Wadhan, (DC CO 7/18/2018) 122 AFTR 2d ¶ 2018-5060
A second district court has determined that, despite a statutory change authorizing higher penalties, IRS couldn’t impose penalties, for willfully failing to file a Report of Foreign Bank and Foreign Accounts (FBAR), in excess of the amounts provided in regs that were promulgated before the law change and that haven’t been changed to reflect the increase.
Background—statute and reg.Under 31 USC 5314(a) and 31 C.F.R. 1010.350, every U.S. person that has a financial interest in, or signature or other authority over, a financial account in a foreign country must report the account to IRS annually on an FBAR. The penalty for violating the FBAR requirement is set forth in 31 USC 5321(a)(5).31 USC 5321(a)(5)(A) provides that the Secretary of the Treasury may impose a civil money penalty on any person who violates, or causes any violation of 31 USC 5314(a). The maximum amount of the penalty depends on whether the violation was non-willful or willful. The maximum penalty amount for a nonwillful violation of the FBAR requirements is $10,000. (31 USC 5321(a)(5)(B)(i)) The maximum penalty amount for a willful violation is the greater of $100,000 or 50% of the balance in the account at the time of the violation. (31 USC 5321(a)(5)(C), 31 USC 5321(a)(5)(D))
The penalty amounts described above reflect a 2004 law change that increased the maximum civil penalties that can be assessed for willful failure to file an FBAR. Before that change, the maximum penalty was $100,000. Regs that were promulgated before the statutory increase continue to reflect the former $100,000 maximum (as opposed to the “greater of $100,000 or 50%…”), even though these regs have since been renumbered and amended to account for inflation. (31 C.F.R. 1010.820(g))
Background—previous district court case. In May of this year, a Texas district court held that 31 C.F.R. 1010.820(g) can be applied consistently with 31 USC 5321(a)(5), and thus the reg has not been implicitly invalidated or superseded. The court therefore limited the penalty to the $100,000 limit in the reg. (Colliot, (DC TX 2018) 121 AFTR 2d 2018-1834; see District court: IRS can’t impose FBAR penalties over regulatory cap despite law change.)
Facts. The taxpayers, Mr. and Mrs. Wadhan, failed to file or filed inaccurate FBARs for 2008, 2009, and 2010. IRS assessed penalties of $1,108,645 for 2008, $599,234 for 2009, and $599,234 for 2010.
The taxpayers brought this case, contending that the penalties for years 2008, 2009 and 2010 had to be capped at $100,000.
The taxpayers argued that the assessments were improper because IRS only had the authority as limited by 31 C.F.R. 1010.820(g). IRS argued that it was obligated to impose the penalties in the statute, that the reference to “may” in the statute does not reflect any discretion to impose penalties smaller than the full amount authorized by Congress, and that the 2004 amendment to the statute supersedes any inconsistency in 31 C.F.R. 1010.820(g).
The Court found the taxpayers’ arguments more persuasive. It cited several reasons.
The court said that both the pre-2004 version and the current version of 31 U.S.C. 5321 specifically grant the Secretary discretion to assess penalties. Both versions state that the Secretary “may assess” the described penalties. The statutory language is clear, and there is nothing in the legislative history offered by IRS that suggests that Congress intended to limit the discretion of the Secretary to determine what penalties should be imposed.
For a statute to supersede a reg, it has to be clearly inconsistent with the reg. IRS argued that the different penalty caps in 31 U.S.C. 5321 and 31 C.F.R. 1010.820(g) demonstrate an inconsistency such that the statute trumps the reg. The court said that it was unpersuaded for several reasons.
First, the statute and the reg are not inconsistent on their face. The statute sets a higher cap than does the reg; the penalty cap in the reg is, in essence, a subset of the penalties that could be imposed under the statute. The statute does not mandate imposition of the maximum penalty, but instead gives the Secretary discretion to impose penalties below the statutory cap. This means that compliance with the lower cap set in 31 C.F.R. 1010.820(g) also complies with 31 U.S.C. 5321.
Second, there is a simple and straightforward interpretation that gives coherent meaning to both the statute and the reg — in the exercise of statutory discretion, the Secretary limited the penalties that IRS could impose to $100,000 (plus the amount adjusted for inflation).
Third, although the penalty caps in the statute and reg differ, one cannot assume that the Secretary simply overlooked the difference between them. The difference has existed since 2004 — essentially 14 years. During that time, the Secretary made regular adjustments to another reg, 31 C.F.R. 1010.821, that adjusted penalties to account for inflation. Among the penalties affected by this reg is that created by 31 U.S.C. 5321(a)(5)(C), for which the inflationary increases have been made at least five times in the last eight years, but at no time was the listed penalty cap raised above $100,000. The periodic revisions of the inflationary calculation required focus on the penalty cap, but it was never changed to comport with 31 U.S.C. 5321(a)(5)(C). This suggests that the Secretary was aware of the penalties available under 31 U.S.C. 5321(a)(5)(C) and elected to continue to limit IRS’s authority to impose penalties to $100,000 as specified in 31 C.F.R. 1010.820.
Finally, IRS’s reliance upon legislative history is misplaced. IRS argued that Congressional intent, as evident from the legislative history for the 2004 amendment to 31 U.S.C. 5321(a)(5)(C), shows that Congress intended the statute to supersede 31 C.F.R. 1010.820. The court then noted that, ordinarily, it does not resort to legislative history unless the text of a statute is ambiguous. And it said that there is no apparent ambiguity in 31 U.S.C. 5321(a)(5)(C) — it simply changed that maximum penalty that could be imposed.
The court went on to say that, even assuming that such legislative history is relevant, it does not support IRS’s argument. The Senate Report discusses threats arising from offshore accounts in the context of adding civil penalties for non-willful violations, but there is no discussion about willful violations. Willful violations are mentioned only in the Conference Report, which states only that the increase in penalties is based on a Senate amendment and that the committee accepted the amendment. See H.R. Rep. No. 108-755 at 615 (2004) (Conf. Rep.). Although Congress favored higher penalties for FBAR noncompliance, there is nothing here that suggests that Congress believed that the maximum penalties for willful violations should be mandatorily imposed.
In conclusion, the court said that “although IRS believes that it is empowered by 31 U.S.C. 5321 to act, it is not. It is empowered by the Secretary who has discretion to determine what penalties are imposed. 1010.820 remains in effect until amended or repealed.”
Observation: In contrast, the Supreme Court recently declined to hear a Ninth Circuit decision upholding a more-than-$1 million FBAR penalty. In that case, the penalty was imposed based on the $2.4 million value of the unreported account. See Supreme Court lets million dollar FBAR penalty stand (05/02/2018) for more details.