Arshil Sulayman | Examining the Steep Penalties for Unreported Foreign Bank Accounts Under the Eighth Amendment

Background

The Secretary of the Treasury and the IRS require United States citizens to report any relations with foreign banks to the U.S. government through a Report of Foreign Bank and Financial Accounts Form, or FBAR. 31 U.S.C. § 5314, 31 C.F.R. § 1010.350. The maximum penalty for a willful violation of this reporting requirement is either $100,000 or 50% of the balance of each bank account at the time of the violation, whichever is the greater amount. 31 U.S.C. § 5321(a)(5)(C)(i), (D)(ii).

Isac Schwarzbaum, originally from Germany, is a naturalized citizen of the United States. Schwarzbaum owned 11 Swiss bank accounts and 2 Costa Rican bank accounts between 2006 and 2009, all of which he either inherited from his father or opened on his own. For several years before 2008, Schwarzbaum hired certified public accountants (CPAs) to prepare his taxes, who incorrectly advised him that he didn’t need to report his foreign assets because they were maintained outside the U.S. Thus, his CPAs would file incomplete FBARs or not file them at all.

In 2008, Schwarzbaum elected to prepare his FBAR, stating that he had read the directions to the best of his ability and disclosed only one Scotiabank account. He then failed to file FBARs from 2008–2011. In 2010, Schwarzbaum began to disclose his foreign holdings through the IRS’s Offshore Voluntary Disclosure Initiative (the OVDI program). Through OVDI, he declared 17 Swiss bank accounts and 4 Costa Rican bank accounts between the years of 2003­–2010 before eventually opting out of the program. After this, the IRS investigated Schwarzbaum and determined that he willfully violated the FBAR reporting requirements for the 2006–2009 tax years. The IRS calculated his penalty according to the above-referenced statute but used the data he disclosed on the OVDI worksheet, arriving at a penalty of $35.4 million. The IRS should have used the amount in each of his bank accounts as per the statute, but it instead took the highest penalty for one year in its previous calculation and spread it across all years, arriving at a new penalty of about $13.7 million.

Schwarzbaum failed to pay, and the U.S. sued in the Southern District of Florida. The court first decided that Schwarzbaum willfully violated FBAR reporting requirements from 2007–2009, but not 2006. United States v. Schwarzbaum, 114 F.4th 1319 (11th Cir. 2024). Second, the court rejected Schwarzbaum's argument that the IRS penalties were subject to review under the Eighth Amendment’s Excessive Fines Clause. Id. Finally, the court decided that the IRS miscalculated the penalty amount as per the penalty statute and performed its own calculation of $12.9 million, later adjusted to $12.5 million after the U.S. filed a motion stating they did not seek more than was requested on their complaint. Id. The 11th Circuit appeals court affirmed the district court’s first and third decisions but reversed the court’s decision that the FBAR violation penalties were not subject to review under the Eighth Amendment’s Excessive Fines Clause. This reversal created a circuit split between the First and Eleventh Circuits.

Issue

Are FBAR penalties subject to review under the Excessive Fines Clause of the Eighth Amendment of the U.S. Constitution?

 The Split

Only two circuits have ruled on this issue, citing Supreme Court cases as guidance. The First Circuit decided that FBAR penalties are not subject to review under the Eighth Amendment. The Eleventh Circuit acknowledges this decision and diverges, going so far as to call it a mistake in the face of interpreting what is applicable to the Excessive Fines Clause.  

The First Circuit

In United States v. Toth, the First Circuit held that FBAR penalties cannot be reviewed under the Eighth Amendment because a civil tax is not punitive by nature. United States v. Toth, 33 F.4th 1 (1st Cir. 2022). Using Helvering v. Mitchell as guidance for what kind of penalty is punitive, the court reasoned that a civil tax penalty like the FBAR penalty is meant to reimburse the United States for the harm of concealing money, rather than being a means of punishment for the defendant. Id. Thus, FBAR penalties are inapplicable to the Eighth Amendment.

The Eleventh Circuit

As stated above, the Eleventh Circuit acknowledges the First Circuit’s reasoning and “remain[s] unpersuaded.” Schwarzbaum, 114 F.4th at 1334. The court reasons that Helvering is not binding precedent in this issue because it is (1) a double jeopardy case and (2) inapplicable in the excessive fines context. Id. It explains that “although a penalty need not be solely remedial to escape the scope of the double jeopardy clause, this is not the case in the Excessive Fines context.” Id. (citation omitted). The court thus views the First Circuit’s conclusion as a mistake.

The court proceeds to cite the IRS’s Internal Revenue Manual which states that penalties are determined to promote compliance with FBAR reporting requirements and deter violations. Id.; see also IRM 4.26.16.6 (Nov. 6, 2015)). The Supreme Court in United States v. Bajakajian held that for the purposes of the Eighth Amendment penalties that are deterrent are punitive in nature. 524 U.S. 321 (1998). Thus, the FBAR penalty is subject to review under the Excessive Fines Clause.

Looking Forward

Because this is a newly created circuit split, it will be interesting to see how other circuits rule on this issue in the future. The key point of conflict here is the jurisprudence of civil tax penalties: whether they are solely deterrent in nature or meant to reimburse the “harmed” government. If other circuits find that civil tax penalties are solely deterrent, this will cause any civil tax penalty in that circuit to be subject to review under the Eighth Amendment. The IRS and other institutions will then be held more accountable for properly calculating tax penalties. With a further stretch of the imagination, and considering that the Eleventh Circuit acknowledged that the FBAR penalty is viciously steep, these kinds of decisions could open the door for lobbyists to amend the statute to lower this steep penalty.

Find Arshil on LinkedIn!