For more than a decade, Sidney Swenson, CPA, prepared tax returns for one of his more successful clients, Matt Morrow, a star salesman in the construction supplies industry. Morrow had taken a job five years earlier in sales for Acme Building Products and Supplies, headquartered in the British Virgin Islands (BVI). Morrow was a U.S. citizen and maintained his residence in the U.S. but lived part time in BVI.

Each year Swenson sent his tax return clients an engagement letter that included language advising them of their responsibility to comply with FBAR (Report of Foreign Bank and Financial Accounts). To help clients comply with FBAR, he also included a question about foreign bank accounts in their tax organizer.

Morrow never returned his tax organizer or engagement letter, but Swenson spoke with him over the phone each year to answer the organizer questions, sometimes in a cursory manner just before the return deadline. Morrow always replied that he did not have a foreign bank account.

After about five years of this routine, the IRS notified Swenson and Morrow that one of Morrow’s tax returns was under audit. When the question regarding foreign bank accounts came up again, Morrow admitted that he did have an account in BVI but kept the account balance below $10,000, the FBAR reporting threshold, by transferring the funds immediately into his U.S. bank account. The only exception to this occurred when he received extra commissions for exceeding certain sales targets, causing the balance to briefly go above $10,000 until he transferred the money out of the account.

Swenson was planning to represent Morrow in the audit, but when Swenson spoke with him about the FBAR-related question in the tax organizer, Morrow stated that he did not remember Swenson asking him questions about foreign bank accounts. He also stated Swenson should have known about his FBAR obligations because of his residence in a foreign country, and that Swenson should have warned him about how significant the penalties could be.

Swenson realized too late that he should have required Morrow to sign and return the engagement letter, which included language informing the client of his FBAR reporting responsibilities. A signed letter would have documented that Morrow accepted his responsibilities and would have been Swenson’s first line of defense in the dispute.

What should the CPA do, now that the client has a delinquent FBAR?

If the CPA continues to assist the client and advise him about how to comply with the FBAR requirements, the communication and disclosures could put the client at risk. CPAs do not enjoy a confidential communication privilege as do attorneys, and would not be able to keep client disclosures confidential. The CPA should no longer assist the client with these issues and should advise the client to retain an experienced attorney skilled in taxation and criminal law. Legal counsel will be able to protect privileged communications, manage the FBAR disclosure, and address any related state law issues and risks.

The matter should also be reported to the CPA’s professional liability insurance carrier as soon as possible. This will help assure coverage for a potential claim, and the carrier should be able to advise the CPA on the best course of action. Whenever a situation arises where a client may suffer a loss from something the CPA allegedly did or neglected to do, the CPA should report the matter promptly to the firm’s carrier.

“War Stories” are drawn from CAMICO claims files and illustrate some of the dangers and pitfalls in the accounting profession. All names have been changed.