Telling Stories

 

For the most part my work consists of speaking. At the beginning I make a point of telling my audience that I didn’t bring a PowerPoint presentation, and I didn’t bring instructions on how to use Excel to detect fraud in accounting records. I don’t use technology in my presentation because the topic (fraud, embezzlement and abuse in small business and municipal government) relates to a human behavior problem, not a technological problem. After making that point, I spend most of my time telling stories.

We’re all affected differently by someone who says, “If you do A, then B might happen,” than we are by someone who says, “I did A, and B happened to me.” We want some connection to the principle being discussed, some way to picture its application in real life. That’s why the most sought-after speakers are the ones who have some compelling story to tell, not the ones who study their subject matter and repeat it.

Aesop knew the value of using two characters, the tortoise and the hare, in a discussion about “slow and steady.” How hard would it be to describe that principle without telling a story?

The stories in each Gospel get Jesus’ points across with remarkable clarity. The Lost Sheep, the Lost Coin, the Prodigal Son – each one humanizes the point and allows the listener to put him or herself in the story. The beauty of the parables is that we can usually imagine ourselves as any of the characters in them, and take a different lesson from each.

In Boy Scouting, a leader can close a meeting or gathering with what’s called a Scoutmaster’s Minute, a brief story relating some point of the Scout Oath or Law. It’s usually some variation on a fable or a parable, but it’s always a story. It allows a young mind to focus on and remember the elements of the story about the child or the axe or the monkey (monkeys are always good in stories) while the principle quiet slips in underneath.

In business, the credibility accrues to the managers or leaders with the best stories to tell. We’re much more willing to follow someone who’s been down a similar path before, and those managers that have lived to tell the stories are the ones we listen to.

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Trust, But Verify.

 

 

It was either just after 3 a.m. count or just after, I don’t remember. In the federal prison camp where I lived in 2005, it was unusual but not uncommon for the officers to allow some of us to read quietly or work in the unit’s library after bedtime, provided we stayed quiet, didn’t wander, and stayed put for the midnight and 3 a.m. counts. I was in the library with Jack, a lawyer from Michigan, and Lex, who was trained and licensed as a lawyer but had decided on architecture instead, and we were trying to help Jamie. Jamie had misrepresented his earnings and received a mortgage on a beautiful piece of property from a prominent family. And every time Jamie needed more money after that, he did a cash-out refinance on the home. You can do that… in a prolonged, booming market.

Jamie had a court date the following day (actually it was later that day). He’d been convicted of five counts of bank fraud for the original mortgage and four subsequent refinances. Since in the aggregate the total was over $1 million, he was facing a sentencing enhancement – more time – on the bank fraud charges. His legal reasoning was that because the bank was no longer on the hook for the original mortgage and the first three refinances, he shouldn’t have to face the additional charges or the sentencing enhancement. It was a stretch, I know. In general, you don’t get to claim you didn’t fraudulently obtain money just because you paid it back before you were discovered. I have some experience with that one.

My clear impression had been that on his applications, Jamie had simply filled in an amount of income he thought was appropriate for the loans and that the bank had simply approved them. It’s still bank fraud of course, but hey, people do it – right? But at one point I asked Jamie to confirm a dollar amount and he said, “Well, my wife’s W-2 said $200,000.” (I could be off by a few thousand on that)

He now had my full attention. I asked him, “W-2?”

“Sure,” he said. “My corporation recognized a liability to her for the salary they couldn’t pay at the time, and that’s the number on the W-2.” (I’m fairly sure that the amount they couldn’t pay “at the time” was probably $199,900.)

“Did you file a tax return and recognize a tax liability on that $200,000 in gross income?” I asked.

“Of course, not. She didn’t get the money. Why should we pay tax on money we don’t have yet?”

I realized at that point that my buddy hadn’t done anything that could be explained away as a misunderstanding or a question of interpretation or even a question about the definition of “income.” He had fabricated a document and presented it as proof of his wife’s income.

Patiently I explained to him that a W-2 is a cash-basis reporting return. It’s a record of actual money paid by an actual company to an actual person. It says real assets have been transferred from one entity to another. An executive with a successful company might be able to show a bank an IOU from his employer as collateral for a loan, but then the bank has the right to investigate the employer’s background and creditworthiness. In this case, had the bank looked into the employer’s finances, they would have seen, well, tumbleweeds.

I went to bed shortly after that, realizing that there was little I could do to help Jamie’s case.

 

The Moral (Besides the whole “Don’t defraud banks” idea) is that maybe it isn’t enough to see a W-2, or even a few paystubs. As a lender, with a customer’s paystubs in hand, I’d be interested in seeing his bank statement to locate the direct deposits from those paystubs. If he gives me a W-2, I want to see the tax return; I might even have him bring in a statement from the local  IRS office showing his account information (they can print on the spot, and they’re free). Our mortgage lender asked for our tax returns and verification directly from IRS when my wife and I bought this house. But Jamie’s bank hadn’t.

Trust, but verify. доверяй, но проверяй. Your customer’s loan packet is composed of documents he or she can produce, and some documents he or she can’t (or shouldn’t) produce. For the same reason our kid’s college wanted his high school transcripts directly from the high school, you should gather information produced by third parties. And things might get interesting if you compare it to the information your customer gives you.

Wells Fargo’s behavior was miserable and unethical. But was it fraud?

Okay, so as far as I can tell, the retail sales culture at Well Fargo was more Glengarry Glen Ross than neighborhood bank. And there was clearly plenty of misbehavior from the top of Carrie Tolstedt’s organization down.

But was it fraud?

 

Maybe I’ll find out I was wrong, but it appears the overwhelming majority of “fake” accounts were opened for fake customers. That tells me that the sales quotas and incentives were for new accounts, not for revenue generated. There appear to be multiple accounts opened for actual customers and actual credit lines opened, but I still have to ask, how much revenue did the fake accounts create – and how much of an effect could any fake revenue have possibly had on WFC’s financial reporting? If I have a Wells Fargo VISA card sitting in a drawer in some branch somewhere that I know nothing about, I’m not paying interest, I’m not generating transaction fees and I’m not paying overlimit or late fees. Questions about identify theft on the part of the local staffer aside, that account is a draw on WFC’s earnings – not a bump.

 

Here’s another thought: to the extent that their customer base was artificially inflated, and to the extent that call center provisioning is based on the number of customers, wouldn’t that mean that Wells actually could have been over-provisioning their call center resources, leading to more responsive customer service than they might have had?

 

For Senator Warren to suggest that CEO John Stumpf give back his earnings and bonuses is pretty rich. Given that Harvard Law hired Ms. Warren largely because of her fraudulent claim to be part Cherokee, when will she be giving back the $300K per class taught that she was “earning” there? That’s a clear case where her revenue did indeed increase dramatically after her false statements.

If anyone should be looking at this, it might be the labor boards in the states Wells has branches, because the sales culture was so fierce and pressure to produce so great. But to the extent their earnings weren’t materially inflated due to the fake accounts, the only fraud here would be on that singular line in their annual report that says, “We have X million customers.” What was the dollar value of that?

It must have been a miserable place to work. And managers may very well have prospered for demanding unreasonable results from the ordinary workers. And Wells’ culture looks like it needs a serious adjustment, perhaps with the assistance of a little-known speaker on business ethics from northern Vermont.

Just don’t call it fraud.

Yes, It’s Taxable.

Periodically every accountant gets The Question: “Do I have to pay taxes on the money I earn running guns, peddling influence, selling drugs, bookmaking, poaching exotic wildlife? How is the IRS going to know? What happens if I don’t tell anyone?”

It’s all taxable…

The short answer is Yes. Money you earn in most any illegal activity is fully taxable as though it was wages paid from your job, profit from your sales on eBay, or interest you get on your 0.000004% account at the bank. It’s all taxable, and the IRS may strongly suggest that you file a tax return once your name hits the newspaper when you get popped.

Why would anyone know this stuff?

There’s no reason for most people to know this stuff, but different illegal activities can be treated differently on your tax return. For example, if you steal a few thousand dollars that you find unattended at work, and only do it once, you report the gain on Line 21 under miscellaneous income. You’d pay your marginal tax rate on the few thousand dollars as though stealing was just a hobby. But let’s say you set up a scheme at work where you regularly steal a few thousand dollars and devote time and energy to managing the fraud. The IRS might say you’re “engaged in the trade or business” of regularly stealing money, and hit you with the additional Self Employment Tax. That’ll add 13.8% to the tax on the illegal money. Ouch.

Wait, there’s more!

Using the example of embezzling from work, the two types of stealing will be treated differently later on when you’re ordered to pay back the money, too. It’s tax deductible, but paying back the one-or-two time embezzled funds won’t get you much of a deduction. Your restitution payments will be included with your Miscellaneous Itemized Deductions, subject to the 2% of Adjusted Gross Income limit. So if you don’t itemize or you didn’t pay much back over the course of the year, your payments won’t help you out. However… if you’d been hit with the “trade or business” determination and had been subject to the Self Employment Tax, then you’d be able to take a business loss deduction for the restitution payments without having to itemize deductions. It would really be a case of paying refunds to your “customers.”

You mean I can deduct that?

Now, there’s another factor to consider before you start your life of tax-compliant crime. If you’re in pretty much any business but the drug business, keep good records, because your expenses are deductible. You bought a van to smuggle migrant workers over the border? You can take the standard mileage deduction or actual expenses on the van (Sorry, not both. Let’s not be greedy.). You bought a computer system to manage your sports betting business? You can depreciate it. You hired 10 telemarketers to get on the phone when people press ‘1’ to talk with Rachel at Card Services? Their wages are deductible (be sure you pay their employment taxes, of course!).

BUT.. if you’re in the drug business, none of that applies. You really don’t need to keep any records. The reason is that since the Drug War started ramping up in 1982, expenses involved in the sale of illegal drugs haven’t been deductible. You’re allowed an adjustment for the cost of the drugs you buy for resale plus packaging and adulterants, but nothing else. Gas for the truck you use to smuggle the product? Not deductible. Wages for your bodyguards? Nope. That warehouse you rented to store your inventory? Sorry. Drug traffickers get hit hard by the tax law, and there really isn’t much of an appeal process involved. The statute (it’s Section 280E of the Internal Revenue Code) says you get hit, so you get hit.

Legal drugs can be illegal too…

But today we have a new issue: Not only have several states legalized therapeutic marijuana use, but some have legalized recreational marijuana use. And in places where it’s legal, that means someone has to be in the perfectly legal business of selling it, right?

The IRS doesn’t see it that way. Irrespective of the states’ legalization of the drug, the federal government hasn’t legalized it. That means that the marijuana dispensaries that operate legally under state law are still selling illegal drugs for federal purposes. And the IRS is a federal agency, so…

Yes, the dispensaries are getting hit hard until the law is changed, which could be some time. The rent they pay for storefronts – not deductible. Wages paid to their staff – not deductible. Light bill – nope. Insurance if they can get it – nope. For many people in the legal marijuana business, that means a federal tax rate of 40, 50, 60% or more on their legal income because most of the their business deductions are disallowed.

What goes to the IRS, stays with the IRS…

One last thing: Is it true that the IRS won’t call your local police if you file a return saying that you stole money? Yes, it’s true. The IRS is prohibited from using your tax return information for any purpose but assessing or collecting your tax. Their interest is always, ever and only about collecting the money – so they’ll take that prohibition seriously.

On the other hand, of course, the IRS is also statutorily prohibited from using its law enforcement power to intimidate, harass or bully tax payers who the Administration sees as their political enemies, and we saw how that worked out starting in 2012. But the conservative-organization-targeting effort involved corruption at the highest levels of the IRS. The Revenue Agents and Revenue Officers on the front line, the legions of office workers who process and examine returns, really don’t have a political focus to their jobs like senior management does. For the most part, if you tell them a secret, it’ll stay a secret.

Just say No. Really, just say No.

Bottom line: On balance, engaging in illegal activity will likely get you in trouble with the law. And if you get in trouble, you could very well end up in tax trouble as well – especially if you make some affirmatively false statement to the IRS to hide that illegal income. So, all things considered, it’s ultimately easier (and more profitable) to just not do it in the first place.

Holy Thursday, Saint Peter and Me

Yes, I know I bring this up every year… but every time I think about that night, I can’t help but compare it to every day of our lives.

Today being Maundy (or Holy) Thursday, there’s a lot of discussion about Peter and how his moment of weakness figures in the Passion story. Growing up Catholic, I learned three and only three things about Peter: that he was the first Pope (which he wasn’t, really), that he was crucified upside down (which may be an urban myth), and that he denied Jesus (which is true of Peter… oh, and of pretty much every other Christian in history, too). I was taught, and I suppose we are still taught, that Peter’s denial stemmed from fear of being arrested for being a Christian.

But think about it… There were no Christians yet, strictly speaking (The first mention of the word in scripture doesn’t happen until the faith makes its way to what is now Turkey). There wouldn’t be large-scale persecution of Christians until years after the events of this week. And if Jesus’ followers had been subject to arrest, Peter would have been jammed up in the garden, wouldn’t he? He was clearly one of the gang, he made a spectacle of himself swinging for Malchus with his sword – so even if he wasn’t going to be arrested for being a Christian, one would think he’d at least have been popped for Assault with a Deadly Weapon, no? (Rough place, I guess. I wouldn’t have wanted to be in a bar fight in first-century Jerusalem.)

My feeling, and it really is only a feeling, is that Peter didn’t deny Jesus out of fear for his own life. He denied Jesus because he was mad at Jesus.

Think about it… Here we are at supper on Holy Thursday (Okay, so they probably didn’t call it Holy Thursday that year), and Jesus says, “One of you will betray Me.” And eleven guys look around suspiciously at each other. When Peter pipes up with grand pronouncements about how he’ll live for Jesus and die for Him if necessary, Jesus knocks him down in front of everyone: “Peter, before this night is over, you’ll be telling people you don’t even know me.” Peter’s spent all this time thinking he occupied a position of prominence among the apostles, yet how’s he feel now, being shut down in front of the other guys with a statement he won’t accept and can barely comprehend?

[Hey, strictly as an aside, how dense are these guys? Jesus says, “One of you will betray Me.” Everyone looks around suspiciously. Judas stands up to leave, probably sweating bullets because now he’s busted: he knows Jesus knows. Jesus looks at Judas and says, more or less, “Pal, you do what you’ve gotta do.” Judas bursts out of the room, and the other eleven look at each other and say, “Gee, who was Jesus was talking about?” Well, DUH.]

Anyway, fast forward to the garden, where Jesus goes to pray and asks His friends to pray with Him… whereupon Peter and the sons of Zebedee fall blissfully asleep. [Hey, another aside… The Gospel of John, son of Zebedee, doesn’t seem to mention Peter and the sons of Zebedee falling asleep when Jesus needs them most, does it? I bet if Peter wrote one of the gospels that little detail wouldn’t make it to the final version either.] Jesus wakes Peter up, and asks him, “Could you not pray one hour?” A less kind way of saying that would be, “I’ll tell you what, Peter. You don’t have to walk through fire or endure torture or give your life for Me… how about staying awake for sixty minutes, you think you can manage that one?” Ouch! Peter, Speaker of Grand Pronouncements, is shut down. Again.

Minutes later, the torch-and-pitchfork crowd comes to the garden to arrest his friend and Peter sees a chance to redeem himself. He draws his weapon and springs into action like the Canadian Mountie, “I’ll save you, Jesus!” And Jesus shuts him down. Again: “Put that thing away, Peter.” He heals the man Peter attacked. And if that isn’t enough, Jesus adds insult to injury: “If I called out for help, this garden would be crawling with angels, Peter. And not those chubby little tykes in the paintings, either, but battle-hardened Chuck Norris-type angels whose first assignment was throwing the bad guys out of Heaven.” In other words, “Peter, I don’t need help here. And if I did, I wouldn’t be calling you.” Moments later, Peter sees three years of ministry go down the drain as his friend gives up and allows Himself to be taken into the darkness.

Is it any wonder, really, is it anything but inevitable, that hours later in the courtyard, in that middle-of-the-night netherworld where nobody really knows what time it is, that Peter – hungry, demoralized, insulted, confused, discouraged, sleep deprived – will be asked, “Aren’t you one of His followers?” and answer, “Jesus Christ, I don’t even know that guy.”

Yeah, cock-a-doodle-do.

I’m given to grand pronouncements like Peter. I suspect most of us are. We hear stories about martyrs and think, Yeah, I could do that. I could travel to a distant land and preach the Gospel and face arrest or torture or death for Him. It’s so romantic, it’s so glamorous, it so, so, so feeds my flesh to imagine myself praising Him while guards beat me in a Chinese prison. Yet let a coworker look at me funny when I mention something my pastor said on Sunday, and I make a mental note to tone down my Christian references at work. I guess it’s a good thing my workplace isn’t a Chinese prison, isn’t it?

All day long we make little deals with God about what we expect in return for our exemplary living. All the things He owes us for what we do for Him. All the ways we intend to redeem ourselves on our own terms. But the bottom line is that those grand pronouncements and private unilateral deals all serve to tell God how important we are to Him, not how important He is to us. So they fall apart as soon as we pray for something and don’t get it. Or pray for something and get some other blessing or different gift. And suddenly we’re mad at Him for not getting what we want, and we lash out, privately or publicly: “Christ, I don’t even know that guy.” Like we’ll ever learn.

As Keith Green said in a reversal of the old armed-robber line, He doesn’t want our money: He does indeed want our lives. He doesn’t want us to die for Him even a tiny bit in comparison to how much He wants us to live for Him. He doesn’t want grand pronouncements or big promises as much as He wants us to know the joy of being near Him. He wants us to stay awake and pray. And if we fall asleep in prayer, well, He wants us to know He’ll be there when we wake up, too.

Anyway, that’s what was on my mind today.

EITC Fraud

http://www.accountingtoday.com/news/tax-practice/tax-fraud-blotter-generating-business-77335-1.html

Many years ago I had a tax client who told me that when she was a fresh-faced young lawyer in DC she had worked on the EITC’ s enabling legislation. According to her, the legislative intent was to mitigate the highly regressive nature of Social Security taxes – because the large majority of working poor paid much more in FICA than they paid in income taxes. Today, of course, any practitioner can tell you that the EITCs reflected on many tax returns far outweigh the Social Security taxes paid by those clients. The program has become a cash benefit program with a one-page application (A $2,400 EITC for a taxpayer in the ‘sweet spot’ of income and dependents is more than a single individual receives in food stamps in a year – and no state’s food stamp program has an application as easy as Form EITC).

The ease of application and the speed with which refunds are issued make the program an easy target for abuse and fraud. And because the abuse and fraud takes place $500, $1,000 or $2,000 at a time, enforcement is never really cost effective unless IRS can find an organized scheme involving the preparers. In addition, IRS – already suffering an image problem after the exposure of political corruption that goes to the very top – would suffer a public relations nightmare by attempting to claw back billions paid out to the (supposedly) deserving working poor.

Much like combating any other fraud, then, the answer has to lie with prevention. Reducing benefit levels to something more in line with the EITC’s original intent might reduce the financial incentive for abuse, but no Congress will consent to what will be seen as  punishing the poor. Simple safeguards like limiting payments to US-only addresses might help some, too. And auto-delaying the disbursement of the EITC portion of refunds (my state uses two disbursements for many refunds) for the next tax season or two to allow IRS some time to understand the problem would be a little unpopular but somewhat effective.

But my strong, if unscientific, opinion is that the bulk of questionable EITC payments go to individuals, not to rogue preparers or criminal gangs. Plenty of savvy taxpayers manage their income carefully with part-time or temp work to hit the sweet spot at the top of the EITC curve and then stop working for the year. And plenty simply take advantage of a basket of federal and state benefit programs of which the EITC (and some state EITCs) are just components.

In other words, there will be no legislative or technological solution to this. We have raised two or more generations of Americans for whom benefit programs are just part of the household budget. They may equal or even outnumber the “poor” that you and I think of as “poor.” Virtually every benefit program pays a significant percentage to people who shouldn’t be on the program, either because it’s easier to go along  with the flow or because of the political backlash for attempting reform. And until our culture undergoes a change of heart, then every program – the EITC included – will suffer.

I can’t steal from you until…

I say this in every presentation, so often I’m not sure why people ask me to come and say it in person. But here it is: I can’t steal from you, until you trust me.

We’d like to think we can see it coming, and we’d like to think we can tell which job applicant out of 20 or 50 or 100 will be the one to watch out for. But we won’t. After all, if we could tell in advance who was more likely to steal from us, then we wouldn’t hire them! In fact, the one thing my victims said most frequently after my crimes were discovered was, “But he was such a nice guy.” Nice indeed.

We can’t control the darkness in someone’s heart, or their greed, or their financial pressures. We can’t control the mental gymnastics they use to justify what they do. All we can do is limit the opportunity for someone to take advantage. If our controls are strong and our culture is one of accountability, then one of two things will happen: either the thief will think twice about stealing, or the first instance of theft will be revealed immediately. In either case the potential loss will be limited, perhaps even to zero.