Understanding Willfulness in an Offshore Account Filing Context

Understanding ‘Willfulness’ in Offshore Account Filing Context

When U.S. Taxpayers are out of compliance for failing to report their overseas accounts, assets, investments, or income, oftentimes their biggest and immediate concern will be whether or not they are considered to be willful in the eyes of the IRS. Making matters unnecessarily scarier for taxpayers is the fact that littered throughout the internet are fear-mongering articles making taxpayers believe that any little mistake they make is considered willful when this is not the case. More often than not, a taxpayer’s failure to file the necessary international information reporting and tax forms for foreign accounts and assets is not a willful violation but rather a non-willful violation — which can be readily fixed by completing one of the offshore disclosure programs, in which many taxpayers may avoid penalties altogether. Let’s go through the basics of what is considered willful foreign account noncompliance.

What do the Courts Say about Willfulness?

Recently, the Supreme Court rejected the opportunity to review a willfulness case on the issue of missed FBAR Form filing– which is only one of the several foreign account reporting forms that a taxpayer may have to file. Meanwhile, District and Appellate Courts across the country in the different circuits have weighed in on their interpretation of what is included and excluded from the definition of a willful violation. Let’s look at the recent case of Harrington to get an idea of how most courts rule when it comes to willfulness.

As to Civil Willfulness, the Court In Harrington ruled as follows:

• • • “Instead, and because the Tenth Circuit has yet to rule on the subject, the Court is persuaded by the holdings of the Third, Fourth, Eleventh, and Federal Circuits that willfulness in the context of failing to file FBARs includes not only knowing failures to file but also reckless failures. Bedrosian v. United States, 912 F.3d 144, 152 (3d Cir. 2018); United States v. Rum, 995 F.3d 882, 889 (11th Cir. 2021) (finding that every court of appeal that has addressed whether willfulness included recklessness in FBAR context found that it did); United States v. Worowitz, 978 F.3d 80, 89 (4th Cir. 2020) (willfulness includes recklessness); Norman,942 F.3d at 1115 (same).

    • “[A] person commits a reckless violation of the FBAR statute by engaging in conduct that violates ‘an objective standard: action entailing an unjustifiably high risk of harm that is either known or so obvious that it should be known.’” Bedrosian,912 F.3d at 153 (quoting Safeco Ins. Co. of Am. V. Burr, 551 U.S. 47, 68 (2007) (further quoted citation omitted)); Rum, 995 F.3d at 890 (same). “Concerning IRS filings in particular, a person ‘recklessly’ fails to comply with an IRS filing requirement when he or she ‘(1) clearly ought to have known that (2) there was a grave risk that [the filing requirement was not being met] and if (3) he [or she] was in a position to find out for certain very easily.’” Bedrosian, 912 F.3d at 153 (quoting United States v. Carrigan, 31 F.3d 130, 134 (3d Cir. 1994) (further quoted citation omitted)).”

What does this Mean?

As the court concludes, willfulness is relatively broad in its scope and is not limited to intentional actions. Rather, taxpayers may be considered willful even if they only acted with recklessness and not actual willfulness. Unfortunately, recklessness can mean many different things to many different people and is an overall relatively arbitrary and nebulous concept. What is important to take away from this definition, is that recklessness is not the same as a mistake and it is not the same as an unintentional inadvertent nondisclosure. Rather, it is something beyond that standard and requires a person to ‘should have known’ that there was a grave risk that the filing was not met.

The reason why this is important for taxpayers is because these types of strong words further illustrate that simply not reporting a foreign account due to a mistake is not willful.

What does the IRM Provide?

Let’s focus on FBAR as an example, since the IRM provides a nice summary on this issue specifically.

The IRM refers to the Internal Revenue Manual and it is one of the most important publications that taxpayers can find to assess how the IRS agents may decide on an issue involving noncompliance with foreign accounts. While the Internal Revenue Manual is not itself law, the purpose of it is to assist IRS personnel with evaluating various facts and circumstances that determine whether or not they qualify as willful. Let’s walk through this section of the Internal Revenue manual to get an idea of how the analysis would work:

The Test and the Burden 4.26

As provided by the Internal Revenue manual:

What is Willfulness?

• • • “The civil test for willfulness is whether a person either: (1) knowingly violated a legal duty; (2) recklessly violated a legal duty; or (3) acted with “willful blindness” by making a conscious effort to avoid learning about a legal duty.

    • A finding of willfulness under the BSA must be supported by evidence of willfulness.

    • The burden of establishing willfulness is on the Service.”

In reviewing the requirements from the Internal Revenue Manual, it is clear that there are specific steps that the Internal Revenue Service must take in order to conclude that the taxpayer is considered to be willful. First, the taxpayer must have either knowingly violated or recklessly violated a legal duty. In addition, willful blindness is part of the equation, which just means taxpayers cannot intentionally avoid learning about their legal duty to do something and then claim that they did not know about it. In that type of scenario, the IRS would conclude that the taxpayer acted with willful blindness.

What is a Knowing Violation?

• • • “Knowing violation. Willfulness is shown when a person knew of the FBAR reporting and recordkeeping requirements and made a voluntary, intentional, or conscious choice not to accurately report an account on a timely filed FBAR or keep required records.”

Here, the Internal Revenue manual goes a bit further into what it means to knowingly violate a legal duty. When specifically dealing with FBAR, it means that the taxpayer made a voluntary, intentional, or conscious choice not to report an account or keep the required records. As is evident from this standard, it does not include taxpayers who may have unintentionally or mistakenly failed to report an account.

What is a Reckless Violation?

• • • “Reckless violation. Willfulness is also shown when a person recklessly disregarded the FBAR reporting and recordkeeping requirements. Recklessness is evaluated using an objective standard, not by looking at whether a person subjectively believed that he or she was not required to accurately report the account on a timely filed FBAR or keep required records. The objective standard looks at whether conduct entailed an unjustifiably high risk of harm that is either known or so obvious that it should be known. The harm in the FBAR context is that the reporting or recordkeeping requirements are not being met. A person recklessly violates the FBAR reporting or recordkeeping requirements when the person clearly ought to have known that there was a grave risk that the requirements were not being met and the person was in a position to very easily find out for certain whether or not the requirements were being met.”

Here is where it starts to get a little bit messy because when dealing with reckless disregard, that means that the taxpayer did not act with any intent.

With reckless disregard, the taxpayer does not knowingly violate the legal duty to do something. Rather, the taxpayer acts so recklessly that this type of ‘reckless behavior’ amounts to willful violation. The IRS uses the words ‘unjustifiably high risk of harm that is either known or so obvious that it should be known.’ This unfortunately though is a slippery slope when it comes to foreign account reporting because many taxpayers have no way of knowing what they are supposed to report. And, what may be considered ‘so obvious’ to an IRS agent would not be considered obvious to a taxpayer who may be in the United States as a legal permanent resident and have little to no background in filing taxes. This is why it is so important for a taxpayer to make a solid presentation when submitting to one of the disclosure programs such as the streamline procedures or the delinquency procedures.

Still it is clear from the language contained in the Internal Revenue manual that the IRS agents are not told to seek and destroy each taxpayer who may have inadvertently failed to report a foreign account or other asset.

What is Willful Blindness

• • • “Willful Blindness. Willfulness is also shown when a person acted with willful blindness by making a conscious effort to avoid learning about the FBAR reporting or recordkeeping requirements.”

With willful blindness, the concept is that the taxpayers intentionally kept themselves in the dark about learning the requirements to meet a legal duty that they were aware of. For example, if a CPA was about to call a client and tell them everything they needed to know about FBAR filing, but the Taxpayer kept intentionally avoiding his phone calls because he did not want to know about the requirements this type of behavior may result in the IRS determining the taxpayer acted with willful blindness.

Here’s an example from the IRM

• • • “Willful blindness may be present when a person admits knowledge of, and fails to answer questions concerning, their interest in or signature or other authority over financial accounts at foreign banks on Schedule B of their Federal income tax return. This section of the income tax return refers taxpayers to the instructions for Schedule B, which provides guidance on their responsibilities for reporting foreign bank accounts and discusses the duty to file the FBAR. These resources indicate that the person could have learned of the reporting requirements quite easily. It is reasonable to assume that a person who has foreign bank accounts should read the information specified by the government in tax forms. The failure to act on this information and learn of the further reporting requirement, as suggested on Schedule B, may provide evidence of willful blindness on the part of the person.”

Willfulness Examples

• • “The failure to learn of the reporting requirements coupled with other factors, such as the efforts taken to conceal the existence of the accounts and the amounts involved, may lead to a conclusion that the violation was due to willful blindness. A person checking the wrong box, or no box, on a Schedule B is a significant fact to consider when establishing whether the FBAR violation was attributable to willful blindness. That fact should be coupled with other facts and circumstances to prove willful blindness. A person checking the wrong box, or no box, on a Schedule B is also a significant fact to consider when determining whether the FBAR violation was the result of reckless disregard.”

    • “The following examples illustrate situations in which willfulness may be present:

1. 1. 1. 1. • A person files the FBAR but omits one of three foreign bank accounts. The person had previously closed the omitted account at the time of filing the FBAR. The person explains that the omission was due to unintentional oversight. During the examination, the person provides all information requested with respect to the omitted account. The information provided does not disclose anything suspicious about the account, and the person reported all income associated with the account on their tax return. The penalty for a willful violation should not apply absent other evidence that may indicate willfulness.

            • A person reported one or more foreign accounts on a timely FBAR in earlier years but failed to report a foreign account on timely-filed FBARs in subsequent years when required to do so. In addition, the person may have failed to report income associated with the unreported foreign bank account for the year that the FBAR was not filed. If the person’s explanation for the failure to report the account and other available evidence do not outweigh the facts supporting a determination that the failure was intentional or the result of reckless disregard or willful blindness, the penalty for a willful violation should apply.

            • A person received a warning letter informing him of the foreign account reporting and recordkeeping requirements, but the person fails to file an FBAR in a subsequent year. In addition, the person may have failed to report income associated with the foreign bank accounts for the year that the FBAR was not filed. If the person’s explanation for the failure to file an FBAR and other available evidence do not outweigh the facts supporting a determination that the failure was intentional or the result of reckless disregard or willful blindness, the penalty for a willful violation should apply.”

Late Filing Penalties May be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.