The Fine Print: How Big Companies Use "Plain English" to Rob You Blind (33 page)

Anything short of stealing workers’ money is a virtually penalty-free zone. Even when bosses steal their workers’ money, as I showed a number of small employers did in the 1990s, nothing was done to most of them. The biggest case was prosecuted when in 1996 Ralph J. Corace admitted that he stole $2.3 million from 476 people who were in the 401(k) savings plan of his Long Island company. At the time of the thefts he also lent $207,000 to two of his grown children. It was an elaborate theft including faked statements, and a significant element was that some of the plan vendors did not tell the plan participants or the Labor Department when the flow of funds was interrupted and other irregularities occurred. The workers recovered next to nothing. The government let Corace plead to a single count that cited just a tenth of the actual losses, ensuring his light sentence.

A better idea would be to strengthen the laws on the duty of loyalty owed to those with 401(k) savings by their employer and the vendors it hires to hold and manage the money and keep records. We’ve seen this before: the lawyers call this
fiduciary duty
and, again, it means that you must put the interests of the client ahead of your own. But it is worth revisiting.

No term is more frightening to corporations than fiduciary duty. The business press is full of articles on what a burden this would be; many companies claim they would end 401(k) plans rather than sponsor these plans if they had to be fiduciaries in any meaningful sense. The mutual-fund companies and the rest of Wall Street lobby vigorously and donate generously to make sure their responsibility is limited and law enforcement is light, if not lame. As someone whose spouse is a fiduciary
overseeing a quarter-billion-dollar charitable endowment, I fail to see the problem in applying the standard of loyalty first to the saver or donor while putting your own interests as manager second. My wife’s fiduciary status makes her scrupulous about handling other people’s money; it requires that she treat her interests as subservient to those of the donors, the institution she heads and the beneficiaries of its grants. The rules and principles are clear enough, and corporations that are scrupulous in their conduct have nothing to fear from being fiduciaries.

On the other hand, if you want occasionally to play fast and loose with other people’s money or if you want to grab opportunities away from clients who have no idea you are picking their pockets, then the rigors of fiduciary duty would be intimidating.

Another solution to abuses would be to broaden responsibility from plan sponsors to make explicit a requirement that failure to deposit funds on schedule is a
per se
civil offense as well as a crime. The receivers of such funds, mostly mutual funds, should face strict liability for failing to report suspicious activity both to plan participants and the Labor Department. Making failure to report an offense would make it easier to get civil remedies and, in egregious cases, to prosecute the thieves.

The larger solution, though, is not just to stop thievery through excessive fees that are hidden, but to recognize that having workers save and invest for their own retirement is folly. The right path would be to revive traditional or defined benefit pension plans in which professionals manage the money. Companies dislike this because under current law the pension plan is a company asset, while a 401(k) plan is a separate asset. Easy fix. Make pension plans a separate asset and let companies report the values separately, provided they put in enough money every year to make sure a plan has more than 100 percent of the money needed if the plan is frozen.

Corporations will resist this option because they will be obliged to put more hard cash (rather than potentially devalued company shares) into the plans. Workers may resist, too: they may get less cash in their paychecks because a larger share of total compensation is set aside for their old age. But it would help ensure that America does not become a land of people who worked all their lives only to end up dependent on handouts.

18.
You may resent
paying nonexistent taxes on behalf of pipeline companies that put your life at risk unnecessarily, but there’s more where that outrage comes from. Consider that you also have to pay the costs of four other tax policies that add up to far more than the imaginary tax that pipeline owners pocket. The first of these benefits corporations, the second the executives who run these companies. The third further enriches the highest-paid workers in the history of the world, namely, the speculators who run hedge funds. The fourth, and perhaps most egregious of all, results from rules that let many of the already superrich live tax-free.

Congress requires that taxes be withheld from your pay, but it lets executives and hedge fund managers pay taxes when they choose to, which is often years and sometimes decades in the future. As for profitable corporations, Congress
requires
them to delay paying part of their taxes.

Earn-now-but-pay-taxes-later schemes fill thousands of pages of fine print in tax law, regulations, confidential contracts and special tax deals known as
private letter rulings
. But let’s peek behind the curtain.

BALANCING THE BOOKS

For big business, it all begins with keeping two sets of books, that same accounting oddity we encountered in talking about utilities. Once again, there’s a set for shareholders and another for the Internal Revenue Service. The two sets of rules in keeping these books are known as
book accounting
and
tax accounting
. Despite all the loud complaining about the costs of government regulation and paperwork, this is an area where big business wants to endure the extra expense. Why? Because it’s lucrative for companies, while you pay the cost.

The whole purpose of tax accounting is to delay paying taxes. That’s it—profit now, pay later. This is achieved principally through laws that let companies write off the cost of new equipment on tax returns faster than on financial statements sent to investors. As long as a company keeps growing, the difference between the fast tax write-down and the slower shareholder (or book) write-down creates an expanding pool of money.

Congress does not require collection of data on how much these corporate tax deferrals cost, but we can get an idea from one industry that accounts for about 2 percent of the economy, the corporate-owned electric utilities. A study looked at the value of tax accounting benefits to corporate-owned electric utilities. In 2006 alone, the tax breaks were worth almost $12 billion. Looking over the entire period since accelerated depreciation began in 1954, the study found the total value of these tax breaks over fifty-three years was the equivalent of writing the industry a check in 2006 for $472 billion. That comes to more than $1,500 per American. The total is equal to almost half the $1 trillion paid that year in individual income taxes.

MSB Energy Associates in Madison, Wisconsin, prepared the study for the American Public Power Association, which represents tax-exempt electric utilities operated by cities, cooperatives and special districts. That the corporate-owned electric industry has not challenged the findings of this and previous MSB studies suggests that the actual savings are probably even larger than the study said. The delayed payment of taxes isn’t a short-term thing; sometimes payment is delayed three decades or more. Some big businesses—Enron, for one—described their tax departments internally as profit centers because, plain and simple, companies like Enron make money off taxes.

Here’s the mechanism. Consider a company that earns a billion-dollar profit. With the corporate tax rate at 35 percent, the company’s profit and
loss statement to shareholders shows $1 billion of pretax profit, reported to shareholders as a $350 million tax and a $650 million after-tax profit.

But down in the fine print of the financial statements, in a supplemental note to the cash-flow statement, the company reports how much cash it paid in taxes. In reviewing thousands of these notes over the years, seldom have I seen a “cash paid for taxes” line larger than the accounting charge. Far more often that number had parentheses around it, like this—($2,000,000)—meaning the company got back $2 million more from the government than it paid out. But let’s look at a real example.

Remember Entergy, the big New Orleans utility holding company? Its operating utilities provide power to Louisiana, Arkansas and parts of Alabama and East Texas (see
page 78
). The “book” accounting report Entergy prepared for shareholders in 2009 illustrates the chasm between reported and actual taxes. That year Entergy reported revenues of $10.7 billion, of which it kept as profit almost $1.9 billion, or 17.5 percent, compared to just under 10 percent for most very large companies. Entergy told shareholders its profit was reduced by income taxes of $633 million, but in the footnotes Entergy revealed that it actually paid only $43 million in taxes. That meant that although its
reported
tax rate was almost 34 percent of profits, its
actual
tax payments came to just 2.3 percent of profits.

Citizens for Tax Justice uses a more sophisticated measure of taxes, one that includes the value of deductions for stock options granted to executives. Robert S. McIntyre, its no-nonsense executive director, calculated that for the ten years ending in 2011 Entergy reported profits of $15.2 billion and paid no federal corporate income taxes. Instead it got refunds of more than $1.5 billion, giving it a negative tax rate of 10 percent.

Again, write-downs and depreciation account for most of the disappearance of taxes.

That difference between what Entergy reported as tax expense on its shareholder books and its tax books constitutes an interest-free loan from the government financed with your tax dollars. That loan may be paid back in a few years or in decades, but as long as a company keeps growing, its interest-free loans of deferred taxes generally do, too.

Warren Buffett is one who has benefited from such interest-free loans. As we saw earlier, his utility holding company, MidAmerican Energy Holdings, operates electric utilities from Iowa to Oregon, as well as pipelines and other monopolies whose prices, or rates, are set by government. In the three years 2007 through 2009, MidAmerican reported revenues of $32.6 billion and pretax profits of $5.9 billion, or 18 percent. It also
reported to shareholders income taxes of $1.7 billion or 29 percent of profits.

When it came to actually paying taxes, Buffett’s MidAmerican made another profit. The company paid taxes in 2007, but got refunds in the next two years. For the three years, cash paid for income taxes was
minus
$141 million, giving it an income tax rate of
negative
2.4 percent.

In 2009, MidAmerican had another $796 million in deferred taxes. The average weighted length of these interest-free loans was twenty-eight years.

Buffett would also like to keep the taxes that customers of his monopolies are required to pay him. His lobbyists won repeal of an Oregon law that required MidAmerican’s PacifiCorp utility to turn over to government taxes it charged as part of customer rates or give the money back to customers. That law was passed after I revealed that Enron, which owned the Portland General Electric utility, did not pay income taxes collected from ratepayers. Nearly $1 billion paid by people in and around Portland over nine years never got to the federal or state governments, as the subsequent investigation by Congress’s Joint Committee on Taxation staff confirmed.

Now, let’s compare how Congress treats big businesses like Buffett’s utility holding company to how Congress treats you. Congress requires that your income taxes come out of your paycheck before you even get paid. It lets Buffett’s company pay its taxes years into the future. How well off would you be if you had the same deal as big business? Imagine being allowed to keep all of your income tax for thirty years before turning it over to the U.S. Treasury. Let’s assume you owed $1,000 of income tax in 1982, but rather than having the money withheld from your paycheck, you used it to buy a bond that paid you the after-tax equivalent of 5 percent interest, which compounded until the bond matured in 30 years.

When 2012 arrived, you cashed in your bond, paid the government the $1,000 and pocketed more than $3,300 of interest. That would be a sweet deal, obviously, but some corporations do even better. And they do it at taxpayer expense.

Let’s look at this scenario from the government’s point of view. In 1982, the government borrowed $1,000 to make up for the tax that was not withheld from your paycheck. Uncle Sam paid interest at the same rate that you invested, 5 percent. Because the government spent more money than it collected every one of those thirty years (except for the last two years of the Clinton administration), that means it also borrowed the interest on the interest, compounding it.

Come 2012, the government finally collects that $1,000 from you, but only after shelling out $3,300 of interest while it waited for your taxes to arrive. And because of inflation, that $1,000 from 1982 buys only $415 worth of government services in 2012.

In summary form, what is the net result of our current policies?

Big Business
delays paying $1,000 for thirty years, collecting $3,300 interest on the delayed tax money.