2024-19: IRS can collect foreign reporting penalty again; Tax Court’s decision reversed

A U.S. Court of Appeals has reversed the Tax Court’s decision in Farhy, in which the Tax Court ruled the IRS could not collect close to $500,000 in penalties assessed against the taxpayer for willfully failing to file Form 5471 for the 2003–2010 tax years. (Farhy v. Comm.(May 3, 2024) U.S. Court of Appeals for the D.C. Circuit, Case No. 23-1179)

The appellate court ruled that the fixed penalty imposed under IRC §6038(b) (currently starting at $10,000 per form per year and can increase to $60,000 per form per year, depending on the length of noncompliance to paying the initial penalties) can be assessed and collected by the IRS using the standard notice and demand procedures. The Tax Court had ruled the IRS did not have such authority and that the IRS was limited to collecting such penalties under a civil action brought by the Department of Justice but could not assess and collect the tax through the standard notice and demand procedures.

In so ruling, the appellate court did not go as far as the IRS’s position that all penalties imposed under the Internal Revenue Code can be assessed and collected by the IRS through the standard notice and demand procedures. However, the court applied a much broader analysis than that used by the Tax Court in determining whether a penalty can be assessed and collected by the IRS when the penalty provision is not imposed under a specific chapter of the Code or does not specifically state it is assessable by the IRS.

Bottom line: The IRS can now assess and collect the penalty under IRC §6038(b). However, other penalties not imposed under Subtitle F, Chapter 68 of the Internal Revenue Code, including other foreign reporting penalties, must be evaluated in light of the appellate court’s reasoning in Farhy to determine whether they may be assessed and collected by the IRS or must be pursued in a civil action by the Department of Justice. We will have to wait to see if Farhy appeals the decision to the U.S. Supreme Court.

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