Federal Court Imposed Penalties for Reckless FBAR Violations

The difference between willful and non-willful FBAR violations amount to hundreds of thousands of dollars. But what counts as willfulness can sometimes be unclear. A recent federal district court decision says even reckless taxpayers could face stiff FBAR penalties for willful violations of U.S. tax law.

U.S. taxpayers with financial accounts oversees are required to report those assets and related income on their federal tax returns, and through Foreign Bank & Financial Account reports (FBAR). When they don't, the penalties for failure to file FBARs can add up quickly. The Internal Revenue Service (IRS) offers options for voluntary disclosures of non-compliance that can limit liabilities, but the savings depend on willfulness.

Whether a taxpayer's non-disclosure of foreign assets is willful depends on many factors. IRS investigators and federal prosecutors evaluate a taxpayer's circumstances to determine whether civil or even criminal consequences should apply.

Reckless Taxpayers in United States v. Bohanecs

August and Maria Bohanecs were U.S. taxpayers and naturalized citizens originally from Slovenia and Mexico, respectively. Together they operated a used camera store in Pasadena, California. Over the years, their shop became an exclusive dealer for a German camera manufacturer, and eventually negotiated similar arrangements with international contractors worldwide.

The couple stopped filing tax returns in 1998. Over the years they opened bank accounts in Switzerland, Austria, and Mexico. They never filed an FBAR or told their tax preparers, or anyone else besides their children, about the international accounts. They made a number of substantial transfers between the Swiss account and their other accounts. At its highest point in 1999, the Swiss account was worth over $1 million. Then in 2010, the Bohanecs closed their Austrian account and transferred the $523,667 it held into its domestic bank account in Pasadena. When they reported that asset, it drew attention to the couple's FBAR violations.

The Bohanecs initiated a voluntary disclosure proceeding, but they were disqualified when they again failed to disclose several of their international assets. The IRS imposed civil penalties, determining that the Bohanecs' violation was willful. After a trial, the federal judge said it was at least reckless.

Does Recklessness Count as Willfulness?

The question for U.S. District Court Judge Dean D. Pregerson for the Central District California, was whether recklessness was enough to impose willful FBAR penalties. The Chief Counsel of the Internal Revenue Service has released an internal willfulness standard that defines the term as an intentional violation of a known legal duty. It does not include reckless disregard of statutory duties. The court said this was the criminal willfulness standard. It did not apply to civil fines or penalties.

Instead, the court defined civil willfulness to include both intentional and reckless violations. It quoted a prior court decision saying,

"'Recklessness' is an objective standard that looks to whether conduct entails 'an unjustifiably high risk of harm that is either known or so obvious that it should be known.' Safeco[ Ins. Co. of America v. Burr, 551 U.S. 47] at 68 (internal quotation marks and citation omitted)."

Judge Pregerson also noted that federal prosecutors only had to prove recklessness by a preponderance of the evidence (essentially a tipping of the scales) rather than the higher standard of clear and convincing evidence. He said the higher standard was reserved for important individual interests or rights beyond money sanctions.

What Does Recklessness Look Like?

The judge decided that the Bohanecs had been reckless, and would have to pay the higher penalty for willful FBAR violations based on several factors:

• The couple was sophisticated enough to run an international business and obtain patents on their own.
• They never told anyone about the international accounts or asked any financial or tax professional about reporting requirements.
• Their claim that the money was for retirement did not line up with how they used the account.
• They misrepresented their international assets while participating in the Voluntary Disclosure Program for Offshore Accounts, which is punishable under penalty of perjury.

The judge also noted that the couple's 1998 tax return forms specifically asked about international accounts and warned of the need to file FBARs for any foreign bank or financial accounts.

Attorney Edward M. Robbins, who represented the Bohanecs, told TaxNotes.com that the practical effect of this decision and others like it was to hold U.S. taxpayers strictly liable for their FBAR violations. Because citizens are obliged to know the law and failure to follow that law has been found reckless, he sees no way taxpayers could be found liable for non-willful FBAR violations.

Whether Robbins's reading of the case is true remains to be seen. There is no circuit court precedent on determining willfulness at this time. But when Bohanec is appealed it will give an opportunity to the court to set a standard for everyone, including IRS, taxpayers, and tax attorneys, to follow.

Attorney Joseph R. Viola is a tax attorney in Philadelphia, Pennsylvania with over 30 years experience. If you have questions regarding FBAR requirements or non-disclosures, contact Joe Viola to schedule a consultation.