FBAR Penalties

On March 8, 2022, the Southern District of New York issued its Opinion in the case of United States v. Schik, No. 20-cv-0221 (MKV), 2022 U.S. Dist. Lexis 41148 (S.D.N.Y. Mar. 8, 2022).  In that case, the United States brought a lawsuit against a Holocaust survivor for willful failure to file an FBAR for one year:  2007.  Incredibly, the United States sought to assess the maximum willful FBAR penalty against Mr. Schik—i.e., 50% of the foreign account balance—which would have resulted in close to a $9 million FBAR penalty.  As seems more and more common, the United States moved for summary judgment on the willfulness determination.  This article discusses the Schik case.

FBARs Generally

Prior to analyzing the facts and issues of the Schik case, it is important for the reader to understand the FBAR reporting and penalty regime.  Generally, 31 U.S.C. § 5314 requires a United States person to file an FBAR with the government if the person has a financial interest in a foreign financial account with an aggregate value in excess of $10,000 at any point during the relevant year.  If the United States person fails to timely file an accurate FBAR, the United States may impose a “willful” penalty, which can equal the greater of $100,000 (adjusted for inflation) or 50% of the account balance in the account at the time of the violation.  See 31 U.S.C. § 5321(a)(5)(C).

Facts in Schik

Mr. Schik is an almost 100-year-old Holocaust survivor.  When he was only 13 years of age, he was forcibly separated from his family in Austria and sent to a Hungarian concentration camp.  Because of the Holocaust, Mr. Schik never obtained a formal education.  After World War II, Mr. Schik was liberated, and he moved to the United States in 1947.  Only 10 years later he became a United States citizen.

Shortly after becoming a United States citizen, Mr. Schik opened a foreign account with UBS AG in Switzerland.  The funds that Mr. Schik deposited into the foreign account represented funds that he had recovered from the Holocaust—i.e., funds that had originally belonged to his relatives who had died in concentration camps.  Mr. Schik deposited the funds in a Swiss bank account because he believed that a second Holocaust-like event may occur, and he found it important that Switzerland had remained neutral during World War II.

Mr. Schik did not manage the funds in the foreign account.  Rather, he had a Swiss money manager who managed the funds along with his son, Josef Beck, who later took over his father’s business.  Although Mr. Schik never opened additional accounts on his own, he spoke by phone with his Swiss money manager “a few times a year.”  And through the advice, in part, of his Swiss money manager, he opened a bank account for Tikva Consulting, P.A., which was chartered in Panama.  The IRS contended that Mr. Schik had economic control of the account listed in Tikva Consulting, P.A.’s name.

Mr. Schik utilized a tax professional to prepare his United States income tax returns.  However, his tax professional never asked him if he had funds outside the United States.  Moreover, Mr. Schik never discussed his foreign accounts with his tax professionals.  And he never completed a “tax questionnaire.”

Mr. Schik utilized his tax professional to prepare his 2007 income tax return.  His 2007 return had a Schedule B, which asked him whether he an interest in or signature authority over any foreign financial account in 2007.  Evidence showed that although the question was answered “no,” the tax professional’s software had prefilled the answer “no.”  Mr. Schik admitted that he reviewed the 2007 tax return prior to filing—but he argued that he only looked at the tax return “generally” prior to its filing.

A few years after his 2007 tax return was filed, Mr. Schik’s Swiss money manager was indicted in federal court on charges of “conspiring with U.S. taxpayers and foreign financial institutions, including UBS, to enable [his] clients to hide Swiss bank accounts and income generated in those accounts from the IRS.”  UBS also caught the ire of the United States through its participation in this and other schemes and agreed through a deferred prosecution agreement to provide the United States with the identities of United States citizens and residents who were customers of the bank.  When Mr. Schik learned of the agreement, he submitted a voluntary disclosure to the IRS regarding his undisclosed foreign accounts.  However, the IRS denied the voluntary disclosure.  Left with few other options, Mr. Schik filed a late 2007 FBAR with the United States, reporting his holdings in the Swiss foreign accounts.

The IRS examined Mr. Schik’s 2007 FBAR and concluded that he was liable for approximately $9 million for willful FBAR penalties.  Mr. Schik refused to pay the penalty, and the United States filed suit against him seeking to reduce the assessments to judgment.

The Court’s Analysis

Prior to trial, the United States moved for summary judgment on the willful FBAR penalty issue.  To succeed on its motion and avoid a trial entirety, the United States was required to show: (1) Mr. Schik was a United States person; (2) Mr. Schik had an interest in, or signature authority over, a foreign financial account; (3) the account had a balance exceeding $10,000 at some point during the reporting period; and (4) Mr. Schik willfully failed to disclose the account and file an FBAR.  Mr. Schik and the United States agreed that the United States met the first three requirements.  Accordingly, the dispute amongst the parties was whether Mr. Schik had acted willfully in failing to timely file the FBAR for 2007.

What is Willful?

On willfulness, Mr. Schik contended that he was not willful because he did not intentionally file the FBAR late. Conversely, the United States argued that it was not required to show intentional conduct—rather, the United States contended that it could show willfulness merely through showing that Mr. Schik was “objectively reckless” in failing to meet his FBAR obligation.

The district court concluded that the FBAR statute does not define the term willfulness.  However, the district court reasoned that the Supreme Court had held that such term includes reckless conduct in addition to intentional conduct.  See Safeco Ins. Co. v. Burr, 551 U.S. 47 (2004).  The district court similarly concluded that although the Second Circuit had not opined on the meaning of the term willfulness for purposes of the FBAR statute, other federal courts had universally concluded that such term included reckless conduct.  See U.S. v. Rum, 995 F.3d 882, 889 (11th Cir. 2021); U.S. v. Horowitz, 978 F.3d 80, 88 (4th Cir. 2020); Norman v. U.S., 942 F.3d 1111, 1115 (Fed. Cir. 2019); Bedrosian v. U.S., 912 F.3d 144, 152 (3d Cir. 2018).  Thus, the district court found that the term willful meant reckless and intentional conduct.

After determining the proper standard for willfulness, the district court proceeded to determine whether Mr. Schik’s conduct was reckless.  Given the summary judgment facts, the court held that there were insufficient facts to show willfulness without a trial.  In this regard, the court found the following facts helpful to Mr. Schik:

  1. He did not manage the accounts located in Switzerland.
  2. He did not prepare the 2007 tax return himself.
  3. He had very little formal education and was unaware of his obligation to disclose the account at the relevant filing deadline.
  4. His tax preparer did not ask him about the foreign accounts.
  5. He did not fail to disclose the accounts for any “nefarious purpose.”

Significantly, the district court acknowledged that other federal courts had found, as a matter of law, that a taxpayer’s conduct was willful where the taxpayer failed to disclose foreign accounts to his or her tax preparer.  See Kimble v. U.S., 141 Fed. Cl. 373 (Fed. Cl. 2018), aff’d, 991 F.3d 1238 (Fed. Cir. 2021); Horowitz, 978 F.3d at 90.  But the district court refused to similarly hold here, noting that sufficient facts and inferences from those facts supported a potential finding that Mr. Schik was not willful.  In so holding, the district court recognized another federal court decision in Flume that had held summary judgment was inappropriate under similar facts.  See U.S. v. Flume, 2018 WL 4378161 (S.D. Tex. 2018).  The district court also stated:

When Congress included penalties for ‘willful violations’ of Section 5321(a)(5), it explicitly delineated between failures to report that are and are not willful.  Willfulness, therefore, must mean something more than mere negligence.  The Government’s suggested reading of the word—that willfulness should be found categorically even when an unsophisticated taxpayer did not know of an obligation to report and relied on a tax preparer—would abrogate that distinction.

At bottom, whether Mr. Schik’s conduct was ‘willful,’ rather than merely negligent, is a question of fact.  The Court cannot conclude that Mr. Schik’s failure to disclose his accounts was willful as a matter of law.

Should the Case be Remanded?

In a prior article, I spoke about a recent federal court decision that held that a remand was necessary where the IRS bumbled the willful FBAR penalty amount determination.  Interestingly, the federal court in Schik also concluded that because there were errors in the FBAR penalty assessments, a remand may be necessary to correct the amounts.  However, because Mr. Schik requested a jury trial—and because the court concluded that summary judgment was not appropriate—the federal court concluded that a remand would only be necessary if a jury found that Mr. Schik’s actions were willful, as described above.

Conclusion

The Shick case conclusively shows that the IRS will continue to impose willful FBAR penalties against taxpayers, even when taxpayers (such as here) have very sympathetic facts.  In light of the IRS’ crackdown on foreign account reporting, taxpayers should carefully consider their options in regaining compliance with federal income tax laws, including a potential submission under the IRS’ Voluntary Disclosure Program or the IRS’ Streamlined Filing Compliance Procedures.

For more on FBAR reporting and penalties, see the following Freeman Law resources:

A Catalogue of FBAR Cases

United States v. Hughes:  FBAR Penalties and Willfulness Roadmap

Challenging FBAR Penalties in Federal Court: FBAR Litigation

Why Taxpayers in Louisiana, Texas, and Mississippi Should Consider the IRS’s Streamlined Filing Compliance Procedure Program Now

 

 

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