District Court Sustains FBAR Willful Penalty But Rejects Fraudulent Failure to File Penalty for Income Tax (9/1/20)

 In United States v. DeMauro (D. N.H. Dkt. 17-cv-640-JL Order and Verdict After Bench Trial dtd. 8/28/20), CL here, the Court sustained the FBAR willful penalty but rejected the fraudulent failure to file penalty.  In both cases, in broad strokes the conduct penalized is the same.  If that statement is correct, the difference in outcome is based on the differing burdens of persuasion.  The Government must prove application of the FBAR willful penalty by a preponderance of the evidence; the Government must application of the fraudulent failure to file penalty by clear and convincing evidence.

The willful FBAR penalty requires that the conduct penalized (failure to report) be willful.  In the FBAR civil penalty context, the Courts have held willfulness is (i) specific knowing failure to file (more or less the Cheek standard) or (ii) willful blindness or reckless disregard of the obligation to report.

The fraudulent failure to file penalty, like the civil fraud penalty for filed returns companion in § 6663, requires fraud.  The following is from my Federal Tax Procedure Book in discussing civil fraud under § 6663, but the same applies for the fraudulent failure to file:

The Code does not define fraud, but it may be viewed as the civil counterpart of criminal tax evasion in § 7201. n1 Examples of how courts have stated civil fraud under § 6663 are:  (i)  civil fraud requires “intentional commission of an act or acts for the specific purpose of evading tax believed to be due and owing”; n2 and (ii) civil fraud requires that “the taxpayer have intended to evade taxes known to be due and owing by conduct intended to conceal, mislead or otherwise prevent the collection of taxes and that is an underpayment.”n3  In making the determination, as with criminal cases, courts will often look to certain common patterns indicating fraud–referred to as badges of fraud, such as unreported income, failure to keep adequate books, dealing in cash, etc.n4  The key differences between the two is that § 6663 is a civil penalty and has a lower burden of proof (clear and convincing rather than beyond a reasonable doubt) as I note later.
   n1 Anderson v. Commissioner, 698 F.3d 160, 164 (3d Cir. 2012), cert. denied 133 S. Ct. 2797, 133 S. Ct. 2797 (2013) (“the elements of evasion under 26 U.S.C. § 7201 and fraud under 26 U.S.C. § 6663 are identical.”).
   n2 Erikson v. Commissioner, T.C. Memo. 2012-194.
   n3 Nelson v. Commissioner, T.C. Memo. 1997-49; Zell v. Commissioner, 763 F. 2d 1139, 1142-1143 (3rd Cir. 1985) (“Fraud means "actual, intentional wrongdoing, and the intent required is the specific purpose to evade a tax believed to be owing.”); and Fiore v. Commissioner, T.C. Memo. 2013-21 (“Fraud is the ‘willful attempt to evade tax’” and using the criminal law concept of willful blindness to find the presence of civil fraud; note that, in the criminal law, the concept of willful blindness goes by several names.)
   n4 E.g., Kosinski v. Commissioner, 541 F.3d 671, 679-80 (6th Cir. 2008).  For use of a negative inference from assertion of the Fifth Amendment privilege in concluding that the IRS had met its burden of proving civil fraud by clear and convincing evidence, see Loren-Maltese v. Commissioner, T.C. Memo. 2012-214.

Tax Court Sustains § 6701 Penalty Against Preparer (7/10/19)

In Kapp v. Commissioner, T.C. Memo. 2019-84, here, the Tax Court sustained § 6701 penalties of $3,218,000 (after certain IRS concessions per slip op., at 114-115).

Section 6701 imposes a penalty on any person who (1) aids, assists, procures, or advises with respect to the preparation or presentation of any portion of a return, affidavit, claim, or other document, (2) knows (or has reason to believe) that the document will be used in connection with any material matter arising under the internal revenue laws, and (3) knows that the document would result in an understatement of another person's tax liability.   The penalty is $1,000 (increased to $10,000 for corporate returns) for each false document for each taxpayer for each tax period affected by the document (but no more than one penalty per period).  This penalty is the civil penalty analog to the tax crime of aiding and assisting, § 7206(2).

Kapp was a return preparer with a specialized client base as follows:  "(1) 75% were deep sea mariners, (2) 18% were tugboat mariners, (3) 5% were offshore mariners, (4) 1% were offshore oil rig workers, and (5) 1% were marine ferry drivers."

Basically, on many returns he prepared, Kapp deducted claimed miscellaneous itemized deductions for unreimbursed employee business meals and incidental expenses, computed by using the full Federal per diem rates for the meals and incidental expenses (M&IE rate) referenced in Rev. Proc. 96-28, 1996-1 C.B. 686, superseding Rev. Proc. 94-77, 1994-2 C.B. 825, multiplied by the number of days traveling for work.

The problem was that the employer paid the meal expenses.  In Tax Court litigation for two of his clients (although he did not represent them in the Tax Court), the Tax Court held that the taxpayers could not deduct the per diem for meal expenses that the employer rather than they incurred.  Kapp read those decisions shortly after they were issue in September 2000.

Kapp then "began advising his tugboat mariner clients and some of his other mariner clients that they were allowed to claim meals expense deductions even if meals were provided by their employers."  (Slip op., at pp. 20-21.) Kapp set up a website advertising the ability to obtain large income tax returns, falsely stating "that he successfully sued the IRS in the Tax Court and won “his cases”.  (Slip op., at pp. 21-22.)  He also published articles and documents with the same claims.  (Slip op. pp. 23-29.)

Kapp then prepared returns for his large base of clients claiming the meal expense without questioning whether the employer paid the meal expenses (as was industry practice).

The IRS objected on audit.  Throughout the audit, Kapp argued that the Tax Court opinions were favorable to his position.  (Slip Op. at pp. 42-51.) He was wrong on that point.  Not just wrong, but clearly wrong.  And he kept it up.

DOj then filed a suit for injunction and prevailed. (Slip op., pp. at pp. 55-61.)

After the injunction, the Tax Court rendered opinions for two of Kapp's petitioners denying their claimed per diem deduction for meals paid for by the employer.

The IRS then issued its § 6701 penalty assessment against Kapp.

The Tax Court's "Opinion" section (beginning on Slip Op., at p. 75) then decides the following key issues (I omit some issues, such as some evidentiary issues, I don't deem important for most readers, although they were certainly important for Kapp):

Eleventh Circuit Holds Clear and Convincing Evidence Required for Section 6701 Penalty; Can Reasoning be Extended to FBAR Willful Penalty? (6/14/14)

In United States v. Carlson, ___ F.3d  ___, 2014 U.S. App. LEXIS 11001 (11th Cir. 6/13/14), here, the issue was the plaintiff's liability for " aiding and abetting understatement of tax liability in violation of I.R.C. § 6701."  Section 6701 is here.  In relevant part, Section 6701 imposes the penalty upon a person:

(1) who aids or assists in, procures, or advises with respect to, the preparation or presentation of any portion of a return, affidavit, claim, or other document,
(2) who knows (or has reason to believe) that such portion will be used in connection with any material matter arising under the internal revenue laws, and
(3) who knows that such portion (if so used) would result in an understatement of the liability for tax of another person.

Section 6701 may be viewed as the civil penalty analog to the tax crime of aiding and assisting, Section 7206(2), here.

One issue on the appeal was the appropriate burden of  proof the Government must bear.  Carlson argued that it was by clear and convincing evidence; the Government argued that it was by a preponderance.  The Court held that the standard of proof is by clear and  convincing evidence.  Here is the Court's discussion:

I. The Government must prove violations of I.R.C. § 6701 by clear and convincing evidence. 

At trial, the parties disputed the correct standard of proof. Carlson contends the correct standard should be clear and convincing evidence while the Government contends the correct standard is a preponderance of the evidence. The district court agreed with the Government and instructed the jury that the Government must prove its case by a preponderance of the evidence. We conclude that this instruction misstated the law. 

Under the Eleventh Circuit's longstanding precedent, the Government must prove fraud in civil tax cases by clear and convincing evidence. See, e.g., Ballard v. Comm'r of Internal Revenue, 522 F.3d 1229, 1234 (11th Cir. 2008) ("The Commissioner has the burden of proving allegations of fraud by clear and convincing evidence."); Korecky v. Comm'r of Internal Revenue, 781 F.3d 1566, 1568 (11th Cir. 1986) ("The IRS bears the burden of proving fraud, which must be established by clear and convincing evidence."); Marsellus v. Comm'r of Internal Revenue, 544 F.2d 883, 885 (5th Cir. 1977) (holding fraud must be proved by clear and convincing evidence); Webb v. Comm'r of Internal Revenue, 394 F.2d 366, 378 (5th Cir. 1968) (same); Goldberg v. Comm'r of Internal Revenue, 239 F.3d 316, 320 (5th Cir. 1956) ("The Commissioner has the burden of proving fraud by clear and convincing evidence."); Jemison v. Comm'r of Internal Revenue, 45 F.2d 4, 5-6 (5th Cir. 1930) ("Fraud is not to be presumed, but must be determined from clear and convincing evidence, considering all the facts and circumstances of the case."). Our sister courts of appeals follow the same rule. See, e.g., Grossman v. Comm'r of Internal Revenue, 182 F.3d 275, 277 (4th Cir. 1999) (holding that a finding of fraud must be supported by clear and convincing evidence); Lessmann v. Comm'r of Internal Revenue, 327 F.2d 990, 993 (8th Cir. 1964) (same); Davis v. Comm'r of Internal Revenue, 184 F.2d 86, 86 (10th Cir. 1950) (same);Rogers v. Comm'r of Internal Revenue, 111 F.2d 987, 989 (6th Cir. 1940) ("Fraud cannot be lightly inferred, but must be established by clear and convincing proof."); Duffin v. Lucas, 55 F.2d 786, 798 (6th Cir. 1932) (same); Griffiths v. Comm'r of Internal Revenue, 50 F.2d 782, 786 (7th Cir. 1931) ("Fraud is never presumed but must be determined from clear and convincing evidence, considering all the facts and circumstances of the case.").