Officials Balked at a Drug Company’s Tax Shelter. Auditors Approved It Anyway.

The pharmaceutical company Perigo had a problem.

Consultants at giant advisory firm EY have devised an elaborate arrangement to enable Perigo, one of the country’s leading non-prescription drug manufacturers, to avoid federal taxes in excess of $ 100 million. However, an external auditor at the accounting firm BDO’s company questioned the adequacy of the setup.

Perrigo immediately replaced BDO with EY as an auditor. At least one EY employee also expressed concern that the tax office designed by his colleague was overly aggressive.

Still, according to a previously unreported document released in last year’s proceedings, EY’s auditor, also known as Ernst & Young, finally congratulated the deal.

Accountants have a reputation as a bean counter. In reality, their audits are the cornerstone of global capitalism. Investors need to be confident that the number of companies is credible and reviewed by credible outsiders. Therefore, asking a reputable auditing company to approve financial statements is a prerequisite for listing on major stock exchanges and attracting large investments.

To avoid suspicion that auditors overlook problems to please large customers, accounting firms are to maintain a lengthy relationship with the companies they supervise.

However, the problem remains for 20 years after a series of corporate accounting scandals spotlighted the lack of independence between audit companies and their key customers. Today, all four major accounting firms offer a wide range of consulting and tax planning services to large corporations. At the same time, they act as seemingly independent external auditors.

An internal EY email and memo released in a lawsuit last year in which the IRS challenged Perigo’s tax system and accused EY of building “abuse tax avoidance” was a single company tax shelter. Build and audit your work at the same time.

“When you are a consultant, you are affiliated with management. You are trying to make management really look good,” he said. Former Chief Accountant Lin Turner At the Securities and Exchange Commission. “It’s not the role of an independent auditor.”

Conflicts of interest between accounting firms have plagued investors for decades, but there are signs that the actions of the Big Four accounting firms are under scrutiny of new regulations.

Securities and Exchange Commission We are reportedly conducting an extensive review of conflicts of interest. Includes various services that Big4 provides to its clients. Senior officials from two major accounting firms, EY When DeloitteIs currently discussing plans to split the audit and consulting departments into separate companies. And this year, MPs asked a Treasury inspector general to investigate the revolving door between the Big Four accounting firms and the government.

Tensions over the multifaceted role of accounting firms are more pronounced in the lucrative business of advising companies on how to separate tax bills.

The Big Four accounting firms, EY, KPMG, PwC and Deloitte, have emerged as perhaps the most powerful private sector forces in US tax policy. They encourage federal authorities to fine-tune tax law to help their customers. A steady stream of lawyers from businesses goes in and out of the Treasury’s senior tax positions, where they create rules in favor of previous customers.

At the same time, the Big Four accounting firms are helping businesses move their profits out of the reach of the US government. Next, the corporate auditor (often a different group of employees from the same company who first created the structure) must approve the setup. In assessing their legitimacy and their impact on the client’s financial results, auditors frequently consult with colleagues who devise tax strategies.

The IRS has a dim view of these transactions.

Agencies are challenging offshore tax arrangements coca cola, Facebook When Western DigitalClaims that the US government is in debt of billions of dollars as a result of companies transferring much of their profits abroad.

In each case, the accounting firm that created the elaborate tax plan later approved the company’s books as an independent auditor.

“Auditors should be oversights of shareholders, but when audit firms design, implement and testify in court to defend sophisticated tax avoidance strategies for audit clients, they do their own job. “We provide opinions about this,” said Francine McKenna, a lecturer and author at the Wharton School of the University of Pennsylvania. Read the accounting newsletter extensively. “The company pays for lap dogs, not guard dogs.”

Perigo declined to comment except pointing out a securities report that disclosed that he had replaced the auditor. In one filing, “there was no disagreement” between Perigo and BDO.

EY spokesman Brendan Mullin said the company supports his work at Perigo. He said EY did not become a Perigo auditor until BDO approved Perigo’s financial statements for the first year.

“We went through all the processes and steps needed to get the job done, and the advice was appropriate when given,” Mullin said.

A BDO spokeswoman declined to comment.

Early 2000s, EnronHow the audit company Arthur Andersen At times, instead of protecting investors from deceptive executives, they did everything they could to please their lucrative clients.

In 2002, lawmakers proposed a radical overhaul of the laws governing the accounting industry, including crackdowns on conflicts of interest involving companies that provide services other than auditing.

However, industry lobbyists managed to shatter or eliminate those proposals. The Big Four accounting firms were finally allowed to continue their consulting business. Within the enterprise, these departments are growing faster than the mundane auditing business.

Today, the Big 4 is huge.EY, the world’s third-largest accounting firm, every year Revenue of about $ 40 billion We employ more people than Apple, Exxon and Pfizer total.

If Perigo bought omeprazole from the manufacturer and then sold the tablets to US customers, the profits would have remained in the US. They were subject to the 35 percent corporate tax rate of the highest country in the world at the time.

EY has created a workaround. Perigo has set up a subsidiary in Israel to purchase omeprazole, which has no employees or offices. The shell company then made a profit and sold the pills to Perigo in the United States. That is, most of Perigo’s pill income remained out of the reach of the IRS, not in the United States, but in Israel. Also, due to the violence of Israeli tax law, profits were not taxed in Israel either.

Perigo followed the formula pioneered by Big Pharma: Pharmaceutical companies like Merck When Pfizer He has led tax cuts in the United States by leveraging subsidiaries in low-tax countries such as Ireland and Switzerland. The IRS has challenged many such arrangements over the years, including the one used by the Bristol Myers to transfer profits to Ireland.

According to the IRS, EY’s maneuver has reduced Perigo’s US tax bill by more than $ 90 million over four years, and almost certainly by tens of millions of dollars thereafter.

BDO, a small part of EY’s scale, has been a Perigo auditor since at least 1994. His duties included approval of Perigo’s official financial statements and federal tax returns.

In June 2008, BDO auditors expressed concern about the tax plan devised by EY and Perigo, according to internal EY records released during a proceeding with the IRS. They were worried about how Perigo would distribute profits between Israel and the United States. If a large amount of profit is brought to an Israeli subsidiary that is not taxed, it could lead to an artificially low US tax bill.

A BDO auditor said the arrangement “may be challenged by the IRS,” according to a memo from the Internal Revenue Service. The auditor suggested a more conservative way to distribute profits between the United States and abroad.

Perigo executives hired EY staff to defend the tax structure.

Two months later, BDO approved Perigo’s financial statements for the year. It is not clear if or how the auditor’s concerns have been resolved.

By that time, however, Perigo had already decided to resign from BDO as an auditor and hire EY instead.

Soon, even some EY officials questioned Perigo’s offshore tax system.

Derek Burgess, a tax accountant at EY’s office in Grand Rapids, Mississippi, concludes with some of his colleagues that Perigo is pushing large profits on its Israeli subsidiary and could underpay US taxes. rice field. He is particularly concerned because if EY had to approve Perigo’s tax return and it was later discovered that Perigo was underpaying, the accounting firm could also be held liable. I did.

In February 2009, Burgess was preparing to visit Perigo’s headquarters a few days later, so he didn’t know how to proceed.

“I don’t know how to handle omeprazole. [sic] Many benefits in offshore enterprises, “he wrote to his boss Anna Faultman by email. “Do I have to worry about signing returns?”

It’s unclear what happened next, but a year later, when Perigo filed a 2009 federal tax return, EY officials approved it.

Burgess and Faultman did not respond to requests for comment. “A single email does not fully represent EY’s location, either when it was written or when EY’s work was performed,” said Mullin, an EY spokesman. ..

Perigo has paid EY $ 112 million for audits and $ 23 million for tax advice since 2009, according to securities filing data compiled by data company Audit Analytics.

In 2014, the IRS opposed the entire EY arrangement and later called it a “fake” lacking an “economic entity.” The IRS has sought $ 163 million in taxes, interest and fines.

Perigo paid the disputed amount and sued the IRS in a federal court in Grand Rapids in 2017. (This is a common sequence for companies facing a dispute with the IRS)

In a court filing last August, a Justice Department lawyer representing the IRS used very strong language to criticize EY. They accused the company of allowing “shell games” and “the exaggerated tax system to go wrong.” They said EY created Perigo’s unreliable economic analysis, which justified a favorable tax strategy, but was “not based on facts or economic reality.”

The battle was put to federal trial last year. The judge has not yet announced the verdict.

Regardless of the outcome of the case, Perigo has found another way to permanently reduce US tax rates.

In 2013, the EY backed up as the IRS first challenged the Israeli tax system. Perigo performs an operation called inversion, Merged with an Irish company. (Three years later, the Obama administration made it difficult for businesses to stop the reversal.)

Perigo is currently headquartered in Ireland, so it is home to almost all executives and is significantly tax exempt in the United States, which is by far the largest market.

Lauren Hirsch Contributed to the report of this article. Kitty Bennett Contributed to the research.