In a move that promises to have far-reaching consequences for global operations and international tax compliance, the Supreme Court has ruled that defendants who evaded Canadian taxes could be prosecuted in the U.S. under federal wire fraud laws.
The decision in Pasquantino v. U.S. involved three U.S. citizens who were convicted of wire fraud in connection with an alleged scheme to transport goods from the U.S. into Canada without paying Canadian taxes, including Canadian federal excise tax, general sales tax and provincial sales taxes. They were sentenced to up to 57 months in prison, and their sentences were calculated based, in part, on the alleged loss of tax revenue to Canada.
The government charged that the defendants, Carl and David Pasquantino, of Niagara Falls, N.Y., ordered liquor over the telephone from discount package stores in Maryland, then employed others, including a third defendant, Arthur Hilts, to drive the liquor over the Canadian border without paying the required taxes. Canadian taxes then due on alcohol purchased in the United States were approximately double the liquor's purchase price.
Before trial, the defendants moved to dismiss the indictment on the grounds that the government lacked a sufficient interest in enforcing the revenue laws of Canada, and that they had not committed wire fraud. The district court denied the motion and the defendants were convicted of wire fraud. The Fourth Circuit initially reversed, then vacated its own reversal and affirmed the convictions.
In a 5-4 decision, the Supreme Court affirmed. It held that a scheme to defraud a foreign government of tax revenue could be prosecuted as a violation of the wire fraud statute.
In a strongly worded dissent, Justice Ruth Bader Ginsburg charged that the majority opinion enforces foreign tax law in violation of the principle that courts should await congressional instruction before giving an "extraterritorial thrust" to United States law. Justices Breyer, Scalia and Souter joined in the dissent.
For tax professionals, international businesses, retailers, and importers and exporters, the decision could have serious implications, according to lead counsel Laura W. Brill, a partner with Los Angeles-based Irell & Manella, who argued the case pro bono before the high court.
Brill, a former law clerk to Justice Ginsburg, noted that the allegations against the defendants weren't even adjudicated in Canadian courts. "The Court has a very expansive view under this decision," she said. "There's a line in the majority opinion that says that money at hand and money legally due are economic equivalents. Obviously, that's not so regarding, for example, interest on a credit card debt and mortgage interest on a house."
"There's a fear that, read expansively, this case could give rise to instances where normal contract breaches now fall within the scope of wire fraud," Brill continued. "There were no limitations placed on the types of countries whose laws could give rise to wire fraud violation."
D'Arcy Schieman, a tax attorney with Toronto-based Osler, Hoskin & Harcourt LLP, and a contributor to the Journal of International Taxation, agreed.
"A U.S. taxpayer doing business in Canada - or anywhere else outside of the U.S. - should be aware that its conduct with respect to payment of Canadian or other foreign taxes may give rise to consequences in the United States," he said.
Brill said that the investigation was a joint effort between Canada and the U.S., and at trial there was testimony by a Canadian revenue officer. "Canada never filed to prosecute or extradite the defendants," she added.
Let Canada handle it
The dissent noted that the common law revenue rule holds that one nation generally does not enforce another's tax laws. The majority opinion skirts the revenue ruling with its position that the decision merely enforces foreign law "in an attenuated sense," according to the dissent.
"The defendants' conduct arguably fell within the scope of [the wire fraud statute] only because of their purpose to evade Canadian customs and tax laws; shorn of that purpose, no other aspect of their conduct was criminal in this country," Justice Ginsburg stated in her dissent.
"Today's novel decision is all the more troubling for its failure to take account of Canada's primary interest in the matter at stake," she said. "U.S. citizens who have committed criminal violations of Canadian tax law can be extradited to stand trial in Canada. Canadian courts are best positioned to decide whether, and to what extent, the defendants have defrauded the governments of Canada and Ontario out of tax revenues owed pursuant to their own, sovereign excise laws."
The decision gives foreign countries hope to litigate in the U.S., because it reinterprets the common law revenue rule, according to Detroit-based international tax attorney Martin Tittle.
"Heretofore, the revenue rule was generally understood as a blanket proscription on the enforcement of foreign tax laws," he said. "In Pasquantino, however, the court cites several early cases and then says that the line the revenue rule draws between impermissible and permissible enforcement of foreign revenue law has always been unclear. This conclusion could influence the determination of other cases, in which foreign governments are trying to use [the Racketeer Influenced and Corrupt Organizations Act] to collect unpaid taxes."
Tittle noted that the wire fraud statute is a predicate crime under RICO. Even though the Court stated in Pasquantino that it "express[es] no view on the related question whether a foreign government, based on wire or mail fraud predicate offenses, may bring a civil action under [RICO] for a scheme to defraud it of taxes," Tittle said that the decision has already had consequences.
"Less than a week after the Court decided Pasquantino, it vacated the judgment of the Second Circuit dismissing a case brought by the European Union and various Colombian governmental entities against RJR Nabisco for evasion of cigarette taxes," he said. "The court instructed the Second Circuit Court to 'further consider' the case in light of Pasquantino." The vacated decision had been based in large part on the revenue rule. How the Second Circuit Court responds to this remand will be closely watched.
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