When you think of the financial crisis of 2007-2008, you probably recall the financial ruin caused by Wall Street, with banking executives (often criminally) mismanaging investments, causing profound damage to the economy that continues today. Ordinary people around the world struggled to survive the “Great Recession” and the effects that followed. But you might not know that taxpayers were hurt twice over: once by the direct effects of the economic downturn, and again by the damage to federal, state, and local government funds.

Many mortgages or loans are insured by the federal government, even though they are issued by private banks. If the borrower can’t pay, the government steps in to make sure the lender gets its money back. Sometimes, those banks conduct shoddy underwriting or lie about the ability of the borrower to repay the loan, and the government ends up paying for high-risk, low-quality loans it shouldn’t have insured. In addition, government pension plans often invest in financial instruments established by private banks. When the bank lies about the quality of those instruments, the value of the government’s investment decreases. In both of these cases, the government loses money—money that comes from taxpayers like you.

Types of Financial Fraud

Financial fraud comes in so many forms that it would be impossible to list them all in one place. After all, whenever the government pays a significant amount of money, fraudsters are likely to appear. However, the following categories have led to high-profile enforcement actions in recent years:

  • Fraudulent loan underwriting. In the wake of the 2007-2008 financial crisis, it was revealed that banks across the country had lied to the government about the underwriting practices for their mortgages, inducing the government to issue insurance policies for thousands of ineligible loans. When the borrowers defaulted, the government was left on the hook for these inordinately risky loans. Whistleblower lawsuits have led to billions of dollars in recoveries against banks engaging in these practices.In 2017, Allied Home Mortgage Corp. was ordered to pay $296 million after a jury found it engaged in this type of fraud. Similarly, in 2018, an accounting firm agreed to pay $149.5 million to resolve allegations that it looked the other way while conducting audits of a mortgage lender that fraudulently collected federal insurance payments for ineligible loans.
  • Fraudulent investment instruments. Federal, state, and local retirement funds often invest in securities. These government investors rely on the seller’s assurances that the securities are of sufficient quality and do not carry too high a risk. However, financial firms will sometimes lie about the quality of their securities, causing the government to invest in instruments it otherwise would not have. For example, in 2019, California settled with Morgan Stanley for $150 million to resolve allegations that the bank fraudulently sold low-quality mortgage-backed securities to two state retirement systems.In other situations, financial institutions will issue financial instruments that fraudulently misrepresent key data, resulting in investors paying more or earning a lower investment than they should. 42 state Attorneys General collectively recovered over $420 million in settlements related to this type of misconduct.
  • Student loan/financial aid fraud. Federal financial aid provides a boon to schools, which use the funds to enroll more students. However, these schools must abide by strict rules to remain eligible for this aid. For instance, the University of Phoenix paid $67.5 million to resolve allegations that it paid admissions counselors incentive-based compensation tied to the number of students recruited, which is illegal.Federal student loans are administered by private lenders, which also must act honestly in their dealings with the government. In 2010, four student aid lenders paid nearly $58 million after the government alleged they created billing systems that allowed them to receive improperly inflated interest rate subsidies from the Department of Education.

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Commodity Futures Trading Commission (CFTC)

The Commodity Futures Trading Commission (CFTC) was directed by established its whistleblower program in 2010. The CFTC Whistleblower Program provides monetary awards to individuals who provide information to the CFTC about Commodities Exchange Act (CEA) violations. The CEA prohibits deceptive schemes in connection with commodities, futures, or swaps—for example, Ponzi schemes, insider trading, and spoofing.

Securities and Exchange Commission (SEC)

The SEC established its whistleblower program in 2012. Since the creation of the program, the SEC has paid out more than $500 million in awards to whistleblowers. The most common tips the SEC receives are related to corporate disclosures and financials, fraud and manipulation, Ponzi schemes, false or misleading statements in company offering memorandums or marketing materials, and FCPA violations. The SEC issues awards to whistleblowers who provide original information to the SEC that causes the SEC to open an investigation into the matter, or the information provided by the whistleblower must significantly contribute to an already active investigation. Whistleblowers may receive an award of between 10% and 30% of the total monetary sanctions collected.

Detecting Financial Fraud

Whistleblowers are essential in identifying, reporting, and stopping financial fraud. This fraud often involves complex financial instruments that require special expertise to identify and interpret. While many whistleblowers are employees (or former employees) of financial institutions, with inside information about fraud being committed, even non-employee “outsiders” often are able to use their technical knowledge to identify and report fraud.

A whistleblower who files a successful complaint under the False Claims Act is entitled to between 15% and 30% of the amount the government recovers.

Tax Fraud

The False Claims Act and its state counterparts usually don’t allow whistleblowers to report tax fraud. But a few special programs reward upstanding individuals for making sure everyone pays their fair share.

First, a whistleblower can submit a tip directly to the Internal Revenue Service (IRS). Second, several state False Claims Acts allow whistleblowers to report the underpayment of state taxes.

The IRS Whistleblower Program

The IRS estimates that approximately 14% of federal taxes go unpaid, leaving the government with a “tax gap” of over $400 billion every year. According to the IRS Taxpayer Advocate Service, ordinary taxpayers pay an average of $3,000 per year in extra taxes to make up for this lost revenue.

To help combat tax underpayments, Congress established the IRS Whistleblower Program in 2006. Under this program, a whistleblower is entitled to an award of 15% to 30% of proceeds collected if all of the following conditions are met:

  • The whistleblower provides a tip with relevant information
  • The tip identifies the underpayment of taxes within 3 years of filing the incorrect tax return (or 6 years if the tax return understates income by at least 25%)
  • The tip identifies the underpayment of federal taxes, whether intentional or by mistake
  • The IRS acts on the tip and collects tax underpayments, whether intentional or not
  • The amount in dispute (including interest and penalties) exceeds $2 million
  • If the taxpayer is an individual (instead of a corporation), the individual’s gross income exceeds $200,000 for at least one of the years at issue

The IRS Whistleblower Office has collected over $5.7 billion in unpaid taxes and awarded nearly $1 billion to whistleblowers. An experienced attorney can help a whistleblower by:

  • Drafting and submitting the strongest possible tip, using information and language that will get the attention of the IRS Whistleblower Office
  • Maintaining the whistleblower’s identity to the maximum extent permitted by law
  • Fighting for the highest possible award following a successful enforcement action
  • Protecting the whistleblower from retaliation from his or her employer

State False Claims Acts

While the IRS Whistleblower Program covers the underpayment of federal taxes, several states permit whistleblowers to report the underpayment of state taxes. New York’s Taxpayer Protection Bureau has been particularly aggressive in pursuing tax cheats and strongly encourages whistleblowers to assist the state in its efforts. In addition, Illinois, Indiana, Maryland, Rhode Island, and Washington, DC all permit whistleblowers to report tax fraud. These state statutes typically entitle a whistleblower to receive between 15% and 30% of the recovery in a successful enforcement action.

The Role of Whistleblowers

Whistleblowers are essential in identifying, reporting, and stopping tax fraud. Whistleblowers are typically employees (or former employees) of businesses that have committed tax fraud, with inside information about how the company has avoided paying its fair share. Sometimes, non-employees can come across similarly compelling information, as well.

Tax fraud comes in many forms. Common schemes include:

  • Underreporting income
  • Overstating deductions or losses; claiming false deductions or losses
  • Hiding income in offshore tax havens
  • Making false entries in books and records
  • Using shell accounts to transfer money and hide assets
  • Claiming personal expenses as business expenses
  • Money laundering
  • Failing to pay payroll taxes

Both the IRS Whistleblower Program and the New York False Claims Act entitled a successful whistleblower to between 15% and 25% of the amount the government recovers.

Our Team

With more than 30 years of experience, the attorneys on Baron & Budd’s whistleblower representation team have represented dozens of clients in government fraud cases returning over $5.4 billion to federal and state agencies, with whistleblower recovery shares as high as 49%. They are ready to help if you have evidence of fraud involving the financial sector.

Please call (866) 401-5971 or complete our contact form if you would like more information. For more information, see What You Need to Know About Becoming a Whistleblower.  Please understand that contacting us does not mean that you have established an attorney-client relationship with Baron & Budd, P.C.