Andres Knobel ■ US appeals court confirms firm must disclose to IRS names of clients behind offshore bank accounts and foreign entities

Close up of a gavel

On 24 April 2020 the US Court of Appeals for the fifth circuit ruled that a US law firm must disclose to the US tax authority (the Internal Revenue Service) the names of requested clients in connection to an investigation. Specifically, the Internal Revenue Service (IRS) had asked for documents identifying any US clients at whose request or on whose behalf the law firm had acquired or formed any foreign entity, opened or maintained any foreign financial account, or assisted in the conduct of any foreign financial transaction, including records or other data relating to setting up offshore financial accounts and the acquisition, establishment or maintenance of offshore entities or structures of entities.

The issue at stake was whether attorney-client privilege would allow the law firm to reject the summon. It didn’t.

The law firm, however, wasn’t picked at random. The ruling describes that the investigation arose because during the audit of a US taxpayer, it was revealed that the taxpayer hired the law firm for tax planning. This was accomplished by establishing foreign accounts and entities, and executing subsequent transactions relating to said foreign accounts and entities. Specifically, from 1995 to 2009, the taxpayer engaged the law firm to form eight offshore entities in the Isle of Man and in the British Virgin Islands and established at least five offshore accounts, so the taxpayer could assign income to them and, thus, avoid US income tax on the earnings.

The case is interesting, but it reflects that enablers’ secrecy tools won’t be easy to dismantle. This ruling doesn’t suggest at all that the IRS can send fishing expeditions to any law firm to find tax abusers. Instead, it appears that the fact that there was a possibility – but not certainty – that these (unknown) US clients had violated tax regulations is what allowed the IRS to overcome attorney-client privilege.

Lawsuits require judges to interpret and apply the law to one particular case. But we should take a step back and ask ourselves whether the law itself makes sense, or if it needs to be reconsidered.

As we have recently written in an earlier blog on this case, attorney-client privilege is just the tip of the iceberg in facilitating illicit financial flows. Attorney-client privilege is abused not just for tax abuse purposes, but for money laundering as well, as warned by the Financial Action Task Force.

To sum up, this ruling is a step forward in the right direction. It goes along other transparency initiatives addressing enablers’ secrecy such as the obligation to disclose aggressive tax planning arrangements and other schemes used to circumvent automatic exchange of information or to hide the beneficial owner behind opaque structures. However, there is still much further to go.

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