Source: https://www.thetaxadviser.com/issues/2011/feb/salzman-feb11.html
Timestamp: 2019-04-18 20:23:03+00:00

Document:
By Randall P. Andreozzi, J.D., Martha L. Salzman, J.D., and Arlene M. Hibschweiler, MBA, J.D.
In the Yusuf case, the Third Circuit held that unpaid taxes, which allegedly were retained by filing a false return through the U.S. mail, were “proceeds” for purposes of the federal international money laundering statute 18 U.S.C. §1956(a)(2). Thus, a taxpayer in that circuit could be subject to the harsh criminal penalties for money laundering offenses for evading taxes by filing a false return through the mail.
The Eleventh Circuit held in the Khanani case, which involved a situation similar to that in Yusuf, that unpaid taxes were not proceeds for purposes of the money laundering statute.
In May 2009, Congress passed legislation that changed the definition of “proceeds” in the money laundering statute, but the change in definition has not solved the problem caused by the Yusuf decision.
At present, the significance of Yusuf is unclear. The Eleventh Circuit has reached a contrary result in a case 4 involving facts similar to Yusuf. Moreover, recent amendments to the federal money laundering statutes included in the Fraud Enforcement and Recovery Act of 2009 (FERA) 5 have further complicated the issues raised in the case.
The addition of mail or wire fraud and money laundering charges raises the stakes. Under Yusuf, a client could now face the very real possibility of 20 years or more in prison and the forfeiture of any assets involved in or traceable to the money laundering. Tax advisers everywhere need to take notice of this holding and consider its potential application. The concerns raised by the decision are an issue not only for taxpayers facing criminal investigation but also for clients who aggressively seek to minimize their tax liability. This article examines Yusuf and the money laundering statutes, including the applicable provisions of FERA. It also provides recommendations to minimize the risks posed for both taxpayers and their advisers under the money laundering rules.
In almost all cases, as part of its prosecution the government must prove that a specified unlawful activity occurred. The money laundering rules define this term by reference to a long list of crimes, including mail and wire fraud. 14 Significantly, even though the law refers to tax evasion and Sec. 7206 when discussing the intent requirements for money laundering, “[t]ax crimes, . . . in and of themselves, are not among the crimes listed in the statute as ‘specified unlawful activity.’” 15 The Third Circuit did not address this point in Yusuf.
The sentencing guidelines have been revised since this example was drafted. However, the essential point remains: There is a significant increase in penalties where money laundering applies.
The Yusuf case arose from a 78-count indictment 20 in which the United States alleged that United Corporation, the operator of the largest retail grocery chain in the U.S. Virgin Islands, along with several of its principals, skimmed revenues from United’s legitimate supermarket operations and filed Virgin Islands gross receipts tax returns that did not report the skimmed income. 21 In Yusuf, the government alleged mail fraud as the underlying unlawful activity for purposes of the money laundering charges against United and the other defendants because United had mailed its allegedly false tax returns. In a pretrial motion to strike, the defendants moved to have the money laundering charges dismissed, 22 arguing that unpaid taxes illegally disguised and retained through filing false tax returns were not “proceeds” of mail fraud for purposes of proving an international money laundering charge.
At the heart of Yusuf is the definition of the term “proceeds,” which is a necessary predicate to triggering application of the money laundering statute. 26 The Yusuf court interpreted the term broadly to encompass the business’s tax savings or tax liability avoided on the unreported gross receipts. 27 As support for this interpretation, the court cited the recent Supreme Court opinion in Santos. 28 Upon closer scrutiny, however, it appears that Santos contemplates a much narrower view of the definition of proceeds.
Although the Yusuf opinion acknowledges the profits definition described in Santos, 32 the court goes on to define the word even more broadly than the gross receipts definition propounded by the government, stating that “we reject the suggestion that to qualify as ‘proceeds’ under the federal money laundering statute, funds must have been directly produced by or through a specified unlawful activity, and we agree that funds retained as a result of the unlawful activity can be treated as the ‘proceeds’ of such crime.” 33 Thus, under Yusuf, actions or decisions of a business that result in tax savings or the avoidance of tax liabilities generate gross receipts to the business. In this manner, the Yusuf court creates a government-friendly definition of proceeds that now encompasses tax savings and tax liabilities avoided.
The Third Circuit’s opinion in Yusuf has created a split in the federal circuit courts of appeals that the Supreme Court has chosen not to address at this time. 34 An Eleventh Circuit case, Khanani, 35 involved a fact pattern virtually identical to Yusuf, 36 but the court ruled in favor of the taxpayers.
The Yusuf indictment appears to reflect a clear departure from this policy. At least one commentator has labeled the government’s argument a “stretch,” suggesting that this money laundering argument might not have been cleared with the Tax Division of the Department of Justice. 45 Regardless of whether that is true, one thing is clear: The legal argument that prevailed in Yusuf is now precedent in the Third Circuit.
In early 2009, after publication of the Yusuf opinion, the Fraud Enforcement and Recovery Act of 2009 (FERA) was introduced before Congress, and President Barack Obama signed the bill into law on May 20, 2009. The new law, among other things, amends the money laundering statute to define proceeds as “any property derived from or obtained or retained, directly or indirectly, through some form of unlawful activity, including the gross receipts of such activity.” 48 The amendment effectively reverses the reasoning in Santos that limited the term “proceeds” to net profits rather than gross receipts.
In Yusuf, the government also sought forfeiture of assets under both U.S. and U.S. Virgin Islands law. On the U.S. side, the indictment in Yusuf sought forfeiture under 18 U.S.C. Section 982. Under this statute, a defendant convicted of money laundering may be required to forfeit the property involved in the money laundering or property traceable to such property. 53 The forfeiture is not limited to the proceeds of an unlawful activity but may also apply to other property involved in the money laundering, which may encompass more assets. In Yusuf, the indictment sought forfeiture of approximately $60 million in cash, several parcels of real property, an investment account, and every operating asset, as well as all earnings, of the retail grocery business. 54 These forfeitures would exceed the alleged approximately $2.9 million in underreported tax many times over.
Any practitioner who has been surprised by an IRS criminal investigation of a client will likely appreciate the significance of Yusuf. As a practical matter, no tax preparer can guarantee with certainty that even the most conservative client did not take some liberties in making representations of income, deductions, or credits. Nor can a CPA rule out the possibility that an aggressive IRS agent might make a criminal referral in an audit despite the best intentions of the taxpayer or the return preparer. In light of these uncontrollable variables and uncertainties, the practical question is how should tax advisers respond or prepare in the face of Yusuf?
The Yusuf decision underscores the importance of following the guidance found in the AICPA’s Statements on Standards for Tax Services (SSTS). 56 For example, in a case involving an error in return preparation, Statement No. 6, Knowledge of Error: Return Preparation and Administrative Proceedings, requires an adviser to inform the taxpayer promptly and recommend the corrective measures to be taken. A taxpayer who follows the practitioner’s advice prior to the initiation of any criminal investigation may be able to rebut any inference of the intent required for a mail fraud conviction and a subsequent charge of money laundering. 57 Statement No. 3 allows a return preparer to rely in good faith on information provided by the taxpayer or third parties. Although this standard does not generally require a CPA to verify information received, a tax preparer should stress the importance of providing truthful and complete information as a prerequisite for any tax services performed. The preparer should do this in all communications with clients, and in particular in any letters he or she sends at the start of tax season and accompanying the completed returns.
The increased sanctions for money laundering also change the calculus of plea decisions. The holding forces a person who is the target of a criminal tax investigation to consider far more carefully the risks of rejecting a proposed plea agreement admitting guilt to a charge of tax evasion, for example, or filing false documents. Both of these would involve sentences far less severe than the 20 years and forfeiture a defendant may face if the case goes to trial and includes counts of money laundering.
In addition, in light of these developments, tax practitioners should reconsider their own procedures with respect to filing tax returns. The money laundering charges brought against the Yusuf defendants rest on transmission of tax materials through the mail or by electronic means. CPAs need to consider whether they should advise clients, either routinely or in cases of particular concern, to hand deliver their tax returns to the taxing authority. While hand delivery appears to be an antiquated procedure in this high-tech age, the consequences of a mail or wire fraud and money laundering conviction are sufficiently serious to warrant such a response. An unknown here is whether the IRS will see hand delivery as a red flag. 59 Practitioners need to explain all these risks to clients when preparing or assisting in the preparation of documents that must be submitted to the IRS.
Finally, Yusuf dictates that tax advisers reconsider their own practices in light of the risks these legal developments hold for them personally. The opinion broadens the exposure CPAs face to prosecution for conspiracy charges applicable to persons who agree to commit an offense against the United States or defraud the federal government. 60 This could apply in a variety of situations, such as where an accountant agrees to assist in the preparation of tax returns, later mailed to the IRS, on which income is understated. A conviction of the accountant would be surprising in almost all cases, since the prosecution must show that the defendant knowingly, willfully, and voluntarily participated in the scheme with knowledge of its unlawful purpose and specifically intending to further its objectives. 61 Nonetheless, a CPA whose client has misrepresented income or other information used to prepare a return may face the uncomfortable prospect of a criminal investigation, again making the importance of following the guidance found in the SSTS obvious. 62 Of course, a conviction would likely result in professional discipline 63 in addition to the prison term and fine that can be imposed in conspiracy cases. A CPA whose conduct generates a criminal prosecution for money laundering for a client also faces the prospect of a malpractice suit.
The Third Circuit’s decision in Yusuf exposes taxpayers who underreport income on their tax returns and their tax advisers to charges of money laundering. These additional charges carry greater consequences (including much longer prison sentences and potential asset forfeitures) than “typical” tax evasion cases. Given these heightened stakes, tax advisers need to be alert to potential developments regarding this issue, obtain and advise their clients to obtain legal advice as soon as it appears that a case may involve criminal charges, and tighten their practices and procedures for ensuring the accuracy of information reported on and the methods used for filing tax returns.
Authors’ note: The authors gratefully acknowledge the contributions of Teia Bui, Edward Fickess, John Marien, Tracy Marien, Ryan Murphy, and Gordon Rhea to this article.
1 The Third Circuit covers Pennsylvania, New Jersey, Delaware, and the U.S. Virgin Islands.
2 Yusuf, 536 F.3d 178 (3d Cir. 2008), cert. denied, 129 S. Ct. 2764 (2009).
3 The government charged some of the defendants under Sec. 7206(2) (aiding and abetting in the filing of false statements) for filing their own tax returns. It also charged some of them with conspiracy to evade tax (but did not charge tax evasion under Sec. 7201).
4 Khanani, 502 F.3d 1281 (11th Cir. 2007).
5 Fraud Enforcement and Recovery Act of 2009, P.L. 111-21.
6 The consequences of the court’s decision in Yusuf are not limited to cash-generating businesses. However, underreporting income generally is considered more common among such businesses due to the increased difficulties of detection. See Morse, Karlinsky, and Bankman, “Cash Businesses and Tax Evasion,” 20 Stan. L. & Pol’y Rev. 37 (2009).
8 18 U.S.C. §1957, which was not at issue in Yusuf, includes additional rules against money laundering involving the deposit, withdrawal, transfer, or exchange of funds or a monetary instrument by, through, or to a financial institution.
9 Townsend, Campagna, Johnson, and Schumacher, Tax Crimes at 117–18 (LexisNexis 2008).
12 18 U.S.C. §1956(a)(1)(A)(ii). Sec. 7201 imposes a criminal tax penalty for willful tax evasion. Sec. 7206 imposes criminal tax penalties for, among other things, willfully filing a false tax return or willfully aiding or assisting in filing a fraudulent or false return.
15 Townsend et al., Tax Crimes at 118.
17 18 U.S.C. §1956(c)(3). The statute includes a modified definition of transaction for financial institutions.
18 U.S. Sentencing Commission, Guidelines Manual (2010). In Booker, 543 U.S. 220 (2005), the Supreme Court declared the federal sentencing guidelines unconstitutional but ruled that sentencing courts can consider the guidelines as advisory in determining the punishment to be imposed on defendants convicted of federal crimes. See Hibschweiler, “Can Your Client (or You) Go to Jail? (Part II),” 37 The Tax Adviser 280 (May 2006).
19 Hochman, Popoff, Perez, Rettig, and Toscher, BNA Tax Management U.S. Income Portfolios 636-2d, Tax Crimes at A-16 (references omitted).
20 United States, et al. v. Fathi Yusuf, et al., Third Superseding Indictment, District of the Virgin Islands, Division of St. Croix, Crim. No. 2005-15F/B, dated September 8, 2004 (hereafter “the indictment”).
21 In Yusuf, the taxpayers were charged under both the U.S. Code and the Virgin Islands Code. The latter imposes a gross receipts tax on businesses in addition to the traditional income tax. Although this tax is on gross receipts rather than taxable income, the holding of the case does not so limit the opinion’s application. The Yusuf opinion appears equally applicable to income tax fraud allegations under the Internal Revenue Code, especially because the criminal tax provisions of the Virgin Islands Code mirror the provisions of the Internal Revenue Code. See title 33 of the Virgin Islands Code.
22 The defendants also moved to have the district court dismiss the mail fraud charges from the indictment in the pretrial motion to strike, but the court refused to do so. The government appealed the trial court’s decision to dismiss the money laundering counts, but the defendants did not have the right to appeal the trial court’s decision regarding the mail fraud counts on the pretrial motion to strike. As a result, the issue of whether the indictment properly alleged mail fraud was not at issue before the Third Circuit in Yusuf but could be raised by the defendants on appeal in the event of a conviction.
23 To illustrate, the mail fraud statute (18 U.S.C. §1341), as amended by the Sarbanes-Oxley Act of 2002, P.L. 107-204, generally carries a maximum potential sentence of 20 years. The same maximum sentence applies when the plan involves the use of interstate wire, radio, or television communication (i.e., wire fraud) (18 U.S.C. §1343). Money laundering, in turn, also carries a maximum potential sentence of 20 years and a fine of not more than the greater of $500,000 or twice the value of the monetary instrument or funds involved in the transaction (18 U.S.C. §1956).
24 Yusuf, 536 F.3d at 189–90.
25 Yusuf indictment, n. 20 above.
27 Yusuf, 536 F.3d at 189.
28 Santos, 553 U.S. 507 (2008).
32 The Yusuf court noted that the Supreme Court “recently clarified that the term ‘proceeds’ as that term is used in the federal money laundering statute applies to criminal profits, not criminal receipts, derived from a specified unlawful activity” (Yusuf, 536 F.3d at 185).
34 The U.S. Supreme Court denied certiorari in Yusuf on June 8, 2009 (129 S. Ct. 2764 (2009)).
35 Khanani, 502 F.3d 1281 (11th Cir. 2007), aff’g Maali, 358 F. Supp. 2d 1154 (M.D. Fla. 2005).
36 Both Yusuf and Khanani involve post–September 11, 2001, indictments against Arab American retail merchants and appear to be the only cases in which the government has tested its money laundering theory in tax cases.
37 Khanani, 502 F.3d at 1296.
38 See, e.g., Brown, 553 F.3d 768 (5th Cir. 2008), a Fifth Circuit case involving illegal distribution of medications using false prescriptions. The opinion does not resolve the question of how the term “proceeds” is to be defined. (“We need not decide these thorny issues. We hold that even if the Santos plurality’s more stringent reading of the statute governs in this case, the appellants lose” (id. at 784).) See also Van Alstyne, 584 F.3d 803 (9th Cir. 2009), a decision discussing the definition of “proceeds” in the context of money laundering and mail fraud charges.
39 See, e.g., Prince, 626 F. Supp. 2d 863 (W.D. Tenn. 2008) (a case involving health care fraud): “This Court concludes that the narrow holding of Santos is that ‘proceeds’ means ‘profits’ where the specified unlawful activity is the operation of an illegal gambling business” (id. at 871). See also Darui, 614 F. Supp. 2d 25 (D.D.C. 2009) (an embezzlement case): “Santos defines ‘proceeds’ as ‘profits’ only in the context of an illegal gambling operation. It does not mandate a definition in the context of defendant’s alleged unlawful activity (mail fraud)” (id. at 30).
40 S. Rep’t 433, 99th Cong., 2d Sess, 11 (1986).
41 See the discussion of 18 U.S.C. §1956(a)(2), the international money laundering provisions, at text accompanying note 10 above.
42 S. Rep’t 433, 99th Cong., 2d Sess, 11–12 (1986).
45 See Sheppard, “Dear Former Income Tax Evasion Services Customer,” 2009 TNT 195-3 (October 13, 2009).
46 Smith, No. 92-1612 (5th Cir. 8/11/93) (unpublished opinion), cert. denied, 510 U.S. 1056 (1994).
47 See brief for the United States in Smith, on appeal to the Fifth Circuit, dated February 16, 1993, at 27. The Fifth Circuit agreed with the government’s concession in Smith and reversed the defendants’ money laundering convictions. See note 46 above.
49 FERA §2(g) (February 5, 2009), would have amended 18 U.S.C. §1956(a)(2)(A) to add clause (ii) to read as follows: “with the intent to engage in conduct constituting a violation of section 7201 or 7206 of the Internal Revenue Code of 1986.” Senator Chuck Grassley, R-Iowa, then ranking minority member of the Senate Finance Committee, indicated that he and Senator Patrick Leahy, D-Vermont, “plan to reintroduce the rejected provision of S. 386 [FERA] that would make tax evasion a predicate act to money laundering.” See Sheppard, “Dear Former Income Tax Evasion Services Customer,” note 45 above (citing MoneyLaundering.com, September 29, 2009).
50 S. Rep’t 433, 99th Cong., 2d Sess. 11–12 (1986). See also the text accompanying notes 40 and 42 above.
51 See notes 43 and 44 and accompanying text above.
52 FERA §2(g)(1) expresses the “sense of Congress that no prosecution of an offense under [18 U.S.C. §1956 or 1957] should be undertaken in combination with the prosecution of any other offense, without prior approval of the Attorney General, the Deputy Attorney General, . . . if the conduct to be charged as ‘specified unlawful activity’ in connection with the offense under section 1956 or 1957 is so closely connected with the conduct to be charged as the other offense that there is no clear delineation between the two offenses.” The section further requires reporting to the House’s and the Senate’s Judiciary Committees regarding any such approvals or denials.
54 Indictment Forfeiture Allegations 1 and 2.
55 The law of the federal circuit in which a district court sits applies to cases tried in that court. Federal Rule of Criminal Procedure 18 states that “[u]nless a statute or these rules permit otherwise, the government must prosecute an offense in a district where the offense was committed.” A map showing the territories of the different federal appellate courts can be found online. Using this diagram, practitioners can determine which circuit’s tax decisions may be precedent for their clients.
56 AICPA Statements on Standards for Tax Services.
57 See, e.g., the guidance found in IRM §9.5.11.9, Voluntary Disclosure Practice. A voluntary disclosure is to be considered along with other factors in deciding whether to recommend a criminal prosecution. It is not an automatic guarantee of immunity (id.).
58 See, e.g., Hibschweiler and Salzman, “Tread Carefully: What CPAs Should Know About Tax Fraud,” 40 The Tax Adviser 20 (January 2009).
59 Moreover, even hand delivery may not solve the problem, as one need only “cause” the mailing or wire transmission of the return to trigger mail or wire fraud charges. See, e.g., Carpenter, 484 U.S. 19 (1987). (The Wall Street Journal’s use of the wires and the mail to print and send the publication to customers satisfied the requirement that those media were an essential part of a Wall Street Journal columnist’s insider trading scheme that involved leaking column information prior to publication.) Similarly, if a taxpayer hand delivers his or her return to the local IRS office, the office’s subsequent mailing or wire transfer to an IRS Service Center or some other office may also trigger a mail or wire fraud charge in any event. Practitioners should also be aware of the new mandatory e-filing requirements for 2011 and the requirement that a taxpayer who chooses to paper file his or her own return prepared by a preparer must sign a written statement stating that he or she affirmatively chooses to file on paper and that the taxpayer, not the preparer, is filing the return (Prop. Regs. Sec. 301.6011-6(a)(4)(ii)).
61 Sand et al., Modern Federal Jury Instructions, Inst. 19-6 (Matthew Bender 2007).
62 See Hibschweiler, “Tax Practice and the Federal Criminal Code,” 39 The Tax Adviser 216 (April 2008).
63 See, e.g., New York State Education Department, Office of the Professions, “Summaries of Regents Actions on Professional Misconduct and Discipline, February 2008,” noting the voluntary surrender of a license by a CPA convicted of mail fraud, wire fraud, and conspiracy to commit mail and wire fraud.
Randall Andreozzi is a partner with the law firm Andreozzi Fickess LLP. Martha Salzman is a full-time adjunct assistant professor and Arlene Hibschweiler is a full-time adjunct associate professor in the School of Management’s Department of Accounting and Law at the State University of New York at Buffalo in Buffalo, NY, where Mr. Andreozzi is also a part-time adjunct professor. For more information about this article, contact Mr. Andreozzi at randreozzi@aftaxlaw.com, Prof. Salzman at msalzman@buffalo.edu, or Prof. Hibschweiler at ah33@buffalo.edu.

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