Qui Tam

Today's BNA Daily Tax Report has a story about a qui tam suit brought in NY against Vanguard.  The story is behind a firewall, but a related report at the Philadelphia Inquirer can be found here, and a post about it in the Tax Prof Blog is here.  A qui tam case is essentially a whistleblower case, where a person brings a lawsuit against someone for cheating the government.  Most states, and the federal government, have whistleblower laws that permit private parties to sue on behalf of the government if they discover wrongdoing.  The real party in interest is the government - it is entitled to the amounts recovered by the plaintiff - although the plaintiff is entitled to a percentage of the recovery.  While most such laws involve cheating in government government contracts (the first qui tam statute was passed by the federal government during the civil war to combat war profiteering), a few permit whistleblower claims that the party involved is cheating on their taxes.  The federal False Claims Act does not apply to tax obligations, but there is a separate statute that applies to tax cheating.  Here is a story about a tax whistleblower that received a nine-figure reward from the IRS.

Now I happen to personally know someone who filed a qui tam action in NY state court regarding what I would consider fairly egregious tax evasion by a private investment fund.  As in the Danon case described in the Inquirer article, the NY AG decided not to pursue the case.  Unlike the Danon case, the person decided to withdraw the complaint before it was unsealed.  I'll talk about why in a moment.

But first, the following passage from the BNA article is instructive:

Brian Mahany of Mahany & Ertl in Milwaukee, who represents Danon, told Bloomberg BNA that New York is the only jurisdiction in the U.S. that allows qui tam claims for unpaid corporate income taxes. Such actions are always filed under seal, he said, to allow the attorney general time to investigate or develop the case.

The fact that the attorney general has chosen not to intervene does not say anything about the merits of the case, Mahany said. Danon still can pursue the case on his own, though he could not settle with Vanguard without the state's stepping back in.

Goodman [of Horwood Marcus, a Chicago law firm, described by Bloomberg as a critic of tax qui tam actions] agreed that the attorney general's decision not to intervene does not necessarily say anything about the merits of the case. It often happens in qui tam actions that the AG decides to step in later, as the case progresses, he said.

And the calculation of whether to intervene is often political, Goodman said.

“They might think it's a great case, or they might back off because it's a contributor, a company involved in politics. Or they don't want to dismiss it because they don't want to be seen as soft on companies that are being aggressive in their tax positions.”

Goodman noted another factor the attorney general might consider: Many people in New York are Vanguard shareholders and if the case resolved in Danon's favor, it would mean their investments would be worth much less.

That is not an outcome that would endear any elected official to the voters.

As explained in the article, a qui tam case is usually filed under seal, with the AG and the state tax department given the opportunity to investigate the claim and take over the case if they feel it has merit.  In the case I am aware of, the investment firm involved was well-connected politically, and immediately upon learning of the suit pulled out all of the stops lobbying AG Schneiderman not to intervene in the suit.  The AG complied, notwithstanding the fact that he had trumpeted the creation of his Taxpayer Protection Bureau to crack down on what he described as "large-scale tax cheats."  Like I have stated numerous time, when a politically connected company has a tax problem, the first person they call is their lobbyist.  I am not at all surprised to hear in this instance that the AG has declined to intervene in the case.  In fact, to my knowledge, there has been only one case which has been unsealed that the AG has pursued - a case for sales tax evasion against Sprint.  My acquaintance's claim was filed before the AG announced his decision to take on the case against Sprint.  Obviously, Sprint hired the wrong lobbyist.

Now I am somewhat surprised that the plaintiff in this case, unlike the plaintiff in the case I am personally aware of, decided to pursue the action notwithstanding the AG's refusal to sign on.  The reason can be found in the comments to the Tax Prof Blog post, where the first commenter asked the following question:

Is lawyer whistle blowing a violation of professional ethics rules?

Now, my acquaintance had a background as a lawyer, but was not employed by the investment fund in that capacity.  Instead, he was part of the finance department.  As such, he was arguably not practicing law when he came upon the information regarding the tax evasion that was going on within the firm.  Nevertheless, there is clearly a reluctance to divulge confidential information when placed in that kind of position, particularly given the reputational issues.  As one person responding to this question stated:

At first glance, there does not seem to be any exception to the ethical obligation to maintain a client's confidences that would permit this lawyer to make these disclosures. Not that anyone with any sense would ever again trust him as their counsel.

In fact, as another commenter noted, it is not an ethics violation if the lawyer is seeking to stop an ongoing or future crime.  Nevertheless, anyone in a position of confidence who breaches that confidence, regardless of the justification, is probably destroying any chance he has of obtaining a similar position in the future.  My acquaintance decided the risk to his career was greater than the possible reward of pursuing the action, and therefor withdrew it.

Whatever else happens as a result of this case, Danon's career working as a high level tax attorney is undoubtedly toast.