PROFESSIONAL ETHICS ISSUES IN KPMG

EXECUTIVE SUMMARY

The purpose of this report is to provide an evaluation and analysis of professional ethics issues of
an accounting firm. The target company in this research is KPMG, one of the largest professional
services companies in the world and one of the Big Four audit company. The methods used to
analyze the problems include observations and information research.
This project discovered that this company poses unprofessional and unethical acts of tax
sheltering problem. In 2003, KPMG was found guilt is some transaction made by their tax
department. KPMG sold shelters to wealth customer to reduce amount of tax paid. Shelter is
provided in the name of BLIPS (Bond Linked Issue Premium Structure), OPIS (Offshore
Portfolio Investment Strategy), FLIPS (Foreign leveraged Investment Program, and SOS (Short
Option Strategy). The people involved are from tax department of KPMG which are eight
Executive and a Lawyer where the problem occurred from 1996 to 2003. Michael Hamersley
who act as whistle blower reported to Internal Revenue Service about the shelters and finally
Internal Revenue service found that due to the shelters the government have lose
USD$2.5million from tax. This case was brought to court and finally KPMG was accused and
fined USD$456 million or dissolve KPMG.

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 TABLE OF CONTENTS

EXECUTIVE SUMMARY .................................................................................... i

1.0. INTRODUCTION .......................................................................................... 1

1.1. About professional ethics ........................................................................ 2

2.0. HISTORY ....................................................................................................... 3

3.0. PROBLEM ...................................................................................................... 6

3.1. About the fraudulent case ....................................................................... 6

3.2. Professional code of ethics...................................................................... 9

3.2.1. Integrity .......................................................................................10

3.2.2. Responsibilities ...........................................................................11

3.2.3. Professional Behaviour ...............................................................11

4.0. CONSEQUENCES ....................................................................................... 13

5.0. SOLUTION................................................................................................... 15

6.0. CONCLUSION ............................................................................................. 18

6.0. BIBLIOGRAPHY ......................................................................................... 20

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1.0. INTRODUCTION

KPMG is one professional group in ‘BIG FOUR’ famous in providing three type service which
is Auditing in term of Attestation Service, Financial Statement Audit, European Commission
Audit Reform and Audit Committee Institute; Taxation in term of International Corporate Tax,
Global Indirect Tax, International Executive Services, Mergers & Acquisitions Tax, Global
transfer pricing Service and Global Compliance Management Service and last is Advisory in
Management Consulting, Risk Consulting and Transactions & Restructuring and their own brand
proposition “Cutting Through Complexity”. BIG FOUR consist of professional group which are
PricewaterhouseCoopers (PwC), Deloitte, Ernst & Young (EY) and KPMG. The revenue earned
by BIG FOUR in year 2012 is as follow:

1) PricewaterhouseCoopers (PwC) USD$31.5billion

2) Deloitte USD$31.3billion
3) Ernst & Young(EY) USD$ 24.4billion
4) KPMG USD $ 23 billion

Based on that, KPMG is ranked at 4th place compare to other professional service group. KPMG
is operating in 156 countries with 152,000 employees around the world. KPMG headquarters is
in Amstelveen, Netherlands. Its current chairman is Michael Andrew who took position as
Global Chairman of KPMG International in October 201. He is law and commerce graduated
from Melbourne University and spent around three decades in KPMG.

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1.1. Professional Ethics

Professional Ethics is set of guidance helpful to professional bodies to do their task or job
in proper and ethical manner. Community is more advance in terms of knowledge, IQ and
behavior. Low level of these three elements may lead to misbehave, misconduct and misguide
employee and employer to commit fraud. Due to that, ENRON and WORLDCOM collapse
because manipulate financial statement to show public they are performing well but finally they
are declared bankruptcy and this effected the economy growth, environment and wealth of
community. In Sarbanes Oxley Act created in 2002 to prevent fraud from occur and introduced
in Malaysia in March 2000 and revised 2007 and 2012. Overall professional ethics are important
to protect the investor, guide employee and employer to work on correct path and it help to
prevent fraud to occur. Investor are more concern about the financial statement published and
they are looking for reliability and relevance in it and to adhere it professional ethics provide
guide to employee to create financial statement that are reliable, relevance and provide benefit to
investor or community. Moreover without guidance employee might confuse on performing his
or her job and top management might mislead them to perform in unethical ways which
happened in WorldCom and Enron & Arthur Anderson. Overall, Professional Ethics are
important to guide the community in ethical way.

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2.0. History

William Barclay Peat form an accounting firm at London in 1870 with the name of William
Barclay Peat & Co. William Barclay Peat is law student studied in Montrose Academy, Scotland
but he didn’t exercise as a lawyer but joint as accounting clerk in age of 17 and become as
earning partnership in age of 24. He has the intention to open accounting firm because of his
family background in banking business. James Peat and Margaret Barclay who are his father &
mother have start bank in England with the name of Barclay Bank. In the year 1877, Thomson
McLintok opened accounting firm in Glasgow. Marwick Mitchell & Co opened in New York in
1897 and its founder is James Marwick and Roger Mitchell. James Marwick is chartered
accountant from Edinburgh, Scotland and practice accounting in Glasgow. Roger Mitchell who
is his schoolmates when studying at University of Glasgow is an accountant from Scotland. In
1911, William Barclay Peat & Co merges with Marwick Mitchell & Co which later renamed as
Peat Marwick Mitchell & Co and change to Peat Marwick. In 1925 they start to work together as
transatlantic firm where the two accounting firm was demerge in 1918.
Pieter Klijnveld who is Dutch accountant from Amsterdam worked in Twentsche Bank and later
opened an accounting firm in 1917. During emerging business in Holland, he worked as chief
accountant for the business and merges with Jaap Kraayenhof and formed Klijnveld Kraayenhof
& Co which also called as Klynveld Kraayenhof & Co. The main purpose of the merger is to
serve Dutch client in banking and exporting field particularly to the business expand to Europe
and South America.
Reinhard Goerdeler is a German accountant who worked in Deutsche Treuhand-Gesellschaft
(DTG) which later he become its chairman. Moreover he is the President of International
Federation of Accountants (IFAC) and also chairman of KPMG. In 1979, KMG was formed by
Goerdeler with the intention to expand his business worldwide where, K stands for Klynveld
Kraayenhof Co, M for Thomson McLintok and G for Deutsche Treuhand-Gesellschaft. Later in
year 1987, Peat Marwick joined KMG which later renamed to KPMG in United States. In 1990,
they made changes in name where it is called as KPMG Peat Marwick McLintok and in 1991
McLintok name was removed and in 1999 Peat Marwick name is also removed. Finally in 1999,
KPMG are officially formed and in between the year of change the name; Ernst & Young plan to
merger with KPMG but unfortunately the merge was cancelled happened in 1997.
In 2001, KPMG sold consulting service by changing to public company by offering share to
public in name of KPMG Consulting Inc. and changed Bearing Point Inc. after demerger. KPMG

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also sold his legal authority of Dispute Advisory Service to FTI Consulting and Group in Europe
formed KPMG Europe LLP in 2007. KPMG who is performing in 156 countries are separate
legal entity and they are member of KPMG International Cooperative in Switzerland registered
under Swiss law in 2003. KPMG International Cooperative high committees are as follow:
 Michael Andrew, Chairman, KPMG International
 Alan Buckle, Deputy chairman, KPMG International
 Rolf Nonnenmacher, Chairman, Europe, Middle East, Africa and India Region
 John Veihmeyer, Chairman, Americas Region
 Hideyo Uchiyama, Chairman, Asia Pacific Region

KPMG have own values and cultures that are implemented in the entire branch all over the
world. Value is based on how we behave and it created from culture which based on the
experiences and these create code of conduct which KPMG also have its own Code of Conduct
Their values are:
 We lead by example
 We work together
 We respect the individual
 We seek the facts and provide insight
 We are open and honest in our communication
 We are committed to our communities
 We act integrity

Their cultures:
 Integrity and open and honest in our communication create trust and collaboration
 Flexibility and diversity accommodate people to share their knowledge about KPMG
 Stamp out poverty and uphold education and prevent environment
 Positive change in health, welfare and prosperity of client
 Employee – forward thinking approach

KPMG is showing best interest in helping people and taking care of the environment by leading
change in society. This is done through corporate citizenship, Global Development, and Climate
change and the environment. Corporate Citizenship is helping their client to be successful in life

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and guiding them in professional manner, Global Development is helping community around the
world who suffering from disease climate change, poverty and growth. Lastly, Climate Change
and Environment change implement Global Green Initiative to protect environment for future
generation.

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3.0. Problem

3.1. About the fraudulent case

As KPMG is one of the most prominent accounting firms, its tax shelter case makes people think
thrice about whether it can still uphold a certain level of professional ethics when it provides
several professional services like assurance, tax, advisory, risk management, so on and so forth.
The level of professional ethics of the leaders of this kind of huge accounting is vital to
businesses and even a nation’s economics on the ground that the audit or tax preparation of
those public listed companies are performed by accounting firms who have certain capabilities
like the biggest four accounting firms or Big Four.
KPMG was in business of providing tax service to corporate and individual clients, including
some of the wealthiest clients in the United States. Nevertheless, it was under investigation by
the U.S. attorneys' office for accounting fraud due to assisted wealthy clients in evading tax
liabilities which were supposed to be imposed on the taxable gains of those wealthy clients.
There are eight partners and a lawyer of KPMG indicating in this case. The persons who were
involved in the tax fraudulent cases are:
 Jeffrey Stein, former Deputy Chairman of KPMG, former Vice Chairman of KPMG in
charge of Tax, and former KPMG tax partner;
 John Lanning, former Vice Chairman of KPMG in charge of Tax, and former KPMG
tax partner;
 Richard Smith, former Vice Chairman of KPMG in charge of Tax, a former leader of
KPMG’s Washington National Tax, and former KPMG tax partner;
 Jeffrey Eischeid, former head of KPMG’s Innovative Strategies group and its Personal
Financial Planning Group, and former KPMG tax partner;
 Philip Wiesner, former Partner-In-Charge of KPMG’s Washington National Tax office
and former KPMG tax partner;
 John Larson, a former KPMG senior tax manager;
 Robert Pfaff, a former KPMG tax partner;
 Raymond J. Ruble, a former tax partner in the New York, NY office of a prominent
national law firm; and
 Mark Watson, a former KPMG tax partner in its Washington National Tax office.

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They were being criminally prosecuted in relation to the multi-billion dollar criminal tax frauds
by creating artificial tax shelters for its wealthy clients. KPMG practiced those shelters to
generate losses of $11.2 billion dollars for 601 wealthy clients during that period. KPMG’s
clients who participated in the tax-shelter program unethically avoided $2.5 billion in income
taxes. KPMG’s fraudulent case was then brought to the court, and eventually KPMG agreed and
promised to pay $456 million to avoid the criminal prosecution by the U.S government over
abusive tax shelter. Then, the penalties for the settlement amount cover tax shelter promoter
penalties, restitution and disgorgement of fees and it will be paid through the installment.
In order to assist its clients in evading tax liabilities or tax charges, KPMG mainly used four
methods to help the wealthy clients to avoid their tax liabilities or tax charges on capital gains.
The shelters implemented are FLIP (Foreign Leveraged Investment Program), OPIS (Offshore
Portfolio Investment Strategy), BLIPS (Bond Linked Issues Premium Structure), SOS (Short
Option Strategy).
The operations and functions of FLIP and OPSIS are similar. FLIP and OPSIS were usually used
for clients who had capital gains in excess of $10 million for FLIP and $20 million for OPSIS.
Actually, these shelters were designed to artificially create substantial phony capital losses
through the use of an entity created in the Cayman Island (a tax haven) for the purpose of the tax
shelter transaction. The client purportedly entered into an investment transaction with the
Cayman Island entity by purchasing purported warrant or entering into a purported swap. The
Cayman Island entity then made a prearranged serious of purported investment, including the
purchase from either Bank A which at the time was a KPMG audit client or Bank D or either
both stock using money purportedly loaned by Bank A or Bank D, followed by redemptions of
those stock purchases by the pertinent bank. The purportedly investment were devised to
eliminate economic risk to the client beyond the all in cost and minimize the amount of all in
cost used for the investment component. The purportedly investment were also devised only
approximately 16 to 60 days. Therefore, in return from the investment the fees totaling
approximately 7% of the desired tax losses.
In the implementation of FLIP and OPSIS, KPMG issued misleading opinion letters with
assistance from its co-conspirators. The opinion letters are misleading in the sense that KPMG
and its co-conspirators knew well that the tax positions taken were not more likely than not to
prevail against Inland Revenue Service (IRS), and the opinion letters and other documents used
to implement FLIP and OPIS were false and fraudulent in a number of ways, for instances, the
opinion letters began by falsely stating that the client requested KPMG’s opinion regarding the

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U.S. federal income tax consequences of certain investment portfolio transactions while the real
fact is that the conspirators targeted wealthy clients based on the clients’ large taxable gains and
offered to generate phony tax losses to eliminate income tax on that gain as well as to provide a
‘more likely than not’ opinion letter. The ‘more likely than not’ opinion letters provided an
ambiguous and confusing view to the users, but it brought an income of $50,000 to KPMG for
each such opinion letter. In addition to that, the opinion letter continued by falsely stating that the
investment strategy was based on the expectation that a leveraged position in the foreign bank
securities would provide investor with the opportunity for capital appreciation, but in fact the
strategy was based on the expected tax benefits promised by certain conspirators in the tax
frauds. Another critical but misleading point to the opinion letter users is that the opinion letter
claimed that one of the transaction was a foreign person who is unrelated to the other participants
while the fact this foreign person was simply a nominee who received a fee to assist KPMG and
other co-conspirators in generating the phony tax losses, and one of the foreign persons had an
ownership interest in the respective organization.
Other than FLIP and OPIS, another type of tax shelter called BLIPS was designed to generate
substantial capital and ordinary tax losses through a series of pre arranged transactions that
involved the client purportedly borrowing money from one of three banks which are Bank A,
Bank B and Bank C. All of them were audit client of KPMG at the time in order to make
purported foreign currency investment. The bank involved in the purported loan also served as
the counterparty on all of the purported currency and other transactions involved in BLIPS.
BLIPS was implemented in a number of ways. For instances, BLIPS was falsely described in the
opinion letter as an investment scheme while it was in fact designed, marketed and implemented
to generate phony tax losses so as to avoid income taxes for KPMG’s wealthy clients. BLIPS
was also misleadingly described as a three-stage, seven-year investment scheme, however, all
participants were in fact expected to withdraw at the earliest opportunity and within the same tax
assessment year in order to artificially create tax losses. Besides, the partners who are found
guilty in this case wrongly described BLIPS as a leveraged investment scheme but the purported
loan transactions that were part of BLIPS were shams, and no money ever left the bank and none
of the banks assigned any capital cost to these purported BLIPS loans. Indeed, at least one of the
banks did not fund the loans at all. It neither set aside from its own funds nor obtained from the
market any money to cover these purported loans and loan premiums. In addition, the sham loans
were not used in the purported investment scheme involving trades relating to pegged currencies

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but they were used only to generate a phony tax loss instead. The only money used in making
and securing the trades involving pegged currencies as part of BLIPS was money contributed by
client as part of the 7% all in cost.
SOS was designed to generate substantial capital and ordinary tax losses through a series of pre-
arranged transactions that involved the clients entering into virtually offsetting foreign currency
option positions with a bank, including but not limited to Bank A, transferring the offsetting
positions to a partnership or other entity, and then withdrawing from the transaction, claiming a
loss in the desired amount. In the implementation of SOS, the KPMG’s partners falsely claimed
that the client would have entered into the option positions independent of the other steps that
made up SOS, however, the truth is that the clients would not have entered into those positions
absent the anticipated tax loss to be generated. Additionally, the partners would misleadingly
claim that the option positions were contributed to a partnership or other entity to diversify the
client’s investment while the real fact is that the contribution was simply a necessary step in the
tax shelter, was executed for the purpose of generating the tax loss, and was not executed to
diversify any investment of the wealthy clients.
Albeit these four main tax shelters looked legal and ethical on the face of them, they were
actually more complex and misleading than what the public could understand without any further
investigations. Unfortunately, the public were not able to do much on the validation of the
financial statements and KPMG’s misleading opinion letters since there were certain unsolvable
limitations like limited access to real companies’ confidential information and the tax shelters
might be difficult for the public to uncover.

3.2. Professional Code of Ethics

KPMG member firms internationally apply a common Global Code of Conduct which governs
the way this firm run business. By this Global Code, it had list down the expectation of ethical
behaviour that the firm expects of it employee. Hence, if any of the employees in the firm violate
the ethical might lead to a legal action by state or federal law enforcement agencies. As the
central point of Global Code, the KPMG are led by value that the member should work together
and respect each other, look for the fact and provide the right insight, honest in all the
communication, committed to their communities, and act in integrity. Whereas, the Global Code
encourages the firm partners and staff to act as role models, exercise an ethical behaviour and to

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be make sure that their action reflect and reinforce the values. A profession should behave in
respectful, controlled and moral way.
The Code of Ethics had existed in the KPMG since before the fraudulent of tax shelter. The
Ethics for the firm are integrity and responsibilities. The integrity and responsibility are the most
important Code of Ethics for the members as guidance. Even though the firm had an awareness
of this Code of Ethics, but they are still failure to comply with this. They act in an illegal action
to make a fraudulent tax shelter for the wealthy clients even they are well known. To generate a
good reputation of KPMG without any fraudulent action, the partners should follow the Code of
Ethics that have been set. There are three types of Code of Ethics which involve integrity,
responsibilities, and professional behaviour.

3.2.1. Integrity

With this integrity, KPMG should not help the client to conceal the tax shelter fraud. To do so, it
may impact the degree of integrity for the tax practitioner. For example, KPMG had created an
"artificial" loss for the client to shelter it from taxes. To do so, the firm advises the client to enter
into offsetting options. The clients are buying and sell options in identical amounts at identical
prices on the euro/U.S. dollar foreign exchange rate. In its effort to secure its lead in the tax
shelter market, KPMG engaged in evasive manoeuvres so that its products would fly under the
IRS’s radar screen. The firm’s tactics included disregarding tax shelter registration rules,
advising clients to use impermissible reporting mechanisms in their tax returns, and resisting
enforcement summonses by the IRS. The professional in KPMG should always be honest and
straightforward in professional and business relation. They should always in mind to adherence
to moral and ethics code. To maintain and broaden public confidence, the members of KPMG
should perform all professional responsibilities with the highest sense of integrity. Constantly
striving to uphold the highest professional standards, provide sound advice, and rigorously
maintain their independence.
Besides, the ability to deliver excellent taxpayer service, enforce tax laws effectively and collect
the proper amount of taxes owed will all is undermined by the tax practitioner misconduct. This
will greatly damage the reputation and integrity of KPMG itself. By the way, the level of trust
will decrease and consequently non-compliance. Moreover, it is very important that KPMG’s tax
practitioner behave with honesty and integrity, and abide by the code of ethics, provisions of the
acts and internal directives. Furthermore, KPMG should follow the core value to upholding the

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member firms’ and individuals’ responsibilities for professional development. They should
exercising care in the use of company assets and resources, used appropriate methodologies and
procedures, and should always stay vigilant in the application of risk management and other
applicable policies. To do so, this may help KPMG to preserve the reputation and brand by
avoiding action that would discredit the organization.

3.2.2. Responsibilities

The tax partners in KPMG should carry out their responsibilities as a professional, and exercise
sensitive professional and moral judgment in all their daily activities. The tax practitioners are
responsible to follow the legal, professional, and ethical standards that apply to his or her job
function and level of responsibility. However, KPMG’s partner and employee are responsibility
to act in accordance with the Principles of the Code into their day-to-day activities. Provide the
clients with an accurate advice and giving more tax knowledge to them. Hence, the members
also have a continuing responsibility to cooperate with each other to improve the art of
accounting, maintain their integrity on tax work, and carry out the profession's special
responsibilities for self-governance. By the way, there are nine individual which had include six
former KPMG partners and the formal deputy chairman of the firm are responsible for being
criminal prosecuted in relation to the multi-billion dollar criminal tax fraud conspiracy. As the
nine individual involved as said in earlier report, they are responsible for the duty of taxation.
Consequently, a member who prepares a return on behalf of the client is responsible to the client
for the accuracy of the return based on the information provided. Thus, the KPMG tax partner
who is dealing in relation to client’s tax affairs should remember his duty of confidentiality to the
client as they are acting an agent of the client. He has responsibility to act in the best interest of
his client.

3.2.3. Professional Behavior

The tax practitioner should comply with the law and avoid any action that may discredit their
profession. KPMG tax leader do not comply with the law to register the tax shelter as the firm
was required by law to do so. As the professional and legal compliance personnel advice KPMG
that the shelter should have to register, otherwise the willful failure to register tax shelter could
be criminal conduct. Hence, this action taken may impair the profession of the KPMG’s tax
practitioner. Even if there is no legal duty to act in a particular way, the tax partner should

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always keep in mind to act in a way that will not discredit their profession. A tax practitioner
must have to ensure that their ethical values are current and that they are prepared to act on them
to best exercise their role and to maintain the credibility of, and support for, the profession.
As a tax practitioner, they should behave with courtesy and consideration towards all with whom
he comes into contact in a profession capacity. Besides, serving the interests of his client will
bring a member into disagreement or conflict. The tax practitioner should manage such
disagreement or conflict in an open, constructive and professional manner. However, they should
serve his clients’ interest within these constraints as robustly as circumstances warrant. A tax
practitioner should make sure the tax affairs are kept up-to-date.

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4.0. Consequences

In early 2005, KPMG was accused by the United States Department of Justice of fraud in
marketing abusive tax shelters. On August 29, 2005, KPMG admitted to criminal wrongdoing
and that it engaged in a fraud that generated at least $11 billion dollars in bogus tax losses. These
bogus tax losses, according to court papers, cost the United States at least $2.5 billion dollars in
evaded taxes. KPMG admitted that its personnel deliberately concealed the existence of the tax
shelters from the IRS by not registering the shelters with the IRS as it was required by law.
KPMG went into these transactions with the intent to deceive the IRS and provide its clients with
false and fraudulent documents such as engagement letters, representation letters, transactional
documents and opinion letters among many other false documents.
The Ex-KPMG tax partner Robert Pfaff, ex-KPMG Senior tax manager John Larson, and lawyer
Raymond Burble, once a partner at Brown & Wood, were convicted on tax evasion counts by a
New York federal jury after a two month trial. Pfaff and Larson were acquitted on two counts of
tax evasion. A fourth defendant, ex-KPMG tax partner David Greenberg was acquitted on all the
charges. Greenberg, according to Bloomberg News, had spent five months in prison, followed by
three years of home confinement, after his 2005 arrest.
Per their agreement with the government, KPMG paid out $456 million in fines, restitution, and
penalties. According to IRS, the penalty included: $100 million in civil fines for failure to
register the tax shelters with IRS; $128 million in criminal fees representing the dollar amount of
fees earned by KPMG on the four shelters; and $228 million in lost taxes. If KPMG has fully
complied with all the terms of the deferred prosecution agreement at the end of the deferral
period, the government will dismiss the criminal information. The other agreement requirements
that KPMG was to adhere to were banned involvement with any pre-packaged tax products,
restricted acceptance of fees not based on hourly rates, implementation and maintenance of
effective compliance and ethics program, installing an independent, government-appointed
monitor who will oversee KPMG’s compliance to the agreement for a three year period and full
and truthful co-operation in the pending criminal investigation.
The agreement requires permanent restrictions on KPMG’s tax practice, including the
termination of two practice areas, one of which provides tax advice to wealthy individuals; and
permanent adherence to higher tax practice standards regarding the issuance of certain tax
opinions and the preparation of tax returns. In addition, the agreement bans KPMG’s

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involvement with any pre-packaged tax products and restricts KPMG’s acceptance of fees not
based on hourly rates. The agreement also requires KPMG to implement and maintain an
effective compliance and ethics program; to install an independent, government-appointed
monitor who will oversee KPMG’s compliance with the deferred prosecution agreement for a
three-year period; and its full and truthful cooperation in the pending criminal investigation,
including the voluntary provision of information and documents.
Richard Breeden, a former Securities and Exchange Commission Chairman, was appointed as
independent monitor to oversee KPMG’s compliance in this agreement with the government.
After completion of Breeden’s duties, the IRS took over monitoring KPMG’s tax practice for the
next two years, ensuring their adherence to the federal laws set forth by IRS.
The California Board of Accountancy also took disciplinary action and suspended the CPA.
Partnership for one year stayed, with three year’s probation. According to the Board’s report,
KPMG was required to pay an administrative sanction of $1,000,000 and reimburse the Board
for its costs of investigating and prosecuting the case. KPMG was also required to disseminate
the Stipulated Statement within 30 days to all of their professional personnel located in
California offices and to cooperate with the Board in its ongoing investigation regarding KPMG
tax shelters. According to the California Board of Accountancy, a disciplinary action against
KPMG was taken on the account of fraud, gross negligence and dishonesty in the practice of
public accountancy, knowing preparation of false, fraudulent or materially misleading
information, willful failure to observe professional standards.

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 5.0. SOLUTION

(i) The Internal Revenue Service and the department of justice should continue enforcement
efforts aimed at stopping accounting firms and law firms from aiding and abetting tax
evasion, promoting potentially abusive or illegal tax shelters, and violating federal tax
shelter regulations, and should impose substantial penalties on wrongdoers to punish and
deter such misconduct.
(ii) Congress should enact legislation to increase the civil penalties on aiders and abettors of
tax evasion and promoters of potentially abusive or illegal tax shelters to ensure that they
disgorge not only all illicit proceeds from such activities, but also pay a substantial
monetary fine to punish and deter such misconduct.
(iii) The Public Company Accounting Oversight Board should strengthen and finalize
proposed rules restricting certain accounting firms from providing aggressive tax services
to their audits clients, charging companies a contingent fee for providing tax services, and
using aggressive marketing efforts to promote generic tax products to potential clients.
(iv) Congress should enact legislation authorizing the IRS to disclose relevant tax shelter
information to other federal agencies, such as the Public Company Accounting Oversight
Board, federal bank regulators, and the Securities and Exchange Commission (SEC), to
strengthen their efforts to stop the entities they oversee from aiding or abetting tax
evasion or promoting potentially abusive or illegal tax shelters.
(v) Federal bank regulators, in consultation with the IRS, should review tax shelter activities
at major banks, and clarify and strengthen rules preventing banks from aiding or abetting
tax evasion by third parties or promoting potentially abusive or illegal tax shelters.
(vi) Congress should appropriate additional funds to enable the Internal Revenue Service
(IRS) to hire more enforcement personnel and increase enforcement activities to stop the
promotion of potentially abusive and illegal tax shelters by lawyers, accountants, and
other financial professionals.
(vii) Congress should enact legislation to clarify and strengthen the economic substance
doctrine and to strengthen civil penalties on transactions with no economic substance or
business purpose apart from their alleged tax benefits.
(viii) The Securities and Exchange Commission (SEC), in consultation with the Internal
Revenue Service (IRS), should review tax shelter activities at investment advisory and
securities firms it oversees, and clarify and strengthen rules preventing such firms from

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 (ix) aiding or abetting tax evasion by third parties or promoting potentially abusive or illegal
tax shelters.
(x) The Internal Revenue Service (IRS) should further strengthen federal tax practitioner
rules issued of tax opinion letters to ensure that such practitioners, including law firms
and accounting firms, have written procedures for issuing tax opinions, resolving internal
disputes over legal issues addressed in such opinions, and preventing practitioners or
their firms from aiding or abetting tax evasion by clients or illegal tax shelters or
promoting potentially abusive.
(xi) The Internal Revenue Service (IRS) should review tax shelter activities at charitable
organizations, and clarify and strengthen rules preventing such organizations from aiding
or abetting tax evasion by third parties or illegal tax shelters.

(xii) Increasing disclosure of corporate tax shelter activities.

Greater disclosure of corporate tax shelter would aid the internal revenue service (IRS) in
identifying corporate tax shelters and would therefore lead to better enforcement by the IRS.
Also, greater disclosure likely would discourage corporations from entering into questionable
transactions. The probability of disclosure by the IRS should enter into a corporation’s cost or
benefit analysis of whether to enter into a corporate tax shelter. In order to be effective,
disclosure must be both timely and sufficient. In order to facilitate examination of a particular
taxpayer’s return with respect to a questionable transaction, the transaction should be
prominently disclosed on the return. Moreover, disclosure should be limited to the factual and
legal essence of the transaction to avoid being overly burdensome to taxpayers.
(xiii) Increasing and modifying the penalty relating to the substantial understatement of income
tax.
In order to serve as an adequate deterrent, the risk of penalty for corporations that participate in
corporate tax shelters must be real. The penalty also must be sufficient to affect the cost or
benefit analysis that a corporation considers when entering into a tax shelter transaction.

(xiv) Changing substantive law to disallow the use of tax benefits generated by a corporate tax
shelter.
Current statutory anti-abuse provisions are limited to particular situations and are thus
inapplicable to most current tax shelter. Further, application of existing judicial doctrines has

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been inconsistent, which encourages the most aggressive taxpayers to pick and choose among the
most favorable court opinions. While increased disclosure and changes to the penalty regime are
necessary to escalate issues and change the cost or benefit analysis of entering into corporate tax
shelter, these remedies are not enough if taxpayers continue to believe that they will prevail on
the underlying substantive issue. Stated another way, a significant understatement penalty will
have little deterrent effect if there is no understatement.

(xv) Providing consequences to all the parties to the transaction.

All essential parties to a tax driven transaction should have an incentive to make certain that the
transaction is within the law. When congress was concerned with the proliferation of tax shelters,
it enacted several penalty and disclosure provisions that applied to advisors and promoters. These
provisions were tailored to the types of ‘cookie-cutter’ tax shelter products then being developed.
A tax indifferent party often has a special tax status conferred upon it by operation of statute or
treaty. To the extent such person is using this status in inappropriate or unforeseen manner, the
system should not condone such use. Imposing a tax on the income allocated to tax indifferent
parties could deter the inappropriate rental of their special tax status, limiting their participation
in tax shelter, and thus reducing others taxpayers use of shelters that utilize this technique.

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6.0. Conclusion

KPMG admitted that it sold fraudulent tax shelters that allowed wealthy clients to hide billions
of dollars in taxable income from the Internal Revenue Service. KPMG agreed to pay a $456
million fine to avoid a criminal indictment over allegations that it sold questionable tax shelters
that cheated the government of more than $1 billion. The $456 million in civil and criminal
penalties include $228 million in lost taxes, $128 million in disgorgement of KPMG fees earned
on the shelters and $100 million for failing to register the shelters with the IRS. KPMG still must
wrestle with civil lawsuits from angry clients. The government and KPMG, the nation's fourth-
largest accounting firm, agreed to the deal. Prosecutors will drop the charges if KPMG complies
with all terms.
In addition to paying the fine, the firm agreed to outside oversight by an independent monitor,
former Securities and Exchange Commission Chairman Richard Breeden. He was appointed by
court to monitor in the WorldCom securities fraud case, will monitor KPMG for three years.
"We regret the past practices that were the subject of the investigation," KMPG chairman and
chief executive Timothy Flynn said in a statement. "KPMG is a better and stronger firm today,
having learned much from this experience."
KPMG’s ability to administer a fair and legitimate tax sheltering program was destroyed forever.
KPMG’s professionalism in meeting ethics and cliental standards were clearly one-way—
improving company’s revenue. Their responsibilities in assisting clients with legal questions
were purely dishonest, unethical and their claims of the “silver bullet” investment strategies such
as the FLIP and OPIS were deceptive practices.

On April 9, 2009, John Larson and Robert Pfaff, two former KPMG executive, and a lawyer,
Raymond Ruble were convicted by a federal jury on several accounts of tax evasion. At the
hearing, Judge Kaplan called the men’s actions “extremely offensive” and their objectives in
assisting fraudulent tax shelter schemes to clients who had an income of $20 million a year, a
“brazen act.” IRS officials claimed that the KPMG tax sheltering scheme was the largest
criminal tax prosecution in the US. Judge Kaplan based his ruling on the illegal and unethical
actions of the former heads of KPMG who created the shelters and tried to conceal the shelters
through attorney client privilege.
KPMG’s tax sheltering program was illegal and the punishments were well deserved. Even with

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that, there are those who would claim the punishments were minimal, but what is the appropriate
punishment for a case of fraud that circulates around a widely used strategy? The case would
have produced substantially larger penalties but the lack of government counsel and tax
guidelines in the forms of a “just” or “unjust” investing program could not be met. KPMG’s
management believed that they could make any decisions that maximized their own self-interest,
even if they hurt their employees or clients. The individuals who were involved in mapping
contract liabilities should have received harsher punishments than KPMG’s accountants and tax
managers.
The huge penalty to KPMG in this case has marked as an important warning to the others who
are trying to be committed in unethical actions. For people, like Hamersley who blew the whistle
on KPMG, he deserves our applause and appreciation; his high ethical standards are what every
accountant should aspire to.

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7.0. BIBLIOGRAPHY
 Corporatenarc. (2013, JULY 04). Retrieved from KPMG ACCOUNTING SCANDAL:
http://www.corporatenarc.com/kpmgaccountingscandal.php

 James Marwick. (2013, JUN 28). Retrieved from WIKIPEDIA:

http://en.wikipedia.org/wiki/James_Marwick

 KPMG. (2013, JUN 26). Retrieved from WIKIPEDIA:

http://en.wikipedia.org/wiki/KPMG

 KPMG. (2013, JUN 26). Retrieved from KPMG:

http://www.kpmg.com/US/EN/Pages/default.aspx

 Piet Klijnveld. (2013, JUN 28). Retrieved from WIKIPEDIA:

http://en.wikipedia.org/wiki/Piet_Klijnveld

 Reinhard Goerdeler. (2013, JUN 28). Retrieved from WIKIPEDIA:

http://en.wikipedia.org/wiki/Reinhard_Goerdeler

 William Barclay Peat. (2013, JUN 28). Retrieved from WIKIPEDIA:

http://en.wikipedia.org/wiki/William_Barclay_Peat

 Ben Protes, L. B. (2010). Deutsche makes Deal In Tax Case. DealBook. Retrieved JULY
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case-for-553-million/?_r=0

 Cohn, M. (2004). Ernst & Young to Pay $123 Million to Settle Tax Shelter Fraud
Charges. accountingTODAY. Retrieved JULY 4, 2013, from
http://www.accountingtoday.com/news/Ernst-Young-Pay-Settle-Tax-Shelter-Fraud-
Charges-65931-1.html

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 Howard Gleckman, A. B. (2005). Inside the KPMG Mess. BloombergBusinessweek.
Retrieved JUN 26, 2013, from http://www.businessweek.com/stories/2005-08-31/inside-
the-kpmg-mess

 Iwata, E. (2005). KPMG fined $456M for tax-shelter fraud for the rich. USA TODAY.
Retrieved JUN 26, 2013, from http://usatoday30.usatoday.com/money/perfi/taxes/2005-
08-29-kpmg-settlement_x.htm

 Maughan, J. (2013, JULY 4). Basic Accounting Code of Ethics. Retrieved from Life123:
http://www.life123.com/career-money/careers/accounting/accounting-ethics.shtml

 Wong, G. (2005). Anatomy of a tax shelter. CNN MONEY. Retrieved JULY 4, 2013,
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 http://www.nytimes.com/2007/09/11/business/11kpmg.html?_r=1&
 http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a2De2PdPIjMU&refer=us

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