Mississippi probably will file criminal charges against accounting giant KPMG because it created a tax strategy that the state says illegally let WorldCom, now called MCI Inc., shield billions of dollars from taxes, sources close to the case said Friday.
KPMG devised MCI’s tax strategy, which treated management foresight as a royalty. Mississippi says it would not have approved the plan had it been told that category was included.
About 15 other states and the District of Columbia are still thrashing out hundreds of millions of dollars of back tax claims with MCI because of this royalty strategy.
…Under Mississippi law, “any person who willfully attempts in any manner to evade or defeat any tax â€¦ or assists in the evading of that tax or payment thereof” can be found guilty of a felony.
While KPMG’s strategy isn’t uncommon among corporations with lots of units in different states, the accounting firm offered an unusual twist: Under KPMG’s direction, WorldCom treated “foresight of top management” as an intangible asset akin to patents or trademarks. Just as patents might be licensed, WorldCom licensed its management’s insights to its units, which then paid royalties to the parent, deducting such payments as normal business expenses on state income-tax returns.
This lowered state taxes substantially, as the royalties totaled more than $20 billion between 1998 to 2001. The report says that neither KPMG nor WorldCom could adequately explain to the bankruptcy examiner why “management foresight” should be treated as an intangible asset. [emphasis added]
Why it works: It won’t lower consolidated income taxes at the Federal level , because the income and expense will offset when the books are consolidated. The point is greatly reducing or eliminating state income taxes. It’s a “made up” expense strategy, for the express purpose of state income tax evasion.