IRS Whistleblower Program: Hedge Funds and Private Equity Firms Under Increasing IRS Scrutiny for Tax Abuses

Continuing this whistleblower lawyer blog’s discussions of the IRS’s strong interest in hedge funds and private equity firms, there have been several recent public statements and reports about IRS efforts to identify and stop tax fraud and tax noncompliance in these segments of the financial services industry.

Today, suspected tax abuses by hedge funds and private equity managers were the subject of a Tax Notes report, which cites a November 1, 2007 statement by the IRS. That same day, Bloomberg reported that IRS officials have identified seven areas of “interest” to examine for tax violations and abuses:

(1) failing to file or improper filing of tax returns and information returns;

(2) circumventing withholding requirements on cross-border loans;

(3) managers’ failing to pay tax on all income they receive;

(4) improperly classifying ordinary income as capital gains;

(5) circumventing tax laws by funds flowing between onshore and offshore entities;

(6) the timing and allocation of incentive payments and other income; and

(7) using improper accounting methods to minimize income.

On the same day, the House Ways and Means Committee voted to approve legislation to treat (and tax) payments to private equity firm partners who perform investment services as ordinary income, rather than as capital gains; and also to tax nonqualified deferred compensation paid by offshore hedge funds to investment managers. The debate continues in Congress about these issues.

With those many honest persons at hedge fund and private equity firms apparently being asked to “look the other way” in the face of such abuses–and perhaps risk exposing themselves to criminal or civil liability by appearing to “go along” with the wrongful acts–the number of “whistleblowers” who take advantage of the confidential procedures of the new IRS Whistleblower Program is increasing.

The new IRS Whistleblower Program will help identify and discourage these abuses, as hedge funds and private equity firms remain a great priority for the IRS. As IRS official Stuart Mann of the IRS Financial Services group emphasized to me when I saw him recently, “Bring your hedge fund whistleblower clients directly to me.” These whistleblowers perform an essential public service.

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