Tax Analysts Blog

Jack Lew, the Cayman Islands & FATCA

Posted on Feb 15, 2013

The departing Secretary of the Treasury, Timothy Geithner, had a tax problem stemming from his employment at the International Monetary Fund. As you may recall, he forgot to pay those pesky social security and Medicare taxes. The incident was a major embarrassment, but it did not disqualify him from public office. This week we learned that Geithner's presumed successor, Jack Lew, also has a tax headache. This one involves an offshore investment in the Cayman Islands. There is no evidence that Lew violated any tax laws, but the episode speaks volumes about American attitudes on wealth and taxes.

Lew worked for Citigroup and did rather well for himself. His compensation package included a $945,000 bonus paid out in January 2009. The timing is interesting as it occurred around the time Citigroup was on the verge of going bust and seeking a massive taxpayer bailout. Yes the bonus looks horrible in hindsight, but that's Wall Street. What should he have done, refused to accept the check? Personally, I don't know many people who turn down generous bonuses from their employers.

During Lew's confirmation hearings this week, Senator Chuck Grassley (R-Iowa) framed the issue in terms guaranteed to maximize popular outrage. He quizzed Lew on how "it might be morally acceptable to take close to a million dollars out of a company that was functionally insolvent and about to receive a billion dollars of taxpayer's support?" Touché, sir. That's the same exercise in humiliation that Democrats hurled at Mitt Romney for much of the last four years. 'How do you justify the car elevator in the La Jolla mansion that you don't actually live in because you own so many other mansions?'

We get it. Romney is a rich guy. And Lew ain't exactly poor. Every society has its economic elites, and sometimes they run for president or head the Treasury Department. Sure, America is an aspirational society. But we also don't mind sticking it to fat cats when the opportunity presents itself. Republicans can play that game, too. Class warfare is an equal-opportunity ploy.

Lew and other Citigroup execs also invested in a proprietary venture capital fund that was registered in the Cayman Islands. Not surprisingly the fund's Cayman registration was at Ugland House, the infamous office building on Grand Cayman Island that serves as home to more than 12,000 shell companies, none of which conduct any business there. Lew claims he didn't realize the fund was registered in the Caymans because the all people running it were based in London.

Ironically, President Obama has spent years pointing a finger at Ugland House. He has repeatedly cast it as a fiscal house of ill-repute, which symbolized everything that's wrong with our tax system. Democratic lawmakers have held entire hearings on the perceived abuses occurring inside Ugland House. In 2008 the GAO published a detailed reported on the shell companies associated with the building. And now it turns out that Obama's own Treasury nominee had money there. Seriously, you can't expect Republicans to not get some mileage out of that.

Maintaining a beneficial interest in an offshore financial account is not illegal. For the most part, Americans can invest wherever the heck we want. But the law does requires that account holders report all investment income on their tax return. If foreign banks don't report the income to the IRS — which nobody did prior to FATCA — then the taxpayer is on the honor system. The IRS will almost never find out about an offshore bank account unless somebody discloses it to them (say, an angry ex-spouse). Such is our self-assessment system in the absence of robust reporting or withholding requirements. Again, FATCA will change much of this as of January 1, 2014. BTW: I should mention here that Tax Analysts has a valuable new online tool dedicated exclusively to all things FATCA.

So the relevant inquiry here is whether Lew reported his offshore earnings. His answer, conveniently, is that the fund lost money so there was no income to report. His hands are clean, apart from the obvious embarrassment. We can ponder whether Lew would have reported his offshore income, if there was any, but that's a hypothetical exercise. One wonders if Lew isn't relieved that this particular fund was a loser.

Will his Cayman investments disqualify Lew from consideration? No, he is expected to be easily confirmed. But it's rich watching Republicans squawk about the offshore sector while Democrats rush to defend an Ugland House client. Only in Washington.

Read Comments (2)

vivian darkbloomFeb 15, 2013

"Lew worked for Citigroup and did rather well for himself. His compensation
package included a $945,000 bonus paid out in January 2009. The timing is
interesting as it occurred around the time Citigroup was on the verge of going
bust and seeking a massive taxpayer bailout."

The timing is indeed interesting; however, Goulder misses one of the more juicy
and pertinent aspects of the "timing". Lew, a very well connected Democrat,
left Citigroup to join the newly-elected Obama administration in a high level
government position. Citigroup was fully aware of that.

Goulder has, consistent with the nominal description of the payment,
interpreted it as a bonus paid out in January 2009, ostensibly for past
services performed.

A cynic's view of the motivation for this payment would be that it was more for
future services than past services. Viewed in that light, it makes perfect
sense and was undoubtedly a very good investment by Citigroup.

Of course, no one can prove that Citigroup paid that big bonus, despite their
financial straits (or because of them?) to gain influence in the new
adminstration. From their perspective, I'm sure that was the beauty of it.
Nevertheless, that's a much more troubling matter than structuring an
investment via a Cayman island fund which was perfectly legal and undoubtedly
resulted in no tax avoidance, much less evasion.

vivian darkbloomFeb 24, 2013

According to today's WSJ:

"“The terms of Mr. Lew's original employment contract with Citi included a
bonus guarantee if he left the bank for a "high level position with the United
States government or regulatory body."”

It appears my cynical instincts were correct.

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