From the United States Supreme Court’s ruling on penalties for nonwillful Foreign Bank and Financial Accounts (FBAR) violations to the New York Court of Appeals’ broad reading of New York’s long-arm jurisdiction statute in a breach of contract case, we have recently seen significant developments in estate planning and business law. To ensure that you stay abreast of these legal changes, we have highlighted some noteworthy developments and analyzed how they may impact your estate planning and business law practice.
US Supreme Court: Penalties for Nonwillful FBAR Violations Accrue on a Per Report, Not Per Account, Basis
Bittner v. United States, 143 S. Ct. 713 (Feb. 28, 2023)
Alexandru Bittner, a dual US-Romanian citizen, lived in both countries and maintained bank accounts in both countries at different points in time. While living in the United States in 2011, Bittner learned that he had inadvertently failed to comply with the Bank Secrecy Act (BSA), which requires residents or citizens of the United States and persons doing business in the United States who possess foreign financial accounts with a balance of more than $10,000 to file an annual report called the Report of Foreign Bank and Financial Accounts (FBAR). An FBAR facilitates the US government’s ability to trace funds that could be used for illicit purposes or taxable income that may not have been reported.
When Bittner realized that he was subject to the reporting requirements and had not complied with the BSA, he prepared FBARs for years 2007 through 2011. However, the government notified Bittner that the reports were incomplete because they did not address twenty-five accounts in which he had an interest or signatory authority. Bittner filed corrected FBARs providing information that was more detailed than required by the governing regulations.
The government did not dispute the accuracy of Bittner’s new FBARs and did not assert that the previous errors were willful. However, it asserted that he owed a fine of $2.72 million because the $10,000 fine per violation was applicable to each account that was not accurately or timely filed rather than each untimely or inaccurate report. The Fifth Circuit Court of Appeals agreed with the government, holding that the $10,000 fine for nonwillful violations of the BSA applied on a per account basis. The Ninth Circuit Court of Appeals had come to a contrary conclusion in United States v. Boyd, 991 F.3d 1077 (9th Cir. 2021), holding that for nonwillful violations, the fine applied on a per report rather than per account basis.
To resolve the conflict between the Fifth and Ninth Circuits, the US Supreme Court granted Bittner’s petition for certiorari. The court first looked to the language of the relevant statutes, 31 U.S.C. § 5314 and § 5321. Section 5314(a) states that the Secretary of the Treasury must require residents or citizens of the United States and persons doing business in the United States to “keep records, file reports, or keep records and file reports” when they “mak[e] a transaction or maintai[n] a relation” with a “foreign financial agency.” The court noted that section 5314 did not include the word “account”, but instead imposed a legal duty to file reports. The statutory duty to submit a compliant report is violated when the report is filed late or contains errors, regardless of the number of errors and whether the mistake is willful or nonwillful.
The court then addressed the distinction in the statutory penalties applicable to willful and nonwillful errors set forth in 31 U.S.C. § 5321. Section 5321(a)(5) provides for a penalty of $10,000 for “any violation” of section 5314. The court noted that it “does not speak of accounts or their number” but instead “pegs the quantity of nonwillful penalties to the quantity of ‘violation[s].’” Bittner v. United States, 143 S. Ct. 713, 719 (Feb. 28, 2023). Based on the language of the statute, the court concluded that “multiple deficient reports may yield multiple $10,000 penalties, and even a seemingly simple deficiency in a single report may expose an individual to a $10,000 penalty. But in all cases, penalties for nonwillful violations accrue on a per-report, not a per-account, basis.” Id. at 720.
The court distinguished the language of section 5321(a)(5)(C)(i)(I), which imposes penalties of up to $100,000 for willful violations of section 5314, with section 5321(a)(5)(D)(ii), which is applicable to a specific category of willful violations—that is, a failure to report “the existence of an account or any identifying information required to be provided with respect to an account.” In cases involving section 5321(a)(5)(D)(ii) violations, the Secretary of the Treasury may impose a penalty of either $100,000 or 50 percent of the balance of the account at the time of the violation. In addition, section 5321(a)(5)(B)(ii) provides a reasonable cause exception only on a showing of per account accuracy.
The court rejected the government’s argument that Congress’s explicit authorization of penalties on a per account basis for some willful violations meant that the court should infer that nonwillful violations should also be penalized on a per account basis. Rather, the court adhered to the traditional rule of statutory construction: when Congress includes specific language in one section of a statute but omits it from another section, the difference conveys a difference in meaning. Had “Congress wished to tie sanction to account-level information, it knew exactly how to do so.” Bittner, 143 S. Ct. at 720. Instead, the per account language does not appear in “the one place in the statute where the government needs [it] to appear.” Id. at 721.
The court also noted that guidance provided by the government to the public in the form of warnings, fact sheets, and instructions indicating that a person who fails to properly file an FBAR could be subject to a penalty of up to $10,000 was inconsistent with its position in the case. The drafting history of the BSA and the Secretary of Treasury’s regulations provided further evidence that the BSA aimed to provide the government with a report sufficient to indicate a need for further investigation, not to provide every detail or to maximize the revenue the government could collect for each mistake. Further, the court stated that it has for many years adhered to a “rule of lenity,” requiring statutes that impose penalties to be strictly construed against the government and in favor of individuals.
In a five to four decision, the court reversed and remanded the case to the Fifth Circuit Court of Appeals for further proceedings consistent with its opinion.
Takeaways: The Bittner case is a win for taxpayers: Bittner is now likely subject to $50,000 in penalties, a substantial reduction from the $2.72 million originally assessed by the Internal Revenue Service (IRS). Although the Bittner decision clarified that nonwillful violations are penalized on a per report basis, it is obviously preferable for all clients to comply with the reporting requirements of the BSA to avoid penalties. The court itself recognized that many dual citizens are not aware that the BSA requires them to file reports for overseas financial accounts even when they live abroad, so clients with plans to open financial accounts abroad should be informed of their obligations and the potential for hefty fines for noncompliance. If clients have paid penalties for nonwillful violations on a per account basis, it is possible they may eventually be permitted to seek a refund from the IRS, but the procedure for claiming a refund has not yet been established.
Recent Florida Homestead Cases Address Tax Exemption and Waiver of Homestead Rights
Furst v. Rebholz, No. SC2020-1479, 2023 WL 2799413 (Fla. Apr. 6, 2023)
In 1996, Rod Rebholz applied for a homestead exemption for a two-story residential structure. Based on information in Rebholz’s application, county tax officials treated the entire structure as homestead property for tax years 2004 through 2013; homestead generally protects only the primary residence and does not apply to rental property. However, undisputed evidence established that Rebholz rented out space on the upper floor of the structure. One of Rebholz’s tenants, John Michael Beaumont, rented a unit from Rebholz during all of the tax years at issue. His rental agreement referred to his unit and rental rate.
Florida’s Constitution protects homestead property from creditors, restricts its alienation and devise, exempts it from some ad valorem taxes, and caps annual assessment increases at three percent (the Save Our Homes amendment). Florida’s legislature implemented the constitutional homestead tax exemption through Fla. Stat. § 196.031, which provides that when a property owner in good faith uses real property in the state as the permanent residence for themselves or their dependent, the homestead tax exemption applies to the residence and contiguous real property. The Save Our Homes assessment increase cap is related to the homestead tax exemption because it applies only to residences entitled to the exemption.
In 2014, the county property appraiser became aware that Rebholz may not have been entitled to a homestead exemption on the entire property. Under Fla. Stat. § 196.161(1)(b) and §193.155(10), the property appraiser must impose additional taxes that would have been due for up to the ten preceding years on individuals who have improperly received a homestead tax exemption or Save Our Homes benefit. Ultimately, the homestead exemption was revoked on 15 percent of the structure—Beaumont’s unit—but the remaining 85 percent was entitled to the homestead exemption. Rebholz paid $7,000 in back taxes, penalties, and interest, but sued the property appraiser, tax collector, and department of revenue for a refund and reinstatement of the homestead exemption for the entire property. The trial court found in favor of Rebholz, and its ruling was upheld by the Second District Court of Appeal.
On appeal, the Supreme Court of Florida held that there were two components that must be met to be eligible for the homestead tax exemption: ownership and residency. In this case, there was no dispute that Rebholz owned the property. The only question was the residency requirement and how it should be applied. The supreme court concluded that the lower courts had erred in determining that the entire structure was Rebholz’s residence for purposes of the homestead exemption. The legislature had defined “permanent residence” as “that place where a person has his or her true, fixed, and permanent home and principal establishment to which, whenever absent, he or she has the intention of returning.” Fla. Stat. § 196.012(17). However, the supreme court noted that determinations of whether a property is a permanent residence involve a factual inquiry into the actual use of the property. In considering the part of the structure Rebholz rented to Beaumont, the court determined that Rebholz did not use it as his residence, but gave exclusive use of that unit to Beaumont as set forth in the rental agreement.
The supreme court also determined that Fla. Stat. § 196.031(4) provided the property appraiser with the authority to apportion Rebholz’s property based on use for homestead tax purposes, because it provides that the homestead exemption can apply to “the portion of property” that is classified and assessed as owner-occupied residential property.
Takeaways: Florida property owners who rent out sections of their homes should take note that doing so may reduce the benefits of the homestead tax exemption. If the homestead exemption is improperly claimed for the entire property, they may have to pay back taxes and penalties. Homeowners who are considering renting out space in their permanent residence under a homestead exemption should weigh the potential for increased taxes compared to the amounts that will be earned as rental payments for the rented unit.
Thayer v. Hawthorn, No. 4D22-244, 2023 WL 2903993 (Fla. Dist. Ct. App. Apr. 12, 2023)
Doris and James Hawthorn were married in 1978 until James’s disappearance and presumed death in 2014. Doris and James did not have children together, but Doris had five children from prior relationships when she and James married. Doris owned certain real property in fee simple, but in 1987, she conveyed the property to herself and James as joint tenants with rights of survivorship via a quitclaim deed. In 2002, as part of their estate plan, Doris and James executed a warranty deed conveying one half of the property to their separate revocable living trusts. The deed named Doris and James as the grantors and as the grantees in their capacity as trustees of their separate trusts. The deed stated that as trustees, they each had “full power and authority to protect, conserve, sell, lease, encumber or otherwise to manage and dispose of the real property described herein, with each trustee having an undivided one-half interest as tenant in common.” Doris’s and James’s trusts both stated that the trusts would be for the benefit of the surviving spouse. Upon the death of the surviving spouse, Doris’s trust was to be disbursed to her children. James’s trust initially provided that his trust would be disbursed to his brother Gary, but in 2009, it was amended to leave 70 percent to Gary and 30 percent to Doris’s children.
Doris died in 2018, four years after James’s disappearance and one year after he was declared presumptively dead, and she was survived by her adult children. James’s brother Gary filed a petition to determine the homestead status of James’s one-half interest in the real property. Gary asserted that Doris had waived her homestead rights to James’s interest in the property via the warranty deed, but that the house located at the property and 0.25 acres were exempt homestead property. In their answer and counterpetition, Doris’s children asserted that James could not devise his share of the homestead pursuant to his trust because Doris had not waived her homestead rights in the property. Gary and Doris’s children both filed motions for summary judgment. The trial court ruled in favor of Gary on the basis that Doris and James had each waived their homestead rights in the other spouse’s one-half interest in the property. Alternatively, affidavits provided by their estate planning attorney showed that there was no dispute that Doris intended to waive her homestead rights in the interest of the property—0.25 acres—transferred to James’s separate trust.
On appeal, the Florida District Court of Appeal considered de novo whether the 2002 deed waived Doris and James’s homestead rights in each other’s interest in the property. Under Florida’s Constitution, the homestead is not subject to devise
if the owner is survived by spouse or minor child, except the homestead may be devised to the owner's spouse if there be no minor child. The owner of homestead real estate, joined by the spouse if married, may alienate the homestead by mortgage, sale or gift and, if married, may by deed transfer the title to an estate by the entirety with the spouse.
Fla. Const. Art. X, § 4(c). However, spouses may waive their homestead rights as set forth by Fla. Stat. § 732.702(1), which requires the waiver to be in writing and signed by the waiving party in the presence of two subscribing witnesses. Section 732.702(1) also states:
Unless the waiver provides to the contrary, a waiver of ‘all rights,’ or equivalent language, in the property or estate of a present or prospective spouse . . . , is a waiver of all rights to . . . homestead . . . , by the waiving party in the property of the other and a renunciation by the waiving party of all benefits that would otherwise pass to the waiving party from the other by intestate succession or by the provisions of any will executed before the written contract, agreement, or waiver.
In concluding that the language of Doris and James’s deed was insufficient to waive homestead rights, the court distinguished Stone v. Stone, 157 So. 3d 295 (Fla. Dist. Ct. App. 2014). In Stone, which the trial court had relied on to conclude that the deed was sufficient to waive homestead rights, the deed at issue had provided that the spouse “grants, bargains, sells, aliens, remises, releases, conveys, and confirms” the property “together with all the tenements, hereditaments, and appurtenances thereto belonging or in anywise appertaining.” Because the language of the deed conveyed the spouses’ inheritance interest, including homestead rights, and released the spouses’ rights in the property, it was more specific than the language in James’s and Doris’s deed. James’s and Doris’s deed merely “granted, bargained and sold” the property to the grantor and was insufficient to amount to a written waiver as required by Fla. Stat. § 732.702(1), as it did not contain language “clearly evincing a waiver of the homestead right.” Further, parol evidence in the form of the estate planning attorney’s testimony could not correct the deed because the statute required a written waiver. Accordingly, the court held that Doris became the owner of James’s homestead interest at his death and thus owned the entire homestead estate at her death.
Takeaways: Because of concern about lack of clarity regarding the language that would constitute a valid waiver of the homestead rights, Florida's legislature enacted Fla. Stat. § 732.7025, effective July 1, 2018, which provides the following safe harbor language: “By executing or joining this deed, I intend to waive homestead rights that would otherwise prevent my spouse from devising the homestead property described in this deed to someone other than me.” Although this statute had not yet been enacted when Doris and James executed their deed, spouses who include this or “substantially similar” language in their deed can now be assured that their waiver is legally valid.
Ohio Statute Allowing Postnuptial Agreements Now Effective
Am. Sub. S.B. 210, 134th Gen. Assemb. (Ohio 2023)
Ohio Senate Bill 210, effective March 23, 2023, altered longstanding Ohio law prohibiting postnuptial agreements. Under the law, a husband and wife may enter into a postnuptial agreement or modify or terminate an antenuptial or postnuptial agreement that alters their legal relations with each other. To be valid and effective, the following conditions must be met:
- The agreement must be in writing and signed by both parties.
- The agreement must be freely entered into with no fraud, duress, coercion, or overreaching.
- There must be full disclosure or knowledge and understanding of the nature, value, and extent of both spouse’s property.
- The agreement’s terms must not promote or encourage divorce or profiteering by divorce.
Iowa is the sole remaining state that prohibits postnuptial agreements.
Takeaways: Prenuptial agreements have long been legal in Ohio, but prior to the enactment of S.B. 210, a prenuptial agreement could not be amended or terminated after a couple was married. The new law will allow married couples to modify premarital agreements that no longer reflect the couples’ goals, have become outdated, or contain errors. Spouses who wish to enter into a postnuptial agreement should provide a full inventory of their assets reflecting the value of the assets and whether they are marital or nonmarital assets to ensure compliance with the “full disclosure” requirement. Each spouse should have their own legal counsel during the negotiations. Estate planners in all states should always inquire whether their married clients have a premarital or postnuptial agreement and ensure that their estate planning documents are consistent with any such agreements.
Tokenholders of DAO Could Be Jointly and Severally Liable if DAO Satisfies Elements of General Partnership
Sarcuni v. bZx DAO, No. 22-cv-618-LAB-DEB, 2023 WL 2657633 (S.D. Cal. Mar. 27, 2023)
Plaintiffs alleged in their complaint that the bZx DAO (a decentralized autonomous organization) operated a blockchain-based software called the bZx Protocol. They asserted that they had lost amounts ranging from $800 to $450,000 in a phishing attack due to the negligence of the DAO. The complaint further alleged that the co-founders of the original entity that controlled the software who were tokenholders, along with others, were partners in a DAO general partnership under California law, and thus, were jointly and severally liable for the negligence of the general partnership. Among other rulings, the United States District Court for the Southern District of California denied the defendants’ motion to dismiss on the basis that the plaintiffs had plausibly alleged that the DAO was a general partnership.
Under Cal. Corp. Code § 16202(a), an “association of two or more persons to carry on as co-owners of a business for profit forms a partnership, whether or not the persons intend to form a partnership.” The court therefore determined that the plaintiffs could sufficiently plead that a general partnership exists by alleging three elements: (1) an association of two or more persons (2) carrying on as co-owners of (3) a business for profit.
The court found that the complaint, which alleged that the DAO was an association of two or more persons—the tokenholders and investors—was sufficient to allege the first element of a general partnership. The second element was satisfied by allegations in the complaint that the tokenholders were the “main drivers of governance and decision making” because they could suggest and vote on governance proposals. Although the defendants asserted that their governance rights were too limited to sufficiently allege the existence of a general partnership, the court disagreed, holding that “limited governance rights don’t divest a partnership of its essential nature—a partnership can still exist when individual partners only control a part of the enterprise.” Sarcuni v. BZX DAO, No. 22-cv-618-LAB-DEB, 2023 WL 2657633, at *7 (S.D. Cal. Mar. 27, 2023). As a result, the court found that the complaint plausibly alleged that the tokenholders had governance rights sufficient to demonstrate co-ownership. The third element was also satisfied by the plaintiffs’ allegations that the tokenholders could share in the DAO’s profits by voting to distribute treasury assets to themselves, similar to the authorization of dividends by a corporation, or through an interest-generating token.
Although the defendants argued that finding that all of the tokenholders could be a co-owner with unlimited personal liability for losses connected to the platform would be a “radical expansion and alteration of long-standing principles of partnership law [and] should not be countenanced,” the court disagreed, citing Nat’l Bank of Com. in Pasadena v. Thompson Advert. Co., 114 Cal. App. 327, 329–30, 299 P. 802 (1931) (“Courts do not countenance partnerships which attempt to afford all the advantages of commercial intercourse without corresponding liabilities, and an agreement which contemplates such evasion will be construed and enforced as a general partnership.”). Rather, the court noted that the defendants had elected not to register the DAO as a limited liability company or other entity providing limited liability, thinking that the DAO would insulate the bZx protocol from regulatory oversight and accountability for compliance with the law.
The court further found that any individual defendant holding tokens was a partner in the partnership and that the complaint had plausibly alleged that several of the defendants, including the co-founders, were tokenholders, and thus, were partners of the DAO general partnership. As a result, the court denied those tokenholders’ motion to dismiss.
Takeaways: The court ruled only that the plaintiffs had plausibly alleged that the DAO was a general partnership; it did not establish that all DAOs are general partnerships under California law. Tennessee, Utah, and Wyoming have enacted laws permitting limited liability for DAOs. However, this ruling is a warning for those who form DAOs in other states: tokenholders should be aware of the possibility that they could be jointly and severally liable for claims against the DAO.
New York Court of Appeals Adopts Broad Reading of Long-Arm Jurisdiction Statute
State of New York v. Vayu, 2023 WL 1973001, 2023 N.Y. Slip Op. 00801, 39 N.Y.3d 330 (N.Y. Ct. App. Feb. 14, 2023)
Vayu, Inc., a Delaware corporation with headquarters in Michigan, designs and manufactures unmanned aerial vehicles (UAVs). Vayu’s chief executive officer, Daniel Pepper, initially contacted Dr. Peter Small about using UAVs to transport laboratory samples in 2013, before Dr. Small was affiliated with the State University of New York (SUNY). In 2015, Dr. Small, by then a professor of medicine at State University of New York (SUNY) Stony Brook, reached out to Pepper to establish a business relationship between Vayu and SUNY Stony Brook to develop and use UAVs to deliver medical supplies to remote areas in underdeveloped countries.
Pepper communicated with Dr. Small and other representatives of SUNY Stony Brook via multiple emails and telephone calls, which culminated in Vayu’s 2016 sale of two UAVs to SUNY Stony Brook for $25,000, as part of an ongoing business relationship. The UAVs were delivered in Madagascar in 2016; after delivery, they failed to operate properly. In 2017, Pepper requested a meeting to address the problems and traveled to New York for an in-person visit. During the meeting, he agreed that Vayu would replace the UAVs. In late 2017, SUNY Stony Brook returned the two UAVs to Michigan, but despite Pepper’s agreement to replace them, Vayu failed to provide replacements or a refund to SUNY Stony Brook. The State of New York sued Vayu on behalf of SUNY Stony Brook, alleging a breach of contract. Vayu filed a motion to dismiss for lack of personal jurisdiction. The New York Supreme Court granted Vayu’s motion, and its judgment was affirmed by a divided panel of the Appellate Division.
On appeal, the New York Court of Appeals disagreed. New York’s long-arm statute, N.Y. Civ. Prac. L. & R. Law § 302(a)(1), provides that “a court may exercise personal jurisdiction over any non-domiciliary . . . who in person or through an agent . . . transacts any business within the state.” The court of appeals noted that, in determining whether a defendant has transacted any business within New York under the statute, it must evaluate “whether what the defendant did in New York constitutes a sufficient transaction to satisfy the statute,” which is a factual inquiry to assess whether the non-domiciliary defendant’s activities were “purposeful.” State of New York v. Vayu, 2023 WL 1973001, 39 N.Y.3d 330 at *1 (Feb. 14, 2023). Quoting its 2007 decision in Fischbarg v. Doucet, 9 N.Y.3d 375, 380, 849 N.Y.S.2d 501, 880 N.E.2d 22 (2007), the court of appeals explained that purposeful activities are “volitional acts by which the non-domiciliary avails itself of the privilege of conducting activities within the forum State, thus invoking the benefits and protections of its laws”. Id.
The court noted that section 302 is a “single-act statute” that requires only a single purposeful transaction to confer personal jurisdiction in New York over a defendant. The issue of which party initiated the contact between the two parties is a relevant but not determinative factor. Instead, the nature and quality of the contacts between the parties and the resulting relationship is determinative. Although prior case law established that “the nature and purpose of a solitary business meeting conducted for a single day in New York may supply the minimum contacts necessary to subject a nonresident participant to the jurisdiction of our courts,” Id. (quoting Presidential Realty Corp. v. Michael Sq. W., Ltd., 44 N.Y.2d 672, 673, 405 N.Y.S.2d 37, 376 N.E.2d 198 ), a far-reaching and long-standing relationship existed in the present case that exceeded this minimum standard. The court found that the parties had an ongoing business relationship at the time of the 2017 in-person meeting, and that the parties had continued to exchange emails and telephone calls to modify their agreement and work together to resolve the issues. As a result, the court concluded that Vayu’s actions were purposeful and amounted to the transaction of business in the state of New York under 302.
The court also found that the requirement of section 302 that the cause of action arise from a defendant’s relevant business transaction in the state was met because the state of New York’s cause of action for breach of contract was based on the sale of the two UAVs, and Vayu’s contacts with New York were “directly related” to its efforts to resolve the problems related to the operability of the UAVs. Further, the exercise of jurisdiction comported with due process requirements that (1) a defendant must have minimum contacts with the state of New York that would enable it to “reasonably anticipate being haled into court there” and (2) defending a suit in New York “comports with traditional notions of fair play and substantial justice.” Id. at *4. Accordingly, the court reversed.
Takeaways: The court of appeals’ decision clarifies that a defendant with minimal contacts with the state of New York, whose representative attends a single in-person meeting in the state to modify an existing contract as part of an ongoing business relationship, will be subject to personal jurisdiction inside the state. Attorneys should advise out-of-state businesses to consider the implications of an in-person visit to New York to meet with contractual counterparties. In addition, parties should consider including a forum selection clause in their contracts.