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United States v. Kpmg LLP
Citations: 316 F. Supp. 2d 30; 93 A.F.T.R.2d (RIA) 2106; 2004 U.S. Dist. LEXIS 8106; 2004 WL 964953Docket: MISC.NO.02-0295(TFH)
Court: District Court, District of Columbia; May 4, 2004; Federal District Court
The United States filed a Petition to Enforce Internal Revenue Service (IRS) Summonses against KPMG LLP as part of an IRS examination concerning KPMG's involvement in transactions characterized as tax shelters. The petition, submitted on July 9, 2002, seeks enforcement of nine summonses issued to KPMG between January and May 2002. The summonses targeted various transactions, including the Foreign Leveraged Investment Program (FLIP) and the Offshore Portfolio Investment Strategy (OPIS), along with six additional summonses for other transactions. Despite KPMG's initial compliance, including the provision of numerous records and testimony related to the FLIP/OPIS summons, the IRS contended that KPMG did not fully comply with the summonses. KPMG withheld certain documents, claiming they were privileged, and provided a privilege log detailing the withheld documents. The IRS disputed the validity of these privilege claims, asserting that the documents were not actually privileged. KPMG subsequently sought a Protective Order to relieve the burden of creating a comprehensive privilege log for the other withheld materials. The court referred this motion to Magistrate Judge Kay for further resolution. Ultimately, the court granted the United States' petition for enforcement and related relief. Magistrate Judge Kay denied KPMG's motion to prepare a categorical privilege log, citing the significant burden of creating a document-by-document privilege log, which would contain over 8,500 entries. While acknowledging the burden, the Court emphasized that a categorical log would not provide the necessary detail for evaluating KPMG's claims of privilege. The Court pointed out that the essential function of a privilege log is to allow the opposing party and the court to assess privilege claims, which KPMG's proposed log would fail to do. Consequently, the Court ordered KPMG to submit specific documents from the FLIP/OPIS privilege log for in camera review by Chief Judge Hogan to determine the adequacy of the privilege claims. Following the in camera review, the Court found that only 13.3% of the sampled privilege log entries were fully supportable. The case was then referred to retired Magistrate Judge Patrick J. Attridge as a Special Master for further evaluation, leading to initial and final Reports and Recommendations filed in early 2003. The Petition was put on hold while the Court considered these reports and any objections filed. A hearing was held by the Court on April 1, 2004, to review a report and receive updates from the parties involved. During the hearing, it was revealed that KPMG's board had waived its attorney-client and work product privileges. The primary issues for the Court to resolve included whether KPMG must disclose the identity of a client linked to a "CLAS" tax shelter and matters related to the 26 U.S.C. 7525 Confidentiality Privilege. The Respondent's counsel concurred with these issues but highlighted additional pending attorney-client matters. The Court outlined its legal standards, stating that it must review de novo any objections to a master's conclusions of law and findings of fact, as per Federal Rules of Civil Procedure. The Court reiterated previous discussions regarding attorney-client privilege and the attorney work product doctrine, while emphasizing the developments in case law regarding 26 U.S.C. 7525, which provides limited confidentiality for communications between taxpayers and tax practitioners. This privilege mirrors attorney-client privilege but does not extend to work product or communications related solely to tax return preparation. The Court referenced relevant case law, particularly United States v. BDO Seidman, which affirmed that clients involved in potentially abusive tax shelters must disclose their identities under federal tax law. It noted that Congress mandates the maintenance of a list of individuals involved in tax shelters, which undermines the expectation of confidentiality necessary for both attorney-client and 7525 privileges. The Does were aware that BDO was required to disclose the identities of clients involved in tax shelter transactions, undermining any claim to confidentiality regarding documents responsive to summonses that lacked tax advice. In *John Doe 1 v. Wachovia Corp.*, the court ruled that investor lists held by a bank concerning clients involved in potentially abusive tax shelters were not protected by attorney-client privilege, as no attorney-client relationship existed between the clients and the law firm providing tax advice. The law firm merely provided a transaction description and potential tax consequences, which did not constitute privileged communications. Furthermore, the court stated that if legal opinions are shared with third parties, they lose their privileged status. In *John Doe No. 1 and John Doe No. 2 v. KPMG LLP*, the court rejected taxpayer plaintiffs' argument to prevent KPMG from disclosing their identities to the IRS, asserting that such disclosure only indicated participation in tax shelters, not confidential communications. The court highlighted that taxpayers seeking tax advice inherently aim to minimize taxes or ensure compliance, which does not warrant confidentiality. The plaintiffs had no reasonable expectation of confidentiality due to I.R.C. §§ 6111 and 6112, which mandate tax shelter registration and investor lists, indicating that participation in tax shelters is not confidential. KPMG disclosed the identity of a client involved in the CLAS tax shelter to the IRS on April 14, 2004, resolving a specific dispute. However, the broader issue of whether KPMG must identify all participants in tax shelters remains before the Court. Citing precedents, the Court mandates that KPMG disclose the identities of clients involved in potentially abusive tax shelters within ten days of the Memorandum Opinion and Order. Additionally, if the assessment period for taxes against these participants would expire within sixty days of the order, that period is tolled for sixty days post-order. Regarding KPMG's claims of privilege under 26 U.S.C. § 7525 and attorney-client privilege, the Court conducts a de novo review of the Special Master's findings. The Court finds that KPMG has misrepresented its role concerning tax shelters, suggesting it only provides individual tax advice, while evidence indicates efforts to conceal its tax shelter activities. This has raised doubts about the validity of KPMG's privilege claims, highlighted by an IRS agent's declaration detailing KPMG's initial responses to inquiries about its involvement in the Short Option Strategy tax shelter. The Court concludes that KPMG's actions since the IRS investigation began were designed to obscure its tax shelter operations. On August 27, 2003, KPMG provided the IRS with 17 boxes of documents, revealing its involvement in the SOS tax shelter. The petitioner did not pursue enforcement of an earlier summons because KPMG had claimed full compliance in 2002. On September 9, 2003, Revenue Agent Halpert learned from Stephen Gardner that KPMG had compiled a list of SOS tax shelter participants but delayed its release to allow participants to seek legal relief against disclosing their identities. KPMG eventually submitted the customer list to the IRS on September 17, 2003. The petitioner argues that the timing of this disclosure is critical, as the IRS's three-year statute of limitations for disallowing tax benefits may have expired by that time. The Court expressed concern over evidence obtained by the Special Master indicating that KPMG may have improperly withheld documents by mischaracterizing them to assert dubious privilege claims. For instance, Document 1069, claimed to be a privileged communication, was found by the Special Master to lack any discussion of tax advice, instead relating to a marketing service. Consequently, it was recommended that this document be disclosed to the IRS. Similarly, Document 1001, which KPMG claimed was protected under multiple privileges, was determined not to contain privileged information, as the referenced lawyer did not have a true attorney-client relationship with KPMG, and the content did not provide any legal advice. Thus, it was also recommended that this document be produced to the IRS. Evidence indicates that Brown, Wood was not providing genuine legal advice but was instead involved in a partnership with KPMG to promote tax shelter strategies. A 1997 email from KPMG's Gregg Ritchie to Randall A. Hamilton clarifies that if KPMG is deemed a tax shelter promoter, clients cannot rely solely on Brown, Wood’s opinion for protection against I.R.C. 6662 penalties. Furthermore, KPMG's arrangement with Brown, Wood included fees for legal opinions used in marketing strategies. Subsequent communications in 2000 and 2001 reveal that a client did not engage Brown, Wood for legal opinions, and internal discussions among KPMG employees questioned the validity and utility of such opinions in protecting clients from IRS penalties. The court had previously found that attorney-client privilege might apply to certain documents, but with new evidence, including the Ritchie-Hamilton email and findings from the Special Master, it became apparent that KPMG was misrepresenting the nature of its relationships with Brown, Wood as legal rather than business or marketing collaborations. The court's review of Brown, Wood’s opinion letters, now informed by this additional evidence, shows these letters to be largely identical templates, undermining their legitimacy as individualized legal advice. The Court found that the opinion letters from KPMG lack independent legal analysis and appear to serve as marketing tools. It has not ruled definitively on the privilege status of letters from the Brown, Wood law firm, shifting the burden to KPMG to demonstrate their privilege claims. KPMG has two options: submit a detailed privilege log within ten days for the Court’s in-camera review, or concede the issue and produce the letters to the IRS. The Court has also reviewed documents deemed protected by attorney work product privilege. KPMG's board has waived attorney-client and work product privileges for documents related to IRS investigations on tax shelters, necessitating their production. Specific documents related to KPMG's marketing arrangements with Brown, Wood do not indicate anticipation of litigation, as the relevant parties did not consider themselves clients and had not contracted with the firm. Consequently, these documents must also be produced to the IRS, and the 7525 privilege does not apply. 141 documents discussed by the Petitioner are claimed to have been incorrectly deemed privileged by the Special Master concerning legal or tax advice. For a discussion to be privileged, it must be based on confidential information from the client to the lawyer or tax practitioner. The legal precedent set in *United States v. KPMG* indicates that discussions lacking a basis in confidential client communication are not protected, and thus these documents should be released to the IRS. Additionally, the Petitioner challenges 28 documents recommended for withholding, asserting they either support tax return claims or were disclosed to non-privileged individuals. An example includes Document 358, which, despite being a letter from a client to a lawyer, was also sent to a KPMG employee with no established privilege. Consequently, the attorney-client privilege is not applicable to this document. The Court concludes that the remaining 27 documents are also not privileged as they relate to tax return preparations, which do not fall under attorney-client protections. Furthermore, the 7525 privilege does not cover documents related to KPMG's tax shelter activities. Lastly, several documents listed in KPMG's privilege log were not addressed by the Special Master, including some privilege claims KPMG has since abandoned, and others previously rejected by the Court. Notably, Document 193, a legal opinion regarding tax advice, is claimed to be protected by multiple privileges, including attorney-client and 7525 privileges. The Court reviewed Document 193, which is a legal opinion letter supporting KPMG's tax products, noting it is similar to a questionable opinion letter previously discussed. Document 752, listed in the privilege log as a "memorandum of oral advice" regarding tax advice from meetings with KPMG and clients, is claimed by KPMG to be protected under attorney-client privilege, attorney work product privilege, and 7525 privilege. However, the Court determined that Document 752 pertains to discussions about potentially abusive tax shelters, amending returns, possible audits, and their consequences, leading to the conclusion that it must be disclosed as it falls under federal tax law obligations. Document 1136 was also analyzed, with the Court previously indicating that attorney-client privilege might apply due to legal discussions with a KPMG attorney. However, the Court now finds that the privilege does not apply because there is insufficient evidence regarding Jim Carney's status in relation to the attorney-client privilege, and KPMG's privilege log does not clarify his involvement. Thus, for reasons similar to those applied to Document 358, Document 1136 is not privileged. Additionally, KPMG did not produce Documents 11, 305, and 328, resulting in a waiver of privilege claims for those documents due to non-compliance with a prior Court order. KPMG later submitted a supplemental privilege log identifying 21 additional documents as privileged, nearly a month after the Special Master's final report. The Court has not reviewed this log but instructs KPMG to reassess these documents in light of the current Memorandum Opinion's findings. KPMG is required to complete a review of twenty-one documents within ten days of the Memorandum Opinion date. If KPMG maintains that any documents are privileged, they must submit these along with a privilege log to the Court for in camera review. The Court has expressed significant doubts about KPMG's privilege claims, highlighting inaccuracies and misleading aspects in its privilege log. Specifically, claims of privilege under 26 U.S.C. 7525 are deemed unsupportable for the documents presented. KPMG must produce all documents related to the OPIS and FLIP transactions, except for opinion letters from the Brown & Wood law firm. The Court grants the United States' petition to compel KPMG to comply with nine IRS summonses issued between January 28, 2002, and May 3, 2002. KPMG must identify previously withheld tax shelter participants to the IRS within ten days and produce all withheld documents related to the summonses. If the statutory period for assessing additional taxes against these participants is about to expire, it is tolled for sixty days following this Order. KPMG's waiver of all asserted privileges for these documents is acknowledged, and specific categories of documents must be produced, including those related to tax returns and communications with third parties outside privileged contexts. KPMG has two options regarding the opinion letters from the Brown. Wood law firm. First, KPMG may submit a detailed privilege log within ten days, justifying why each letter should not be produced to the IRS. The Court will then review the letters in camera and decide whether a public evidentiary hearing is necessary, ultimately determining if the letters must be disclosed. Second, KPMG can opt to concede this matter by filing a notice within the same ten-day period and produce the opinion letters to the IRS immediately. Additionally, KPMG is required to produce or certify the production of all documents responsive to eight summonses (excluding the FLIP/OPIS summons) within ten days, except for those withheld due to privilege claims. Within thirty days, KPMG and U.S. counsel must confer about any withheld documents related to the eight summonses and submit a written status report to the Court detailing those documents and any outstanding issues. The document also references Section 7525, which establishes confidentiality privileges for taxpayer communications with federally authorized practitioners, stipulating that such privileges apply to noncriminal tax matters but exclude communications regarding corporate tax shelters. The section defines terms related to federally authorized practitioners and tax advice. 26 U.S.C. 6662(d)(2)(C)(iii) defines "tax shelter" as any partnership, entity, or arrangement with a significant purpose of avoiding or evading Federal income tax. 26 U.S.C. 7402(a) grants district courts the authority to issue orders and judgments necessary to enforce internal revenue laws, providing additional remedies beyond existing ones. 26 U.S.C. 6503(a)(1) outlines that the period for making assessments or collections regarding tax deficiencies is suspended after a notice is mailed and during any Tax Court proceedings related to that deficiency. Mr. Gardner, previously co-counsel for KPMG, is associated with the law firm Kronish Lieb Weiner Hellman LLP. Following a merger in May 2001, the law firms of Sidley and Brown Wood became Sidley Austin Brown Wood. Should the court determine that certain letters from Brown Wood are not privileged, it will amend its prior ruling recognizing potential attorney-client privilege for several related documents. The Special Master, adhering to the court's earlier ruling, recommended withholding numerous documents, but these will need to be produced if the court finds the letters are not privileged. Additionally, KPMG's board has waived the attorney work product privilege for Document 867. The court expresses concern over the judicial resources wasted due to improper privilege claims. Paragraph 5.C. does not apply to twenty-one documents from KPMG's privilege log that may still be claimed as privileged.