Tax Evasion and Money Laundering – Part 3

In the Pasquantino case, (96 AFTR 2d 2005-5392 (2005), the U.S. Supreme Court determined that a foreign government has a valuable property right in collecting taxes and that right may be enforced in a U.S. court of law.

Under the CRS Report for Congress, Money Laundering: An abridged overview of 18 U.S.C. Sec.1956 and Related Federal Criminal Law, Charles Doyle, Senior Specialist, American Law Division (7/18/08), specified unlawful activities (“SUAs”) which are predicate offenses for money laundering offenses, include: state crimes, foreign crimes and federal crimes (SUAs are listed in 18 U.S.C. Sec. 1956(c)(7).

As stated in the U.S. Dept. of Justice Criminal Tax Manual, Chapter 25, 25.03(2)(a), tax evasion as a predicate offense for money laundering is a financial transaction involving the proceeds of specified unlawful activity with the intent either to promote that activity or to violate IRC Sec. 7201 (willful attempt to evade tax, IRC Sec. 7206), (false and fraudulent statements made to the IRS) with the tax involved in the transaction being any type of tax including but not limited to: income tax, employment tax, estate tax, gift tax and excise tax.

In Pasquantino, the defendants evaded Canadian excise taxes in a liquor smuggling scheme. The U.S. government prosecuted the taxpayers under a wire fraud statute, based on communications made within the U.S. In addition, it appears the defendants committed tax evasion in Canada, which under the cited authority (CRS Report for Congress, money laundering, the U.S. Dept. of Justice Criminal Tax Manual) would be predicate offenses (i.e. SUAs) for money laundering.

In the U.S. “wire fraud” is governed under 18 U.S.C. Sec. 1343 which provides: “whoever, having devised or intending to devise any scheme or artifice to defraud, or for obtaining money or property by means of false or fraudulent pretenses, representations, or promises, transmits or causes to be transmitted by means of wire, radio, or television communication in interstate or foreign commerce, any writings, signs, signals, pictures or sounds for the purpose of executing such scheme or artifice, shall be fined under this title or imprisoned not more than 20 years, or both. If the violation affects a financial institution, such person shall be fined not more than $1M or imprisoned not more than 30 years, or both.”

The wire fraud statute (18 U.S.C. 1343) forbids schemes to obtain “money or property” by fraud. If no property or money is involved, the statute does not reach the conduct in question.

The defendants in Pasquantino objected to being tried under the wire fraud statute on the grounds that uncollected Canadian taxes were not “property” for purposes of the wire fraud statute. The court disagreed, concluding that because the defendants would have paid taxes had they disclosed the liquor to border officials, their failure to pay taxes inflicted economic injury on Canada “no less than had they embezzled funds from the Canadian treasury”.

In concluding that Canada had a property right in its attempt to collect tax, it states: “Petitioners used interstate wires to execute a scheme to defraud a foreign sovereign of tax revenue. Their offense was complete the moment they executed the scheme inside the United States; “the wire fraud statute punishes the scheme, not its success”. (United States v. Pierce, 224 F.3d 158, 166 (CA-2, 2000); (internal quotation marks and brackets omitted). See Durland, 161 U.S. at 313 (“the significant fact is the intent and purpose”). This domestic element (i.e. the wire fraud in the U.S.) is what the government is punishing in this prosecution, no less than when it prosecutes a scheme to defraud a foreign individual or corporation, or a foreign government acting as a market participant.”

The U.S. “Fraud Enforcement and Recovery Act” (S. 386), 94 DTR G-3, codified the definition of the term “proceeds” in the money laundering statute to make clear that the proceeds of specified unlawful activity includes the gross receipts of the illegal activity, not just the profits of the activity. The “Fraud Enforcement and Recovery Act” overruled the U.S. Supreme Court ruling in the Santos case (128 S.Ct. 2020 (2008)), defining proceeds as “net proceeds” (not gross proceeds, which Supreme Court decision limited the reach of money laundering statutes to “profitable crimes”), which was also held by the 11th Circuit in Khahani, 502 F.3d 1281, 1296-97 (CA-11, 2007) which stated: “proceeds does not contemplate profits or revenue indirectly derived from labor or from the failure to remit taxes”.

The 3rd Circuit in Yusuf (536 F.3d 178 (CA-3, 2008) held that the government could use the mail fraud statute in support of an international money laundering charge. The Yusuf case dealt with a scheme to defraud the U.S. Virgin Islands out of a gross receipts tax. The tax at issue in this case was not an income tax, but a tax on a straight percentage of sales. In addition to holding that the retained taxes were the proceeds of mail fraud, the 3rd Circuit further held that the retained taxes amounted to profits.

The IRS and the U.S. Dept. of Justice have significant legal authority to treat international tax evasion as a predicate offense to money laundering. On 10/29/04, the Dept. of Justice Tax Division amended Tax Division Directive 128 so that domestic tax offenses may be charged as mail or wire fraud (emphasis added). Tax offenses are predicate offenses for a money laundering violation include: state, federal or foreign taxes. These tax evasion offenses may arise as an adjunct to an international estate plan because of the attendant income and transfer taxes that may be due incident to the implementation or ongoing maintenance of an estate plan.

For example, a taxpayer who mails a false state income tax return may be a subject to both mail fraud (and tax evasion). See: Helmsley, 941 F.2d 71, 68 AFTR 2d 91-5272 (CA-2, 1991), cert. den. 502 U.S. 1091 (1992).

Tax Division Directive No. 128 permits the Dept. of Justice to bring mail fraud or wire fraud charges in tax-related schemes if:

1. There is a large loss related to fraud;

2. There is a significant benefit to bringing such charges.

Tax Division Directive No. 128 does not apply in routine tax prosecutions but does apply to fraud charges. If there is “significant benefit”, fraud charges will be considered:

1. At the charging order stage to ensure that there is support for forfeiture of the proceeds of a scheme to defraud;

2. At trial, all relevant evidence will be admitted;

3. At sentencing, to ensure full restitution, promoters of tax schemes are particularly targeted [See USAM G-4.210].

The U.S. Dept. of Justice, Tax Division policy will not authorize prosecution for money laundering “where the effect would merely be to convert routine tax prosecutions into money laundering prosecutions, as the statute was not intended to provide a substitute for traditional Title 18 and Title 26 charges related to tax evasion, filing of false returns or tax fraud conspiracy” (U.S. Dept. of Justice Criminal Tax Manual, Ch. 25, 25.01). The U.S. government may seize taxpayer assets under either tax evasion or money laundering charges.

In Ianniello, 98 TC 165 (1992) taxpayers were convicted of mail fraud and tax evasion for $666,667 in restaurant profits that had been illegally skimmed. The IRS assessed a fraud penalty for failure to include skimmed profits in taxable income.

The taxpayers’ defense was that the skimmed receipts were not income because they were forfeited to the government. The court held that the receipts were income: “A taxpayer obtains possession, custody and control of proceeds he acquires unlawfully, despite a statutory forfeiture provision that tests legal title to the proceeds in the United States, on the date he acquires such proceeds (See: Wood, 863 F.2d 417 ), 63 AFTR 2d 89-709 (CA-5, 1985); Gambino, 91 TC 826 (1988); Holt 69 TC 75 (1977); Bailey, TCM 1989-674, aff’d 929 F.2d 700 (CA-6, 1991).

The U.S. Supreme Court held: (“IRC Sec. 61 provides that gross income means all income from whatever source derived”). “Gross income includes all accessions to wealth, clearly realized and over which the taxpayers have complete dominion (James v. U.S. 213, 7 AFTR 2d 1361 (1961), quoting Glenshaw Glass Co., 348 U.S. 426, 47 AFTR 162 (1955).)

Tax evasion may expose U.S. taxpayers to additional crimes: money laundering, mail fraud and wire fraud, which can expose the taxpayer to violations of U.S. criminal law, forfeiture of assets, and exposure of counsel to violations of U.S./state criminal laws, IRS Circular 230 and claims for malpractice, when a client’s assets are seized or forfeited.


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