JPMorgan Chase & Co. paid more than $300 million a year ago to resolve regulators’ claims that the bank had failed to tell wealthy clients it was steering them into its own funds. Now it may have unfinished business with the Internal Revenue Service.
The bank, in its settlement with securities and commodities regulators, admitted to the disclosure lapses, which it said were unintentional, and promised to be more transparent. A whistleblower now claims that JPMorgan’s misdeeds went beyond a failure to disclose. Because a portion of clients’ money was in tax-advantaged pension funds, the whistleblower says, the bank also ran afoul of IRS rules and shirked its fiduciary responsibility by favoring its own funds.
The whistleblower, an unidentified former JPMorgan employee who began working with the U.S. Securities and Exchange Commission early in its investigation, has filed a previously unreported claim to the IRS over the bank’s handling of retirement funds. The whistleblower’s lawyer, Dean Zerbe, says the bank may be on the hook for hundreds of millions of dollars in tax penalties.
Under the IRS whistleblower program, the claim filed by Zerbe’s client isn’t public. JPMorgan spokesman Darin Oduyoye noted that the bank hadn’t had the benefit of reviewing the filing. “Our management of retirement accounts is designed to comply with applicable rules and regulations, so these accounts may not engage in prohibited transactions,” he said, referring to IRS rules requiring that the benefits of a retirement account go to its owner.
Given Zerbe’s track record, JPMorgan might find the petition to the IRS difficult to dismiss as litigious opportunism. As a legal counsel for the U.S. Senate Finance Committee in 2006, Zerbe helped to draft provisions to the IRS whistleblower law that increased rewards for reporting violations. He was also the plaintiff’s lawyer in a 2012 case that helped the U.S. crack a decades-long veil of secrecy on Swiss banking that ultimately helped the IRS claw back billions of dollars in taxes.
There’s no indication whether the IRS, which must endorse the whistleblower’s claim for any legal action to move forward, will act. An agency spokesman, Bruce Friedland, declined to comment. It’s also unclear what the incoming Trump administration’s enforcement priorities will be or whether it will be as friendly to whistle-blower claims as the Obama administration has been.
Either way, the case illustrates the legal perils that asset managers face as their employees turn into whistleblowers. It also tests the IRS’s appetite for using the self-dealing provision, which until now has been used largely to punish retirement account abuses by individuals, against big banks.
“Congress gave the IRS a big stick to stop pension managers from carrying out prohibited transactions,” said William Sweetnam, a former Treasury tax official who is now legislative director for the Employers Council on Flexible Compensation, an employer-led nonprofit group that advocates for tax-advantaged employee benefits.
Zerbe claims that under IRS rules the underlying conflicts should subject the bank to substantial tax penalties because they involved pension funds. As with tax-exempt charities, the IRS imposes guidelines on how tax-advantaged pensions are handled and can impose significant penalties on managers who fail to comply.
“Many of the dollars in the JPMorgan case were retirement dollars,” Zerbe said. “Given the admissions they’ve made to the SEC, it should be a T-ball shot for the IRS.”
Roughly 5 percent to 10 percent of the $1.8 trillion managed by JPMorgan Asset Management, a subject of the regulatory settlement, involves tax-advantaged retirement plans, according to records filed with the Labor Department in 2015. Those include IRAs and private pensions governed by the Employee Retirement Security Income Act, known as ERISA. An unknown portion of that total was steered into JPMorgan funds.
Zerbe says his IRS claim against JPMorgan, which he initially filed in August and refiled this week with additional information, is bolstered by a 2012 warning issued by the Office of the Comptroller of the Currency, which specifically stated that the bank had managed its pensions in violation of ERISA.
The whistle-blower claim also points a finger at JPMorgan’s outside partners. It flags the SEC’s finding a year ago that virtually all of the outside funds that JPMorgan invested in had paid a large portion of their fees back to JPMorgan in an arrangement called a retrocession. It’s not known whether such payments were tied to retirement accounts.
The IRS’s Internal Revenue Manual, which guides its examiners, includes a provision that prohibits “kickbacks” between wealth advisors and the funds they invest in. It describes these kickbacks as “investing plan assets in a specified investment media in return for a sum of money or other consideration.”
Zerbe argues that the IRS should hold the outside funds liable for taxes on any retrocessions they paid to JPMorgan, for pensions or any other clients, and then claimed as legitimate business expenses on their tax returns.
The SEC found that all but one of the outside funds paid retrocessions to JPMorgan, averaging about half of the 2 percent fee charged by the funds.
There’s a high bar to make such a claim against outside managers, however. The IRS code states that for an asset manager to be subjected to IRS sanctions, its retrocession payments must have resulted in federal or state criminal penalties, the loss of professional licenses or the privilege to engage in a trade.
Zerbe’s client stands to collect 10 percent to 30 percent of any penalties levied in the IRS complaint, and Zerbe would get a cut of that amount. It wouldn’t be the first time that one of Zerbe’s clients received such a payment. In the 2012 Swiss banking case litigated by Zerbe, Bradley Birkenfeld, a former UBS Group AG wealth manager, was cited for a record reward: $104 million.
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