IRS Not Liable for Opening FBAR Investigation Based on Return Information Subject to Section 6103 (10/4/13)

In Hom v. United States, 2013 U.S. Dist. LEXIS 142818 (ND CA 9/30/13), the taxpayer brought suit for damages for alleged IRS violations of Section 6103.  The amount of damages sought was "$40,874,000 in damages and "at least" $500,000 in punitive damages."  The claim was that the IRS was conducting an IRS examination and, based on information discovered in the IRS investigation, improperly opened an FBAR investigation without authority or making the determination required to do so.  I quote the court's entire analysis:

1. Unauthorized Disclosure Under Section 6103. 

Plaintiffs are authorized to file this suit under 26 U.S.C. 7431. Plaintiffs argue that, under 26 U.S.C. 6103, the use of information discovered in the tax return investigation cannot be used for an FBAR investigation. Section 6103(a) states: 

[r]eturns and return information shall be confidential, and except as authorized by this title —
(1) no officer or employee of the United States . . . shall disclose any return or return information obtained by him in any manner in connection with his services as such an employee or otherwise or under the provisions of this section . . . .

Defendant's motion to dismiss argues that Section 6103(h)(1) provides an exception that allows such a disclosure:

[r]eturns and return information shall, without written request, be open to inspection by or disclosure to officers and employees of the Department of the Treasury whose official duties require such inspection or disclosure for tax administration purposes.

Tax administration is defined as "the administration, management, conduct, direction, and supervision of the execution and application of the internal revenue laws or related statutes . . . and includes assessment, collection, enforcement, litigation, publication, and statistical gathering functions under such laws, statutes, or conventions." 26 U.S.C. 6103(b)(4). 

Thus, the issue here is whether Section 5314 is either an internal revenue law or related statute (either designation would make the disclosure permissible). The United States argues that Section 5314 is a "related statute" under Section 6103 (Dkt. No. 13 at 6). This is correct. Congress intended for Section 5314 to fall under "tax administration." See Staff of Joint Comm. on Taxation, 108th Cong., General Explanation of the Tax Legislation Enacted in the 108th Congress, 378 (Comm. Print 2005) ("The Congress . . . believed that improving compliance with this reporting requirement is vitally important to sound tax administration . . ."). Section 5314 is therefore a related statute under Section 6103 and the disclosures at issue in this action were lawful. 

Plaintiffs' opposition argues that the IRS did not follow the proper procedure pursuant to the Internal Revenue Manual ("IRM") Sections 4.26.17.2 and 4.26.14.2.2. The IRM states: "[w]ithout a related statute determination, Title 26 information cannot be used in the Title 31 FBAR examination. Any such use could subject the persons making the disclosure to penalties for violating the disclosure provisions protecting Title 26 return information." IRM 4.26.17.2(1)(G). Plaintiffs argue that defendant IRS failed to properly obtain a related statute determination because they did not follow the stated procedure for doing so. 

Plaintiffs' argument fails because the IRM holds no legal significance. Our court of appeals has held that "[t]he Internal Revenue Manual does not have the force of law and does not confer rights on taxpayers." Fargo v. Comm'r of Internal Revenue, 447 F.3d 706, 713 (9th Cir. 2006). Even assuming that the IRS did not follow its own procedures, plaintiffs have no claim for relief. 

Plaintiffs also argue that the IRS reports contained false statements and that these false statements are "actionable" under Section 6103 of Title 26. In support of this argument, plaintiffs cite Aloe Vera v. United States, 699 F.3d 1153 (9th Cir. 2012). Aloe Vera is not dispositive here because that decision analyzed the disclosure under Section 6103(k)(4), which exempts information that is authorized by treaty. Id. at 1163. The treaty in Aloe Vera authorized the disclosure of "pertinent" information. The court in Aloe Vera held that "knowingly false information" could not be pertinent under the treaty. Id. at 1163-64. Aloe Vera is irrelevant here because neither Section 6103(k)(4) nor the treaty are at issue.

IRS Use of Suspicious Activity Reports of Financial Institutions (11/24/12)

Financial institutions are required to file Suspicious Activity Reports with the Financial Crimes Enforcement Network (FinCEN).  31 USC § 5318(g), here; the SAR form is here; FinCEN guidance is here; see also Wikipedia entry here.  For general background, I offer the following from my Federal Tax Crimes book (footnotes omitted):

Although there is no general duty under American law to report crimes, certain financial institutions (including money services businesses and high cash businesses such as casinos) are required to file with FinCen a report, called a Suspicious Activity Report (“SAR,” but not to be confused with the Special Agent’s Report with the same acronym which we encountered earlier).  This SAR combines features of earlier reports and is in addition to the CTR if required.  The SAR is required if the financial institution “knows, suspects, or has reason to suspect the money was derived from illegal activities” or the transaction was “part of a plan to violate federal laws and financial reporting requirements (structuring).”  The financial institution is not required to investigate or confirm that a crime has been committed. The financial institution is prohibited from telling its customer of the filing of the report, even in response to a subpoena.  The financial institution is protected from liability to the customer.  The IRS may share this SAR with the IRS examination function having civil tax responsibility, but components of the IRS receiving the information are required to keep the information secure to the same extent as if received from a confidential informant.

Recently, some divisions of the IRS have released memoranda advising personnel about the control and confidentiality requirements with respect to accessing SAR information.  See e.g., a recent SB/SE Division Memorandum (SBSE-04-1012-063, dated 10/16/12), here, and an estate and gift tax memorandum dated July 13, 2012, here.  See also an earlier Memorandum of Understanding -- in Government acronym-speak, "MOU," referenced and available at IRM 4.26.14, here, Exhibit 4.16.14-2, here.  For some reason, the MOU is reviewable only on line and then on a page by page basis.