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Financial Fraud Law

$300 Million Tax Fraud Suit Against Sprint-Nextel May Proceed, Appeals Court Rules

 A first-of-its-kind lawsuit against Sprint-Nextel Corporation, alleging that it deliberately undercollected and underpaid millions of dollars in New York State and local sales taxes on flat-rate access charges for wireless calling plans, may continue to trial, a New York appellate court has ruled.

Brought by New York Attorney General Eric T. Schneiderman under the New York False Claims Act, the lawsuit seeks to require Sprint to pay three times its alleged underpayment of approximately $130 million, plus penalties.

According to the complaint, starting in 2005, the telecommunications giant knowingly failed to collect and pay to New York taxing authorities sales taxes on about one quarter of its receipts for its flat-rate charges for wireless calling plans. Schneiderman is contending that Sprint continues to avoid those taxes and under New York law faces up to triple damages.

All of Sprint’s major wireless competitors, including Verizon, AT&T, T-Mobile, and MetroPCS, have followed the law regarding these taxes, Schneiderman said.

Sprint had asked the court to dismiss the lawsuit, arguing that Schneiderman had not adequately alleged that Sprint knowingly had violated the tax law, and that the lawsuit could not apply to conduct before 2010, when the New York False Claims Act was amended.

On July 1, 2013, New York Supreme Court Justice O. Peter Sherwood ruled against Sprint. Sprint appealed the decision to the New York Appellate Division, First Department, which has unanimously affirmed Justice Sherwood’s ruling. 

The appellate court ruled that the trial court had properly denied the motion to dismiss the complaint in its entirety. It found that the complaint adequately alleged that Sprint had violated New York’s False Claims Act (State Finance Law § 189(1)(g)), Executive Law § 63(12) and Article 28 of the Tax Law by knowingly making false statements material to an obligation to pay sales tax pursuant to Tax Law § 1105(b)(2). Moreover, the appellate court determined, the Tax Law provision was not preempted by the Federal Mobile Telecommunications Sourcing Act, 4 U.S.C. 116 et seq., contrary to Sprint’s contention.

The appellate court found that the trial also properly had rejected Sprint’s argument that the New York False Claims Act with respect to statements made under the Tax Law should not be given its stated retroactive effect. According to the appellate court, Sprint failed to show that the Act’s sanction of civil penalties, including treble damages, was so punitive in nature and effect as to have its retroactive effect barred by the federal Constitution’s Ex Post Facto Clause.

The decision “allows my office to proceed in holding Sprint accountable for deliberately evading sales taxes and costing state and local governments approximately $130 million,” said Schneiderman.

David Koenigsberg of the law firm of Menz Bonner Komar & Koenigsberg LLP, who represents the whistleblowers in this action, said, “We applaud the court’s decision that recognizes the vital role New York’s whistleblower tax false claims law will play in ensuring New York’s tax laws are fairly observed by all of us.” 

According to Schneiderman, since 2002, New York Tax Law has required mobile phone companies to collect and pay sales taxes on the full amount of the monthly access charges for their calling plans. For example, he contended, when a customer pays Sprint a fixed monthly charge of $39.99 for 450 minutes of mobile calling time, the law requires Sprint to collect and pay sales taxes on the entire $39.99. According to the Attorney General’s complaint, starting in 2005, Sprint illegally failed to collect and pay New York sales taxes on an arbitrarily set portion of its revenue from these fixed monthly access charges. The complaint asserted that, to carry out this plan, Sprint repeatedly and knowingly submitted false records and statements to New York State tax authorities. Sprint concealed this practice from taxing authorities, its competitors, and its customers, according to the lawsuit.

Schneiderman asserted that Sprint’s scheme is ongoing, that Sprint did not correct its sales tax practices when it was informed of its illegality, and that it has not corrected them even today. As a result of Sprint’s unlawful actions, its underpayment of New York sales taxes is growing by about a $210,000 every week, more than $30,000 a day, according to Schneiderman.

Schneiderman contended that the decision not to collect and pay these taxes arose out of a nationwide effort by Sprint to obtain an advantage over its competitors – not by cutting its prices or offering better service, but by failing to collect and pay sales taxes that its competitors properly collected and paid. Right before deciding to underpay its taxes, Sprint concluded that this practice would position its calling plans as cheaper than competitors’ plans by $4.6 million per month, collectively, because of sales taxes not collected and paid, Schneiderman asserted.

The Attorney General’s lawsuit is the first ever tax enforcement action filed under the New York False Claims Act. The Act is one of the state’s most powerful civil fraud enforcement tools because it allows whistleblowers and prosecutors to take legal action against companies or individuals that defraud the government. Fraudsters found liable under the False Claims Act must pay triple damages, penalties and attorneys’ fees. Under the False Claims Act, whistleblowers may be eligible to receive up to 25 percent of any money recovered by the government as a result of information they provide.

Twenty-nine states and the federal government have passed False Claims Acts, but only New York’s expressly covers tax fraud. In 2011, as one of his first acts in office, Schneiderman created a Taxpayer Protection Bureau, which is charged to work with whistleblowers and enforce the False Claims Act in tax and other government fraud cases.

The Attorney General’s investigation of Sprint began with a whistleblower lawsuit – also called a “qui tam” action– filed in New York State Supreme Court in Manhattan in March 2011, just after the Taxpayer Protection Bureau was created. The Bureau, working with the New York State Department of Taxation & Finance, then conducted an extensive investigation and found what it alleges is Sprint’s illegal conduct. The Attorney General has taken over the action from the whistleblower on behalf of New York’s taxpayers. If found liable, Sprint could be required to pay more than $300 million to New York state and local governments, including school districts.

The Attorney General’s complaint also seeks to protect Sprint’s current customers, to whom Sprint allegedly falsely marketed its wireless calling plans. Sprint promised its customers that it would collect and pay the correct amount of sales taxes on their behalf, Schneiderman said. The Attorney General seeks to ensure that Sprint – and not its customers – will be liable for any back taxes, and to empower Sprint’s current New York customers to terminate their contracts without having to pay termination fees. 

The case is People v. Sprint Nextel Corp., No. 11848 103917/11 (N.Y. App.Div. 1st Dep’t Feb. 27, 2014). Attorneys involved include: Williams & Connolly LLP, Washington, DC (Kannon K. Shanmugam of the bars of the State of Kansas and District of Columbia, admitted pro hac vice, of counsel), for appellants; Eric T. Schneiderman, Attorney General, New York (Brian Sutherland, Richard Dearing, Cecilia Chang, Lisa White, Scott Spiegelman, Randall Fox, Daniel Smirlock, Gregory Krakower, and Kelly Donovan), for respondents; Morrison & Foerster LLP, New York (R. Gregory Roberts of counsel), for Broadband Tax Institute, amicus curiae; McDermott will & Emery LLP, New York (Arthur R. Rosen of counsel), for Council of State Taxation, amicus curiae. 

Learn more:

- Court Allows $300 Million Whistleblower Tax Case against Sprint-Nextel to Go Forward

- Does Sprint Owe NY More Than $300 Million In Sales Tax?

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