The Association of U S West Retirees



The KPMG Fiasco
The Wall Street Journal Editorial
Tuesday, July 10, 2007

The judge in the "largest criminal tax fraud case in history" is now preparing a ruling that may result in the dismissal of all charges against two-thirds of the 18 so-called KPMG defendants.  This would itself be a remarkable outcome, but we think the judge has every right to go further and tell the government it has forfeited the right to prosecute this case in even diminished form.

The KPMG prosecution was supposed to illustrate the Bush Justice Department's post-Enron efforts to be tough on white-collar crime.  Instead, it has become a symbol of how ambitious prosecutors can exploit an anti-business political climate to bring a dubious case, and then abuse due process to browbeat the defendants into submission.  The history is worth recounting as a cautionary tale to prosecutors and business alike.

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In late 2003 and early 2004, the Senate was holding hearings on tax shelters for rich clients, and bringing a prosecution had a dual appeal.  The pursuit of rich people avoiding taxes had populist flair, and, in the wake of Arthur Andersen's post-indictment collapse, prosecutors knew they could swing a heavy club to bring corporate suspects to heel.

The case made for such good headlines that it went largely unnoticed, at first, that the tax shelters in question had never been challenged in court by the IRS.  This is an extraordinary and troubling precedent.  The U.S. tax code is full of loopholes written by Congress, and while tax evasion is a crime, tax avoidance can be entirely legal.  Just as a person is innocent until proven guilty, a tax-reduction strategy has long been understood to be legal until proven otherwise.  This is a principle of law, but also of fairness.  Taxpayers deserve notice that they are exposing themselves to potential criminal liability for engaging in certain forms of tax avoidance.

So the theory of the case was, at a minimum, legally aggressive.  But the aggression didn't end there.  The U.S. Attorney for the Southern District of New York wielded the threat of a firmwide indictment against KPMG to compel a series of extraordinary actions by the firm.  KPMG was told, for example, that if it continued to pay the legal costs of partners under suspicion for marketing the tax shelters, that decision would be "looked at under a microscope."

The U.S. Attorney vetted KPMG's internal communications with its employees in a bid to encourage individuals to make incriminating statements and to meet with investigators without the benefit of counsel.  Under pressure, KPMG offered the DOJ a "statement of facts" about its tax shelter operations.  Justice felt it was too weak, and it told the firm's leadership that if KPMG didn't admit its own guilt in no uncertain terms, an indictment of the firm was virtually assured.

KPMG gave Justice the statement it demanded, reversing its previous position in defense of the shelters.  In exchange for adopting the government's view of the case, it was spared indictment.  Or, to put it another way, KPMG sold out the employees now on trial rather than run the risk of an indictment that might have meant (a la Andersen) the end of the firm.

KPMG also abrogated the severance agreement of one fired employee and sent the rest of the future defendants packing.  This was no mere housecleaning.  The U.S. Attorney's office took an active interest in what was happening to those under investigation, at times asking about the employment status of future defendants by name.  KPMG also conditioned payment of its former employees' legal fees on their cooperation with prosecutors and said legal assistance would be cut off if charges were filed against them.

When asked about this in the spring of 2006, one Assistant U.S. Attorney stood before Judge Lewis A. Kaplan and declared that KPMG had made its own decision about paying the legal bills.  At a hearing last week in Manhattan, Judge Kaplan noted that he'd seen people convicted of making false statements for less.  That same Assistant U.S. Attorney, Justin Weddle, also said last year that the government's interest was only to see that companies under investigation did not shelter "wrongdoers." Judge Kaplan reminded him that the accused had to be found guilty before they were "wrongdoers" under the law.

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The decision due soon from Judge Kaplan will focus on the narrow matter of the legal fees.  It is a serious issue, not because it is important that lawyers get paid the hundreds of dollars an hour that they charge, but because the government has been caught trying to interfere with the right of the accused to choose their own counsel and mount a defense.

Seen in its proper context, the legal fees issue is a proxy for what has been wrong with this case from the beginning.  Prosecutors hoped to starve the defendants of support, compelling some or all to cop a plea to avoid financial ruin.  The fees business was only one element of a plan to set the defendants against each other, just as it had set KPMG against its former employees.  In this way, the prosecutors hoped to get their scalps without the messy business of proving a dubious legal theory to a jury.

This case has been shot through with prosecutorial overreach from the first, and the U.S. Attorney's office pushed the boundaries of the law to win it.  Due process is the sine qua non of a just system of criminal law.  When those entrusted with upholding it instead trample on it, they have surrendered any claim to be acting in the public interest.  Judge Kaplan has suggested in court that if private citizens had done some of the things that the KPMG prosecutors have done, they would be on trial.  If Attorney General Alberto Gonzales won't dismiss the case, Judge Kaplan should do it for him.