By Laura Saunders 

U.S. tax officials have thrown a historic one-two punch at wealthy Americans hiding money offshore.

On Oct. 15, they announced that Robert Smith, the 57-year-old private-equity billionaire who founded Vista Equity Partners, admitted he criminally evaded taxes on more than $200 million of income from 2000 through 2015 by using secret foreign accounts in the Caribbean and Switzerland.

Mr. Smith, who is famous for announcing at Morehouse College's graduation that he would pay off student loans for the class of 2019, will pay $139 million to the Internal Revenue Service in taxes and penalties. He will also forgo claims to $182 million in deductions for charitable donations, which could add more than $65 million to what he owes the IRS. But he won't be prosecuted.

At the same time, the U.S. officials charged Robert Brockman, a Houston-based billionaire and software CEO who was the sole investor in Mr. Smith's first private-equity fund, with hiding about $2 billion of capital-gains income from the IRS in secret offshore accounts from 2000 through 2018. Mr. Brockman, 79 years old, pleaded not guilty and was released on $1 million bond.

The two cases are landmark events in the U.S. crackdown on undeclared offshore accounts that has been under way since 2009. Mr. Brockman's alleged evasion of tax on $2 billion is the largest criminal tax prosecution ever brought, according to the Department of Justice, and Mr. Smith's $139 million payment is among the largest made in connection with secret offshore accounts.

"These extraordinary cases show the reach of the IRS and Department of Justice in tracking hidden assets around the globe. High-net-worth individuals should get their houses in order before the IRS comes knocking," says Caroline Ciraolo, a former top criminal tax attorney at the Department of Justice now with Kostelanetz & Fink.

The public documents in the Smith and Brockman cases offer a new window into the shadowy world of wealthy American tax evaders. They reveal both the large amounts of money involved and the lengths some people will go to in order to hide them -- even at a time when tax rates were comparatively low.

Here's a look at how it works, with a focus on Mr. Smith's case because the facts aren't in dispute. A spokesman for Mr. Smith and Vista Equity Partners declined to comment on his case. Mr. Brockman's attorney did not respond to a request for comment.

Is there a difference between tax evasion and planning to minimize taxes?

Yes, a big one. Tax avoidance can be legal, but tax evasion is the crime of willfully not paying taxes, and it must clearly be intentional. For example, Mr. Smith's six-page confession uses the word "willfully" 25 times to describe his misdeeds.

How do offshore accounts enable tax evasion?

Secrecy is key. It often begins when an American puts assets into foreign trusts, companies, and other offshore accounts nominally owned by foreigners to make it look like no tax is owed to the IRS. In reality, the assets are controlled by the American.

These offshore structures are hard for the IRS to investigate if they're in countries without treaties or agreements easing the exchange of tax information.

Mr. Smith admitted that he controlled entities in Belize and the Caribbean island of Nevis that weren't in his name. Those entities received pretax profits from his private-equity funds. He also controlled undeclared bank accounts in the British Virgin Islands and Switzerland, and he withdrew millions of untaxed dollars from them to buy and improve luxury real estate in Sonoma, Calif. and Switzerland.

How do tax evaders keep offshore accounts secret from the IRS?

They often employ go-betweens, and they frequently use encrypted communications and code names to cover their tracks.

For example, Mr. Smith said he paid an unnamed Houston lawyer who was a longtime adviser to Mr. Brockman more than $800,000 from 2000 to 2014 to set up and maintain false paper trails to hide his accounts.

Is tax evasion using offshore accounts a new trend?

No. It has existed for decades, but a sustained U.S. crackdown began in 2009 after Swiss banking giant UBS AG admitted it encouraged Americans to evade taxes and even sent bankers into the U.S. to market evasion schemes.

The crackdown, which had many facets, allowed the IRS to pierce the veil of bank secrecy in Switzerland and some other countries. As a result, more than 56,000 U.S. taxpayers at risk of criminal prosecution for undeclared offshore accounts entered an IRS limited-amnesty program and paid about $11 billion to resolve their issues. Foreign banks paid more than $6 billion.

How did the IRS detect Mr. Smith's tax evasion?

It's unclear. But in late 2013 or early 2014, Mr. Smith's Swiss bank told him it was poised to turn over information about his account to the IRS. Many Swiss banks did this to reduce their own penalties arising from the U.S. crackdown.

Mr. Smith then applied to enter the IRS's limited-amnesty program but was rejected in April, 2014 -- meaning that he was likely in the agency's sights already.

Mr. Smith is a noted philanthropist, even beyond his paying off the Morehouse graduates' debt. Did his offshore accounts benefit charities?

Mr. Smith's trust had charitable recipients, but he wasn't required to make donations. At the end of 2014, he contributed a substantial amount of offshore assets to the Fund II Foundation, his U.S.-approved charity.

While under IRS investigation, Mr. Smith made waves as a donor. For 2016 and 2019 he was named one of the top 50 U.S. donors by the Chronicle of Philanthropy.

Charitable endeavors, such as Mr. Smith's creation of a guide to help other colleges and donors replicate his Morehouse program, can burnish a defendant's image in the eyes of prosecutors and judges. Neither he nor the government has said why he is giving up $182 million of charitable-donation deductions as part of his settlement.

Why wasn't Mr. Smith indicted, if he evaded taxes on $200 million?

David Anderson, the U.S. Attorney for the Northern District of California, which handled the case, said Mr. Smith's agreement to cooperate with the government -- presumably in Mr. Brockman's case -- "put him on a path away from indictment."

DOJ procedures don't allow defendants to buy their way out of prosecutions, but cooperation can be grounds for leniency. Still, some tax specialists find Mr. Smith's agreement unusual.

Jack Townsend, a lawyer who publishes the Federal Tax Crimes blog, says, "He got a hell of a deal, considering what he did."

Write to Laura Saunders at laura.saunders@wsj.com

(END) Dow Jones Newswires

October 23, 2020 05:44 ET (09:44 GMT)

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