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What happens if I inherit a foreign account with significant assets?

On Behalf of | Dec 12, 2022 | International Tax Law

Coming into a windfall has its pros and cons. If, for example, that windfall is a foreign asset in the eyes of the Internal Revenue Service (IRS) it can come with strict scrutiny. In a recent example, the IRS has focused its attentions on a woman who failed to properly report an inheritance from her father.

What does the IRS expect when it comes to inheritance?

The exact expectations will vary depending on the details, but they generally require reporting of the windfall. In this situation, the case involves a Jewish family that escaped Nazi Germany in the 1930s. They fled initially to South America. There the father began to rebuild his life and found success as a businessman. He learned from his previous experience and valued the need for a financial safety net in the event of another oppressive regime. As a result, he left his child with millions in a Swiss bank account when he died.

His child was living in the United States at the time of his passing. She thought she properly reported the asset but realized five years later that she had failed to file a Report of Foreign Bank and Financial Accounts (FBAR). The U.S. government generally requires this form for foreign asset over $10,000. When she became aware of her failure, she filed the FBAR for the five years she had missed.

Not surprisingly, this led to an Internal Revenue Service (IRS) audit. The government claimed she owed about $40,000 in back taxes. She paid the bill, but the feds were not done yet. They also penalized her for failure to file her FBAR. They went on to argue that her failure was reckless. She countered that she was doing her taxes on her own, at her local library, and made an honest mistake. If the government was successful in its claim, they could push for a much bigger fine than the typical $10,000. This claim allowed the IRS to establish she was willful in her failure to file and led to a bill of over $2 million.

This woman clearly inherited more than just her father’s wealth — she also got some of his business savvy and grit. She refused to agree to the demands of the IRS and is currently fighting them in court.

Can a taxpayer win a case against the IRS?

In order to win a case against the government taxpayers generally need to establish that the government did not meet the requirements or otherwise violated the taxpayer’s rights. In this example, the taxpayer has United States Supreme Court (SCOTUS) precedent on her side. The highest court in our country has held that our government cannot provide egregious fines as punishment. This is guided by the Excessive Fines Clause and, according to SCOTUS, applies to both criminal and civil cases; and yet the courts have thus far ruled in favor of the government.

The Court of Appeals stated the penalty did not qualify as a fine as defined by the Excessive Fines Clause. They further explained that FBAR penalties are not punitive, or meant to punish, and have allowed the government to move forward with their claim that the woman must pay the $2.1 million tax bill.

What options are available in this type of case?

Although the taxpayer in this case lost her appeal, she has not given up. She has filed a request for SCOTUS to review the case. If they choose to do so the case would provide additional guidance on how to handle these controversies.

This case provides an example of the difficult road taxpayers can face when fighting tax authorities even when the law appears to be on their side. Taxpayers are wise to seek legal counsel to help guide them through these situations. The attorneys at Goldburd McCone have experience representing international clients against the government’s fierce efforts investigating reporting of foreign accounts and can put this experience to work for you.