In United States v Ott, the court found that the taxpayer, Dennis Ott (Ott), acted recklessly and that such recklessness constituted willfulness for purposes of applying penalties for failure to file a Report of Foreign Bank and Financial Accounts (FBARs) from 2007-2009. This decision is an important example that shows that the IRS may impose the higher penalties for willfulness even where the taxpayer does not have a clear definitive intent to avoid filing an FBAR. Evidence of recklessness can justify imposition of the willfulness penalty.
The facts of Ott are as follows. Ott, a U.S. citizen, opened two bank accounts with a Canadian financial institution. Ott listed his sister’s Canadian mailing address for correspondence on the accounts. The aggregate balance of the taxpayer’s Canadian accounts reached over $1 million, however Ott did not file the required FBARs from 2007-2009.
In 2011, Ott enrolled in the IRS offshore voluntary disclosure program (OVDP) but withdrew as a result of an IRS FAQ advising taxpayers that they can seek penalty reduction by withdrawing from the program if their conduct was not willful. After Ott withdrew, the IRS audited Ott's returns and FBARs for 2003-2009 and assessed income tax and civil fraud penalties, all related to the voluntary disclosures for the foreign accounts. The total civil penalty that was ultimately assessed to Ott was $988,245 for willful failure to report the Canadian accounts on an FBAR from 2007- 2009.
In proving that the taxpayer acted with reckless disregard, the IRS contended that he had constructive knowledge of his reporting requirements. This was demonstrated by the fact that he signed his U.S. tax returns that included a reference to the FBAR within Schedule B. The IRS Form 1040 Schedule B instructions annually provide that persons who had a financial interest in or signature authority over a foreign financial account during the year are required to indicate so in Part III of Schedule B. The taxpayer’s claim that he never reviewed the instructions to Schedule B was deemed invalid because, "[a] taxpayer who signs a tax return will not be heard to claim innocence for not having actually read the return, as he or she is charged with constructive knowledge of its contents.”
The court further contended that Ott acted recklessly, and therefore willfully as he did not inform his accountant of the foreign accounts yet he maintained contact with his broker regarding the foreign accounts, regularly checked the account balances online, and the account balances were significantly disproportionate to his income level. Furthermore, the court viewed his use of his sister's Canadian address on the accounts as an act of concealment.
The IRS’s reach extends far when it comes to penalizing U.S. persons who fail to file an FBAR when required. In the event that the failure was non-willful, the maximum penalty is $10,000, however the agency will waive such penalty if the violation was due to ‘reasonable cause’. Higher penalties come into play in situations where ‘willfulness’ exists. If it is found that a taxpayer willfully failed to file an FBAR, the IRS can assert a penalty equal to the greater of $100,000 or 50% of the balance of the account at the time of violation.
Taxpayers with foreign accounts should take notice of the Ott decision as it shows that the willfulness standard may be a lower standard than taxpayers may have thought. It appears that the IRS can successfully use the questions on Schedule B along with other evidence to prove a willful failure to file an FBAR by inference. The case also serves as a reminder to clients that not reading their tax return before filing is not an effective legal defense.