Eight former partners of KPMG, the accounting firm under investigation for its role in creating and selling questionable tax shelters, were named by federal prosecutors in an indictment unsealed yesterday in federal court in Manhattan.
The indictment is the long-anticipated next step in prosecutors' broadening investigation into shelters that from 1996 through 2002 helped wealthy investors evade billions of dollars in taxes. It is also strong evidence that the government is prepared to pursue the accountants, financial advisers, lawyers and bankers who had a hand in the transactions.
The indictment refers to unnamed foreign banks and other entities, which suggests that the government may file other criminal charges at some later date. While the banks are not identified, a 2003 report by a Senate subcommittee said that Deutsche Bank, UBS of Switzerland and HVB of Germany among others had roles in the questionable KPMG shelters. And this month, a former executive in the New York office of HVB pleaded guilty to conspiracy to commit tax fraud and is presumably assisting prosecutors in their investigation.
The indictment, which names an outside lawyer along with the former partners, accuses the nine of conspiring to defraud the government by concocting "tax-shelter transactions and false and fraudulent factual scenarios to support them"; by preparing "false and fraudulent documents to deceive" the Internal Revenue Service; by preparing "false and fraudulent" tax returns that included the false tax losses; and taking steps to conceal the shelters from the I.R.S.
The former KPMG partners named in the indictment are Jeffrey Stein, John Lanning, Richard Smith, Jeffrey Eischeid, Philip Wiesner, John Larson, Robert Pfaff and Mark Watson. The lawyer is Raymond J. Ruble, a former partner at Sidley Austin Brown & Wood. The arraignment of the nine men is scheduled for Sept. 6 before Judge Lewis Kaplan of the United States District Court in Manhattan.
Nearly all the defendants' lawyers who could be reached for comment yesterday said their clients intended to fight the charges vigorously; some had not had a chance to read the indictment yesterday afternoon and could not comment.
A spokesman for HVB and a spokeswoman for Deutsche Bank declined to comment on the investigation; a spokesman for UBS told Bloomberg News over the weekend that the bank was not under investigation in connection with the tax shelters.
The indictment was unsealed as a federal judge approved a $456 million settlement between KPMG and the Justice Department that allows the firm to avoid a criminal indictment, which would have been a near-certain death knell for the firm. As part of a deferred-prosecution agreement that remains in effect until Dec. 31, 2006, the firm admitted wrongdoing, accepted an outside monitor, and pledged to limit severely its tax practice.
"The message we want to send is that if you engage in fraud, if you participate in providing false statements, you're going to be prosecuted," Alberto R. Gonzales, the attorney general, said at a news conference held in Washington to announce the agreement yesterday. "We want to be very, very clear: there is no company that is too big or too important an industry that will escape prosecution if they in fact engage in wrongdoing."
The agreement allows KPMG to begin to put the criminal investigation, which has been under way for more than a year and a half, behind the firm, said Timothy P. Flynn, KPMG's chairman and chief executive.
"We regret the past tax practices that were the subject of the investigation," Mr. Flynn said in a statement. "The resolution of this matter allows KPMG to confidently face the future as we provide high-quality audit, tax and advisory services to our large multinational, middle market and government clients."
But for individual former partners, the ordeal begins now in earnest - and under the terms of the agreement with prosecutors, the firm is allied against them. What strategy the partners may pursue - and to what extent they will coordinate their defense - is not clear.
According to the indictment, one defendant, Mr. Eischeid, gave "false, misleading and evasive" testimony to the I.R.S. in 2002 about certain tax shelters. The indictment cited an e-mail message from one KPMG partner who wrote that the firm's general counsel and outside lawyer "determined that the best strategy was 'the less said the better.' " As a result, the e-mail message continued, "the record will reflect repeated 'I don't knows,' 'I don't recalls,' and 'I was out of the loops' - the rope-a-dope/Enron defense."
As part of its agreement with the government, KPMG issued a strongly worded acknowledgment of wrongdoing, which can be used by prosecutors in their criminal case against the individual partners, as well as against the firm in the event it violates the terms of the deferred- prosecution agreement. Lawyers for the former partners criticized the firm's statement as meaningless.
"The government held a gun to KPMG's head and said, 'Say what we want or we will put you out of business,' " said Robert H. Hotz Jr., a lawyer at Akin Gump Strauss Hauer & Feld who is representing Mr. Lanning. "KPMG's statements in court were the product of extreme duress and are not worth the paper they are printed on."
In the statement of facts, KPMG acknowledges that the firm's partners "assisted high-net-worth United States citizens to evade United States individual income taxes on billions of dollars in capital gain and ordinary income by developing, promoting and implementing unregistered and fraudulent tax shelters."
The firm goes on to say that partners prepared false representations for purchasers of the shelters, then based opinion letters approving the transactions on those representations. Some opinion letters also were fraudulent in that they misrepresented the nature of the shelter transactions, according to the statement.
The admissions will bolster the prosecutors' case, which charges that the shelters were improper from the beginning because they were based on falsehoods.
As Mark W. Everson, the commissioner of the I.R.S., said in Washington, "The only purpose of these abusive deals was to further enrich the already wealthy and to line the pockets of KPMG partners."
So far, no court has ruled that the shelter transactions themselves were improper - a fact that lawyers for the accused former KPMG partners were quick to emphasize.
"The government is attempting to criminalize the type of tax planning that tax professionals engage in on a daily basis," Robert S. Fink, a lawyer at Kostelanetz & Fink who is representing Mr. Smith, one of the former KPMG partners, said in a statement. He added, "If the government wants to put an end to these types of transactions, the proper response is for Congress to change the law, not to scare professionals away with indictments."
Perhaps aware of the potential negative effect that news of the indictments could have on the accounting firm's business, prosecutors and regulators offered words of support in statements they released yesterday. The Public Company Accounting Oversight Board "remains confident in KPMG's ability to perform high-quality audits of public companies," the agency said in a statement.
In a separate statement, Donald T. Nicolaisen, the chief accountant at the Securities and Exchange Commission, said the firm's deferred- prosecution agreement with prosecutors "addresses tax-shelter activities outside KPMG's audit practice and does not require or call for commission action."
And the Justice Department noted that KPMG was its auditor - a relationship that, in spite of all the criticism leveled by prosecutors at the firm, the government said would not change.
Correction: A picture caption in Business Day yesterday with an article about the indictment of eight former KPMG partners in a tax shelter case misstated the role of Carl Rauh in some copies. He is a defense lawyer for KPMG, not a prosecutor.