Talk about perfect timing. To give the millions of Americans who are taking up the dreaded yearly task of preparing their taxes just a little bit more aggravation, comes the story of massive tax avoidance by Sprint CEO William Esrey and his right-hand man Ron LeMay. These two paid no taxes on a total of $288 million in stock-option profits thanks to some highly imaginative tax shelters dreamed up by the accounting alchemists at Ernst & Young.
Two hundred and eighty-eight million smackeroos. And you were worried about whether you could deduct that $42 business lunch you had with a friend? You're obviously not aiming high enough.
And it's not just Esrey and LeMay who aren't paying their fair share. According to the IRS, hundreds of other businesses and executives -- including Tyco's Dennis Kozlowski and Global Crossing's Gary Winnick -- have used questionable shelters to escape paying billions of dollars in taxes.
So how, exactly, does one make $288 million in taxable income disappear?
It's a magic trick that requires a combination of accounting sleight-of-hand and legal mumbo jumbo, as well as the willing compliance of a wide array of accomplices -- including see-no-evil corporate boards, toothless government regulators and that crucial building block of any decent tax shelter, bought-and-paid-for politicians.
Let's start with the accounting industry, which rakes in hundreds of millions of dollars a year selling tax shelters. Looking for ways to cash in on the go-go '90s -- and pouncing on an insanely misguided 1991 rule change that allowed accountants to pocket a percentage of the tax money they save a client, instead of merely charging an hourly fee -- accounting firms began aggressively devising and marketing complex tax avoidance schemes. Why go after boring old bookkeeping work when there was gold in them thar shelters?
The rule change created an irresistible new incentive, and the big firms responded by creating high-pressure in-house sales teams -- units brimming with such arrogance and confidence in their impunity that they gave themselves rapacious-sounding nicknames. At Deloitte & Touche, the "Predator" group stalked potential clients; at BDO Seidman, the "wolf pack" was on the prowl. The hunt proved extremely lucrative. Seidman's wolves dragged in over $100 million in tax shelter commissions in 2000.
The tax ploys these shelter savants concocted were so convoluted that even the finance-savvy executives they were hawking them to often had a hard time understanding how they worked. But that was OK, because they certainly understood the end result: a seriously lowered tax bill.
Take the smoke-and-mirrors trickery Ernst & Young used to obliterate the millions in taxes that Esrey and LeMay owed on the $288 million they'd made off Sprint stock options. First the accountants waved their hands over the execs' money and turned it from income into capital gains. Presto! Then they wiggled their slide rules and raised the cost of Sprint stock. Change-o! Next thing ya know -- Poof! -- Esrey and LeMay didn't owe the IRS a cent.
But then the IRS woke up and began cracking down on shelters that have no purpose other than cheating the public out of money it is due. Now the execs are facing a mountain of back taxes. Gumming up the works even more is the fact that, in addition to scheming up evasive maneuvers for Sprint's bigwigs, Ernst & Young is also the longtime auditor of Sprint.
But don't feel too bad for the embattled execs. It's not like anybody was really pulling the wool over their eyes; indeed, these tax shelters are usually presented to clients with a level of skulduggery usually reserved for characters in a John le Carré novel or men cheating on their wives. In many cases, clients have to sign a nondisclosure agreement before the accountants will even pitch them the scheme. And they're told in advance that the deal will be kept secret from the IRS -- both of which should be pretty good clues that the arrangement might not exactly be on the up-and-up.
But as I said before, greedy execs and predatory accountants are not the only ones to blame. Not when law firms are reaping millions in easy money handing out so-called opinion letters, which theoretically provide assurance to clients that tax shelters are legitimate but, in reality, are little more than the legal equivalent of crossed fingers. The letters, which usually go for between $50,000 and $75,000, have become a tax cheat's get-out-of-jail-free card because the IRS will typically waive additional penalties for those defendants who have one.
So, in effect, the letters take the risk out of cheating: If big-money tax dodgers get caught (and given the IRS's limited enforcement budget, the odds favor the cheaters by a huge margin) they only have to pay the money they originally owed, plus interest. Why not give it a shot? All you have to lose is your integrity. Adding to the sleaze, law firms providing opinion letters are usually in bed with the tax shelter sellers -- Ernst & Young even handed out a sheet listing how much the coveted letters would set a client back. How convenient: one-stop tax evasion.
And, of course, we can't forget the spineless politicians and government toadies who pass the laws -- and leave the loopholes -- that make all this financial flimflam possible in the first place. Even with all the corporate horrors and accounting industry rip-offs we've seen over the last year, our leaders just can't break free from the stranglehold that special interest campaign contributions and lobbyists have on them.
Just two weeks ago, as the Securities and Exchange Commission was putting the finishing touches on new rules designed to put an end to conflicts of interests at accounting firms, the idea of banning these firms from double-dipping as tax advisors was considered. And then, after an all-out lobbying effort by the accounting industry, rejected. Instead, the commission crafted a loophole allowing accounting firms to continue to sell tax advice to clients whose books they are "independently" auditing. The SEC's dictionary clearly has a very different definition of "independent" than mine. Or Webster's. But then he was probably dumb enough to actually pay his taxes.
Conflicts of interest must end. Rich corporate executives should not be allowed to avoid paying their fair share. Well, duh! In saying these things, I feel like all I'm doing is stating the blatantly obvious.
So why isn't the blatantly obvious obvious to the people in Washington?