Senate Investigation Finds Wall Street Banks Helped Foreigners Avoid Billions in Taxes

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Big Wall Street investment banks have designed and marketed schemes enabling non-U.S. taxpayers, including offshore hedge funds, to evade millions of dollars in taxes each year on U.S. stock dividends, Senate investigators have found.

Some banks have been crafting for more than 10 years transactions designed to enable their foreign clients to dodge U.S. taxes on dividends, while the Internal Revenue Service failed to act to prevent the abuse, two senators say.

A yearlong investigation by a Senate Homeland Security and Governmental Affairs subcommittee, whose results are to be made public Thursday, found that the evasion of dividend taxes adds up to billions of dollars in revenue lost to the U.S. Treasury over the past decade.

IRS Commissioner Douglas Shulman is scheduled to testify on the issue at a hearing Thursday by the investigative subcommittee. Executives of Lehman Brothers Holdings Inc., Morgan Stanley and Deutsche Bank, and from several hedge funds also are expected to appear as witnesses.

The inquiry is part of a series of hearings by the Senate panel on offshore tax abuse, which is estimated to cost the United States $100 billion a year in lost tax revenue.

In July, the subcommittee accused banks in Switzerland and Liechtenstein of helping wealthy Americans commit large-scale tax evasion, and called for tougher laws to combat offshore tax havens around the world.

"Major financial institutions have devised complex financial structures to enable their offshore clients to dodge U.S. dividend taxes," Sen. Carl Levin, D-Mich., the subcommittee's chairman, said in a statement Wednesday. "We need legislation to take these abusive tax-avoidance gimmicks off the market, and we need to end the silence and inaction of the Treasury (Department) and IRS in the face of rampant dividend tax dodging."

The panel's senior Republican, Sen. Norm Coleman of Minnesota, said it was "especially troubling that the IRS has failed to address many of these problems for so long."

Offshore hedge funds have frequently participated in the tax-evasion transactions, and their U.S. investment mangers often facilitate their participation, the Senate panel found.

The banks designed and marketed transactions, mainly involving stock swaps or loans, that were described as offering dividend or yield "enhancement" or "dividend uplift," according to the investigators.

They developed case histories involving six major investment banks: Citigroup Inc., Deutsche Bank, Lehman Brothers, Merrill Lynch & Co. Inc., Morgan Stanley and UBS.

Foreigners who invest in the United States are exempt from many U.S. taxes. If they invest in a U.S. company that pays a dividend to shareholders, however, U.S. law requires foreign investors to pay taxes on the dividends they receive. Dividends sent abroad are meant to be taxed at a 30 percent rate in most countries and at 15 percent in countries that have a tax treaty with the United States.

Actually, the investigators say, many foreign shareholders never pay the dividend taxes they owe, in part because banks are helping them escape paying them.

"We believe we acted in good faith when we advised our clients and believe we acted appropriately under existing tax law," Merrill Lynch spokesman William Halldin said in an e-mailed statement Wednesday.

Spokesmen for Citigroup, Deutsche Bank, Lehman, Morgan Stanley and UBS couldn't be reached for comment Wednesday night.