As whistleblower-initiated tax cases under the New York False Claims Act expose more and more tax frauds—and legislators in California and other states consider replicating the law—opponents of tax whistleblowers have resorted to disprovable assertions and outright falsehoods about the law. But what are the facts?
In 2010, New York amended its False Claims Act to enable whistleblowers to sue individual and corporate defendants with a net income or sales exceeding $1 million that cheated on their taxes in excess of $350,000. (To illustrate, a $350,000 tax underpayment of New York State income taxes translates to untaxed income of about $4 million.) Liable parties must pay treble damages and civil penalties.
The act’s incentives allow a whistleblower to receive 15% to 30% of the government’s recovery. Just as tax fraudsters have a financial incentive to cheat, whistleblowers now also have a countervailing financial incentive.
The cases settled to date have uncovered tax frauds that were unknown to the government and that may have otherwise escaped notice or enforcement. New York has recovered over $577.8 million from tax cases and paid more than $110.5 million in tax whistleblower awards. Tens of millions of additional dollars have been recovered by stopping the continuation of these frauds. And some tax cheats have been put in jail.
When the legislation was passed in 2010, detractors of tax whistleblowers projected a parade of horribles: whistleblowers would abuse the program, frame ordinary tax disputes as frauds, flood the courthouses with lawsuits over ambiguous tax provisions, and interfere with tax administration. Faced with evidence that they were incorrect, these same detractors now have resorted to outright fallacies.
Fallacy No. 1: Tax Whistleblowers are ‘Tax Terrorists’
At least one anti-tax whistleblower advocate has labeled tax whistleblowers and their counsel as “tax terrorists” and stated that “They strap the nuclear bomb of the FCA to ordinary tax problems, demand treble damages, and threaten to pull the pin. While it is always possible a one-off abuse justifies that type of explosive device, the FCA applies to even run of the mill ambiguous tax questions. That’s just wrong.” See Bologna, Michael, “New York’s Tax Cheat Haul Has States Eyeing Whistleblower Laws,” Bloomberg Tax News, March 4, 2021 (quoting Stephen Kranz).
The resort to such offensive invective is a clear sign that the facts and law do not support the argument. No, tax whistleblowers (nor their counsel) are not terrorists. Whistleblowers can help, and have dramatically helped, the government recover monies lost by fraud. Fighting against fraud and causing people to live by the established rules is the antithesis of terrorism. New York’s program, by requiring that the focus be only on large tax frauds, has ensured that resources are directed toward the biggest violators, and it has led to large recoveries that most benefit the taxpayers as a whole.
Perhaps invectives should be reserved for people who cheat the government and place extra tax burdens on citizens who honestly pay their fair share.
Fallacy No. 2: Tax False Claims Acts Target ‘Ordinary’ Tax Mistakes
To begin, we can hopefully agree that $4 million plus tax mistakes should be avoided and corrected. Will anyone (publicly) endorse audit roulette as an appropriate tax strategy? In addition, the New York experience with tax whistleblowers has shown unequivocally that the tax False Claims Act cases are not about ordinary tax mistakes.
In the largest New York False Claims Act case resolved to date, Sprint paid $330 million to settle claims that it failed to collect and remit sales taxes on its fixed rate monthly calling plans. The evidence showed that Sprint stopped collecting the taxes after it told the government in its own lobbying efforts that it had to collect and pay the taxes. That was no ordinary tax mistake, it was a knowing violation.
The second largest case is the just-settled case against hedge fund billionaire Thomas Sandell, who was alleged to have falsified returns to claim no New York taxes on more than $450 million of income based on hiding his company’s presence in New York behind a sham Florida office. Sandell even fired one accountant who refused to sign the false tax return and hired a more complacent accountant instead. That too was no ordinary tax mistake.
The tax False Claims Act cases that led to criminal sanctions were also not about ordinary mistakes. Spa Castle settled a qui tam tax case for $2.5 million and pled guilty to tax fraud felonies where it was alleged to have hidden revenues and paid employees off the books. Mohan Custom Tailors settled a tax qui tam case for $5.5 million and Mohan went to jail for conducting a two-sets-of-books tax fraud scheme. These were not just “mistakes,” and they were not ordinary.
Fallacy No. 3: Defendants in Tax Qui Tam Cases Are Well Meaning and Just Trying to Follow Rules That Are Ambiguous
Broad generalizations are easy to assert. But facts count. Not every taxpayer means well, and not every tax law is a “grey area.” False Claims Act cases are about clear violations, regardless of whether some might try to attach the label of “ambiguity,” and, for the law to apply, perpetrators must have had actual knowledge or acted in reckless disregarded or deliberate ignorance of the truth.
The Sprint case is illustrative. There, several organizations filed amicus briefs asserting, without reference to facts, that Sprint was just acting in good faith when it failed to collect and remit over $100 million in sales taxes. Later, the case filings showed that Sprint already knew the rules, but acted directly against them.
Fallacy No. 4: Tax Whistleblowers Are Unnecessary Because Existing Tax Enforcement Is Adequate
Tax enforcement agencies have a tough job. We call upon them to see through carefully devised plans that often hiding tax evasion as their sole purpose, and their primary tool to do that is the audit, which can sometimes be likened to searching for needles in haystacks. Moreover, their budgets are always stretched thin. Despite all their good work, there has inevitably arisen a big “tax gap” between taxes owed and taxed paid. At the federal level, the IRS has estimated that gap to be $381 billion annually after enforcement efforts. In New York, the annual gap is an estimated $10 billion. Not all of the gap is from fraud, but it is safe to say that a significant portion is. Advocates for expanding the tax gap have yet to step forward.
Tax enforcement needs tools to close the tax gap, and tax whistleblowers can help. Whistleblowers can expand targeted enforcement because they approach violations from the perspective of the needle, not the haystack. Most whistleblowers bring forward concrete information about how violations were accomplished and point to evidence that helps to prove the case. In addition, whistleblowers and their counsel help to expand the government’s stretched resources to find and pursue tax cheaters, with no cost to the government unless it recovers tax dollars.
Fallacy No. 5: Allowing Tax Whistleblowers Will Open the Floodgates
Some have argued that allowing tax whistleblowers will “open the floodgates” to large numbers of unmeritorious cases. The facts, however, show otherwise. In New York’s program, with its limited focus on large, knowing tax violations, only a modest number of cases have become public and a high percentage of those have resulted in recoveries for the State.
In 10 years, there have been 42 New York tax False Claims Act qui tam cases made public (cases are initially filed under seal). Of those, 16 have settled for $551.1 million, one is pending after government intervention, five are pending after government declination, nine were voluntarily discontinued, and 11 were dismissed by the court.
The floodgates idea is a fiction because the New York program welcomes only large, serious cases. The whistleblowers need to demonstrate not only that dollar thresholds are met, but also that there is a substantial basis to pursue the tax claims. The number of cases will undoubtedly grow as public awareness increases, but large numbers of cases should simply signify large numbers of tax violations worthy of investigation.
Invectives aside, states would serve their citizens well to follow the New York example, promote tax whistleblower laws, and step up efforts to find tax cheats and promote tax fairness and the rule of law.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Randall Fox is a partner at Kirby McInerney LLP in New York. He represents whistleblowers in tax and other matters under the False Claims Act and before the IRS, SEC, and CFTC Whistleblower Offices.
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