ataxingmatter

Goggle's Bermuda hideaway/HSBC's too-big status: time to rein in the corporations!

If you are a company that depends on IP for a lot of your revenue, you may be able to avoid considerable taxes by funnelling profits from subsidiaries in high-tax countries into a Bermuda shell company.  Google avoided about $2 billion in worldwide income taxes in 2011 by shifting about 80% of its total pretax profits-- $9.8 billion -- into Bermuda.  See Jesse Drucker, Google Royalties Sheltered in No-Tax Bermuda Soar to Nearly $10 Billion, Bloomberg.com (Dec. 10, 2012).

Meanwhile, the US decided not to take action against HSBC for its fraudulent behavior because it was considered so big that it could damage the financial system (again) to interfere with its continuing corporate existence.  See  Glenn Greenwald, HSBC, too big to jail, is the new poster child for US two-tiered justice system, guaradian.co.uk (Dec. 12, 2012) (noting that "one of the world's largest banks, HSBC, spent years committing serious crimes, involving money laundering for terrorists; 'facilitating money laundering by Mexican drug cartels'; and 'moving tainted money for Saudi banks tied to terrorist groups' " but US officials decided "not to prosecute HSBC for accepting the tainted money of rogue states and drug lorgds on Tuesday, insisting that a $1.9bn fine for a litany of offences was preferable to the 'collateral consequences' of taking the baqnk to court").

Maybe this kind of information will finally incense governments against corporate tax dodging.  What we need are laws that refuse to recognize shell companies set up in tax-haven countries to siphon profits from the countries where they originate.  What we need are fewer possibilities for companies to expand through tax-free mergers and acquisitions that allow them to get so big that they become immune to ruin when they commit major crimes. 

Related articles

Why the US didn't prosecute HSBC

Editorial: HSBC, Too Big to Indict?

Obama Declares Big Banks Too Big to Jail

HSBC: Too big to jail?

HSBC to pay £1.2billion over US money laundering

DOJ Refuses to Indict HSBC For Money Laundering Explicitly Because It is Too Big To Fail

Google Dodged $2 Billion In Taxes Using A Shell Company In Bermuda (GOOG)

How Did Drug Money Laundering Become a Non-Prosecutable Crime: The Stench Spreads on the HSBC Settlement

Romer's deficit reduction suggestions worth a read

Christina Romer's recent piece in the New York Times is worth reading.  See C.D. Romer, Cutting the Deficit, with Compassion, New York Times at BU5 (Sept. 9, 2012).

Now, I generally have found Romer too willing to advocate austerity economics and too unwilling to support progressive tax policies.  But nonetheless, this piece hits some good notes.  For example, while arguing that reducing the deficit needs to be a priority, she acknowledges that it must be done "in a way that does as little harm as possible to people, jobs and economic opportunity."  Similarly, she recognizes that requires going slowly--" a comprehensive, aggressive deficit reduction plan [should be passed] as soon as possible, but the actual spending cuts and tax increases should be phased in as the economy recovers."  Why?  Because "[a] crude rule of thumb is that every $100 billion of deficit reduction will cost close to a million jobs in the near term."  A big price to pay that makes it reasonable to consider not only LONG-TERM deficit reduction plans but also SHORT-TERM job creation measures.

ASIDE:  And in case you wonder, tax cuts for the wealthiest amongst us, as advocated by the Romney-Ryan team--are NOT job creation measures.  The Romney-Ryan budget proposes to achieve revenue neutrality, huge tax cuts for the rich, and no tax cuts for the middle class by not proposing any specifics.  The reality is that the Romney-Ryan plan is just politico-wishspeaking:  there is no plan that will do what they claim, because they depend on the now-well-disproven idea that huge tax cuts for the wealthy will generate more tax revenues while creating more jobs.  Nope.  Neither likely nor even possible.  And by not specifying what they'd cut, they are merely trying to fool the people.

Here are what Romer proposes, with some commentary:

1) tax credits for businesses that actually increase employment

Not a bad idea to replace the endless suggestions of business tax cuts, but any accountability will have to be long-term--i.e., payroll will have to increase over a period of 2 years and the particular jobs created will have to stay in place for at least 2 years before any tax reward should be available

2) "well-designed tax reform that raises at least some additional revenue" and "let[s] the Bush tax cuts expire for those earning more than $250,000 a year [while] [i]ncreasing rates on top earners" and "lowering tax expenditures" including "the low tax rate on capital gains and dividends"

Hmmmm.The clarion call for tax reform has consistently been used by DC lobbyists to push for tax CUTS for the wealthy and big business.  It is not so clear that we need a huge tax reform.  What is usually meant by tax reform is "simplification," which is just another way to justify unneeded tax cuts  .We do not need to cut the corporate tax rate.  We do not need to reduce tax regulations. 

 But I do agree with Romer's notion that we need some tax increases.  My preference would be to allow the entire panoply of Bush tax cuts--passed by a Congress that unfortunately and wrongly believed the Laffer lie that cutting taxes would increase revenues--to expire as the Republicans originally purported to intend.  Let the sunset happen.  And then come next year, think about what, if any, of the cuts make sense. Perhaps a cut to the income tax rates of those who make less than $100,000 a year.  But an increase for those that make more than that, and a significant increase for the top two quintiles, would be in order.  We should raise rates on the wealthiest by creating additional tax brackets for those making 500,000 to a million, 1-2 million, 2-10 million, and above 10 million.   We could reasonably examine the many tax expenditures/subsidies in the Code and begin to cut back on them--starting with the capital gains rate preference, and moving through the exorbitant support for wealthy mortgages (limit it to an interest deduction on the first $250,000 of mortgage interest and phase that out for anyone with an income above $500,000) and including the R&D credit (rather than deduction), the "active financing exception" and the subsidy for moving active businesses offshore (and along with that, eliminating any idea that there is such a thing as a "profits" partner who isn't taxed on a "transfer" of a partnership interest at the time the interest is provided).

3) slowing spending growth for government health care spending- by reducing overpayments to health care providers (as the $716 billion cut misrepresented by the GOP does); by increasing those cost-cutting reforms to find other ways that we are inefficient; by "making the wealthy pay a larger share of their Medicare costs and gradually raising the Medicare eligibility age"

Here we see the problem that no one in government dares to say what must be said--that until we move to a single-payer system like the rest of the advanced world, we will see private parties continuing to rip off rent profits from providing health care.  We must eventually expand to "medicare for all"--and we should do that soon.  In the transition, it would be reasonable to have a means-adjusted payment scale, so that the Medicare tax is higher for those with more income (corresponding to the increased brackets for the income tax).  And it might be reasonable to have a few major categories of jobs for determining base retirement age--workers in steel plants who work in 115 degree interiors when it is 90+ degrees outside likely should retire earlier than workers in academia who work at their desks in air-conditioned offices.  But that won't be easy and will need to be developed by consensus over some reasonable time, rather than through partisan, anti-worker politics.

4) cut other spending--protecting children, displaced workers, and wounded veterans in the process,as well as money for education (including Pell grants) and infrastructure and scientific research--but cutting "agricultural price supports and subsidized crop insurance programs that mainly benefit large commercial farmers," the Pentagon's budget, and high-speed rail.

We certainly can cut a lot of waste and warmongering out of the Pentagon's budget, which is one reason that I'm all for letting the sequester approved by Republicans go through.  We could save a great deal there that could be used for infrastructure and other spending that builds opportunities and jobs instead of supporting the military-industrial complex.  I'd also support  cutting most of the agricultural subsidies, which primarily support Agribusiness that produces tasteless food at a high environmental cost.  But I disagree strongly on high-speed rail.  If we don't as a nation invest in transportation infrastructure that moves us beyond the costly highways (costly in human lives, dollars to build and maintain, and environmental degradation), we will not advance our economy as we must.

 

Why We Should Care About Romney Refusing to Release His Tax Returns If Nominated

As most are probably aware, Romney announced a two days ago that he did not intend to release his tax returns even if he were selected as the Republican presidential nominee.  See, e.g., Mitt Romney Declines to Release Tax Returns, Cementing Posture of Secrecy, Huffington Post (Dec. 22, 2011) (quoting Romney as announcing "Never say never, but I don't intend to do so").

The reasons that such releases have traditionally been pushed for presidential candidates are myriad.  Voters can understand  more about a candidate's wealth  and potential conflicts from reviewing the returns.  They also have some idea of the candidate's understanding of finance from viewing the returns. 

What kinds of things likely prompt Romney not to want to release the returns?  Are they issues that voters might reasonably take into account in assessing his candidacy or are they irrelevant concerns? 

One can speculate that Romney may be worried that the stark revelation of his immense wealth compared to most voters will be damaging.  We are living through a second Gilded Age, when wealth is concentrated in enormous measure in the hands of very few Americans at the top, and the vast majority of us are just barely getting along and are worried about being tossed out of the middle class into the New Poor.  In that context, surely the wealth of a candidate is information that is relevant to voters.  Persons of immense wealth may have trouble understanding the daily trials and tribulations of 'average' Americans who have to save judiciously for unusual expenses and who may be thrust into bankruptcy by a car accident, storm-caused damage to a home, sudden change in job possibliites, or onset of a serious illness.  Further, Romney is trying to take advantage of his experience as a businessman and claims about his market abilities and savvy financial training:  that makes his tax returns directly relevant and it strikes this voter as contradictory that he both wants to claim it and hide it.

Given Romney's wealth, it is likely that most of his income is in the form of income from capital that is privileged under our tax code with especially low preferential capital gains rates--capital gains, almost all corporate dividends and income from pension funds (his private equity firm Bain Capital, still pays him a generous share of 'profits' through a deferred compensation plan--another tax -reduction scheme that most Americans can't benefit from).   Surely it is relevant to voters whether a presidential nominee is particularly benefited by the current tax laws that favor the wealthy or not.  And surely it is relevant just how extensive that benefit is.  For example, Romney may well pay a lower effective tax rate than many Americans who have many times less income than Romney does. Voters are entitled to know that fact, since it will undoubtedly influence Romney's views about tax reform.  As David Donnelly, the national campaigns director of the Public Campaign Action fund, notes in the Huffington Post piece, "the implications are that he is afraid of what this says about who he is and who he will represent if he is in the White House."

The decision not to release tax returns also provides more evidence of a person who does not believe in transparency.  Romney hasn't released information about campaign contribution "bundlers."  He destroyed records from his tenure as governor of Massachusetts.  This tendency towards secrecy runs against the importance of openness for the sustainability of democratic institutions.

Romney is "one of the wealthiest men ever to run for the presidency" and he made most of that money in the extremely tax-advantaged world of private equity fund managers (who have claimed preferential capital gains rates on their compensation income under the "carried interest" loophole in the partnership provisions that the wealthy members of Congress haven't yet been able to bring themselves to close).   Shear, Romney Says He Won't Release Tax REturns, New York Times, Dec. 22, 2011.  Release of returns would call attention to the privileged tax system applicable to private equity fund managers, and to the fact that Romney enjoyed that kind of special tax system while average Americans who toil for a living pay higher rates on their compensation.  Shouldn't we have that information in front of us in black and white? 

Tax policy is where a great many of the important decisions affecting every facet of the economic wellbeing of this country are now being made.  For a presidential candidate to refuse to release his/her tax returns and allow citizens to arrive at their own conclusions about how the candidate's wealth, tax advantages, and tax positions will influence his/her thinking on tax policy issues is worrisome.

Of course, the mere fact that there will be rampant speculation about the tax rate that Romney pays and the income that would be revealed on his tax returns if released is itself a reason to release the returns.  Americans will be interested, and they will want to understand how Romney's tax rates compare to their own.  The Democratic National Committee has already created a webstie that allows people to compare based on assumptions about Romney's rates, according to the New York Times story, at www.whatmittpays.com.  We already have too much misinformation and speculative information in our national campaigns, so it behooves Romney to release the forms so that people can see what the real information is.

And finally, the fact that Romney has challenged his own opponents to release their tax returns (Ted Kennedy in the 1994 Senate race) should be a "shame-on-you" reason for him to release his own returns now.  If he thought that Kennedy's tax returns would be relevant information for voters, then it is surely reasonable to assume that he thinks that his own tax returns would be relevant information for voters.

There doesn't seem to be any valid reason for Romney to withhold his tax returns if he is the nominee.  If he doesn't release them, then voters should attribute it to Romney's sense of patrician privilege.  And it wouldn't be unreasonable to assume along with that his acceptance of the corporatist agenda to shift more and more taxes onto working Americans and his inability to understand the daily lives of ordinary Americans. It should count against him in considering just how he will handle the key economic issues of our times--changes to the tax code that will finally require the wealthy and high income to pay more to redress the imbalance of the numerous changes made in the last 40 years that favor the wealthy.

Democrats touting tax cuts

The New York Times ran a story this week about the Obama tax cuts--the point?  while the Tea Partiers rage against the Obama administration because they want more tax cuts, they have missed the fact of substantial tax cuts under the Obama administration.  See Michael Cooper, From Obama, the Tax Cut Nobody Heard of, NY Times, Oct. 18, 2010 (noting that a reporter's query at a Republican gathering ifound most commenters saying that their taxes had gone up under Obama and a NY Times, CBS News POll that showed that fewer than 1 in 10 Americans knew that Obama had cut taxes for most Americans, with a third mistakenly thinking their taxes had increased under Obama).

The reason for the failure to notice.  It might be partly the vast expenditure of funds to support misleading propaganda that claims that the Obama administration's policies are terrible for ordinary Americans.  But it is at least in part because of the design of the economic stimulus tax cuts--intended to let the tax relief arrive in paycheck after paycheck (about $65 a month for typical families) so that it would be spent and thus help the economy, rather than arriving in a lump sum that might more likely be used as savings/debt reduction that would have less of an effect on the economy, coupled with the fact that the recession was cutting into spending money as businesses cut back, construction workers worked less, state services declined and, in at least 30 states, state taxes rose (see CBPP, States Continue to Feel Recession's Impact, Oct. 7, 2010), and deductions for the ever-spiralling health insurance bills increased. 

[Of course, this will all be much worse for many if the Tea Party candidates dominate in the elections.  The ranking Republican on the House Budget Committee, for example, "calls for a radical redistribution of resources from the broad majority of Americans to the nation's wealthiest individuals" including a plan that "provides the largest tax cuts in history for the wealthy,raises taxes on the middle class, ends guaranteed Medicare benefits, erodes health care coverage, partial privatizes Social Security, and makes deep cuts in guaranteed Social Security benefits."  Ryan Plan Makes Deep Cuts in Social Security, CBPP, Oct. 20, 2010.  See Ryan Roadmap (introduced as H.R. 4529).]

The Democrats didn't miss a beat in putting out a "fact sheet" to help people understand the range of tax cuts included in the stimulus bill and other legislation passed under Obama. See "Democrats Cut Taxes by $509 Billion, Putting Taxes at Lowest Level Since 1950", Democratic Policy Committee, Oct. 20, 2010.  The release includes the following list of major tax cuts enacted in the 111th Congress.

American Recovery and Reinvestment Act of 2009 (P.L. 111-5; JCX-19-09)

Tax relief for individuals and families (e.g., Making Work Pay Credit, American Opportunity Tax Credit, first-time homebuyer credit, and AMT relief)	$232,426 million
Clean energy incentives	$19,963 million
Tax cuts for businesses	$6,150 million
Manufacturing recovery provisions	$1,850 million
Economic recovery tools (e.g., recovery zone bonds, new markets tax credit)	$6,501 million
Infrastructure financing tools (e.g., school construction bonds, Build America Bonds)	$19,638 million
Low-income housing and energy property provisions	$74 million
$250 refundable tax credit for federal and state pensioners not eligible for Social Security	$218 million
Health Coverage Tax Credit provisions	$457 million
Low-income housing tax credit provisions	$143 million
Assistance for COBRA health coverage premiums	$24,677 million
TOTAL (over 2009-2019)	$312,097 million

 Patient Protection and Affordable Care Act (P.L. 111-148; JCX-17-10 and CBO, Table 2)

Tax credit to help small businesses afford health coverage	$37,000 million
Tax credit to help individuals afford health coverage (Exchange Premium Credits)	$106,000 million
Therapeutic Discovery Tax Credit (for small businesses to produce innovative medical therapies)	$900 million
Adoption tax credit	$1,200 million
Health professional state loan repayment tax relief	$100 million
TOTAL (over 2010-2019)	$145,200 million

 Worker, Homeownership, and Business Assistance Act of 2009 (P.L. 111-92; JCX-45-09)

First-time homebuyer tax credit provisions	$10,823 million
Business tax cut (increase carryback period for net operating losses)	$10,407 million
Military BRAC fringe provisions	$243 million
TOTAL (over 2010-2019)	$21,473 million

 Hiring Incentives to Restore Employment Act (P.L. 111-147; JCX-6-10)

Payroll tax forgiveness for hiring unemployed workers	$7,616 million
Business tax credit for retaining newly hired workers	$5,422 million
Business tax cut (increase in expensing of certain depreciable assets)	$35 million
Qualified Tax Credit Bonds provisions	$4,561 million
TOTAL (over 2010-2020)	$17,634 million

 Small Business Jobs and Credit Act of 2010 (P.L. 111-240; JCX-48-10)

Small business tax cut (modification to exclusion for gain from certain small business stock)	$518 million
Small business tax cut (5 year carryback of general business credit of eligible small business)	$107 million
Small business tax cut (general business credits of eligible small business not subject to AMT)	$977 million
Small business tax cut (reduction in recognition period for built-in gains tax)	$70 million
Small business tax cut (enhancements to section 179 property provisions)	$2,177 million
One-year extension of bonus depreciation	$5,454 million
Increase deduction for start-up business expenditures	$230 million
Limitation on penalty for failure to disclose reportable transactions based on resulting tax benefits	$176 million
Deduction for health insurance costs in computing self-employment taxes	$1,919 million
Cell phones and telecommunications equipment provisions	$410 million
TOTAL (over 2011-2020)	$12,038 million

 Homebuyer Assistance and Improvement Act (P.L. 111-198; JCX-34-10)

Extend eligibility for the first-time homebuyer credit	$140 million
TOTAL (over 2010-2020)	$140 million

 Charitable Donations for Haiti Earthquake Relief (P.L. 111-126; CBO)

Tax benefit for charitable cash contributions toward Haiti earthquake relief	$2 million
TOTAL (over 2010-2020)	$2 million

Wall Street Lobbyists' View of Financial System Reform

[edited to add link 5/4/10 at 3:12 pm]

Today's Washington Post has an interesting story on the bank lobby's thinking about financial reform.  Klein, Lobbyists fret over legislation to reshape financial system, Wash. Post, May 4, 2010.

Basically, the story line is this (with some added interpretive flourishes of my own, in italics). 

Bank lobbyists didn't like the House bill.  Too tough.  They expected the Senate bill to be better.  Sure, Dodd had a couple of provisions they didn't like, but with Republicans Shelby and Corker making lots of noise about the need for bipartisanship and Dodd trying hard to get a bipartisan bill, there was pretty strong expectation that the bill that came out of that negotiation would be much more favorable to the bankers' positions.  But then something happened.  Senators started worrying about upcoming elections.

(My goodness, what might ORDINARY VOTERS think if the senators don't vote for tough regulation of the banks that caused the Great Recession and the bankers who flew through it with hardly a scrape, while ordinary Americans are suffering high unemployment, stifled dreams, and long-term fears about their financial security, while still paying exorbitant fees for everything provided by banks and getting loans, if at all, only by paying interest at quite a spread over the almost zero rate the bank has to pay to borrow from depositors or from the overly generous FED window.) 

The bill made it out of committee with no amendments.  None.  It was a party line vote (GOP against) but all those expected GOP amendments didn't materialize.  It just took 20 minutes to vote it out of committee and make it possible that there would be real floor debate.

And the lobbyists' response is this:

Instead of getting the provisions the banks don't like loosened, the Senators' thinking about upcoming elections has them adding tougher provisions.  Those provisions are likely to actually impact the banks' profits (their big business in derivatives and proprietary trading, most of it risky, a lot of it used to help banks or others evade regulatory requirements or avoid taxation through some kind of arbitrage) and their "global competitiveness"  and benefit to the American economy (read this as --their ability to do all the risky stuff that big banks in other countries may still be able to do, and if you can't be as risky as the next bank, you won't make as much mone and, after all, what's good for the big banks should be understood to be good for the American economy).

So what's the solution?  Why, the usual deal that lobbyists have been comfortable with over the last few decades--getting inside access to the men who have power to shape the bill in a back room somewhere (and letting them know that working for the lobbyists is their job, not paying attention to the ordinary people who put them in office).  Says one lobbyist interviewed by the Post:

"They've got to get this thing off the [Senate] floor and into a reasonable, behind the scenes" discussion, said one lobbyist. "Let's have a few wise fathers sit around the table in some quiet room" and work out the details.

Maybe, the lobbyists say, they'll even have to accept a banker-unfriendly bill from the Senate, but they can work the Conference Committee when a few players from the House and Senate get together to iron out the differences between the two versions of financial reform--maybe even Barney Frank, who has been pretty critical of big banks lately (they seem to think that he can be influenced to be their best friend forever). 

And if not, then they've got full employment for the next ten years, as they work to persuade Congress to weaken whatever bill is passed (just as they did with the Glass-Steagall Act, where they wheedled and bargained to get exemptions and waivers and eroded the law until the Great Recession was the result).

"I think it's going to be job employment for me for the next decade, undoing some of this stuff," said one lobbyist.....

Beale here:  Now folks, it's pretty revealing when lobbyists have become so accustomed to their privileged access and backroom dealings with politicians --as went on in regards to Cheney's energy discussions, and each of the Bush tax cuts drawn up by a secretive group of GOP without any sunlight (or bipartisansip), for example, and too much with the health care bill as well--that they don't even bother to hide their scorn for the public's views and their hopes for getting that back room deal to go their way.   No wonder Wall Street honchos have been so brazenly arrogant about their "entitlement" to bonuses, their rights to continue proprietary trading and hedge funds and derivatives desks--"doing God's work" says Goldman CEO Blankfein--when they are merely running a casino market to strip as much gold off suckers as possible with their "financial innovations" like synthetic CDOs that made the market many times more volatile than "real" securitizations (which themselves were too easily done for our own good).

This is why I have long been worried about the "safe harbor" for mark-to-market rules for tax purposes under section 475, which lets banks use various types of financial statements to determine their "mark" that sets their income for tax purposes.  It is far too subject to manipulation, and what we have seen is that there are simply no voluntary curbs that will constrain bankers from taking high risks to get the results they want to get to make their own pocketbooks even fatter.

Accordingly, I'm convinced that tough financial reform needs to break up the big banks so that we don't have any that are "too big to fail."  Trying to maintain them big and then monitor the systemic risks they cause is a losing proposition, since their hubris and engineering smarts means they will always try to be one step ahead of regulators so they can make more money.  See, e.g., The Fourteenth Banker, Huffington Post, Apr. 13, 2010 (management banker at one of our megabanks admits to ethical crisis at banks and need to move proprietary trading so that banks get back to supporting America's entrepreneurs).  The Senate should enact a bill with the Lincoln curbs on derivatives and a ban on proprietary trading for investment banks as well as the Kaufman limits on size.  Let the accounting rules fall where they may, by the way, with more, not less, emphasis on taking losses from disrupted markets into account and less, not more, emphasis on mark-to-model accounting.  Make bank regulatory decisions independently based on whatever criteria are important to that. All the other measures--capital reserves, liability limits, consumer protection agency with independent enforcement powers, a systemic review council--are important, but without those real teeth they won't be enough to curb the banks' appetite for outsize bonuses and the risk that they encourage. 

Uncertain Tax Positions

The IRS released today its draft schedule and instructions for the new initiative (announced late in January by Commissioner Shulman and set forth in Ann. 2010-9) for disclosure on new Schedule UTP on uncertain tax positions for taxpayers with assets of $10 million or more.    The release, Ann. 2010-30 [Download Ann.2010-30. uncertain tax positions], invites comments and indicates that these draft forms and instruvtions will not be finalized until after the comment deadling of June 1, 2010, and after the IRS has had time to review all of the comments on the proposal and the documents.  REITs, RICs, partnerships and tax exempt organizations are not required yet to file Schedule UTP.

 One of the issues the IRS is considering is the extent to which the new form for uncertain tax positions (Schedule UTP [Download Schedule UTP form]) duplicates information required through other disclosure initiatives (such as the reportable transaction rules and Schedule M-3, the revised form for reconciling financial statement (book) and tax differences). 

(Of course, the recent financial accounting changes set forth in "Fin 48" have also led to revelations through financial accounting that are relevant for tax consideration.  See, e.g., "expedited resolution of uncertain tax positions-LMSB intiative to address certain implications of Fin 48.")

The rules generally require taxpayers to report positions if they made a decision to record a reserve 60 days or more before the filing of the return (or a decision not to record a reserved because of an expectation of litigation or in reliance on an IRS administrative practice).  Although the reporting requirement is supposed to apply to current and prior year tax positions, the IRS instituted a particularly taxpayer friendly transition rule by providing that prior years' tax positions need not be reported in the first year of the new reporting requirement.  In other words, prior year's uncertainties are essentially "grandfathered".  See Schedule UTP draft instructions released today [Download Schedule UTP Draft Instructions].

Why would practitioners and corporations object to a new disclosure requirement?  Primarily because it will further eliminate the uneven playing field in which insiders have the scoop on the taxpayer's positions and how aggressive the taxpayer has been in filing the return, while the IRS has to try to figure everything out from afar.  For the IRS, it's like trying to pinpoint the burrow of a mole from outerspace--without sufficient disaggregated information about the taxpayer's transactions and positions taken in respect of those transactions, the chance of finding items on audit is significantly reduced.  Corporate taxpayers with aggressive positions like it that way, of course, since it gives even frequently audited companies a version of the audit lottery--not whether there will be an audit, but whether the audit will be able to uncover the most aggressive tax positions taken and understand what it has discovered if it does.  I have argued that the pre-return tax advice should be considered business advice--accountants engage in those advising services as much as lawyers so it should not be eligible for attorney-client privilege.  Workproduct protection shouldn't be available, because anything prepared at this stage is prepared for inclusion on the return (directly, or as background information for what is included directly) and that business and regulatory use precludes the litigation focus that underlies work product protection.  The reporting of uncertain tax positions makes sense in this context.

The Continuing Wall Street Charade

OK.  Have you been reading the Wall Street Journal, Washington Post and New York Times for the last week and paying attention to the musical chairs of TBTF bankers and their crony regulators with their "nobody could have foreseen it" and "we're so sorry that we are responsible along with everybody else for what happened" stuff?  It's getting almost nauseating, isn't it?

Here's just a few of the headlines from what you could have read over the last few days.

• Nasiripour, JPMorgan Chase Argues Against Mortgage Modifications, Citing Sanctity of Contracts, Huffington Post (Apr. 10, 2010).

You may recall that JPMorgan Chase was one of those TBTF banks that benefitted enormously from having the US provide liquidity, pick up AIG's contract obligations to swap counterparties (like JPMorgan Chase) that otherwise would have resulted in much below-par payout, get a US guarantee for its acquisition of Bear Stearns (see JPMorgan Chase to Acquire Bear Stearns, JPMorgan website (Mar. 16, 2008)--allowing JPMorgan Chase to claim it was "standing behind Bear Stearns" even though the Fed was funding $30 billion of its worst assets--and, oh, there are all those Bear Sterns employment contracts that weren't worth a thing to the former employees); and provide seized Washington Mutual assets at low cost aided by its "write down" of $31 billion in bad loans that left $30 billion in debt and preferred stockholders with little recovery and of course adding to the big bank's TBTF status (see WaMu is seized, sold off to JP Morgan, Wall St. J., Sept 26, 2008), all of which amounts to a substantial cost-of-funds advantage in JPMorgan Chase's competition with other banks that aren't TBTF!  Oh, and its credit-card business frequently announces "new terms" in the unilateral contracts that get almost no consumer protection pushback. 

While all "legal" and the firings and "modifications" are all within the terms of the unilaterally drawn contracts (unless you are a big shot, ordinary employment contracts and credit card contracts and, in crises these days are essentially nonnegotiable "deals" offered on the corporation's terms, with lots of outs for the corporation and few for the other side--something we would call "unconsciounable" if we had not lost all ability to understand the term),  it doesn't sit well with tJPMorgan Chase's home lending executive's sanctimonious talk of sanctity of contract.  For example, the way WaMu's senior lenders lost out (got their contracts cancelled, one might say) resulted directly from the actions of the JPMorgan CEO.

"Jamie Dimon [JPMorgan Chase CEO] ... could--and did--ask for pretty much anything he liked, including the right not to have to pay back any of WaMu's creditors.  The result was that the bank wholesale-funding market went straight into crisis. ... A relatively consumer-friendly bank (WaMU) [was] forced ...to adopt the practices of a relatively consumer-unfriendly bank (Chase)--with predictable results.  Chase is now telling former WaMu customers that even if they have directed the bank not to let their accounts go overdrawn, the bank can still push the account into overdrawn territory anyway, and, of course, 'will assess an inssuficient Funds Fee' for doing so."  Salmon, Revisiting WaMu, Reuters, May 26, 2009.

That is just another version of the privatization of gains (liquidity, bad assets purchases, and cost-of-funds advantage all provided by the US taxpayer, with most of the loss to the taxpayer not conspiculously traceable and the cost-of-funds advantage to JPMorgan Chase pretty invisible except to those in the know) coupled with the socialization of losses (credit card borrowers who were hit with mushrooming fees and rates and bank-friendly terms; mortgage loan borrowers that were duped into higher-interest loans than their credit scores merited; borrowers who were cajoled into loans they shouldn't have taken out in the first place; and borrowers who are merely underwater because of the tsunami impact of the banks' subprime mortgage and credit default swap games--all told "no dice" on modification of the principal amount of the loan because "a contract is a contract").   The reason the TBTF banks won't voluntarily modify principals on mortgage loans is because they are determined not to take any losses they don't absolutely have to, yet they are at the same time increasing borrowing costs for ordinary Americans, adding to the usurious fees they charge, and paying close to zero interest on ordinary Americans' deposits while they continue their proprietary trading profit machine.

So what does Lowman (JPMorgan Chase Home lending CEO) say: "If we re-write the mortgage contract retroactively to restore equity to any mortgage borrower because the value of his or her home declined, what responsible lender will take the equity risk of financing mortgages in the future?"  But note that many of these loans were done without considering the possibility that house prices could fall--at all, without getting proper paperwork, often with what most of us would consider fraud in lending.  This is not "ordinary" lending times--as several of the books and even the cited article indicate, the bank on its side of those loans "did not coneduct any stress tests that showed house prices falling."  So as usual, it wants a unilaterally advantageous contract.  The bank pushed big loans on homeonwers who really couldn't afford to pay them (and would have to be able to refinance them to manage, in many cases) all without even considering the possibility of lower instead of higher house prices.  But the borrower, it says, must bear all the cost of such a foolish assumption!  And the big banks have fought even modification of mortgage loans in bankruptcy, indicating that they are unwilling to take those losses in ways that benefit borrowers even though every other type of loan can be modified in bankruptcy.

Relying on sanctity of contract as an absolute in this national crisis caused by the banks' own insatiable demand for fees from securitizations that required more and more "loan product" in the pipeline is, put simply, ridiculous.  Congress should pass a bill permitting modification of home loans in bankruptcy, and requiring any bank that has benefited from any of the emergency liquidity or bailout measures to modify home loans for its own borrowers where it is a principal residence, the borrowers bought their home at inflated prices within some period (3 years?) of the peak of house prices, and the borrowers' home value, established based on recent home sales in the neighborhood is now less than some reasonably low percentage (60%?) of the remaining outstanding amount of the loan.

•  Story & Dash, Lehman Channeled Risks through 'Alter Ego' Firm, NY Times, Apr. 13, 2010 at A1

Many of those who have worked on Wall Street (lawyer, accountant, investment banker) will recognize a common transaction in the story of Lehman and its circular flows of assets and borrowings through related special purpose entities.  This is something that the banks and lawyers propose to their sophisticated clients all the time--ways to have your pie and eat it too, essentially.  Sometimes it's done on the up and up but almost always it's done with the intent to make less transparent the actual economic substance of the corporation's financial statements or tax attributes.

The particular entities and transactions revealed here--based on internal Lehman documents and the reporters' interviews with former employees--depict a firm that obscured its financial condition in the months and years before its bankruptcy with "Hudson Castle" and "Fenway" and a commercial paper issuance by the Fenway SPE that was bought by Lehman and used as collateral for a loan from JPMorgan Chase.  The diagram looks like a circular flow of cash and won't be different from many other diagrams for many deals done on Wall Street in the last decade.  Much of those big lawyer and banker fees (leading to big bonuses) rest on these questionable transactions that represent layers of financings hard to penetrate by the outsider and making financial statements difficult to assess.  Clearly, this is where accounting reforms should come in--not more accommodation to banks on their ability to manipulate numbers with level 3 mark to model proprietary valuations, but rather more honesty and openness--sunshine--on the real interrelationships and financing schemes being used.

• Joe Bel Bruno, Star Manager is Charged in Subprime SEC Action, Wall St. Journal, Apr. 8, 2010 at C1

James Kelso, once a star mutual-fund manager, was accused by the Securities and Exchange Commission of deliberately inflating the value of subprime securities in order to hide losses in his funds after the real-estate bubble burst."  Id.  He was, the SEC claims, using the "opaque pricing on thinly traded securities"  to his advantage.  That included telling outside brokers "not to provide price information on one collateralized debt obligation unless the figure was above a certain level" and persuading accountants to accept numerous "'price adjustments' in 2007 that hid the dropping value of wrong-way bets."

Assuming the SEC is correct in its charges, this is a particular instance of the problem with broker-dealers' mark-to-model accounting, which provides too much opportunity for manipulation of values.

• Jones, Banks Winning When Investors Sue, Wall St. J., Apr. 8, 2010, at C1

In the many lawsuits by investors against banks stemming from the financial crisis, the odds of the outcome so far are weighted in favor of the banks.  That's because it is extremely hard to prove fraud when you don't have enough access to internal information and evidence and when the banks can claim they are just "victims" of the financial crisis who made serious mistakes but didn't commit fraud.   One can't help wondering if judges who dismiss these cases are being overly influenced by the banks' assertions that nobody could foresee the crisis. 

But remember--their VaR models are just computer models.  Nobody ever suggested to banks that it was wise to rely on proprietary computer models without using common sense.  Dimon's JPMorgan Chase didn't stress-test mortgage backed securities for falling house price:  they were convinced they would forever rise!  Yet the bank continued to sell them to investors, and to package and sell even more toxic CDOs backed by junk "mezzanine" tranche CDOs (that would go bust if there was a correlated 8% default) backed by subprime mortgages....  That's something you would only do if you are so taken with the money you can make short-term (fees, bonuses) that you don't give a damn about the harm you do long-term (in part because you are making so much in the short-term that it doesn't matter to you personally and in part because you are relying on an implicit federal guarantee to back up your losses).  Could they have known?  Sure.  Should they have known?  Absolutely. 

The upshot of this--"frequently, the large Wall Street financial institutions have escaped accountability even though those institutions fueled the subprime-market collapse."  Id. (quoting one of the plaintiff-side lawyers in the suits against banks). 

And here are three books you should read to balance some of the poppycock that the banks are spouting to protect their proprietary trading, consumer-disregarding fee structures, and cheap funding from the Fed (that provides that moolah for their outsized compensation structures).  I've excerpted just a choice piece from the blurbs or intros to whet your appetite.

•  Yves Smith, Econned: how unenlightened self interest undermined democracy and corrupted capitalism (2010) (a review is forthcoming here)

Virtually from their outset, a loose and often inconsistent set of ideas called 'free markets' have been widely criticized, both inside and outside the economics profession.  Nevertheless, these ideas became wildly popular and served as the basis for 30 years of policy, in particular the deregulation of financial services.  One reasons...is that they serve the agendas of powerful interests.  ...Yves Smith draws a direct connection between fundamentally flawed financial theories and a series of crises that culminated in the global meltdown of 2007 and 2008...[showing] that the pursuit of unenlightened self interest has produced a financial services industry that is a doomsday machine, systematically predatory, and now hugely powerful thanks to its control of vital financial strcuture.

• Michael Lewis, The Big Short (2010)

The real crash...had taken place over the previous year [2007] in bizarre feeder markets where the sun doesn't shine and the SEC doesn't dare, or bother, to tread:  bond and real estate derivate markets where geeks invent impenetrable securities to profit from the misery of lower-and middle-class Americans who can't pay their debts.  The smart people who understood what was or might be happening were paralyzed by hope and fear; in any case, they weren't talking.

• Simon & Kwak, 13 Bankers (2010)

[blurb to be added]

Shulman on complexity, uncertain tax positions

Doug Shulman, the Commissioner of Internal Revenue, spoke today at the New York Bar Association Tax Section's annual meeting.  See Prepared Remarks (Jan. 26, 2010).

Among other issues, he addressed the ever-present question of complexity and the hot topic of tax accrual workpapers and information about uncertain tax positions. 

1. Complexity

Shulman was not addressing tax law simplification--as the speech notes, "that's a speech for another day."  He was talking about the fact that the IRS now administers a great deal of the country's social policies--from purported economic stimulus and global competitiveness policy (e.g., lowering of US "manufacturers" tax rates through the section 199 deduction; lowering of US banks' tax rates on foreign income through the "active financing exception" to subpart F income; lowering of most businesses taxes through expensing and acceleration of deductions for equipment through bonus depreciation) to aide to low income families (e.g., earned income tax credit, etc.).  The IRS even administers our environmental policy (or lack thereof) in large part (see the numerous provisions for special treatment of natural resources extractive industries).

One worthy initiative Shulman discussed is the attempt to "better understand the entire complex economic picture of the enterprise controlled by the wealthy individual and to assess the tax compliance of that overall enterprise."  To do so, the IRS has created a group that will focus its expertise on high wealth individuals and the entities through which they control that wealth.  Similarly, the IRS has focussed on offshore tax evasion, developing expertise and coordinating the various efforts at disclosure, legislation, and cooperation with other governments.  The IRS Is also "looking for and finding points of leverage...where multiple people not paying taxes can be detected such as f]inancial institutions...[and] promoters of evasion schemes."  To further all of these objectives, the IRS Is working on a protocol for joint audits with treaty partners, an effort that should limit multinational corporations' opportunities for arbitrage.  Shulman says more specialized attention will also be given to transfer pricing issues.

2. Uncertain Tax Positions and Tax Accrual Workpapers:

Readers will recall from prior postings (here, here, and here) that the First Circuit Court of Appeals recently ruled in Textron that tax accrual workpapers are not protected by the work product privilege, since they are prepared for accounting purposes and not for litigation. 

Companies, of course, want to have their pie and eat it too.  They want to be able to claim that they are adequately reserving for potential losses in respect of their "uncertain" tax positions for accounting purposes, while preventing any disclosure about those determinations for tax purposes under a claim that the evaluations of their uncertain tax positions are prepared "in anticipation of litigation" under the civil procedure rule protecting work product from disclosure to the opposing party. 

I've argued that the work product claim for such documents is absurd on its face under the seminal Supreme Court case--those evaluations are required for accounting purposes and not for legal purposes so the documents are business documents and not protected legal documents.  Further, the mere fact that determinations about uncertain tax positions have to take into account the possibility of success if the position were ever litigated cannot be sufficient to turn those determinations into protected work product because EVERY tax position that is not certain must be evaluated for its likelihood of success on the merits to determine whether there is a requirement to disclose or sufficient authority to take the position on the return in the first place.  That mere evaluation does not mean that the evaluating document is prepared in anticipation of litigation or even that litigation is expected.  In most cases, in fact, it is not.

Under the Supreme Court Arthur Young case, it is also clear that accounting determinations are not protected documents.  The IRS could demand tax accrual workpapers in connection with every audit.  But the IRS has a policy of restraint, under which it will typically not request tax accrual workpapers.  If a company has engaged in a number of listed transactions (transactions that have been identified by the IRS as potentially abusive tax shelters), then the IRS will request a copy of all tax accrual workpapers. 

Shulman said that the IRS has also been "taking a hard look at transparency regarding business tax issues" because of the many changes in accounting for income taxes and tax risk.  He announced a "major step" in reporting requirements for uncertain tax positions, unveiling Ann. 2010-9 (available on BNA).  He noted that too much time is wasted in corporate audits "searching for issues rather than having a straightforward discussion with the taxpayer about the issues." In order to get more complete information earlier, the announcement provides for reporting uncertain tax positions at the time a return is filed by covered taxpayers (generally those with assets over $10 million who file FIN 48 about establishment of tax reserves OR, even if FIN 48 reporting isn't required, a position that the taxpayer expects to litigate or that the taxpayer knows the IRS has a general administrative practice of not examining).  Disclosure would describe each uncertain position and the maximum tax liability if the position is not sustained.   The statement would be required to reveal the Code sections implicated, the reasons for determining that the position is uncertain, whether the position involves a permanent exclusion or inclusion or timing benefit (or both), whether it involves a computation of basis, and whether it involves a determination of the value of property, among other matters.

Beale here:  This position is something I have argued for in the past (see my article on Before the Return).  One cannot argue that such additional disclosure is improper, since it is necessary to arrive at all of those determinations in order to file a tax return incorporating the position.  One cannot argue that such disclosure is burdensome, since public companies already prepare this information for their financial statements or, again, for filing their tax returns.  One cannot argue that this disclosure is unreasonable, since taxpayers who make returns are basing those returns on their assessments of success regarding those uncertain tax positions--all information that goes into the return should, I argue, be disclosable to the IRS, so having a brief description of an uncertain position and the dollar amount at stake is minimally intrusive and maximally helpful.

Shulman indicates that, as part of this proposal, the IRS will continue its policy of "restraint" in asking for tax accrual workpapers. 

Beale here:  I am doubtful whether this continuation of the policy of restraint is reasonable.  A company that has a large number of uncertain positions with high dollar figures should be required to share its tax accrual workpapers with the IRS.  Since these are business documents and not tax documents, there is no reason that the IRS should hamstring itself in applying a "policy of restraint" regarding acquisition of information that could be central to the IRS's ability to find noncompliance or its ability to understand the positions taken by the taxpayer.

Bank Lobbying Continues Full Force--the American Bankers Association "Call to Action"

The Huffington Post spread the word today about the bank lobbying group's "call to Action" to squash Congress's efforts to enact financial reforms.  See Bank Lobbyists Launch 'Call to Action' to Crush Financial Reform, Huffington Post (Dec. 16, 2009).  The memo announces the American Bankers Association's "shock" that the organization of community banks had supported the House bill and the desire to present a united front and defeat financial reform in the Senate.

The banks have successfully lobbied, once again, to keep a mortgage cramdown provision out of financial reform.   The effort this time was spearheaded by the small banks, but the big banks are quite happy with that result, hoping that this additional defeat means the provision won't have a chance. Why Congress goes along with this is a mystery, other than the obvious fact that money from banks smooths the wheels of almost every Congressperson's reelection efforts.  There is simply no good argument for not allowing mortgages to be modified in bankruptcy. Yes, banks will have to recognize more losses.  But like the bank's arguments against fair value accounting, calling a loss a gain doesn't change the fact.  Banks that are insolvent should be recognized as such and allowed to fade from the scene, with their shareholders bearing the burden.  We should undo the governmental guarantee, and we should take steps to break the big banks up, rather than the Treasury acting unilaterally to uhdo enacted legislation by allowing banks to retain full use of their losses after ownership changes, which encourages more of the kinds of bank mergers that we ought to be discouraging.

The Post story notes a comment from a representative of the community banks about the lobbying organizations that represent one or more of the Big Banks (the "too big to fail" constitutencies):

"All the other folks out there who do financial services representation" -- that means bank lobbying -- "they all have some of the larger banks in their membership and the larger banks don't truly want a real bill because it will require higher capital, tougher regulations, make them pay into an insurance fund and maybe even downsize. They may pay lip service to having a strong or effective bill, but I just don't think their heart is in it."

There are lots of problems with the financial reform bill--it is at best a first step on the road to a revamped financial system that should address the "shadow" banks, derivatives, "too big to fail" banks, and other problems.  Ideally, we will end up breaking up the banks and instituting strong capital, leverage and other rules to make much less significant the risky betting with other people's money (which is the main way that banks like Goldman Sachs make money these days, plus the fact that their cost-of-funds is so much less with the implicit government guarantee).

Two provisions in the bill (in addition to its failure to include a mortgage cramdown provision) are especially worrisome--they are ones that the banking association celebrates as victories for its lobbying efforts.  First, the provision in the House bill allowing the new "systemic risk council" to oversee FASB's accounting rules is sheer idiocy.  Banking regulators can set --and should set--capital standards that make sense for banks.  But they should not pass rules that hide the truth of the banks' financial situation in order to pretend that a problem doesn't exist.  Having a "doctor supervisor" that tells your regular doctor to rewrite the diagnosis so that you don't appear to have a terminal illness would be considered quackery by every patient.  Yet that is essentially what the banks have got in an agency override to FASB accounting rules that require "fair value accounting". 

The other provisions that are worrisome deal with jurisdictional issues--ability of national banks to establish state branches in competition with local banks and to have federal law preempt state banking regulation.  We need more regulation, not less, and more restrictions on expansion and growth of big banks, not the opposite.

We should start a letter writing campaign on these and other issues so that Congress hears again and again that we do not want Wall STreet to make the rules to its own advantage.

Insurers' "deferred tax assets"

The Wall Street Journal (Leslie Scism, INsurers Nearing Regulatory Victory, Nov. 28-29, 2009) suggests that state insurance regulations are about ready to hand yet another regulatory giveaway to insurance companies, just another "win for insurers in what is shaping up to be a string of regulatory successes for the year."

In the context of a world-wide economic crisis caused in large part by Big Financial Institution's risk and profit-seeking behavior and the need for the US to bail out the biggest insurer in the world (AIG), handing Big Insurance regulatory victories seems out of place, at the least.  Especially when the victory is a fudging of the capital reserves held by insurers by allowing too much weight for deferred tax assets.  Letting those count as part of an insurer's cushion against losses makes no sense at all.  Generally, deferred tax assets (like NOL carryovers) won't do any good if an insurer is not making money.  And the time that an insurer will need to depend on the reserves is when?  Oh, when an insurer is not making money.  Those tax assets aren't going to pay claims for an insolvent insurer.

The journal article notes that New York's insurance superintendent, Kermitt Brooks, claims that regulators have added "safeguards" to protect consumers, such as new financial standards.  But the problem with those standards is that they weren't very reliable in the past, and they likely haven't been toughened enough to be reliable now.  Accounting tricks still permit companies too much flexibility in determining the worth of their assets--such as the April 2009 FASB rule that made it even easier for a company to use mark-to-model valuation rather than mark-to-market valuations whenever market disruptions occur.  Problem is, of course, that if an insurer needs assets to cover claims, it will have to sell into a market, even if the market is "disrupted."  And what may have seemed to be a temporary impairment may in fact be a permanent one. 

The Consumer Federation of America complaint--that state regulators go out of their way to aid insurers whie "dragging their feet" on help for consumers--is correct.