For FBAR penalty purposes, there is a critical distinction between willful and non-willful conduct. If a U.S. person willfully fails to file a correct and timely FBAR, the IRS may impose civil penalties equal to the greater of $100,000 (indexed for inflation) or 50% of the undisclosed foreign account balances at the time of the violation. Conversely, if the conduct at issue was not willful, the agency may only impose civil penalties equal to $10,000 (indexed for inflation) per reporting year.
Unfortunately for taxpayers, federal courts have interpreted willfulness to include not only knowing violations of the law but also objectively reckless violations. Under this relaxed standard, a U.S. person becomes liable for a willful FBAR penalty if the individual (i) "clearly ought to have known that there was a grave risk that" the FBAR filing requirement was not being met, and (ii) "was in a position to find out for certain very easily." See, e.g., Bedrosian v. U.S., 912 F.3d 144 (3d Cir. 2018). Significantly, taxpayers are not liable for willful penalties if the conduct at issue arises only to negligence (although they are liable for non-willful penalties).
While taxpayers have consistently challenged the government's broad definition of willfulness, all of those arguments have thus far failed. Instead, every federal court of appeal to hear the issue has sided with the IRS. See Bedrosian v. U.S., 912 F.3d 144 (3d Cir. 2018); U.S. v. Horowitz, 978 F.3d 80 (4th Cir. 2020); U.S. v. Rum, 995 F.3d 882 (11th Cir. 2021); U.S. v. Kelly, 92 F.4th 598 (6th Cir. 2024); Norman v. U.S., 942 F.3d 1111 (Fed. Cir. 2019). And on August 21, 2024, the Ninth Circuit joined these circuits in also concluding that willfulness includes objective recklessness. See U.S. v. Hughes, No. 23-15712 (9th Cir. 2024).
District Court Decision
Hughes owned two New Zealand limited companies: one to operate a winery and another to operate a wine bar. As the sole owner of both companies, Hughes had an FBAR filing obligation if the foreign accounts held by the two New Zealand companies had more than $10,000 at any time during the relevant year.
The IRS examined Hughes' 2010 through 2013 FBAR filing years. After the audit, the agency assessed willful FBAR penalties for each year totaling close to $680,000. When Hughes failed to pay the penalties, the government filed a lawsuit against her to collect these amounts and pre-judgment interest and late payment penalties.
With respect to her 2010 and 2011 FBAR years, the district court decided that Hughes was not willful. However, the court found in favor of the government on the two remaining years: 2012 and 2013. After determining that willfulness also means recklessness, the court sustained the willful FBAR penalties for 2012 and 2013 because, among other reasons, Hughes' 2012 and 2013 Forms 1040 and Schedules B had put her on notice of the FBAR filing requirement.
Accordingly, the district court entered a judgment against Hughes, finding her liable for approximately $240,000 of willful FBAR penalties.
Ninth Circuit Opinion
On appeal, Hughes contended that the district court applied the wrong legal standard in holding her willful. According to Hughes, the applicable standard required the government to produce evidence that she subjectively intended not to file her 2012 and 2013 FBARs, a burden the government could not show.
The Ninth Circuit disagreed. First, the court reasoned that the Supreme Court had already held in Safeco Insurance Co. of Am. v. Burr, 551 U.S. 47 (2007), that willfulness can include reckless conduct. Second, the court refused to part ways with the universal decisions of its sister courts, all of which had held that willfulness includes objective recklessness. The court further recognized that the Supreme Court had so far refused to weigh in on the issue, at least based on four petitions for writ of certiorari that had all been denied.
The decision in Hughes is an important one, particularly for taxpayers within the Ninth Circuit: Alaska, Arizona, California, Hawaii, Idaho, Montana, Nevada, Oregon, and Washington. Nevertheless, these taxpayers should remember that they have options to correct missed FBAR filings, including relief under the IRS' Streamlined Filing Compliance Procedures and the less attractive Voluntary Disclosure Practice (VDP). Because Hughes provides additional clarity on the meaning of willful and non-willful for FBAR penalty purposes, taxpayers interested in utilizing one of these programs will need to work with a tax professional carefully to determine which program (if any) should be utilized.
Originally published by Forbes
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