California FBAR Penalty $120MM & Kovel Confidentiality Limitations

California FBAR Penalty $120MM & Kovel Confidentiality Limitations (Golding & Golding, Board-Certified Tax Law Specialist)

California FBAR Penalty $120MM & Kovel Confidentiality Limitations

While almost everything is bigger in Texas, that does not seem to include FBAR penalties. In Burga, the IRS seeks $120,000,000 in FBAR penalties against a U.S. account holder (and estate) in California.

California FBAR Penalty 

As with everything involving the IRS, international tax, and IRS offshore disclosure —  it is important to keep the case in context.

This is not an example of a U.S. person with just $250MM sitting in a foreign account somewhere that they didn’t know they had to report to the IRS and FinCEN.

U.S. vs. Burga (Case No: 5:19-cv-03246-EJD)

While the Burga case presents many issues involving FBAR, penalties, collusion, fraud, etc., for purposes of offshore penalties and international tax, there are two (2) main issues.

Issue 1: Can the IRS enforce a $120,000,000 FBAR Penalty?

Issue 2: What are the Limitations (and Pitfalls) of using an Outside CPA?

Let’s explore.

Issue 1: Can the IRS Enforce this large of an FBAR Penalty?

Technically, the FBAR penalty issued in Burga coincides with parameters of willfulness and FBAR.

When the IRS issues willful FBAR penalties, the penalties are typically based on the highest (maximum) unreported balance(s), along with accrued interest.

In Burga, Taxpayer and her late husband (and estate) were worth millions of dollars, several times over.

Excerpts are from the case Complaint, and recent order re: privilege.

Burgas’ Background

• Defendants had financial interests in at least 294 foreign bank accounts, in various countries, during at least years 2004 through 2009.

Defendants maintained accounts in the British Virgin Islands, Liechtenstein, Panama, Switzerland, and Vietnam.

FBAR Non-Compliance

• For each of the years 2004 through 2009, the aggregate amounts in the accounts listed in paragraph 12 above, exceeded $10,000 in U.S. currency.
• Defendants were required by law to file FBARs reporting their financial interest in the accounts listed in paragraph 12 above, for the years 2004 through 2009, as well as any other year that satisfied the FBAR reporting requirements.
• Defendants did not file FBARs that disclosed the accounts listed in paragraph 12 above, for the years 2004 through 2009.

At a minimum, Defendants had an FBAR reporting requirement, but failed to file the annual FBAR in order to report the annual maximum account balance(s).

Willfulness & FBAR Non-Compliance

The IRS alleges taxpayers were willful (and therefore subject to more extensive penalties).

•  In October 1993, the Burgas traveled to Lugano, Switzerland. While there, they opened a joint bank account with the Swiss Bank Corporation (which later reorganized and was renamed Union Bank of Switzerland, or UBS)
• Mr. and Ms. Burga used their U.S. passports to open their UBS account and requested that the bank retain all mail from the account. Both Mr. and Ms. Burga signed the opening documents for the account and each had the unrestricted right to dispose of the account’s assets.
• In 1994, Mr. and Ms. Burga established Accipitor Trading Ltd. in the British Virgin Islands.
• In May of 1995, Mr. and Ms. Burga traveled to Vaduz, Liechtenstein. While there, they met with financial advisor Peter Meier at Liechtenstein Global Trust.
• The Burgas expressed to Mr. Meier their desire to set up a company in Liechtenstein to organize the Asian sales of Glide/Write outside of the United States. The Burgas also expressed to Mr. Meier that it was important to them to build and protect a fortune outside of the United States and then to later obtain residency in Switzerland.
• At the Burgas’ request, Mr. Meier developed a solution that would allow the Burgas to keep their foreign profits outside the United States. Initially, Mr. Meier set up a company, which he managed, to receive the profits of the Burgas’ Asian operations.
• As the profits grew rapidly, Mr. Meier suggested the creation of a Liechtenstein stiftung (stiftung translates into English as a “foundation,” but is treated as a trust for U.S. tax purposes).
• In 1996, Romphil Foundation, a Liechtenstein stiftung, was created for the Burgas. Romphil is a combination of the names of Mr. and Ms. Burga’s native countries, Romania and the Philippines.
• The Burgas installed Mr. Meier as the Trustee and Director of the Romphil Foundation, while retaining control over Romphil by appointing Mr. Burga founder and beneficial owner and Ms. Burga as a secondary beneficiary.
• The Burgas used Romphil to create a complex structure that grew to include at least 25 tiered entities based in Liechtenstein, Switzerland, Singapore, and other European and Asian countries.

The mere fact that the accounts were unreported, and that Taxpayers designed a (successful) offshore business model to try to minimize their U.S. tax liability is not per se willful.

There are plenty of wealthy, astute business men and women who create complex, legal offshore companies.

The Burgas were Audited by the IRS

Taxpayers were audited, and it turns out that Taxpayers made several mistakes on their tax returns. This was compounded by the fact that Taxpayers misrepresented their ownership & interest in foreign money.

• Notwithstanding these actions, both failed to disclose their joint bank account on Schedule B of their federal income tax returns between 1995 and 2009.
• On August 7, 2007, at the beginning of a civil tax examination of the Burgas’ federal income tax returns, the IRS interviewed Mr. Burgas.
• During that interview, Mr. Burga told the IRS Revenue Agent conducting the interview that he and Ms. Burga did not have any foreign bank accounts, that they did not own any foreign corporations, and that they did not have any trusts. Mr. Burga even went so far as to say that he understood that trusts were used to avoid paying taxes.
• After his interview with the IRS but still on August 7, 2007, Mr. Burga caused to be transferred all of the funds, more than $6 million, out of the Burgas’ joint UBS account and into Micadema stifutung.
• Micadema stiftung had been created in 2007 in Liechtenstein with Mr. Burga as the founder and beneficial owner.
• On August 27, 2007, Ms. Burga, who at the time was known as Ms. Guevara, was designated as successor protector of Micadema.
• On December 18, 2008, the Burgas closed the Romphil stiftung and transferred over $100 million in assets (as well as Tembrix, Accipitor, and Aljohn) to a new stiftung in Liechtenstein, Marfran. Marfran is a combination of the Burgas’ first names, Margelus and Francis.

Issuance of FBAR Penalties

The IRS assessed civil FBAR Penalties:

On about June 13, 2017, a delegate of the Secretary of the Treasury timely assessed civil penalties against each Margelus Burga and Francis Burga in the amount of $52,581,605, due to their willful failure to timely file FBARs to disclose their accounts to the IRS for the years 2004 through 2009.

A delegate of the Secretary of Treasury sent a notice of the assessments and demand for payment to defendants for the FBAR penalties at defendants’ last known address.

In addition to the FBAR penalties, defendants owe late-payment penalties pursuant to 31 U.S.C. § 3717(e)(2), and interest pursuant to 31 U.S.C. § 3717(a), and applicable collection related fees pursuant to 31 U.S.C. § 3717(e)(1).

As of May 30, 2019, the unpaid balance owed to the United States by defendants for the FBAR penalties, the late payment penalty, applicable fees and interest, less any payments, was $119,603,703.38.

The United States is entitled to a judgment against defendants in the amount of $119,603,703.38 as of May 30, 2019, plus statutory accruals as provided by law from that date until fully paid.

Are the FBAR Penalties Too High?

Issues involving willfulness and the sheer amount of FBAR penalties are matters that the parties will litigate — and the lion’s share of the litigation will revolve around the issue of “willfulness.”

How Can the IRS Prove Taxpayer was “Willful”

The IRS wants to show the taxpayer was willful, and the IRS wants to use certain documents and information Taxpayer shared with her outside CPA to obtain that information.

This brings us to Issue 2: Privilege.

Issue 2: Attorney-CPA Privilege, and Kovel Protection

The Burga case is a very complex case, with very complicated tax issues.

But, at the core of the case, the main issues include:

• Are the Burgas “willful”?
• Is the Penalty reasonable, relative to the facts?
• Must the Burgas’ Attorneys turn over certain information that contains alleged privilege information, to the IRS?

Producing Documents by the Outside Accountant

One major bone of contention between the parties, is the extent of the attorney-client privilege.

If you have a chance to read the related case, you will find a whole host of serious financial criminal allegations being hurled at defendants by the U.S. Government.

The Burgas’ used the related defense doctrine to avoid turning over various documents to the IRS — by way of the related case exception.

How Far does the Attorney-Client Privilege Extend?

In order to protect communications between the Defendants in both cases, the attorneys argue  “related cases privilege.”

In essence, it means that the “defense” used by defendants in related cases are so intertwined, that sharing the documents between the parties does not constitute a breach of the attorney-client privilege by sharing the documents (e.g., sharing the documents with a 3rd party will sever the attorney-client privilege.)

Any Related Case Exception that would Apply Is Still Limited by Kovel

The court is clear that Kovel does not cover documents related to tax return preparation. And if you are considering offshore disclosure, it is important you understand what Kovel is, and isn’t.

Generally, Kovel does not become an issue when the law firm you retain also handles the tax preparation for the disclosure. This is not because it extends the attorney-client privilege to accounting matters per se, but because it helps limit the client from making damaging communications to the”outside” CPA.

The Purpose of A Kovel Letter

In order to bridge the the lack of confidentiality that exists between a client and a CPA, the Kovel letter was introduced as a result of U.S. vs. Kovel. With a Kovel Letter, the Attorney retains the Accountant, not the client.

And, the Accountant is retained by the firm for the specific matter and only to with respect to providing legal advice.

A Kovel Letter Has Limitations

Just because an Attorney utilizes a 3rd party CPA or EA to perform tax services does not grant a blanket privilege to the CPA or EA for work performed that was not for the purpose of providing legal advice.

Under Kovel, the party asserting the privilege must establish that the communications or materials at issue were made for the purpose of obtaining legal advice from an attorney. [See also Schaeffler v. United States, 806 F.3d 34, 40 (2d Cir. 2015), stating that “the purpose of the communications must be solely for the obtaining or providing of legal advice,” emphasis added.]

If the communications/materials were made for the purpose of obtaining accounting services, or if the advice sought was really the accountant’s rather than the attorney’s, no privilege exists.

The Court Re-Iterates How Kovel Does NOT work

Kovel never applies to tax return preparation.

Respondents also assert that the extension of attorney-client privilege recognized in United States v. Kovel protects documents reflecting Mr. Mansky’s or his firm’s activities in assisting Sideman & Bancroft in providing legal advice to Ms. Burga. 

The Second Circuit recognized in Kovel that attorney-client privilege extends to communications with an accountant employed by the client or attorney incident to the client obtaining legal advice from the attorney. 296 F.2d 918, 922 (2d Cir. 1961) (“[T]he presence of an accountant, whether hired by the lawyer or by the client, while the client is relating a complicated tax story to the lawyer, ought not destroy the privilege.”).

The Court finds the following parameters set forth in Kovel “[i]f what is sought is not legal advice but only accounting service, . . . or if the advice sought is the accountant’s rather than the lawyer’s, no privilege exists.”

Protect Yourself in Your Own Offshore Disclosure Matter

IRS Offshore Disclosure requires very complex tax and legal preparation.

There is a right way to use Kovel, and a wrong way. Retaining an attorney who sends you to an outside accountant to prepare tax returns is the wrong way.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, and specifically IRS offshore disclosure.