New York Greatly Expands Tax Whistleblower Law

For slightly more than a decade, the New York False Claims Act (FCA) has permitted so-called “whistleblowers” to bring actions on behalf of the state against taxpayers alleged to have filed a false claim, record, or statement under the tax law. Under an amendment recently signed into law, a whistleblower may now bring a case against an individual or entity that allegedly concealed or avoided an obligation to pay tax, regardless of whether a return or any other statement was filed. This change effectively expands the scope the tax violations under the FCA to individuals claiming that they are nonresidents of New York and business entities that believe that they have no New York filing requirements for reasons of nexus or otherwise.

In general, the FCA is intended to allow the state to recover money damages from persons and entities who knowingly present a false or fraudulent claim to the government. The amount of the recovery may be up to three times the loss sustained by the state as a result of a defendant’s fraudulent acts. The attorney general is empowered to bring these actions. However, the FCA is a whistleblower law that encourages private individuals to assist the attorney general in prosecuting these cases by offering the whistleblower a reward of up to 30 percent of the state’s recovery.

Notably, these whistleblowers (called “relators”) may bring what is known as a qui tam action on behalf of the state. After a relator files a complaint, the attorney general is permitted to take over the action (called “conversion”) or to litigate the action alongside the relator (called “intervention”). Significantly, however, the attorney general could decline to participate in the case, thus leaving the relator to go it alone.

In the tax context, the FCA has historically applied to false claims, records, or statements with respect to certain dollar amounts actually made by the taxpayer—for example, by entering false information on a return. In order for the FCA to apply in general, the taxpayer must have “knowingly” engaged in the fraudulent behavior, which under the statute means that the taxpayer either actually knew that the claim, record, or statement at issue was false or acted with either “deliberate ignorance” or “reckless disregard” with respect to the accuracy of such claim, record, or statement.

The recent amendment to the FCA leaves those requirements in place but provides that a claim may now also be brought against any person alleged to have “knowingly concealed or knowingly and improperly avoided an obligation to pay tax to the state or a local government”—for example, through failure to file a tax return. The amendment applies with respect to acts of concealment and avoidance committed on or after May 1, 2020 (though retroactive claims cannot be raised in a “pending case”). The attorney general or relator has 10 years from the date that a violation of the FCA is committed to bring a claim under the FCA.

Although the state’s tax law has long authorized sanctions against taxpayers who fail to meet filing requirements or who commit fraud, the expansion to a failure to file returns is nonetheless significant. The position of an individual or business entity that it need not file a state return is now potentially subject to challenge by both the New York Department of Taxation and Finance and the attorney general. Tax practitioners have frequently raised serious concerns with this practice. As noted in a 2022 report by the New York State Bar Association tax section, and by several amici in the 2015 Court of Appeals case Schneiderman v. Sprint Nextel, 26 N.Y.3d 98, 42 N.E.3d 665 (2015), a taxpayer faces markedly different procedural and substantive rules depending on whether they are defending a tax position in the context of a department audit or a litigation under brought under the FCA. The expansion of the FCA to cover nonfilers  will only further entrench the existence of two parallel enforcement regimes that have the potential to treat taxpayers with similar tax positions differently.

More important, the number of potential relators who may now bring suits has grown enormously. Under the previous law, in order to make a claim that a filed return is false, a relator needs to have some specific knowledge of how the taxpayer prepared the return at issue, which significantly limits the number of people in a position to bring such an action. In contrast, after the amendment, a relator could have a vague idea that various individuals living in Florida may not have filed New York income tax returns. Each claim would force the individual named to undergo significant expense in defending a lawsuit that neither the department nor the attorney general considered worth pursuing. Similarly, a relator may have an inkling that an out-of-state business may not be filing corporate franchise tax or sales tax returns without any particular information as to whether the business may have a valid basis for its position. In the case of both individuals and business entities, these taxpayers may be pressured to pay something to the relator just to avoid the hassle and substantial cost of litigation.

As a general matter, incentivizing individuals to come forward with information that a taxpayer has defrauded the state has merit. However, the incentive for that individual bring a tax qui tam action and the public interest may not necessarily be aligned, as starkly illustrated by Rasmusen v. Citigroup, 220 F. Supp.3d 523 (S.D.N.Y. 2016), in which a relator who was a professor at Indiana University forged ahead with his qui tam suit without the attorney general’s assistance because he took issue with certain IRS guidance issued in connection with the Troubled Asset Relief Program (TARP).

A qui tam relator may be more motivated by financial reward or personal beliefs than by whether there is a benefit to the people of the state. The potential for financial reward and the hope of extracting a settlement may incentivize qui tam relators to bring meritless suits, and, as was the case in New York v. Egon Zehnder International, 2022 WL 3927942 (S.D.N.Y. Aug. 31, 2022) and Walsh v. Dayan, No. 101426/2014 (N.Y. Sup. Ct. June 27, 2022), to attempt to proceed with a case even after the attorney general has declined to intervene in or convert the case. In Egon Zehnder, a relator challenged a multinational firm’s calculation of its income subject to domestic taxation. The attorney general opened an investigation, but declined to intervene after an extensive examination of the issues performed over the course of nearly three years.

The relator continued to prosecute the case, and the attorney general ultimately intervened to have the court, over the relator’s objections, honor a settlement that it had been able to negotiate with the defendant for a relatively nominal sum. Similarly, in Walsh, the attorney general spent over five years investigating allegations that a real estate developer improperly deferred gain in multiple like-kind exchanges (a process which the relator’s repeated acts of non-cooperation with the attorney general only complicated) before ultimately moving for the case’s dismissal over the relator’s objection. The broadening of the FCA to include nonfilers only aggravates these issues.

To be clear, we are not suggesting that the state should not pursue nonfiler cases; we are saying that only the state should pursue those cases, including by conversion or intervention of a qui tam action. The Department of Taxation and Finance and the attorney general perform an important function in determining which cases are worth pursuing for the public good. Private actors may approach these things as a more probabilistic matter—if they bring numerous qui tam suits, maybe a few will realize large payouts. There are many examples of other types of vexatious litigation, such as claims under the Americans with Disability Act, which have led to attorneys bringing multitudes of lawsuits in order to extract settlements.

Nevertheless, in light of this expansion of the scope of the FCA, any individual or business entity that has previously not filed New York tax returns may want to re-evaluate its filing obligations under the tax law, and, if appropriate, start filing New York returns (possibly on a protective basis). Additionally, if there is a significant risk that New York returns should have been filed for one or more tax years prior to 2023, consideration should also be given to whether returns should be filed for prior years.

Joseph Lipari and Aaron S. Gaynor are partners in the law firm of Roberts & Holland.

From: New York Law Journal