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David Cay Johnston on your tax dollars at work… for the super rich


Part two of a two-part series.

David Cay Johnston is not what you would call a dispassionate journalist. Over his four-decade career he has exposed police corruption, media manipulation, and lax industrial safety standards. In 2001 he won the Pulitzer Prize for his investigative reporting at the New York Times. And in his new book, Perfectly Legal: The Covert Campaign To Rig Our Tax System To Benefit the Super Rich --- And Cheat Everybody Else, he takes on the federal government, corrupt politicians, and billionaires who cheat on their taxes. (To read our profile of Johnston, and part one of this article, go to

            In last week's installment Johnston talked about ways the rich get richer under George Bush's tax cuts, the myth of the "death tax," and the way top campaign donors pressure politicians and influence tax policy.

            This week Johnston talks about insurance policies used by the rich to avoid paying taxes, how the Internal Revenue Service goes after the poor than the rich, and why he thinks it's important that people pay their fair share of taxes. We began the second half of our interview by asking Johnston about the growing problem of off-shore American businesses.

Johnston: If you're a company and you move your headquarters off shore, we reward you right now for doing that. We shouldn't do that. If you want access to the US market, you've got to pay US taxes! If you rent a mailbox in Bermuda and then declare yourself a Bermuda company, resident in Barbados, and convert your US profits into tax deductions you ship off shore, you're being unfair to other businesses.

            Stanley Works did not get to go to Bermuda because of my focusing on them, but their competitor, Ingersoll-Rand, had already gone. They compete in the automatic door and other businesses, so now Ingersoll-Rand has a government-sanctioned competitive advantage. I'm sorry, I believe in a level playing field.

            In Congress, the Democrats and the Republicans began fighting over who was going to be tougher on companies that do this. No legislation was passed. After last fall's elections, the Republicans passed their bill, an absolute, ironclad bar on Bermuda/Cayman Islands/Panama companies having federal contracts. But the subsidiary in the United States can have a contract. It's an absolutely meaningless reform.

            What I don't understand is why the businesses that have been wrongly treated haven't been in the forefront of saying that's not fair. The reason is every one of them has dirty hands. You can't publicly plead we have been unfairly treated if the other side can come back and show that you got this or that favor somewhere else.

            City: All of this relates to something called limited liability partnerships.

            Johnston: In the corporate professions of accounting and law, the traditional form was a partnership under which each partner is equally liable for a wrongful act. It is a powerful incentive for good behavior. When we created limited liability partnerships after the savings-and-loan scandals showed there had been a breakdown in the system at some firms, we just encouraged that bad behavior.

            Now we have Enron, Global Crossing, Adelphia, and all these other scandals, all of which trace back to the limited liability partnership. Instead of engaging in real principled reforms that reward good behavior and put you in a position of danger for bad behavior, government rules are rewarding bad behavior. That's happening because people are making pleadings and there is no public debate going on about these issues.

City: You devote a chapter to a worker at Global Crossing and show how his dream of a lifetime of work at a local phone company turned into a nightmare.

            Johnston: Global Crossing is a much more serious scandal than Enron, but there will be no indictments or arrests because they managed to keep this company, with total revenues over its lifetime of $200 million and a stock market value of $50 billion, in business for, I think, 41 months from inception to bankruptcy.

            If you're on a jury and they go after these guys and the prosecutor says, "This was all set up as a scandal from day one," all the defense has to do is say: "Reasonable doubt, the market didn't turn out the way we thought. And it's not our fault the stock price went through the roof. Yes, we tried to pump up the stock price, but the market did it."

            The warning should be: Global Crossing is a roadmap; here's how to steal $5.2 billion because that's what the insiders made. What other flaws do we have in our system that would allow people to do that?

            City: In many of these abuses --- like tax shelters, where people hide their true income --- you show that Congress looks the other way.

            Johnston: Members of Congress are not bad people; they're responding to the incentives around them. And the incentives are to take care of the political donor class, because that keeps them in office.

            When I was covering the LAPD, I interviewed a bunch of young men in a park in South Central LA. They said, "You grow up, you join a gang, you gangbang, you rape, plunder, pillage, commit crimes, and then, whether you did it or not, the police come and throw you in prison. So why not have fun?"

            It sounded very cynical until you understand what [William] Blackstone wrote. Everybody has heard the first part of this quote: "Better that a hundred guilty men go free than one innocent man be wrongly imprisoned...." The quote goes on: "lest no man have reason to obey the law."

            If they're going to arrest you whether you've committed a crime or not, why not commit a crime? We are creating a system, as a result of the political donor class, that rewards bad behavior. We attack the IRS, we handcuff law enforcement, and what is the signal we send to the richest tax cheaters in America? Keep cheating! There's no risk.

            The treasury department recently announced, as part of its get-tough crackdown, that they're going to get really tough with tax-shelter promoters and they're going to impose a 50-percent penalty. You get to keep half of your fee, so if you collect $100 million in fees, and let's assume your costs are 50 percent --- they're not, they're virtually nothing --- then you would make zero [after the penalty]. But where's the penalty? The penalty should be that if you create an abusive tax shelter, it's a 200-percent penalty.

City: In the middle of a mind-numbing array of examples of millionaires saving hundreds of millions on taxes, you cite examples of poor people, one making $7,000 a year, being audited by the IRS.

            Johnston: The IRS are the tax police; they do what the politicians tell them to do: focus your resources on people down the income chain. So when a guy like Peter Coons, who was the chief tax collector for Northern California, went after two wealthy, politically connected families that owed taxes, they found a pretext [downloading pornography] to move him out of his job after a totally distinguished career. The message was: You do not go after politically connected rich people. That's the scandal. I don't understand why the rest of the news media isn't all over this. The incentive system for the media is to go after: Who is Jennifer Lopez sleeping with?

            City: Another popular tax scam you write about involves insurance.

            Johnston: Go back to 1913 when we adopted the income tax. America was a very different country. About a quarter of Americans were still on the farm. Most people who were not on the farm had industrial jobs. They were dangerous; people died.

            We've made big advances. The number of children who die in fires is a tiny fraction of what it used to be. Far fewer people die in airplane crashes than used to. Automobiles are safer. But in 1913, when there were lots of industrial injuries and deaths, it was decided that you should exempt these one-time windfalls [insurance payments] if Dad died on the job --- and it was almost always Dad then --- so that the widow and the kids could go on. And people had insurance if they had brains in their heads.

            Now the middle class has far less insurance than they used to have. They have 401K plans. Insurance has become a vehicle for the super wealthy to avoid not only estate taxes, but gift taxes before death, and even income taxes in very sophisticated plans. And Congress has put no limit on this. There's a limit on your house. You can only deduct interest on [up to] a million-dollar mortgage. Congress limits how much you can save in your 401(k) plan and your IRA.

            But there's no limit to how much you can funnel through an insurance plan. And there are people who have billion-dollar life insurance policies to escape taxes. It's routine now to sell eight- and nine-figure insurance policies. There's insurance used for investments. You buy a portfolio of stocks and bonds. Instead of it being in the tax system, you just wrap an insurance policy around it and say this is tax exempt until I die. As long as you don't reach in and take out any of the money it's not an issue. Very wealthy people are not taking the money.

            City: One of the best analogies in your book is a fable about a village in wine country that holds an annual festival. Each vintner pours a jug of his wine into a large vat to create a village blend. The last vintner had a bad year so he pours water into the vat, believing the dilution won't be noticed. When the cask is uncorked, out flows water.

            Johnston: If one person cheats, nobody notices; if everybody cheats, there's no party for anyone. Just as the super rich cheat when they don't pay their taxes --- and benefit from it when they strip law enforcement of its capacity to punish them --- the working class, the poor, the middle class, and the upper-middle class cheat when they spend their time reading about Jennifer Lopez instead of being citizens.

            Citizenship is a duty and an obligation; people need to be involved. They need to be talking to their friends and neighbors. We need to listen to everybody. Rush Limbaugh occasionally says something really insightful and smart. Noam Chomsky, for all the crazy things he says, every now and then says something pretty smart that we can all learn from.

            In a democracy the wealthy will always have disproportionate influence on government, even if we have publicly financed campaigns, because they have the time and the access and they can hire proxies to work for them. They have needs they will articulate. Historically, the influence of the wealthy in America has been offset by large numbers of people who are not wealthy, but who have been involved in politics and have been a countervailing force. That force is basically gone and to the degree that it remains, it's full of blue-collar workers who become advocates for the rich: "I make $14 an hour but, by God, I'm concerned about overtaxing Bill Gates!"

            City: That's my problem with Rush Limbaugh; he convinces people it's about them.

            Johnston: That's what I call ideological marketing. Nobody needs Brylcreem, but when you and I were growing up lots of men used Brylcreem. TV ads implied: Use Brylcreem and beautiful women will run their fingers through your hair. Nobody needs to drink beer. Drink lots of beer and the Swedish Bikini Team will show up at your door.

            Now we have ideological marketing. Pay more taxes so that the rich can pay less in taxes and you'll be better off because you'll have a job. Well guess what? It is absolutely true that the very wealthy, if they are allowed to keep more of their money, as the president puts it, will invest in jobs. They're doing that in China, India, and Thailand. Foreign aid is a miniscule portion of the US budget. To those on the left who want America to have a big foreign-aid program, I've got news for them: We have that foreign aid program!

            There's no reason why we can't vote to overtax the middle class and the upper-middle class to benefit the super rich. It's absolutely constitutional to do that. I just don't think that if people in the $30,000 to $500,000 category understood that, they would vote for it. But I also know that when I give a talk, and some guy gets up and says, "You know, I made $30,000 and frankly, I don't care how heavily they tax people who make $200,000," they're not thinking very carefully. To him $200,000 is seven times what he makes. It's a lot of money, but the guy who makes $200,000 has a lot more in common with him than the guy who makes $20 million a year.

            City: The average person reading this is thinking: I'm careful to save every slip from my Salvation Army donations and the super rich are getting away with all of this?

            Johnston: Now you've gotten to what really motivated me about the book. The creation of the United States of America was not a simple task. For all the flaws and all the problems we have, this is the greatest idea in the history of the world. We do not need King George to tell us how to run our lives. We can make decisions for ourselves, and we will work out our own lives by creating a government to serve our interests.

            It is not written in stone that there will always be an America. It is not an entitlement, and if anyone doubts that they can read William Pierce's novel, The Turner Diaries, which inspired Timothy McVeigh to blow up the Murrah Federal Building in Oklahoma City because [McVeigh] thinks the United States government is a criminal organization.

            Guess what? Lots of people think the United States Government is a criminal organization --- people on the left and people on the right. I think that's an appalling, dangerous thought, but why do they think that?

            They think that because a narrow group of Americans has been exercising its constitutional right and they have been pursuing getting the government remade to serve their interests. And the middle class, upper-middle class, working class, and the poor have withdrawn from politics. In a democracy, those people who are involved get to shape the government, and those who are not involved don't get to.

            Right now we're getting a government that increasingly represents the interests of a narrow group of people: those among the rich who don't want to pay taxes. They're driving the agenda and they are undermining America. I want America to endure. I have four grandsons. I want my grandsons to be grandfathers in America. Long after I'm gone, I want America to be here. I don't want to contemplate that someday children will sit in a school and be given a lesson about "the United States of America was." And making democracy work is an endless vigil.