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ROLLING UP THE BIG FRY TO NAIL MR. SMALL

February 14, 2006

Anybody who has watched too much T.V. knows that detectives go after the Big Fish by getting the petty criminals to cooperate. The IRS appears to be taking the opposite approach in its tax shelter investigations, according to a New York Times report:

The Internal Revenue Service is making an unusual offer of leniency to firms that made and sold questionable tax shelters: come forward, pay penalties and turn over information, and you may avoid criminal prosecution.

The offer is being made to accounting firms, law firms, banks and investment firms that have created and sold tax shelters that the I.R.S. considers bogus, as well as to firms that carried out the financial transactions that underpin such shelters. Questionable shelters have been sold to thousands of wealthy investors in recent years. Under the offer, the firms must disclose the names of those investors.

Interesting. If the pushers of flaky tax shelters turn, the IRS can then sweep up the shelter addicts.

There is a logic to this. If word gets out among tax shelter users that their dealers are ratting them out, they and their associates are going to think twice before jumping into the next tax shelter frenzy, which will surely occur sooner or latter.

If IRS doesn't offer a deal to the promoters, they may be able to run out the statute of limitations on some of their customers. With the names, the IRS can audit the returns of the shelter buyers on an assembly-line basis, probably with a high success rate.

Not everyone thinks that the offer is wise:

According to the Senate report, a 1998 memorandum written by Gregg W. Ritchie, a former KPMG partner and one of the 19 indicted, concluded that aggressive shelters were so profitable as to make the fines and penalties worth the risk.

Gary V. Mauney, a lawyer with Lewis & Roberts in Charlotte, N.C., who represents investors suing the firms that sold them tax shelters, said of the I.R.S. offer yesterday: the "I.R.S. is essentially following the logic of the Ritchie memo. Promoters are going to look at this offer and laugh all the way to the bank."

The promoters, though, may need some convincing:

It is unclear how popular the offer will be among promoters. "It is a bad deal," said one lawyer who represents an accounting firm that has been sued by investors who bought its shelters. He said that the I.R.S. wanted too much information under the offer, citing a requirement that marketing materials and other documents must be turned over, leaving a firm potentially exposed to further investigations and prosecutions.

I don't have much sympathy for this anonymous lawyer. If the shelter can't work if the IRS finds out about it, it shouldn't have been sold in the first place. If the promotors won't share details about their customers, transactions, and marketing, they aren't relying on creative interpretation of the tax law; they're merely trying to skate by on deception, smoke and mirrors.

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