Another District Court Agrees Maximum FBAR Penalty Limited to $100,000

Yet another U.S. District Court has decided that the IRS must follow the terms of its own regulations and limit the maximum penalty for a willful violation of the FBAR rules to $100,000.  In the case of Wadhan v. United States, US DC Colorado, Case No. 1:17-cv-01287, the IRS was limited in the amount of penalty that could be assessed for the same reasons cited by the U.S. District Court for the Western District of Texas in United States v. Colliot.

The Court notes the basic issue—Congress had modified the law on penalties for failure to comply with FBAR requirements to increase the maximum penalties:

The focus of the dispute is upon the interplay between statutory and regulatory law. The applicable statute with regard to offshore accounts is 31 U.S.C. § 5321(a)(5). It authorizes the Secretary of the Treasury to impose civil penalties for violations of FBAR requirements, and for willful violations sets the maximum penalty at the greater of $100,000 or 50 percent of the balance in the relevant account.

However, the regulations have not been updated since the 2004 law change, as the Court describes below:

Several regulations implement the statute. They are all found in Title 31 of the Code of Federal Regulations governing Money and Finance for the Department of Treasury. The first is 31 C.F.R. § 1010.820(g), which provides that “[f]or any willful violation [of the FBAR implementing regulations] involving a failure to report the existence of an account or any identifying information required to be provided with respect to such account,” the Secretary “may assess” a civil penalty of $25,000 or up to the balance in the account but no greater than $100,000. The second regulation is 31 C.F.R. § 1010.810(g) in which the Secretary delegates his/her authority to “assess and collect civil penalties under 31 U.S.C. § 5321 and 31 C.F.R. § 1010.820” to the Commissioner of Internal Revenue by means of a memorandum of Agreement between FinCen and the IRS.

Under this scheme, the statute (31 U.S.C. § 5321(a)(5)(C)) permits the Secretary to impose a penalty of up to 50 percent of the account balance, but under 31 C.F.R.§ 1010.820(g) the Secretary has limited the penalty to be enforced to $100,000. The parties agree that the disjunction between the statute and the regulation occurred in 2004 when the statutory penalty cap was increased,4 but no corresponding change was made in 31 C.F.R. § 1010.820(g). Believing the statutory amendment superseded § 1010.820, the IRS enforced FBAR violations under the limits set forth in the current § 5321(a)(5)(C) against the Wadhans.

The taxpayer protests in this case that all the statute does is set the maximum penalty the IRS can apply—but the pre-2004 regulation itself limits that maximum penalty by its terms to a much lower amount--$100,000.  The IRS counters that the statute trumps the regulation, and that even though statute says the IRS “may” impose a penalty of $100,000 or 50% of the value in the account, whichever is greater, it does not confer on the IRS the ability to impose its own lower penalty cap.

The Court found the taxpayers’ view of the statute more persuasive than the IRS view, finding no Congressional mandate to impose the highest penalty for a willful violation.

The Court explains its logic as follows:

For a statute to supersede a regulation, it has to be clearly inconsistent with the regulation. The IRS argues that the different penalty caps in 31 U.S.C. § 5321 and 31 C.F.R. § 1010.820(g) demonstrates an inconsistency such that the statute trumps the regulation. United States v. Larionoff, 431 U.S. 864, 873 (1977). The Court is unpersuaded for several reasons.

First, the statute and the regulation are not inconsistent on their face. The statute sets a higher cap than does the regulation; instead, the penalty cap in the regulation 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 regulation — in the exercise of statutory discretion, the Secretary limited the penalties that the IRS could impose to $100,000 (plus the amount adjusted for inflation).

The Court notes that the IRS has had 14 years to revise the regulation but has failed to do so.  That inaction suggests that the IRS has made a conscious decision to limit the penalties to the $100,000 cap.

Given this is the second case in less than two months to limit the imposition of penalties based on the old regulation, the IRS appears to have a potential problem.  And, certainly, the Court’s view of the IRS regulation and the law appears reasonable—the law appears to set a maximum penalty subject to IRS discretion, and the regulation simply uses that discretion to keep the penalty capped at the level of the prior law.

Unless the IRS can get one or both results overturned, the agency may need to look at revising the problematic regulation if it wants to be able to impose the higher penalty.