS imposed the maximum non-willful penalty of $10,000 regarding each account for each year. Bittner’s total penalty liability came to $1.77 million.

Bittner argued his liability should be capped at $50,000 based on his failure to file an FBAR for each of five years. As mentioned, that depends on what qualifies as a violation of 31 U.S.C. § 5314 subject to a penalty. Section 5314 states that the Secretary “shall require a resident or citizen of the United States . . . to keep records, file reports, or keep records and file reports, when the . . . person makes a transaction or maintains a relation for any person with a foreign financial agency.” By the Fifth Circuit’s reading, a person violates the statute according when he or she fails to report “a relation . . . with a foreign financial agency.” Bittner pointed out that the statute is not self-effectuating and that the implementing regulations require filing one FBAR that reports all applicable accounts. But that does not affect the meaning of the statute, as the Fifth Circuit explained: “Streamlining the process in this way, . . . cannot redefine the underlying reporting requirement imposed by section 5314.” Slip Op. at 17.

The Fifth Circuit also looked to the surrounding penalty provisions. Section 5321(a)(5) includes both a non-willful and a willful penalty, and the latter unquestionably treats each failure to report an account as a violation. Specifically, 31 U.S.C. § 5321(a)(5)(C) provides that “any person willfully violating, or willfully causing any violation of, any provision of section 5314” is subject to a maximum penalty equal to the greater of $100,000 or 50% of “the balance in the account at the time of the violation.” The reasonable cause exception to the non-willful penalty at 31 U.S.C. § 5321(a)(5)(B)(ii) likewise treats each failure to report an account as a violation, excusing “such violation” if “due to reasonable cause” and “the balance in the account at the time of the transaction was properly reported.” The same word in the definition of the non-willful penalty presumably bears the same meaning as it does in these related provisions.

The Fifth Circuit presents a compelling case based on the text of the statute that each failure to report a foreign bank account is a violation subject to a non-willful FBAR penalty. But why should Bittner, who maintained many foreign accounts ostensibly for legitimate business reasons and who did not willfully fail to report them on an FBAR, owe $1.77 million? Given the unintentional nature of the conduct, there’s little, if any, deterrence value to be gained. What then is the point of such significant penalty liability? The history of the non-willful penalty raises the prospect that it has outlived some of its usefulness.

The original FBAR reporting requirement in the Bank Secrecy Act of 1970 was enforced only by a willful penalty up to $100,000. In 2004, following a report by Treasury that perhaps hundreds of thousands of taxpayers were hiding wealth offshore and not filing FBARs, Congress increased the maximum willful penalty to 50% of the balance in an account not properly reported and added a non-willful penalty up to $10,000. Congress sought to make getting caught prohibitively expense and installed the non-willful penalty as a floor on the cost of non-compliance. Then, in 2010, Congress enacted the Foreign Account Tax Compliance Act, which required foreign banks to report account information of U.S. taxpayers. Bank reporting has proven much more efficient and effective at enforcing FBAR compliance and weakened the justification for the maximum non-willful penalty.

Still, the maximum penalty has its place, for example, as a proxy for taxes that the account holder avoided. Finding the appropriate balance is a matter of IRS discretion and the penalty mitigation guidelines at IRM 4.26.16-2. A person must cooperate with the examination and have a clean record in terms of prior FBAR penalty assessments, criminal activities, and civil tax fraud in any year of a non-willful FBAR violation. If these criteria are met, examiners are instructed to “limit the total mitigated penalties for each year to the statutory maximum for a single non-willful violation,” unless “in the examiner’s discretion . . . , the facts and circumstances of a case warrant a different penalty amount.” IRM 4.26.16.5.4.1 (06-24-2021). Among the factors an examiner should consider is “the harm caused by the FBAR violation,” i.e., lost tax revenue. IRM 4.26.16.5.2.1 (06-24-2021).

There is no indication why the IRS sought the maximum penalty liability against Bittner. The Fifth Circuit seemed to assume that Bittner’s liability was justified by “Congress’s central goal in enacting the BSA . . . to crack down on the use of foreign financial accounts to evade tax.” Slip Op. at 22. The Ninth Circuit in United States v. Boyd, 991 F.3d 1077 (2021), on the other hand, observed that Boyd amended her return to include income from her foreign bank accounts and proceeded to conclude that her non-willful penalty liability from failing to report 13 accounts in one year could not exceed $10,000. Tax avoidance (or the lack thereof) weighs heavily on courts notwithstanding that the relevant information is not necessarily disclosed in FBAR cases.

The lesson here for foreign account holders is to cooperate with an examination and pay the tax owed on income from foreign bank accounts. If the IRS does not mitigate the non-willful penalty liability, the account holder is in position to seize the higher equitable ground in court. The lesson for the IRS is to follow the mitigation guidelines and consider any departures from those rules carefully. The Supreme Court may take up Bittner to resolve the conflict with the Ninth Circuit, in which case I would expect it to affirm that each failure to report a foreign bank account is a violation of section 5314. But that will not end the debate over the appropriate level of non-willful penalty liability. To the contrary, the more the IRS has discretion, the more likely those disputes will endure.

2021 Year in Review – Cases

Despite the ability to access most courts only remotely for much if not all of the year, 2021 still produced a number of important tax procedure decisions.  Perhaps judges could produce more opinions because they did not need to travel or to hold lengthy in-person trials.  This post shows that not all cases are Graev cases.

read more...

Supreme Court matters

The Supreme Court handed down a unanimous opinion in CIC Services.  The Court holds that the Anti-Injunction Act does not bar a suit challenging an IRS notice that requires a non-taxpayer to provide information even though the failure to provide the information could result in a penalty.  Posts can be found  here, here, here and here.

The Supreme Court rejected the request for certiorari in Organic Cannabis v. Commissioner seeking a determination that the time period for filing a petition in Tax Court in a deficiency case is a claims processing period rather than a jurisdictional one but granted certiorari in Boechler v. Commissioner regarding the same issue but in the collection due process context.  The Boechler case will be argued before the Supreme Court on January 12, 2022.

Circuit Court matters

Coffey v. Commissioner, –F.3d – (8th Cir. 2021)  – in a case that fractured the Tax Court about as badly as it can be fractured, the Eighth Circuit, after initially projecting harmony and uniformity in its decision, fractured as well, reversing its initial decision which overturned the Tax Court’s fully reviewed opinion.  This action briefly reopened the door on the question of adequate filing of a return for purposes of triggering the statute of limitations, before reinstating the original holding through a new opinion by the panel. That new panel opinion can be found here. 

Taxpayers claimed that they were residents of the US Virgin Islands in 2003 and 2004 and filed returns with the Virgin Islands tax authority.  That taxing authority has a symbiotic relationship with the IRS and sent to the IRS some of the documents it received.  The IRS took the documents it received and concluded that M/M Coffey should have filed a US tax return.  Based on that conclusion, it sent the Coffeys a notice of deficiency.  The Coffeys argued that the notice of deficiency was sent beyond the statute of limitations on assessment since their filing with the US Virgin Islands tax authority also served as a filing with the IRS, starting the normal assessment statute.  The government argued that because the Coffeys did not file a return with the US, no statute of limitations on assessment existed.  After only eight years, the Tax Court sided with the Coffeys.  A mere three years later, the Eighth Circuit reversed in a unanimous three judge panel. 

On February 10, 2021, the Eighth Circuit granted a panel rehearing but denied a rehearing en banc.  Disagreements with the outcome of a circuit court usually result in a request for a rehearing en banc rather than a rehearing with the very panel that entered the decision.  So, this is a bit of an unusual twist in a case with many twists. After the vacating of the original opinion, the same panel issued a new opinion with some minor differences.

The result of the Eighth Circuit’s decision allows the IRS to come in many years later to challenge residence of individuals claiming Virgin Islands residence.  If the Coffeys had succeeded in this case, the procedural issue would have turned into a substantive victory, since the IRS would not have been able to make an assessment against them for the years at issue.

Gregory v. Commissioner, — F.3d – (3rd Cir. 2020) – This case was decided at the very end of 2020 so it is included here as it came out during last year’s end of year review and also because it is a case argued on appeal by the Tax Clinic at Harvard so including it provides another opportunity to showcase the work of the students.  The issue before the Third Circuit was whether the taxpayers’ use of Forms 2848 Power of Attorney and 4868 Request for Extension of Time constituted “clear and concise notice” of a change of address to the IRS pursuant to Treasury Regulation §301.6212-2.  Although filed as a non-precedential opinion, the outcome is a clear example of how the IRS cannot simply ignore the actual knowledge it has of a taxpayer’s address when issuing a Statutory Notice of Deficiency pursuant to I.R.C. §6212(b)(1), even if that taxpayer failed to follow the IRS’ prescribed procedures for changing their address. 

An odd ending to this case occurred when the Third Circuit returned it to the Tax Court.  Rather than simply entering an opinion for the taxpayers, the Court issued an order restoring the case to the general docket.  That order made no sense because the Gregorys unquestionably filed their Tax Court petition late.  This required the filing of a motion to have the court make a determination that the notice of deficiency was invalid, which it eventually did with no opposition from an equally confused government counsel.

In Patrick’s Payroll Services, Inc., v. Commissioner, No. 20-1772 (6th Cir. 2021), the Sixth Circuit upheld the decision of the Tax Court denying the taxpayer the opportunity to litigate the merits of the underlying tax because of a prior opportunity to discuss settlement with Appeals.  Guest blogger Chaim Gordon wrote about this case after the Tax Court’s decision and while the case was pending before the Sixth Circuit.  Chaim pointed out some of the novel arguments the taxpayer was making.  Unfortunately for the taxpayer, the Sixth Circuit was not buying what they were selling.

The 11th Circuit upheld the decision of the Tax Court in Sleeth v. Commissioner, — F.3d — 2021 WL 1049815 (11th Cir. 2021), holding that Ms. Sleeth was not an innocent spouse.  The Sleeth case continues the run of unsuccessful taxpayer appeals of innocent spouse cases following the major structural changes to the law in 1998. The Tax Court found three positive factors and only one negative factor applying the tests of Rev. Proc. 2013-34.  Yet, despite the multitude of factors favoring relief in each case, the Tax Court found that the negative knowledge factor required denial of relief.  This case follows the decision in the Jacobsen case from 2020 in which the Tax Court denied relief to someone with four positive factors for relief and only knowledge as a negative factor.  The pattern developing in these cases suggests that the Tax Court views the knowledge factor as a super factor, despite changes in IRS guidance no longer describing it as such.  Only economic hardship seems capable of overcoming a negative determination on knowledge.  In this post, Carl Smith discussed the Seventh Circuit’s decision in the Jacobsen case.  Both cases were argued on appeal by the Tax Clinic at Harvard.  The clinic also filed an amicus brief in the case of Jones v. Commissioner, TC Memo 2019-139, set to be argued soon before the 9th Circuit.

Lindsay v. U.S. is the latest case to apply the principle that United States v. Boyle essentially stands for the position that taxpayers have a nondelegable duty to be aware of tax deadlines. An agent’s incompetence or willful misconduct will not excuse the taxpayer from delinquency penalties.  Lindsay was incarcerated and executed a POA to Bertelson, an attorney, to manage his affairs, including filing his tax returns.  The attorney assured Lindsay he was doing so for the years 2012-15; instead he failed to file the returns and for good measure embezzled hundreds of thousands of dollars. The actions resulted in Lindsay receiving $705,414.61 in actual damages and $1 million in punitive damages.  Lindsay eventually filed his tax returns and paid over $425,000 in delinquency penalties. He filed a claim for refund; IRS rejected and he filed a suit in district court. The district court, contrary to the magistrate’s recommendation, granted the government’s motion to dismiss, citing Boyle as precluding a claim for relief. Following a timely appeal, the Fifth Circuit affirmed. In so doing, it applied Boyle to Lindsay’s somewhat sympathetic circumstances.

Tax Court

In Ramey v Commissioner, 156 T.C. No. 1 (2021), the Tax Court determined in a precedential opinion that when the IRS issues a notice of decision rather than a notice of determination and the taxpayer has filed the collection due process (CDP) request late, the Court lacks jurisdiction to hear the case.  The taxpayer, a lawyer, represented himself and pegged his arguments to last known address rather than jurisdiction.  Nonetheless, the decision expands the Court’s narrow view of jurisdiction to another setting without addressing the Supreme Court precedent on jurisdiction and its impact on the timing of the filing of documents.

Galloway v Commissioner, TC Memo 2021-24: This case holds that a taxpayer cannot use the CDP process to rehash a previously rejected offer in compromise (OIC).  Mr. Galloway actually submitted two OICs that the IRS rejected.  As an aside, from the description of the OICs in the Court’s opinion, the rejections seemed appropriate strictly from an asset perspective, since he did not want to include the value of a car he owned but allowed his daughter to use. 

The case of Mason v. Commissioner, T.C.M. 2021-64 shows at least one benefit of submitting an offer in compromise (OIC) through a request for a collection due process (CDP) hearing.  As part of his lessons from the Tax Court series, Bryan Camp has written an excellent post both on the case and the history of offers. 

Friendship Creative Printers v. Commissioner, TC Memo 2021-19: This case holds that the taxpayer could raise the merits of delinquency penalties by the backhanded method of challenging the application of payments.  Taxpayer failed to pay employment taxes over an extended period of time and failed to file the necessary returns but at some point made payments on the earliest periods.  In the CDP hearing, taxpayer argued satisfaction of the earliest periods and eventually provided an analysis showing payments equal to the tax paid.

The Court treated this as a challenge to the merits of the delinquency penalties imposed.  Unfortunately, the taxpayer did not designate its payments, which meant that the payments it made were not applied in the manner it expected and argued in the CDP hearing.  Taxpayer also looked at the transcripts without appreciating the impact of accruals not reflected in the assessed portion of the transcript but accruing nonetheless.

Reynolds v. Commissioner, TC Memo 2021-10: This case holds that the IRS can collect on restitution based assessments even when the taxpayer has an agreement with the Department of Justice to make payments on the restitution award.  Taxpayer’s prosecution resulted in a significant restitution order. He agreed to pay DOJ $100 a month or 10% of his income.  At the time of the CDP case he was not working and did not appear to have many prospects for future employment. Citing Carpenter v. Commissioner, 152 T.C. 202 (2019), the Tax Court said that the IRS did have the right to pursue collection from him.  Obviously that right, at least with respect to levy, is tempered by the requirement in IRC 6343 not to levy when it would place someone in financial hardship, but no blanket prohibition existed to stop the IRS from collecting and therefore to stop it from making a CDP determination in support of lien or levy. The case is a good one to read for anyone dealing with a restitution based assessment to show the interplay between DOJ and IRS in the collection of this type of assessment, as well as to show the limitations of restitution based assessments compared to “regular” assessments.

BM Construction v. Commissioner, TC Memo 2021-13: This case involves, inter alia, a business owned by a single individual and the mailing of the CDP notice to the business owner rather than the business.  The Tax Court finds that sending the CDP notice to the individual rather than the business does not create a problem here, since the sole owner of the business would receive the notice were it addressed to the business rather than to him personally.

Shitrit v. Commissioner, T.C. Memo 2021-63, points out the limitations on raising issues other than the revocation of the passport when coming into the Tax Court under the jurisdiction of the passport provision.  Petitioner here tries to persuade the Tax Court to order the issuance of a refund but gets rebuffed due to the Court’s view of the scope of its jurisdiction in this type of case.

The case of Garcia v. Commissioner, 157 T.C. No. 1 (2021) provides clarity and guidance on the Tax Court’s jurisdiction in passport cases as the Court issues a precedential opinion to make clear some of the things that can and cannot happen in a contest regarding the certification of passport revocation.  I did not find the decision surprising.  The Court’s passport jurisdiction is quite limited.  Petitioners will generally be disappointed in the scope of relief available through this new type of Tax Court jurisdiction. 

Other Courts

In Mendu v. United States, No. 1:17-cv-00738 (Ct. Fd. Claims April 7, 2021) the Court of Federal Claims held that FBAR penalties are not taxes for purposes of applying the Flora rule.  In arguing for the imposition of the Flora rule, the taxpayer, in a twist of sides, sought to have the court require that the individual against whom the penalties were imposed fully pay the penalties before being allowed to challenge the penalties in court.  The FBAR penalties are not imposed under title 26 of the United States Code, which most of us shorthand into the Internal Revenue Code, but rather are imposed under Title 31 as part of the Bank Secrecy Act.

The case of In re Bowman, No. 20-11512 (E.D. La. 2021) denies debtor’s motion for summary judgment that Ms. Bowman deserves innocent spouse relief.  On its own, the court reviews the issue of its jurisdiction to hear an innocent spouse issue as part of her chapter 13 bankruptcy case and decides that it has jurisdiction to make such a decision.  The parties did not raise the jurisdiction issue, which is not surprising from the perspective of the plaintiff, but may signal a shift in the government’s position since it had previously opposed the jurisdiction of courts other than the Tax Court to hear innocent spouse cases.

Are FBAR Penalties Taxes for Purposes of the Flora Rule?

In Mendu v. United States, No. 1:17-cv-00738 (Ct. Fd. Claims April 7, 2021) the Court of Federal Claims held that FBAR penalties are not taxes for purposes of applying the Flora rule.  In arguing for the imposition of the Flora rule the taxpayer, in a twist of sides, sought to have the court require that the individual against whom the penalties were imposed to fully pay the penalties before being allowed to challenge the penalties in court.  The FBAR penalties are not imposed under title 26 of the United States Code which most of us shorthand into the Internal Revenue Code but rather are imposed under Title 31 as part of the Bank Secrecy Act.

The possibility that the Flora rule could apply to non-tax issues first arose sua sponte in a Third Circuit case in 2018 which I wrote about here (see also my article on Flora from last year).  That post also contains a link to an excellent post by Jack Towsend.

read more...

I think the attorneys for Mendu may have read the prior blog post but if not they definitely read the Bedrosian opinion discussed in the blog post.  In Mendu, in a flip of the normal situation, the taxpayer argues that Flora applies and their case should be dismissed while DOJ argues on behalf of the IRS that Flora does not apply since this case does not involve a liability under the IRC.

The court picks up on why the plaintiff in this case would want the case dismissed and would make the Flora argument raised sua sponte in the Bedrosian case:

On November 8, 2019, the Federal Circuit issued its decision in Norman v. United States, 942 F.3d 1111 (Fed. Cir. 2019); as a result, the stay expired. In Norman, the Federal Circuit held that a now out-of-date Treasury Regulation did not cap FBAR penalties for willful violations at $100,000. The Federal Circuit’s ruling in Norman, which binds this Court, may have given Mr. Mendu pause about continuing litigation in this circuit because on January 20, 2020 — facing a counterclaim against him for potentially 700 times greater than the amount sought in his complaint — Mr. Mendu sought to dismiss his own complaint for lack of subject-matter jurisdiction, along with Defendant’s counterclaim. See generally Pl. Rule 7(b)(1) Mot. In his Rule 7(b)(1) Motion, filed in 2020, Plaintiff based his sudden change in course on a footnote in in a case decided two years earlier, Bedrosian v. United States, 912 F.3d 144, 149 n.1 (3d Cir. 2018). In that footnote, which appears to be dictum, the United States Court of Appeals for the Third Circuit (Third Circuit) commented, without substantive analysis, that it was “inclined to believe” that FBAR penalties are internal-revenue laws within the scope of 28 U.S.C. § 1346(a)(1), and are therefore subject to the full payment rule as articulated in Flora v. United States, 362 U.S. 145, 164 (1960). Pl. Rule 7(b)(1) Mot. at 4-5, 7-11. Accordingly, Plaintiff now believes that the Flora full payment rule requires this Court to dismiss Plaintiff’s claim for illegal exaction of his $1,000 partial payment because Plaintiff has not fully paid the FBAR penalty at issue. Pl. Rule 7(b)(1) Mot. at 3-4. Mr. Mendu notes that, because this Court does not have independent jurisdiction over the Defendant’s counterclaim for $752,920, this Court must dismiss the Defendant’s counterclaim as well. Pl. Rule 7(b)(1) Mot. at 2, 11-14; Pl. Resp. to Cross-Mot. at 12-15.

Because of the potential huge exposure in the Court of Federal Claims and the much smaller exposure that might exist in the Central District of California, one can hardly blame petitioner for trying to remove their case from this jurisdiction where the law has turned unfavorable and try to get to another location where the law might be much better.  Unfortunately for petitioner but fortunately for almost everyone else, petitioner’s Flora argument does not gain any traction.

The court sets the scene for its discussion of the application of Flora by stating:

The parties agree that the Flora full payment rule only applies if it is an “internal-revenue tax” as that term is used in section 1346(a)(1). See Pl. Rule 7(b)(1) Mot. at 7; Def. Resp. at 4. As noted, if FBAR penalties are considered internal-revenue taxes, then the Flora full payment rule applies, and this Court lacks jurisdiction over Plaintiff’s tax refund claim because the Plaintiff has not paid the assessed $752,920 FBAR penalties in full. Conversely, if FBAR penalties are not internal-revenue taxes then Flora full payment rule does not apply, and this Court has jurisdiction over Plaintiff’s $1,000 illegal exaction claim. See Ibrahim v. United States, 112 Fed. Cl. 333, 336 (2013) (finding that while tax refund claims are subject to the Flora full payment rule, the full payment rule does not apply to other illegal exaction claims).

The court then finds that the FBAR penalty is not a tax.  The fact that title 31 and not title 26 imposes the FBAR penalty is something the court describes as more than a mere technicality.  The court finds not only that the FBAR penalty derives from a separate statutory scheme, but that the reasoning behind the Flora decision does not apply in this context, since full payment of the penalty does not matter for this penalty the same way it matters for taxes and other penalties.  The court finds the footnote in the Third Circuit’s opinion suggesting, but not holding, that perhaps Flora should apply to the FBAR penalty does not provide a persuasive basis for bringing Flora into an entirely different statutory scheme.  After analyzing several different reasons why the footnote falls short of persuading, it concludes this section of the opinion by stating:

It may be accurate that every internal-revenue law is not necessarily contained in Title 26. However, Congress’s specific placement of the FBAR in Title 31, the stated purpose of the BSA, and the fact that Congress chose not to employ traditional tax collection procedures to recover FBAR penalties collectively demonstrate that Congress did not intend to subject FBAR penalty suits to the Flora full payment rule.

The case then turns on the rules of the Court of Federal Claims.  The court rules do not track the Tax Court rules that do not allow a petitioner out of a deficiency case once properly filed (see discussion here); however, the rules do provide that once the defendant files an answer asserting a counterclaim the petitioner cannot seek dismissal of the counterclaim would not stand on its own in the court.  Here, the huge counterclaim made by the government would not survive if the complaint were withdrawn.  So, Mr. Mendu remains stuck in the Court of Federal Claims instead of being allowed to beat a retreat to the possible friendlier confines of the Central District of California.  Perhaps, he will continue to make the Flora argument.  I hope the court will continue to knock it down.

I do note that occasional guest blogger, Lavar Taylor, just won a big FBAR case in the 9th Circuit.  So, maybe Mr. Mendu has a good reason for wanting a change of scenery to Southern California. In Boyd v. United States,___ (9th Cir. 2021) the court held that 

Examining the statutory and regulatory scheme for reporting a relationship with a foreign financial agency under § 5314, the panel held that § 5321(a)(5)(A) authorizes the IRS to impose only one non-willful penalty when an untimely, but accurate, FBAR is filed, no matter the number of accounts.  

Perhaps we will give a further discussion of Lavar’s case in a future post.

In FBAR Case Court Allows in to Evidence Newspaper Articles Despite Hearsay, Relevance, and Unfair Prejudice Objections

US v Briguet is a brief order out of the Eastern District of New York. Briguet is an FBAR case. The maximum penalty for a willful FBAR violation is the greater of $100,000 or 50% of the balance in the account at the time of the violation. Proving that a violation is willful is the key aspect of most of these cases. The order relates to a motion in limine that Briguet filed. That motion asked the court to preclude the admission at trial of 96 newspaper articles that concerned the government’s crackdown on US taxpayers who held offshore accounts and did not report their existence on US tax returns or the FinCEN Form 114. The defendant argued that the articles should be excluded on hearsay, relevancy and unfair prejudice grounds. The order rejects the motion and (mostly) allows the articles into evidence. 

read more...

As to hearsay, the order held that the articles were not offered to prove the truth of the matter being asserted (i.e., that Mr Briguet willfully failed to file the FBAR form). Instead, the court held that the government was offering the articles as circumstantial evidence of the state of Briguet’s mind and general awareness of the FBAR filing requirement.

As to relevance, the court noted the fairly wide definition of relevance for admissibility purposes, i.e., an item is  “relevant when ‘it has any tendency to make a fact more or less probable than it would be without the evidence.’”  United States v. White, 692 F.3d 235, 246 (2d Cir. 2012), as amended (Sept. 28, 2012) (quoting Fed. R. Evid. 401. With that benchmark, the court held that the articles, which were in the NY Times and Wall Street Journal prior to the date of the filing deadline, easily met the standard. Drilling deeper, the court noted that a number of the headlines flagged efforts targeted at UBS clients (where Briguet had his account) and that Briguet had testified that he read the financial sections of the NY Times and the Journal “every day.” In addition the order flagged the customer logs from UBS itself, “one of which illustrates that he “closely followed the published events on the UBS business policy for US customers” and “consulted a lawyer, aware of [UBS’s] change of policy, and fearing for the confidentiality of his account.”

In concluding that the pre-filing articles were relevant the order concluded that “a reasonable jury might readily conclude Defendant read the newspaper articles in the financial sections of the New York Times and Wall Street Journal, and such an inference seriously undermines any claim that he was unaware of the FBAR filing requirement.”

It was not a complete government victory, however. The motion also opposed admission of articles that appeared after the FBAR filing date. While the court declined to exclude the articles it reserved judgment and stated it would resolve that issue later. While the articles are not relevant to the state of mind at the time of the FBAR deadline the court noted that they may prove relevant as to when Briguet became aware of the deadline.

As a final objection to admissibility Briguet’s motion claimed that the articles would unfairly prejudice him because  “the jury may be left with the impression that the UBS case, DOJ’s Swiss bank crackdown, and the IRS’s offshore voluntary disclosure program were ‘hot issues’ to investors who read the New York Times and Wall Street Journal and … infer … that Mr. Briguet probably read some of the articles at issue.” While noting that the observation was “valid” the court sided with the government noting that “[e]vidence is prejudicial, but in this instance any prejudicial effect is entirely coextensive with the probative value of the articles and therefore not unduly prejudicial.” 

Circuit Court Weighs in on Meaning of Willfulness, Maximum Penalty and SOL Issues in Important FBAR Case

In US v Horowitz  the Fourth Circuit issued a published opinion addressing a number of issues relating to the willful penalty for failing to file an annual Report of Foreign Bank and Financial Accounts, commonly referred to as an FBAR. 

The opinion addresses 1) the meaning of willful, holding that willful encompasses recklessness and that the term has different meanings for civil and criminal law purposes, 2) the maximum penalty for willful violations when a 1987 regulation that capped the willful penalty at $100,000 is inconsistent with a 2004 statutory change that boosted the “maximum penalty” for a willful violation to the greater of $100,000, or 50 percent of the account balance, holding that the statutory change effectively abrogated the $100,000 regulatory cap, and 3) the meaning of the term assessment when during the course of a post-assessment administrative appeal of the penalty there was uncertainty as to whether the IRS had abated the assessment.

In this post, I will discuss the third issue, focusing on the SOL argument the taxpayers raised. 

read more...

As background, the Horowitzes had lived and worked in Saudi Arabia since 1984. While there, they initially had a bank account in a Saudi Arabian bank, but they eventually transferred the funds to FOCO, a Swiss bank. When FOCO was bought by an Italian bank, the Horowitzes moved the funds to another Swiss bank, UBS. By the time they moved back to the US in 2001 the account had grown to approximately $1.6 million. All the while they did not report income earned on the account on their US tax returns, and they never provided UBS with their US address.  By 2008, after UBS experienced financial setbacks, Mr. Horowitz traveled to Switzerland and withdrew the funds, depositing the proceeds in Finter Bank, another Swiss bank, this time in his name only. For an additional fee, Finter created the account as a “numbered” account with “hold mail” service, which meant that there was only a number associated with the account and that the bank would hold all correspondence associated with the secret account.

By 2009, there was widespread attention around the IRS crackdown on offshore accounts. The opinion discusses its impact on the Horowitzes:

In January 2010, the Horowitzes submitted a letter to the IRS disclosing the FOCO, UBS, and Finter Bank accounts and requesting that they be accepted into the Department of Treasury’s Offshore Voluntary Disclosure Program. This program provided potential protection from criminal prosecution and reduced penalties in exchange for cooperation. After entering the program, the Horowitzes filed FBARs, as well as amended income tax returns, for 2003 through 2008. As part of that process, they reported additional income of $215,126 and paid more than $100,000 in back taxes. In 2012, however, the Horowitzes opted out of the program.

In May of 2014 IRS sent letters to the Horowitzes proposing FBAR penalties for the undisclosed UBS accounts that they owned in 2007 and 2008. The letters proposed enhanced penalties based on an IRS determination that their conduct was willful and gave them about a month to respond. 

The Horowitzes, through their counsel, did respond to the May letter proposing penalties. In a June 3, 2014 letter they requested an administrative appeal of the still yet to be assessed penalties. The letter included a consent to extend the SOL on assessment of the penalties to December 31, 2015.

While the Horowitzes’ counsel letter began the process of an administrative appeal of the penalties, and had hoped that the extension would put off any possible assessment, on June 13, 2014 the IRS assessed the penalties. The opinion goes into some detail about the assessment process for FBAR penalties, including the work of the FBAR Penalty Coordinator at the Department of Treasury, and how she prepared four Form 13448 Penalty Assessment Certifications that a supervisor signed.

Here is where we get to the SOL issue.  The failure to file the annual FBAR gives the IRS six years to assess penalties, as per 31 USC § 5321(b)(1). At the time the FBAR had to be filed by June 30, so the SOL for assessing the 2007 FBAR penalty was June 30, 2014.  (Note that Title 31 gives the US two-years post-assessment to commence enforcement. 31 USC § 5321(b)(2)). 

There was no dispute that the penalty for 2007 was assessed prior to June 30, 2014, but the Horowitzes contended that the IRS’s actions after they protested the penalty amounted to an abatement of the assessment. 

In October of 2014, the Appeals Officer sent an email to the Appeals FBAR coordinator (with the very cool last name Batman) requesting that the assessments be “removed.” Internal emails between Appeals and the FBAR penalty coordinator suggested that the June 2014 assessment was “assessed prematurely.” In light of the protest and extension, Treasury’s FBAR penalty coordinator “simply deleted “6/13/2014” (the assessment date) from the “date penalty input” field in the assessment database.”

When the appeals process culminated in 2016 with no resolution, the Horowitzes argued that the IRS post-Appeals actions amounted to a reassessment of the penalty—this time beyond the six-year SOL for both 2007 and 2008 as per 31 USC § 5321(b)(1). 

The Fourth Circuit disagreed. In so holding, the opinion discussed the internal IRS procedures that allowed Appeals to hear the matter. Importantly, the opinion notes that the coordinator’s entry in the database was not accompanied by any more formal action:

But she did nothing more. Significantly, she generated no document, and her supervisor, Calamas, did not sign any document reversing the assessment certifications he had executed on June 13, 2014. Moreover, the Horowitzes were never informed that the penalties against them had been placed back into an unassessed status.

As the opinion discusses, the administrative appeals process continued for a couple of years. By May of 2016, Appeals informed the Horowitzes that there was insufficient time to reach resolution, in light of the two-year deadline to commence enforcement action “given that the government’s time for filing suit was set to expire in June 2016 (i.e., two years after the penalties were assessed in June 2014).”

Prior to closing the case at Appeals, the Appeals FBAR coordinator and the Treasury FBAR Penalty coordinator spoke about the legal effect of the database entry. That exchange, as well as its decision to end the Appeals process, highlighted that the government did not believe its actions amounted to an unwinding of the original assessment.

The Fourth Circuit emphasized that even if there were any subjective misunderstanding surrounding the legal effect of its data base deletion it concluded as a “matter of law” that the “mere act of deleting that date did not have the legal effect of reversing the assessments that had been formally certified … on June 13, 2014. Accordingly, the civil penalties against the Horowitzes were timely assessed, and the enforcement action was timely filed.”

Conclusion

The Horowitz opinion highlights the importance of the legal effect of an assessment. The opinion suggests that there were few formal mechanisms in place to allow Appeals to consider a post-assessment challenge to the penalty. The workaround that Appeals facilitated, which temporarily delayed the practical effect of an assessment, did not unwind its legal effect.

UPDATE

There are some excellent discussions in other blogs about the opinion. See Jack Townsend in his Federal Tax Crimes blog, discussing all aspects of the case, as well as Carolyn Kendall of Post & Schell who blogged the case in the firm’s White Collar blog with a focus on the opinion’s discussion of willfulness.

Affidavits in Summary Judgment – Designated Orders: September 16 – 21, 2019

Only one order this week, but it’s a meaty one. Judge Halpern disposed of three pending motions from Petitioner in Martinelli v. Commissioner, a deficiency case. Let’s jump right in.

read more...

Docket  No. 4122-18, Martinelli v. C.I.R. (Order Here)

So begins the tale of the brothers Martinelli: Giorgio, the Petitioner in this Tax Court case, and Maurizio, the generous yet problem-causing sibling who—according to Giorgio—created an Italian bank account in Giorgio’s name in 2011. Giorgio argues that he never had knowledge of or control over the Italian bank account; he was a mere “nominee” on the account. He first learned of the account in September 2012.

The IRS, as one might expect, alleged that Giorgio didn’t report the income from the account on his federal income tax returns for 2011 through 2016. To boot, the IRS assessed a penalty under section 6038D(d) for failure to disclose information regarding a foreign financial assets where an individual holds foreign financial assets exceeding $50,000 in value. (NB: This penalty is distinct from the Foreign Bank Account Reporting, or FBAR, penalty found at 31 U.S.C. § 5321. Unlike the FBAR penalty, the IRS may collect the section 6038D(d) penalty using its ordinary collection mechanisms, including the federal tax lien).

Petitioner filed three motions: first, a motion for partial summary judgment to determine that the Tax Court has jurisdiction regarding the section 6038D(d) penalty; second, a motion to restrain assessment and collection of the penalty while the Tax Court case is pending; and third, a motion for partial summary judgment regarding the underlying income tax deficiency.

Jurisdictional Motion

The Court rightly held that it lacks jurisdiction as to the 6038D(d) penalty. As the Tax Court likes to repeat, it is a court of limited jurisdiction. Congress must provide the Tax Court with the authority to hear particular cases. While certain penalties fit into Congress’ grant of authority under the Tax Court’s general deficiency jurisdiction under section 6211(a) and section 6214, this penalty simply doesn’t.  

Judge Halpern reviews the Court’s jurisdiction under section 6211(a). It includes taxes imposed under subtitle A or B, or under chapters 41, 42, 43, or 44. But section 6038D is in Chapter 61 of subtitle F. So no luck there.

Likewise, the penalty isn’t an “additional amount” under section 6214. Tax Court precedent has confined this jurisdictional grant to penalties under subchapter A of chapter 68. See Whistleblower 22716-13W v. Commissioner, 146 TC 84, 93-95 (2016). Failing to find a jurisdictional hook, the Court denies summary judgment on this matter, holding that the Court does not have jurisdiction with respect to this penalty.

Is this the right result as a policy matter? I think not. The IRS likely assessed this penalty during the audit of Mr. Martinelli’s tax return, in addition to the deficiency it proposed. One result of the audit is subject to challenge in the U.S. Tax Court; the other isn’t. Yet a challenge to both may rely on the same set of facts. Why require a taxpayer to litigate twice?

Motion to Restrain Assessment & Collection

The Court’s disposition of the first motion makes the second easy. If the Court can’t determine the amount of the penalty, it certainly can’t tell the IRS not to collect the penalty. This motion is likewise denied.

The Deficiency

Giorgio alleges that he was a mere “nominee” of the account, and that in fact, his brother Maurizio controlled the account. Thus, Giorgio shouldn’t be subject to tax on the interest and dividend income from the account.

Judge Halpern takes issue with the nominee argument. He notes that a nominee analysis doesn’t really fit here; that analysis is usually used to determine whether a transferor of property remains its beneficial owner. Here, the parties disagree on whether Maurizio used his own assets to fund account and then listed Giorgio as the nominee owner. This analysis would allow the Court to determine whether Maurizio had an income tax liability, but would only allow a negative implication as to Giorgio.

Instead, the Court focuses on whether Giorgio exercised sufficient dominion and control over the account. The Court asks whether Giorgio had freedom to use funds at his will. While Petitioner did submit affidavits from himself and Maurizio, there was no other evidence to show that Petitioner didn’t enjoy the typical rights of an account owner (i.e., the right to access funds in the account). So, it appears there’s still a genuine dispute of material fact regarding Giorgio’s ability to access these funds.  

Judge Halpern did, however, allow for the possibility that Giorgio didn’t have any knowledge of the account until after 2011. After all, one can’t withdraw funds from an account that remains secret from the nominal owner. Giorgio says that he didn’t have knowledge until September 2012.

Here’s where we enter a problem for the typical analysis of a motion for summary judgment. Petitioner provided an affidavit that he had no knowledge of the account until September 2012. Respondent denied this, but didn’t provide any other evidence showing that Giorgio did, in fact, have this knowledge. Under Rule 121(d), Respondent can’t rest on mere denials in response to a motion for summary judgment; instead, a party “must set forth specific facts showing that there is a genuine dispute for trial.”  

What’s Respondent to do? There may be no evidence demonstrably showing that Giorgio knew about the account. The only evidence is Giorgio and Maurizio’s affidavit.

Rule 121(e) provides a safety valve: if a “party’s only legally available method of contravening the facts set forth in the affidavits or declarations of the moving party is through cross-examination of such affiants or declarants . . . then such a showing may be deemed sufficient to establish that the facts set forth in such supporting affidavits or declarations are genuinely disputed.” In other words, Petitioner can’t simply provide an affidavit and rest on his laurels. Respondent must have an opportunity to cross-examine the affiant—in this case, Petitioner and his brother.

Thus, because Respondent showed under Rule 121(e) that they had no other way to refute the facts alleged in Petitioner’s affidavits, the knowledge issue is a genuinely disputed material fact for 2011. Whether petitioner controlled and could withdraw funds from the account is likewise a genuinely disputed material fact for the other tax years. As such, Judge Halpern denies Petitioner’s motion for summary judgment.

The case is now set for trial on February 10, 2020 in New York.  

Notes from the Fall 2019 ABA Tax Section Meeting

From October 3 to 5 Les, Christine and I attended the tax section meeting in San Francisco.  We were each on different panels and we each enjoyed a delightful dinner cruise on the bay Friday night courtesy of tax procedure guru, Frank Agostino.  During the cruise the three of us had an in depth discussion with Frank about his latest ground-breaking tax procedure initiatives which we hope to highlight in coming posts.

For this post I intend to provide some of the information passed out during the update sessions in the Administrative Practice and Court Procedure Committees.  For anyone interested in more depth or more precision, it is possible to purchase audio tapes of the committee meetings from the tax section.

read more...

Administrative Practice Committee

The discussion initially focused on Appeals and the Taxpayer First legislation seeking to create a more independent Appeals.  Apart from the legislation, Appeals issued a new conferencing initiative on September 19, 2019.  A request for comments on the new process went out. 

The presenter discussed the change to IRC 7803(e)(5)(A) and the right to a hearing in Appeals.  This change resulted from the Facebook case discussed here.  For those who do not remember the Facebook litigation, Chief Counsel denied Facebook the opportunity for a conference with Appeals after Facebook filed its Tax Court petition — even though Facebook had not met with Appeals prior to filing the petition.  The new provision will make it more difficult to deny a taxpayer the opportunity to meet with Appeals in this circumstance.

Another provision of the Taxpayer First Act, IRC 7803(e)(7)(A), grants taxpayers the right to their file 10 days in advance of a meeting with Appeals.  This provision has some income limitations but will generally benefit the vast majority of individual taxpayers.  It seems like a good step forward, though I would like the file much earlier than 10 days before the meeting, and I have had trouble getting it from Appeals in the past.  Some Appeals Officers (AOs) have denied my request for information in the administrative file, even though taxpayers have always had the right to this information.  If the case is in Tax Court, a Branerton letter to the Chief Counsel attorney will almost always result in that attorney calling the AO to tell the AO to send the material.  If you go to Appeals prior to Tax Court and have no Chief Counsel attorney to make this call, I wonder if the legislation will cause Appeals to take the position that a taxpayer cannot receive the material until 10 days prior to the meeting.  This would be a shame, because meetings are much more productive when parties can properly prepare.

The Taxpayer First Act also made changes to the ex parte provisions, set out in 7803(e)(6)(B), first enacted in 1998 as a means of insulating Appeals from the corrupting influence of other parts of the IRS.  The ex parte provisions were previously off-code but picked up by the IRS in a pair of Revenue Procedures describing how they would work.  The new provision allows Appeals to communicate with Chief Counsel’s office in order to obtain a legal opinion as it considers a matter, as long as the Chief Counsel attorney providing the advice was not previously involved in the case.  I don’t think this changes much.  Rev. Proc. 201218 already allowed attorneys in Chief Counsel to provide legal advice to Appeals.  Maybe this makes it clear that Appeals is not so independent that it cannot receive legal advice when it needs it, but it seemed that Chief Counsel and Appeals had already figured that out — even if some taxpayers criticized Appeals for obtaining legal advice.  Of course, when obtaining advice Appeals needs to seek out someone other than the attorney who was providing advice to Examination, in order to avoid having the attorney be the Trojan horse improperly influencing Appeals.

The panel mentioned Amazon v. Commissioner, 2019 U.S. App. Lexis 24453 (9th Cir. 2019). This is an important transfer pricing case clarifying what constitutes an “intangible” that must be valued and included in a buy-in payment to a cost-sharing arrangement between a parent company and its foreign subsidiary entity. The 9th Circuit panel affirmed the Tax Court, declining to apply Auer deference and holding that certain of Amazon’s abstract assets, like its goodwill, innovative culture, and valuable workforce, are not intangibles.

The committee also discussed Chief Counsel Notice CC-2019-006 “Policy Statement on Tax Regulatory Process” (9-17-2019).  A copy of the complete policy statement can be found here.   Each of the four points is important in its own way.  I find number three to be especially important.  We discussed the notice previously in a post here.

A few recent cases were mentioned as especially important to administrative practice:

Mayo Clinic v. United States, 124 AFTR2d 2019-5448 (D. Minn. 2019) provides the most recent interpretation of Mayo and what it means, in the context of whether Mayo Clinic was entitled to an exemption as an “educational organization” under Treas. Reg. § 1.170A-9(c).

Baldwin v. Commissioner, 921 F.3d 836 (9th Cir. 2019) is a mailbox rule case in which the taxpayer seeks to overrule National Cable & Telecommunications Association v. Brand X Internet Services, 545 U.S. 967 (2005).

Bullock v. IRS, 2019 U.S. Dist. LEXIS 126921 (D. Mont. 2019) is a pre-enforcement challenge to Rev. Proc. 2018-38 which relieves 501(c) organizations of the obligation to disclose the names and addresses of their donors.

Court Practice and Procedure Committee

Robin Greenhouse, who now heads Chief Counsel’s LB&I office, gave the report for Chief Counsel’s office.  She read from her notes and provided no PowerPoint presentation or handout material, so this time I cannot FOIA the PowerPoint presentation to provide the data.

She discussed two financial disability decisions which seems like an interesting place to begin.  First she mentioned Carter, as representative for Roper, v. United States, 2019 U.S. Dist. LEXIS 134035 at( N.D. Ala. 2019) in which the court determined that an estate cannot use 6511(h) to assert financial disability because an estate is not an individual.  I wrote a post on this case earlier in the fall.   Next she mentioned the case of Stauffer v. Internal Revenue Service, which I recently wrote about here.  I failed to make notes on the other cases she discussed and I cannot remember why.

Judge Marvel talked about the new Tax Court announcement on limited scope representation and the Chief Counsel Notice, CC-2020-001 on that issue.  During the first month of the fall Tax Court calendar four persons entered a limited appearance, including our own Christine Speidel.  The limited appearance ends when the calendar ends, making it not entirely clear what to do with a decision document.  Some suggested getting the decision document signed by the petitioner was the way to go.

So far the Tax Court has 18 pending passport cases.  Judge Marvel indicated that we might see the first opinion in a passport case soon.

Effective on September 30, 2019 the Tax Court has begun accepting electronic filing of stipulated decisions.  The practical effect of this is that because the IRS always signs the decision document last, it will be the party to submit the document.  I doubt this change will have a profound impact on Tax Court practice but, in general, more electronic filing is better.

Development of the Tax Court’s new case management system is moving quickly.  The court expects it to go online by Spring of 2020.  When implemented, this system will allow parties to file petitions electronically.  Judge Marvel expects that practitioners will like the new system.  The new system may allow changes to the public’s access to documents; however, whether and how that might happen is unclear.

Gil Rothenberg, the head of the Department of Justice Tax Division’s Appellate Section gave an update on things happening at DOJ.  He said there have been 75 FBAR cases filed since 2018 with over $85 million at issue.  Several FBAR cases are now on appeal – Norman (No. 18-02408) (oral argument held on October 4th) and Kimble (No. 19-1590) (oral argument to be scheduled) both in the Federal Circuit; Horowitz (No. 19-1280) (reply brief filed on July 18th) in the 4th Circuit and Boyd (No. 19-55585) (opening brief not yet filed) in the 9th Circuit.

Over 40 bankers and financial advisors have been charged with criminal activity in recent years and the government has collected over $10 billion in the past decade.  I credit a lot of the government’s success in this area to John McDougal discussed here but the Tax Division certainly deserves credit for this success as well.

DOJ has obtained numerous injunctions for unpaid employment taxes in the past decade.  It has brought over 60 injunction cases against tax preparers and obtained over 40 injunctions.  These cases take a fair amount of time and resource on the part of both the IRS and DOJ.  They provide an important bulwark against taxpayers who run businesses and repeatedly fail to pay their employment taxes.  Usually the IRS revenue officers turn to an injunction when the businesses have no assets from which to administratively collect.  We have discussed these cases here.  I applaud DOJ’s efforts to shut down the pyramiding of taxes.  Congress should look to provide a more efficient remedy, however, for addressing taxpayers who engage in this behavior.

He said that while tax shelter litigation was generally down, the Midco cases continued.  He mentioned Marshall v. Commissioner in the 9th Circuit (petition for rehearing en banc was denied on October 2nd) and Hawk v. Commissioner in the 6th Circuit (petition for certiorari was denied by the Supreme Court on October 7th).  We have discussed Midco cases in several posts written by Marilyn Ames.  These cases arise as transferee liability cases.  See our discussion of some past decisions here and here.  My hope is that the government will continue to prevail on these cases as the scheme generally serves as a way to avoid paying taxes in situations with large gains.  I wonder how many of these cases the IRS misses.

In Fiscal 2019 there were 200 appeals.  The government won 94% of the cases appealed by taxpayers and 56% of the cases appealed by the government.  I was naturally disappointed that he only talked about cases in which the government prevailed and did not discuss some of the larger losses such as the one in Myers v. Commissioner discussed here.

He briefly discussed the Supreme Court’s decision in Taggart v. Lorenzen, a bankruptcy case, in which the court held that the proper standard for holding the government in contempt for violating the discharge injunction required mens rea.  This followed the position of the amicus brief submitted by the Solicitor General. The Court declined to adopt the petitioner’s position, which would permit a finding of civil contempt against creditors who are aware of a discharge and intentionally take actions that violate the discharge order. The Court found this proposal to be administratively problematic for bankruptcy courts, distinguishing between the purpose and statutory language of bankruptcy discharge orders (which require mens rea) and automatic stays (which do not).

He ended by announcing that he will retire on November 1, 2019.

Virtual Currency, FBAR, and the Ripple Effect

We welcome back guest blogger James Creech. In this post James explains some of the current uncertainties surrounding virtual currency, particularly in how future IRS guidance might interact with legal positions taken by other federal agencies. Christine

Recently FinCen informed the AICPA Virtual Currency Task Force that Bitcoin and other Virtual Currencies do not trigger FBAR reporting even when held in an offshore wallet.

This guidance comes as a bit of a surprise for some tax practitioners. Conventional wisdom had been that there was a difference between Virtual Currencies being held in cold storage on a thumb drive in a foreign county, and those being held by a foreign third party who also retained the private keys to the Virtual Currency as a part of their service. It was believed that if the private keys were stored by the wallet service, and the wallet service could convert the Virtual Currency to fiat currency, then the account could be considered similar to an online poker account and reportable under U.S. v Hom, No. 14-16214, 9th Cir., (7/26/16).

While this will be welcome news for many taxpayers who hold foreign wallets, this guidance by FinCen has the potential to be more impactful on the tax consequences of Virtual Currencies than would initially be apparent. The IRS has long relied on other agencies to define key terms, and to more fully develop the legal nature of Virtual Currencies. This FinCen guidance may be the beginning of a deepening rift between agencies.

read more...

It is expected that the IRS will be releasing new Virtual Currency guidance shortly that will address some of the technological developments in the industry. One of the areas that could be addressed by this guidance is whether Virtual Currency held in foreign wallets is reportable on Form 8938. If the IRS decides that the Hom rational is correct and that foreign wallets are reportable this will create another significant distinction between the FBAR and Form 8938. For taxpayers this creates a higher likelihood of unfilled Form 8938’s due to taxpayer error and greater confusion between FBAR and Form 8938 requirements. I expect that this increased error rate will be higher than normal due to the fact that the Virtual Currency community relies heavily on industry blogs that many times are more interested in promoting virtual currency purchases rather than informing readers about compliance requirements.

For tax practitioners this split also raises questions of how much weight to put on the guidance of other administrative agencies. Because the IRS has issued so little guidance on Virtual Currency there are very few absolutes. We know that Virtual Currency is property because Notice 2014-21 clearly says so. What we don’t know is how far that definition goes, or if it can be treated like other specialized types of property. In the non-IRS context, the SEC has defined certain types of Virtual Currency as securities, and the CFTC has said that it is a commodity. It logically follows that if the IRS says a certain Virtual Currency is property, and the SEC says this Virtual Currency is a security, that a dealer in that particular Virtual Currency should be able to use a mark to market election under IRC 475. Given that Virtual Currencies as a whole suffered a bear market in 2018, a mark to market treatment might provide a desirable tax loss for many in the industry.

If there is a split in the FBAR and Form 8938 definitions, then assumptions that the IRS will allow taxpayers to import definitions from other agencies in order to tackle unaddressed issues lose some of their logic. It is impossible to overstate how important prior FinCen definitions are for IRS Virtual Currency guidance. The root definition of what is a Virtual Currency for IRS purposes is based in a 2013 FinCen definition of “convertible virtual currencies”. If the IRS does not see eye to eye with FinCen then there is a diminished likelihood that the IRS would adopt a CFTC definition and allow Virtual Currencies the same type of preferential tax treatments that they would allow for an established commodity. Of course the opposite reaction might also be true. If the IRS is the first agency to state that foreign wallets are reportable, we might see FinCen respond by adjusting their guidance to require FBAR disclosure as well. Either way, the pending IRS guidance will tell us a lot about how the IRS is thinking about Virtual Currencies and how it intends to incorporate guidance from other administrative agencies.