{"id":1479,"date":"2024-05-13T12:57:00","date_gmt":"2024-05-13T17:57:00","guid":{"rendered":"https:\/\/www.mgocpa.com\/?post_type=perspective&#038;p=1479"},"modified":"2025-07-10T07:52:37","modified_gmt":"2025-07-10T12:52:37","slug":"how-the-tax-courts-ruling-on-the-farhy-v-commissioner-case-could-affect-your-penalty-assessments-for-international-information-returns","status":"publish","type":"perspective","link":"https:\/\/www.mgocpa.com\/perspective\/how-the-tax-courts-ruling-on-the-farhy-v-commissioner-case-could-affect-your-penalty-assessments-for-international-information-returns\/","title":{"rendered":"How the Tax Court&#8217;s Ruling on Farhy v. Commissioner Could Affect Your Penalty Assessments"},"content":{"rendered":"\n<p><strong>Key Takeaways:<\/strong><\/p>\n\n\n\n<ul class=\"wp-block-list\">\n<li>In April 2023, the U.S. Tax Court made news when it ruled in favor of businessman Alon Farhy, who challenged the Internal Revenue Service (IRS)\u2019s authority to assess penalties for the failure to file IRS Form 5471.<\/li>\n\n\n\n<li>IRS Form 5471 is the Information Return of U.S. Persons With Respect to Certain Foreign Corporations.<\/li>\n\n\n\n<li>In May 2024, the U.S. Court of Appeals for the D.C Circuit reversed the Tax Court&#8217;s initial ruling \u2014 underscoring the significance of context in assessing penalties for international information returns.<\/li>\n<\/ul>\n\n\n\n<p>&#8212;<\/p>\n\n\n\n<h4 class=\"wp-block-heading\">UPDATE (May 2024):<\/h4>\n\n\n\n<p>Recent developments in the Farhy v. Commissioner case have captured significant attention in the tax and legal sectors. On May 3, 2024, the <a href=\"https:\/\/www.taxnotes.com\/research\/federal\/court-documents\/court-opinions-and-orders\/d.c-circuit-reverses-tax-court-irs-penalty-assessment-authority\/7jh5w\">U.S. Court of Appeals reversed the Tax Court&#8217;s initial decision<\/a>, highlighting the importance of statutory context in penalty assessments for international information returns. <strong>This ruling emphasizes the need for a closer examination of statutory language, altering perspectives on penalty applicability for non-compliance.<\/strong><\/p>\n\n\n\n<p>The implications of this case extend to taxpayers and practitioners, as detailed in analyses by MGO (<em>see below<\/em>). The decision underscores the need for meticulous compliance practices and adept navigation of the complexities of U.S. international tax law, along with a deep understanding of judicial interpretations of tax regulations.<\/p>\n\n\n\n<p>MGO\u2019s professionals are well-positioned to assist clients in navigating the complexities arising from the recent Farhy v. Commissioner decision. With a comprehensive understanding of the changing landscape in penalty assessments for international information returns, we provide guidance to help companies adapt to new judicial interpretations and maintain compliance with evolving tax regulations.<\/p>\n\n\n\n<h4 class=\"wp-block-heading\">ORIGINAL ARTICLE (published June 8, 2023):<\/h4>\n\n\n\n<p>On April 3, 2023, the U.S. Tax Court came to a decision in the case Farhy v. Commissioner, ruling that the Internal Revenue Service (IRS) does not have the statutory authority to assess penalties for the failure to file IRS <a href=\"https:\/\/www.irs.gov\/forms-pubs\/about-form-5471\" target=\"_blank\" rel=\"noreferrer noopener\">Form 5471<\/a>, or the Information Return of U.S. Persons With Respect to Certain Foreign Corporations, against taxpayers. It also ruled that the IRS cannot administratively collect such penalties via levy.&nbsp;&nbsp;<\/p>\n\n\n\n<p>Now that the IRS doesn\u2019t have the authority to assess certain foreign information return penalties according to the court, affected taxpayers may want to file protective refund claims, even if the case goes to appeals \u2014 especially given the short statute of limitations of two years for claiming refunds.&nbsp;<\/p>\n\n\n\n<p>Our <a href=\"https:\/\/oldmgo.drinkcaffeine.com\/solution-industry\/tax-controversy\/\" target=\"_blank\" rel=\"noreferrer noopener\">Tax Controversy team<\/a> breaks down the Farhy case, as well as what it may mean for your international filings \u2014 and the future of the IRS\u2019s penalty collections.&nbsp;&nbsp;<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">The IRS Case Against Farhy<\/h2>\n\n\n\n<p>Alon Farhy owned 100% of a Belize corporation from 2003 until 2010, as well as 100% of another Belize corporation from 2005 until 2010. He admitted he participated in an illegal scheme to reduce his income tax and gained immunity from prosecution. However, throughout the time of his ownership of these two companies, he was required to file IRS Forms 5471 for both \u2014 but he didn\u2019t.&nbsp;&nbsp;<\/p>\n\n\n\n<p>The IRS then mailed him a notice in February 2016, alerting him of his failure to file. He still didn\u2019t file, and in November 2018, he assessed $10,000 per failure to file, per year \u2014 plus a continuation penalty of $50,000 for each year he failed to file. The IRS determined his failures to file were deliberate, and so the penalties were met with the appropriate approval within the IRS.&nbsp;&nbsp;<\/p>\n\n\n\n<p>Farhy didn\u2019t dispute he didn\u2019t file. He also didn\u2019t deny he failed to pay. Instead, he challenged the IRS\u2019s legal authority to assess IRC <a href=\"https:\/\/www.law.cornell.edu\/uscode\/text\/26\/6038\" target=\"_blank\" rel=\"noreferrer noopener\">section 6038<\/a> penalties.&nbsp;&nbsp;<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">The Tax Court&#8217;s Initial Ruling<\/h2>\n\n\n\n<p>The U.S. Tax Court then held that Congress authorized the assessment for a variety of penalties \u2014 namely, those found in subchapter B of chapter 68 of subtitle F \u2014 but not for those penalties under IRC sections 6038(b)(1) and (2), which apply to Form 5471. Because these penalties were not assessable, the court decided the IRS was prohibited from proceeding with collection, and the only way the IRS can pursue collection of the taxpayer\u2019s penalties was by 28 U.S.C. Sec. 2461(a) \u2014 which allows recovery of any penalty by civil court action.&nbsp;&nbsp;<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">How This Decision Affects Your International Penalty Assessments&nbsp;<\/h2>\n\n\n\n<p>This case holds that the IRS may not assess penalties under IRC section 6038(b), or failure to file IRS Form 5471. The case\u2019s ruling doesn\u2019t mean you don\u2019t have an obligation to file IRS Form 5471 \u2014 or any other required form.&nbsp;&nbsp;<\/p>\n\n\n\n<p>Ultimately, this decision is expected to have a broad reach and will affect most IRS Form 5471 filers, namely category 1, 4, and 5 filers (but not category 2 and 3 filers, who are subject to penalties under IRC section 6679).&nbsp;&nbsp;<\/p>\n\n\n\n<p>However, the case\u2019s impact could permeate even deeper. For years, some practitioners have spoken out against the IRS\u2019s systemic assessment of international information return (IIR) penalties after a return is filed late, making it impossible for taxpayers to avoid deficiency procedures. The court\u2019s decision now reveals how a taxpayer can be protected by the judicial branch when something is deemed unfair. Farhy took a stand, challenged the system, and won \u2014 opening the door for potential challenges in the future.&nbsp;&nbsp;<\/p>\n\n\n\n<p>It&#8217;s uncertain as to whether the IRS will appeal the court\u2019s decision. But it seems as though the stakes are too high for the IRS <em>not<\/em> to appeal. While we don\u2019t know what will happen, a former IRS official has stated he expects that, for cases currently pending review by IRS Appeals, Farhy will not be viewed as controlling law yet. &nbsp;<\/p>\n\n\n\n<p>The impact of the ruling is clear and will most likely impact many taxpayers who are contesting \u2014 or who have already paid \u2014 IRC 6038 penalties. It may also affect other civil penalties where Congress has not prescribed the method of assessment in the future.&nbsp;<\/p>\n\n\n\n<h2 class=\"wp-block-heading\">How You Should Respond to the Court\u2019s Decision&nbsp;<\/h2>\n\n\n\n<p>You should move quickly to take advantage of the court\u2019s decision, as there is a two-year statute of limitations from the time a tax is paid to make a protective claim for a refund. It\u2019s likely this legislation wouldn\u2019t affect refund claims since that would be governed by the law that existed when the penalties were assessed.&nbsp;Note that per IRC section 6665(a)(2), there is no distinction between payments of tax, addition to tax, penalties, or interest \u2014 so all items are treated as tax.&nbsp;&nbsp;<\/p>\n\n\n\n<p>If you\u2019ve previously paid the $10,000 penalty, it\u2019s important to file your protective claim now, unless you\u2019ve entered into an agreement with the IRS to extend the statute of limitations, which can occur during an examination. Requesting a refund won\u2019t ever hurt, but some practitioners believe the IRS may try to keep any penalty money it collected, even if the assessment is invalid \u2014 because, in its eyes, the claim may not be. Just know, you can file your protective claim for a refund, but may not get it (at least not any time soon).&nbsp;&nbsp;&nbsp;<\/p>\n\n\n\n<p>The Farhy decision could likewise be applied to other US IRS forms, such as 5472, 8865, 8938, 926, 8858, 8854. Some argue the Farhy decision may also be applied to IRS Form 3520.<\/p>\n\n\n\n<figure class=\"wp-block-image size-large\"><picture><source srcset=\"https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-1024x478.webp 1024w,https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-412x193.webp 412w,https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-768x359.webp 768w,https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-1536x718.webp 1536w,https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1.webp 1680w\" sizes=\"auto, (max-width: 1024px) 100vw, 1024px\" type=\"image\/webp\"><img src=\"https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-1024x478.png\" height=\"478\" width=\"1024\" srcset=\"https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-1024x478.png 1024w, https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-412x193.png 412w, https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-768x359.png 768w, https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1-1536x718.png 1536w, https:\/\/www.mgocpa.com\/wp-content\/uploads\/2024\/12\/Farhy-v.-Commissioner-Case-1-1680x785-1.png 1680w\" sizes=\"auto, (max-width: 1024px) 100vw, 1024px\" class=\"wp-image-1481 sp-no-webp\" alt=\"\" loading=\"lazy\" decoding=\"async\"  > <\/picture><\/figure>\n\n\n\n<p><\/p>\n\n\n\n<h2 class=\"wp-block-heading\">How MGO Can Help <\/h2>\n\n\n\n<p>Only time will tell if the court\u2019s decision will open the government up to additional criticisms for other penalty assessments. If you have paid your penalties and are wondering what your current options are, MGO\u2019s experienced <a href=\"https:\/\/www.mgocpa.com\/solution-and-industry\/international-tax\/\">International Tax<\/a> team can help you determine if you\u2019re eligible to file a refund claim.&nbsp;&nbsp;<\/p>\n\n\n\n<p><a href=\"https:\/\/www.mgocpa.com\/contact\/\" target=\"_blank\" rel=\"noreferrer noopener\">Contact us<\/a> to learn more.<\/p>\n","protected":false},"excerpt":{"rendered":"<p>Key Takeaways: &#8212; UPDATE (May 2024): Recent developments in the Farhy v. Commissioner case have captured significant attention in the tax and legal sectors. On May 3, 2024, the U.S. Court of Appeals reversed the Tax Court&#8217;s initial decision, highlighting the importance of statutory context in penalty assessments for international information returns. This ruling emphasizes [&hellip;]<\/p>\n","protected":false},"featured_media":1480,"template":"","meta":{"_acf_changed":false,"content-type":"","_monsterinsights_skip_tracking":false,"_monsterinsights_sitenote_active":false,"_monsterinsights_sitenote_note":"","_monsterinsights_sitenote_category":0},"perspective_topic":[221,230,146,17,18,176,64,125,16,55,19],"perspective-type":[42],"class_list":["post-1479","perspective","type-perspective","status-publish","has-post-thumbnail","hentry","perspective_topic-cross-border-transactions","perspective_topic-foreign-corporations","perspective_topic-individual-tax","perspective_topic-international-business","perspective_topic-international-tax","perspective_topic-reporting-requirements","perspective_topic-tax-compliance-insights-resources","perspective_topic-tax-consulting","perspective_topic-tax-guidance","perspective_topic-tax-planning","perspective_topic-taxes","perspective-type-articles"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v25.8 - https:\/\/yoast.com\/wordpress\/plugins\/seo\/ -->\n<title>How Farhy v. 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