Kimble–A New FBAR Willful Penalty Case, Some Further Thoughts on Bedrosian, Willfulness and the Overlooked Opinion in Flume by Robert S. Horwitz
The Court of Federal Claims (CFC) just issued its Memorandum Opinion and Final Order granting summary judgment to the Government in Alice Kimble v United States, No. 17-421 (December 27, 2018), an FBAR willful case. The opinion is a stunning victory for the Government: the Court granted summary judgment on the issue of willfulness based solely on the fact that Kimble signed a 2007 income tax return without first reading it and the return falsely answered “no” to the question whether she had any foreign bank accounts.
Kimble had accounts at HSBC and UBS. Before late 2008, she had no actual knowledge of the requirement to report foreign accounts to the US. She was accepted into the 2009 Offshore Voluntary Disclosure Program. She filed amended returns that reported income from the offshore accounts but, for an unexplained reason, the box on schedule B asking whether she had offshore accounts was checked “no.” She ultimately withdrew from OVDP on the advice of her attorney because the proposed “offshore penalty” (20% of the maximum account balance over a six year period) was too high. The IRS assessed an FBAR penalty of $697,229, equal to 50% of the high balance in the account. Kimble paid the penalty and sued for recovery in the CFC.
After discovery, the parties filed a stipulation of facts and cross motions for summary judgment. The stipulation included the following facts:
- Plaintiff did not review her individual income tax returns for accuracy for tax years 2003 through 2008. Stip. ¶46.
- Plaintiff answered “No” to Question 7(a) on her 2007 income tax return, falsely representing under penalty of perjury, that she had no foreign bank accounts. Stip. ¶48.
The court found that these two stipulations established that plaintiff’s conduct was in “reckless disregard” of the legal duty to file FBAR reports. According to the court, a taxpayer who signs a tax return is charged with constructive knowledge of its contents and thus cannot claim lack of knowledge. While acknowledging that Kimble was not obligated to inform her accountant of the offshore accounts or to ask him about reporting requirements, this did “not affect the court’s determination that Plaintiff’s conduct in this case was ‘willful.’” In effect, the CFC opinion makes the FBAR willful penalty a strict liability statute. The non-willful penalty would appear to only apply if the taxpayer files an FBAR form listing all accounts but makes a clerical error, such as in the amount in the account or the account number.
Consistent with the CFC’s earlier decision in Norman v United States, the court also held that the regulation at 31 CFR sec. 1010.820 was rendered nugatory by the 2004 amendment to the FBAR penalty statute. The court’s resolution of this issue follows:
On October 22, 2004, Congress enacted a new statute that increased the statutory maximum penalty for a “willful” violation to “the greater of  $100,000, or  50 percent of the . . . balance in the account at the time of the violation.” See American Jobs Creation Act of 2004, Pub. L. No. 108-357, 118 Stat. 1418, 1586, § 821 (Oct. 22, 2004) (“Jobs Creation Act”). And, on July 1, 2008, the IRS issued I.R.M. § 22.214.171.124.5.1, that stated: “At the time of this writing, the regulations at [31 C.F.R. § 1010.820] have not been revised to reflect the change in the willfulness penalty ceiling.” I.R.M. § 126.96.36.199.5.1. The IRS, however, warned that, “the statute [i.e., the Jobs Creation Act] is self-executing and the new penalty ceilings apply.” I.R.M. § 188.8.131.52.5.1. Although, the Jobs Creation Act is inconsistent with 31 C.F.R. § 1010.820(g)(2), it is settled law that an agency’s regulations “must be consistent with the statute under which they are promulgated.” United States v. Larionoff, 431 U.S. 864, 873 (1977). Since the civil penalty amount for a “willful” violation in 31 U.S.C. § 5321(a)(5) (2003) was replaced with 31 U.S.C. § 5321(a)(5)(C)(i) (2004), the April 8, 1987 regulations are “no longer valid.” Norman, 138 Fed. Cl. at 196.
The court ignores the fact that the regulation was renumbered and then amended after 2004 (still maintaining the $100,000 maximum) and regulations were promulgated on adjusting the $100,000 for inflation. Unless the Federal Circuit reverses the CFC, the CFC will be an unfriendly forum for taxpayers seeking a refund of the FBAR penalty.
Speaking of what is willful, I want to look at how the Third Circuit treated that issue in Bedrosian. I recently blogged on the Third Circuit’s holding that the FBAR penalty arose under the internal revenue laws, implicating the Flora full-pay rule, while paying scant attention to the court’s holding that the willfulness standard for the FBAR penalty had two components: knowing conduct and reckless conduct. Since the district court only decided the knowing component. The district court was reversed and the case remanded so it could determine whether Bedrosian acted recklessly.
The Third Circuit cited United States v. Carrigan, 31 F3d 130 (3rd Cir. 1994), a trust fund penalty case in which it held that a person “willfully” fails to collect, account for and pay over withholding tax if he “demonstrates a reckless disregard for whether taxes have been paid.” In Carrigan, the Third Circuit reversed summary judgment in favor of the United States on two grounds: first, there were facts from which a jury could decide the defendant was not a responsible person and second, there were facts from which a jury could find that he did not act with reckless disregard since the only check he signed was to pay the IRS.
The Third Circuit did not invoke the “constructive knowledge” theory relied on by the CFC in Kimble and, previously, by the Fourth Circuit in United States v. Williams and the Utah District Court in United States v. McBride. Since Bedrosian filed an FBAR for the year in question, but failed to list the larger of his two accounts, the Third Circuit could have held that he is deemed to have constructive knowledge (a) that he was required to report all of his accounts and (b) that he failed to report one account. It did not. This could indicate that the Third Circuit does not agree with the constructive knowledge theory.
So far one district court has explicitly rejected the constructive knowledge theory. The court in United States v Flume, 2018 WL 4378161 (S.D. TX Aug. 22, 2018), denied the Government’s summary judgment motion. It held that the defendant’s declaration claiming he did not know of the FBAR requirement and disputing testimony by other witnesses was sufficient to raise a material issue of fact over whether Flume acted willfully. That Flume’s declaration was self-serving was irrelevant for purposes of a summary judgment motion since the court was prohibited from making credibility determinations.
Having rejected the Government’s contention that Flume had actual knowledge, the court then addressed the issue of whether Flume acted with reckless disregard. It rejected the Williams and McBride holdings that a taxpayer is deemed to have “constructive knowledge” of the FBAR requirement from the fact that he signed an income tax return. The court gave three grounds for finding this theory unpersuasive: 1) it ignores the distinction between willful and non-willful violations since, if every taxpayer by signing a return is presumed to know of the need to file an FBAR “it is difficult to conceive of how a violation could be nonwillful”; 2) it would require the court to presume that Flume had examined his returns and thus knew of the FBAR requirement, which it would not do on summary judgment; 3) the theory is “rooted in a faulty policy argument” since constructive knowledge means that even though a person does not have actual knowledge, the law pretends you do for policy reasons.
The Flume court also held that summary judgment was not appropriate on the question of whether Flume acted recklessly. Although Flume admitted he did not read the FBAR instructions, the court gave two reasons why this may not have been reckless: a) Flume may have relied on his CPA to read the instructions and b) since the instructions stated that there were exceptions, Flume might have believed his CPA determined an exception applied.
I had hoped that the district court’s order in Flume was a sign that the constructive knowledge theory is losing ground in the courts. Apparently it is not. Based on the CFC’s opinion in Kimble expect to see the Government moving for summary judgment in more FBAR cases. Whether more courts will accept the constructive knowledge theory in FBAR cases or whether they will imbue the term “willful” with meaning is still an open question. In any event, it will a long time before we have any definitive answer on this issue.
As an aside, Flume was the petitioner in an earlier case involving his foreign accounts: Flume v Commissioner, T.C. Memo. 2017-21, a collection due process case where the Tax Court held that the Flume was liable for penalties under IRC sec. 6038(b) for failing to file Forms 5471. Flume’s two cases highlight the fact that often a taxpayer who fails to file an FBAR may also face penalties for failing to file foreign information reports required by secs. 6038-6038D.
Another aside, are the courts wrong in treating “reckless” conduct as willful? Reckless and willful are not treated as identical by Congress. Sec. 6662(c), which imposes a negligence penalty, states “the term ‘disregard’ includes any careless, reckless, or intentional disregard.” Congress clearly distinguished intentional conduct from reckless conduct, so why can’t the courts, especially if, as the Third Circuit found, the FBAR penalty is an “internal revenue law”?
A few other asides on Bedrosian. If the Third Circuit is correct that the FBAR penalty arises under the internal revenue laws, then 26 USC §7422 applies, which presents some unanswered questions. Section 7422 waives sovereign immunity for suits seeking the refund of “any internal revenue tax … or any penalty,” and requires that a claim for refund be filed as a prerequisite to filing a lawsuit. So to sue to recover payments toward an FBAR penalty, a claim for refund would need to be filed. The period of limitations for refund suits would also apply to FBAR suits. 26 U.S.C. §6532(a)(1) provides that no suit “for the recovery of any internal revenue tax, penalty, or other sum” until 6 months after a claim for refund is filed nor more than two years after the date a notice of claim disallowance is mailed. Since the period of limitation for filing a refund claim only applies a claim for refund or credit of “any tax imposed by this title,” 26 U.S.C. §6511(a), that period would not apply to claims for refund of FBAR penalty payments. Neither would the general 6-year limitation on filing civil actions against the United States, which only governs commencement of judicial proceedings.
Contact Robert S. Horwitz at firstname.lastname@example.org or 310.281.3200 Mr. Horwitz is a principal at Hochman Salkin Toscher Perez, P.C., former Chair of the Taxation Section, California Lawyers’ Association, a former Assistant United States Attorney and a former Trial Attorney, United States Department of Justice Tax Division. He represents clients throughout the United States and elsewhere involving federal and state administrative civil tax disputes and tax litigation as well as defending criminal tax investigations and prosecutions. Additional information is available at https://www.taxlitigator.com.