US Supreme Court to Hear Foreign Financial Account Fine Case | Levenfeld Pearlstein, LLC
$50,000 or $2.72 million? These are the penalty amounts for the unintentional failure to timely report the foreign financial accounts at issue in United States vs. Bittner, which will be argued in the U.S. Supreme Court in November. The question is whether the penalty is calculated per year, per report, or per year, per foreign financial account.
A U.S. person with a financial interest or signing authority in a foreign financial account is required to file an annual Foreign Financial and Banking Account Report (FBAR). The reporting obligation extends to many types of filers and accounts, not just those with offshore bank accounts.
- American people: “U.S. Persons” subject to reporting requirements include U.S. citizens, wherever they live; aliens residing in the United States (resident aliens), regardless of nationality; and entities organized under the law of a state of the United States or the District of Columbia (but not a territory of the United States), including partnerships, limited liability companies, corporations and trusts.
- Reportable accounts: Accounts in a foreign country that must be reported include bank accounts, securities accounts, cash value insurance and annuities, brokerage and commodity accounts, mutual funds and ETFs.
The filing is required if a U.S. person has a financial interest or signing authority in foreign financial accounts totaling $10,000 at any time during the calendar year. The measure is account value, not account income. Currently, the filing due date coincides with the consumer filing due date — April 15 — with an automatic extension to October 15 (October 17e in 2022). The penalty for an unintentional failure to timely file a complete FBAR is $10,000.
On its face, the non-voluntary penalty amount of $10,000 bears a reasonable relationship to the $10,000 filing threshold. At least he doesn’t exceed the deposit threshold. However, there is more to this story—much more.
First, the deposit requirement is an annual deposit requirement. Thus, the unintentional failure to report an account for multiple years may result in a failure to report penalty for each year an account is unreported, up to six years.
Second, the Internal Revenue Service (IRS) generally applies the non-voluntary penalty per account per year, not per failed FBAR filing per year. So, with the IRS approach, there can be a significant multiplier effect. This is the specific question before the Supreme Court in Bittner. Mr. Bittner, an immigrant from Romania to the United States, became a naturalized U.S. citizen while retaining his Romanian citizenship. He returned to Romania where he created and invested in many business ventures and eventually returned to the United States. Mr. Bittner was unaware of the FBAR reporting requirements, but once he became aware of them and retained the services of an accountant familiar with the FBAR reporting requirements, he eventually filed FBAR reports during five years covering many foreign personal and business accounts, albeit belatedly. In Bitter, the penalty per year and per non-voluntary report is $50,000. If the per year per account method is used, the involuntary penalty is $2.72 million due to the number of accounts involved.
Finally, there is an additional multiplier effect when multiple people are required to file an FBAR for the same foreign financial account. This is common in typical personal financial and wealth planning situations. For instance:
- Agent and Agent: If a U.S. person, the principal, appoints another U.S. person as agent under a financial power of attorney and the principal has offshore financial accounts, both the principal and the agent are required to file FBAR reports, under subject to the aggregate reporting threshold of $10,000.
- Aging Parent Abroad: Elizabeth is an American citizen living in Illinois. Elizabeth has no offshore financial accounts. Elizabeth’s aging mother, Martha, is a dual American and Canadian citizen living in Ontario. Martha has appointed Elizabeth as a power of attorney for all of her assets, including her bank and brokerage accounts in Canada. If the aggregate value of Martha’s accounts in Canada exceeds $10,000 at any time during the year, both Martha and Elizabeth have FBAR reporting obligations and will both be subject to penalties if they fail to file a return.
- Adult child working abroad: Elizabeth’s unmarried adult son, Henry, is an American citizen living and working in London. Henry also appointed Elizabeth as agent under his financial power of attorney for all his assets, including his bank and brokerage accounts which he opened in London. Similarly, if the total value of Henry’s accounts in London exceeds 410,000 at any time during the year, Henry and Elizabeth both have FBAR reporting obligations and will both be subject to penalties if they do not file. .
- Settlor, Trustee(s) and Beneficiaries: If a settlor establishes a trust that holds a foreign financial account, the settlor, each trustee, and certain beneficiaries may have FBAR reporting obligations for the same account held by the trust. The transferor will have reporting obligations if it is treated as the owner of the trust for income tax purposes under the income tax rules of the transferor trust. The trustee(s) will have a reporting obligation as holders of legal title to the foreign financial account. Each beneficiary with a current financial interest in more than 50% of the assets of the trust or who receives more than 50% of the current income of the trust is required to file an FBAR. There is, however, an exception for a beneficiary if the US trustee or the trustee’s US agent has filed a claim. All reports are subject to the aggregate reporting threshold of $10,000.
- Charles, a US citizen and resident, established a Gift Trust for his daughter, Charlotte, also a US citizen and resident. Main Street USA Trust Company and Charles’ wife, Ellen, are the trustees. The trust is irrevocable, but Charles is treated as the owner of the trust for income tax purposes under the income tax rules of the settlor trust. The trust holds two foreign financial accounts of $6,000 each, $12,000 in total. Charles, as settlor, has an FBAR reporting obligation and Main Street USA Trust Company and Ellen, as trustees and legal title holders, each have FBAR reporting obligations. Charlotte shouldn’t be required to report unless others don’t. If Charles, Main Street USA Trust Company, Ellen, and Charlotte each fail to report the two foreign accounts in a timely manner, according to the IRS calculation, the penalties related to the $12,000 accounts for one year can total $80,000 ( 2 accounts, 4 defaulters, $10,000 each). If monitoring continues for 5 years, penalties can total $400,000 (2 accounts, 4 defaulters, 5 years, $10,000 each).
In addition to the multiplier effect with financial powers of attorney and trusts, changes in accounts, agents, trustees, and beneficiaries can all result in changes in FBAR filing requirements from year to year.
The implications of the court’s decision are relevant to any U.S. person with a reportable foreign financial account. The Bittner is a timely reminder to attend to 2022 FBAR returns as we approach the October 17, 2022 tax return filing deadline. For future filing years, this is a reminder to review annually FBAR filing requirements.