On November 5 the International Consortium of Investigative Journalists (ICIJ) revealed that more than 300 multinational companies “appear to have channeled hundreds of billions of dollars through Luxembourg and saved billions of dollars in taxes.” ICIJ and a team of more than 80 journalists from 26 countries draw this conclusion from their review, supported by additional research with expert sources, of nearly 28,000 pages of confidential documents filed with Luxembourg’s tax authority.
The documents cover deals negotiated by PricewaterhouseCoopers (PwC), one of the world’s largest public accounting firms, on behalf of its clients, including audit clients. The leaked documents include 548 “comfort letters” solicited by PwC for its clients from the Luxembourg tax authority from 2002 to 2010. PwC tax advisers sold schemes to company CFOs and CEOs designed to shift profits from one country to another through Luxembourg to reduce or eliminate taxable income and then asked Luxembourg to bless them.
One of the multinationals PwC sold tax avoidance schemes to is AIG, an audit client of the firm since 1980. AIG was one of the most infamous near-failures bailed out by US taxpayers during the 2007–2010 financial crisis. The cash injections began in September 2008, $85 billion in the first shot, one day after the failure of Lehman Brothers. But that wasn’t nearly enough to turn the teetering troll of a company around. The US Treasury injected cash over and over in 2008 and 2009 until the total bill to taxpayers was more than $182 billion. The US government deemed an AIG bankruptcy such a huge systemic risk to the global markets that the firm was essentially nationalized via the bailout — a lifeline that eventually gave the US government 92% ownership of AIG.
While the US government and its taxpayers owned almost all of AIG, the company worked with PwC, its auditor, under the un-watchfull eyes of US Treasury officials, setting up investment companies for itself and investors using Luxembourg to minimize its corporate income tax payments to the US Treasury and other governments around the world.
The Sarbanes-Oxley Act of 2002 prohibits auditors to represent “an audit client before a tax court, district court, or federal court of claims. In addition, audit committees also should scrutinize carefully the retention of an accountant in a transaction initially recommended by the accountant, the sole business purpose of which may be tax avoidance and the tax treatment of which may be not supported in the Internal Revenue Code and related regulations.”
In 2009 PwC Luxembourg sought rulings from the Luxembourg tax authority for the Langres Investment Limited / AIG Global Real Estate Investment (Joint Venture), an investment vehicle formed by AIG for the acquisition and development of real estate investment in Cyprus and Latvia. In 2009 and 2010 PwC Luxembourg sought rulings from the Luxembourg tax authority for the AIG Global Real Estate Investment Corporation, an investment vehicle that made real estate acquisitions with various legal structures in Japan, Germany, Finland, Latvia, and the United Kingdom. In April 2010 PwC Luxembourg sought a ruling from the Luxembourg tax authority for AIG/Lincoln Western Europe (Luxembourg) S.a r.I (“Luxco”), an investment vehicle formed by AIG for the acquisition and development of various real estate sites all over Europe.
In 2007, the AIG Audit Committee had spent a significant amount of time engaged in a Request for Proposal to potentially choose a new auditor for AIG. This mandate was the result of its 2006 settlement with the New York State’s Attorney General for an earlier material misstatement and fraud — I call it Crisis One — that resulted in the ouster of its chairman Hank Greenberg. Former SEC Chairman now Bloomberg commentator and board member Arthur Levitt acted as a consultant to advise the AIG Audit Committee on the selection of the new auditor but, after reviewing the proposals submitted by incumbent PwC and competing firms, Levitt and the board chose PwC to be reappointed as AIG’s independent auditor for 2008. The firm hasn’t budged since.
During 2007–2008, PwC was also in the middle of a conflict between AIG and Goldman Sachs — while both companies were its audit clients — over the valuation and collateralization of the same CDOs on both sets of books. PwC allowed the same securities to be valued quite differently on the balance sheets of AIG and Goldman Sachs. This long-running dispute was what eventually drove the liquidity crisis at AIG resulting in Crisis Two, otherwise known as the bailout.
In 2006 and 2007, during the lead up to the Luxembourg tax ruling requests, AIG paid PwC $11.6 million and $10.6 million, respectively, for tax services only. That amount, characterized in the proxies benignly as “tax return preparation and consultation on tax matters (including tax return preparation and consultation on tax matters for expatriate employees), tax advice relating to transactions and other tax planning and advice” was more than 10% in each year of the audit and audit-related fees charged by PwC ($104.8 million and $91.9 million).
The tax spend trend continued throughout the period of AIG’s ownership by the US government, right under the eyes of the US Treasury. In 2008 and 2009, audit fees for PwC increased considerably given AIG’s serious issues. Audit and audit-related fees were $115, $181.4, and $156.1 million in 2008, 2009 and 2010 respectively. Fees paid to PwC for tax services continued at a healthy clip, with the firm collecting $11 million in 2008, $5.1 million in 2009 and $5.6 million more in 2010 for the implementation of the tax avoidance scheme the firm had designed, including soliciting the Luxembourg tax rulings.
How does the development, design, target marketing and sales close process work? PwC NY or London identifies an existing client or target client where the need for the euphemistic “tax efficiency” is identified. Tax experts within the firm look at where the substance of the revenue, cost and profit transactions are taking place and then arbitrage the definitions of taxable income found in the relevant tax treaties of the countries in question. Existing clients in the PwC Luxembourg case included more than 100 audit clients of the firm ‑like AIG — who were marketed to and then sold on Luxembourg-centered schemes. If new legal entities need to be established, PwC helps with that, too.
Confidential documents obtained through ICIJ’s “Offshore Leaks” investigation show that Big 4 firms had a close relationship with Portcullis TrustNet, a Singapore-based offshore services firm that sets up hard-to-trace offshore companies for clients around the world. PwC, for example, helped incorporate more than 400 offshore entities through TrustNet for clients from mainland China, Hong Kong and Taiwan, the records show.
The AIG Luxembourg tax ruling documents are likely only a few of the many — several three-ring binders full — required to fully describe the overall tax avoidance strategies and the level of involvement of PwC US and PwC UK professionals. The strategy template or “cookbook” for the Luxembourg-centered tax avoidance schemes sits on a shelf, and in digital form for ease of sharing, in London and New York since that’s where the transactions were likely initiated. PwC Luxembourg was simply the center of one solution to the common problem of modern multinationals — how to redirect and leave earnings in lower-tax jurisdictions.
The “cookbook” is available inside PwC to its tax professionals all over the world. Variations develop as the strategy is customized for specific clients but the master plans — how to use Luxembourg or Ireland or any of the other low-tax jurisdictions — form the basis of the schemes.
The US government really needed PwC on the job throughout the crisis. PwC knows where “all the bodies” are buried. PwC keeps secrets learned from auditing AIG, Goldman Sachs, JPMorgan (another audit client) and other client banks from the pre-crisis, crisis, and post-crisis period. (PwC remains the auditor for AIG, Goldman Sachs and JP Morgan as well as Bank of America and Barclays, for example.)
The US government didn’t take advantage of the financial crisis and its enormous conflicts to rotate auditors at any of the bailed-out companies it nationalized. All of the companies the US government controlled for a time — GM (Deloitte), Citi (KPMG), Freddie Mac (PwC) and Fannie Mae (Deloitte) — use the same auditors that missed the issues that led to the crisis and the same ones that neglected to provide a “going concern” warning to investors or taxpayers before failure was imminent.
The US Treasury and the Fed looked the other way when AIG hired PwC to implement tax avoidance strategies. PwC had the unmitigated by government oversight nerve to sell tax avoidance schemes to its beleaguered, teetering on bankruptcy client AIG that took even more money out of US Treasury coffers.
Do you still believe the claims of former Treasury Secretary Tim Geithner and his journalist supporters that the AIG deal made a “profit” for taxpayers?
The Fed and the Treasury put AIG on a lifeline, squeezing still-significant shareholder Hank Greenberg in the process. PwC client Goldman Sachs survived and thrived. PwC, for a huge price paid by investors and taxpayers, still keeps everyone’s secrets.