International Tax Compliance Update: IRS to Issue ”John Doe” Summonses Seeking Information Regarding U.S. Taxpayers with Undisclosed Offshore Bank Accounts

On November 7, 2013, United States District Judge Kimba M. Wood of the Southern District of New York, granted authorization to the IRS to issue John Doe summonses to Bank of New York Mellon and Citibank requiring those banks to produce records and information pertaining to US taxpayers holding accounts at Zurcher Kantonalbank and its affiliates (ZKB) in Switzerland. 

Thereafter, on November 12, 2013, U.S. District Judge Richard M. Berman, also of the Southern District of New York, granted permission for the IRS to issue John Doe summonses to Bank of New York Mellon, Citibank, JP Morgan Chase, HSBC, and Bank of America requiring those banks to produce records and information relating to accounts held by US persons at The Bank of NT Butterfield & Son, Limited, and its affiliates (Butterfield) in a number of foreign jurisdictions including the Bahamas, Barbados, the Cayman Islands, and Switzerland.  The Department of Justice’s news release on these orders is available here.

The judicial orders and the summonses that will follow represent the latest effort by the United States to root out and hold accountable US taxpayers holding accounts and financial assets abroad in an attempt to avoid US taxation.  Recently, for instance, three employees of ZKB were indicted for conspiring with US taxpayers to hide over $400 million in Swiss bank accounts.  Additionally, the United States, working together with Swiss bank regulators, has reached an agreement with certain Swiss banks encouraging those banks to disclose their US account holders in exchange for non-prosecution guarantees.  Further, Congress has enacted the Foreign Account Tax Compliance Act (FATCA), which is designed to punish foreign banks, via a withholding tax mechanism imposed on payments made to those banks from US sources, which refuse to provide information regarding their US account holders.  For more information about FATCA and the Treasury Department’s struggles to implement the law, please see our prior blog discussions here, here, and here. 

The issuance of John Doe summonses is a tactic the IRS has utilized previously.  For instance, last April, the IRS issued a John Doe summons to Wells Fargo seeking information concerning US persons with accounts at First Caribbean International Bank. 

The IRS will issue John Doe summons in instances where it is unsure of the precise identity of the inpiduals about whom it is seeking information.  Because the scope of a John Doe summons is necessarily broad, John Doe summonses allow the IRS to recover vast amounts of information from the banks on which they are served.  The IRS serves summonses on US banks seeking information about accountholders of foreign banks because US banks often act as correspondent banks for the foreign banks.  Under these arrangements, a US bank will hold accounts for the benefit of a foreign bank that is seeking to do business in US dollars but that otherwise does not have a US presence.  Service of the summons on the US correspondent bank is simpler and more efficient than attempting to retrieve information directly from the foreign bank.

The IRS’s efforts to crack down on offshore tax evasion have led to severe consequences for non-compliant US taxpayers.  For instance, the IRS’ focus on identifying non-compliant account holders with UBS have led to criminal convictions and the imposition of severe monetary penalties, as highlighted here, here, and here.  Further, the United States has pursued the banks and the bankers that have assisted non-compliant US taxpayers in hiding their assets, as highlighted here, here, and here.  Given the tough stance the IRS has taken on this issue, cooperation between foreign banks and the IRS regarding the production of information about US accountholders is likely to only grow in the future.  Such cooperation, in turn, will likely increase the risk that more non-compliant US accountholders are identified and prosecuted.

It is important to keep in mind that there is no prohibition against US persons holding foreign bank accounts.  However, US persons holding foreign accounts generally must disclose these interests to the IRS in any year in which the balance of the account exceeds $10,000.00, by making a Foreign Bank Account Report (FBAR).  Separate reporting requirements exist for other foreign assets held by US persons, such as stock in foreign corporations or interests in offshore trusts.  Further, US persons are taxed on their worldwide income, regardless of the source of the income.  Interest earned on foreign bank accounts, distributions from offshore trusts, and pidends paid by foreign corporations are all subject to US tax and must be reported on the US person’s annual tax return.  Failure to report the existence of overseas accounts or financial interests when required can lead to significant monetary penalties and, potentially, criminal prosecution.  For more information regarding the FBAR requirements, see our previous blog entries here, here, and here.

The IRS has re-opened the Offshore Voluntary Disclosure Program (OVDP), which permits taxpayers with undisclosed foreign income or assets from previous tax years to make a full disclosure of their previously undisclosed interests and income in exchange for generally lower penalties and a guarantee from the IRS that it will not recommend the disclosing taxpayer’s case to the Justice Department for criminal prosecution.  Read more about the most recent OVDP here.

The most recent efforts by the IRS to learn the identity of non-compliant US accountholders at ZKB and Butterfield is especially pertinent considering the limitations of the OVDP.  Specifically, once the IRS or the Department of Justice becomes aware of a taxpayer’s non-compliance through the use of a John Doe summons or similar investigatory mechanism that taxpayer becomes ineligible for participation in the OVDP.  That prohibition does not apply, however, in situations where a non-compliant taxpayer merely holds an account at a bank that is the subject of a John Doe summons””the government must learn of the specific taxpayer’s non-compliance on its own before the door to the OVDP is shut.

Given the generally beneficial nature of the OVDP, it would be wise for non-compliant US taxpayers holding accounts with ZKB or Butterfield to immediately explore their options regarding the OVDP.

The attorneys at Fuerst, Ittleman, David & Joseph have extensive experience working with taxpayers who have undisclosed foreign bank accounts and who are seeking to avail themselves of the OVDP.  We will continue to monitor the development of this issue, and we will update this blog with relevant information as often as possible. You can reach an attorney by calling us at 305-350-5690 or emailing us at  contact@fidjlaw.com.

TAX REFUND LITIGATION UPDATE: Court of Federal Claims Relies on “Substance Over Form” Doctrine to Recharaterize Transaction

A decision by the United States Court of Federal Claims originally filed under seal and reissued on October 23, 2013 evidences an important trend in the substance over form doctrine created by the courts to recharacterize transactions for tax purposes to reveal their true purpose. A copy of the opinion can be found here.

This case, Unionbancal Corporation & Subsidiaries v. United States, involved a lease-in/lease-out transaction, more commonly known as a LILO, designed to transfer tax benefits from an entity not subject to U.S. income taxation (a tax-indifferent entity) to an entity that is subject to U.S. income taxation. At issue in this case was whether the “Pond Transaction” – a leveraged lease between a subsidiary of UnionBanCal Corporation (UBC) and the City of Anaheim, California – was undertaken solely for tax benefits and not for any true economic purpose or benefit.

As of 1998, Anaheim owned the Pond, an arena located in Anaheim, California, where the Anaheim Mighty Ducks agreed to play all of its regular season hockey games until February 2023. Ogden Facility Management Corporation of Anaheim managed and operated the Pond on behalf of Anaheim and had the exclusive right to use, manage, operate, market and promote the Pond.

UBC is a financial services company that enters into direct financing and leveraged leases through its Equipment Leasing Division (ELD). UBC’s ELD proposed to Ogden that it would acquire an “equity portion of a leasehold interest” in the Pond.  Among other things, the proposal strongly suggested that UBC’s main purpose in entering the LILO transaction was to achieve the tax benefits associated with rent and interest deductions. According to Lance Markowitz, Senior Vice President of UBC and head of the ELD, UBC “would not have pursued the transaction without the tax attributes.”

On the day the Pond Transaction closed, UBC and Anaheim executed a series of interrelated agreements, including two leases pertaining to the Pond: a Head Lease Agreement and Sublease Agreement. Pursuant to Head Lease, UBC leased an undivided interest in the Pond from Anaheim and simultaneously, via the Sublease, UBC conveyed its interest in the Pond back to Anaheim. The Lease and Sublease were part of an integrated transaction. In other words, one would not have been executed without the other.

      In its decision, the Claims Court stated that in a typical LILO, a U.S. Taxpayer purports to lease property from a tax-indifferent owner under a “head lease,” and then simultaneously leases that property to the owner under a sublease. Before and after the transaction, the tax-indifferent entity continues to operate the property. Nevertheless, the taxpayer claims deductions predicated under the head lease. The tax-indifferent entity receives a fee for agreeing, in effect, to transfer its “wasted” tax deductions to a tax-paying entity that can use them.

Here, the property that was leased/subleased in the LILO in question was the Pond, an arena owned by Anaheim (the tax-indifferent entity). UBC deducted the rent payments it made under this transaction under section 162(a)(3) of the Code, which permits a deduction for “rentals or other payments required to be made as a condition to the continued use or possession, for purposes of the trade or business of property.” Further, it deducted the interest it paid on the loans used to discharge its rent obligations under 163(a) of the Code, which provides a deduction for “interest paid or accrued within the taxable year on indebtedness.”

In “substance over form” doctrine cases, “it is the taxpayer’s burden to demonstrate that the form of its transaction accords with its substance.”Principal Life Ins. Co. v. United States, 70 Fed. Cl 144, 160 (2006). “[J]udicial anti-abuse doctrines prevent taxpayers from subverting the legislative purpose of the tax code.” Consol. Edison Co. of New York, Inc. v. United States, 703 F.3d 1367, 1374 (Fed. Cir. 2013). Among these doctrines is that of “substance-over-form ”¦ which ”¦ provides that the tax consequences of a transaction are determined based on the underlying substance of the transaction rather than its legal form.” Wells Fargo & Co. v. United States, 641 F.3d 1340, 1354 (Fed. Cir. 2011). To permit otherwise, the Supreme Court has held, “would seriously impair the effective administration of the tax policies of Congress.” Comm’r of Internal Revenue v. Court Holding Co., 324 U.S. 331, 334 (1945).

The Court further described a phalanx of recent cases wherein courts considering analogous LILO/SILO transactions have concluded that, despite the form of those transactions, the taxpayers, in substance, never obtained the benefits and burdens of ownership, and viewed in their totality, the circumstances of the lease/sublease transactions did not permit the taxpayers to be viewed as possessing an interest in the property upon which their deductions were based. Thus, in those cases, the courts found that the structure of the LILO/SILO in question prevented the taxpayer from obtaining a genuine ownership interest in the property. And in each instance, the key inquiry has been the same – whether the taxpayer involved bore the benefits and burdens associated with the leased asset.

A central question in each case involving analogous transactions was whether the original property holder – the “tax indifferent” entity – could be expected to exercise its purchase option at the end of the sublease. That issue has proved to be determinative because if that option was to be exercised, the transactions would become offsetting leases, leaving the property in the hands of the original owner, at least for tax purposes. Furthermore, in each case the tax indifferent entity was to maintain uninterrupted use of the subject property without any involvement of the taxpayer. In addition, via the offsetting nature of the obligations established in the transaction, the taxpayer was insulated from meaningful economic risk of loss or potential gain, and thus obtained none of the benefits or burdens associated with the leasehold interest.

In this case, the Federal Claims Court considered the issue of whether a prudent investor in UBC’s position would have reasonably expected Anaheim to exercise the purchase option and buy out UBC’s Head Lease interest. Based on the record, the Court answered this question in the affirmative stating that the LILO here was “designed to strongly discourage alternative outcomes” to exercising the Purchase Option.

In reaching its conclusion, the Claims Court also noted the strong and strategic civic ties Anaheim has to the facility in question. The property in question is a highly-visible, public arena, which was acquired with public financing and which currently houses a professional hockey team that bears the city’s name on its sweaters. The Court also noted how UBC and Anaheim internally accounted for the transaction. In short, the Claims Court concluded that “the economic effects of repurchasing the asset were so desirable, and the alternatives to repurchasing that asset so odious, as to make it more likely than not that Anaheim would exercise the Purchase Option.” The Court additionally stated that “that finding makes plain that UBC did not have the requisite ownership interest in the Pond Head Lease to support its claimed rent deductions.” Finally, the Court held that the ultimate conclusion regarding the Purchase Option would have been the same even if it were more likely than not that Anaheim would fail to exercise the Purchase Option. That was so because UBC’s investment was assured of being recouped irrespective of the residual value of the property.

On the issue of whether UBC was entitled to its interest deductions under section 163(a) of the Code, in another case the Federal Circuit recently opined that the taxpayer must incur genuine indebtedness associated with the LILO transaction. Knetsch v. United States, 364 U.S. 361, 365-66 (1960). The Federal Circuit further held that whether payment constitutes “interest” on genuine “debt” depends upon the substance not the form of the transaction. Id. In this case, the debt incurred by UBC was, in substance, decidedly not genuine, deriving from circular transactions largely with the subsidiaries of a single entity – transactions in which UBC’s loan was paid with the proceeds of the same loan.

The doctrine of “substance over form” is a judicial creation. This case represents another instance in which a court has relied upon the premise that a transaction must be designed for a real business purpose or motive in order for the courts to respect it as valid. It is undeniable that the tax benefits or burdens of a proposed course of action are always relevant; they always make a difference in the decision-making process of business executives. However, taxpayers should be careful not let tax implications be the exclusive purpose behind a transaction or they run the risk of having the transaction recharacterized by the courts.

 The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of tax litigation.  They will continue to monitor developments in this and similar cases. If you have any questions, an attorney can be reached by emailing us at contact@fidjlaw.comor by calling 305.350.5690.

Litigation Update: Appellate Arbitration

Taking yet another step to perfect the privatization of the judiciary, the American Arbitration Association has just announced that it has promulgated rules to govern the appellate review of an arbitrator’s “final” decision. The extension of this business model by the AAA is somewhat curious given that it has perpetually promoted arbitration as a cost-effective and efficient means to resolve disputes, frequently highlighting the “final and non-appealable” nature of arbitration. Indeed, there are only very narrow bases for one to appeal the final award of an arbitrator.

The new AAA appellate rules actually circumvent state and federal law. In fact, the AAA flaunts this very fact in promoting its new service: “Traditionally, courts use narrowly-defined statutory grounds to set aside an arbitration award.” As explained by the AAA in its Introduction, the new AAA appellate rules “provide for an appeal to an appellate arbitral panel that would apply a standard of review greater than that allowed by existing federal and state statutes.”

To avail oneself of this “high-level” arbitral review, all parties must agree in their arbitral contract, or otherwise expressly stipulate, to be bound explicitly by the AAA Appellate Arbitration Awards. If there is such an agreement, the appellate review is limited to: (1) an error of law that is material and prejudicial; or (2) determinations of fact that are clearly erroneous. A-9. If there is no such agreement, the AAA has no appellate jurisdiction.

AAA appellate review has certain unique features built within its rules. One is the fact that the underlying arbitration award is not to be deemed “final” until the conclusion of the appeal. A-2(a). Thus, there is a built-in, de facto stay of the award pending final appeal, and no bond is required. The prevailing party cannot confirm the award until the conclusion of the appellate review. Another component of the arbitral appeal is the tight time constraints imposed by the Rules. The initial brief is due twenty-one (21) days after the Notice of Appeal is filed; the Answer Brief is due 21 days after service of the Initial Brief, and the Reply Brief is due ten (10) days later. Extensions of time are limited to seven days. Generally, the arbitration panel must issue its decision within thirty (30) days of service of the last brief. While the arbitral panel is empowered to affirm the award, provide a substitute award, or even request additional information to render its decision, the arbitration panel is strictly prohibited from remanding the case back for a new arbitration hearing.

Succinctly, one of the main criticisms of arbitration is the lack of any colorable checks and balances on an arbitrator’s clearly erroneous understanding of the law. The AAA has now enacted a new procedure to remedy that problem. Businesses that desire the additional checks and balances should consult with counsel to ensure their arbitration provisions contain clear arbitration agreements that include the Appellate Arbitration Rules, as well as commonly referenced rules, such as the Commercial Arbitration Rules. Conversely, if the business does not want to have the added checks and balances, careful consideration should be given to ensure the Appellate Rules are not made a part of the arbitration agreement. Either way, the AAA has taken a huge step to mirror the judiciary’s procedures.

A complete copy of AAA’s up-to-date “Commercial Arbitration Rules and Mediation Procedures” is available here. If you have any questions about arbitration or “appellate arbitration,” please feel free to contact us at 305-350-5690 or contact@fidjlaw.com.

Litigation Update: American Arbitration Association Announces Changes to Commercial Arbitration Rules

The American Arbitration Association has announced revisions to its Commercial Arbitration Rules which have taken place effective October 1, 2013. According to its website, the revisions include:

  • a mediation step for all cases with claims of $75,000 or more (subject to the ability of any party to opt-out);
  • arbitral control over information exchange (discovery);
  • the availability of emergency measures of protection;
  • access to dispositive motions; and
  • new preliminary hearing rules as well as remedies and sanctions for non-compliance.
These changes reflect a growing trend to duplicate the arbitral process with that of the courts, thus effectively privatizing the judicial process. The changes were made based upon feedback from arbitration practitioners over the years. A complete copy of AAA’s up-to-date “Commercial Arbitration Rules and Mediation Procedures” is available here. We break down the recent changes to the AAA rules as follows:
  1. Mandatory Mediation (Rule 9-A): The Rules now include mediation as an integral part of the process for all cases exceeding $75,000. Any party may affirmatively “opt out” of the process. The parties may agree on the date and time to mediate, and may further select the Mediator, who shall not be the appointed Arbitrator. If the parties do not otherwise agree on a date and time, the mediation shall take place “concurrently with the arbitration.”Although the terms “mediation” and “arbitration” are frequently used by the lay person interchangeably, the mechanics of these alternative dispute resolution tools are dramatically different. Mediation is a process where the parties endeavor to voluntarily settle the case. A mediator presides over the settlement conference, and labors to determine whether a suitable compromise may be agreed upon. Arbitration, on the other hand, is a formal process where a neutral arbitrator decides the dispute. Unlike arbitration, mediation allows the parties to voluntarily agree to a suitable resolution, and thus “purchase” certainty through compromise. Based on statistics, the vast majority of civil cases where mediation is required actually settle before trial. The new Rule reflects the preference of practitioners to allow the process of mediation to allow the parties one last step to settle their dispute before the arbitrator decides the dispute for the parties.
  2. More Active Management by the Arbitrator (Rules 21, 22, 23 and 58): In the past, the guiding principle of arbitration was to allow the parties to control the management of the litigation, which included everything from the selection to the arbitrator, to discovery, to the length, date and time of trial. Unfortunately, it has become rather clear that parties in a dispute frequently are incapable of agreeing to anything. The AAA has taken a great of the parties’ control and handed it back to the Arbitrator, much like the courts. While the parties still have the choice to agree in the first instance on the manner in which a case will be litigated, the new rules afford the arbitrator with the authority to control the process. Rules 21-23 have been amended to codify this power.Rule 21 governs the preliminary hearing and endeavors to ensure that the hearings are grounded with uniform procedures. New “Preliminary Hearing Procedures” have been enacted. See P-1 and P-2. The matters to be discussed seem to mirror many of the issues required in a federal court scheduling conference, and cover everything from the scope of discovery to the choice of substantive law that will apply at trial. Rule 22 provides the rules for exchanging information, including electronic data and the issues of third-party testimony. The process is more reflective of the courtroom litigation.

    Rule 23 empowers the arbitrator with the hammer to enforce his/her authority. If a party refuses to comply with “any order issued by the arbitrator,” the arbitrator is vested with the authority to sanction the offending party with such serious remedies as drawing adverse inferences, exclusion of evidence, and awarding fees and costs. Rule 58 provides additional authority to the arbitrator to sanction any party for failing to comply with any obligation or order of the arbitrator.

    Still, despite that the rules move the arbitral process closer to the normal courtroom experience, the AAA takes great pain to remind itself and the parties that arbitration is “designed to be simpler, less expensive and more expeditious.” P-1(b).

  3. Dispositive Motions (Rule 33): Perhaps the most important rule to be added is Rule 33, which now allows an arbitrator to enter summary judgments. Before the amendment, arbitrators were essentially powerless to enter an award before a final trial, even if there was no doubt whatsoever as the ultimate result. This lack of power resulted in tens of thousands of lost dollars expended in a needless and unnecessary trial. Now, just like a judge, an arbitrator is explicitly authorized to make a dispositive ruling or otherwise narrow the issues before trial. This may prove to be the rule which really affords arbitration to be the “simpler, less expensive and more expeditious” process that it was designed to be.
  4. Injunctions/Interim Relief (Rule 38): Prior to the revisions, parties had to agree to allow the AAA to enter injunctive relief (called interim relief in arbitration). Now, the Emergency Measures of Protection Rules are incorporated into all arbitrations proceeding under the Commercial Rules.
  5. Non-Payment (Rule 57): Typically, parties agreeing to arbitrate their disputes pay their proportional costs during the course of arbitration, subject to a final ruling apportioning the costs. However, what happens if one party refuses to pay? The former rules were silent on the issue. Rule 57 now allows any party to advance the fees of a non-paying party. If the non-paying party is the petitioner, the arbitrator may limit its ability to advance a claim; however, the Rule still allows even non-paying parties the right to defend against a claim or counterclaim. Likewise, the Rule now codifies that the arbitrator (or the AAA) may suspend the arbitration until payment is made, or terminate the proceedings if full payment is not received by a specific time following a suspension.

The changes we have described here include the “major” ones, but there have also been many other changes, revisions and modifications to the Rules, any one of which may significantly impact your case. Although arbitration allows individuals and companies to represent themselves (subject to state law), it is strongly recommended that you obtain representation of a seasoned professional. If you have any questions about this issue, and specifically about how the recent changes to AAA’s “Commercial Arbitration Rules and Mediation Procedures” may impact your case, please feel free to contact us at 305-350-5690 or contact@fidjlaw.com.

Third Circuit Decision Requires Warrant for GPS Monitoring and Limits Good-Faith Exception to the Exclusionary Rule

A decision by the Third Circuit Court of Appeals issued on October 23, 2013 marks an important development in the area of Fourth Amendment law. In this case,United States v. Katzin, the court held that law enforcement must obtain a warrant prior to a GPS search and that the search in this particular case cannot be excused on the basis of good faith. A copy of the precedential opinion can be found here.

At issue in the Katzin case were three related issues of Fourth Amendment law: First, whether the installation of a GPS device requires a warrant; second, what is the scope of the good-faith exception to the exclusionary rule; and third, who has standing to move to suppress evidence obtained from the physical search of a car following a GPS search.

In 2009 and 2010, the states of Delaware, Maryland and New Jersey were hit by a wave of burglaries at Rite-Aid pharmacies. The method used in the various burglaries was largely consistent and the FBI came to suspect that Katzin and his two brothers were committing the burglaries using Katzin’s van. Suspicion increased as the pieces of the puzzle began falling into place. After consulting with the United States Attorney’s office, but without obtaining a warrant, the FBI affixed a “slap-on” GPS tracker to the exterior of Harry Katzin’s van. The device, which was attached to the car when it was parked on a public road, allowed the police to remotely monitor the location of the car in real-time. In just a few days the device yielded the results the FBI was after: the GPS showed the car parked for a few hours right next to a Rite-Aid pharmacy and when it finally moved, the police stopped the car, found the three brothers and, after a search of the car, found stolen property from the Rite-Aid pharmacy. All three defendants moved to suppress the evidence found in the van.

The Fourth Amendment to the United States Constitution mandates as follows: “[T]he right of the people to be secure in their persons, houses, papers, and effects against unreasonable searches and seizures, shall not be violated, and no Warrant shall issue, but upon probable cause, supported by Oath or affirmation, and particularly describing the place to be searched, and the persons or things to be seized.” As the text makes clear, a search or a seizure is a necessary prerequisite to a violation of the Fourth Amendment. In its opinion, the Third Circuit begins with the proposition that magnetically attaching a GPS device to a suspect’s automobile constitutes a search. Here, the Third Circuit relied upon the United States Supreme Court decision in U.S. v. Jones, 135 S. Ct. 945  (2012), and Justice Sotomayor’s concurring opinion, which reasoned that “when the government physically invades personal property to gather information, a search occurs.”

The Third Circuit further articulated that the Fourth Amendment does not protect individuals from all searches, justunreasonable ones. “[W]hether a particular search meets the reasonableness standard is judged by balancing its intrusion on the individual’s Fourth Amendment interest against its promotion of legitimate governmental interests.” Vernonia Sch. Dist. 47J v. Acton, 515 U.S. 646, 652 (1995). Under this general approach, the courts look at “the totality of the circumstances.” United States v. Knights, 534 U.S. 112, 118 (2001). More often than not, courts strike this balance in favor of the procedures described in the Warrant Clause of the Fourth Amendment. Thus, any search conducted outside the judicial process is “per se unreasonable under the Fourth Amendment – subject only to a few specifically established and well-delineated exceptions.” United States v. Harrison, 689 F.3d 301, 306 (3d Cir. 2012).

Next, the Third Circuit described the instances in which a search would be reasonable under the Fourth Amendment even absent a warrant, including exigent circumstances, cases of diminished privacy expectations and Terry and its progeny. However, as the Court noted, none of these instances is applicable in this case. Furthermore, the Court explained that the “automobile exception” to valid warrantless searches was not applicable because that exception is “limited to a discrete moment in time ”¦ [whereas] ”¦ [a]ttaching and monitoring a GPS tracker ”¦ creates a continuous police presence for the purpose of discovering evidence that may come into existence and/or be placed within the vehicle at some point in the future.”

The Third Circuit held that the evidence uncovered as a result of the police officer’s unconstitutional actions should be suppressed under the exclusionary rule. According to the Court the exclusionary rule was created to compel respect for the constitutional guaranty of the right of people to be protected against unreasonable searches and seizures, mandating that evidence obtained in violation of the Fourth Amendment should not be available at trial.

The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of white collar criminal defense.  They will continue to monitor developments in this and similar cases. If you have any questions, an attorney can be reached by emailing us at contact@fidjlaw.comor by calling 305.350.5690.

Update: Crackdown on Casino AML Deficiencies Continues as Caesars Entertainment Corp. becomes subject of FinCEN and DOJ Investigation

On October 21, 2013, Caesars Entertainment Corp. (“Caesars”) announced in its filing with the Securities and Exchange Commission that its subsidiary Desert Palace, Inc. (owner of Caesars Palace) was under investigation for alleged violations of the Bank Secrecy Act. A copy of the filing can be read here.

According to Caesars’ filing, on October 11, 2013, Desert Palace, Inc. received a letter from the Financial Crimes Enforcement Network (“FinCEN”) stating that the subsidiary was under investigation for alleged violations of the Bank Secrecy Act, found at 31 U.S.C. § 5311 et seq., and to determine “whether it is appropriate to assess a civil penalty and/or take additional enforcement action against Caesars Palace.” Caesars was also informed that a federal grand jury investigation regarding the alleged violation is on-going.

Like banks and money services businesses (“MSBs”), federal law defines casinos as financial institutions. See 31 U.S.C. § 5312 (X). As financial institutions, casinos are required to maintain robust anti-money laundering compliance programs designed to protect against the unique money laundering and terrorist financing risks posed by each individual casino. The basic minimum elements which must be included within any casino’s AML plan can be found at 31 C.F.R. § 1021.210. See also 31 U.S.C. § 5318(h).

Caesar’s announcement comes as FinCEN and the Department of Justice have increased their focus on the anti-money laundering policies and procedures of casinos. As we previously reported, on August 27, 2013, the U.S. Department of Justice announced that it had resolved its money laundering investigation into the Las Vegas Sands Corp. which resulted in Sands agreeing to pay $47,400,300 to the Government in order to avoid criminal prosecution. As we expressed in our previous report, we see the Sands and Caesars cases as a sign of the increased scrutiny that the casino industry will face in the near future and each should serve as a warning to casinos to ensure that their AML compliance programs are in full working order as soon as possible.

Fuerst, Ittleman, David & Joseph, PL will continue to monitor the Department of Justice and the casino industry for the latest developments. The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of anti-money laundering compliance, administrative law, constitutional law, white collar criminal defense and litigation against the U.S. Department of Justice. You can reach an attorney by emailing us at contact@fidjlaw.com or by calling us at 305.350.5690.

Andrew Ittleman: Hurdles in Accessing Banking Services

The forthcoming 2013 Financial Edition of the South Florida Legal Guide will feature an article authored by Andrew Ittleman of Fuerst Ittleman David & Joseph titled “Hurdles in Accessing Banking Services.” The article focuses on how 18 U.S.C. 1014, which proscribes the making of a false statement to a bank for purposes of influencing the bank in any way, criminalizes even the acquisition of checking account services from a bank under false pretenses. The full text of the article reads as follows:

The federal Bank Fraud statute – 18 U.S.C. § 1344 – was designed to criminalize complex “schemes to defraud” banks and other financial institutions. Today, § 1344 has become a hugely popular tool for the government in white collar criminal cases, and generated far more attention than its older sister, 18 U.S.C. § 1014, which was designed to criminalize a less outwardly sinister variety of criminal conduct.

To obtain a conviction under § 1014, the government must prove first that the defendant made a “false statement or report,” and second that he did so “for the purpose of influencing in any way the action of [a described financial institution] upon any application….” The government need not prove that the false statement was material.

Like the Bank Fraud statute, § 1014 carries a maximum fine of $1,000,000 and a maximum prison term of 30 years. However, unlike the Bank Fraud statute, in recent years we have seen § 1014 increasingly applied in cases where the bank suffers no financial loss, and the only financial service obtained by the defendant is a checking account. While the issue seems simple, § 1014 cases often involve highly complex facts and circumstances, not necessarily about the misstatements made to the banks, but rather about the general circumstances in which the bank and customer find themselves.

First, banks are typically conservative and tightly regulated, and carefully choose the types of business they serve. Consequently, most banks avoid doing business with whole classes of businesses deemed to be “high risk.” Most banks believe that the compliance cost and reputation risk avoided by refusing to work with “high risk” companies outweighs whatever financial gain the banks would realize by taking in such companies.

However, simply because a business is deemed to be “high risk” by a bank, it does not necessarily follow that the business is a criminal enterprise or is operating unlawfully. Instead, without ever being afforded due process, it typically means that some government agency has determined that the business presents a heightened money laundering risk, and in many cases banks have been outright barred from doing business with them. For instance, the National Credit Union Administration (NCUA) recently barred the North Dade Community Development Federal Credit Union of Miami Gardens from doing further business with money services businesses (MSBs), a large class of businesses including money transmitters, check cashers, currency exchangers, providers of prepaid access, issuers of digital currency, and a variety of others. But the North Dade case was hardly unique. It happens often, and regulators rarely distinguish between compliant and non-compliant MSBs.

Because money is the MSB’s inventory, the MSB has no way to operate without a bank account. So, knowing that banks will not do business with them, many MSBs have lied (or at least obfuscated the truth) during the account opening process and told the bank that they are engaged in “import/export,” “consulting,” or some other vague term which they believed the bank wouldn’t investigate. And in many cases the MSB was right – the bank did not perform a due diligence during the account opening process. But eventually the lie was revealed, the feds were called in, and the otherwise compliant MSB became the target in a § 1341 (fraud) investigation.

Lack of access to banking is common for lawful businesses operating on the fringe. In one case, we represented an international seller of online pornography that was fully compliant with U.S. law, but had extraordinary difficulties maintaining bank accounts due to the nature of its business. So, before we were engaged, the company established a shell U.S. company and obtained an operating account for the shell at a small bank in the South. Soon after the account was opened, the bank realized the actual nature of the client’s business and called in the federal government. The client avoided criminal charges, but a fair amount of money was forfeited following the ensuing investigation.

We have also seen this issue play out for casas de cambio operating in Argentina and Venezuela. Due to strenuous currency controls, those businesses desperately need access to U.S. dollars and U.S. bank accounts. Knowing how unlikely it is that a U.S. bank will open an account for them, the casa de cambio will open a shell company in the U.S. and establish a bank account for the shell. In some cases, the casa de cambio will close the account before the bank catches on, but in other cases the lie is revealed and the criminal investigation ensues.

State-sanctioned marijuana dispensaries are experiencing this issue today. Even though they are perfectly lawful under state law, the federal government deems them to be “high risk,” and banks are refusing to do business with them. In a recent Bloomberg article addressing the issue, an expert gave this advice: “As long as the bank doesn’t find out, you should be safe.” It is easy to understand why this advice is so bad. Several members of Congress are currently sponsoring legislation designed to allow state-sanctioned dispensaries to obtain bank accounts, and hopefully new laws will help dispensaries avoid the worst case scenario.

While we recognize the critical importance of bank accounts, we urge people to be truthful and complete during the account opening process. There are legitimate ways around this problem, and no matter how valuable the account may be, it is nowhere near as valuable as your freedom.

The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of anti-money laundering compliance, administrative law, constitutional law, white collar criminal defense and litigation against the U.S. Department of Justice. You can reach an attorney by emailing us at contact@fidjlaw.com or by calling us at 305.350.5690.

United States v. Lang: Eleventh Circuit Clarifies How Structuring Violations Must be Pled in Federal Criminal Cases

On October 3, 2013, the United States Court of Appeals for the Eleventh Circuit issued its decision in United States v. Lang clarifying how future indictments for structuring in violation of 31 U.S.C. § 5324(a)(3) must be pled. The decision is a game changer as it limits the ability of prosecutors to bring counts for each sub-threshold transaction used to evade reporting requirements within the greater structuring scheme. A copy of the decision can be read here.

Generally speaking, the Bank Secrecy Act (“BSA”), found at 31 U.S.C. § 5311 et seq., requires U.S. financial institutions to assist in the detection and prevention of money laundering. More specifically, the BSA requires that financial institutions file reports with the United States Department of the Treasury of all cash transactions which exceed a daily aggregated amount of $10,000. See 31 U.S.C. § 5313; 31 C.F.R. §§ 1010.311, 1010.313. In order to prevent circumvention of this reporting requirement, the BSA further prohibits attempts to “structure” transactions for the purpose of evading BSA currency reporting requirements. See 31 U.S.C. § 5324(a)(3); 31 C.F.R. § 1010.314.

The implementing regulations of the BSA define “structuring” as follows:

For purposes of § 1010.314, a person structures a transaction if that person, acting alone, or in conjunction with, or on behalf of, other persons, conducts or attempts to conduct one or more transactions in currency, in any amount, at one or more financial institutions, on one or more days, in any manner, for the purpose of evading the reporting requirements under §§ 1010.311, 1010.313, 1020.315, 1021.311 and 1021.313 of this chapter. “In any manner” includes, but is not limited to, the breaking down of a single sum of currency exceeding $10,000 into smaller sums, including sums at or below $10,000, or the conduct of a transaction, or series of currency transactions at or below $10,000. The transaction or transactions need not exceed the $10,000 reporting threshold at any single financial institution on any single day in order to constitute structuring within the meaning of this definition.

See 31 C.F.R. § 1010.100(xx).

However, when a transaction has been structured, a question arises as to how many structuring crimes have occurred. In other words, the issue in such situations is whether a person may be separately charged with violating 5324(a)(3) for the act of structuring itself and for each sub-threshold transaction made in furtherance of the crime. In Lang, the 11th Circuit answered this question with a resounding no.

In Lang, the defendant was indicted on 85 counts of violating § 5324(a)(3), and each count of the indictment charged as a separate structuring crime a currency transaction involving a single check in an amount less than $10,000. In finding that the indictment was insufficient and vacating the conviction, the 11th Circuit initially turned its focus to the phrase “for the purpose of evading” found within 31 C.F.R. § 1010.100(xx). As explained by the court, “[i]n order to be “for the purpose of evading” the reporting requirements, the structured transaction must involve an amount that is more than $10,000; otherwise, evasion would not be necessary or possible because there would be no reporting requirement anyway.” Building on this logic, the court held that “the proper unit of prosecution in structuring is the amount exceeding the reporting threshold that is structured into smaller amounts below that threshold, not each of the resulting sub-threshold transactions.”

In Lang”s case, the court found that the indictment was insufficient because of how the Government drafted each count. As explained by the court, “[i]nstead of a series of counts each alleging a payment or payments totaling more than $10,000 that were structured into checks of smaller amounts…the indictment consists of 85 counts each of which separately alleges that a single check in an amount less than $10,000 was structured. That is not possible.” Simply put, “[a]cash transaction involving a single check in an amount below the reporting threshold cannot in itself amount to structuring because the crime requires a purpose to evade the reporting requirements, and that requirement does not apply to a single cash transaction below the threshold.” As a result, the court vacated the judgment against Lang and remanded the case with directions that the indictment be dismissed.

The decision in Lang restricts the ability of prosecutors to charge defendants with separate counts of structuring for each sub-threshold transaction used to evade reporting requirements within the greater structuring scheme.

The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of anti-money laundering compliance, administrative law, constitutional law, white collar criminal defense and litigation against the U.S. Department of Justice. You can reach an attorney by emailing us at contact@fidjlaw.com or by calling us at 305.350.5690.

FDA Medical Device Regulation Update: FDA Issues Final Rule for Unique Device Identification System

On September 20, 2013, the U.S. Food and Drug Administration (“FDA”) announced the issuance of the final rule for the Unique Device Identification System (“UDI System”). The final rule sets forth the labeling and reporting criteria for medical devices, combination products that contain devices, and devices licensed under the Public Health Service (“PHS”) Act. In its press announcement, the FDA explained that the UDI System was developed to help “identify product problems more quickly, better target recalls, and improve patient safety.” (For additional coverage of the FDA’s final rule for the UDI System, please read Reuters’ article here and Bloomberg BNA’s article here.)

The medical device industry has anxiously awaited the FDA’s final rule for the UDI System since 2007, when President Bush signed the Food and Drug Administration Amendments Act (“FDAAA”). Despite pressure from industry and lawmakers, the FDA failed to release a final rule in a timely fashion. In 2012, President Obama signed the Food and Drug Administration Safety and Innovation Act (“FDASIA”), which imposed on the FDA mandatory publication deadlines. Thereafter, on July 10, 2012, the FDA issued a proposed rule for the UDI System.

UDI System Requirements

The UDI System requires certain medical devices to bear a UDI on the device’s package and label. The UDI System is comprised of two main parts: 1) the device identifier (“DI”) and 2) the production identifier (“PI”). The DI is a mandatory, fixed portion of the UDI that identifies the labeler and the specific version of a model of a device. The PI is a conditional or variable portion of the UDI that identifies one or more of the following when included on the label of a device: the lot or batch number of the device, the serial number of a device, the expiration date of a device, the device’s manufacturing date, and if the product is a human cell, tissue, or cellular and tissue-based product (“HCT/P”) regulated as a device, a distinct identification code.

The final rule articulates target dates by which medical devices are expected to comply with the applicable UDI regulations. These compliance dates come into effect as early as 2014 and as late as 2020. Within one year of the publication of the final rule for the UDI System, all class III medical devices and devices licensed under the PHS Act must bear a UDI. Class II medical devices are expected to bear a compliant UDI within three years of the publication of the final rule, and all class I, II, and III medical devices must bear a UDI within five years of the publication of the final rule. Within seven years of the publication of the final rule, all Class I devices and devices that have not been classified into any class are required to bear a UDI as a permanent marking on the device if the device is intended to be used more than once and intended to be reprocessed before each use. (For a more detailed explanation of the FDA’s compliance dates, please click here.)

Global Unique Device Identification Database

In addition to specific requirements for UDI labeling, the FDA will also require medical device manufacturers to submit information about the devices to the FDA. Together with the final rule for UDI labeling, the FDA released the Draft Guidance for the Global Unique Device Identification Database (“GUDID”). The GUDID is a new database that will serve as a “repository of key device identification information.” The draft guidance explains that manufacturers of medical devices are required to submit information about the labeler and the device model to the FDA, which will be entered into and publicly searchable through the GUDID. Production Identifier information, on the other hand, does not need to be submitted to or stored in the GUDID. The FDA is currently accepting public comments on the draft guidance and recommends submitting a comment for consideration before November 25, 2013.

The FDA’s staggered timeline for compliance with the new UDI System provides industry with considerable time to modify their device labeling and reporting operations in accordance with the new regulations. Consumers and advocates for the UDI requirements, however, seem dismayed by the lengthy implementation timeline. In addition to the six years it took the FDA to finalize the UDI regulations, consumers will have to wait another seven years for the UDI medical device tracking system to be fully functional and operational.

Fuerst Ittleman David & Joseph, PL will continue to monitor any new developments in the implementation of the UDI System and the GUDID. Our regulatory attorneys are experienced in working with medical device companies to ensure product labeling is compliant with all FDA laws and regulations. If you need assistance with your medical device or have further questions about these new changes to medical device labeling, please do not hesitate to contact us via email at contact@fidjlaw.com or by telephone at (305) 350-5690.

IRS Requiring Taxpayers to File FBARs Electronically Raises Concerns About Delinquent Filing and Offshore Voluntary Disclosure Program

In recent years, the United States government has intensified its efforts to collect taxes on income generated by offshore bank accounts and financial holdings.  A key tool in these enforcement efforts is a provision under the Bank Secrecy Act requiring United States persons (generally U.S. citizens, green card holders, or individuals spending a certain number of days in the United States within the last three years), or non-resident aliens located and doing business within the United States, to disclose annually to the Treasury Department a  financial interest in, or signature authority over, a foreign financial account (including bank accounts, brokerage accounts, mutual funds, trusts, or other types of foreign financial accounts).  The method of reporting these accounts to the IRS is by filing a Report of Foreign Bank and Financial Accounts (FBAR).

Until recently, FBAR filings could be made electronically or on paper.  However, new rules effective July 1, 2013 require FBAR filings to be made electronically.  These rules have raised concerns that taxpayers filing delinquent FBARs will not be able to adequately explain the reason for the delinquent filing and thus become subject to penalties.

General Qualifications of and Exemptions to Mandated FBAR Reporting

Generally, United States persons (which includes business entities and trusts created or formed in or under the laws of the United States), and non-U.S. persons located in and doing business within the United States, must file an annual FBAR disclosing the existence of all foreign financial accounts in which they hold a financial interest, or on which they hold signatory authority, if the aggregate value of the accounts exceeds $10,000 at any time during the calendar year.

Several exceptions apply to the FBAR filing requirement.  Generally, parties that hold signatory power but no financial interest in a foreign account, holders of interests in accounts owned by foreign governments, IRA owners and beneficiaries, United States persons included in a consolidated FBAR, participants in, and beneficiaries of, tax-qualified retirement plans (e.g. a qualifying defined benefit plan), and trust beneficiaries (so long as the trust itself files the necessary report), are all generally exempt from the FBAR filing requirement.

If a taxpayer does not fit into one of the exemption categories and he or she holds an interest in or signatory authority over a foreign financial account the taxpayer must file an FBAR.

Mechanics of FBAR Filing and a New Electronic Filing Requirement

Parties subject to the FBAR filing requirement must file their FBAR (via TD F 90-22.1) by June 30 of the year following the year subject to reporting (for example, FBARs for 2012 must have been filed by June 30, 2013).  It is important to note that the FBAR is filed with the Financial Crimes Enforcement Network (FinCEN), not the IRS.

As of July 1, 2013, all FBARs must be filed electronically on the prescribed form (TD F 90-22.1) unless an exemption from electronic filing is requested and granted.  Amendments to previously filed FBARs must also be made electronically.  Previously, FBARs could be filed electronically or on paper, even after the FinCEN announced its E-File program in 2011.  Because FBARs for 2012 were required to be filed by June 30, 2013, the the new electronic filing requirement will primarily effect taxable year 2013 FBAR filers or delinquent 2012 filers.

FBAR Penalties and the Reasonable Cause Exception

The new electronic filing requirement has raised the concern among commentators that the required form in its current state does not contain a section to explain any delinquencies or past failures to file an FBAR.

An opportunity to explain past non-compliance with the FBAR requirements can be important for taxpayers seeking to avail themselves of the “reasonable cause” exception to the penalties imposed as a result of FBAR non-compliance.  Specifically, failure to timely file or properly complete an FBAR can give rise to civil penalties of up to $10,000 per violation.  Willful violations, for which there can be no reasonable cause exception, give rise to penalties up to the greater of $100,000 or half the balance of the subject account and may expose the violator to criminal liability.

Penalties for non-willful violations will not be imposed where the late filing or failure to file was the result of “reasonable cause,” and where all income from the subject account(s), and the account’s balance, were properly reported.  Reasonable cause in this context is determined by examination of all of the facts and circumstances applicable to each taxpayer.  IRS guidance indicates that factors that weigh in favor of a finding of reasonable cause include reliance on the advice of a professional tax advisor knowledgeable of all relevant facts, the fact that the subject account(s) were established for legitimate purposes, that no efforts were made to conceal income or assets, and there was no tax deficiency related to the unreported foreign account.  No single factor is determinative.

Because circumstances constituting “reasonable cause” are often detailed and varied, and the opportunity to fully explain the circumstances would clearly benefit a taxpayer in his or her efforts to avail himself of the reasonable cause exception.  However, until a new electronic form providing space to explain a delinquent filing becomes available at the end of September, FBAR filers appear to be without that opportunity.  IRS guidance indicates that before the new form allowing for electronic submission of reasonable cause explanations becomes available, FBAR filers should create a statement but retain it for use if the IRS subsequently requests it rather than submit it with their FBAR filing.

To access FinCEN’s electronic filing system, a party must first register in the Bank Secrecy Act filing system.  Third parties other than the subject taxpayer may complete the FBAR and its electronic filing and serve as the taxpayer’s liaison with the FinCEN provided that the third party representative registers with the Bank Secrecy Act filing system.  A new form (FinCEN 114(a)) is used to document a taxpayer’s authorization of a third party representative.

Relationship between FBARs and the Offshore Voluntary Disclosure Program

In January 2012, the IRS reopened the Offshore Voluntary Disclosure Program (OVDP) to allow taxpayers with unresolved tax issues relating to assets held abroad to resolve those issues with reduced penalties by fully disclosing the existence of those assets to the IRS.  The IRS reopened the program in response to continued interest in the program following its implementations in 2009 and 2011.  Depending on a taxpayer’s circumstances, FBAR filing may also be part of a taxpayer’s OVDP reporting.

Taxpayers who failed to file FBARs in the past and failed to pay taxes on related income can take advantage of the OVDP by filing full and complete FBARs for the applicable years, paying any tax owed on the disclosed accounts, paying any applicable failure to pay penalties (IRC § 6651) or failure to file penalties (IRC § 6652), and paying a penalty equal to 27.5 % of the highest aggregate balance in the taxpayer’s foreign accounts over the period covered by the voluntary disclosure.

This flat penalty subsumes FBAR and other potentially applicable penalties (including willfulness penalties) and may therefore provide a significant reduction in overall tax liability, especially for those taxpayers with significant offshore holdings.  Whereas a finding of willfulness could lead to a penalty equal to 50 % of the offshore account’s balance, under the OVDP that penalty is cut almost in half.

Taxpayers who reported, and paid tax on, all their taxable income from whatever source, but failed to file FBARs, cannot take advantage of the OVPD program.  Instead they are required to file delinquent FBARs pursuant to the standard procedure (which now mandates electronic filing of FBARs, as described above).  According to IRS guidance, FBAR penalties will not be imposed for failure to file timely FBARs if there are no underreported tax liabilities and the taxpayer has not been contacted regarding an income tax examination or a request for delinquent returns.

For taxpayers who failed to file FBARs and failed to report and pay tax on related income, and who choose to participate in the OVPD program, FBARs must be filed as part of the voluntary disclosure.  Although there is no express requirement to file OVDP documents electronically, it appears that the electronic filing requirement applicable to FBARs extends to the OVDP context.  See Offshore Voluntary Disclosure Program Frequently Asked Questions and Answers at No. 44, found here.

The attorneys at Fuerst Ittleman David & Joseph, PL have extensive experience in the areas of tax and banking regulation compliance.  They will continue to monitor any future changes relating to FBARs or the OVDP. If you have any questions, an attorney can be reached by emailing us at contact@fidjlaw.com or by calling 305.350.5690.