On November 30, 2021, the United States Court of Appeals for the Fifth Circuit issued its opinion in U.S. v. Bittner. Contrary to decisions of other federal courts, the Fifth Circuit concluded that it was proper for the IRS to impose non-willful FBAR penalties against the taxpayer, Mr. Bittner, on a per-account, rather than a per-year, basis. The Fifth Circuit further concluded that Mr. Bittner had failed to establish reasonable cause for abatement of the penalties.
To be sure, the recent decision in Bittner is not taxpayer-friendly. Indeed, all taxpayers who currently reside in the Fifth Circuit—i.e., those in the States of Texas, Louisiana, and Mississippi—should take careful watch of the decision, particularly if they have undisclosed foreign bank accounts. Because the civil penalties can now be quite large under the rationale of Bittner, taxpayers should consider whether it is appropriate to enter into the IRS’s Streamlined Filing Compliance Procedures to mitigate their exposure to potential civil penalties.
Facts of Bittner
I have written previously on the lower court’s decision in Bittner, which can be found here. See also U.S. v. Bittner, 469 F. Supp. 3d 709 (E.D. Tex. 2020). To summarize, the IRS assessed over $2.7 million of non-willful FBAR penalties against Mr. Bittner for his failure to timely file FBARs for tax years 2007 through 2011. However, in computing the amount of the civil penalties, the IRS determined that it could utilize as a base the number of undisclosed foreign accounts compared to the number of years. In other words, instead of imposing $50,000 of non-willful FBAR penalties for five tax years, the IRS imposed over $2.7 million for the over 270 foreign accounts that Mr. Bittner had not properly disclosed during 2007 through 2011.
The district court wrote a well-reasoned opinion in favor of Mr. Bittner. In that opinion, the district court concluded, as a matter of law, that the IRS could only impose non-willful FBAR penalties on a per-year basis. Although the district court disagreed with Mr. Bittner’s contention that he had established reasonable cause to negate the penalties in full, it effectively handed Mr. Bittner a win in that the opinion reduced the overall civil penalty amount by more than $2.5 million.
The Government’s Appeal
Predictably, the government appealed the district court’s decision. In the appeal, the parties raised the following issues: (1) Whether the district court erred in determining that Mr. Bittner had failed to show reasonable cause; and (2) Whether the non-willful FBAR penalty should be based on a per-year or per-account method.
Mr. Bittner’s Reasonable Cause Defense
A complete defense to the non-willful FBAR penalty is “reasonable cause.” See 31 U.S.C. sec. 5321(a)(5)(B)(ii)(I). Although the FBAR statute and its governing regulations do not define the term “reasonable cause” for purposes of the non-willful FBAR penalty, the Fifth Circuit borrowed the meaning of that term from the Internal Revenue Code. And, under such meaning and prior judicial interpretations defining reasonable cause under Title 26, the Fifth Circuit concluded that reasonable cause for non-willful FBAR penalties meant: (1) the taxpayer must show that he or she exercised ordinary business care and prudence, given all of the facts and circumstances; (2) the reasonable cause standard is “objective” and not “subjective;” and (3) the taxpayer bears the “heavy burden” of establishing reasonable cause.
Because the determination of reasonable cause is so fact-driven, Mr. Bittner argued that his reasonable cause defense was decided prematurely at the summary judgment stage. In other words, Mr. Bittner sought a trial on the issue of reasonable cause. The Fifth Circuit agreed with the district court’s determination that reasonable cause could be determined via summary judgment disposition. And, on the issue of the reasonable cause defense, the Fifth Circuit concluded:
Turning to the merits of Bittner’s defense, having considered all pertinent facts and circumstances, we conclude that Bittner did not exercise ordinary business care and prudence in failing to fulfill his reporting obligations. We have emphasized that when assessing reasonable cause, the most important factor is the extent of the taxpayer’s effort to assess his proper liability. Bittner conceded he put no effort into ascertaining and fulfilling his reporting obligations. He testified he never even inquired about them, and when asked why, he answered, ‘Why should I?,’ ‘I didn’t feel like it,’ and ‘Why? We’re in Romania.’ The onus was on Bittner to find out what he was supposed to do, and yet had admittedly did nothing.
As the district court observed, ‘Bittner was undoubtedly a sophisticated business professional.’ He held interests in dozens of companies, negotiated purchases of Romanian government assets, transferred his assets into holding companies, and concealed his earnings in ‘numbered accounts.’ He even once inquired about tax obligations ‘as a Romanian citizen . . . own[ing] property in Brussels’ before purchasing investment properties. Bittner’s business savvy makes his failure to inquire about his reporting obligations even more unreasonable.
Moreover, the Fifth Circuit disagreed that Mr. Bittner had shown reasonable cause due to the following factors: he spoke little English; he had lived in the United States for only eight years; he had minimal contacts with the United States while living in Romania; he complied with Romanian tax laws; he was unaware of his reporting obligation; and he promptly filed outstanding FBARs upon learning of his obligations. In this regard, the Fifth Circuit noted that these factors are relevant to the reasonable cause inquiry but not necessarily determinative to succeed in a reasonable cause defense.
The Per-Year or Per-Account Basis of the Civil Penalties
Having lost the reasonable cause defense, the Fifth Circuit turned to the government’s next contention that the district court had erred in computing the non-willful FBAR penalty. On brief, the government contended that the relevant FBAR statutes and regulations required the civil penalty to be determined on the failure to report each foreign bank account and not, as Mr. Bittner argued, on the failure to file the FBAR report.
The Fifth Circuit agreed with the government’s reading of the relevant authorities. Indeed, it held that “[t]he use of the term ‘violation’ in other parts of section 5321(a)(5) confirms that the ‘violation’ contemplated by section 5321(a)(5)(A) is the failure to report an account, not the failure to file an FBAR.”
In holding for the government, the Fifth Circuit squarely rejected the district court’s rationale that the term “violation” should be defined by reference to the regulations under section 5314. Rather, the Fifth Circuit noted that the term “violation” was used in the statute itself. According to the Fifth Circuit, section 5314 requires both a “substantive” and a “procedural” element:
Section 5314(a) ‘has both a substantive and procedural element.’ Substantively, it directs the Secretary to require a person to ‘file reports’ when the person ‘makes a transaction or maintains a relation . . . with a foreign financial agency.’ Procedurally, ‘reports shall contain [certain] information in a way and to the extent the Secretary prescribes.
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Together, then, the text of the BSA and its regulations impose (1) a statutory requirement to report each qualifying transaction or relation with a foreign financial agency and (2) a regulatory requirement to file these reports on an FBAR before a certain date each year (June 30). By authorizing a penalty for ‘any violation of[ ] an provision of section 5314,’ as opposed to the regulations prescribed under section 5314, section 5321(a)(5)(A) most naturally reads as referring to the statutory requirement to report each account—not the regulatory requirement to file FBARs in a particular manner.
The Fifth Circuit also found additional support for its reading of the statute in the reasonable-cause statutory exception to the non-willful FBAR penalty. That provision provides that no penalty shall be imposed if “such violation was due to reasonable cause” and “the amount of the transaction or the balance in the account at the time of the transaction was properly reported.” Analyzing this language, the Fifth Circuit concluded that a “violation” referred to failing to report the amount of the transaction or the balance of the account and not the FBAR form.
The Bittner decision demonstrates how difficult it can be for taxpayers to assert the reasonable cause defense for non-willful FBAR penalties. Perhaps more significantly, it also shows how draconian the non-willful FBAR penalties may be to a taxpayer with many foreign accounts in any given year.
Without doubt, the issue of whether the non-willful FBAR penalty should be computed on either a per-account or per-year basis is not over. Taxpayers can expect to see additional litigation on this issue, even in this case, with potential resolution at the United States Supreme Court. Until then, however, taxpayers residing in the Fifth Circuit who have unreported foreign accounts should consult with a tax professional regarding their options to regain compliance. With the win in Bittner, taxpayers can expect to see the IRS continue to assert the $10,000 non-willful FBAR penalty on a per-account basis.
Taxpayers eligible for the IRS’s Streamlined Filing Compliance Procedures may find extra solace in that program, particularly in the Fifth Circuit. As a general matter, the Title 26 civil penalty under the program is 5% of the amount of the foreign accounts that were not timely disclosed. But, even here, taxpayers need to be careful to ensure that they properly follow all of the program’s requirements. Indeed, there will no doubt be more than a few unlucky taxpayers who attempt to enter the program (thereby providing the government with information regarding all the non-disclosed foreign accounts) only to find out their submission was invalid due to a failure to follow the requirements or meet the threshold requirements for eligibility. For examples of taxpayers who failed to meet the IRS’s Streamlined Filing Compliance Procedures, see here, here, and here.