Paul L. Caron

Wednesday, July 30, 2014

Experts Assess Whistleblower's Lawsuit Challenging Vanguard's Tax Structure

Following up on Saturday's post, Former Vanguard Tax Lawyer Files Whistleblower Suit Alleging Mutual Fund Giant Became Low-Cost Leader by Evading $1 Billion in Taxes:  Philadelphia Inquirer, Vanguard's Singular Model Is Under Scrutiny:

VanguardVanguard Group stands atop the mutual fund business, and credits its "unique" structure: The largest mutual fund company is owned, not by for-profit investors, but by more than 100 of Vanguard's own mutual funds, which are owned by millions of clients. Vanguard says this frees managers to "focus on keeping costs as low as possible," passing savings to clients through lower fees for investment advice and other support services.

Vanguard's singular model is now under scrutiny. One of Vanguard's own tax lawyers has blown a whistle on its practices. In his lawsuit filed under seal in the New York State Court for Manhattan before he was fired by Vanguard in 2013, Daniel Danon alleges Vanguard's low costs are based on "illegal" income tax avoidance.

Vanguard denies wrongdoing. The company, based in Malvern, said Danon's complaint "is without merit" and promises to "vigorously defend" against it in court. Vanguard traces its client-owned structure to its founding in 1975. Government regulators have had almost 40 years to complain, if there were a problem.

Still, corporate tax lawyers [Stanley Kull, David Shakow, Lee Sheppard, Robert Willens] and mutual fund industry observers contacted by The Inquirer say that Danon is basing his arguments on well-known provisions of federal tax law - and that his insider analysis, if upheld by courts and adopted by the IRS, could provoke changes, and perhaps reduce Vanguard's cost advantage in the marketplace.

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