Update: Sixth Circuit Court Calls FBAR Filing Failures “Objectively Reckless”
The Sixth Circuit Court of Appeals, which controls much of the Midwest, has joined several other appellate courts to confirm that recklessness is enough to support willful penalties for FBAR filing failures. Reviewing the case of United States v. Kelly, the Court said the taxpayer’s conduct was at least “objectively reckless” and the penalties were appropriate as a matter of law.
Taxpayer Conceals Overseas Assets, Even After Joining Tax Penalty Avoidance Program
Dr. James Kelly transferred over $1.8 million overseas into an account at Finter Bank in early 2008. He placed the funds in a numbered account and asked the bank to retain all account-related correspondence. When the bank asked him to complete a W-9 to be filed with the IRS, he never turned the form in. Instead, he divested himself of all U.S. securities related to the account to avoid any withholdings that might give the IRS notice the account existed. Unsurprisingly, Dr. Kelly never filed mandatory Reports of Foreign Bank and Financial Accounts (FBARs) related to his accounts.
In 2013, the bank again asked Dr. Kelly to submit proof that he had complied with U.S. tax laws, including copies of his FBARs. It warned him he could face criminal and financial charges for FBAR filing failures and advised him to talk to a U.S. tax specialist. In response, Dr. Kelly joined the now-closed Offshore Voluntary Disclosure Program (OVDP) to avoid willful FBAR penalties and possible criminal charges. In his application for the OVDP, he admitted that he was aware of his FBAR reporting obligations.
But soon after joining the program, Dr. Kelly took additional steps to conceal his overseas assets, transferring them to a new bank in Liechtenstein. In December 2016 he finally corrected his FBAR filing failures for the years 2008 through 2013, but he still did not file FBARs for 2014 or 2015. In 2018, the IRS asked him to complete a Form 433-A, disclosing his personal bank accounts, and he again omitted his overseas accounts. In response, the IRS removed Dr. Kelly from the OVDP for non-compliance. It then issued willful penalties for FBAR filing failures totaling $769,126.
District Court Affirms FBAR Penalties for “Willful Blindness”
The case came before the Michigan District Court in May 2023. That Court’s opinion affirming the willful FBAR penalties focused on the question of whether the FBAR filing failures were the result of Dr. Kelly’s willful blindness to the filing requirements. The District Court criticized the doctor’s “blasé attitude about his federal reporting obligations” including his failure to ever hire a financial investment expert to manage his tax obligations and financial affairs. It affirmed the willful FBAR penalty issued by the IRS.
Sixth Circuit Joins Other Courts to Affirm Recklessness Standard for Willful FBAR Failures
Dr. Kelly wasn’t satisfied with the District Court’s ruling. He appealed the decision to the Sixth Circuit Court of Appeals. The Circuit Court first focused on “what it means to ‘willfully’ violate the FBAR requirements” in the context of civil liability. The Court relied on a United States Supreme Court decision, Safeco Insurance Company of America v Burr, which considered the civil liability standard for willful violations of a different statute, the Fair Credit Reporting Act (FCRA). The Safeco decision confirmed that willful failure to comply with that act included the “reckless disregard of statutory duty.”
Here, that statutory duty was to timely file FBARs each year the taxpayer controlled more than $10,000 in foreign banks and financial accounts under the Bank Secrecy Act. The Sixth Circuit said this duty was similar to the FCRA statutory duties and the same standard applied to FBAR filing failures as to violations of that statute. It held that “for purposes of an FBAR civil penalty, a willful violation of the FBAR reporting requirements includes both knowing and reckless violations.” The Court noted that this was the same decision reached by the Eleventh Circuit in United States v Rum, the Federal Circuit in Kimble v United States, the Fourth Circuit in United States v Horowitz, and the Third Circuit in Bedrosian v United States.
Sixth Circuit Calls Taxpayer’s Actions “Objectively Reckless”
After establishing the standard, the Circuit Court turned to the facts of the case. It held, “A reasonable factfinder could reach only one conclusion – Kelly’s conduct in failing to comply with his FBAR obligations was reckless, if not knowing.” The Court quoted Horowitz, defining civil recklessness as something more than negligence, and requiring the IRS to show that Dr. Kelly:
(1) clearly ought to have known that (2) there was a grave risk that an accurate FBAR was not being filed and [that] (3) he was in a position to find out for certain very easily.
Dr. Kelly asserted that because he participated in the OVDP before the 2013 FBAR was due and was later removed from the program, his failure to file could not have been knowing or reckless. The Sixth Circuit disagreed. It said he “took steps to intentionally evade his legal duties” and “shield his considerable assets from U.S. authorities.” Further, the OVDP required Dr. Kelly to come into full compliance with his reporting requirements, but even after joining the program, he still did not meet the 2013 FBAR filing deadline.
The Court said, “At any rate, Kelly’s conduct was objectively reckless.” It faulted him for failing to seek professional advice about his reporting obligations and tax implications of his investments. He also did not confirm that the bank had reported his assets to U.S authorities, even after enrolling in the program and admitting he was aware of the reporting requirements. “Given that he ought to have known about the risk of noncompliance, and could have found out by simply asking, his failure to disclose was, at the very least, reckless.” The Court held that “the evasive actions that Kelly took while participating in the OVDP” meant he was not intending to remedy his FBAR filing failures, as did the fact that he never filed FBARs for 2014 and 2015. Similarly, the fact that Kelly eventually hired a Swiss account manager did not excuse his non-compliance, since he never asked the advisor or anyone else if the FBARs had been filed.
United States v Kelly shows that taxpayers who conceal their assets are at risk of willful penalties for FBAR filing failures, even if the IRS can’t prove it was done intentionally. The Sixth Circuit, like every other court to take up the issue, has found that reckless disregard for the filing requirements is enough to support the higher willful penalties. That is why it is so important for taxpayers with foreign financial accounts to work with tax preparers and U.S. tax attorneys who understand the reporting requirements and can advise them on legal ways to meet them.
Attorney Joseph R. Viola is a tax attorney in Philadelphia, Pennsylvania with over 30 years experience. If you have questions about FBAR filing failures, contact Joe Viola to schedule a free consultation.
