Update on the Zukerman Indictment - Potential Waivable Conflicts of Interest of Advocate as Witness (5/28/16; 6/21/16)

READERS SHOULD NOTE THE CLARIFICATION BELOW AS OF 6/6/16 AT 3:45 AM.

I recently posted on the Zukerman indictment: Prominent and Very Rich Investor Indicted in SDNY (Federal Tax Crimes Blog 5/24/16), here.  In that posting I have the following paragraph:

3. One of the obstructions charged relates to Zukerman passing false information to IRS Appeals through two attorneys at a Washington Law Firm.  That alone made me curious as to which firm and attorneys were used in the scheme, but I have not been able to find out that information.  And, the Government seems to have gotten access to the communications between Zukerman and the attorneys.  Since I assume that such information and documents were not given to the Government with Zukerman's consent, As the press release indicates, the attorney-client privilege was pierced by the Government pursuant to district court and Second Circuit opinions.  The Second Circuit opinion is  In re Grand Jury Subpoenas Dated March 2, 2015, 628 F. App'x 13 (2d Cir. 2015), here.  I discussed that Second Circuit opinion in a prior blog entry, Second Circuit Affirms Application of Crime-Fraud Exception to the Attorney-Client Privilege (Federal Tax Crimes Blog 10/10/15), here.

The prosecuting AUSA for SDNY, Stanley Okula, has written a letter, here, to the judge requesting a hearing, a so-called Curcio hearing (see United States v. Curcio, 680 F.2d 881 (2d Cir. 1982)).  The request is:

At that conference, the Government will request that the Court address potential conflicts issues relating to the defendant's current counsel, from the law firm of Williams & Connolly. More specifically, we will request that Your Honor conduct a Curcio proceeding, see United States v. Curcio, 680 F.2d 881 (2d Cir. 1982), which requires the Court to address with the defendant directly his desire to proceed with defense counsel who face potential waivable conflicts of interest - here, James Bruton and James Fuller, partners from Williams & Connolly, both of whom currently represent the defendant in this criminal case, and both of whom are potential witnesses against the defendant at any future trial or hearing. Mr. Bruton and Mr. Fuller are potential witnesses as a result of the defendant's use of those attorneys to convey false information to the Internal Revenue Service during a civil audit - offense conduct that is not only described at length in the Superseding Indictment (See Ind. ¶¶ 28-34) but was also the subject of a grand jury ''crime-fraud'' ruling by Judge Caproni that was affirmed by the Second Circuit Court of Appeals. See In re: Grand Jury Subpoenas, 2015 WL 5806060 (2d Cir. 2015) (upholding district court's crime/fraud ruling requiring attorneys for Zukerman to disclose attorney/client  communications that resulted in submission to IRS of tax protest letter that included false facts). 

In sum, we believe that the potential conflict can be waived by the defendant, but only after the Court conducts a proceeding pursuant to Curcio and its progeny. Consistent with the approach we have taken in prior proceedings of this sort, the Government expects to submit to Your Honor by early next week a set of questions that should be asked of the defendant at the Curcio hearing, in order to determine that the defendant understands the nature of the potential conflicts and that he knowingly desires to proceed with his counsel, notwithstanding the potential conflicts.

The letter is cc'd to the following:

James A. Bruton, III, Esq.
David Zinn, Esq.
(Counsel for the Defendant)
Henry Putzel, III, Esq.
(Conflicts Counsel for the Defendant)

Messrs. Bruton and Zinn are with the firm of Williams & Connolly ("W&C"), headquartered in Washington, DC.  I infer from the designation of Mr. Putzel, who is not with W&C, that he is an independent attorney advising Zukerman of the potential conflicts.

The letter has the following at the end, signed by the Judge (bold face in original):

GRANTED. The parties are directed to appear in Courtroom 15D of the United States
Courthouse, 500 Pearl Street, New York, New York, 10007, on June 8, 2016, at 4:45 p.m., for an initial conference and to address the potential conflict between Defendant and his counsel.
SO ORDERED.
Dated: May 24, 2016
New York, New York

The attorneys entering appearances for Zukerman, according to the docket entries viewed on 5/28/16 are:  Mr. Bruton, David Michael Horniack, and Mr. Zinn, all with W&C.  (All have requested admission pro hac vice to represent Zukerman in this case.)  I know Mr. Bruton, here, a prominent criminal tax defense attorney, and believe that he is competent, ethical and well-respected among his peers.  (So, I can understand why Zukerman would want him as his counsel in a criminal tax case; if I had that problem, Mr. Bruton would be on a list of perhaps 2 or 3 that I would want to consider representing me.)

The Second Circuit (which includes the SDNY in which Zukerman was indicted) has described the Curcio hearing as follows (United States v. Perez, 325 F.3d 115, 119 (2d Cir. 2003)):

At such a hearing, the trial court (1) advises the defendant of his right to representation by an attorney who has no conflict of interest, (2) instructs the defendant as to the dangers arising from particular conflicts, (3) permits the defendant to confer with his chosen counsel, (4) encourages the defendant to seek advice from independent counsel, (5) allows a reasonable time for the defendant to make a decision, and (6) determines, preferably by means of questions that are likely to be answered in narrative form, whether the defendant understands the risk of representation by his present counsel and freely chooses to run them. See id. at 888-90. The ultimate goal of these procedures is to permit the court to determine whether the defendant's waiver of his right to conflict-free counsel is knowing and intelligent.

It seems clear that the two attorneys through whom Zukerman allegedly passed allegedly fraudulent information to the IRS (a centerpiece of the tax obstruction charge in the indictment) were with W&C.  Mr. Okula identifies those attorneys as James Bruton and James Fuller.  Only Mr. Bruton has entered an appearance to represent Zukerman in the criminal case.

The conflict in issue identified by Mr. Okula is that Mr. Bruton and Mr. Fuller (Bruton's partner at W&C) apparently are necessary or appropriate witnesses in the criminal case.  Having an advocate testify in any case, civil or criminal, raises all sorts of red flags.  The red flag identified by Mr. Okula is the potential for conflict of interest with the party the advocate represents.  The advocate's role as a witness can potentially impair the effective representation of the party the advocate represents.  That is solely a conflict of interest issue that would require that the represented party be fully advised of the potential conflict and make a knowing waiver of the potential conflict, including the risks involved.  As stated by Mr. Okula, resolving that potential issue to insure a knowing waiver will be the purpose of the hearing.  I assume that the presence of conflicts counsel indicates that Zukerman is prepared to make a knowing waiver and that defense counsel and Zukerman think that the Court will so hold after the Curcio hearing.

CLARIFICATION ON 6/616 AT 3:45 AM:

In the balance of the original posting (which I keep below), I addressed potential issues that could arise should these counsel have to testify in the case in chief.  As it turns out, in a letter to the Court on May 31, 2016, here, AUSA Okula advised the Court (the content is short so, I quote it all but the bold-face has been supplied by me):

Enclosed please find a set of questions we respectfully propose that the Court utilize at the June 8, 2016 Curcio proceeding in the above-referenced case. As we noted in our letter of May 23, 2016, we believe the Curcio hearing is necessary in order for the Court to explore (1) the nature of the potential conflict of interest faced by the defendant’s current counsel, James A. Bruton, III, and James T. Fuller, III, from the law firm of Williams & Connolly; (2) the defendant’s awareness and understanding of the potential conflict; and (3) the defendant’s desire,after consulting with independent counsel, Henry Putzel, III, to knowingly waive any conflict or potential claim arising therefrom. 

As our proposed questions make clear, the potential conflict stems from the fact that both Mr. Bruton and Mr. Fuller were required, pursuant to a “crime fraud” ruling made by Judge Caproni, to disclose to the grand jury their written and oral communications with the defendant concerning a tax Protest Letter prepared by Bruton and Fuller and submitted to the civil branch of the Internal Revenue Service. That letter endeavored to challenge certain audit determinations previously made by an IRS auditor with respect to one of the defendant’s corporate entities. Both Mr. Fuller and Mr. Bruton were also required to testify as witnesses before the grand jury that voted the charges against the defendant. 

Based on our discussions with defense counsel, we understand that the defendant wishes to sign a plea agreement and schedule a plea proceeding. Before taking either step with current counsel, however, we respectfully submit that the potential conflict issue must be addressed and successfully navigated.

Although I am not an expert in this area, although the concerns I originally expressed seemed to be raised, it now appears that, if Zukerman pleads guilty as indicated in the letter, the only issue is the conflict issue which, as AUSA Okula originally noted can be waived.  I should have anticipated that result since most tax crimes cases result in a plea which has often been negotiated by the time the indictment is filed or, if sealed, unsealed.  Still, if AUSA Okula had a concern about these attorneys even representing Zukerman in the plea proceeding, it would seem to me that he should have had that concern in the negotiations.  Perhaps he did and felt the presence of conflict counsel was sufficient for him to do that, with the intention of presenting the issue to the Court when the indictment was unsealed.

AUSA Okula's  proposed Curcio hearing questions are here.

Update on 6/9/16 2:30pm:

The Curcio hearing was held on 6/8/16. The New York Times has this article on the hearing:  Matthew Goldstein & Alexandra Stevenson, Lawyers Ordered to Testify on Client’s Tax Evasion Case (NYT 6/8/16), here.  The article is a good one.  Basically, it appears that the conflict was waived and the client will plead guilty to  one or more of the charged crimes with what appears will be a very large tax loss.  The article does give some of the detail, principally from the indictment, about the defendant's use of the lawyers to communicate false information to the IRS.  I may post further information on this latter after I have time to pull any additional filings from Pacer.

Update on 6/21/16 9:30am:

Peter Hardy has an excellent discussion of the crime-fraud exception at Zukerman Case Raises Issues Regarding Crime Fraud Exception to Attorney Client Privilege (Procedurally Taxing Blog 7/17/16), here.

NOTE THE FOLLOWING DISCUSSION IS NOT RELEVANT IN LIGHT OF ZUKERMAN'S APPARENT INTENT TO ENTER A GUILTY PLEA.  I KEEP IT ONLY FOR POTENTIAL FUTURE REFERENCE IN OTHER CASES.

But, the advocate as witness in a case raises other issues than the potential for conflict.  ABA Model Rule 3.7, Lawyer as Witness, here, address those other issues as follows:

Rule 3.7 Lawyer As Witness 

(a) A lawyer shall not act as advocate at a trial in which the lawyer is likely to be a necessary witness unless:

(1) the testimony relates to an uncontested issue;
(2) the testimony relates to the nature and value of legal services rendered in the case; or
(3) disqualification of the lawyer would work substantial hardship on the client.

(b) A lawyer may act as advocate in a trial in which another lawyer in the lawyer's firm is likely to be called as a witness unless precluded from doing so by Rule 1.7 or Rule 1.9.

The Model Rules do not control the appearances in the Zukerman case, but seem to parallel the rules that are applicable (noted below).  Accordingly, the Commentary to the Model Rule, here, might be useful reading.

The Second Circuit has this discussion of the applicable rules and their concerns (Murray v. Metro. Life Ins. Co., 583 F.3d 173, 177-79 (2d Cir. 2009), here):

IV 

Plaintiffs make the separate argument that disqualification of Debevoise is proper by virtue of the witness-advocate rule set  out in Rule 3.7 of the New York Rules of Professional Conduct. Subsection (a) of the Rule provides, with certain exceptions, that "[a] lawyer shall not act as an advocate before a tribunal in a matter in which the lawyer is likely to be a witness on a significant issue of fact." N.Y. R. Prof'l Conduct § 3.7(a). Subsection (b) is broader, as it addresses imputation: "A lawyer may not act as an advocate before a tribunal in a matter if . . . another lawyer in the lawyer's firm is likely to be called as a witness on a significant issue other than on behalf of the client, and it is apparent that the testimony may be prejudicial to the client." See N.Y. R. Prof'l Conduct § 3.7(b)(1).  

Rule 3.7 lends itself to opportunistic abuse.  "Because courts must guard against the tactical use of motions to disqualify counsel, they are subject to fairly strict scrutiny, particularly motions" under the witness-advocate rule. Lamborn v. Dittmer, 873 F.2d 522, 531 (2d Cir. 1989). The movant, therefore, "bears the burden of demonstrating specifically how and as to what issues in the case the prejudice may occur and that the likelihood of prejudice occurring [to the witness-advocate's client] is substantial." Id. "Prejudice" in this context means testimony that is "sufficiently adverse to the factual assertions or account of events offered on behalf of the client, such that the bar or the client might have an interest in the lawyer's independence in discrediting that testimony." Id. 

As this definition suggests, the showing of prejudice is required as a means of proving the ultimate reason for disqualification: harm to the integrity of the judicial system. We have identified four risks that Rule 3.7(a) is designed to alleviate: (1) the lawyer might appear to vouch for his own credibility; (2) the lawyer's testimony might place opposing counsel in a difficult position when she has to cross-examine her lawyer-adversary and attempt to impeach his credibility; (3) some may fear that the testifying attorney is distorting the truth as a result of bias in favor of his client; and (4) when an individual assumes the role of advocate and witness both, the line between argument and evidence may be blurred, and the jury confused. Ramey v. Dist. 141, Int'l Ass'n of Machinists & Aerospace Workers, 378 F.3d 269, 282-83 (2d Cir. 2004) (internal citations and alterations omitted). These concerns matter because, if they materialize, they could undermine the integrity of the judicial process. See Hempstead Video, Inc. v. Inc. Vill. of Valley Stream, 409 F.3d 127, 132 (2d Cir. 2005) ("The authority of federal courts to disqualify attorneys derives from their inherent power to preserve the integrity of the adversary process.") (internal quotation marks omitted); see also id. (emphasizing "the need to maintain the highest standards of the profession") (internal quotation marks omitted). 

In imputation cases (Rule 3.7(b)), the witness is not acting as trial counsel; these concerns are therefore "absent or, at least, greatly reduced." Ramey, 378 F.3d at 283 (internal quotation marks omitted); see also A.B.A. Model Rules of Prof'l Conduct § 3.7 cmt. 5 ("Because the tribunal is not likely to be misled when a lawyer acts as advocate in a trial in which another lawyer in the lawyer's firm will testify as a necessary witness, [Model Rule 3.7(b)] permits the lawyer to do so except in situations involving a conflict of interest."). Accordingly, disqualification by imputation should be ordered sparingly, see Kubin v. Miller, 801 F. Supp. 1101, 1114 (S.D.N.Y. 1992), and only when the concerns motivating the rule are at their most acute. 

Therefore, we now hold that a law firm can be disqualified by imputation only if the movant proves by clear and convincing  evidence that [A] the witness will provide testimony prejudicial to the client, and [B] the integrity of the judicial system will suffer as a result. This new formulation is consistent with our prior efforts to limit the tactical misuse of the witness-advocate rule. See, e.g., Lamborn, 873 F.2d at 531.

It is important for readers to make the key distinction between the advocate acting as witness (addressed in the Rule subsection (a)) and the advocate's partner acting as witness (addressed in subparagraph (b), referred to as imputation).  The Court says that motions to disqualify under under Rule 3.7 potentially lend themselves to "opportunistic abuse," particularly focusing on subsection (b), where the advocate's partner is a witness).  For subsection (b) cases, the Court creates a substantial burden of proof (clear and convincing evidence) of prejudice to the client and damage to the integrity of the judicial system. It is not clear what the burden might be under subsection (a) which is the more sensitive of the situations addressed.  

As I read Mr. Okula's letter, two W&C attorneys may have to testify -- Mr. Bruton and Mr. Fuller.  Mr. Bruton is counsel in the case, thus subject to subsection (a).  Mr. Fuller is not counsel in the case, thus subject to subsection (b).  Of course, Mr. Okula raises only the potential conflict issue.  He does not raise at all the other issues/problems to which subsections (a) and (b) are directed involving the integrity of the judicial process.  The Court can raise those issues on its own.  Perhaps that is why Okula is pressing the conflicts issue with the notion that the Court itself may raise the issue.  But that is nothing more than my speculation, for I have no way to read Mr. Okula's mind.  I can only read what he said in his letter, and he said nothing beyond the issue of conflicts which, he assures the Court, are waivable.

Another speculative possibility is that Mr. Okula believes Zukerman will clear the conflicts hurdle and permit Mr. Okula to take extra advantage of the W&C attorneys.  I presume, for example, that when the two are called in the case in chief, the Court will likely treat the two as sufficiently close to hostile witnesses that it will permit Mr. Okula to lead them.  (My experience, though, is that attorneys, particularly smart attorneys, are not easily led.)  And, I can imagine other things that might happen, but I won't burden readers with my imaginings, which nobody is willing to pay me for.

I look forward to the results of the hearing on June 8.

Two Participants in BullShit Tax Shelter Sue the Government for Colluding to Protect the Promoter (EY) from the Participants (4/28/16; 5/15/16)

On 5/15/16, I added a link at the bottom of this blog entry to an excellent discussion of the case in the Procedurally Taxing Blog.

Two former Sprint Executives who participated in a bullshit tax shelter are suing the IRS for aiding and abetting EY's breach of conflict of interest with respect to their investment in the shelters and the fallout from their investment in the shelters.  The complaint is here.

The gravamen of the claims are:

1. EY was the outside auditor for Sprint, a public corporation.

2. The plaintiffs were executives of Sprint.

3. The plaintiffs on their own initiative and with no compulsion from or even knowledge of Sprint invested in abusive tax shelters that EY promoted to executives such as them.  EY may also have designed or participated in the design of the shelters, but that is not alleged and is probably irrelevant.

4. The IRS discovered EY's promotion of the shelters.  The IRS conducted a civil penalty examination of EY as a result of which EY made penalty payments to the IRS.  EY negotiated with the IRS and the IRS collusively agreed to not mention in the press release that the payment was for a penalty.

5. The two were apparently aware of the settlement payment but, because of the IRS's collusion with EY in not describing the payment as a penalty, the plaintiffs did not know it was a penalty.

6.  The IRS began a civil audit of the investors in these shelters.  The plaintiffs were included.  EY represented the plaintiffs in the audits.  Apparently, EY failed to disclose to the plaintiffs that the civil investigation and settlement created a potential conflict of interest with the plaintiffs whose IRS audits EY was handling.  Further, the IRS knew EY was representing plaintiffs at the same time that it was conducting an audit of plaintiffs.  The IRS should have prevented that conflict.  (Paragrpah 54 of the complaint, however, indicates that the audit was of a partnership rather than the partners; not clear that the allegations are consistent.)

7.  Sprint's Board got wind of this somehow and the potential for a conflict of interest between EY and the plaintiffs at the same time that EY was auditing Sprint's financials.  That put Sprint in a bind, requiring that it either terminate EY or the plaintiffs, or perhaps both.  Sprint terminated the executives, an action which would not have occurred had the executives not invested in the bullshit tax shelter EY promoted to plaintiffs.

8. The plaintiffs discovered later that the IRS had colluded with EY.

9.  Such collusion (or aiding and abetting) is actionable under New York law.

10.  As a result, the US is liable under the Federal Tort Claims Act.

A lot of interesting stuff should come out of this case.  The U.S. has not yet filed an answer.

Notably, however, plaintiffs make no attempt in the complaint to discuss the bullshit tax shelter or defend their participation in such bullshit tax shelters.  One would have thought that such astute taxpayers (suggested by the damage model for $42,550,000 and $116,800, respectively) would have invested in bullshit tax shelters.  When that comes up, as it undoubtedly will, they will surely claim that they relied on EY and whatever other professionals were involved.  But whether anyone will believe it may be another issue.

The pdf of the complaint is linked above.  Here is a table of the relevant complaint paragraphs.  The allegations in the complaint are in the left hand column.  My comments to some of the paragraphs are in the right hand column.

INTRODUCTION
1. In 2002, the Internal Revenue Service (“IRS”) Criminal Investigation Division (“CID”) and the United States Attorney’s Office for the Southern District of New York (“SDNY”) began to investigate the promotion of tax shelters by Ernst & Young LLP (“EY”) to its clients. The IRS also began a civil audit of EY’s promotion of tax shelters to those same clients.	1.       I am surprised that a criminal investigation started this early. 2.       In any event, legally, the CID and USAO cannot both investigate a tax crime at the same time.  Either the CID investigates and USAO is not involved or the USAO (DOJ) investigates through a grand jury (often with IRS CID agents assigned to assist the grand jury but must act independently of IRS) and CID is not otherwise involved.
2. EY’s clients who had been sold these tax shelters included plaintiffs William T. Esrey (“Esrey”) and Ronald T. LeMay (“LeMay”) (collectively, the “Plaintiffs”). At the time, Esrey was the Chief Executive Officer (“CEO”) of Sprint Corporation (“Sprint”), and LeMay was Sprint’s Chief Operating Officer (“COO”). In addition to the criminal and civil investigations of EY’s conduct, the IRS began audits of Esrey and LeMay in the 2002 timeframe.	1. Was the IRS auditing the plaintiffs or partnerships in which the plaintiffs were at least purported partners?  See paragraph 54 below.
3. EY knew during 2002 and 2003 that its conduct was under investigation by SDNY, CID, and/or IRS. These investigations created a conflict of interest between EY and the Plaintiffs.
4. In July 2003, EY settled the civil audit of its tax shelter promotion activities for $15 million, which – unbeknownst to Esrey and LeMay at the time – included a $1.4 million additional payment to induce the IRS not to call the $15 million a “penalty” in the IRS press release.	1.       David Cay Johnston, Ernst & Young To Pay U.S. $15 Million In Tax Case (NYT 7/3/03), here:  “Neither the firm nor the I.R.S. characterized the payment, other than to say it would not be tax deductible, which suggests that it was a penalty.” 2.       I think it is fair to say that every reasonably knowledgeable person knew this was a penalty.
5. EY withheld material information from Esrey and LeMay about the civil and criminal investigations of EY and EY’s agreement to resolve the IRS tax shelter promoter audit. As their long-standing tax advisor, EY owed the Plaintiffs fiduciary duties, including duties of candor, loyalty, and performance. Instead, EY represented to Plaintiffs that it would be able to favorably settle their individual audits and did not disclose the extent or seriousness of the investigations into its conduct. Plaintiffs reasonably relied on EY’s representations and  advice and trusted that it was telling them the truth.  Likewise, Plaintiffs relayed these representations to their employer, Sprint.	1. I presume that, based on the allegations, the material information EY withheld was that the payment was for a penalty.  Did the plaintiffs have any professional advice independent of EY? 2.  There is no information about what the material information was (although I think #1 nails it), nor what the defendants would have done with the information if they had it.
6. The IRS knew of EY’s fiduciary duties to Plaintiffs, and of EY’s conflict of interest, but nonetheless helped EY to hide information from Plaintiffs knowing that such information would have been critical to Plaintiffs’ evaluation of whether to trust EY and whether to continue to tell Sprint that EY was trustworthy and devoted to helping Plaintiffs resolve their tax audits with the IRS. The IRS also permitted EY to continue to represent Plaintiffs before the IRS, notwithstanding that this continued representation violated Treasury Department Circular No. 230, 31 C.F.R. §§ 10.0-10.93 (2003).
7. As a result of EY’s breach of fiduciary duty and of the IRS’s active concealment of the criminal investigation and the truth about the tax shelter promoter audit, Esrey and LeMay could not defend themselves against allegations by Sprint and Sprint shareholders regarding their participation in the EY-promoted transactions. For instance, Plaintiffs were unable to tell Sprint that EY’s tax shelter promotion activities were being criminally investigated. Instead, the blame for the tax shelters fell on Plaintiffs and they were ultimately forced to resign from Sprint in 2003.	1.  There is no allegation that the IRS improperly concealed the criminal investigation; the only allegation I see is that the IRS concealed the nature of the civil penalty settlement. 2.  Surely the plaintiffs told Sprint that they had participated in a tax shelter promoted by EY.  As I understand the facts (some facts from outside the investigation), they were terminated / forced to resign because of their tax shelter activity with EY.  The board knew about that.
BACKGROUND
A. EY’s Fiduciary Relationship with the Plaintiffs.
12. Esrey was employed by Sprint from 1980 through 2003. Esrey was Sprint’s CEO from 1985 through 2003 and Sprint’s Chairman from 1990 to 2003
13. LeMay was employed by Sprint from 1985 through 2003. LeMay was Sprint’s President and Chief Operating Officer from 1996 to 2003, except for a period of approximately one hundred days during which Mr. LeMay left Sprint to serve as Chairman and Chief Executive Officer of Waste Management, Inc.
14. EY is a global accounting firm and one of the largest accounting firms operating in the United States.
15. EY had been Esrey’s tax advisor and financial planner for over two decades as of 2002. EY had been LeMay’s tax advisor and financial planner for over one decade as of 2002.
16. EY was in a fiduciary relationship with Esrey and LeMay. That fiduciary relationship included the duty of candor, the duty of loyalty, the duty of performance, and the duty to act in the best interests of Esrey and LeMay.
17. During the time that Esrey and LeMay were employed by Sprint, EY was Sprint’s certified public accountant.
18. On the advice of EY, Esrey and LeMay engaged in two transactions promoted by EY, the Contingent Deferred Swap (“CDS”) transaction in 1999 and 2000 and the CDS Add-On (“Add-On”) transaction in 2000 and 2001.
B. The IRS Investigations of EY.
19. The IRS initiated an audit of EY’s promotion of certain tax shelters (the “Promoter Audit”) in March 2002.
20. IRS employees conducting the Promoter Audit worked at an IRS office located in New York, New York.
21. During 2002, the IRS also began to audit taxpayers who had participated in tax shelters promoted by EY, including entities owned by Esrey and LeMay (the “Investor Audits”). IRS employees located in New York, NY worked on the Investor Audits.
22. EY represented Esrey and LeMay before the IRS in connection with the Investor Audits.
23. The IRS dealt directly with EY as representatives of Esrey and LeMay during the Investor Audits.
24. On June 21, 2002, the United States Attorney’s Office for the SDNY informed EY that it was initiating an investigation into EY’s conduct in promoting tax shelters.	1.  This is odd because, apparently, as alleged, the IRS has not requested the grand jury investigation and the AUSA just started it sua sponte.  At least as alleged.  SDNY acts in strange and mysterious ways (which may be why it is sometimes called the "Sovereign District of New York."
25. At that time, EY retained Gerald Feffer (“Feffer”), an esteemed criminal tax lawyer with the law firm of Williams & Connolly.	Feffer was in fact one of the very best criminal tax lawyers ever.
26. On June 24, 2002, EY’s General Counsel, Kathryn Oberly (“Oberly”), informed certain EY employees of the investigation and placed a litigation hold on all materials related to EY’s promotion of tax shelter transactions (the “Litigation Hold”).
27. On June 28, 2002, Shirah Neiman (“Neiman”), a senior Assistant U.S. Attorney at SDNY, contacted Oberly about the investigation. Neiman requested, among other things, a letter confirming that EY had placed a litigation hold on relevant documents and information about the criminal statute of limitations.	Shirah Neiman has her ways.
28. On July 2, 2002, Feffer faxed to Neiman a copy of the Litigation Hold pursuant to Neiman’s June 28 request.
29. Prior to this litigation hold being put into place, EY personnel had already destroyed documents relating to EY’s tax shelter activities.
30. On July 9, 2002, Neiman informed EY’s criminal counsel that the IRS had declined to authorize the opening of a grand jury proceeding at that time, but that her office would continue to monitor the matter. The Litigation Hold was never lifted.	This is odd.  See paragraph 24 above.  If DOJ can investigate independently of IRS, why would this have stopped SDNY?
31. Throughout 2003, the IRS CID pursued a criminal investigation of EY’s conduct in promoting tax shelters.
32. In June 2003, IRS agents involved in the EY Promoter Audit told EY that CID was investigating the conduct of certain EY employees and that the Promoter Audit team was sharing documents with CID.
33. EY agreed in concept to settle the Promoter Audit with the IRS for approximately $13 million.
34. During June 2003, EY and the IRS negotiated over use of the term “penalty” in the IRS press release announcing the settlement of the Promoter Audit. The IRS initially insisted that the word “penalty” be used to accurately describe the settlement payment in the IRS press release. EY told the IRS it was concerned that the fact it paid a penalty would be “discovered by clients” and used in litigation against EY. At least one in-person settlement meeting between EY and the IRS took place in New York.
35. Although the IRS’s initial position was that use of the term “penalty” was not negotiable, the IRS changed its position and agreed to remove the term “penalty” from the press release if EY would “sweeten the deal.”
36. On July 2, 2003, EY and the IRS settled the Promoter Audit. EY paid the IRS a $15 million penalty, which included a $1.4 million increase in the payment in exchange for the IRS’s agreement not to call that payment a “penalty” in the press release announcing the settlement. The IRS knowingly induced or participated in EY’s breach of fiduciary duty when it helped EY conceal the true nature of its settlement payment.
37. By May 2004, SDNY had initiated a federal grand jury investigation of EY’s sale of tax shelters. On May 19, 2004, Justin Weddle, Assistant United States Attorney at SDNY, called EY’s criminal counsel and informed him that SDNY was formally investigating EY’s tax shelter activities.	1. Presumably at the request of the IRS unless DOJ has the power independently to investigate (in which case it would have difficulty getting return information from the IRS). 2.  Justin Weddle also has his ways.
38. On May 24, 2004, newspapers reported that EY was under grand jury investigation for its tax shelter activities.
39. In May 2007, the grand jury indicted four EY employees for participating in a scheme to defraud the IRS by designing, marketing, implementing, and defending fraudulent tax shelters.
40. On May 8, 2009, the four EY employees were convicted of multiple charges, including tax evasion in connection with the tax shelters.n1 The Second Circuit affirmed two of the convictions and reversed the other two convictions. n2    n1 United States v. Coplan, Dkt. No. 1:07-cr-00453-SHS (S.D.N.Y. May 7, 2009).    n2 United States v. Coplan, 703 F.3d 46 (2d Cir. 2012).	1.  The Coplan case cited is well worth a read, but has no real relevance to Plaintiff's case.  Apparently thrown in to give a weak complaint some gravitas.
41. On February 28, 2013, EY entered into a non-prosecution agreement with SDNY, pursuant to which EY agreed to pay $123 million.
42. On March 1, 2013, SDNY issued a press release relating to the non-prosecution agreement touting EY’s cooperation with the government investigation into the tax shelters since approximately 2003, during the time the IRS was helping EY conceal its conflict of interest from Plaintiffs.
C. EY’s Breach of Fiduciary Duty.
43. EY was on notice from June 2002 that its conduct in promoting tax shelters had attracted the attention of federal prosecutors.
44. In June 2003, the IRS explicitly informed EY that a criminal investigation of EY’s conduct, including the conduct of its employees and partners, was ongoing.
45. Larry D. Thompson, Deputy Attorney General, released a memo titled “Principles of Federal Prosecution of Business Organizations” (the “Thompson Memo”) on January 20, 2003. One factor identified in the Thompson Memo to be considered in Department of Justice charging decisions is the organization’s “willingness to cooperate.” The Thompson memo states that organizational immunity or amnesty may be granted in exchange for cooperation.	This is thrown in to show that EY would have a potential conflict of interest with its clients because it would have an incentive to throw clients under the bus.
46. As a result of the IRS criminal investigation of EY’s conduct in promoting tax shelters, EY’s interests conflicted with those of Esrey and LeMay.
47. EY did not tell Esrey or LeMay about the criminal investigation or its conflict of interest.
48. EY represented Esrey and LeMay before the IRS during the time it had an undisclosed conflict of interest associated with the criminal and promoter investigations.
49. Esrey and LeMay did not know about the IRS criminal investigation until the May 25, 2004 public disclosure of that investigation.
50. Prior to May 25, 2004, when the Wall Street Journal published an article about the criminal investigation of EY, Esrey and LeMay believed that EY continued to act in their best interests. Esrey and LeMay believed that their interests were aligned with EY’s interests, in that Esrey, LeMay, and EY all had the same objectives to prevail against the IRS in the Investor Audits.	Why wouldn’t the 2004 public information trigger S/L on plaintiff's claims?
51. The IRS knew that EY was aware of the criminal investigation and that EY’s interests conflicted with its tax shelter clients that it was representing before the IRS, including Esrey and LeMay.	This pops up in several allegations, but the issue is whether the IRS was auditing the plaintiffs or some partnership in which they invested?  That distinction is important.
52. It was IRS policy during 2002 to seek assurances from taxpayer representatives who were tax shelter promoters that their clients were informed of potential conflicts of interest. Internal Revenue Manual part 35.3.12.10 (rev. 5-9-06); NSAR 020331 (Sept. 10, 2002) (“The Manual requires the Service to seek assurances from the POA that the investors have been informed of the potential conflict of interest situation to protect the integrity of the settlement and litigation process.”).
53. The IRS permitted EY to continue to represent Esrey and LeMay before the IRS, including before IRS employees working in New York, NY.
54. Plaintiffs filed petitions in the Tax Court in 2008 challenging Final Partnership Administrative Adjustments that were issued by the IRS on January 31, 2008 (the “Tax Court Case”).
55. Throughout the Tax Court Case, the IRS failed to disclose information relevant to the case, contrary to its discovery obligations and court order. Instead, the IRS repeatedly represented that documents were destroyed or did not exist, only to locate portions (but not all) of those documents at a later time when faced with sanctions or when additional information was revealed.
56. Pursuant to discovery in the Tax Court Case, on August 21, 2013, five days before trial, the IRS produced to Plaintiffs documents showing that EY told the IRS it was concerned that the fact it paid a penalty would be “discovered by clients” and that the IRS enabled EY to hide this information in exchange for a “sweetener” of $1.4 million. This was the first time Plaintiffs learned of the IRS’s active enabling of EY’s breaches of its fiduciary duties to Esrey and LeMay.	This seems to be the core of the allegation against the IRS
57. Plaintiffs initiated an arbitration action against EY on September 15, 2011 (the “Arbitration”). On November 11, 2013, the Arbitration panel issued an interim award in favor of Esrey and LeMay; a final award was made on February 17, 2014. Plaintiffs incurred attorneys and expert fees and expenses relating to the Arbitration action. The delay in Plaintiffs learning of the extent of EY’s breaches of its fiduciary duties increased their Arbitration costs.	1.  What was the interim awards for the two? 2. What was the final awards for the two? 3. If EY compensated the two for EY’s breach, what kind of derivative claim could they have against the U.S.? 4.  Court the resolution of the EY claim constitute some type of estoppel against the current claim which is derivative?  Would there be some type of privity on the claim the two make, thus permitting some type of estoppel?
INJURY TO PLAINTIFFS
58. On February 26, 2001, Sprint entered into new employment agreements with both Esrey and LeMay. The Sprint Board authorized the contracts with full knowledge that Plaintiffs had entered into the transactions that EY had promoted.
59. LeMay was Esrey’s likely successor as CEO of Sprint. The Board informed LeMay of that fact in writing on October 2, 2002.
60. The Sprint Board and the Sprint Audit  Committee became concerned that there could be a conflict of interest between Esrey and EY and LeMay and EY because of the IRS audits of Esrey and LeMay. Beginning in 2002, Sprint required Esrey and LeMay to certify every quarter that they had no present intention to sue EY.
61. In December 2002, Esrey and LeMay made a presentation to the Sprint Board recommending that Sprint dismiss EY as its auditor because of the Sprint Board’s and Sprint Audit Committee’s concern that there could be a conflict of interest between Esrey and LeMay and EY. At the same time, EY met with the Sprint Board and represented that its advice to Esrey and LeMay was sound and its actions proper. This was at a time when EY knew that same advice and those same actions were under criminal investigation.
62. In December 2002, neither Esrey nor LeMay knew of the criminal investigation of EY.
63. The Sprint Board determined that the potential conflict of interest was too great, and concluded that firing its auditor would result in negative publicity and would negatively impact Sprint.	So, let’s get this right.  The Board of Sprint knew of the potential conflict of interest between EY and the plaintiffs but the plaintiffs did not?  Did the Board of Sprint not explain that its action was based on the conflict?
64. The Sprint Board asked both Esrey and LeMay to resign from their positions at Sprint.
65. LeMay and Esrey left Sprint in April and May 2003, respectively.
66. EY remained Sprint’s auditor until October 2003.
THE IRS’S DENIAL OF PLAINTIFFS’ ADMINISTRATIVE CLAIMS
67. Pursuant to 28 U.S.C. § 2675(a), Esrey presented the IRS with the claim set forth herein on April 29, 2015.
68. On October 22, 2015, the IRS denied the Esrey FTCA Claim.
69. Pursuant to 28 U.S.C. § 2675(a), LeMay presented the IRS with the claim set forth herein on April 29, 2015.
70. On October 22, 2015, the IRS denied LeMay’s claim.
CAUSE OF ACTION (AIDING AND ABETTING A BREACH OF FIDUCIARY DUTY)
71. All preceding allegations are incorporated here as if set forth in full.
72. EY breached its fiduciary duties of loyalty and performance to Plaintiffs.
73. The Defendant knowingly participated in EY’s breaches of its fiduciary duties to Plaintiffs in violation of the laws of New York.
74. Plaintiffs exhausted their administrative remedies with regard to their claims against the Defendant.
PRAYER FOR RELIEF
WHEREFORE, Esrey and LeMay demand judgment against Defendant in the sums of $42,550,000 and $116,800,000, respectively, fees and costs, and such other relief as the Court deems appropriate.	The damage model on this should be real interesting.

Marilyn Ames, a guest blogger, has an excellent discussion of the case:  What Duty/Ability Does the IRS Have to Notify Clients of Professionals It is Auditing? (Procedurally Taxing 5/13/16), here.