Introduction
Federal tax law imposes various reporting requirements on U.S. taxpayers (citizens and residents) who have foreign transactions, foreign financial accounts, and/or interests in foreign entities. Taxpayers who fail to timely and properly file these information returns run the real risk of significant civil penalties for the non-reporting. However, for almost a decade, the IRS has offered certain qualifying taxpayers limited amnesty to regain compliance—at reduced civil penalty rates—through the Streamlined Filing Compliance Procedures (“SFCP”).
But not all taxpayers qualify for the SFCP. For example, taxpayers who “willfully” failed to file foreign information returns or pay U.S. tax on foreign income are ineligible. Moreover, taxpayers who are otherwise eligible may be deemed ineligible if the IRS concludes that the taxpayer’s SFCP submission omits important information. Because taxpayers have a strong incentive to use the SFCP—as opposed to other methods to regain compliance—the IRS routinely polices the submissions that are made under the program. The federal district court decision in Jones v. U.S., No. CV-19-04950-JVS (C.D. Cal. May 11, 2020), offers a glimpse into what can potentially go wrong if a SFCP submission is flagged by the IRS for additional review.
FBARs
As discussed infra, the Jones failed to properly report all of their interests in foreign accounts. Under the Bank Secrecy Act (“BSA”), U.S. persons are required to file FBARs to report their foreign account balances if the cumulative balances of the foreign accounts exceed $10,000 at any point in the tax year.
Taxpayers who miss the deadline or report incorrect information on an FBAR are subject to civil penalties, which vary depending on whether the non-filing/improper filing is due to willful conduct or non-willful conduct. As the court in Jones explains, the distinction between willful and non-willful conduct is often an ambiguous one.
If a taxpayer’s conduct is found willful, the BSA permits the IRS to impose civil penalties as high as 50 percent of the foreign account balances at the time of the violation—i.e., when the FBAR was due. By statute, the IRS may also impose the 50 percent willful penalty for each tax year, subject only to the statute of limitations on assessment of the FBAR penalty.
If a taxpayer’s conduct is found non-willful, the penalty is a reduced $10,000 per violation (adjusted for inflation). There is currently a split in the federal courts on the proper meaning of the term “violation” for non-willful penalties. Some federal courts have held that it means $10,000 per untimely disclosed foreign bank account; other federal courts have held the term means per-year or per-FBAR form. In Bittner, the Supreme Court granted certiorari to resolve the split—accordingly, the issue should be decided with more clarity next term.
Jones v. U.S
Facts
Mr. and Mrs. Jones had been husband and wife for some time. Mr. Jones was born in New Zealand; Mrs. Jones was born in Canada. Neither had a college education, nor significant experience in U.S. tax or accounting matters.
The Jones became U.S. citizens in 1969. During the years at issue (2011 and 2012), Mr. and Mrs. Jones had eleven foreign accounts: three in Canada and eight in New Zealand. Four of the New Zealand accounts were solely in Mr. Jones’ name; three of the foreign accounts (two in Canada and one in New Zealand) were solely in Mrs. Jones’ name; and the remaining four foreign accounts were held jointly by the Jones.
Mr. and Mrs. Jones historically filed joint income tax returns—including for 2011—until Mr. Jones passed away on March 11, 2013. On their tax returns, the Jones failed to report significant amounts of foreign income related to the foreign accounts. They also indicated on Schedules B that they did not have any interests in foreign accounts, and the Jones failed to file FBARs.
The Jones used a CPA to prepare their tax returns. The CPA did not have experience in preparing FBARs, and he did not ask the Jones whether they had foreign accounts.
After Mr. Jones passed away, Mrs. Jones was named his executor. Only after Mr. Jones died did Mrs. Jones learn of his separate accounts in New Zealand. To assist with the administration of the estate, Mrs. Jones hired attorneys. Based on their legal advice, Mrs. Jones filed a timely FBAR for 2012, reporting the foreign accounts. Moreover, she filed amended tax returns for 2011 and 2012, reporting all unreported foreign income from the accounts.
Approximately two years later, Mrs. Jones also filed an SFCP submission with the IRS, which included: (1) amended joint income tax returns for 2011 and 2012 that she had previously filed and an original income tax return for 2013; (2) FBARs for 2008 through 2013; (3) a non-willful narrative, executed under penalties of perjury; and (4) payment of the miscellaneous Title 26 penalty in the amount of $156,795.26. Mrs. Jones computed the Title 26 penalty based solely on her individual accounts and her joint accounts with Mr. Jones. She did not include Mr. Jones’ separate foreign accounts in New Zealand.
The IRS selected the SFCP submission for examination. According to the Jones court, the reason for the examination was that “Mrs. Jones’ Streamlined submission did not list, and did not pay a 5% penalty on Mr. Jones’ foreign accounts.” After the examination concluded, the IRS sought to impose willful FBAR penalties against both Mr. and Mrs. Jones in the amount of $1.52 million. Mrs. Jones, in her individual capacity and as executor of Mr. Jones’ estate, filed a lawsuit against the United States to have the willful FBAR penalty removed or reduced. After discovery concluded, the parties all moved for summary judgment on their claims.
Decision
The court in Jones noted the expansive definition for “willfulness” under the BSA. More specifically, the court stated:
Although . . . [the BSA] does not define the term willfulness, courts adjudicating civil tax matters have held that an individual is willful where he/she exhibits a reckless disregard of a statutory duty. Whether a person has willfully failed to comply with a tax reporting requirement is a question of fact. Recklessness is an objective standard that looks to whether conduct bears of an unjustifiably high risk of harm that is either known or so obvious that it should be known. Improper motive or bad purpose is not required to establish willfulness in the civil context. Where a taxpayer makes a conscious effort to avoid learning about reporting requirements, evidence of such willful blindness is a sufficient basis to establish willfulness. Willfulness may also be proven through inference from conduct meant to conceal or mislead sources of income or other financial information.
Given this broad definition for willfulness, the court in Jones refused to grant either party’s motion for summary judgment. Indeed, the federal court reasoned that there were facts for and against a finding of willfulness. Facts favoring the United States included: (1) the Jones filed Schedules B and checked the boxes “no” regarding whether they had interests in foreign accounts; and (2) the Jones received statements from their foreign banks but never provided those statements to their CPA for tax preparation. With respect to the Jones, the court noted the following favorable facts: (1) the Jones relied on a CPA who was unaware of the FBAR reporting requirements; and (2) upon learning of the missed FBAR filing, Mrs. Jones promptly filed amended tax returns and voluntarily submitted the tardy FBARs through the SFCP.
Accordingly, the court reasoned that a trial was necessary for a final determination as to whether Mr. and Mrs. Jones were liable for willful FBAR penalties.
Conclusion
The Jones decision shows that the IRS actively polices submissions made under the SFCP and denies the benefits of the program to those who fail to qualify. Taxpayers who wish to make an SFCP submission should be familiar with the requirements of the program and also the concept of willfulness versus non-willfulness. Taxpayers who make an SFCP submission without making these critical determinations run the risk of increased civil penalties and an expensive IRS audit after the submission has been made.
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