The IRS announced with great fanfare its 2014 updated version of the Streamlined Filing Compliance Procedures. These simplified filing procedures were touted as a filing process under which U.S. noncompliant taxpayers living in the U.S. or outside the U.S. could come back into compliance without paying the steep OVDP penalty, going back 8 years or jumping through all of the other OVDP hoops. U.S. residents would pay a reduced 5% penalty and those living outside the U.S. would pay no penalty.
All would have to file three years income tax returns, amended for U.S. residents and delinquent or amended for expats. They would also have to file six years of delinquent or amended FBARS. And, most significantly, would have to submit an affidavit (non-willful certification) stating under penalties of perjury why they believe their non-compliance was non-willful.
The certifications (Form 14654 in the case of a U.S. resident and 14653 for a person residing outside of the U.S.) both state:
I understand that non-willful conduct is conduct that is due to negligence, inadvertence, or mistake or conduct that is the result of a good faith misunderstanding of the requirements of the law.
Great, so many thought: Hey, it’s not too difficult to distinguish “negligence, inadvertence, mistake or … good faith misunderstanding of the law” from willful conduct. After all, it is widely known that willfulness means, “Intentional violation of a known legal duty.” Shouldn’t the same definition apply here, especially since IRS had not long ago stated it would apply the same definition to both criminal and civil penalty cases?”
So, what’s the problem? Weill, the problem lies in the word that IRS left out from its definition of non-willful conduct, namely recklessness. And while it may be easy to distinguish negligence from the criminal standard of willfulness, it is much more difficult to distinguish negligence from recklessness.
Moreover, recklessness does not require that badges of fraud be found in the taxpayer’s conduct. No nominee entity or mail holds or other acts that evince an intent to conceal need be present to find recklessness. Is gross negligence reckless conduct? It’s all a matter of degree and largely depends on the perception of the reviewer. Thus, willfulness has been found in two recent cases in the taxpayer having merely signed his tax return without investigating the reference to instructions for foreign bank account reporting on Schedule B of Form 1040. This type of phantom willfulness has been called willful blindness.
Here is what the IRS regulations, in part, provide with regard to the accuracy related penalty:
Regulation Sec. 1.6662-3
(b) Definitions and rules—
(1) Negligence. The term negligence includes any failure to make a reasonable attempt to comply with the provisions of the internal revenue laws or to exercise ordinary and reasonable care in the preparation of a tax return. (emphasis added) “Negligence” also includes any failure by the taxpayer to keep adequate books and records or to substantiate items properly. A return position that has a reasonable basis as defined in paragraph (b)(3) of this section is not attributable to negligence. Negligence is strongly indicated where—
(i) A taxpayer fails to include on an income tax return an amount of income shown on an information return, as defined in section 6724(d)(1);
(ii) A taxpayer fails to make a reasonable attempt to ascertain the correctness of a deduction, credit or exclusion on a return which would seem to a reasonable and prudent person to be “too good to be true” under the circumstances….
2) Disregard of rules or regulations. The term disregard includes any careless, reckless or intentional disregard of rules or regulations. A disregard of rules or regulations is “careless” if the taxpayer does not exercise reasonable diligence to determine the correctness of a return position that is contrary to the rule or regulation. A disregard is “reckless” if the taxpayer makes little or no effort to determine whether a rule or regulation exists, under circumstances which demonstrate a substantial deviation from the standard of conduct that a reasonable person would observe. A disregard is “intentional” if the taxpayer knows of the rule or regulation that is disregarded…. (emphasis added).
In an ABA Webinar “Answering More of Your Offshore Disclosure Questions” (5-15-15) an IRS official stated that Non-willful conduct includes gross negligence. Well, if careless conduct is reckless and gross negligence is not willful, what is reckless conduct?
Webster’s Law Dictionary defines reckless disregard as:
An act of proceeding to do something with a conscious awareness of danger, while ignoring any potential consequences of so doing. Reckless disregard, while not necessarily suggesting an intent to cause harm, is a harsher condition than ordinary negligence.
Thus, recklessness or reckless disregard of the rules and regulations seems to involve acting with the foreknowledge that you may be doing something wrong but going ahead without the least bit of care about the consequences. But, isn’t gross negligence something like that as well. This certainly could include failing to even inquire if what you are doing in your return is right or wrong but gross negligence would also seem to cover such inaction.
To wit: Nolo’s Plain English Law Dictionary defines gross negligence as:
A lack of care that demonstrates reckless disregard….
Although for this blog post I’ve not reviewed every case dealing with recklessness or disregard of the rules, we are left with the impression that there are two standards, gross negligence that is non-willful and recklessness which is willful conduct, for purposes of the Streamlined Filing Process. That is one reason Streamlined Filing decisions are difficult for cases falling in the middle of the Bell Curve, that is, neither clearly willful nor clearly non-willful.
Another IRS roadblock. The Service has not stated how far back it will look for evidence of willfulness. Will it go back three years, six years or as far back as available information goes?
One saving grace: It is unlikely that IRS will seek to bring criminal charges against a taxpayer who has submitted a truthful and complete affidavit but one with which the IRS disagrees as to its conclusion of non-willfulness versus recklessness. It is quite another matter, however, should the affidavit make admissions of criminal conduct. Such a person belongs in the OVDP and should not employ the Streamlined Filing Procedures to come into compliance for he or she will simply be making admissions of guilt. The safe harbor for Streamlined Filings is then a complete, accurate and fully transparent non-willful certification. The certification should state specific facts that explain why the taxpayer believes his or her conduct is non-willful. This expose is not the same animal as a reasonable cause statement which seeks to show that the taxpayer’s conduct was not negligent.
Another saving grace, Streamlined submissions, even if audited will not be subject to the late filing, late payment, accuracy, information return or non-willful FBAR penalties. The risk, however is that an inappropriate Streamlined Filing, if audited, could subject the taxpayer to the civil fraud and willful FBAR penalties or criminal charges or both, especially if the non-willful certification is false, misleading such as where helpful facts are cherry picked and negative facts are omitted.
The above is a cautionary discussion illustrating why it is important to have an experienced tax attorney oversee a Streamlined Filing. When there is a risk of criminal charges being brought, however remote, the process is a criminal process, one that is far afield from the filing of delinquent or amended tax returns not having to do with offshore foreign financial accounts. That is not to say that amended or delinquent returns dealing with only domestic items never carry criminal exposure, after all they are admissions of some elements of a tax crime, but delinquent or amended returns with offshore items almost always do carry such potential. For even if the facts do not point towards criminal conduct, the filings themselves can evidence criminal conduct such as where the returns filed are later found to have been false.
© 2015 by Robert S. Steinberg, Esquire
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