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The federal district courts and the court of claims have come down on opposite sides and created an FBAR penalty conflict. Could the issue be headed for the Supreme Court? Or will U.S. taxpayers with financial accounts overseas end up paying more regardless?
This is the final part in a four-part blog series on the FBAR penalty conflict created by the courts. The first blog post laid out the dispute over whether the 2004 American Job Creation Act or an earlier Treasury Department regulation sets the top limit on IRS penalties for non-disclosure of foreign assets. Next, this blog made the case for lower willful FBAR penalties, and reviewed two tax court decisions that favored the lower limits. The third post reviewed a Court of Federal Claims case that went the other way. Today's post will explain what all this means to taxpayers facing willful FBAR penalties in the future.
As a brief reminder, the question before no less than four federal courts has been whether a 2004 amendment to the Bank Secrecy Act supersedes an earlier Secretary of Treasury regulation about the maximum FBAR penalties the IRS can assign. The 2004 American Jobs Creation Act expanded the Secretary of Treasury's authority to issue FBAR penalties. It added a $10,000 penalty for non-willful violations, and increased the maximum willful FBAR penalty from $25,000 to $100,000 or 50% of the account balance, whichever is greater.
The language of the regulation mirrors the previous version of the law, and has never been updated to match the new, higher FBAR penalty maximums. The courts have been asked to decide whether the statute contradicted and replaced the prior regulation, or if the regulation survives, putting a lower cap on willful FBAR penalties than permitted under the law. But different courts have answered that question differently, creating an FBAR penalty conflict that will need to be resolved by the IRS or the courts.
The decisions in Colliot, Wadhan, and Norman set up a federal FBAR penalty conflict that could affect US tax law for years to come. The Colliot court found that the 2004 amendments raised the ceiling for IRS penalties, but it did not set a floor. That meant the Secretary of Treasury had discretion to impose lower penalties. And that's just what the Treasury Department regulation did.
In Wadhan, the court said the statute and the regulation could be read together consistently. Because the 2004 statute did not contradict the earlier regulation, it remained binding on the IRS. The Wadhan court noted that the Treasury regulation had been amended several times since 2004, but the Secretary hand never chosen to update its language to match the new statute.
But in Norman, the federal court of claims read the statute differently. It said that the directive that the maximum FBAR penalty "shall be increased" created a mandate that overruled the prior regulation. The FBAR penalty conflict created when Norman was decided could set up a Supreme Court battle in years to come.
The federal court of claims and the district courts that have ruled on the issue each lie in different parts of the country. That means if the IRS or the taxpayers choose to appeal the decisions, there could be a number of Circuit Courts hearing and ruling on the same issue. If the FBAR penalty conflict that exists at the trial court level continues among the various courts of appeals, it could create an issue the Supreme Court would want to review.
The U.S. Supreme Court does not hear or decide every case that comes to it. Appeals at this level are "by leave" rather than "by right". Every year, the Supreme Court reviews all the cases that have requested permission to be heard (called a writ of certiorari) and chooses a small number to review and decide. A split in the decisions at the Court of Appeals level makes the issue more likely to make the cut.
The IRS has already faced this regulation-based challenge in a number of courts. Part of the argument by U.S. taxpayers is that the current Secretary of Treasury regulation could have been amended, and it hasn't been. That could change before the matter comes before the Supreme Court.
The Secretary of Treasury used a "notice-and-comment" method of rule-making when it created this regulation. That means the Treasury Department published the proposed rules ahead of time and allowed the public (including tax professionals and attorneys) to provide feedback. That method of rule-making is the only thing keeping the Treasury Department from simply changing its mind and updating the regulation on the spot. Instead, if the Treasury Department wants to update the regulation to match the current statute, it will need to issue another notice and receive another round of comments.
But that could easily be done before these FBAR penalty conflict cases go up on appeal before the Supreme Court. While the current cases would still need to be resolved, this rule-making could eliminate future taxpayers' argument for lower FBAR penalties and make it less likely that the Supreme Court would take up the case.
The future of willful FBAR penalties remains obscure. It is possible that all the courts of appeals will rule in favor of lower FBAR penalties, or will find that the statute mandated a higher maximum. The IRS and the Treasury Department could change the rules. But if neither of those things happen, the FBAR penalty conflict could find itself before the Supreme Court.
Attorney Joseph R. Viola is a tax attorney in Philadelphia, Pennsylvania with over 30 years experience. If you have questions regarding willful FBAR penalties, contact Joe Viola to schedule a free consultation.