Challenging FBAR Penalties in Federal Court: FBAR Litigation
In most cases, IRS exam initiates FBAR assessments. And, after an IRS examiner determines that an FBAR penalty is appropriate, taxpayers are generally afforded pre- or post-assessment appeals rights with the IRS Independent Office of Appeals (“Appeals”). If Appeals agrees with IRS exam that the FBAR penalty is appropriate, Appeals will either recommend assessment (if a pre-assessment case) or sustain the assessment determination (if a post-assessment case).
But, what happens after the assessment? The short answer: litigation. And as discussed more fully below, this litigation is likely to occur whether the taxpayer wants it or not due to the unique collection procedures applicable to FBAR assessments under Title 31 of the Code.
United States persons who have a financial interest in or signature authority over one or more foreign financial accounts located in a foreign country with aggregate balances exceeding $10,000 at any time during the calendar year must file a timely and complete FBAR. If the United States person fails to file a timely and accurate FBAR, he or she can be liable for “willful”[i] or “non-willful” FBAR penalties.
As you can probably guess, the harsher of the two penalties is the willful penalty. If a United States person’s conduct is willful, the IRS may assess a penalty equal to the greater of $100,000 (adjusted for inflation) or 50% of the account balance at the time of the violation.[ii] Conversely, if a United States person’s conduct is non-willful, the IRS may assess a penalty equal to $10,000 (adjusted for inflation) per violation unless the United States person can demonstrate reasonable cause.[iii]
After the IRS makes an FBAR assessment, it generally issues correspondence (e.g., Letter 3708) to the United States person notifying him or her of the assessment and demanding payment.[iv] If the penalties are not paid within 30 days of the date of the Letter 3708, interest will begin to accrue on the unpaid FBAR penalties. Moreover, the United States may assert an annual 6% delinquency penalty on the unpaid amounts.
The IRS’s time to make an FBAR assessment is not unlimited. Rather, the IRS has only 6 years from the date of the FBAR violation to assess either the willful or non-willful FBAR penalty. Generally, this 6-year period starts on the date the FBAR filing is due.
Suits Initiated by the Government.
After an assessment is made, the United States government may initiate a lawsuit against a United States person in federal district court.[v] The overwhelming majority of FBAR cases filed in federal courts are made by the United States—only a small minority are filed by United States persons against the United States, as discussed supra. The United States brings suit against United States persons for two reasons: (1) a judgment against the United States person reduces the assessments to judgment and permits additional collection actions; and (2) the United States must, under Title 31, bring suit within 2 years of the assessment.
The Department of Justice (DOJ) generally represents the United States in FBAR litigation cases. Aside from the statutory provisions in Title 31, the DOJ generally files suit against United States persons under 28 U.S.C. §§ 1345 and 1355.[vi] Under 28 U.S.C. § 1345, district courts have original jurisdiction over all civil actions, suits or proceedings commenced by the United States. Under 28 U.S.C. § 1355, federal district courts have original jurisdiction “of any action or proceeding for the recovery or enforcement of any fine, penalty, or forfeiture, pecuniary or otherwise, incurred under any Act of Congress, except matters within the jurisdiction of the Court of International Trade.” Although the DOJ may file in federal district court, it must also comply with principles of personal jurisdiction and venue in doing so.
Significantly, a United States person is entitled to a jury trial if the DOJ brings suit in federal court to seek a judgment of the FBAR penalties.[vii]
Suits Initiated by United States Persons.
In some cases, the United States person may not want to wait for the DOJ to file suit against him or her. Rather, the United States person may want to initiate the lawsuit against the United States. There are several federal statutes that permit the United States person to file suit. In all cases, the United States person must exercise caution to ensure that he or she falls within the waiver of sovereign immunity granted in those statutes.[viii]
United States District Court.
Similar to authorizing the United States to file suit in federal district court, 28 U.S.C. § 1355(a) also provides United States persons with the ability to file suit against the United States for, among other things, “fines, penalties, or forfeitures,”[ix] which includes FBAR penalties. Accordingly, a United States person may file a lawsuit against the United States for recovery of an FBAR penalty in the proper federal district court.
In most cases, a United States person’s lawsuit in federal district court will challenge the IRS’s determinations that he or she was willful and, if non-willful, the IRS’s determinations that the United States person did not show reasonable cause. However, United States persons should be cognizant that there may be other avenues to challenge FBAR penalty determinations—particularly because FBAR penalties are not subject to the same proscriptions under the Anti-Injunction Act and the Flora rule. For example, at least one United States person has been successful in at least raising a claim under the Administrative Procedure Act (“APA”), which contended that the IRS acted “arbitrarily and capriciously.”[x]
The Little Tucker Act also provides jurisdiction to federal district courts (concurrent with the U.S. Court of Federal Claims) over certain claims against the United States not exceeding $10,000, including certain claims “founded . . . upon the Constitution . . . or [an] Act of Congress.”[xi] A word of caution is also warranted here. In Bedrosian,[xii] the Third Circuit Court of Appeals reasoned that because FBAR penalties represented a penalty collected “under the internal revenue laws,” see 28 U.S.C. § 1346(a)(1), that the rules of Flora should apply. The Bedrosian decision, thus far, has been an outlier. And, notably, the Third Circuit did hold that it had jurisdiction over the ultimate lawsuit because the United States had counterclaimed against the United States person for the full amount (a common practice by the DOJ in FBAR penalty cases).
Recognizing that the Flora rule does not govern, at least some federal district courts have concluded that a United States person is not required to full pay the FBAR penalty assessments to confer jurisdiction on the court.[xiii]
United States persons who bring federal lawsuits against the government in federal district court are not entitled to a jury trial.[xiv] However, the United States person may request a jury trial if the government later counterclaims for the full unpaid balance of the FBAR penalty.[xv]
Court of Federal Claims.
The Tucker Act.
The Tucker Act grants the Court of Federal Claims jurisdiction “to render judgment upon any claim against the United States founded either upon the Constitution, or any Act of Congress or any regulation of an executive department, or upon any express or implied contract with the United States, or for liquidated or unliquidated damages in cases not sounding in tort.”[xvi] Claims under the Tucker Act “may be made for recovery of monies that the government has required to be paid contrary to law.”[xvii]
The Court of Federal Claims has held that it has jurisdiction over claims contesting the assessment and collection of FBAR penalties because those claims constitute “illegal exactions.”[xviii] An “illegal exaction claim may be maintained when the plaintiff has paid money over to the Government . . . and seeks return of all or part of that sum that was improperly paid, exacted, or taken form the claimant in contravention of the Constitution, a statute, or a regulation.”[xix]
Because the Tucker Act requires either a payment or an illegal exaction, United States persons should be able to file suit under the Tucker Act after partial payment or certain collection actions by the IRS, including seizure and offsets. Under the Tucker Act, the United States person must bring suit within 6 years after a claim first accrues.[xx]
The Court of Federal Claims has held that it has jurisdiction under the Tucker Act to hear FBAR penalty cases.[xxi] Moreover, the Court of Federal Claims has concluded that it has jurisdiction under the Tucker Act to entertain FBAR penalty cases even when the United States person pays only a fraction of the assessed FBAR penalty amounts.[xxii]
There is no right to a jury trial under the Tucker Act.
The Little Tucker Act.
The Little Tucker Act grants the Court of Federal Claims with jurisdiction (concurrent with the federal district courts) over certain claims, as already mentioned above.”[xxiii] As mentioned above, those claims must not exceed $10,000. Given the language in the Little Tucker Act, the Court of Federal Claims should have jurisdiction over FBAR penalty cases that fall within its jurisdictional scope. Under the Little Tucker Act, the United States person must bring suit within 6 years after a right of action first accrues.[xxiv]
By statute, there is no jury trial available for suit against the government under the Little Tucker Act.
Because FBAR penalties arise under Title 31 of the United States Code (and not Title 26, which houses the Internal Revenue Code), the Tax Court has held that it does not have jurisdiction over FBAR penalty cases.[xxv] Accordingly, United States persons are not afforded pre-payment judicial review relief through the deficiency procedures.
The IRS continues to assert more and more FBAR penalties against United States persons. Given the stakes involved and the draconian nature of the penalties, United States persons should be aware of the steps that follow after an IRS assessment has been made. As indicated above, in most cases that next step will be litigation in either a federal district court or the Court of Federal Claims.
[i] Significantly, almost every federal court to hear the issue has determined that “willful” also means “reckless” or the concept of “willful blindness.” U.S. v. Horowitz, 978 F.3d 80, 88 (4th Cir. 2020); Bedrosian v. U.S. Dep’t of Treasury, 912 F.3d 144, 153 (3d Cir. 2018); U.S. v. Williams, 489 F. App’x 655, 658 (4th Cir. 2012); U.S. v. Flume, 390 F. Supp. 3d 847, 854 (S.D. Tex. 2019).
[ii] 31 U.S.C. § 5321(a)(5)(C)(i).
[iii] 31 U.S.C. § 5321(a)(5)(B)(i).
[iv] IRM pt. 8.11.6.
[v] See, e.g. U.S. v. Shemesh, No. 20-16305, 2021 WL 3706735 (D.N.J. Aug. 19, 2021); U.S. v. Goldsmith, No. 3:20-cv-00087, 2021 WL 2138520 (S.D. Cal. May 25, 2021); U.S. v. Gentges, No. 18-cv-7910, 2021 WL 1222764 (S.D.N.Y. Mar. 31, 2021).
[vi] See, e.g., U.S. v. Malhas, No. 19-cv-03709 (N.D. Cal. Oct. 28, 2020) (“Title 31 of the United States Code does not preclude the Court from exercising original jurisdiction in a civil case where the United States is a plaintiff.”).
[vii] See, e.g., Tull v. U.S., 481 U.S. 412 (1987).
[viii] See, e.g., U.S. v. Mitchell, 463 U.S. 206, 212 (1983); see also Smith v. Booth, 823 F.2d 94, 96-97 (5th Cir. 1987) (per curiam) (concluding that a federal court has no jurisdiction over a suit brought against the United States in the absence of explicit statutory consent to suit).
[ix] Significantly, most federal courts have held that FBAR penalties are not a “tax” and are not “assessed or collected” under the Internal Revenue Code of 1986, as amended. Therefore, the Anti-Injunction Act and Flora rules should not apply. But see Bedrosian, infra n. 12.
[x] See 5 U.S.C. § 706; see also Moore v. U.S., No. 2:13-cv-02063 (W.D. Wash. Apr. 1, 2015); Moore v. U.S., No. 2:13-cv-02063 (W.D. Wash. July 24, 2015).
[xi] 28 U.S.C. § 1346(a)(2).
[xii] Bedrosian, 912 F.3d 144 (3d Cir. 2018).
[xiii] Jones v. U.S., No. 19-00173, 2020 WL 4390390 (C.D. Cal. May 11, 2020).
[xiv] See 28 U.S.C. § 2402.
[xv] Tull v. U.S., 481 U.S. at 418-19.
[xvi] See 28 U.S.C. § 1491.
[xvii] Aerolineas Argentinas v. U.S., 77 F.3d 1564, 1572 (Fed. Cir. 1996).
[xviii] Jarnigan v. U.S., 134 Fed. Cl. 368, 376 (2017); Landa v. U.S., 153 Fed. Cl. 585 (Fed. Cl. 2021) (“The plaintiff paid the FBAR penalty assessed by the IRS and has challenged the payment in this court as contravening Treasury regulations and the Eighth Amendment of the Constitution. The Court has jurisdiction over his claim.”)
[xix] Aerolinas, 77 F.3d at 1572-73.
[xx] 28 U.S.C. § 2501.
[xxi] Norman v. United States, 126 Fed. Cl. 277 (Fed. Cl. 2016).
[xxii] See Mendu v. U.S., 153 Fed. Cl. 357 (Fed. Cl. 2021).
[xxiii] See 28 U.S.C. § 1346(a)(2).
[xxiv] 28 U.S.C. § 2401(a).
[xxv] See Williams v. Comm’r, 131 T.C. 54 (2008); see also Anand v. Comm’r, 851 Fed. Appx 247 (2d Cir. 2021) (“Further, the Tax Court does not have jurisdiction over FBAR penalties because they are not considered tax deficiencies.”).