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Tax shelters { February 29 2000 } Treasury Aims to Shut Tax Shelters By Glenn Kessler Washington Post Staff Writer Tuesday, February 29, 2000; Page A01 The Treasury Department yesterday launched a broad regulatory attack on tax schemes that have allowed U.S. corporations to avoid billions of dollars a year in taxes and left individuals shouldering a bigger share of the tax burden. The surge in corporate tax shelters is the "most serious compliance issue facing the American tax system today," Treasury Secretary Lawrence H. Summers said in announcing the plan before the Federal Bar Association, which represents government lawyers. For the first time, he said, corporations will be forced to disclose whether they engaged in certain financial transactions that could be considered shelters. The shelters, known by such names as BOSS and LILO, help wash away much of a company's tax liability. They often use a series of complicated transactions, such as marrying unrelated elements of the tax code or transferring assets and tax liabilities among U.S. companies and overseas institutions. Wall Street firms and major accounting firms increasingly peddle the same tax shelters to dozens of corporations seeking to please the stock market with higher profits. "There has been a major shift of folks into these transactions who five years ago wouldn't be caught dead in them," said Paul Sax, head of the tax section at the American Bar Association and partner at Orrick, Herring & Sutcliffe in San Francisco. The Treasury Department and the Internal Revenue Service in recent years have managed to spot some of these shelters, using tips from concerned tax professionals. Officials have shut down these shelters--including one yesterday--and estimate that, if left unchecked, just this handful of shelters would have cost the federal government about $80 billion over a 10-year period. Even so, Summers said in an interview, officials suspect they have only uncovered "the tip of a growing and more deeply submerged iceberg." About $10 billion may still be lost to tax shelters every year, although the shelters are so cleverly constructed that precise estimates are impossible. Still, the potential scope of the problem is illustrated by the growing gap between what companies report as their profits to shareholders and what they report to the IRS. In 1992, taxable income at companies with more than $1 billion in assets was roughly the same as reported profits; in 1996, the most recent data available, the companies reported $119 billion less in profits to the IRS than to shareholders. In 1992, corporations paid nearly 23 percent of the combined individual and corporate taxes; in 1999, the Clinton administration estimated, corporations paid 20 percent--nearly $70 billion less. At the same time, individual taxes have risen as a proportion of total taxes paid over the past several years. This is in part because of capital gains from the booming stock market. Other factors have helped reduce corporate taxes, but officials suspect tax shelters also have played a major role. The Treasury plan is intended to strike at the heart of the IRS's difficulty of uncovering tax shelters by requiring companies to disclose with their tax returns any transaction that met certain characteristics of tax shelters. This would include reducing taxable income by $5 million or paying a promoter more than $100,000 to set up the deal. (Firms can earn millions of dollars for setting up a tax shelter if they are paid on a percentage of the taxes saved.) Wall Street and accounting firms that set up the shelters would have to maintain lists of investors in potential tax shelters as well as any benefits of a shelter to any party in the transaction--and make them available to the IRS on demand for seven years. While the regulations are still in the proposal stage, their effective date will revert to yesterday once they are issued in final form. Jonathan Talisman, acting assistant Treasury secretary for tax policy, said the administration hopes the disclosure rules will discourage companies from using aggressive tax shelters. Absent new legislation, however, the new regulations carry limited monetary penalties. A third rule announced yesterday implements a provision of the 1997 tax law that would require promoters to disclose tax shelters. But tax experts expect it to have little impact because it would cover only shelters offered "under conditions of confidentiality"--a restriction that firms could render meaningless by simply ending confidentiality pacts. The Treasury plan would establish an IRS office to coordinate the effort to uncover corporate tax dodges. It would also update guidelines for tax professionals that could include suspending people and even firms that peddle especially abusive shelters. The program is designed to complement a legislative package that Treasury unveiled last year, but has remain stalled on Capitol Hill. The administration has proposed to substantially increase penalties for corporate tax shelters and also codify a definition of tax shelters that has evolved through an ad hoc series of court rulings. Few on Capitol Hill believe the legislation will make it through this election-year session, though the proposal to increase penalties could be folded into an unrelated tax bill. Treasury yesterday sought to shut down one tax shelter it had recently learned about "over the transom." The shelter, known as a "debt straddle," involves the company investing in two debt instruments, such as bonds, with equal interest rates, say 7 percent. One of the bonds, however, will revert to a zero interest rate, while the other bond will double its interest rate. The company will take tax losses on the first bond but not report a gain on the other as long at it holds on to it. "Heads I win, tails I win," Summers noted. © 2000 The Washington Post Company

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