Grinches, Liechtenstein Royal Princes, Bankers, Toymakers (and Offshore Evasion): A Holiday Summons Tale

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In today’s post returning guest blogger Dave Breen, the acting Director of Villanova’s Low Income Taxpayer Clinic, discusses the case of Greenfield v US. The issue in the case relates to the IRS’s cat and mouse game of finding assets and the unreported income from those assets that citizens have parked in offshore accounts. The issue in these cases does not generally involve much tax law.  The battle is won and lost on the issue of information.  If the IRS gets the information, the taxpayer generally loses.  Summons work is key and the Greenfield case is a major development.  For many years, Dave worked with IRS attorney John McDougal, whose retirement I wrote about last week.  In the spirit of the season, Dave recounts the story of the case and its implications.  Keith

A recent IRS setback in a summons enforcement case out of the Second Circuit piqued my interest, because I spent the final twelve years of my career in IRS Counsel working on IRS’s offshore initiatives addressing tax evasion through the use of offshore accounts in tax secrecy jurisdictions.  My take on this recent case is that taxpayers and some practitioners may believe that the era of IRS investigating offshore tax evasion has run its course.  I think this case does just the opposite.  The Court’s decision demonstrates that much of IRS’s data on offshore tax evasion is dated – possibly even too old to be of any value – but I also suspect that IRS has come to the same conclusion.  Rather than moving on to other areas of non-compliance though, I suspect IRS at this moment is developing more tools to secure the next wave of current information on offshore tax evasion.  This does not bode well for taxpayers who so far have avoided IRS’s inquiry into their offshore holdings.

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A bit of history

In 2000 IRS used permission to use John Doe summonses to secure information on U.S. taxpayers who accessed funds in their secret offshore accounts through American Express and Mastercard credit cards.  IRS’s first major success occurred in 2002 when the U.S. District Court entered an order requiring American Express to comply with IRS’s John Doe summons.  The information IRS received pursuant to this summons provided the data for what became known as the Offshore Credit Card Project.  Rather than go into the specifics, I refer readers to Keith Fogg’s 2012 Villanova Law review article Go West: How the IRS Should Foster Innovation in Its Agents. Subsequent offshore initiatives relied on data secured through John Doe summonses to UBS and other foreign banks, information received from whistleblowers, and information provided by taxpayers applying to one of IRS’s voluntary disclosure programs.

Despite the success in securing records identifying offshore tax evaders, the quality of the information IRS received was sometimes problematic, because it was out of date or incomplete.  For example, when a federal judge in Miami ordered compliance with the aforementioned John Doe summons in 2002, it only covered records for tax years 1998 and 1999 – “old years” in IRS parlance. Further, information received often did not dove-tail with IRS’s information.  IRS is driven by social security number, name, and to a lesser extent, last known address.  Credit card data is driven by credit card number and billing address.  This created a mismatch.  Once IRS received the summoned information it took many months to link a specific taxpayer to a particular offshore account through a credit card, assemble the case, and assign it to an agent specially trained in examining offshore transactions.  The IRM discourages IRS from beginning examinations of “old” tax years – generally those returns beyond the most recent two tax years – unless there are compelling reasons.  IRS prefers to examine more current tax years where plenty of time remains on the 3 year statute of limitations under IRC §  6501(a).   Although the 1998 and 1999 credit card data was sufficient to prove a taxpayer had a foreign bank account in 1998 or 1999, the information was not particularly helpful in proving how much income was unreported in those years or whether there was unreported income in later, more current years.

As a result, examiners assigned to these early cases often had to issue administrative summonses under IRC § 7602 to taxpayers for their most recent foreign bank account records to secure foreign account information for years after 1999.  The Department of Justice, which handles summons enforcement matters before the U.S. District Courts for IRS, has been extremely successful in securing orders enforcing these summonses, but the process takes time.  During this long process the data gets older and has diminishing value to IRS.  Proof that the data has a limited shelf life was recently demonstrated in a summons enforcement case.

Greenfield decision

In August 2016 the Second Circuit placed a speed bump along IRS’s road to identifying offshore tax evasion with dated information.  In United States v Greenfield, 118 AFTR 2d 2016-5275 (2016) the court vacated the District Court’s order enforcing an IRS summons and remanded the case for further proceedings consistent with its opinion.  The case is noteworthy for several reasons, but most importantly I see this as a wake-up call for IRS as well as a reminder to offshore tax evaders that IRS continues to pursue offshore tax evasion rigorously.

In the spirit of the holiday season, I offer the following tale.

Once upon a time there was a toy maker named Harvey Greenfield, his son, Steven, and their toy shop, Commonwealth Toy, Inc.  We also have a Grinch, Heinrich Kieber, whose job was to copy, file, and safeguard records at Liechtenstein Global Trust (LGT) a financial institution owned by the Liechtenstein royal family.  One day, while tending to his copying duties at the bank, Mr. Kieber decided to press “2” instead of “1” and make an extra copy of records that identified individuals who banked (translate: “hid their untaxed income”) at LGT.  Kieber, playing “Secret Santa”, offered the documents to several nations.  Many told him to “go Fish,” while other countries, including the U.S. did not.  The U.S. found the information to be very helpful in finding out who was naughty and who was nice. Needless to say, Mr. Kieber’s decision did not make him any new friends among the 38,000 residents of Liechtenstein.  He was charged with theft of information under Liechtenstein law and promptly went into hiding, leaving a trail of Angry Birds in his wake.  Like the Cabbage Patch doll you stood 3 hours in line to buy for your daughter in 1983, his whereabouts today are unknown.

Back to the Greenfields.  Several of Kieber’s cache of confiscated documents tied Steven and Harvey to certain offshore entities that had been used, or were being used, to evade taxation.  It just so happens that at this time the U.S. Senate’s Permanent Subcommittee on Investigations had begun hearings in response to the LGT disclosure and a similar leak from the Swiss bank, UBS.  Harvey died in 2009, leaving Steven as primary beneficiary of the LGT holdings.  PSI twice invited Steven to come in and talk about LGT, Liechtenstein, and foreign accounts in general.  The first time Steven failed to appear.  PSI was not too pleased with being stood up for its Mystery Date with Steven, so they invited him again.  The second time he appeared but asserted his Fifth Amendment right to remain silent.

Enter the IRS, who decided to audit Steven’s 1040’s for 2005 – 2011.  But there was a snag.  Kieber did not copy everything about the Greenfields – just enough to identify them as beneficial owners controlling the funds in the offshore accounts.  These documents included some memos, a 2001 year-end statement for their Maverick Foundation (a stiftung, under Liechtenstein law), LGT account information forms for Maverick and two entities it owned, and a 2001 LGT profile for Maverick and another company.  Of particular interest to IRS was a March 23, 2001 memorandum prepared by LGT personnel, detailing a meeting in Liechtenstein between the Greenfields, LGT employees, and Prince Philip of Liechtenstein.  The memo stated in part:

“The clients are very careful and eager to dissolve the Trust with the Bank of Bermuda leaving behind as few traces as possible. The clients received indications from other institutions as well that U.S. citizens are not those clients that one wishes for in offshore business.”

Great stuff, but not enough for IRS to determine how much tax was owed.  IRS didn’t have a Clue as to Steven’s gross income.  To fill in the considerable gaps in information, IRS issued an administrative summons to Steven for records and testimony.  After discussions with Steven’s counsel regarding the breadth of the summons, IRS reduced its scope to the production of documents related to foreign entities to the 2001 through 2006 tax years.

Greenfield refused to comply with the “kinder, gentler” version of the IRS summons.  Convinced that this was no Trivial Pursuit, IRS refused to Lego of the issue and brought suit to enforce yet another less expansive version of the original summons in district court.  Steven wasn’t having any of that one either and defended by invoking his Fifth Amendment right to remain silent.

General Summons Law and Greenfield

Generally, a Fifth Amendment right to remain silent is not effective for documents because contents of documents are not testimonial.  Fisher v. United States, 425 U.S. 391 (1976).  However, while Fisher held that documents were not testimony, the Court held that the act of producing the documents could be testimonial, because it may communicate incriminatory statements of fact.  For example, if the only person with access to offshore bank statements is the person who controls the funds in them, the person coming to court with the bank statements is essentially saying (testifying or admitting), “The documents you want exist, I control them, they are authentic, and here they are.”  This is the “act of production” defense Steven raised.  But the Ping-Pong game did not end there.

The government’s comeback to the “act of production” defense is the “foregone conclusion” rule.  If the testimonial aspects of production are a “foregone conclusion”, that is, if the government can establish the “existence, control, and authenticity” of the records independent of the witness’s production of them, the act of producing them loses its testimonial nature.  But the government must be ready to establish independently that the documents exist, the witness controls them, and they are authentic.

Based on the record, the Court found the Government met the first two tests: it accepted the existence of the documents in 2001 and Greenfield’s control of them in 2001.  It was not so willing, however, to accept their authenticity and turned to the Government to establish the third prong of the test.

The Government elves had their work cut out for them.  They went back to their workshop and crafted several arguments with respect to the authenticity of the 2001 records. It put on its Poker face and argued that the 2001 documents could be authenticated in three ways: (1) an LGT employee could come to the United States and authenticate them in court; (2) Kieber himself could come out of hiding and authenticate them; or (3) authentication was possible through Letters of Request issued under the Hague Evidence Convention.

The Second Circuit wasn’t buying any of the Government’s arguments.  First, the Court found it unlikely that LGT would send a witness to the United States to authenticate the records.  Secondly, it was highly unlikely Kieber, who was in hiding, would do it; and (3) the Government could not show a single instance where Letters of Request issued under the Hague Evidence Convention had been used to authenticate documents from LGT or any other Liechtenstein financial institution in the past.  Why would the Government think it would work in this case?

The Court didn’t stop there.  Assuming arguendo that the Government passed the 2001 hurdle, it would still have to show that the documents existed and that Steven controlled them in 2013, twelve years later.  Existence and control in 2001 does not create an inference of existence and control in 2013.  Factors such as the type of records, the likelihood of transfer to another person, and the time interval involved all bear on the matter.  In rejecting the Government’s arguments the Court found any number of reasons why Steven may not have had a Monopoly on control of the records from 2001 to 2013 or that the documents still existed in 2013.  Therefore, the Court did not enforce most of the summons and Steven did not have to produce the records.

Conclusion

But before you settle your brains for a long winter’s nap, think about this.  Even though Steven may have sunk IRS’s Battleship, today IRS is not in any immediate Trouble.  In fact, it is already working on a new Mousetrap.  On November 30, 2016 IRS received permission to issue a John Doe summons to Coinbase, Inc., a virtual currency exchanger headquartered in San Francisco, California, that Les discussed last month in his post IRS Seeks Information via John Doe Summons Request on Bitcoin Users.  

The moral of the story?  Uno’s?  I suspect many clients with assets hidden offshore will still take a big Risk by not coming in under IRS’s voluntary disclosure program, but you don’t have to be a Mastermind to see that many of them will ultimately be Sorry.  But, I guess that’s The Game of Life.  Happy Holidays!

 

 

 

Comments

  1. Merry Brodie, EA says:

    Clever, clever use of toys! Thank you for a very readable and informative look at the law and the history of offshore disclosure.

  2. Jack Schiffman says:

    Found the post informative and entertaining. Tip of the hat to Mr. Breen.

  3. Bob Kamman says:

    Here is this year’s Bonus Holiday Comment for blog readers who appreciate a good tax story, with a nod to spirituous cheer at the end. Continuing the toy narrative, let’s recall that great Christmas-themed operetta, “Babes In Toyland,”, by Victor Herbert. (One of its numbers is the accountant favorite, “I Can’t Do The Sum.”)

    Victor Herbert is famous in tax circles for the stand he took in 1922 before the San Francisco Board of Supervisors. The March 16, 1922 issue of “The Musical Leader” picks up the story:

    Mr. Herbert has performed a real service to the music teachers of San Francisco. For almost three years a few music teachers have been fighting an unjust license tax. They paid under protest; they went before revisory committees to no avail. They contended that the tax was most unjust, as all were paying income taxes, that other educators were not taxed and that only a few of the music teachers were paying. It remained for Victor Herbert to clear the atmosphere. …

    Victor Herbert put the fear of Sinn Fein into the hearts of the supervisors and they took the tax off the musicians.

    The board had gathered for business and, incidentally, to do honor to Herbert, and they sat around, waiting for him to tell them San Francisco had the cream of the world’s art and the most enlightened civic government in America.

    But that wasn’t the composer’s idea at all.

    “What’s this I hear about your taxing musicians?”, he cried. “Why even Julius Caesar respected the bards and refrained from taxing them. He knew they were giving the people something that would make their lives beautiful, and he was man enough to know that to tax people who do that would be idiotic.”

    Supervisor Wm. S. Scott explained that the tax was a bright idea imported from Los Angeles.

    “Then forget it,” roared the musician. “My friend Mackenzie Gordon told me what you were up to, but I could hardly believe my ears. What is this country coming to anyway? I wear a decoration which all the soldiers of Europe salute because it stands for art and beauty. Does any soldier salute here? Not a bit of it.”

    “I have a decoration too,” smiled Mayor Rolph.

    Then Supervisor Emmet Hayden got up. “Gentlemen,” he said, “I guess we’ve got in wrong about this tax on musicians. I move that it be repealed.”

    And repealed it was, then and there, and henceforth a San Francisco musician will be able to give the public the best he has without being penalized for doing so.

    Those who were present at this meeting say it was the liveliest, speediest scene set in the rooms of the august body. This tax was levied when the country went dry. Music teachers, because a few hundred of them are organized in an excellent society, seemed to be tempting prey for wiseacres wishing to make up for the loss of booze tax. The record, however, is that Victor Herbert did in five minutes what the organization has been struggling with for over two years.

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