Acting Manhattan U.S. Attorney Announces Settlement Of Tax Shelter Lawsuit Against AIG For Entering Into Sham Transactions Designed To Generate Bogus Foreign Tax Credits
American International Group Agrees to Disallowance of More Than $400 Million in Foreign Tax Credits and Imposition of 10 Percent Tax Penalty
Audrey Strauss, the Acting United States Attorney for the Southern District of New York, announced today the settlement of a tax refund lawsuit brought by insurance and financial services company AMERICAN INTERNATIONAL GROUP, INC. (“AIG”) involving seven cross-border financial transactions that the United States asserted were abusive tax shelters designed to generate bogus foreign tax credits that AIG improperly attempted to use to reduce its tax liabilities in the United States. AIG filed this tax refund lawsuit in 2009, seeking to recover disallowed foreign tax credits and other taxes related to the 1997 tax year. The United States obtained overwhelming evidence that these transactions lacked any meaningful economic substance, were devoid of any legitimate business purpose, and instead were designed solely to manufacture hundreds of millions of dollars in tax benefits to which AIG was not entitled. According to the terms of the settlement, approved yesterday by United States District Judge Louis L. Stanton, AIG agreed that all foreign tax credits that AIG claimed for the 1997 tax year and all later tax years for these same transactions, totaling more than $400 million, would be disallowed in their entirety. AIG further agreed to pay a 10% tax penalty.
Acting U.S. Attorney Audrey Strauss said: “AIG created an elaborate series of sham transactions that were designed to do nothing – and in fact did nothing – other than generate hundreds of millions of dollars in ill-gotten tax benefits for AIG. Our system of taxation is built upon the premise that all citizens and corporations must pay the taxes they owe, no more and no less. People and companies who game that system to avoid paying their fair share of taxes undermine public trust in our tax laws. We will continue to be vigilant in holding accountable those who use economically empty transactions to avoid paying their taxes.”
As alleged in filings in Manhattan federal court:
During the mid-1990s, AIG Financial Products Corp. (“AIG-FP”), a wholly-owned subsidiary of AIG, designed, marketed, and entered into seven cross-border structured finance transactions with various foreign banks. These complicated transactions, involving hundreds of agreements, numerous shell companies, and intricate cash flows, had no economic substance but rather exploited differences in U.S. and foreign tax laws to create profits from U.S. tax benefits. In particular, the transactions generated more than $400 million in foreign tax credits that AIG used to reduce its U.S. tax liabilities. The U.S. has a worldwide tax system that taxes companies on income earned abroad, but also grants credits for foreign taxes paid. AIG, was able to turn a profit by obtaining credits from the U.S. Treasury for foreign taxes it did not actually pay in full. AIG obtained more than $61 million in foreign tax credits during the 1997 tax year alone, the tax year resolved by the settlement.
In 2008, the Internal Revenue Service (“IRS”) issued a Notice of Deficiency to AIG that, among other things, disallowed the foreign tax credits AIG had claimed in connection with the seven transactions and asserted a 20% tax penalty. In 2009, after paying the deficiency, AIG filed a lawsuit against the United States in Manhattan federal court challenging the IRS’s determination and demanding a refund. In response, the United States asserted that the IRS had correctly disallowed the tax benefits because the transactions had no economic substance, a basic requirement for seeking tax benefits.
According to the terms of the Settlement, AIG agreed that all foreign tax credits that AIG claimed in connection with the seven cross-border transactions that were the subject of the litigation would be disallowed in full for the 1997 tax year and all subsequent tax years during which the transactions were operating, totaling more than $400 million. AIG further agreed to pay a 10% penalty. The settlement allows AIG to retain certain income expense deductions relating to six of the transactions that were structured as borrowings, as well as remove certain amounts related to the transactions from its taxable income. In addition, the settlement resolves certain of AIG’s tax refund claims unrelated to the cross-border transactions stemming from AIG‘s restatement of its publicly filed financials.
The Acting U.S. Attorney thanked the Tax Division of the Department of Justice, as well as the IRS Office of Chief Counsel, including Jill Frisch, Matthew Avon, Jackie Levinson, Barbara Felker, and Michael Gilman, for all of their assistance throughout the litigation.
The case is being handled by the Office’s Tax and Bankruptcy Unit. Assistant U.S. Attorneys Pierre Armand, Talia Kraemer, Jennifer Jude, and Charles Jacob, and former Assistant U.S. Attorneys Nicolas Boeving, Arastu Chaudhry, John Clopper, Joseph Cordaro, Caleb Hayes-Deats, and Bertrand Madsen, handled the case.