In a recent tax case involving IRS subpoenas, United States v. Fridman (2d Cir. 2020) 974 F.3d 163, a federal appellate court ruled that a trust cannot assert a right against self-incrimination under the Fifth Amendment to the United States Constitution.
As part of its investigation into the business dealings of one, Natalio Fridman, concerning the use of an offshore bank account to improperly conceal federally taxable income received in tax year 2008, IRS issued two summonses to Mr. Fridman, one in his personal capacity as a beneficiary of the David Marcelo Trust, the other in his fiduciary capacity as trustee of the David Marcelo Trust.
The David Marcelo Trust (“the Trust”) was a domestic trust with a foreign financial account. Although Mr. Fridman did not file a tax return for the Trust, IRS learned of the Trust’s existence when Fridman’s tax representative, in 2012 and 2013, provided several bank statements and records pertaining to the foreign account. The summonses requested, among other things, the production of certain documents related to the Trust. Mr. Fridman refused to produce the requested documents, asserting his Fifth Amendment privilege against self-incrimination.
In affirming the judgment of the United States District Court for the Southern District of New York, which required Fridman to produce the documents sought by IRS, the Second Circuit Court of Appeals held that the “act-of-production” privilege (which is narrow in scope and under which the act of producing documents may in some cases communicate incriminatory statements and thus fall within the purview of the Fifth Amendment’s protection against self-incrimination) did not apply to this situation. Instead, the court applied the “foregone conclusion” doctrine, which states that where a taxpayer, in conceding that he possesses certain documents, adds nothing or very little to the government’s information, the existence and location of the papers are a mere foregone conclusion. As a consequence, the government’s requiring Mr. Fridman to produce the documents in question did not violate his Fifth Amendment constitutional rights.
Furthermore, in what amounted to a case of first impression in the Second Circuit, the court agreed with every other federal circuit court which has addressed the issue in finding that the “collective entity” doctrine applies to trusts. The doctrine recognizes that the Fifth Amendment privilege protects only natural persons from being required to produce documents; the Fifth Amendment privilege does not protect collective entities, such as corporations, partnerships or custodians holding a collective entity’s records in a representative capacity. In so holding, the Second Circuit based its decision on 3 primary factors: (i) a trust, including a traditional common law trust, has a legal existence separate and distinct from the trustee; (ii) a trust is a formal institutional arrangement that is well organized and structured; and (iii) a trust is freely made and generates benefits, including limited liability, as well as burdens, such as the need to produce documents in response to a lawful subpoena. The court reasoned that, inasmuch as the Trust is a collective entity, Fridman cannot rely on his personal Fifth Amendment right against self-incrimination to avoid producing the Trust-related documents sought by IRS.
In the Fridman case, the Second Circuit Court of Appeals joined the First Circuit, Fifth Circuit, Eighth Circuit and Ninth Circuit in finding that a trust is a collective entity, not a natural person, and, as such, is not entitled to protection against self-incrimination under the Fifth Amendment to the United States Constitution. The take-aways from the Fridman case are: (1) that trustees should be mindful of the lack of Fifth Amendment protection for trusts when filing tax returns on behalf of trusts; and (2) that settlors should be aware that, while trusts allow for more privacy than wills, privacy is not absolute and the courts can and will force the release of asset information to the taxing authorities.