One of the more stunning aspects of the college admissions scandal unearthed this week is that the alleged bribes to secure spots at elite schools for children of wealth were tax deductible. That means American taxpayers may have helped foot the bill for the alleged scam.
“That’s why we should care about this, other than the schadenfreude of rich people getting their due,” said Sam Brunson, a tax-law professor at Loyola University Chicago.
‘This is a really tough situation and it’s one that people will be quick to spin into a cautionary tale, but largely charities exist to do great work.’
In a worst-case scenario, if all $25 million that the accused parents allegedly paid out was funneled through a public charity and claimed as tax deductions, as prosecutors outlined in a criminal complaint, then taxpayers chipped in as much as $10 million, said Phil Hackney, a tax-law professor at the University of Pittsburgh.
“Assuming these are all high-income individuals, they’re all paying at the highest tax rate, which presumably was about 40%, roughly,” Hackney told MarketWatch. “Assuming they were able to deduct the entirety of it, that would be 40% of the $25 million. That’s somewhere in the neighborhood of $7 [million] to $10 million, approximately, that taxpayers are footing the bill for, and that’s troubling.”
Hackney’s figures did not take into account any state-income-tax savings.
Alleged bribes were funneled through a charity
Federal prosecutors say that the parents who were arrested funneled the money to pay off coaches, exam proctors and test takers who stood in for their children through a public charity approved by the Internal Revenue Service as tax-exempt.
The wealthy parents include actresses Felicity Huffman and Lori Loughlin and financial titans Bill McGlashan of TPG Growth, a private-equity and venture-capital firm, and former Pimco PTTRX, +0.00% CEO Doug Hodge. They allegedly paid college counselor William “Rick” Singer to secure their children spots at elite schools. They made the payments in the form of donations to the Key Worldwide Foundation, a nonprofit that Singer started in 2014 in Newport Beach, Calif., according to a criminal complaint.
If the IRS decides to disallow those allegedly fraudulent deductions, parents would have to pay that money back to the government, along with penalties.
In phone calls recorded by investigators, parents charged in the scheme could be heard asking for receipts and other paperwork to ensure that they would be able to list the “donations” made to Key Worldwide Foundation as tax deductions, according to the criminal complaint.
“We’ll send it so that you get your [tax] write-off,” one cooperating witness said on tape. “Oh, even better!” responded the parent, who had made a $50,000 “donation” to the foundation as payment for having Singer arrange for someone else to take the ACT college entrance exam on her son’s behalf, prosecutors say.
If the IRS decides to disallow those allegedly fraudulent deductions, parents would have to pay that money back to the government, along with penalties, Hackney said.
The IRS is investigating the case, said IRS special agent Amy Hosney, a spokeswoman for the Boston field office for IRS criminal investigation. “We’re looking closely at the purported charitable donations that were made to [Key Worldwide Foundation] and the letters that were issued to the donors stating no goods or services were received for the donations,” Hosney said. “That really is the crux of it.”
Singer’s attorney has said he is cooperating with investigators and is “remorseful,” the Associated Press reported.
Hidden in plain sight
The charity behind the alleged scam operated in public view. The Key Worldwide Foundation is registered with California’s secretary of state (though the registration status is currently delinquent), it filed Form 990s (the paperwork that nonprofits are required to submit to the IRS) and it has a website with a noble-sounding mission statement about helping students “surrounded by the gang violence of the inner city.”
Charity Navigator only rates nonprofits after they’ve filed seven years of paperwork with the IRS, and The Key Worldwide Foundation had only submitted four years of tax documents.
It’s even listed on the charity-review website Charity Navigator. Charity Navigator didn’t give the nonprofit a rating, but that’s not because of any suspicious activity, said Charity Navigator spokeswoman Ashley Post. “We want to be clear that a charity not being rated is not a positive or negative judgment on their activities,” Post said, adding that Charity Navigator has tips for donors on how to evaluate charities that are not currently rated.
Red flags in the charity’s paperwork
Charity Navigator only rates nonprofits after they’ve filed seven years’ worth of paperwork with the IRS, and the Key Worldwide Foundation had only submitted tax documents for four years, Post said.
Had Charity Navigator’s reviewers examined Key Worldwide Foundation, a few red flags would have stood out immediately, she said. For one, the charity listed $3.7 million in revenue in 2016 (the last year it filed a Form 990) but said it spent nothing on fundraising costs. That’s unusual, Post said. The foundation also claimed to make grants to other nonprofits, but, despite the nearly $4 million in took in 2016, it made only one $10,000 grant to another group. That would be “concerning” to Charity Navigator, Post said.
Post cautioned against interpreting the Key Worldwide Foundation’s circumstances as a sign that nonprofits in general are prone to fraud. “This is a really tough situation, and it’s one that people will be quick to spin into a cautionary tale, but largely charities exist to do great work,” she said.
‘They saw philanthropy as a weak space’
The wealthy parents charged in the scheme seemed to assume they wouldn’t get caught as long as their payments were disguised as contributions to a charity, and that worries Hackney, the Pitt professor. It seems to indicate a perception that charities aren’t closely scrutinized, and that the wealthy can use them to do their bidding, he said.
‘Something’s out of whack with our system of inequality and our philanthropic systems. Even though it wasn’t an actual charity, they saw philanthropy as a weak space, a place they could arbitrage and take advantage of.’
“It tells us there’s a problematic culture developing at high-income levels in charitable giving,” Hackney said. “Something’s out of whack with our system of inequality and our philanthropic systems. Even though it wasn’t an actual charity, they saw philanthropy as a weak space, a place they could arbitrage and take advantage of.”
That’s partly based in reality, said Hackney, who worked in the office of the chief counsel of the IRS before joining the university faculty. The IRS is underfunded and short-staffed. The audit rate is, in general, “really low” and even lower for charities, observed Hackney.
And philanthropy is indeed increasingly the domain of the very wealthy. Charitable giving reached an all-time high in 2017, but that was largely due to big donations from America’s richest families. In 2018, donations of $1,000 or more increased by 2.6%, while donations in the $250 to $999 range dropped by 4%, and donations of under $250 dropped by 4.4%, according to a recent report from the Association of Fundraising Professionals.
“Giving is increasing because of larger gifts from richer donors,” said Elizabeth Boris of the Association of Fundraising Professionals. “Smaller and mid-level donors are slowly but surely disappearing — across the board, among all organizations.”
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