With all the recent litigation going on involving the FBAR, our international tax lawyers wanted to update a prior article we had authored on the complex issue of FBAR Litigation. The FBAR refers to Foreign Bank and Financial Account Reporting. While it is not a tax form (Title 31), the IRS is tasked with assessing and enforcing penalties. When an FBAR penalty is issued for violating the reporting rules, it is not a tax liability. Rather, it is an international information reporting penalty. In fact, even if the Taxpayer does not have any unreported income and thus no outstanding tax liability, they can still get hit with substantial FBAR Penalties. This conflicts with how tax penalties are usually issued, which is based on the percentage of the outstanding tax liability. Making matters worse for Taxpayers is that because it is not a tax violation, Tax Court is not the proper jurisdiction to challenge an FBAR Penalty — Tax Court is often preferred since payment of the penalty is not required in order to file in Tax Court. Instead, the Taxpayer has to go to the District Court or the Federal Court of Claims in order to fight (or defend) on issues involving FBAR Penalties. Further compounding the problem is the fact that circuits are split on the maximum penalty assessment for non-willful violations (non-willfulness penalties are the most common types of penalty). The Ninth Circuit court in Boyd was a taxpayer-friendly ruling (penalty per form), while the Fifth Circuit in Bittner contradicts Boyd — and issued a government-friendly ruling (penalty per account, per form). Let’s review five (5) key facts about FBAR penalty litigation in Federal Court:
FBAR is not a Tax Form
The FBAR falls under Title 31 (Money and Finance) and not Title 26 (Internal Revenue Code). In fact, the FBAR is simply used to report foreign account balances — and has nothing to do with tax, aside from the fact that the IRS is tasked with enforcement. Thus, even if a Taxpayer does not have unreported foreign income, they may still be subject to FBAR penalties.
No Tax Court for FBAR Litigation
Since the FBAR is not a tax matter, Tax Court does not generally hear cases involving FBAR. Rather, the Taxpayer has to pursue the matter in Federal Court if they want to pursue litigation. This may require the Taxpayer to pay the full amount of the liability up-front before pursuing litigation — although the recent case of Mendu may limit that requirement for FBAR litigation.
Does the Flora Rule Apply to FBAR Litigation?
The Flora Rule stands for the proposition that in order to sue the IRS, a Taxpayer must first pay the amount due, claim a refund, and when rejected, pursue a lawsuit. It seems unfair, since the Taxpayer has no opportunity to dispute the matter in Tax Court — and a recent court ruling in Mendu agreed that pre-payment was not required.
Pursuing an FBAR Appeal First Before Litigation
IRS Agents have FBAR discretion, and there are several mitigating factors to consider before taking the leap to Federal Court. It is important to work with a specialist to develop and execute an effective strategy. Once litigation costs are factored in (along with time spent and the emotional rollercoaster of litigation, it can be more cost-effective to side-step litigation.
Conflicting Circuits Will Impact Court Rulings
The circuit a Taxpayer pursues litigation in can have a significant impact on the outcome of the case. Courts are not all on the same page when it comes to FBAR violations. Some jurisdictions are more lenient towards foreign account holders, while other jurisdictions are less-inclined to reduce FBAR penalties to just “per form” instead of “per account, per form” — up to the jurisdictional maximum. For Taxpayers considering litigating against the US Government on issues involving FBAR, they should consider these facts first.
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