Federal Judge Rules Community Associations Must Comply With Corporate Transparency Act

Federal Judge Rules Community Associations Must Comply With Corporate Transparency Act

As discussed in a prior article, the Community Associations Institute (“CAI” or the “Plaintiffs”) filed a lawsuit in the Eastern District of Virginia against the Department of Treasury seeking an exemption for community associations from the Corporate Transparency Act. Specifically, CAI argued (i) that requiring community associations to disclose “beneficial owners” to the Department of  Treasury is unwarranted under the Corporate Transparency Act; (ii) the Corporate Transparency Act violates the Administrative Procedure Act (the “APA”); (iii) the Corporate Transparency Act exceeds Congress’ Article I authority; and (iv) the Corporate Transparency Act is unconstitutional under the First and Fourth Amendments. On October 24, 2024, the court denied the CAI’s request for a preliminary injunction.

Accordingly, community associations should work with their attorney to prepare a beneficial owner report to comply with the Corporate Transparency Act. Failure to comply with the CTA could lead to (i) civil penalties of up to $500 for each day that a violation continues or has not been remedied, capped at $10,000 or (ii) possible imprisonment of up to 2 years for any person who willfully (1) provides, or attempts to provide, false or fraudulent beneficial ownership information or (2) fails to report complete or updated beneficial ownership information to FinCEN. Therefore, it is vital that community associations comply with the Corporate Transparency Act prior to the January 1, 2025 deadline.

This article will address the court’s decision in Community Associations Institute v. Janet Yellen, et al, Case No. 1:24-CV-01597 (E.D. Virginia).

Why did the Court deny CAI’s preliminary injunction?

The court found that the Plaintiffs failed to show: (1) a likelihood of success on the merits; (2) a likelihood of irreparable injury; and (3) that the balance of hardships tips sharply in their favor. Community Associations Institute v. Janet Yellen, et al, Case No. 1:24-CV-01597 (E.D. Virginia). The court addressed the following:

1. Nonprofit exemption

The Plaintiffs argued that they were entitled to declaratory relief from reporting obligations under the Corporate Transparency Act because they fall under the exception to the definition of “reporting companies” for nonprofit organizations. Id. at 6. The nonprofit exemption applies to a discrete category of organizations “described in Section 501(c) . . . and exempt from tax under Section 501(a). Id. at 7-8. The court found that community associations failed to meet the first prong of the exemption because community associations are not organizations described in Section 501(c). Id. at 8. Accordingly, community associations do not qualify for the Corporate Transparency Act’s nonprofit exemption.

2. Administrative Procedure Act

In June 2024, the Financial Crimes Enforcement Network (“FinCEN”) posted a page of “FAQs” regarding the CTA on its website. Id. at 5. One of the FAQs stated that community associations which are not recognized as 501(c)(4) organizations and are formed by the filing of a document with a secretary of state may fall within the definition of a reporting company and be required to report their beneficial owners to FinCEN. Id. The Plaintiffs argued that the FAQs violated the APA’s notice-and-comment rulemaking requirements. Id. at 9. The court found that (i) the FAQs simply restated the Corporate Transparency Act’s preexisting statutory and regulatory requirements and were not legislative rules which required notice and comment and (ii) the FAQs could not be challenged because the FAQs were not final agency action as the FAQs were “explanatory only” and did not purport to determine the community associations’ rights or obligations.

3. Congressional Authority

The Plaintiffs argued that Congress overstepped the limits of its commerce power when it enacted the Corporate Transparency Act. Id.  More specifically, the Plaintiffs argued that the Corporate Transparency Act does not regulate activity that has a substantial effect on interstate commerce. Id. at 13. The court found that there is a “rational basis” for concluding that money laundering and other illicit financial activities, “taken in the aggregate, substantially affect interstate commerce” because the Corporate Transparency Act’s ongoing reporting requirements are a necessary means of implementing Congress’ power under the Commerce clause to prevent and regulate those activities.  Id. at 14. Accordingly, the Plaintiffs failed to show that Congress exceeded its constitutional authority. Id. at 15.

4. First Amendment

The Plaintiffs argued that the Corporate Transparency Act violated their First Amendment rights because the Corporate Transparency Act impermissibly compels board members’ speech. Id. The court found that the Corporate Transparency Act does not violate the compelled-speech doctrine because the Corporate Transparency Act does not require the public disclosure of information. Id. at 15-16.

Additionally, the Plaintiffs argued that the Corporate Transparency Act violated their First Amendment rights because the Corporate Transparency Act chills their right to freely associate. Id. at 15. The Plaintiffs argued that their free association rights were violated because they will resign from board service rather than disclose their personal identifying information. Id. at 16. The court found that speculations about potential resignations are insufficient to demonstrate a likelihood of success on the merits. Id. The court also noted that even if the First Amendment is properly by the Corporate Transparency Act’s disclosure requirements, the government likely met its burden of proving that such compelled speech serves a legitimate government purpose and that any infringement of the Plaintiffs’ freedom to association is justified. Id.

5. Fourth Amendment

The Plaintiffs argued that the Corporate Transparency Act’s disclosure requirements unconstitutionally invade the Plaintiffs’ reasonable expectations of privacy without individualized suspicion of wrongdoing. Id. at 17. The court found that the Supreme Court has held that reporting requirements, such as those set forth in the Corporate Transparency Act, were reasonable under the Fourth Amendment because Congress had found this information highly useful in “criminal, tax, or regulatory investigations.” Id. Accordingly, the Plaintiffs’ Fourth Amendment claim likely fail because the Corporate Transparency Act likely falls “within the category of reasonable reporting requirements that courts have long understood as constitutional.” Id.

6. Irreparable Harm

The Plaintiffs argued that without injunctive relief community associations will face a mass resignation of their volunteer board members who do not wish to provide their personal information or be subject to the corresponding penalties. Id. at 18. The court found that the Plaintiffs failed to provide any nonspeculative evidence of potential resignations. Additionally, the court found that the alleged harm was of de minimis nature given that individual taxpayers already disclose the same information to the Department of Treasury every time they file their tax returns. Id. at 19. As such, the Plaintiffs failed to make a clear showing of irreparable harm required for preliminary relief. Id.

Conclusion

In Community Associations Institute, the Virginia federal court denied the Plaintiffs’ motion for preliminary injunction and concluded that community associations must comply with the reporting requirements of the Corporate Transparency Act. Community associations have until January 1, 2025 to comply with the requirements of the Corporate Transparency Act or they may be faced with stiff financial penalties as discussed in the introduction and in a previous article. To avoid potential civil penalties of up to $500 per day, capped at $10,000 or possible imprisonment for willfully failing to report complete beneficial ownership information to FinCEN, community associations must comply with the Corporate Transparency Act prior to January 1, 2025.

Please follow our blog for additional updates on this evolving area of law, as we anticipate further guidance from the courts and FinCEN in the near future.

 

Jeremy Fernando is an Associate Attorney at Hirzel Law, PLC. Mr. Fernando is licensed to practice law in the State of Illinois. He concentrates his practice on community association law, condominium law, homeowners association law, and real estate law. Mr. Fernando’s legal career includes serving in corporate practice where he represented insurance companies and institutional investors in U.S. and cross-border private placements of securities, including transactions in the Netherlands, England, Ireland, Australia, and Germany. Mr. Fernando earned his Juris Doctor from Marquette University Law School, where he graduated with honors and ranked in the top 15% of his class. He also served as an Associate Editor of the Marquette Law Review. Mr. Fernando is committed to providing effective legal representation to his clients and is passionate about helping communities navigate complex legal challenges. He may be reached at 312-552-7669 or jfernando@hirzellaw.com.