Tax Law

Billionaire Who Promised To Pay Off Morehouse Grads' Student Loans Avoided Prosecution For Tax Crimes

According to the Justice Department, Smith formed the Excelsior Trust in Belize, and a shell company, Flash Holdings, in Nevis in 2000.

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Last year, the 2019 graduating class of Morehouse College received the surprise of their lives at their commencement ceremony. Their commencement speaker, billionaire Robert F. Smith, announced that he would pay off their student loans totaling $43 million.

At the time, a part of me wondered if there was an ulterior motive for his generosity. Maybe he wanted to set the example for other wealthy alumni. Or he wanted publicity for an upcoming project. Or he just wanted a tax write-off he can feel really good about. Indeed, their student loans will be repaid through the newly formed Morehouse Student Success Program, where contributions are tax-deductible. But ultimately, it was his money, and he can do whatever he wants with it. And he put it to a lot better use than others in his position. So I decided to let it be.

Last week, the U.S. Justice Department announced that Smith was investigated by the IRS’s Criminal Investigation division for potential tax crimes and has entered into a nonprosecution agreement.

According to the Justice Department, Smith formed the Excelsior Trust in Belize, and a shell company, Flash Holdings, in Nevis in 2000. Smith used third parties to conceal his ownership and control of the Excelsior Trust and Flash Holdings. But in reality, Smith controlled both entities and made all substantive decisions. Smith used the Excelsior Trust to conceal his ultimate ownership and control over Flash Holdings. He further used Flash Holdings to hide his interest in private equity investments. Smith admits that he formed these foreign entities in order to use them to avoid reporting over $200 million of income and payment of U.S. taxes.

Over the years, Smith used millions of this unreported income to acquire and make improvements to real estate used for his personal benefit. In 2005, he spent approximately $2.5 million to purchase and renovate a vacation home in Sonoma, California. In 2010, he purchased two ski properties and commercial property in France. In 2011 and 2012, Smith used approximately $13 million to build and make improvements to a residence in Colorado and to fund charitable activities there.

As part of the nonprosecution agreement, Smith will agree to pay $56 million in taxes and penalties and an additional $82 million in special penalties for failing to report his offshore bank accounts.

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In addition, Smith agrees to abandon his charitable contribution deductions for 2018 and 2019 which would result in a $182 million tax refund. This contribution likely includes his large gift to the Morehouse graduating class.

Finally, Smith will agree to cooperate with the IRS with any ongoing investigations for the next five years. Smith was reportedly connected with another billionaire, Robert Brockman, who was recently indicted on 39 criminal counts, including tax evasion, money laundering, conspiracy, and wire fraud, to name a few. He is accused of hiding $2 billion in income, which is the largest case of tax fraud in U.S. history.

Smith’s case is interesting because it gives a glimpse of how the IRS and the Justice Department decide whom to prosecute for tax crimes. The Justice Department does not prosecute many people for tax crimes, but the ones they do have a high likelihood of conviction.

The Justice Department’s announcement stated that Smith’s agreement to cooperate was the deciding factor when deciding not to prosecute. It is believed that he will be a key witness against Robert Brockman and will provide incriminating documents to strengthen their case against him. This is a clear case where the Justice Department is giving concessions in order to go after the bigger and more elusive fish. Without Smith’s cooperation, their case against Brockman will be more difficult.

But another factor the Justice Department must consider is whether a jury is likely to convict Smith. Would a jury believe that Smith acted with fraudulent or criminal intent? Or did he reasonably rely on advisors and lawyers? Would they believe that untaxed money was used to purchase the properties described in the nonprosecution agreement? Or could they have been purchased legally with after-tax money or through a method allowed by law. And finally, in this current climate of protests on racial inequality, if a trial were held now, a jury of Smith’s peers could decide not to convict, even if they believe the prosecution’s narrative.

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Charitable work and lenient sentencing can also play a role in deciding whether to prosecute. In one high-profile case, Beanie Babies creator Ty Warner pled guilty to tax evasion and was sentenced to two years of probation and 500 hours of community service. As for Smith, in addition to the Morehouse donation, he has given away at least $300 million for various charitable causes.

Whether Robert F. Smith’s pledge to pay off the Morehouse grads’ student loans and his charitable works was motivated by altruism or his desire to avoid jail is debatable. And it seems like a common defense strategy for people facing tax crime indictments. But in the end, he paid his taxes and then some. And he has agreed to help the prosecution on the largest tax fraud case in U.S. history. As far as I’m concerned, I think I will let this be too.

Steven Chung is a tax attorney in Los Angeles, California. He helps people with basic tax planning and resolve tax disputes. He is also sympathetic to people with large student loans. He can be reached via email at sachimalbe@excite.com. Or you can connect with him on Twitter (@stevenchung) and connect with him on LinkedIn.

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