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United States v. Stein

May 1, 2007

UNITED STATES OF AMERICA
v.
JEFFREY STEIN, ET AL., DEFENDANTS.



The opinion of the court was delivered by: Lewis A. Kaplan, District Judge.

MEMORANDUM OPINION

This matter is before the Court on motions by (1) all defendants for an order, pursuant to FED. R. CRIM. P. 16, compelling the government to produce certain materials in the files of KPMG LLP ("KPMG") and (2) KPMG to quash a Rule 17(c) subpoena seeking the same materials.

I.

A. Background

1. The Investigation

In 2001 or early 2002, the Internal Revenue Service ("IRS") began investigating tax shelters, including a number that are subjects of the indictment in this case. In early 2002, it issued nine summonses to KPMG, which was less than fully compliant. Accordingly, on July 9, 2002, the government filed a petition in the United States District Court for the District of Columbia to enforce them.*fn1

A few months later, the Permanent Subcommittee on Investigations of the Senate Committee on Governmental Affairs "began an investigation into the development, marketing, and implementation of abusive tax shelters by accountants, lawyers, financial advisors, and bankers."*fn2 This led to public hearings in November 2003 at which several senior KPMG partners or former partners -- five of them now defendants here -- testified.*fn3 As noted elsewhere, the firm's reception at the hearing was not favorable.*fn4 In the early part of 2004, the IRS made a criminal referral to the Department of Justice ("DOJ"), which in turn passed it on to the United States Attorney's Office for this district ("USAO").As detailed in a prior opinion, KPMG retained new counsel and engaged in vigorous efforts to forestall the indictment of the firm.*fn5

2. The Deferred Prosecution Agreement

On August 29, 2005, KPMG and the government entered into a Deferred Prosecution Agreement ("DPA").*fn6 KPMG agreed, among other things, to waive indictment, to be charged in a one-count information, to admit extensive wrongdoing, to pay a $456 million fine, and to accept restrictions on its practice. The government agreed that it would seek dismissal of the information after December 31, 2006 if KPMG complied with its obligations.*fn7 Moreover, two additional aspects of the DPA are noteworthy in the present context.

First, the DPA contained an agreed Statement of Facts (the "Statement"), accepted by KPMG, that contained a detailed account of alleged wrongdoing on the part of the firm. The Statement therefore is significant in that it includes factual assertions that KPMG admitted, but it may be significant also in that it may exclude factual assertions that KPMG declined to admit.

Second, the DPA obliges KPMG to cooperate extensively with the government, both in general and in the government's prosecution of this indictment. It provides in part:

"7. KPMG acknowledges and understands that its cooperation with the criminal investigation by the Office [USAO] is an important and material factor underlying the Office's decision to enter into this Agreement, and, therefore, KPMG agrees to cooperate fully and actively with the Office, the IRS, and with any other agency of the government designated by the Office ('Designated Agencies') regarding any matter relating to the Office's investigation about which KPMG has knowledge or information.

"8. KPMG agrees that its continuing cooperation with the Office's investigation shall include, but not be limited to, the following:

"(a). Completely and truthfully disclosing all information in its possession to the Office and the IRS about which the Office and the IRS may inquire, including but not limited to all information about activities of KPMG, present and former partners, employees, and agents of KPMG;

"(d). Assembling, organizing, and providing, in responsive and prompt fashion, and, upon request, expedited fashion, all documents, records, information, and other evidence in KPMG's possession, custody, or control as may be requested by the Office or the IRS;

"(e). Not asserting, in relation to the Office, any claim of privilege (including but not limited to the attorney-client privilege and the work product protection) as to any documents, records, information, or testimony requested by the Office related to its investigation, provided that:

"(I) notwithstanding the provisions of this subparagraph (e), KPMG may assert the attorney-client privilege, work product protection, or other privileges with respect to (A) privileged communications between KPMG and its counsel that post-date February 1, 2004 and that concern the Office's investigation, (B) privileged communications between KPMG and Skadden, Arps, Slate, Meagher & Flom LLP, concerning the IRS's promoter penalty audit, or (C) any private litigation; and

"(II) by producing privileged materials pursuant to this subparagraph (e), KPMG does not intend to waive the protection of the attorney-client privilege, work product protection, or any other applicable privilege as to third parties. "(f). Using its reasonable best efforts to make available its present and former partners and employees to provide information and/or testimony as requested by the Office and the IRS, including sworn testimony before a grand jury or in court proceedings, as well as interviews with law enforcement authorities . . . .

"9. KPMG agrees that its obligations to cooperate will continue even after the dismissal of the Information, and KPMG will continue to fulfill the cooperation obligations set forth in this Agreement in connection with any investigation, criminal prosecution or civil proceeding brought by the Office or by or against the IRS or the United States relating to or arising out of the conduct set forth in the Information and the Statement of Facts and relating in any way to the Office's investigation."*fn8 The cooperation provisions of the DPA thus require KPMG to comply with demands by the USAO in connection with this prosecution.

B. The Indictment

Only days before the filing of the information against KPMG and the DPA, the government indicted a number of individual defendants including several by-then former partners of KPMG. The superseding indictment, which in general terms follows the original, albeit naming more defendants and asserting more charges, contains forty-six counts.

Count One (the "Conspiracy Count") charges all defendants with conspiracy to defraud the IRS by designing, marketing, and implementing fraudulent tax shelters for wealthy individual clients and deliberately concealing those shelters from the IRS. KPMG is named as an unindicted co-conspirator. The scheme allegedly involved at least four separate tax shelter vehicles, called FLIP, OPIS, BLIPS, and SOS, designed to generate phony tax losses through a series of sham transactions. The conspirators allegedly sought to protect their clients from potential IRS penalties by paying co-defendant Raymond Ruble, a New York tax attorney, to issue opinion letters falsely representing that the tax shelters were likely to survive IRS review. Count One charges also that the participants conspired to conceal the fraudulent tax shelters from the IRS by, among other things, preparing tax returns that concealed the phony tax losses, obstructing IRS and Senate investigations into the shelters, and failing to register the shelters with the IRS.*fn9

Counts Two through Forty (the "Tax Evasion Counts") charge all defendants with tax evasion based on the tax returns of approximately twenty-five different tax shelter clients and defendants.*fn10

Counts Forty-one through Forty-four charge defendant Ruble with evading taxes on income related to the alleged scheme, including payments he received from nominee entities controlled by John Larson and Robert Pfaff in exchange for fraudulent opinion letters included in Count One. Two of these counts name defendants Larson and Pfaff as well.*fn11

Finally, Counts Forty-five and Forty-six charge certain defendants with obstructing the IRS investigation of the tax shelters.*fn12

C. The Subpoena

In November 2006, the defendants applied for a subpoena pursuant to Rule 17(c) requiring KPMG to produce documents that may be organized in three groups:

1. Documents relating to expert opinions prepared by or for KPMG during the period January 1, 1996 to date concerning the legality or propriety of any aspect of the tax shelters here at issue as well as documents prepared by counsel retained by KPMG that discuss or relate to any defendant or any of the events set forth in the indictment.*fn13

2. Documents relating to communications between KPMG and the government regarding the production of documents, waiver of the attorney-client privilege, or the tax shelters and events here at issue, including privilege logs.*fn14

3. Copies of certain KPMG manuals, calendars kept by or for all but three of the defendants, and deposition transcripts from litigation relating to the tax shelters at issue here in which KPMG was a party.*fn15

The government opposed issuance of the subpoena, arguing among other things that the specifications in the first two groups were insufficiently specific and that they did not seek evidentiary material.*fn16 While it did not object to production of the third group, it maintained that there was no need to issue a subpoena to KPMG because the government would "promptly request these materials from KPMG and provide them to the defense."*fn17 This of course was a tacit acknowledgment -- which subsequently has been made explicit -- that the government has the legal right to require KPMG to produce documents for the purpose of enabling the government to disclose them to the defense.

At argument, the Court noted that KPMG would be likely to seek to quash the subpoena if it were issued and suggested that it might make more sense to issue the subpoena without prejudice to the government's arguments and then to hear the government's substantive objections at the same time as KPMG's anticipated motion to quash. The government agreed.*fn18

Following service of the subpoena, KPMG and the defendants reached agreement with respect to the third group of documents and certain documents in the first two groups.*fn19 On January 22, 2007, however, KPMG moved to quash the subpoena insofar as it sought production of certain of the documents in the first two requested groups. In briefest outline, it contends that some or all of the requested documents are privileged, that compliance would be unduly burdensome, and that the defendants have failed to meet the standard articulated in United States v. Nixon,*fn20 which it contends controls here.

In advance of oral argument, the Court invited the parties to address the questions (a) whether the subpoenaed documents would be discoverable under Rule 16(a)(1)(E)(i) if they were in the physical possession of the prosecution team, (b) whether they are within the government's "possession, custody or control" within the meaning of that rule by virtue of the DPA or otherwise, and (c) assuming that these conditions were met, whether the standard of Rule 16(a)(1)(E)(i) rather than that of United States v. Nixon should control determination of KPMG's motion to quash.*fn21

At oral argument, the Court inquired whether the defendants were seeking an order, pursuant to Rule 16, compelling the government to produce the documents that are the subject of the subpoena to KPMG. They answered affirmatively. The Court then inquired whether there was any objection to treating the defendants as having made that motion. The government stated that it had no objection.*fn22

Following the argument, the Court directed KPMG to submit any evidence and argument it wished "on the issue whether the documents described by the subpoena are within the government's control and whether KPMG is obliged to produce them to the government, either voluntarily or upon request."*fn23 KPMG responded with a memorandum of law but submitted no evidence.

While the motion was under consideration, the defendants and KPMG reached agreement with respect to all aspects of the subpoena save Specification 6, and KPMG withdrew the ...


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