Although this blog post has nothing to do with tax advantaged bonds, it does involve taxpayers, large sums of money, allegations of deceit and a strange saga in which the IRS has become embroiled. The story begins in 1999, when William Esrey, the CEO of Sprint Corporation at the time, and Ronald LeMay, COO of Sprint at the time, engaged in a Contingent Deferred Swap (“CDS”) transaction being promoted by Ernst & Young (“EY”). The two high ranking executives then each engaged in a second CDS transaction in 2000, and in a Contingent Deferred Swap Add-On (“CDSA”) transaction in both 2000 and 2001, that were also being promoted by EY.
As a tax-exempt bond lawyer, I do not understand how the CDS or CDSA transactions were supposed to work. However, the tax positions they involved must have been fairly egregious, because in 2002, both the civil and criminal divisions of the IRS and the U.S. attorney’s office located in the Southern District of New York began investigating EY’s role as a promoter of these transactions. At some point during 2002, the IRS also began to audit entities owned by Esrey and LeMay through which they engaged in the CDS and CDSA transactions. The two executives initially chose to have EY represent them during these audits.
What happened to EY? In July of 2003, EY agreed to pay the IRS a $15 million penalty for promoting the CDS and CDSA transactions. That was a pittance compared to the $123 million penalty EY paid in 2013 in exchange for a non-prosecution agreement with the U.S. attorney.
What happened to Esrey and LeMay? Between 2002 and 2004, EY continued to represent them in their respective IRS audits. The two executives have contended that they believed that EY was acting in their best interests during this time period. However, they apparently changed their minds at some point, and in 2011, Esrey and LeMay sued EY. Based upon the information I have, it appears that the two executives sued EY for some kind of breach of fiduciary duty/conflict of interest. After an arbitration ended in 2014, EY paid Esrey and LeMay an undisclosed amount of money. That was apparently not sufficient to make the executives whole. So Esrey and LeMay made a. . . . bold . . . choice – they decided to sue the IRS.
According to the executives’ complaint filed in federal district court in the spring, the IRS knew of EY’s fiduciary duties to the two executives, and of EY’s conflict of interest, but continued to let EY represent them in front of the IRS in the IRS audits. In addition, Esrey and LeMay allege that the IRS helped EY actively conceal the fact that the $15 million payment made by EY to the IRS in 2003 was a penalty. According to the two executives, the proposed settlement between EY and the IRS was initially for $13.6 million, but EY agreed to pay an additional $1.4 million in exchange for the IRS not referring to the now $15 million payment to be made by EY as a “penalty” in a press release. Maybe the two executives thought EY’s extra payment was a charitable contribution.
What is more surprising than the fact that the two executives are now suing the IRS is what each such individual is asking for in damages. Remember that there does not appear to be any dispute that the two executives participated in various tax shelters that were intended to defraud the IRS. In addition, the two executives have already received an undisclosed amount of money from EY. Now, however, Esrey and LeMay “demand” that the IRS, the agency they were trying to defraud, pay them an aggregate amount of $159,350,000. Wow – that is why the truth is sometimes stranger than fiction.1