Tax Delinquencies to Jeopardize Contract Eligibility Under New Final Rule

Tax Return BWOn Friday, Sept. 30, 2016, the Department of Defense, the General Services Administration and the National Aeronautics and Space Administration issued a Final Rule aimed at blocking tax evaders and convicted felons from receiving federal contracts. The Rule, which was unchanged from the version first proposed last December, significantly expands the circumstances under which contractors will be barred from awards due to tax delinquencies.

Although the Federal Acquisition Regulation (FAR) has historically required prospective contractors to make limited certifications regarding their tax payment history, the new Rule broadens that policy by extending it to virtually all federal government contracts. The principal provision of the Final Rule – the new contract clause found at FAR 52.209-11, Representation by Corporations Regarding Delinquent Tax Liability or a Felony Conviction Under Any Federal Law – differs from these previous policies in three key respects. First, unlike existing provisions, which require the disclosure only of federal tax delinquencies exceeding $3,500 in the preceding three years, the Final Rule requires the disclosure of any existing federal tax delinquency not currently in dispute. Second, where existing provisions have applied only to contracts whose value exceeded a certain monetary threshold (generally $150,000), the new provisions apply to all contracts. Finally, and most importantly, in contrast to the existing rules, which afforded contracting officials discretion over whether to disqualify contractors for tax delinquencies, the Final Rule expressly prohibits contracting with tax delinquents except under very narrow circumstances.

Importantly, federal tax liabilities that are the subject of judicial or administrative challenge do not constitute delinquencies for the purposes of the Rule.

Heat Rises on Indicted Former Tax Court Judge Diane Kroupa as Husband-Codefendant Pleads Guilty

Bribes and handcuffs. Close-up shotOn September 23, 2016, Robert Fackler, the husband and now co-defendant of former Tax Court Judge Diane Kroupa, pleaded guilty to corruptly impeding the IRS, a felony that carries a maximum three-year prison sentence. It is unclear whether the plea agreement calls for Fackler to cooperate with the government’s prosecution of his wife. Considering that the indictment charged him with six felony counts, five or which will be dismissed under the plea agreement, chances are good that he has agreed to testify against his wife if she goes to trial. She now occupies the exceedingly uncomfortable sole defendant’s chair. The Minneapolis Star-Tribune has a good recitation of the facts of the case here.

Treasury and Other Agencies Issue Guidance to Banks on Correspondent Accounts

bank pillars_000015013886_LargeOn Aug. 30, 2016, the Treasury Department, the Federal Reserve, the FDIC, the National Credit Union Administration and the Office of the Comptroller of the Currency issued guidance to U.S. banks that hold correspondent accounts for foreign financial institutions. The Joint Fact Sheet on Foreign Correspondent Banking seeks to clarify U.S. banks’ obligations when hosting these accounts. Among other things, the fact sheet emphasizes that “Under existing U.S. regulations, there is no general requirement for U.S. depository institutions to conduct due diligence on an FFI’s [a foreign financial institution’s] customers. In determining the appropriate level of due diligence necessary for an FFI relationship, U.S. depository institutions should consider the extent to which information related to the FFI’s markets and types of customers is necessary to assess the risks posed by the relationship, satisfy the institution’s obligations to detect and report suspicious activity, and comply with U.S. economic sanctions.”

As we have noted before in this blog, “Any bank in the world that wishes to allow its customers to hold U.S. dollar-denominated accounts and conduct transactions in U.S. dollars must have access to the U.S. banking system. This requires foreign banks to open accounts at banks in the U.S., known as correspondent banks.” Any clarification of U.S. banks’ obligations in this area will be welcomed by both U.S. banks and their foreign correspondent banking customers.


Tennessee Legislator Convicted of Tax Fraud

On August 8, 2016, Tennessee State Rep. Joseph Armstrong (D-Tenn.) was convicted by a federal district court jury of filing a false federal income tax return, and acquitted of tax evasion and conspiracy. Armstrong’s conviction arose from an ingenious but morally dubious scheme to profit personally from a tax increase that he helped push through the legislature. Armstrong supported and voted in favor of a cigarette tax increase from 20 cents to 62 cents per pack. Cigarette wholesalers place tax stamps on packs to show that the taxes have been paid. Knowing that the stamps would increase in value from 20 cents to 62 cents, Armstrong got together with a wholesaler, hoarded the stamps, and resold them after the tax increase took effect for a 300 percent profit, or roughly $321,000. The jury convicted Armstrong of willfully filing a false tax return by failing to report this income.

The lesson from this scandal, unsurprisingly, is that the cover up is often worse than the crime. Armstrong’s tax stamp scheme was not illegal; it was only distasteful in the extreme. His attempt to cover it up by failing to report the income on his tax return, though, was a felony. He now faces a maximum of three years in prison and is being ejected from the Tennessee Legislature.

U.S. Tax Court Gives Strong Boost to Computer-Assisted Review

On July 13, 2016, in Dynamo Holdings Limited P’ship v. Comm’r, the U.S. Tax Court strongly defended the taxpayer’s use of computer-assisted review in a dispute with the IRS. In a 2014 decision in the same case, the Tax Court had already endorsed computer-assisted review, namely predictive coding, as a general matter. “Predictive coding is an expedited and efficient form of computer-assisted review that allows parties in litigation to avoid the time and costs associated with the traditional, manual review of large volumes of documents.” Dynamo Holdings, 143 T.C. 183 (2014). Read more >>

Asset Forfeiture Reform Bill Moving Through Congress

The “Restraining Excessive Seizure of Property through the Exploitation of Civil Asset Forfeiture Tools Act” (tortuously abbreviated as the RESPECT Act) (H.R. 5523) continues to make its way through Congress, with a markup  session held on July 7, 2016. The bill follows an IRS change of policy in October 2014 to correct perceived abuses in the seizure of the proceeds of criminal structuring of currency transactions. It is a crime to structure currency transactions with the intention of preventing a financial institution from reporting the transaction to the Treasury. Since banks must file a Currency Transaction Report with Treasury’s  FinCEN for currency transactions greater than $10,000, people sometimes conduct multiple sub-$10,000 transactions to evade this reporting. In such cases, in addition to criminal charges, the IRS often civilly seizes the structured funds with the intention of forfeiting them. Controversy arose over the fact that the IRS lawfully seized structured funds even when the funds were not the proceeds of some other crime. To be clear, structuring “clean” currency is no less illegal than structuring illegal-source currency. Still, many people thought that such seizures went too far.

To address this, the IRS announced in October 2014 that it “would no longer pursue the seizure and forfeiture of funds associated solely with ‘legal source’ structuring, unless there are exceptional circumstances justifying the seizure and forfeiture.” In June 2016, the IRS went further and “established a special procedure for people whose assets were involved in structuring to request a return of their forfeited property or funds.” Members of Congress apparently are uncomfortable with this being merely an internal IRS policy, and are seeking to give it the force of law.

Is a Hurry-Up Wire Transfer of $3 Billion on Behalf of a Malaysian Government Fund to a Little-Known Private Bank Suspicious? Apparently Goldman Sachs Didn’t Think So.

Multiple news sources (for example, here and here) are reporting that the U.S. government is conducting an investigation into whether Goldman Sachs violated the so-called Bank Secrecy Act (real and less-Orwellian name: Currency and Foreign Transactions Reporting Act of 1970) by conducting a highly suspicious wire transfer and failing to file a Suspicious Activity Report with the U.S. Treasury.

The Bank Secrecy Act, among other things, requires financial institutions to file Suspicious Activity Reports with the Treasury Department’s Financial Crimes Enforcement Network (“FinCEN”) when a customer’s transactions are, well, suspicious. Banks face serious penalties for failing to file Suspicious Activity Reports. Additionally, the electronically filed reports provide tips that often trigger IRS criminal investigations of the customers that engaged in the transactions. FinCEN closely guards the criteria for when a financial institution must file Suspicious Activity Reports to avoid tipping off would-be wrongdoers on how to avoid behaviors that might trigger the reports. Still, it’s not hard to see why the federal government might view the transaction at issue as suspicious. Continue Reading

Reversal of Countrywide Fraud Verdict a Reminder of Government’s Heavy Burden of Proof

stock-photo-13466461-close-up-of-headlines-on-financial-crime-with-handcuffsOn May 23, 2016, the U.S. Court of Appeals for the Second Circuit reversed a jury’s finding of civil fraud against Countrywide Home Loans and other lenders, finding that the government had failed to prove fraud in Countrywide’s sale of mortgages to Fannie Mae and Freddie Mac. Peter J. Henning wrote an excellent piece in the New York TimesWhite Collar Watch pointing out just how difficult it can be to prove fraud. The Countrywide case, brought under the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA), showed that one person’s “brazen fraud,” as presiding District Court Judge Jed Rakoff called it, is another person’s merely distasteful intentional breach of contract. The Second Circuit took the latter viewpoint.

How does this relate to tax enforcement? If the burden of proving garden-variety fraud is high, the burden of proving tax fraud is higher still. To prove tax fraud, the government must prove not only that a taxpayer made a false statement but that the taxpayer understood the tax law well enough to know that he or she was violating it. In other words, there can be no conviction in the absence of an intentional violation of a known legal duty. This has been the law at least since the Supreme Court’s decision in the 1991 case of Cheek v. United States. Unlike what we learned in our high school civics classes, ignorance of the law is an excuse in the world of tax fraud.

Firm Client Found Not Guilty of Tax Fraud After Month-Long Trial

On April 12, after four weeks of trial and one week of deliberations, a federal jury in the U.S. District Court for the District of Kansas returned a verdict of not guilty for a firm client accused of engaging in a conspiracy with his wife to defraud the U.S. government by impairing and impeding the IRS.  One Assistant U.S. Attorney and two trial attorneys from the Department of Justice Tax Division represented the government. Counsel Jay Nanavati represented the client. 

The client and his wife were alleged to have agreed to fabricate a repairs and maintenance contract between their two businesses to increase one of the businesses’ tax deductions and to divert money from the business to their personal use.  In December 2010, the client’s wife’s business wrote a check to the client’s business pursuant to a prepaid two-year service contract.  The client allegedly immediately used the money to buy gold coins that were shipped to the wife’s business.

According to the government, the service contract was a sham created to disguise a circular flow of funds from the wife’s business to the client’s business and back to the wife’s business in the form of gold coins.  On the wife’s business’s 2010 corporate tax return, the wife allegedly fraudulently deducted the payment to the client’s business as a business expense for repairs and maintenance.

The government called approximately 117 witnesses, most of whom were connected to different charges against the client’s wife.  The defense called approximately seven witnesses over two days.

Nanavati said the key to the defense was undermining the government’s witnesses’ credibility during cross-examination and pointing out to the jury during closing argument various logical flaws in the government’s theory of the case. “By the end of the government’s evidence, it was fairly clear that the government had not met its burden,” he said.


U.S. Treasury Seeks to Stanch Flow of Proceeds of Corruption and Other Crimes Into Manhattan and Miami Luxury Real Estate

On January 13, 2016, the U.S. Treasury’s financial intelligence unit, known as the Financial Crimes Enforcement Network (FinCEN), announced the issuance of geographic targeting orders (GTOs) to certain unnamed real estate title insurance companies. These orders will require the subject title insurance company to find out who the true flesh-and-blood purchaser (“beneficial owner”) is when a legal entity buys real estate and to report that information to FinCEN. FinCEN issues GTOs to target certain behaviors in certain geographical areas for limited time periods in furtherance of its mission of enforcing the Bank Secrecy Act. In this case, the title insurance companies that receive these orders will be required to report to FinCEN any purchases of residential real estate in Manhattan or Miami when the purchase price exceeds $3 million, the buyer is a legal entity, there is no bank loan, and the purchase “is made, at least in part, using currency or a cashier’s check, a certified check, a traveler’s check, or a money order in any form.” The orders will remain in force for 180 days, beginning March 1, 2016, and expiring August 27, 2016.

The stated purpose of the GTOs is to gather information on “individuals attempting to hide their assets and identities by purchasing residential properties through limited liability companies [LLCs] or other opaque structures.” Recently, the news has been full of stories about corrupt foreign officials and their family members hiding their wealth in high-end U.S. residential real estate by creating layers of LLCs to act as the buyers. FinCEN seems to be using the GTOs to test the waters of luxury residential real estate to determine how much of a problem money laundering presents in that area. Presumably, if the GTOs yield evidence of a significant problem, FinCEN will use the information as the basis for the creation of a regulation requiring title insurance companies nationwide to collect beneficial owner information permanently.

I suspect that these GTOs will eventually lead to the creation of permanent bank-like anti-money-laundering/know-your-customer rules that close the real estate loophole that currently allows the concealment of purchasers’ identities.