Do FBAR Penalties Die With the Taxpayer? – Houston Tax Attorneys

When someone has an undisclosed foreign bank account that the government has not yet assessed penalties for and they die, can the government still pursue the penalties?

The answer hinges on a fundamental legal classification that courts are actively debating—are FBAR penalties primarily punitive fines or remedial damages? If FBAR penalties are primarily punitive, they might extinguish upon death like other penal sanctions. If they’re primarily remedial, they survive as claims against the estate.

With potential penalties reaching millions of dollars, this distinction could determine whether beneficiaries receive their intended inheritance or whether an estate is largely consumed by government penalties. A recent case United States v. Leeds, No. 22-cv-01234 (D. Idaho March 7, 2025), addresses this issue.

Facts & Procedural History

The taxpayer here was a U.S. citizen. He died in November of 2021. Prior to his death, he had maintained two Swiss bank accounts for more than three decades.

The first account was opened in his name at EFG Bank in 1980. The second account was opened at the same bank in 1997 under the name of an entity that the taxpayer controlled as director and beneficial owner.

Throughout his life, the taxpayer took extraordinary measures to conceal these accounts from the IRS. He used pseudonyms to manage the accounts. He implemented “hold mail” instructions to prevent receiving documentation at his residence. He even consistently denied having foreign accounts when directly asked by his accountant and on his tax returns.

During the tax years at issue (2006-2012), the taxpayer maintained more than half his total income in these accounts. For example, while his original tax return for 2006 reported income of $67,178, his later amended return disclosed his actual income was $184,766, with the difference largely attributable to undisclosed foreign income.

In 2014, with FATCA implementation looming and Swiss banks preparing to share account information with the U.S., the IRS began investigating the taxpayer. He initially applied for the Offshore Voluntary Disclosure Program (“OVDP”) but later opted out. After examination, the IRS determined his FBAR violations were willful and in September 2020 assessed penalties totaling approximately $1.5 million.

After the taxpayer’s death

After the taxpayer’s death, the government filed an action in federal district court against his widow, in her capacity as personal representative of his estate, seeking over $2 million in willful FBAR penalties, late-payment penalties, and interest. The widow was appointed as personal representative solely for defending against this tax litigation, as no formal probate proceedings had been initiated. Following discovery, the government moved for summary judgment against the estate, which resulted in the court’s opinion in this case.

FBAR Requirements and Penalties

The Bank Secrecy Act requires U.S. persons (including estates) to file an FBAR reporting foreign financial accounts exceeding $10,000 in aggregate value during the calendar year. These reports must be filed electronically by April 15 of the following year, with an automatic extension to October 15.

The penalties for non-compliance vary significantly based on whether the violation is deemed willful or non-willful. Non-willful violations carry a maximum penalty of $10,000 per violation. Willful violations, however, result in much harsher penalties: the greater of $100,000 or 50% of the account balance at the time of the violation. We have addressed various aspects of these rules in several other articles on this website, such as there being no collection remedies for FBAR penalties and there being no minimum limit on willful penalties.

In this case, the willful FBAR penalties assessed against the taxpayer were approximately $1.5 million, with late-payment penalties and interest bringing the total to over $2 million by the time of the government’s action against his estate.

Penal vs. Remedial Sanction?

The taxpayer’s widow argued that the FBAR penalties were “extinguished” when the taxpayer died. This argument is based on the long-standing legal principle that purely penal sanctions abate upon death, while remedial ones survive.

The distinction makes intuitive sense—punishment serves no purpose when the wrongdoer is deceased, but compensation for damages remains valid regardless of the wrongdoer’s status.

To determine whether a penalty is penal or remedial, court in this case applied factors from Hudson v. United States, 522 U.S. 93, 99-100 (1997), examining whether the sanction:

Involves an affirmative disability or restraint
Has historically been regarded as punishment
Comes into play only on a finding of scienter (knowledge of wrongdoing)
Promotes retribution and deterrence
Applies to behavior that is already a crime
Has an alternative purpose
Appears excessive in relation to the alternative purpose

In applying these factors, the court concluded that FBAR penalties are “primarily remedial with incidental penal effects” for purposes of survival. Under this classification, the penalties survived Richard’s death and remained enforceable against his estate.

Remedial for Survival, Punitive for the 8th Amendment

The court also addressed whether these same FBAR penalties constitute “fines” subject to the Eighth Amendment’s Excessive Fines Clause. This raises the question as to how can a penalty be remedial enough to survive death but punitive enough to qualify as a “fine” under the Constitution?

This precise issue has created a circuit split. The First Circuit in United States v. Toth, 33 F.4th 1 (1st Cir. 2022) held that FBAR penalties are not “fines” under the Eighth Amendment because they merely represent “liquidated damages” that compensate the government for investigation costs. The Supreme Court denied certiorari in Toth, though Justice Gorsuch dissented, criticizing the government for making no effort to prove the remedial nature of the penalties.

In direct conflict, the Eleventh Circuit in United States v. Schwarzbaum, No. 22-14058 (11th Cir. Jan. 23, 2025) held that FBAR penalties are “fines” subject to Eighth Amendment review because they are calculated “irrespective of the magnitude of financial injury to the United States.” In Schwarzbaum, the court found a $300,000 penalty for failing to report a $16,000 account was “grossly disproportional” and violated the Constitution.

In the present case

In the present case, the court found the Eleventh Circuit’s reasoning more persuasive, concluding that while FBAR penalties have remedial aspects sufficient to survive death, they also have significant punitive characteristics that trigger Eighth Amendment scrutiny. The court acknowledged this apparent contradiction in a footnote, stating that the conclusion “is not inconsistent” because “the test in the Excessive Fines context remains whether the purpose of the penalty is solely compensatory.”

Why This Matters for Executors

This contradiction creates both uncertainty and opportunity for executors. If the Supreme Court eventually resolves the circuit split by deciding that FBAR penalties are primarily punitive, it could undermine the rationale for their survival after death. This would fundamentally change how executors handle estates with unreported foreign accounts.

Until such resolution occurs, executors should approach estates with potential FBAR issues with caution, understanding that:

Currently, courts uniformly hold that FBAR penalties survive death and remain enforceable against estates.
The constitutional question about whether these penalties are “fines” subject to Eighth Amendment protection remains unresolved, with a clear circuit split.
Even in jurisdictions following Schwarzbaum and Leeds, where FBAR penalties are considered “fines,” the excessive fines analysis only provides protection against grossly disproportional penalties—not against all penalties.
The Leeds case created an important distinction between estate liability and personal liability, finding that penalties that were not excessive against the taxpayer’s estate would be excessive if imposed against the surviving spouse personally due to her lack of knowledge about the accounts.

The Takeaway

For executors, this case explains that FBAR penalties survive death and remain enforceable against the estate regardless of how they’re classified for constitutional purposes. However, the seemingly conflicting legal analysis—remedial enough to survive death but potentially punitive enough for Eighth Amendment protection—suggests this area of law may continue to evolve. The constitutional classification of FBAR penalties as “fines” offers a potential defense against grossly disproportional penalties, but doesn’t currently change the fundamental rule that these obligations survive the death of the account holder and must be addressed during estate administration.

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Stephan Dorsey

Stephan is the sports journalist for the Maple Grove Report.

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Recent Reviews

Substantial Variance Doctrine for Informal Tax Refund Claims – Houston Tax Attorneys

Taxpayers often submit refund claims when they discover that they overpaid their taxes. Taxpayers usually do this by submitting a formal refund claim using the IRS’s prescribed forms. But this is not always required.

In many cases, taxpayers will submit so-called “informal refund claims” to the IRS during the course of an IRS audit. The IRS treats these informal claims as a refund claim as if the proper tax forms were filed. Given that the tax forms are often not used for informal claims, there may be less certainty as to what the taxpayer’s claim entails. The informal claim itself may just be various business records, complications, etc. or a myriad of other records that the taxpayer submits to the auditor.

This leads to the question as to whether the “variance doctrine,” which can prohibit taxpayers from litigating certain claims in court if they differ substantially from the taxpayer’s position on audit, applies to informal refund claims. The recent Express Scripts, Inc. v. United States, No. 4:21-cv-00035-HEA (E.D. Mo. Feb. 24, 2025) case provides an opportunity to consider this question.

Facts & Procedural History

The taxpayer in this case is a pharmacy benefit manager. It processes prescription drug claims for health plan sponsors and operates mail-order pharmacies.

During an IRS examination, the taxpayer submitted informal claims to the IRS auditor for Section 199 domestic production tax deductions that it omitted from its originally-filed tax returns.

As part of this process, the company provided the IRS with detailed workpapers and memoranda categorizing various revenue streams. These documents specifically identified certain “rebate” revenue and portions of their “mail claims” revenue (those manually entered into their system) as non-qualifying revenue streams that should be excluded from their Domestic Production Gross Receipts (“DPGR”) calculations. The taxpayer took the same positions in the formal administrative refund claims they later filed with the IRS for refunds for the years 2010, 2011, and 2012.

Nearly a decade after the initial claims, the taxpayer determined that both the rebate revenue and manually entered mail claims were qualifying for the Section 199 deduction. The taxpayer filed suit seeking refunds of federal income taxes for tax years 2010, 2011, and 2012, claiming it properly qualified for the Section 199 tax deduction for its rebate revenue and manually entered mail claims.

The government moved to dismiss the portions of the refund claims relating to rebate revenue and manually entered mail claims, arguing that the taxpayer was barred by the “substantial variance doctrine” from including revenue streams in tax litigation when they had specifically excluded them during the administrative claims process.

The Framework for Tax Refund Claims

Section 7422(a) allows taxpayers to sue the government for tax refunds. This is one of the permissible means to litigate a tax issue.

Section 7422 states that no suit for tax recovery can be maintained in any court “until a claim for refund or credit has been duly filed with the Secretary, according to the provisions of law in that regard, and the regulations of the Secretary established in pursuance thereof.”

This is the foundation for what courts often call the “pay first, litigate later” system for tax disputes. Under this framework, taxpayers must first pay the disputed tax, then file an administrative refund claim with the IRS, and only afterward can they pursue litigation if the IRS denies their claim or fails to act within six months.

The treasury regulations provide specific requirements for these administrative refund claims. Treasury Regulation § 301.6402-2(b) states that a claim “must set forth in detail each ground upon which a credit or refund is claimed and facts sufficient to apprise the commissioner of the exact basis thereof.” This regulation serves as the foundation for the substantial variance doctrine that limits what taxpayers can argue once they get to court.

What Is the Substantial Variance Doctrine?

The substantial variance doctrine operates as a jurisdictional limitation on tax refund litigation. As articulated in Lockheed Martin Corp. v. United States, 210 F.3d 1366, 1371 (Fed. Cir. 2000), which involved a research tax credit, a taxpayer is barred from presenting claims in a tax refund action that “substantially vary” the legal theories and factual bases set forth in the tax refund claim presented to the IRS.

The doctrine has two distinct branches: one addressing legal theories and another addressing factual bases. For legal theories, the rule states that “any legal theory not expressly or impliedly contained in the application for refund cannot be considered by a court in which a suit for refund is subsequently initiated.” This means taxpayers cannot pursue entirely new legal arguments in court that weren’t presented to the IRS.

The factual variance branch, which was at issue in the Express Scripts case, prohibits taxpayers from substantially varying the factual bases raised in their refund claims. This rule is not all that strict. Minor factual variations are permitted. Taxpayers cannot introduce entirely new factual elements that the IRS never had an opportunity to consider.

Why Does the Variance Doctrine Exist?

The substantial variance rule serves three primary purposes. First, it gives the IRS notice as to the nature of the claim and the specific facts upon which it is predicated. This notice function ensures that the IRS understands exactly what the taxpayer is claiming and why.

Second, it gives the IRS an opportunity to correct errors administratively. This purpose reflects the preference for resolving tax disputes at the administrative level rather than through costly litigation.

Third, it limits any subsequent litigation to those grounds that the IRS had an opportunity to consider and is willing to defend. This purpose helps ensure that courts aren’t faced with entirely new claims that the IRS never had a chance to review.

These purposes reflect the fundamental principle that tax litigation over refund claims is meant to be a review of the IRS’s administrative determination, not an entirely new proceeding where taxpayers can raise new issues.

Applying the Variance Doctrine to Informal Claims

Most refund claims follow the formal procedures outlined in IRS regulations, typically involving the filing of Forms 1040X for individuals, Forms 1120X for corporations, etc. However, courts have long recognized the “informal claim doctrine,” which allows taxpayers to satisfy the administrative claim requirement through less formal means.

An informal claim can suffice when it puts the IRS on notice that the taxpayer is seeking a refund, describes the legal and factual basis for the refund, and has some written component. IRS audits often provide opportunities for taxpayers to make these informal claims as part of the examination process.

The taxpayer in this case made its initial claims through informal claims during an IRS examination, providing detailed workpapers and memoranda. But does the variance doctrine apply differently to informal claims than to formal ones?

The answer is no. Courts have consistently held that the substantial variance doctrine applies equally to informal claims. In fact, the requirements for specificity can be even more important for informal claims, as the IRS must be able to determine from sometimes less structured submissions exactly what the taxpayer is claiming. This case is an example of the court applying the variance doctrine to informal claims.

Merely Additional Evidence of the Amount

The taxpayer argued that the variance doctrine did not apply as the inclusion of rebates and manually entered pharmacy claims merely represented “additional evidence” of the amount of their Section 199 deduction. They contended that because they were still seeking the same Section 199 deduction, there was no substantial variance in their legal theory.

The court rejected this argument, focusing on the fact that the taxpayer had “specifically excluded these amounts throughout the entire administrative claims period and indeed, through this action until it was asserted in the expert reports.” The court found that the taxpayer’s addition of this revenue “changes the facts upon which the IRS assessed Plaintiffs’ claims.”

The court emphasized that Express Scripts “specifically declined to include these items in its claim. As such, the IRS was not given the opportunity to review whether they were properly designated as gross receipts.” Because the IRS never had the opportunity to consider whether these additional revenue streams qualified for the deduction, the substantial variance doctrine barred their inclusion in the litigation.

What if the IRS Reviews the Position on Audit?

The taxpayer also argued that the IRS had waived the substantial variance doctrine by considering the allocation of DPGR. This approach reflects a strategy sometimes used in tax audits where taxpayers argue that the IRS has effectively waived technical requirements by addressing the merits of a claim.

The court rejected this waiver argument on factual grounds, noting that the taxpayer had “specifically exempted the rebates and manually entered mail pharmacy claims” from consideration, so the IRS “could not have considered the merits of these claims because they were not before the IRS for examination.”

The court’s reasoning highlights a critical point: taxpayers cannot claim waiver based on the IRS’s consideration of issues that were never actually presented to the IRS. The waiver argument can only work when the IRS actually considers facts or theories that were raised in the administrative claim.

The Takeaway

This case shows how important it is to provide clear detail and consistency when submitting tax refund claims to the IRS. This includes informal claims submitted to the IRS on audit. Taxpayers who specifically exclude certain factual bases from their administrative refund claims—whether formal or informal—may not be able to later include those bases in litigation, even if their legal theory remains unchanged. The substantial variance doctrine operates as a jurisdictional bar in these cases, which can serve to deny the taxpayer their day in court.