Saturday, November 29, 2003

Perfectly Legal:
The Covert Campaign to Rig Our Tax System
to Benefit the Super Rich -- And Cheat Everybody Else

By David Cay Johnston

Leona Helmsley, the "Queen of Mean," wasn't afraid to express opinions shared by her more reticent confederates in the ongoing class war, including the belief that "only the little people pay taxes."

Indeed, despite Supreme Court Justice Learned Hand's dictum that "taxes are the price we pay for civilization," the royal "we" as he used it seems quaintly wishful (an unintended sleight of hand?) because, as is so often the case, when it comes to taxes, the wealthy abide by a much different set of rules than the rest of us.

"What surprised me more than anything," NYTimes investigative reporter David Cay Johnston concludes in Perfectly Legal, the best book published in recent memory about U.S. tax policy, "was the realization that our tax system now levies the poor, the middle class and even the upper middle class to subsidize the rich ... the majority of Americans are being duped into supplementing the incomes and extravagant lifestyles of the rich and powerful."

Tax policy is not an easy beat. Johnston has spent almost a decade cultivating contacts within the impenetrable IRS bureaucracy, slogging through the bewildering snarl of intricate provisions known as the U.S. tax code, and "following the money" a lot farther than Woodward and Bernstein ever had to.

Johston's solid research and flair for finding remarkable stories about the most artful of corporate and personal tax dodges has landed him a Pulitzer and a regular spot on the Times' front page, and his ability to elucidate the important outrages has engendered considerable trust, even among many within the corporate sector and its low-lying (but high-priced) tax experts in the accounting and legal professions (the introduction includes a plea to those kind enough to send him documents in unmarked packages to include an explanation of their importance).

In early 2002, Johnston blew the lid off corporate inversions -- transactions that dozens of multinationals have used to moved their headquarters offshore (on paper only) in order to avoid paying U.S. taxes on overseas income. This move, accomplished by opening a mailbox in a place like Bermuda, has saved companies like Tyco hundreds of millions of dollars each year. IRS consultant Jack Blum estimates that individuals and companies using offshore tax havens to escape U.S. taxes on overseas income cost U.S. taxpayers (who have to make up the difference) an estimated total of $70 billion per year. And this is just the tip of the iceberg: loopholes in the Sarbanes-Oxley act passed after Enron and WorldCom have made it easy for accounting firms (and other "aiders and abettors" of corporate crime, fraud and abuse, such as bankers and lawyers) to continue selling all kinds of tax shelter schemes to corporate and individual clients, as Senator Levin and the Committee on Government Reform revealed in recent hearings.

Johnston's coverage of Stanley Works' proposal to relocate its headquarters to Bermuda, coming on the heels of similar moves by Nabors, Ingersoll-Rand and over a dozen other large companies, ignited a strong reaction among shareholders, community members, workers and politicians who, together, managed to stir up enough public indignation to stop the deal. Johnston's reporting uncovered some remarkable information, including the fact that no one would profit from the move except top executives like CEO John Trani -- not even the shareholders, whose ability to bring derivative suits would be hurt in Bermuda, and who would take a capital gains tax hit when the company's stock was converted. (For an overview on corporate tax avoidance through offshore havens see "Sacrifice is for Suckers")

The conversion of corporate tax departments into new profit centers is exemplefied by the lengths to which many corporations go to game the tax system (described in this Business Week investigation ). Corporate tax lawyers and accountants are expected not merely to know how to help the company comply with the maze of intricate and overlapping provisions of the law, but develop new strategies for parking intellectual property offshore, intra-firm transfer pricing and a variety of other schemes that take advantage of specific provisions in the law (some of which they also draft and hand off to the company's lobbyists). As Lindy L. Paull, chief staffer for Congress's Joint Committee on Taxation put it, Enron's tax department "was converted into an Enron business unit, complete with annual revenue targets." Enron managed to avoid to avoid paying taxes four of the last five years before the company filed for bankruptcy.

As excessive as it was, Enron's behavior signalled a general business trend: Despite corporate complaints that the official U.S. income tax rate is among the highest in the world at 35 percent, the percentage of corporate profits (after all the deductions) that went to federal income taxes dropped from 26% in 1993 to 22% in 1998. Publisher Thomas F. Field described the downward trend in corporate taxation as a consequence of globalization in Tax Notes' 30th Anniversary Issue: "One obvious change in the international area is the near-universal reduction in corporate tax rates on a country-by-country basis and the ongoing competition between taxing jurisdictions to reduce their corporate rates further. ... A few years ago, at the first World Tax Conference sponsored by the Canadian Tax Foundation, a corporate tax panelist asked for a show of hands from the audience of tax professionals. He asked, "How many of you think there will be a significant corporate income tax in industrialized countries 10 years from now?" Only a few hands went up. "How many of you think there won't"? Almost all hands were in the air. That response is not a scientific survey, but it shows which way the wind is blowing."

Much more significant and damaging to the Treasury than the offshore corporate tax dodge has been the overall tax agenda that has been openly pushed through Congress since Bush and the "compassionate conservatives" came to town. The logrolling of tax cuts for corporations and the super-rich is the dream of right-wing activists like Grover Norquist who has been working in close coordination with the White House and Republican leaders in Congress to effect a 30-year plan whose only serious obstacle seems to be competing corporate interests.

Yes, there are a few knowledgeable public interest voices that have had some effect on tax policy, including Taxpayers for Common Sense and Bob McIntyre at Citizens for Tax Justice. Significant progressive grassroots education and activism is increasinly being organized by groups such as United for a Fair Economy and other members of the Fair Taxes for All coalition, but the movement still has a way to go before it's strong enough to halt the right-wing/corporate juggernaut that is already in full gear. It doesn't help that so many Democrats turn jelly-legged when accused of instigating "class warfare" when they deign to criticize Republicans for going on a virtual rampage.

(Johnston is no partisan -- he acknowledges that while the Republicans are more aggressive in cutting corporate taxes, Democrats are also culpable of hurting the poor and middle class by, among other things, letting the alternative minimum tax morph from a catchall for rich and aggressive tax avoiders into a levy on the middle class. "During Clinton's tenure as president, the share of income going to the top 400 more than doubled, from a half of 1 percent to 1.1 percent of all income. But the portion of income going to federal income taxes fell by 18 percent for the top 400, while rising for everyone else by 18 percent. Clearly, favoritism for the rich is bipartisan.")

With tax cuts for the rich and corporate class certain to cause ballooning deficits that can eventually be used as an easy excuse to crush social services and other programs used primarily by the poor and working class, the structural basis of societal cohesion faces significant stress, and a quasi-fascistic erosion of civil rights seems designed to ensure that any signs of social unrest will easily be quelled by a well-developed police and prison state (the part of the government that Grover and the Republicans always manage to avoid mentioning when talking how they want to "get it down to the size where we can drown it in the bathtub.") Meanwhile, the neocons are aways ready to divert us from drawing attention to how few of us benefit with their fear-driven and brazenly imperial foreign military escapades. Understand who pays (and doesn't pay) taxes and you see clearly how cynical and hypocritical all the usual prattle about patriotism truly is.

There is a lot of elegant debunking of right-wing propaganda in this book. Shortly after Bush took office, his Administration was joined by the American Farm Bureau in a campaign to kill the estate tax. "To keep farms in the family we are going to get rid of the death tax," Bush claimed. One problem discovered by reporters at the Times was that neither the Administration nor the Farm Bureau could identify any families who had actually lost their farms to the estate tax. All of the Iowa farmers they interviewed (most of them Republican Party members) had never even heard of anyone losing their farm due to the estate tax. Most had no illusions that its repeal was intended to benefit very wealthy Republicans (including Bush and Cheney) and their high-donor campaign supporters. Yet the grim fact that people like this passively accept the fact that they are being screwed by their own party suggests that they don't feel like they are being offered any viable alternative. That should be a wakeup call to any Democrats who continue to believe the DLC line about how the party needs to shy away from populist notions of economic justice.

Tax coda:

It would be enough to read Perfectly Legal if you're simply interested in arming yourself with the facts, but there is plenty of entertainment and potential intrigue here as well.

In the first chapter, Johnston introduces us to Jonathan Blattmachr of Milbank, Tweed, Hadley & McCloy, a firm that Johnston notes in passing has had longstanding ties to the CIA. (According to his biographer, former CIA director William J. Casey invented the gambit and the term "tax shelter." Casey used offshore corporations as conduits during Iran-Contra; he also used BCCI's Cayman Islands accounts to fund al Qaeda's activities in Afghanistan during the Cold War. Halliburton's use of a Cayman Islands subsidiary to conduct business in "axis of evil" member Iran suggests that the use of offshore tax havens to avoid any scrutiny of foreign policy strategies as complicated as a Mark Lombardi drawing may be a tradition that's very much alive).

Blattmachr is not well known outside the world of trusts and estates, but within the world of the rich (famous and not) he has a reputation for being able to navigate secret passages hidden in the tax code and see both "the whole and the holes in the whole." For instance, Blattmachr is the architect of such clever tax avoidance devices as the "accelerated charitable remainder trust," which Bill Gates used to reap $200 million in profits on Microsoft stock without paying the $56 million of capital gains taxes that federal law required at the time. (Perhaps his son's ability to game the system so blatantly is one reason why Bill Gates Sr., the father, has joined with United for a Fair Economy in their Responsible Wealth Project.)