Tax professionals have been closely monitoring the case of United State v. Zwerner with concerns of how the outcome of the case might impact their clients. United States v. Zwerner, 13-cv-22082, U.S. District Court, Southern District of Florida. The case’s recent verdict is a win for the IRS and only adds to the concerns of those with undisclosed foreign financial accounts. Specifically, on May 28 a Florida jury sided with the IRS in determining that Carl Zwerner, a Florida resident, willfully failed to file reports of foreign bank and financial accounts (“FBAR”) for 2004 through 2006 and the jury assessed $2.2 million in FBAR penalties, plus interest and additions. The penalty amount equals roughly 145% of the highest foreign account value for the years at issue, or approximately $1.5 million. The court will determine the final penalty amount that Mr. Zwerner must pay during June proceedings, during which it will hear arguments regarding whether the penalties violate the Excessive Fines Clause of the Eighth Amendment.
By way of background, under current law, “each United States person having a financial interest in, or signature or other authority over, a…financial account in a foreign country shall report such relationship.” 31 CFR § 1010.350(a). Although taxpayers currently report these accounts electronically on FinCEN Form 114, previously taxpayers were required to report the accounts on form TD F 90-22.1. The FBAR is due by June 30th of each calendar year with respect to foreign financial accounts exceeding $10,000 during the previous calendar year. 31 CFR § 1010.306(c). Taxpayers who wilfully fail to report their foreign financial accounts are assessed a maximum penalty equal to the greater of 50% of the balance of the account at the time of violation or $100,000, per violation. 31 USC § 5321(a)(5).
According to the complaint filed by the government, from 2004 through 2007 Mr. Zwerner had a financial interest in an account at ABN AMRO Bank in Switzerland. On or before June 30th of 2005, 2006, 2007 and 2008, Mr. Zwerner was required to file an FBAR reporting his interest in the account. Mr. Zwerner failed to do so and instead filed a delinquent FBAR on October 13, 2008 reporting his interest in the foreign account during 2007 along with an amended 2007 tax return. On March 27, 2009, Mr. Zwerner filed amended income tax returns and delinquent FBARs for 2004, 2005 and 2006.
On June 21, 2011, Treasury gave notice of penalty assessment for the 2004 failure to file an FBAR and gave the same notice on September 8, 2011 for the 2005 through 2007 failures to file FBARs. The IRS filed suit against Mr. Zwerner and claimed that he owed the government $3,488,609.33 in penalties, calculated according to the greater of 50% of the account balance or $100,000, for each of the violations at issue.
The jury agreed with the IRS on the penalties for each year at issue, except for 2007 for which it did not assess any penalties.
In defending against the penalties, Mr. Zwerner argued that the assessed penalties violate the Excessive Fines Clause of the Eighth Amendment and that FBAR penalties are discretionary. Relatedly, practitioners have noted that the 50% or $100,000 penalty is worded as the maximum penalty that the Service may assess for a willful violation, although not necessarily the appropriate penalty depending on the specifics facts of the case. In addressing concerns of excessive penalties, the DOJ said that Mr. Zwerner “deliberately engaged in ‘conduct meant to conceal or mislead sources of income’” and that his “offense was not a mere reporting offense, but was committed in conjunction with tax evasion.”
Mr. Zwener chose to make what is called a quiet disclosure rather than come in to the IRS under a voluntary disclosure program. The IRS has conducted several amnesty programs, known as the Offshore Voluntary Disclosure Initiative (“OVDI”) and currently the Offshore Voluntary Disclosure Program (“OVDP”), that allow taxpayers to report their undisclosed foreign accounts in exchange for paying a reduced penalty. The reduced penalty currently equals 27.5% of the highest aggregate balance in the account during the disclosure period and had equaled 20% and 25% during the 2009 and 2011 disclosure programs, respectively. These penalties are substantial and some taxpayers, like Mr. Zwerner, therefore opt to make “quiet disclosures” and amend their tax returns to report the foreign account income and file late FBARs with the hope of avoiding detection by the IRS. The downside to this approach, as the verdict in the Zwerner case demonstrates, is that if the IRS discovers that you amended your tax returns and filed late FBARs without notifying anybody, the IRS may assess penalties well in excess of the OVDP penalties. Moreover, the penalty part of the exam process is difficult for both the taxpayer and the return preparers involved. The IRS will ask both about what transpired.
Regardless of the outcome of any potential appeal, the verdict in this case certainly makes the 27.5% OVDP penalty look much more palatable than a potential 145% penalty for not coming back into the tax system through OVDP. alliantgroup is seeing more FBAR enforcement involving our clients and partner CPAs, as well as more client interest in OVDP. With FATCA reporting on foreign accounts coming, Swiss banks agreeing to disclose US accountholders, and continued enforcement pressure from US authorities, it seems more obvious than ever that those who have not come in from the cold should do so. This case amply demonstrates the risk of confiscatory results if a different path is taken.
Steven Miller is National Director of Tax at alliantgroup.
John Dies is Managing Director of Tax Controversy Services at alliantgroup.