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8/9/2019 WHISTLING WHILE YOU WORK: WHISTLEBLOWER STATUTES AS A NECESSARY EVIL IN THE FIGHT AGAINST OFFSHOR
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WHISTLING WHILE YOU WORK:WHISTLEBLOWERSTATUTES AS ANECESSARY EVIL IN
THE FIGHT AGAINST OFFSHORE TAX EVASION
INTRODUCTION
Ah, Switzerland!1 This majestic alpine nation is known for producing superb
alpine skiing, the worlds finest watches, and delicious chocolate. In addition,
Switzerland is famous for its reputation as being peaceful [and] prosperous with a
stable modern market economy . . . low unemployment, a highly skilled labor force, and
a per capita GDP larger than that of the big Western European economies.2
Due to its
low taxes on foreign investment, watertight bank secrecy laws, and stable government,
Switzerland is also one of the most welcoming sanctuaries for high-net-worth individuals
and corporations seeking to shelter income and investment gains from taxation in their
home jurisdictions.
Although Swiss banks hold $2 trillion in foreign deposits,3 they are not the only
player in the offshore tax haven game. In fact, the United States Bureau of Economic
Research believes that approximately fifteen percent of the countries in the world qualify
as tax havens.4 With so many choices available, can we really blame individuals for
1 While there are many tax havens one could use to illustrate the problems of offshore taxevasion, Switzerland, due to its fame and presence in the news, will be used as the common
example of tax haven throughout this Note.
2 See Switzerland Tax Haven Information, available athttp://www.taxhavenco.com/switzerland(last visited 15 March 2010). In 2009, Switzerland ranked fourth amongst IMF members with a
GDP Per Capita of 66,127. See World Economic Outlook Database-October 2009, InternationalMonetary Fund.3 Where the Money Goes to Hide, http://
www.theweek.com/article/index/96016/Where_money_goes_to_hide (Apr. 30, 2009, 3:36 EST).
4 See Dhammika Dharmapala & James R. Hines Jr., Which Countries Become Tax Havens?, 93 J.PUB.ECON. at 1058-68 (2009).
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trying to reduce their tax burden by seeking refuge in these so-called places in the
sun?5
Evading the payment of taxes has become so popular, especially in the United
States, that a 2008 Senate report suggested that roughly $100 billion in tax revenue goes
uncollected each year as a result of corporations and individuals use of shelters
provided by offshore tax havens.6 In fact, tax flight7 costs the United States more in
tax revenues [each year] than corporate tax underpayments and tax shelters combined. 8
Unfortunately, this problem is not endemic to the United States, as the number of dollars
gone astray globally each year as a result of offshore tax havens is far more staggering.9
As a result of current global economic conditions, public outcry in response to
corporate malfeasance, and the need for greater funds in the federal fisc, governments
have heightened efforts, albeit unsuccessfully, to crackdown on offshore tax havens and
rein in the massive annual tax losses resulting from tax flight. These efforts run the gamut
from the Organization for Economic Co-operation and Development (OECD) stiff-
5 Joanne Ramos,Places in the Sun, CFO Magazine, Feb. 23, 2007, available athttp://www.cfo.com/article.cfm/8758857/2/c_8757373?f=TodayInFinance_Inside. Offshore TaxHavens have been given this appellation because many of them are small island nations in the
Caribbean.
6 STAFF OF S.COMM. ON HOMELAND SEC. AND GOVERNMENTAL AFFAIRS,110TH CONG.,REPORT ON TAX HAVEN BANKS AND U.S.TAX COMPLIANCE 1(2008)[hereinafter S.REPORT].7 Tax flight can best be defined as the practice of hiding assets overseas (in tax havens) by
individual taxpayers in developed countries (flight jurisdictions) to avoid income taxes. Steven
Dean,Philosopher Kings and International Tax: A New Approach to Tax Havens, Tax Flights,and International Tax Cooperation, 58 HASTINGS L.J.911,913n. 10 (2006-07).
8Id.9 In fact, it is estimated that the offshore world harbors $11.5 trillion in individual wealth alone,representing $250 billion [globally] in lost annual tax revenue. Rachel Keeler, Tax Havens and
the Financial Crises: From Offshore Havens to Financial Centers, Banking Secrecy Faces
Scrutiny, DOLLARS AND SENSE:REAL WORLD ECONOMICS,available athttp://www.dollarsandsense.org/archives/2009/0509keeler.html.
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arming tax havens into cooperative agreements by threatening the inclusion of such
havens in a global blacklist,10 to countries entering into Tax Information Exchange
Agreements, and even to various tactics outside of the diplomatic realm.11
All of these
methods are employed with a view to obtaining information regarding wayward
taxpayers in the foreign jurisdictions.
In 2006, the United States Congress enacted Section 7623 of the Internal Revenue
Code (Code)12 with hopes of enhancing its preexisting tax whistleblower program while
simultaneously reducing lost tax revenue. Section 7623 incentivizes individuals with
inside knowledge of tax abuses to provide information to the government that will aid in
the collection of lost revenue due to tax avoidance, evasion, and fraud. The newly
amended section allows an individual who provides information that leads to tax
collection in excess of $2 million to receive an reward between fifteen and thirty percent
of the collected revenues.13 Congress enacted this provision because there are certain
cases in which the Internal Revenue Service (I.R.S.) may have difficulty identifying non-
compliant taxpayers without the services of a knowledgeable insider. One such instance
where the I.R.S. may need inside information is the identification of tax fraudsters who
are hiding behind the veil of offshore bank secrecy laws.
10 See ORG. FORECON.COOPERATION AND DEV.,HARMFUL TAX COMPETITION:AN EMERGING
GLOBAL ISSUE (1998), available athttp://www.oecd.org/dataoecd/33/0/1904176.pdf [hereinafterOECD].
11 See Haig Simonian, The Price of a Whistleblower, FIN.TIMES,Feb. 8, 2010, available athttp://www.ft.com/cms/s/0/c71049ac-14e2-11df-8f1d-00144feab49a.html (discussing GermanChancellor Angela Merkels attempt to buy stolen bank records for 2.5 million Euro) [hereinafter
Price].
12 I.R.C. 7623 (2010).13 I.R.C. 7623(b)(1) (2010).
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Part I of this Note defines the amorphous term tax haven14 and analyzes what
characteristics are necessary in order for a country to be a successful tax haven. Part II
will then discuss government efforts to win the war on offshore tax evasion and to close
the global tax gap. Part III will introduce the controversial whistleblower15 provision in
Code Section 7623 and provide a case study of its application. Furthermore, Part III will
recommend two changes to the provision to make it more palatable to society at large.
This Note will conclude by suggesting that while diplomatic efforts may help to lessen
the offshore tax havens grasp on the global banking and tax systems, recourse to areas
outside of diplomacy may, in fact, be a necessary evil in the war against offshore tax
evasion.
I. TAX HAVENSA. WHAT IS A TAX HAVEN?The heading of this section presents a question, the answer to which has eluded
scholars, policymakers, and bankers alike for many years. As a result, various groups and
organizations employ different definitions in their efforts to identify and combat abusive
tax havens. In fact, no two lists of tax havens look quite the same; the number of entries
range anywhere from around twenty to almost one hundred jurisdictions.16
In an effort
14 I refer to the term tax haven as amorphous because scholars, policymakers, and bankers
have differing views as to what exactly constitutes a tax haven. As a result, certain jurisdictions
may receive the moniker tax haven under some definitions but not others.15 The term whistleblower derives from the practice of English bobbies who would blow their
whistles when they noticed the commission of a crime. That would alert both law enforcementofficers and the general public to the danger. Douglas M. Mancino, Whistleblowers and Tax-
Exempt Organizations , MCDERMOTT WILL &EMERY,LLP,Mar. 2009, available at
http://www.mwe.com/info/pubs/taxationofexempts_0309.pdf.
16 Timothy V. Addison, Shooting Blanks: The War on Tax Havens, 16 IND.J.GLOBAL LEGALSTUD.703,706(2009)(citing J.C.SHARMAN,HAVENS IN A STORM 21(2006)).
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to reduce this confusion, the OECD published a list of four criteria to determine whether
a jurisdiction is worthy of the moniker tax haven.17 The first criterion in identifying a
tax haven is whether a jurisdiction imposes no or only nominal taxes.18
It is important
to note that this first criterion is the only essential element in assessing a jurisdictions
status as a tax haven. Although the remaining three criteria are not essential elements,
they are key factors that can help in determining the existence of a tax haven. These
remaining criteria are: (1) whether the jurisdiction has laws or administrative practices
which prevent the effective exchange ofrelevantinformation with other governments on
taxpayers benefiting from the [jurisdiction];19 (2) whether there is a lack of
transparency in the operation of the legislative, legal or administrative provisions . . . 20;
and (3) finally, whether the jurisdiction requires the banking activity be substantial.21
The OECD, concerned that certain nations that were unlikely to attract tax flight, such as
a nation at civil war, might be deemed a tax haven, further required that a tax haven must
17 The report also listed several other factor, but they were not integral to the analysis of whethera jurisdiction is a tax haven. The other factors are: (1) artificial definition of tax base; (2) failure
to adhere to international transfer pricing principles; (3) foreign source income exempt from
residence country tax; (4) negotiable tax rate or tax base; (5) existence of secrecy provisions; (6)access to a wide network of tax treaties; (7) regimes which are promoted as tax minimizationvehicles; and (8) a regime which encourages purely tax-driven operations or arrangements. See
OECD, supra note 10, at 5. Note that several of these non-key factors may have some overlap
with the key factors mentioned above and could be there to reinforce the original factors.18Id. at 22.19Id. at 22. This factor is referring to what is commonly known as bank secrecy. The Swiss were
first to pen the concept of bank secrecy by passing the Banking Law of 1934 (Act). Bank
secrecy, in its most basic form, strongly resembles the notion of confidentiality that exists in anattorney-client relationship. In laymens terms, bank secrecy exists when a jurisdiction employs
laws prohibiting banks and other financial institutions from providing personal and accountinformation about customers to authorities.20Id. at 23.
21 Id. at 22. It is believed that jurisdictions that do not have a requirement that the investment
activity be substantial tend to suggest that they may be attempting to attract investment ortransactions that are purely tax driven.
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offer itself or be perceived to offer itself as a place to be used by non-residents to escape
tax in their country of residence.22 It is clear that the task of fitting a jurisdiction into
these enumerated criteria is extremely arduous in and of itself, as it requires several
stages of analysis. Perhaps an easier way to define a tax haven would be to take Michael
Littlewoods approach and define a tax haven as a jurisdiction which serves as a means
by which firms and individuals resident in other jurisdictions can escape the taxes that
they would otherwise be obliged to pay . . . .23
B. WHY DO TAX HAVENS EXIST?Although tax havens collectively account for only three percent of global GDP,
over half of world trade passes through them on an annual basis.24 It is precisely this
access to capital that is the major enticement for becoming a tax haven. Tax havens
receive extensive foreign investment, and, largely as a result, have enjoyed very rapid
economic growth over the past twenty-five years.25 Because these jurisdictions offer tax
rates that are substantially lower than most wayward investors home jurisdictions,
investors flock to these tax havens to achieve a guaranteed increase in after-tax returns on
investments.26 Scholars estimate that a ten-percent reduction in the overall tax rate on
investment in a particular jurisdiction increases foreign investment by six percent.27
This
is largely due to the swift mobility of capital. When an individual can realize a greater
22Id. at 22. See also Dean,supra note 7, at 927.
23 Michael Littlewood, Tax Competition: Harmful to Whom?, 26 MICH.J.INTL L.411,414(2004-05).24 Addison,supra note 16, at 711.25Id. (quoting Dhammika Dharmapala &James R. Hines, Which Countries Become Tax Havens1 (NBER Working Paper No. 12802, 2006), available athttp://www.nber.org/papers/w12802).
26Id.
27 Dhammika Dharmapala &James R. Hines, Which Countries Become Tax Havens 3 (NBERWorking Paper No. 12802, 2006), available athttp://www.nber.org/papers/w12802.
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after-tax return in one jurisdiction with little risk of being caught, very little will stand in
his or her way.
C. SO,WHAT IS THE BIG DEAL?While tax havens can provide great after-tax return to wayward taxpayers and
increased capital investment at the jurisdictional level, the consequences of such
transactions reverberate around the world like a tsunami after a deep ocean earthquake.
First of all, tax havens result in nearly $100 to $150 billion in forgone revenue to the
United States,28 and nearly $255 billion globally each year.29 Furthermore, tax havens
lead to the wasteful expenditure of resources, both by firms in their participation in
havens, and by governments in their attempts to enforce their tax codes.30 Additionally, in
response to revenue losses imposed upon them by tax havens, tax flight jurisdictions seek
to reduce their tax rates below levels that are efficient from the viewpoint of all
countries involved.31 This competition creates a race to the bottom and ultimately results
in a reduction in social welfare, as countries no longer have adequate resources to provide
necessary public goods.32
II. MAJORBATTLES IN THE WAR ON TAX HAVENSThe war on offshore tax havens will not be won by a tax flight jurisdiction
implementing laws and policies on its home turf as the problem of offshore tax abuse
28 See Addison,supra note 16, at 704.29 See TAX JUSTICENETWORK,BRIEFING PAPERTHE PRICE OF OFFSHORE (March 2005),available athttp://www.taxjustice.net/cms/upload/pdf/Price_of_Offshore.pdf.30 Joel Slemrod & John D. Wilson, Tax Competition with Parasitic Tax Havens 5 (Natl Bureauof Econ. Research, Working Paper No. 12225, 2006), available at
http://www.nber.org/tmp/8335-w12225.pdf.
31Id.32Id.
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lies not with [its] tax rules but with attempts to hide from them. 33 As previously
mentioned, while certain jurisdictions may be able to craft their laws in a manner
favorable to the taxpayer by lowering taxes on investment and other forms of income, the
reduction in tax revenue from such a move will ultimately reduce overall social welfare
for the tax flight jurisdiction. Cognizant of this fact, many global organizations and tax
flight jurisdictions have undertaken various efforts to establish information sharing and
cooperation with tax havens in order to curb the tremendous loss of annual tax revenue
due to tax flight. This section proceeds by describing these efforts and offering analysis
as to why they are not perfect solutions and merely individual arrows in the ultimate
quiver needed to triumph in the war on tax havens.
A. 1998OECDREPORT,BLACKLISTING, AND COOPERATIVE AGREEMENTSIn an attempt to push tax havens toward cooperation, the OECD published
Harmful Tax Competition: An Emerging Global Issue,34 in 1998. This report contained
two recommendations regarding the global war on tax havens. First, the report
recommended that countries that do not have rules concerning the reporting of
international transactions and foreign operations of resident taxpayers consider adopting
such rules and that countries exchange information obtained under these rules.35
In
addition, the report threatened jurisdictions that a later report would identify, and
effectively blacklist, countries deemed by the OECD to be Uncooperative Tax
33 Testimony of Treasury Acting International Tax Counsel John Harrington before the S. Fin.
Comm. on Offshore Tax Evasion at 3 (May 3, 2007).
http://finance.senate.gov/hearings/testimony/2007test/050307testjh.pdf [hereinafterTestimony].
34 OECD,supra note 10.35 Dean,supra note 7, at 927 (citing OECD,supra note 10, at 22).
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Havens.36 In order for a country to be deemed cooperative, the OECD required the
jurisdiction to pledge to reduce and eventually eliminate the policies the OECD
deemed harmful.37
In 2000, the OECD followed up this report, as promised, with the release of
Toward Global Tax Cooperation,38 which listed thirty-five (35) countries as fitting the
criteria enumerated in the 1998 report.39 This, however, was not an exhaustive list of all
of the countries deemed to meet the criteria established by the OECD. The countries that
were excluded from the initial list had to the OECDs satisfaction, already made a
public political commitment at the highest level (an advance commitment) to eliminate
their harmful tax practices and comply with the principles of the 1998 report [by
2005].40 These commitments required the tax havens to cease being tax havens by the
end of 2005 by developing their capacity to collect and exchange the information
36 Addison,supra note 16, at 714.37Id.
38 ORG. FORECON.CO-OPERATION AND DEV.,TOWARDS GLOBAL TAX CO-OPERATION:REPORT TO THE 2000 MINISTERIAL COUNCIL MEETING AND RECOMMENDATIONS BY THECOMMITTEE ON FISCAL AFFAIRS:PROGRESS IN IDENTIFYING AND ELIMINATING HARMFUL TAX
PRACTICES (2000),available athttp://www.oecd.org/dataoecd/9/61/2090192.pdf [hereinafter
OECD CO-OPERATION].39 The countries listed in the 2000 report as having met the initial criteria are: Andorra, Anguilla Overseas Territory of the United Kingdom, Antigua and Barbuda, Aruba Kingdom of the
Netherlands, Commonwealth of the Bahamas, Bahrain, Barbados, Belize, British Virgin Islands
Overseas Territory of the United Kingdom, Cook Islands New Zealand, The Commonwealth ofDominica Gibraltar Overseas Territory of the United Kingdom, Grenada,Guernsey/Sark/Alderney Dependency of the British Crown, Isle of Man Dependency of the
British Crown, Jersey Dependency of the British Crown, Liberia The Principality of
Liechtenstein, The Republic of the Maldives, The Republic of the Marshall Islands, ThePrincipality of Monaco, Montserrat Overseas Territory of the United Kingdom, The Republic of
Nauru, Netherlands Antilles Kingdom of the Netherlands, Niue New Zealand, Panama,Samoa, The Republic of the Seychelles, St Lucia, The Federation of St. Christopher & Nevis, St.Vincent and the Grenadines, Tonga, Turks & Caicos Overseas Territory of the United
Kingdom, US Virgin Islands External Territory of the United States, and The Republic of
Vanuatu.Id.40 Dean,supra note 7, at 928 (citing OECD CO-OPERATION,supra note 38, at 16).
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required by flight jurisdictions to enforce their income taxes.41 The OECD feared,
however, that the threat of inclusion in the 2001 List of Uncooperative Tax Havens was
not enough to force certain jurisdictions into compliance. As a result, the report urged
other nations to take unilateral action against these tax haven states.42
In the 2000 Report, the OECD provided eleven guidelines to assist independent
states in embarking on unilateral action against the tax havens. The guidelines provide as
follows:
To disallow deductions, exemptions, credits, or other allowancesrelated to transactions with Uncooperative Tax Havens or totransactions taking advantage of their harmful tax practices;
To require comprehensive information reporting rules fortransactions involving Uncooperative Tax Havens or takingadvantage of their harmful tax practices, supported by substantial penalties for inaccurate reporting or non-reporting of suchtransactions;
For countries that do not have controlled foreign corporation orequivalent (CFC) rules, to consider adopting such rules, and forcountries that have such rules, to ensure that they apply in afashion consistent with the desirability of curbing harmful tax
practices (Recommendation 1 of the 1998 Report); To deny any exceptions (e.g. reasonable cause)43 that may
otherwise apply to the application of regular penalties in the caseof transactions involving entities organized in Uncooperative TaxHavens or taking advantage of their harmful tax practices;
To deny the availability of the foreign tax credit44 . . . with regardto distributions that are sourced from Uncooperative Tax Havensor to transactions taking advantage of their harmful tax practices;
To impose withholding taxes on certain payments to residents ofUncooperative Tax Havens;
41Id. See also OECD CO-OPERATION,supra note 38, at 22.42 Addison,supra note 16, at 714.
43 Certain tax regimes provide relief when the taxpayer exercises ordinary business care andprudence in determining their tax obligations but, [due to reasonable cause], is unable to complywith those obligations. See I.R.S.,INTERNAL REVENUE MANUAL 20.1.1.3.2(2009).
44 A foreign tax credit is a credit received by an individual in their home country for taxes paid
on income in a foreign country. See Bookeepers.com, Foreign Tax Credit or Deduction,http://www.bookkeeperlist.com/definitionsf.shtml.
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To enhance audit and enforcement activities with respect toUncooperative Tax Havens and transactions taking advantage oftheir harmful tax practices;
To ensure that any existing and new domestic defensive measuresagainst harmful tax practices are also applicable to transactionswith Uncooperative Tax Havens and to transactions takingadvantage of their harmful tax practices;
Not to enter into any comprehensive income tax conventions withUncooperative Tax Havens, and to consider terminating any suchexisting conventions unless certain conditions are met(Recommendation 12 of the 1998 Report);
To deny deductions and cost recovery, to the extent otherwiseallowable, for fees and expenses incurred in establishing oracquiring entities incorporated in Uncooperative Tax Havens; and
To impose transactional charges or levies on certain transactionsinvolving Uncooperative Tax Havens.
45
When the OECD published the List of Uncooperative Tax Havens in 2002, all but
seven of the original thirty-five tax havens had been removed from the list. 46 However,
the measures taken by the OECD during the 1998-2005 time period have been deemed
unsuccessful, as the amount of tax revenue lost due to offshore tax evasion continues to
rise on an annual basis. Professor Steve Dean, writing in 2007, argued that several issues
contributed to the ultimate ineffectiveness of the OECD cooperative agreement initiative.
First, the cooperative agreements are entirely unilateral.47
The mere fact that cooperation
commitments are intended to induce tax havens to help prevent tax flight, but rely
principally on transnational collateral consequences to motivate tax havens, is what
made them so ineffective.48 A pair of nations will typically cooperate when such
45 OECD CO-OPERATION,supra note 38, at 25.46 See Dean,supra note 7, at 928.47 See id. at 961 (comparing cooperative agreements to tax flight treaties and arguing that the
lack of a reciprocal promiseaside from the jurisdictions removal from the black listhas made
these agreements ineffective).48Id.
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cooperation will improve the collective welfare of each nation.49 It is the promise/threat
of transnational collateral consequences in the form of changes in foreign aid policies [as
well as strict adherence to the eleven recommendations mentioned above] [that] made
[tax havens] show . . . cooperation by entering into the OECDs cooperation
commitments but have not developed the information infrastructure the OECD sought.50
Essentially, tax havens are sending a message to the OECD that they will not be bullied
into complying with the demands of a foreign entity without some form of reciprocal,
societal benefit. More importantly, they are fervently demonstrating that their sovereignty
should not be violated merely because they have differing viewpoints on tax
administration.51
B. INFORMATION SHARINGThe free flow of information between a tax flight jurisdiction and a tax haven is,
quite possibly, the most crucial weapon in effectively combating the abuse of offshore tax
havens and the concomitant loss of revenue to the federal fisc. Information sharing
usually takes one of three forms: (1) exchange on request; (2) automatic exchange; and
(3) spontaneous exchange.52 Information is exchanged on request when a competent
authority of one country asks for particular information regarding specific taxpayers from
the competent authority of another country.53 The automatic exchange of information
generally occurs when a source country reveals details of income arising in the source
49 Id. at 919.50Id.
51 Addison,supra note 16, at 711.
52 Testimony,supra note 33, at 3.53Id.
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country as a result of dividends or royalties and is generally obtained on a routine basis
by the sending country. This information is readily available for transmission to the
requesting party.54
Finally, the spontaneous exchange of information occurs when the
country in possession of the information sends it to a treaty party without the party
requesting the information.55
i. BILATERAL TAX TREATIESBroadly defined, a bilateral tax treaty is an agreement that serve[s] to harmonize
the tax systems of two countries . . . .56 These treaties are generally created between two
countries with the goals of reducing double taxation, eliminating tax evasion by
information sharing, and encouraging cross-border trade efficiency.57 Without a tax treaty
in place, an individual or corporation would be subject to potential taxation on income
[earned] from cross-border transactions or investment[s] . . . in both the foreign and the
earners home jurisdiction.58 A bilateral tax treaty eliminates this double taxation by
allocating taxing jurisdiction over the income between the two countries.59
The bilateral
tax treaty works by eliminating the source jurisdictions tax and typically favors
countries with high rates of capital exportation.60 As a result, these treaties permit pairs
of nations to improve the flow of capital across their borders, permitting investors to
54Id.55Id.
56 International Business Machines, Bilateral Income Tax Treaty Essentials,
http://www.ibm.com/ibm/governmentalprograms/bilateral-income-tax-treaty-essentials.pdf. For awonderful discussion on Bilateral Double Tax Treaties, see Dean,supra note 7, at 938-53.
57 See Michael J. McIntyre, Professor of Law, Wayne State University Law School, Model TaxTreaties: A Comparison of the UN and OECD Models, available athttp://faculty.law.wayne.edu/tad/Documents/Teaching_Materials/model_treaties.pdf.
58Id.
59Id.60Dean,supra note 7, at 949 n. 132.
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make more efficient decisions and increase the GDPs of both treaty partners.61
In addition to eliminating double taxation and encouraging cross-border trade
efficiency, these treaties usually carry with them a provision providing for the free-flow
of information between the parties to the agreement.62 Unfortunately, as Professor Dean
argues, these information exchange provisions tend to take a back seat to the double
taxation provisions and ultimately have little effect in the exchange of information
between the parties to the treaty.63 Furthermore, bilateral double tax treaties are more
likely to exist between pairs of countries with strong commercial ties and large amounts
of cross-border investment.64 Dean argues that the flow of information does not always
mimic commercial ties, and as a result, gaps in the global network of double tax treaties
inhibit the flow of useful extraterritorial tax information.65 Due to the shortcomings
surrounding bilateral tax treaties ability to share meaningful extraterritorial taxpayer
information, many nations have adopted a concept of stand-alone administrative
assistance agreements66
also known as Taxpayer Information Exchange Agreements
(TIEAs).
ii. TAXPAYERINFORMATION EXCHANGE AGREEMENTSWith the limited success of the OECDs co-operative agreements and bilateral tax
treaties in fighting offshore tax evasion, many tax flight jurisdictions have entered into
TIEAs with tax havens. A TIEA is a tax treaty between two countries for the purpose of
61 Id. at 939.
62 See Steven A. Dean, The Incomplete Global Market for Tax Information, 49 B.C.L.REV.605(2008).63 See id. at 645.
64Id. at 649.
65Id.66Id.
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sharing information regarding taxpayers who are illegally utilizing one jurisdictions tax
laws to evade the payment of taxes in the other jurisdiction. According to Treasury
Acting International Tax Counsel John Harrington, a TIEA must have three
characteristics that set it apart from other information-sharing treaties. First, the treaty
must provide for the exchange of information on both civil and criminal tax matters.67 In
addition, the treaty must provide for the exchange of information even if such
information relates to a person who is not a resident or national of the tax flight
jurisdiction or the TIEA partners.68 Finally, the TIEA must provide for the disclosure
of information regardless of local confidentiality laws that may prohibit such disclosure,
including laws relating to bank secrecy . . . .69
Executing TIEAs that meet Harringtons three characteristics has been a greater
challenge than originally anticipated. The difficulty arises because many of the tax
havens willing to enter into a TIEA with a tax flight jurisdiction will only guarantee the
release of the requested information so long as the [requesting jurisdiction] is able to
present evidence linking the suspected individuals bank accounts to either tax evasion or
criminal activity, primarily money laundering.70 In Switzerland, for instance, where
banking secrecy is a fundamental pillar of the . . . financial centre,71
the requesting
country must provide a prima facie case that the individual in question has committed a
crime or fraud. In addition, the Swiss, along with many other tax havens, will not tolerate
67 Testimony,supra note 33, at 4.
68Id.69Id.70 Addison,supra note 16, at 717.
71 Author Unknown, Swiss to Relax Banking Laws, SWISSINFO.CH,Mar. 13, 2009, available at
http://www.swissinfo.ch/eng/Specials/Swiss_banking_secrecy_under_fire/News/Swiss_to_relax_banking_laws.html?cid=7274384.
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so-called fishing expeditions.72
What type of behavior, then, is necessary in order for a tax haven to willingly
relinquish information about individuals banking within its jurisdiction? Most
jurisdictions are only willing to exchange information that would assist in the prosecution
of a criminal matter. These jurisdictions are not at all eager to break their longstanding
traditions of bank secrecy to assist in the pursuit of a civil tax matter. Problematically,
what one jurisdiction deems criminal, the other may handle civilly. As a result, and in
order to fully grasp what is required to be shown by a requesting jurisdiction, it is
important to briefly define the various methods of tax chicanery utilized by taxpayers the
world around.
First, information about an individual using legal means [whether at home or
internationally] to modify [his] financial situation in order to lower the amount of income
tax owed73 is never considered a behavior that would qualify for exchange treatment.
While many people hold such behavior, especially in down economic times, in the lowest
of regard, it is neither illegal nor unpatriotic. Consider the following language from Judge
Learned Hand in the 1934 decision Gregory v. Helvering:
Anyone may arrange his affairs so that his taxes shall be as low as possible; he is not bound to choose that pattern which best pays thetreasury. There is not even a patriotic duty to increase one's taxes. Overand over again the Courts have said that there is nothing sinister in soarranging affairs as to keep taxes as low as possible. Everyone does it, rich
and poor alike and all do right, for nobody owes any public duty to pay
72 BANKING SECRECY,REPORT BY THE FEDERAL DEPARTMENT OF FINANCE 3(last updated Feb.
25, 2010), available at
http://www.efd.admin.ch/dokumentation/zahlen/00579/00607/00621/index.html?lang=en.73 Tax Avoidance, Investopedia, http://www.investopedia.com/terms/t/tax_avoidance.asp.
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more than the law demands.74
Thus, the critical focus is tax evasion and fraud. In the United States, tax evasion
is an illegal practice whereby a person willfully attempts in any manner to evade or
defeat any tax imposed by [the Code].75 The failure to report income earned in the
United States is considered an act of tax evasion. While United States residents are
allowed to earn income in any jurisdiction they so choose, whether through work or
investments, they must report this income on their federal income tax returns.76
Deliberate underreporting of income is criminal tax evasion in the United States,
however, in a jurisdiction like Switzerland, such behavior is dealt with civilly.77
Fraud, on the other hand, is a criminal matter in nearly all jurisdictions. Fraud is
defined by the Swiss as conduct that causes or is intended to cause an illegal and
substantial reduction in the amount of tax paid.78
Actions that constitute fraud include
the use or intention to use a forged or falsified document . . . or, in general, a false piece
of documentary evidence, and when the taxpayer intends to use a scheme of lies
(Lugengebaude) to deceive the tax authority.79
These legal distinctions make it extremely difficult for tax flight jurisdictions,
74 Gregory v. Helvering, 69 F.2d 809, 810 (2d Cir. 1934),
75 I.R.C 7201 (2010). This provision provides for a fine of not more than $100,000 ($500,000in the case of a corporation), or [imprisonment] of not more than 5 years, or both, together withthe costs of prosecution for a person caught evading their US tax liability.Id.
76 See I.R.S. Instructions for Form 2555 (2009) (If you are a U.S. citizen or a U.S. resident alien
living in a foreign country, you are subject to the same U.S. income tax laws that apply to citizensand resident aliens living in the United States.).
77 See Swiss Bank Secrecy and Tax Evasion, Micheloud & Cie,http://switzerlandisyours.com/e/banking/secrecy/tax.html (intimating that the Swiss place greaterimportance on personal privacy than they do on taxation such that, the failure to report or the
underestimation of income or assets are not considered a crime).
78 S.REPORT,supra note 6, at 21.79Id.
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such as the United States, to procure the information necessary to prosecute tax crimes
and regain the revenue lost due to the offshore transaction. In addition, these differences
can render the TIEAs between tax flight and tax haven jurisdictions essentially moot.
Finally, these differences have the potential to create what Tim Addison has referred to as
a Catch-22.80 Addison asserts that [t]ax havens only cooperate with investigations when
presented with evidence of [criminal] wrongdoing. Without a tax havens cooperation,
however, such evidence is usually unavailable and nearly impossible to obtain.81 Even in
a case of fraud or active deception, the requesting party will need to demonstrate that
there is a valid case against a particular individual.82 The result is that these TIEAs will
continue to have a small effect on the overall reduction in offshore tax haven abuse.
iii. NON-DIPLOMATIC EFFORTSUltimately, until tax havens permit the automatic disclosure of the tax
information of those individuals earning income in their jurisdiction, the only truly
effective and viable option to deter tax evasion and reduce the tax gap must occur on the
domestic front.83 As a result of failed diplomatic efforts, many tax flight jurisdictions
80 See Addison,supra note 16, at 718 (citing JOSEPH HELLER,CATCH-22(Simon and Schuster
1999) (1959)).
81Id.82 In response to great outside pressure, the Swiss amended an agreement with the United Statesin 2009 to provide the United States with banking information for thousands of bank customers
accused of tax evasion. The amendment, however, required that the United States provide the
names of the banks customers in order for the information to be overturned. Anything less will bedeemed by a fishing expedition by the Swiss. This amendment was turned on its face, however,
by a February 2010 court decision prohibiting the release of the client information unless theUnited States could prove that the customers were engaged in active fraud. See Joseph Heaven,UBS Clients Win Ruling Over U.S. Tax Data Transfers, BUS.WEEK,Feb. 26, 2010, available at
http://www.businessweek.com/news/2010-02-26/two-more-ubs-clients-win-ruling-blocking-data-
transfers-to-u-s-.html.83 Addison,supra note 16, at 722-23.
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have resorted to unilateral tactics that are outside the bounds of diplomacy, and perhaps
even the law. In February 2010, German Chancellor Angela Merkel authorized the
payment of2.5 million for stolen information relating to 1,000 to 1,500 Germans with
bank accounts in Switzerland.84 This is not the first occurrence of such behavior by the
German tax authorities. In 2008, the German Secret Service purchased data regarding
thousands of individuals who banked with Liechtensteins largest bank.85 Germany
subsequently used the information to initiate the prosecution of its own citizens and also
provided the information to other jurisdictions so that they could pursue a similar course
of action.86 Germany and other countries consider the problem to be so severe that they
have allegedly infiltrated banking organizations by placing service individuals in business
roles to gather the necessary information, and by sending undercover operatives to tax
planning and informational seminars to network.87
While such efforts may be marginally effective in procuring the information
necessary to initiate criminal actions against a wayward taxpayer, they are certainly not
good for diplomatic relations and the furthering of international cooperation. Yet, in
recent years, the United States has acted in similar fashion, albeit under American tax
law, by handsomely rewarding inside whistleblowers for the provision of information
leading to the collection of lost tax revenue. The next Part will discuss the whistleblower
provision and provide an example of its firepower in the war to end offshore tax haven
abuse.
84Price,supra note 11.
85Id.
86Id.87Id.
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III. WHISTLEBLOWERPROVISIONSA. WHISTLEBLOWERPROVISIONS AND SECTION 7623The notion that private enforcement of public law is particularly appropriate
when regulators, due to asymmetric information and active concealment on the part of
regulated entities, are unable to enforce and prosecute the law effectively,88 has certainly
withstood the test of time. In fact, for over 100 years, the United States has had a tax
informant statute permitting the federal government to pay individuals who supply
information for the detecting and bringing to trial and punishment persons guilty of
violating the internal revenue laws . . . .89 The initial whistleblower provision was
codified in the Revenue Act of 1934, which provided for expenses for the detection and
punishment of frauds, related to the internal revenue laws.90 Congress recodified the
statute as Code Section 7623 in 1954, and it remained largely unchanged until 2006.91
In 2006, Congress amended Section 7623 and created a centralized
Whistleblower Office [to] process tips received from individuals who spot tax problems
in their workplace, while conducting day-to-day personal business, or anywhere else they
may be encountered.92 In addition to the creation of the Whistleblower Office, amended
Section 7623 is a statute which pays [hefty] bounties to private citizens for detecting
underpayments of tax and assisting [in] the successful prosecution of tax cheats.93
Section 7623(b) of the Code provides, in pertinent part:
88 Dennis J. Ventry, Jr., Whistleblowers and Qui Tam for Tax, 61 TAX LAW. 357, 371 (2007-08).89Id. at 360.90Id. at 361.
91Id.
92Id.93Id. at 372.
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Rewards to whistleblowers. If the Secretary proceeds withany administrative or judicial action described insubsection (a) based on information brought to theSecretary's attention by an individual, such individual shall,
subject to paragraph (2), receive as an reward at least 15 percent but not more than 30 percent of the collectedproceeds (including penalties, interest, additions to tax, andadditional amounts) resulting from the action (includingany related actions) or from any settlement in response tosuch action. The determination of the amount of suchreward by the Whistleblower Office shall depend upon theextent to which the individual substantially contributed tosuch action.94
In order to claim a reward under Section 7623(b), a whistleblower must turn in a
claim against an individual with an annual income of $200,000 and the claim must be for
taxes in excess of $2,000,000.95 While the heightened whistleblower reward under
Section 7623(b) prevents many people from claiming relief due to the dollar amounts
involved, Section 7623(a) allows for a reward when the dollar thresholds of Section
7623(b) are not met.96
The newly revamped whistleblower program proved successful as early as May of
2007. The Whistleblower Offices first director, Steven Whitlock, was quoted in the Wall
Street Journal stating that knowledgeable insiders were turning over big, fat piles of
paper.97
Some of these piles of paper involved the recovery of hundreds of millions of
dollars.98 The incidence of such whistleblowing did not wane in the months following
94 I.R.C. 7623(b) (2010).95Id.
96 See I.R.C. 7623(a)(2010);see also I.R.S. Pub. No. 733 (Nov. 2004) (indicating that thereward under Section 7623(a) can equal up to 15% of the amount recovered or $10,000,000,whichever is less).
97 Tom Herman, Whistleblower Law Scores Early Success, Higher Rewards Attract InformantsSubmitting Tips, WALL ST. J., May 16, 2007, at D3 (quoting Director Whitlock).98 Ventry,supra note 88, at 361.
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the programs inception, as evidenced by two accounts in 2007 of underpayments in the
$1-2 billion dollar range.99
While these early accounts occurred at the domestic level, the high level of
reward provided by the provision has the potential to entice insiders at the international
level to reveal information relating to the banking practices of organizations located in
offshore tax haven jurisdictions. To demonstrate the effect of this statute in relation to tax
havens, this Note will provide a detailed account of one of the most famous banking
scandals in history, as well as a classic representation of the whistleblower provisions
power in obtaining information from informants regarding American citizens
fraudulently excluded income.
B. THE UBSSCANDAL AND BRAD BIRKENFELDFrom 2000-2007, UBS AG, one of the largest financial institutions in the world,
made a concerted effort to open accounts in Switzerland for wealthy U.S. clients,
employing practices that could facilitate, and have resulted in, tax evasion by U.S.
clients.100 During this time, Bradley Birkenfeld worked for UBS in its Geneva private
banking operations.101 As a private banker for UBS, Mr. Birkenfeld assisted U.S.
taxpayer Igor Olenicoff in hiding $200 million in assets in both Switzerland and
99Id. at 361-62. See also J.P Finet, Tax Whistleblower Action Claims $1 Billion Underpayment
by Fortune 500 Company, DAILY TAX REP.(BNA),Oct. 12, 2007, at G-5; J.P. Finet,
Whistleblower Action Claims Major Firm Underpaid Its U.S. Taxes by $2 Billion, 238 DAILY
TAX REP. (BNA), Dec. 12, 2007,at G-9.100 S.REPORT,supra note 6, at 8 (suggesting that UBSs activities included maintaining for an
estimated 19,000 U.S. clients undeclared accounts in Switzerland with billions of dollars inassets that have not been disclosed to U.S. tax authorities; assisting U.S. clients in structuringtheir accounts to avoid QI reporting requirements; and allowing its Swiss bankers to market
securities and banking services on U.S. soil without an appropriate license in apparent violation
of U.S. law and UBS policy).101Id.
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Liechtenstein, as well as in evading $7.2 million in U.S. taxes.102 U.S. authorities arrested
Mr. Birkenfeld in 2008 and he pled guilty to the charges against him. The United States
subsequently gave Mr. Birkenfeld a prison sentence of 40 months for his efforts relating
to Mr. Olenicoff.103 However, a hefty prison sentence may not be the only reward Mr.
Birkenfeld receives from the federal government.
In June 2007, prior to his incarceration, Mr. Birkenfeld, motivated in large part .
. . by the new reward law,104 provided the United States with information relating to
UBSs activities in sheltering billions of dollars of income for American clients.105 The
disclosure of such information, relating to potentially 52,000 offshore clients, has allowed
the I.R.S. and the Department of Justice to force the hand of the Swiss in turning over
account details of roughly 4,450 UBS clients.106 It is expected that these clients will pay
billions of dollars in back taxes, penalties, and interest,107
into the federal fisc.
Furthermore, as a result of the disclosure, the I.R.S. created an amnesty program that has,
thus far, accounted for nearly 14,700 offshore tax evaders,108
yielding extra billions in
tax for the Treasury.109 Finally, Mr. Birkenfelds disclosure was acknowledged by the
Department of Justice as the crucial factor leading to the criminal investigation of
102Id.
103 Lynnley Browning,Ex-UBS Banker Seeks Billions for Blowing Whistle, N.Y.TIMES,Nov.27, 2009, available athttp://www.nytimes.com/2009/11/27/business/27whistle.html?_r=1&pagewanted=print
[hereinafterBillions].
104 Janet Novack & William P. Barrett, Tax Informants Are on the Loose, FORBES,Dec. 14,2009, available at http://www.forbes.com/forbes/2009/1214/investment-guide-10-ubs-irs-
spondello-tax-informants-on-loose.html [hereinafterInformants].105 S.REPORT,supra note 6, at 9.106Billions,supra note 103.
107Id.
108Id.109Id.
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UBS,110 which led to UBS admitting to the wrongdoing and agreeing to pay a $780
million fine to the United States.111
Because of his efforts, and much to the chagrin of U.S. regulators, Mr. Birkenfeld
is seeking a reward under Code Section 7623 from the fine that UBS paid . . . collections
from the data turned over under [the] agreement with UBS, and . . . collections from
individuals who came forward under the IRS voluntary disclosure initiative . . . .112 It is
estimated that under the whistleblower program, Mr. Birkenfeld stands to receive a
reward in the billions of dollars.113
Is it too much for Mr. Birkenfeld to ask that the I.R.S. honor Section 7623 in this
case? After all, the information he disclosed could result in the return of hundreds of
billions of dollars to the Treasury. The Department of Justice seems to think so. In fact,
they have gone so far as to label him a mere tipster and not a whistleblower.114
It would be most unfortunate if the Department of Justice and I.R.S. deny Mr.
Birkenfeld what is rightfully his under the Code. First of all, while the Code provides for
a reduction in or a complete denial of the reward if the individual either planned and
initiated the actions which led to the underpayment of taxes or was convicted of criminal
conduct arising from the planning and initiation of the scheme to defraud the I.R.S.,115
110Id.111Id.
112 David D. Stewart,Attorney in UBS Scandal Sees Reward Claim as Test of U.S.Whistleblower Policy, TAXNOTES TODAY,Dec. 7. 2009 [hereinafterAttorney].
113Id.
114Billions,supra note 103. Such labeling is due to the fact that while he described the banks
dealings, he provided few details on actual clients . . . . Id.115 See I.R.C. 7623(b)(3).
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Mr. Birkenfeld is not seeking a reward for his actions relating to Mr. Olenicoff.116
Instead, he is seeking a reward for the billions of dollars returned to the U.S. as a result of
his dissemination of information relating to UBSs unscrupulous banking practices. In
addition, denying Mr. Birkenfeld a reward in this situation would effectively eliminate
render the whistleblower provisions potential to aid in the battle against offshore tax
evasion, as certain individuals would have little incentive to risk their careers,
relationships, and, in some cases, their safety, in order to assist the federal government in
its war on offshore tax haven abuse.
While the whistleblower provision has great potential to assist in the battle against
offshore tax havens, it is not without its warts. The following section proposes two
changes to the rule that would make it more palatable to society, as well as more enticing
to individual whistleblowers looking to come forward with helpful information.
C. CHANGES RECOMMENDED TO 7623As evidenced by the above case study, the 2006 amendments to Section 7623
were definitely a step in the right direction toward ending the abuse of offshore tax
havens by American citizens. In fact, the combination of the new whistleblower program
and Mr. Birkenfelds disclosure forever changed the entire game . . . on international tax
evasion.117 By providing a huge financial incentive to informants, Congress has
116 See Attorney, supra note 112 (suggesting that Mr. Birkenfeld is seeking potentialcompensation from the fine that UBS paid under its deferred prosecution agreement, collections
from the data turned over under that agreement and the subsequent John Doe summonssettlement, and collections from individuals who came forward under the IRS voluntarydisclosure initiative that brought in 14,700 individuals);see also Billions,supra note 103
(suggesting that Mr. Birkenfeld should not have his reward reduced because he is not seeking
money for actions surrounding his own clients).117 SeeInformants,supra note 104.
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increased the likelihood that individuals will put it all on the line and come forth with
information that only they have access to. As with every good statute, however, there is
room for improvement in the whistleblower program.
First of all, if Congress really wants to ensure that individual informants will
come forward with information, they need to amend Section 7623 to include an amnesty
provision.118 Most inside informants, like Birkenfeld, do not have entirely clean hands. In
fact, Dean Zerbe, who is special counsel to the National Whistleblowers Center,
suggested that when they were drafting the law they knew that they would not have Boy
Scouts coming forward, particularly in the tax area, because of the need to have people
that are on the inside that are going to be able to tell you what is going on.119 Zerbe
claims that there are people in Switzerland who want to blow the whistle on other banks
but are scared because of what they saw with Birkenfeld.120
If the United States does not
provide amnesty in some form, whether complete amnesty or a reduction in the
whistleblowers sentence, then it is likely that the whistleblower program will be as
ineffective as other past efforts to squash offshore tax evasion.
Secondly, in exchange for the addition of an amnesty provision in Section 7623,
Congress should lower the amount of the reward received by the whistleblowers. The
prospect of doling out billions of dollars to bad actors who essentially tattle on others
118 SeeNational Whistleblowers Center Letter Urges Review of Birkenfeld Case, TAXNOTES
TODAY,October 23, 2009 (arguing that a failure to review Mr. Birkenfelds sentence could havea chilling effect on other potential whistleblowers). This argument can be construed as an implicitargument for an amnesty provision in Section 7623 for whistleblowers with less-than-clean
hands.
119 Stewart,supra note 112.120Informants,supra note 104.
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leaves a rather bad taste in many taxpayers mouths.121 As such, lowering the potential
payout to somewhere in the range of 10-20% of the amount recovered including interest,
penalties, additions to tax, and additional amounts, might make the provision seem more
fair. Not only would the U.S. taxpayers save money by shortening, if not completely
eliminating, lengthy prison sentences, they would also save money by not funding overly
generous whistleblower rewards.
Although my proposal to decrease the reward might seem like a disincentive to
the would-be whistleblower, the fact of the matter is many individuals are currently not
coming forward because of the fear that they will be incarcerated for their past actions.122
While the monetary reward is being reduced under my proposal, individual
whistleblowers will not only be handsomely rewarded, they will gain peace of mind
knowing that their past behavior will not lead to a lengthy period of incarceration. If
Congress at least entertains these two recommendations in its next attempt to amend
Section 7623, the United States will likely see an increase in tax revenuerevenue
previously sheltered in offshore tax havens.
IV. CONCLUSION
121 For an example see Ventry,supra note 88, at 358. Senator Harry Reid referred to the
whistleblower program as Reward for Rats and informed Congress that the [I.R.S.] was
effectively paying snitches to act against associates, employers, relatives and otherswhethermotivated by greed or revengein order to collect taxes.Id. In addition, Reid insisted that the
program was unseemly, distasteful, and just wrong, as well as a powerful incentive to anyoneinterested in becoming rich at the expense of a neighbor, former business associate, former wife,[sic] former husband.Id. After an exhaustive search of the legislative history surrounding the
decision to set the range between 15 and 30 percent, I am unable to find a justification or
rationale for setting the range as such.122 See supra note 99 and accompanying text.
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Individuals and corporations alike abuse offshore tax havens, to the tune of $100
billion per year. In response to public outrage and the need for greater resources in the
federal fisc., many nations and international organizations have embarked on efforts to
stop such abuse in its tracks. Unfortunately, strong traditions of bank secrecy have
limited the amount of information that tax havens will release to foreign jurisdictions, and
have rendered most of the efforts only marginally effective. As a result, unless tax haven
jurisdictions suddenly decide to change how they deal with private banking information,
private action may become one of the sharpest, straightest arrows in the quiver used to
fight offshore tax haven abuse. This Notes proposed revamping of Section 7623 will
likely result in greater participation in the I.R.S.s whistleblower program, a warming of
public sentiment toward whistleblowers, and, with any luck, further progress in the battle
to stop offshore tax haven abuse.