The Third Circuit released an unpublished decision on March 13, 2017,,[i] United States v. Chabot, that is the latest development in a series of decisions upholding the constitutionality of IRS summons for documents concerning a taxpayer’s foreign bank account under the authority of the Bank Secrecy Act of 1970 (“BSA”), even if production of those documents may incriminate the taxpayer. Although taxpayers have argued that the records are protected by the Fifth Amendment act of production doctrine, the IRS has taken the position that the required records doctrine, an exception to the act of production doctrine under the Fifth Amendment, applies to such documents, because the BSA requires the documents to be maintained by the taxpayer in accordance with the regulations under the BSA, including under 31. C.F.R. section 1010.420. In 2015, the Third Circuit joined the Second, Fourth, Fifth, Seventh, Ninth, and Eleventh Circuits as the seventh Circuit holding that the documents sought in a summons for information required by the BSA falls within the required records doctrine.[ii]
Background. After receiving information from the French competent authority pursuant to the United States-France income tax treaty, the IRS learned that the taxpayer husband was the beneficial owner of an undisclosed foreign bank account held at HSBC. The IRS requested a summons interview, which the taxpayers appears for but asserted their Fifth Amendment privilege with respect to the foreign bank accounts. The government followed with an administrative summons for documents, and after some back and forth between parties, the IRS amended its summons to narrow the scope of the summons to only those required to be maintained by the regulations. However the taxpayers refused to produce the requested documents.
In response to a petition the IRS filed to enforce the summons, the district court entered an Order to Show Cause directing the taxpayers to present any defense or opposition to the petition to enforce the summons. In response, the taxpayers argued that the Fifth Amendment Act of production doctrine applied and that the Required Records Doctrine did not apply.
Fifth Amendment Act of Production Doctrine. The Firth Amendment states that no person “shall be compelled in any criminal case to be a witness against himself.”[iii] The Supreme Court has clarified that the privilege extends to the act of producing potentially incriminating documents, known as the act of production doctrine.[iv] The rationale behind the Act of Production doctrine is that the act of producing documents requested in a subpoena has communicative aspects to it, wholly aside from the contents of the papers produced.[v]
Required Records Doctrine: The Required Records Doctrine is an exception to the Act of Production doctrine, which originated in Shapiro v. United States, 335 U.S. 1 (1948). The Court has subsequently articulated three factors or premises to analyze in determining whether the Required Records Doctrine Applies: First, the purpose of the United States’ inquiry must be essentially regulatory; second, information is to be obtained by requiring the preservation of records of a kind which the regulated party has customarily kept; and third, the records themselves must have assumed “public aspects which render them at least analogous to a public document.”[vi]
District Court Holding. The district court found the Taxpayer’s arguments against the require records doctrine unpersuasive, because responding to the IRS’s summons does not necessarily result in admitting an FBAR violation or an element of a crime – holding a foreign bank account is not in and of itself illegal, so admitting to having a foreign bank account does not carry the risk of admitting to an inherently criminal activity.[vii] The district court explained that “That the information contained in the required record may ultimately lead to criminal charges does not convert an essentially regulatory regulation into a criminal one.”[viii] For the information to lead to a criminal charge, the government would have to prove that that the taxpayer acted willfully. Although the taxpayers also tried to distinguish their case on the basis that they at that time were just undergoing a civil audit and not a grand just investigation; however, the district court held this factor weighed against the taxpayer because the taxpayer arguably faces less of a risk of criminal prosecution. The district court similarly rejected the taxpayer’s arguments that the records are not “customarily kept” based on the secrecy inherent in international banking or “publicly kept” because they are more analogous to general taxpayer records, with the district court finding that bank customers do customarily keep records of their bank accounts and the regulation requires that the records be kept at all times available for inspection as required by law.[ix]
The district court quoted In re Special February 11-1 Grand Jury Subpoena Dated Sep. 12, 2011, 691 F.3d 300, 309 (7th Cir. 2012), which explained that the “voluntary choice to engage in an activity that imposes record-keeping requirements under a civil regulatory scheme carries consequences, perhaps the most significant of which, is the possibility that those records might have to be turned over upon demand, notwithstanding any Fifth Amendment privilege.” Accordingly, the district court granted the government’s petition to enforce the summons served on the taxpayers. The district court’s decision was affirmed by the Third Circuit in United States v. Chabot, 793 F.3d 338 (3d Cir. 2015).
Contempt Hearing. When Mr. Chabot refused to comply with the court’s order enforcing the summons, the government moved to have the Chabots held in civil contempt for disobeying the enforcement order, and the District Court issued an order to show cause. The civil contempt hearing focused on the Chabots’ argument that no responsive documents existed, because they lacked the requisite interest in any foreign bank accounts during the relevant period, and that Mr. Chabot had suffered a stroke which may have affected his ability to proceed. The Chabots were able to introduce sufficient evidence that Mrs. Chabot did not have the requisite connection to any foreign financial accounts necessary for her to maintain documents under the BSA and the government withdrew its motion to hold Mrs. Chabot In contempt; however, the court found that Mr. Chabot was unable to establish his inability to comply with the order and was held in civil contempt.
Third Circuit Appeal of Contempt order. On appeal, the Third Circuit affirmed the district court’s decision, holding that Mr. Chabot failed to demonstrate his inability to comply with the summons or that he was being punished for asserting his Fifth Amendment right against self-incrimination.[x] On appeal, Mr. Chabot argued that after he denied the existence of the documents, the government had the burden of proving their existence by clear and convincing evidence and that by failing to do so, the district court was punishing him for asserting his privilege against self- incrimination.
Rejecting Mr. Chabot’s arguments and affirming the district court, the Third Circuit held that under Supreme Court precedent[xi], once a party has shown that (1) a valid order existed; (2) the other party had knowledge of the order; and (3) disobeyed the order, the burden is then on the party who disobeyed the order to establish his inability to comply with the order. Because Mr. Chabot failed to establish he was unable to comply with the court’s order, the Third Circuit sustained the finding of contempt. The Third Circuit held that the court’s determination that Mr. Chabot failed to demonstrate his inability to comply with the Court’s enforcement order was not dictated by his prior assertion of the privilege against self-incrimination.[xii]
LACEY STRACHAN – For more information please contact Lacey Strachan at Strachan@taxlitigator.com. Ms. Strachan is a senior tax attorney at Hochman, Salkin, Rettig, Toscher & Perez, P.C. and represents clients throughout the United States and elsewhere in complex civil tax litigation and criminal tax prosecutions (jury and non-jury). She represents U.S. taxpayers in complex tax litigation before both federal and state courts, including the federal district courts, the U.S. Tax Court, the U.S. Court of Federal Claims, and the Ninth Circuit Court of Appeals. Ms. Strachan has experience in a wide range of complex tax cases, including cases involving technical valuation issues. She routinely represents and advises U.S. taxpayers in foreign and domestic voluntary disclosures, sensitive issue civil tax examinations where substantial civil penalty issues or possible assertions of fraudulent conduct may arise, and in defending criminal tax fraud investigations and prosecutions. Additional information is available at http://www.taxlitigator.com.
[i] United States v. Chabot, Docket No. 16-3873 (3rd Cir. March 13, 2017).
[ii] United States v. Chabot, 793 F.3d 338 (3d Cir. 2015).
[iii] U.S. Const. Amend. 5.
[iv] Fisher v.United States, 425 U.S. 391 (1975).
[vi] Grosso v. United States, 390 U.S. 62, 67-68 (1968).
[vii] United States v. Chabot, No. 14-3055 (FLW), 2014 U.S. Dist. LEXIS 140656 (D.N.J. Oct. 3, 2014).
[viii] Id. (citing M.H. v. United States (In re Grand Jury Investigation M.H.), 648 F.3d 1067, 1075-75 (9th Cir. 2011).
[ix] United States v. Chabot, No. 14-3055 (FLW), 2014 U.S. Dist. LEXIS 140656 (D.N.J. Oct. 3, 2014).
[x] United States v. Chabot, Docket No. 16-3873 (3rd Cir. March 13, 2017).
[xi] United States v. Rylaner, 460 U.S. 752 (1983).