Tax Analysts Blog

What the Daugerdas Verdict Means for Tax Shelter Promotion

Posted on Nov 4, 2013
Engaging in tax shelters has become risky business. The government is now quite adept at shutting down formerly popular transactions like LILOs, SILOs, son-of-BOSS, and a host of others. Taxpayers frequently find themselves paying back taxes and interest, along with steep penalties. But the government isn’t content to target just the taxpayers who seek to lower their taxable income in inappropriate ways: It also wants to criminalize the conduct of practitioners who promote and structure shelter deals.

The government’s record in criminal tax cases against promoters is spotty. The largest criminal prosecution was against 19 KPMG employees, but it fizzled out when 13 of the defendants were removed because of government pressure on the issue of attorney fees. In December 2008 three defendants were convicted of tax evasion, including R.J. Ruble. They were acquitted of conspiracy charges.

A major criminal case, which had to be retried because of juror misconduct, ended on Halloween, when a jury acquitted BDO Seidman CEO Denis Field of charges that he led and participated in fraudulent tax shelters. The same jury convicted Paul Daugerdas (formerly of the notorious firm Jenkens & Gilchrist) of seven of the 16 charges he faced, including conspiracy, tax evasion, and mail fraud. Another codefendant, Donna Guerin of Jenkens & Gilchrist, pleaded guilty and was sentenced to serve eight years in prison and to pay $190 million in restitution.

The KPMG and Daugerdas prosecutions are only the highest-profile among numerous attempts to criminalize the promotion and structuring of tax shelters, but they illustrate the problems with these types of actions. The tax community generally has not been supportive of the government’s efforts. Many practitioners questioned why the KPMG matter was ever undertaken. The prosecution was ambitious, but poorly structured. In the end, it probably cost the government more credibility than it gained in deterrence.

The Daugerdas case was slightly more successful, but it still serves to show why these types of criminal tax actions are more trouble than they’re worth. The Justice Department isn’t just looking to criminalize outright fraud (and lies). It seems to be targeting faulty or inadequate legal advice as well. "I'm afraid that what happens in these convictions is rather than focusing on the lie, the government wants to quibble with the legal analysis," Jasper L. Cummings, Jr., of Alston & Bird said. Cummings doesn’t believe that providing legal analysis that violates the economic substance doctrine rises to the level of criminal conduct. And he’s probably right.

Although the government has had trouble securing convictions in these types of cases, that doesn’t mean defendants don’t suffer. It can be extremely expensive and time-consuming to fight back. Field probably spent millions in legal fees and had to endure two different trials. Taking a case all the way to a jury might give a defendant a good chance of winning a case, but the costs can be enormous.

So what can be learned from Daugerdas and Ruble? The government is very angry about tax shelter promotion and will use every weapon at its disposal to stop it. Taxpayers and their advisers have only themselves to blame for that. The types of transactions promoted by KPMG and Jenkens & Gilchrist are almost comically outlandish in the tax benefits promised and (temporarily) delivered. Taxpayers and practitioners should be very careful about promoting, structuring, and engaging in transactions with little to no business purpose and massive tax benefits.

But the government should also be judicious in how it chooses to attack tax shelters. While it might have secured a few convictions, and even jail time, in the KPMG and Daugerdas cases, it also lost face, along with time and resources, for its relatively modest success. Instead of spending many years to secure partial convictions on a few practitioners, perhaps the government’s time would be better spent attacking tax shelter transactions on the front end, at the exam and regulatory drafting levels.

Read Comments (3)

Christopher BerginNov 4, 2013

Jeremy, Nice post. I don't think your assessment that the government is being
motivated in part by anger overstates the case. And I certainly agree with your
statement: "Taxpayers and their advisers have only themselves to blame for
that. " Back in the 90s, Tax Analysts took the lead in investigating the
shelter abuse. It should not be forgotten that some seriously wrong things were
being done. I'm again reminded of the tax lawyer who was said to say at the
time: "It's a question of eating or sleeping, and I'd rather eat." Let's hope
the lessons of the disgrace that was the abusive tax shelter era never have to
be relearned.

vivian darkbloomNov 4, 2013

"In December 2008 three KPMG attorneys were convicted of tax evasion, including
R.J. Ruble."

Per press reports and the Wikipedia write-up on this, Robert Pfaff and John
Larsen were convicted in December 2008. One was a *former* KPMG partner and
the other a *former* KPMG employee. The third person convicted was R.J. Ruble
and he was never a KPMG attorney---he was an attorney at Brown and Wood and
before that Sidley Austin.

http://en.wikipedia.org/wiki/KPMG_tax_shelter_fraud

I heartily agree that "taxpayers and practitioners should be very careful about
promoting, structuring, and engaging in transactions with little or no business
purpose" (whether those tax benefits are "massive" or not).

Journalists should be equally careful about correctly stating the facts of
cases in which those transactions were engaged in.

Jeremy ScottNov 4, 2013

Thank you for the nice comments, Chris. I don't think the government would be
where it is today without some of the work done by TA.

Vivian: Thanks for the note. We've made a clarification. Thanks for reading!

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