Regulatory arbitrage

Texas Law Review

Volumn 89, Issue 2, 2011, Pages 227-289

  Fleischer, Victor ^a  

^a UNIVERSITY OF COLORADO   (United States)

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EID: 79952933281     PISSN: 00404411     EISSN: None     Source Type: Journal    
DOI: None     Document Type: Article

References (475)

1. Remarks on the Financial Crisis Responsibility Fee, 2010 DAILY COMP. PRES. DOC. 20 (Jan. 14, 2010).
2. See Dan Wilchins, Banks, Experts Eye Possible Ways Around Obama Fee, REUTERS (Jan. 14, 2010), http://www.reuters.com/article/idUSTRE60D6D120100114 (describing potential ways to work around bank fees).
3. See John S. Watterson III, Political Football: Theodore Roosevelt, Woodrow Wilson and the Gridiron Reform Movement, 25 PRESIDENTIAL STUD. Q. 555, 559-60 (1995).
4. Theodore Roosevelt, At the Alumni Dinner of Harvard University (June 28, 1905), in MESSAGES AND PAPERS OF THE PRESIDENTS: A COMPILATION OF THE MESSAGES AND SPEECHES OF THEODORE ROOSEVELT 646-47 (Alfred Henry Lewis ed., 1906).
5. Theodore Roosevelt, At the Alumni Dinner of Harvard University (June 28, 1905), in MESSAGES AND PAPERS OF THE PRESIDENTS: A COMPILATION OF THE MESSAGES AND SPEECHES OF THEODORE ROOSEVELT 646-47 (Alfred Henry Lewis ed., 1906). at 647.
6. Frank Partnoy uses a narrower definition: "Regulatory arbitrage consists of those financial transactions designed specifically to reduce costs or capture profit opportunities created by differential regulations or laws. " Frank Partnoy, Financial Derivatives and the Costs of Regulatory Arbitrage, 22 J. CORP. L. 211, 227 (1997).
7. The wash-sale rules prevent tax loss harvesting only if the replacement stock is "substantially identical" to the stock sold. I.R.C. § 1091(a) (2006).
8. See Frank Partnoy uses a narrower definition: "Regulatory arbitrage consists of those financial transactions designed specifically to reduce costs or capture profit opportunities created by differential regulations or laws. " Frank Partnoy, Financial Derivatives and the Costs of Regulatory Arbitrage, 22 J. CORP. L. 211, 227 (1997)., at 238 (explaining that derivatives trading and financial transactions can give rise to regulatory-arbitrage opportunities).
9. Bruce Bartlett cites an example from Ancient Rome where small landowners burdened by heavy taxation would sell themselves into slavery (slaves were exempt from taxes) and place themselves under the protection of a landlord, continuing to farm the lands as before. Bruce Bartlett, How Excessive Government Killed Ancient Rome, 14 CATO J. 287, 300-01 (1994). Emperor Flavius Julius Valens shut down the technique in 368 A.D., declaring it illegal to renounce one's liberty in order to place oneself under the fiscal protection of a landlord.
10. Bruce Bartlett, How Excessive Government Killed Ancient Rome, 14 CATO J. 287, 300-01 (1994). at 301
11. Aurelio Bernardi, The Economic Problems of the Roman Empire at the Time of Its Decline, in THE ECONOMIC DECLINE OF EMPIRES 16, 49 (Carlo M. Cipolla ed., 1970)
12. see also Aurelio Bernardi, The Economic Problems of the Roman Empire at the Time of Its Decline, in THE ECONOMIC DECLINE OF EMPIRES 16, 49 (Carlo M. Cipolla ed., 1970) at 57 ("[T]he revenue of the State shrivelled because the big men resorted to evasion or enjoyed immunity, which is legalized evasion, while the small men in many cases had nothing with which to pay.... ")
13. ECONOMIC DECLINE OF EMPIRES 16, 49 (Carlo M. Cipolla ed., 1970) at 59 ("Neither was there lack of legal expedients to evade taxes. One consisted in paying the taxes for property that was situated in diverse provinces in the lump in the district of one's own choosing, obviously in that district in which an obliging collector was in office. ")
14. Michael S. Knoll, The Ancient Roots of Modern Financial Innovation: The Early History of Regulatory Arbitrage, 87 OR. L. REV. 93, 97 (2008) (tracing the roots of put-call parity, a specific regulatory-arbitrage technique, to ancient Israel and Medieval England).
15. See Remarks on the Financial Crisis Responsibility Fee, 2010 DAILY COMP. PRES. DOC. 20 (Jan. 14, 2010). (condemning financial institutions' reckless behavior)
16. Theodore Roosevelt, At the Alumni Dinner of Harvard University (June 28, 1905), in MESSAGES AND PAPERS OF THE PRESIDENTS: A COMPILATION OF THE MESSAGES AND SPEECHES OF THEODORE ROOSEVELT 646-47 (Alfred Henry Lewis ed., 1906)., at 646-47 (recognizing that helping clients evade regulatory law is a "highly remunerative task" for attorneys).
17. See infra subsection II(C)(2)(a).
18. See infra section II(C)(3).
19. See infra section II(C)(5).
20. See infra subpart II(B).
21. See infra subpart II(C).
22. See Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. 239, 255 (1984) ("I suggest that the tie between legal skills and transaction value is the business lawyer's ability to create a transactional structure which reduces transaction costs and therefore results in more accurate asset pricing. ").
23. Adam J. Levitin, Priceless? The Social Costs of Credit Card Merchant Restraints, 45 HARV. J. ON LEGIS. 1, 42 (2008) ("[C]onfusing credit card disclosures about these costs to consumers appear to be designed to prey on consumers' cognitive biases by not explaining the billing practices that affect the potential cost of card usage. ")
24. Kimberly D. Krawiec, Derivatives, Corporate Hedging, and Shareholder Wealth: Modigliani and Miller Forty Years Later, 1998 U. ILL. L. REV. 1039, 1062 (identifying costs of transacting with a firm's risk-averse shareholders as an explanation for costly hedging transactions)
25. W. Bradley Wendel, Professionalism as Interpretation, 99 NW. U. L. REV. 1167, 1222-23 (2005) (identifying opacity of legal disclosure in Enron SPE transactions as a troublesome sign that should alert ethical lawyers that "something is fishy").
26. Victor P. Goldberg, Aversion to Risk Aversion in the New Institutional Economics, 146 J. INST. & THEOR. ECON. 216, 223 (1990).
27. See, e.g., Floyd Norris, Confronting High Risk and Banks, N.Y. TIMES, Dec. 11, 2009, at B1 (discussing banks' use of trust-preferred securities as "capital arbitrage" and off-balance-sheet structured investment vehicles as a manipulation of the accounting rules).
28. Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. 239, 296-97 (1984).
29. Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. 239, 296-97 (1984). at 298.
30. Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. 239, 296-97 (1984). at 298.
31. See, e.g., Peter C. Canellos, A Tax Practitioner's Perspective on Substance, Form and Business Purpose in Structuring Business Transactions and in Tax Shelters, 54 SMU L. REV. 47, 55 (2001) ("The choice of form may involve balancing business, legal, and financial constraints (including the desire for simple structures) against tax benefits. ").
32. See, e.g., HENRY HANSMANN, THE OWNERSHIP OF ENTERPRISE 22 (1996) (arguing that the ability to minimize transaction costs determines whether organizational forms survive)
33. R. H. Coase, The Nature of the Firm, 4 ECONOMICA 386, 396 (1937) (using transaction costs to explain the boundaries of the firm)
34. Richard A. Epstein, Let "The Fundamental Things Apply": Necessary and Contingent Truths in Legal Scholarship, 115 HARV. L. REV. 1288, 1304 (2002) (noting how legal scholarship has incorporated Coase's insight that we can understand the structure of firms, partnerships, and other voluntary associations by understanding the devices they use to minimize transaction costs)
35. Juliet P. Kostritsky, Taxonomy for Justifying Legal Intervention in an Imperfect World: What to Do When Parties Have Not Achieved Bargains or Have Drafted Incomplete Contracts, 2004 WIS. L. REV. 323, 363 ("Understanding the purposeful desire of parties to minimize transaction costs permits legal decision-makers to understand why parties would structure their economic dealings and trades in particular ways and how parties would react to certain legal interventions. ")
36. Robert B. Thompson & D. Gordon Smith, Toward a New Theory of the Shareholder Role: "Sacred Space" in Corporate Takeovers, 80 TEXAS L. REV. 261, 269 (2001) ("The goal of transaction-cost economics is easily stated: align transactions with governance structures in a manner that minimizes transaction costs. ").
37. MYRON S. SCHOLES ET AL., TAXES AND BUSINESS STRATEGY: A PLANNING APPROACH 9 (3d ed. 2005).
38. See Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1254 (2008) (comparing frictions that increase social value with those that incur social costs)
39. Michael Knoll, Regulatory Arbitrage Using Put-Call Parity, 15 J. APPLIED CORP. FIN. 64, 73 (2005) (describing frictions as a hindrance to tax arbitrage)
40. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) [hereinafter Raskolnikov, Cost of Norms] (discussing how frictions may increase reliance on social or contractual norms to facilitate preferred tax treatment)
41. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) [hereinafter Raskolnikov, Relational Tax Planning] (observing that changing the type of friction might be more effective than defending the current friction type)
42. David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001) (contributing a methodology for determining whether frictions exist that could prevent or inhibit end runs around tax reforms)
43. Daniel Shaviro, Risk-Based Rules and the Taxation of Capital Income, 50 TAX L. REV. 643, 681-83 (1995) (noting that tax rules that attach significance to economic risk-"riskbased rules"-may create nontax frictions that inhibit taxpayers from choosing a tax-favored course). Michael Knoll cleverly frames the inquiry by turning the classic theorem of Modigliani and Miller upside down, explaining that if capital structure is irrelevant under four assumptions, the failure of one of those assumptions is the only way capital structure might create value: "the only ways that capital structure can increase value are by lowering taxes, providing access to cheaper borrowing, releasing valuable information, or improving cash flow. "
44. Peter H. Huang & Michael S. Knoll, Corporate Finance, Corporate Law and Finance Theory, 74 S. CAL. L. REV. 175, 179 (2000).
45. See infra section II(C)(2).
46. David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001), at 1329-30 ("[P]ursuit of the tax reducing strategy may require an organizational form that is less effective at constraining agency costs.... ").
47. See, e.g., Erin A. O'Hara & Larry E. Ribstein, From Politics to Efficiency in Choice of Law, 67 U. CHI. L. REV. 1151, 1163 (2000) ("Individuals and firms who have an incentive to minimize their transaction and information costs and an ability to choose legal regimes that accomplish this goal over time may cause the law to move toward efficiency, if only because inefficient regimes end up governing fewer and fewer people and transactions. ").
48. See, e.g., George J. Stigler, The Theory of Economic Regulation, 2 BELL J. ECON. & MGMT. SCI. 3, 5 (1971) (arguing that an industry will support regulation that excludes others from entering).
49. See, e.g., Fred S. McChesney, Rent Extraction and Interest-Group Organization in a Coasean Model of Regulation, 20 J. LEGAL STUD. 73, 81 (1991) (contending that politicians can extract contributions by pursuing regulation)
50. Fred S. McChesney, Rent Extraction and Rent Creation in the Economic Theory of Regulation, 16 J. LEGAL STUD. 101, 102 (1987) (contending that politicians can extract contributions by pursuing regulation).
51. For a general discussion of the positive effects of avoiding regulation through the choice of law, see ERIN A. O'HARA & LARRY E. RIBSTEIN, THE LAW MARKET (2009). O'Hara and Ribstein argue, "[Choice-of-law] clauses enable parties to protect themselves from state regulation that imposes costs in excess of its benefits to society. " 16 J. LEGAL STUD. 101, 102 at 8.
52. An avoidance strategy may have a positive effect on social welfare, standing alone, but in the aggregate, these strategies tend to have a corrosive effect on the rule of law.
53. My Deals course, which I have taught at Columbia, UCLA, Georgetown, Colorado, and NYU, is modeled on the course "Deals: The Economic Structure of Transactions and Contracting, " pioneered by Ron Gilson and Vic Goldberg at Columbia. I served as the Director of the Transactional Studies Program at Columbia from 2001-2003, co-teaching the Deals course with David Schizer. For a discussion of the Columbia program, see Victor Fleischer, Deals: Bringing Corporate Transactions into the Law School Classroom, 2002 COLUM. BUS. L. REV. 475.
54. I interviewed about a dozen tax and corporate lawyers for this Article. Rather than seek a random sample, I chose to interview lawyers at top firms in New York with whom I had a preexisting relationship and who were willing to speak freely. The interviews are not intended as empirical data but merely to add a touch of real-world flavor to the theoretical framework of this Article and to show that the framework is consistent with the views of at least some New York practitioners.
55. See Victor Fleischer, A Theory of Taxing Sovereign Wealth, 84 N.Y.U. L. REV. 440 (2009) (examining how tax exemption for sovereign-wealth funds affects sovereign investment in U.S. financial institutions)
56. Victor Fleischer, Two and Twenty: Taxing Partnership Profits in Private Equity Funds, 83 N.Y.U. L. REV. 1 (2008) (examining how tax treatment of carried interest differs from that of other forms of compensation)
57. Victor Fleischer, The Missing Preferred Return, 31 J. CORP. L. 77 (2005) [hereinafter Fleischer, Missing Preferred Return] (examining how tax treatment of carried interest partially explains the absence of preferred-return hurdles in venture capital funds)
58. Victor Fleischer, Options Backdating, Tax Shelters, and Corporate Culture, 26 VA. TAX REV. 1031 (2007) [hereinafter Fleischer, Options Backdating] (exploring the relationship between weak internal controls and regulatory noncompliance)
59. Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004) [hereinafter Fleischer, Rational Exuberance] (discussing how legal and business constraints explain the seemingly taxinefficient structure of start-ups)
60. David I. Walker & Victor Fleischer, Book/Tax Conformity and Equity Compensation, 62 TAX L. REV. 399 (2009) (examining how tax and accounting rules affect executive compensation design).
61. For a nontax example explaining the structure of the MasterCard IPO as an example of regulatory arbitrage in the antitrust context, see Victor Fleischer, The MasterCard IPO: Protecting the Priceless Brand, 12 HARV. NEGOT. L. REV. 137, 148-49 (2007).
62. See Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. 239, 296-97, at 243-44 (advancing the theory that business lawyers increase the value of their clients' transactions)
63. see also Nestor M. Davidson, Values and Value Creation in Public-Private Transactions, 94 IOWA L. REV. 937, 942 (2009) (examining how transactional lawyers involved in public-private partnerships create value by advancing public policy goals in addition to minimizing transaction costs)
64. George W. Dent, Jr., Business Lawyers as Enterprise Architects, 64 BUS. LAW. 279, 281 (2009) (evaluating the value-creating activities business lawyers perform outside of the mergers and acquisitions context)
65. Steven L. Schwarcz, Explaining the Value of Transactional Lawyering, 12 STAN. J.L. BUS. & FIN. 486, 487-88 (2007) (suggesting that transactional lawyers create value in ways other than simply reducing transaction costs).
66. In an underappreciated essay, Professors Gilson, Scholes, and Wolfson explored the tradeoff between transaction costs and tax costs in the context of corporate acquisitions, finding that transaction costs typically dominate. See Ronald J. Gilson, Myron S. Scholes & Mark A. Wolfson, Taxation and the Dynamics of Corporate Control: The Uncertain Case for Tax-Motivated Acquisitions, in KNIGHTS, RAIDERS, AND TARGETS: THE IMPACT OF THE HOSTILE TAKEOVER 271, 272-74 (John C. Coffee, Jr. et al. eds., 1988). Professors Gilson, Scholes, and Wolfson argued, Any tax gain that would result from an acquisition must be reduced by the transaction and information costs associated with effecting the acquisition. And here we have in mind more than just the legal and investment banking fees, however substantial, associated with making the deal. Additionally, and more significantly, there are substantial costs to becoming informed that result in information asymmetries and create the potential for problems of moral hazard and adverse selection.
67. Ronald J. Gilson, Myron S. Scholes & Mark A. Wolfson, Taxation and the Dynamics of Corporate Control: The Uncertain Case for Tax-Motivated Acquisitions, in KNIGHTS, RAIDERS, AND TARGETS: THE IMPACT OF THE HOSTILE TAKEOVER 271, 272-74 (John C. Coffee, Jr. et al. eds., 1988). at 272. They continued, Empirically, we observe that far less than all potential tax gains are achieved, thus providing support for our conclusion that transaction and information costs are pervasive and have first-order effects on the choice among alternative ways to achieve tax gains, including the choice of "standing pat, " rationally leaving apparent gains on the table.
68. Ronald J. Gilson, Myron S. Scholes & Mark A. Wolfson, Taxation and the Dynamics of Corporate Control: The Uncertain Case for Tax-Motivated Acquisitions, in KNIGHTS, RAIDERS, AND TARGETS: THE IMPACT OF THE HOSTILE TAKEOVER 271, 272-74 (John C. Coffee, Jr. et al. eds., 1988) at 273-74.
69. See THE HUNT FOR RED OCTOBER (Paramount Pictures 1990) ("Seaman Jones: When I asked the computer to identify it, what I got was magma displacement. You see, sir, the SAPS software was originally written to look for seismic events. I think when it gets confused, it kind of runs home to Mama. ").
70. The increased importance of regulatory expertise helps explain various institutional details about the legal profession, such as what gives large law firms a comparative advantage over inhouse counsel or cheaper law firms and why legal work at the regulatory frontier commands a price premium. It also helps explain why certain law firms-specifically, the elite law firms that compensate their partners in lockstep fashion-appear to be less likely to shirk their professional duty to serve as gatekeepers in favor of aggressive regulatory gamesmanship. Conversely, the decline of the lockstep compensation model helps explain the decline of professional constraints on arbitrage.
71. A note on terminology: Lawyers who help their clients engage in regulatory arbitrage do not often use the word "arbitrage. " Tax lawyers prefer the term "planning, " presumably because arbitrage can carry the connotation of unseemly or improper gamesmanship-something which only fairly applies to more aggressive structures and which in any event is rarely present in the eyes of the lawyers involved. To sidestep this semantic quagmire, I sometimes used the value-neutral terms "regulatory engineering" or "regulatory craftsmanship" when discussing this planning process with the lawyers involved, reserving the term arbitrage (which I also view as value-neutral on its face although sometimes socially undesirable as applied) for detached evaluation of the techniques. In most cases, lawyers engaging in regulatory arbitrage are simply fulfilling their professional and ethical obligations to the client.
72. E.g., David M. Schizer, Sticks and Snakes: Derivatives and Curtailing Aggressive Tax Planning, 73 S. CAL. L. REV. 1339, 1350 (2000) (summarizing the conditions under which the planning option is valuable to taxpayers).
73. See David M. Schizer, Sticks and Snakes: Derivatives and Curtailing Aggressive Tax Planning, 73 S. CAL. L. REV. 1339, 1350 (2000) at 1349-50 (referencing the costs associated with tax avoidance).
74. One lawyer explained, The client will come in and will have concocted some structure which only by randomness might achieve the result they want. So I stop them and say, "There's something you are trying to achieve. What is it? What deal did you cut with the other guy?" I take what he wants to do and try to come up with the most tax-efficient structure. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
75. Interview with Lawyer 2, in N.Y.C. (Sept. 12, 2007).
76. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
77. See generally Joseph Bankman, The Economic Substance Doctrine, 74 S. CAL. L. REV. 5 (2000) (describing a common law doctrine that requires nontax economic substance to qualify for favorable tax treatment).
78. Cf. Herwig J. Schlunk, Little Boxes: Can Optimal Commodity Tax Methodology Save the Debt-Equity Distinction?, 80 TEXAS L. REV. 859, 863-73 (2002) (analogizing tax treatment for commodities to grouping dissimilar types of fruit into a finite number of "little boxes").
79. Treas. Reg. § 301.7701-3 (as amended in 2006).
80. See Peter H. Huang, A Normative Analysis of New Financially Engineered Derivatives, 73 S. CAL. L. REV. 471, 477 (2000) (discussing the benefits of financial engineering).
81. One lawyer explained, "There are three parties at the table, the buyer, the seller, and the IRS. " Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). Another stated, "Gilson's bilateral negotiation model is flawed. Regulatory state is the third person at the table. In a cross-border deal, another government is the fourth player. "
82. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
83. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). The negotiation part of being a deal lawyer, he explained, was like the joke where an old man and his two friends are enjoying their daily lunch at their favorite deli. To save time, they tell each other jokes by simply calling out numbers. "Five!" says the old man, and the other two laugh. "Sixteen!" says another, and they laugh uproariously. A tourist walking by decides to join in. "Thirty-two!" he says. Silence follows. "You didn't tell it right, " explains the old man.
84. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). The joke rings true because so many of the arguments about which party should bear a particular business risk are old hat.
85. See JAMES C. FREUND, ANATOMY OF A MERGER: STRATEGIES AND TECHNIQUES FOR NEGOTIATING CORPORATE ACQUISITIONS 269-72 (1975) (discussing representations and warranties)
86. Ronald J. Gilson, Value Creation by Business Lawyers: Legal Skills and Asset Pricing, 94 YALE L.J. (1984)., at 250-51 ("In a world in which assets are valued according to any version of capital asset pricing theory, there is little role for business lawyers. Because capital assets will be priced correctly as a result of market forces, business lawyers cannot increase the value of a transaction. "). Once the purchase price has been set, negotiating the scope of representations and warranties, indemnities, and other contractual provisions becomes a tiresome zero-sum game.
87. See JAMES C. FREUND, ANATOMY OF A MERGER: STRATEGIES AND TECHNIQUES FOR NEGOTIATING CORPORATE ACQUISITIONS 269-72 (1975), at 229 (positing that such provisions tend to become a "nit-picker's delight, a forum for expending prodigious amounts of energy in debating the merits of what sometimes seem to be relatively insignificant items").
88. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007). ("A big percentage of what I do is guiding the client to structure operations and transactions to minimize the tax leakage. ").
89. Several practitioners mentioned judgment as a critical skill. It comes with experience, and it helps to have "self-awareness. " One lawyer explained, I was generally more conservative at first. But clients don't pay you $900 an hour to tell them that they can do what it says in the regulations. When you start out, you want cases and regulations to rely on. But you come to realize that absence of authority isn't a bad thing. You can analogize to different situations. And then you apply your judgment about how a code section was intended to work. You get better at that as you gain more and more experience. You get more comfortable at giving that kind of advice.
90. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
91. The lawyer further stated, There are still lots of situations where the black letter law is so complex that that's what you're doing for your client. Guiding them through the regulatory morass. But in situations that aren't covered by direct authority, it's "what's the analogy." This is like x, or this is like y. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
92. One tax lawyer explained, There's a two step process. First, I get it to a tax-efficient structure. Show me the economic deal, and I'll come up with an efficient structure. Second, how do I feel about it. This is where judgment comes in. Reasoning by analogy, even if you don't realize you are doing it. Let me think about the court cases, look at the code and regs, and come up with my best judgment about what you can do. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
93. In addition to managing transaction costs, lawyers act as information hubs, assembling massive amounts of documentation from the various parties involved in the deal. See generally Manuel A. Utset, Producing Information: Initial Public Offerings, Production Costs, and the Producing Lawyer, 74 OR. L. REV. 275, 305-06 (1995) (highlighting attorneys' role in gathering, assembling, and interpreting data that becomes the "informational bundle" used to value a company).
94. Regulatory expertise, standing alone, is not what clients are looking for. Rather, the "value comes from synthesizing issues related to different disciplines. " Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007). Lawyers have an "information transmission" role.
95. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007) The firm provides a coordinated team effort that cannot be supplied by multiple firms.
96. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007) The deal lawyer acts as "a conduit between the business guy and all the various legal specialties, from tax to '40 Act to IP to ERISA. "
97. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007) Another added, We provide value through an international network of lawyers, seamless advice in multiple practice areas, experience of deal flow, the number of different transactions we do-we're aware of the issues that come up. We know what the market standard rep or covenant is, how much you put in escrow. There's normally no mismatch of advisors-but there's an intangible element of advantage on deals where there's a mismatch and we're up against a second-tier firm.
98. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
99. One lawyer, echoing Gilson, explained the lawyer's role in terms of economies of scope: Lawyers have a comparative advantage here over investment bankers and accountants not just because they have regulatory expertise, but also because they are in charge of the documents that implement the transaction. Clients take comfort in knowing there's no disconnect between the structure and the documents that implement the structure. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
100. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
101. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
102. One lawyer underscored the advantage of being a lockstep firm in this respect: "You get the guy who will do it better, whether it's your HSR, your environmental person, your ERISA person, instead of doing it yourself."
103. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
104. E.g., Interview with Lawyer 2, in N.Y.C. (Sept. 12, 2007).
105. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
106. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
107. Several lawyers pointed to personality traits associated with lawyers that clients appreciate. "Clients look to us, " explained one tax lawyer, "for things that have nothing to do with risk management and risk assessment. " Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007). "Sometimes it's the lawyer's traditional role of being the calm and rational one. "
108. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007). Clients do not look to the lawyers for the structuring so much as the "sophisticated conversation" about the nuances of the deal and sophisticated, careful implementation of the deal.
109. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007). While others could, in theory, provide this service, it continues to be lawyers who provide it. He pointed to the "crisis of talent in this country, " suggesting that, for whatever reason, some of our most talented minds continue to become lawyers, and they are quite good at performing these roles, which do not necessarily require a law degree.
110. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007).
111. Anecdotally, one can identify several law firms that seem to have leveraged regulatory expertise to bolster their transactional practice. McKee Nelson, which started out as a tax boutique in Washington, D.C., leveraged its regulatory expertise into a thriving capital markets practice. Nathan Carlile, McKee Nelson: The Richest Guys in Town, LEGAL TIMES (Aug. 13, 2007), http://www.law.com/jsp/nlj/PubArticleNLJ.jsp?id=900005488500&slreturn=1&hbxlogin=1 (describing how McKee built its capital markets practice in New York). Before the market crash in 2008, it competed with the heavyweights in New York, and its profits-per-partner and revenue-perlawyer exceeded that of any other D.C.-based firm.
112. Nathan Carlile, McKee Nelson: The Richest Guys in Town, LEGAL TIMES (Aug. 13, 2007). Schulte Roth & Zabel, never known as an elite firm, leveraged its expertise in hedge funds and mutual funds to become a major player in New York and London.
113. See Schulte Roth & Zabel, EXCITE, http://www1.excite.com/home/careers/company_profile/0,15623,1149,00.html (summarizing the growth of the firm). Below, I discuss Skadden Arps, which uses an extensive network of contacts in D.C. to complement its always-strong transactional practice in New York. See infra subpart III(C).
114. See Steven L. Schwarcz, To Make or Buy: In-House Lawyering and Value Creation, 33 J. CORP. L. 497, 561 (2008) (disclosing survey data tending to indicate increasing reliance on in-house counsel for their superior knowledge of "regulatory, organizational, and operational issues that impact the company's transactions").
115. Cf. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008), at 1230 ("Yet casual empiricism may be the best we can do in this area. I suspect that no database contains detailed quantifiable evidence of informal regulatory avoidance, so econometric analysis is likely to be out of the question. ").
116. The empirical challenge is especially daunting where the radiologist, surgeon, and oncologist are all the same person.
117. WILLIAM SHARPE & GORDON J. ALEXANDER, INVESTMENTS 795 (4th ed. 1990).
118. See ZVI BODIE ET AL., INVESTMENTS 325 (8th ed. 2009) (explaining the law of one price).
119. See Ronald J. Gilson & Reineir H. Kraakman, The Mechanisms of Market Efficiency, 70 VA. L. REV. 549, 554-55 (1984) (observing that arbitrage opportunities disappear when prices fully reflect all available information, as is the case in efficient markets). Briefly, when the law of one price is violated, the arbitrageur can buy the asset on the market where the asset is cheap, short the asset on the market where the asset is expensive, deliver the cheap asset to the expensive buyer, and pocket the difference. Similarly, when assets with identical cash flows trade at different prices, the arbitrageur can buy the cheap asset, short the expensive asset, and pocket the difference; by assumption, the cash flows going forward will perfectly offset. Finally, if an asset with a known future price is mispriced, the arbitrageur may enter into a short or long forward contract to deliver or receive the mispriced asset in the future.
120. See Roberta Romano, A Thumbnail Sketch of Derivative Securities and Their Regulation, 55 MD. L. REV. 1, 13-14 (1996) (explaining how a futures contract holder may profit from a difference between the spot-market price and the futures-contract price at the time that the contract expires).
121. See, e.g., Andrei Shleifer & Robert W. Vishny, The Limits of Arbitrage, 52 J. FIN. 35, 40 (1997) (identifying agency costs between portfolio managers and investors as a constraint on arbitrage).
122. Susan Beck, The Transformers, AM. LAW., Nov. 2007, at 94, 94 (describing Blackstone structure and similar structure first employed by Fortress Investment Group)
123. Frederick Tung, Before Competition: Origins of the Internal Affairs Doctrine, 32 J. CORP. L. 33, 42 (2006) ("Delaware is the leading supplier of corporate chargers for publicly traded companies in the United States. ").
124. See David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001), at 1338 n.85 (describing how banks lobbied the Federal Reserve to allow tax-deductible trust-preferred securities to qualify as Tier 1 Capital).
125. See David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001) at 1338 ("[T]ough regulatory treatment ensures the solvency of regulated institutions.... ").
126. Jalal Soroosh & Jack T. Ciesielski, Accounting for Special Purpose Entities Revised: FASB Interpretation 46(R), CPA J., July 2004, at 30, 30, available at http://www.nysscpa.org/printversions/cpaj/2004/704/p30.htm.
127. See Susan Beck, The Transformers, AM. LAW., Nov. 2007, at 94, 94 (describing Blackstone structure and similar structure first employed by Fortress Investment Group)
128. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure).
129. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure)., at 95.
130. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 99-104.
131. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 101.
132. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 101.
133. See Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 102 (describing a blocker entity as "an LLC that elects to be treated as a corporation and pays entity-level tax" and noting that Blackstone used such an entity as part of its regulatory arbitrage).
134. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 102.
135. See Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008) (describing the regulatory arbitrage of Blackstone structure). at 104 ("Blackstone performs active services for 1940 Act purposes but remains passive for tax purposes. "). Some political lobbying also helped. See infra section II(C)(5) (describing typical uses of lobbying). This sort of doctrinal inconsistency can be innocuous; it is helpful to break down the inconsistency further into one or more economic substance inconsistencies. In the case of the Blackstone IPO, its treatment as an active management company was appropriate in light of the actual services performed by Blackstone.
136. Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008), at 100-01. The heart of the arbitrage was the treatment of the firm as a passive conduit for purposes of the publicly traded-partnership rules. Thus, while the doctrinal inconsistency flags a potential policy problem, further analysis of the economic substance of the deal is necessary before drawing any normative conclusions.
137. See Frederick Tung, Before Competition: Origins of the Internal Affairs Doctrine, 32 J. CORP. L. 33, 42 (2006) ("Delaware is the leading supplier of corporate chargers for publicly traded companies in the United States. ").
138. See Frederick Tung, Before Competition: Origins of the Internal Affairs Doctrine, 32 J. CORP. L. 33, 42 (2006) at 39 ("The internal affairs doctrine is a choice of law rule... that selects the law of the incorporating state to govern disputes over the corporation's internal affairs. ").
139. Companies are still free to reincorporate offshore, but new rules treat the firm as if it were a U.S. firm if 80% of the firm's ownership remains the same after the reincorporation. I.R.C. § 7874(b) (2006). Not surprisingly, bankers are now pitching reincorporation deals that would shift 21% ownership to a private equity fund, thereby avoiding the 2004 legislation. See Ryan J. Donmoyer, IRS Moves to Keep Companies from Skirting Tax-Avoidance Law, BLOOMBERG (Sept. 18, 2009), http://www.bloomberg.com/apps/news?pid=21070001&sid=aaWcVXTC4SLw (reporting that Treasury officials were aware of materials promoting such transactions).
140. Mihir A. Desai & James R. Hines, Jr., Expectations and Expatriations: Tracing the Causes and Consequences of Corporate Inversions, 55 NAT'L TAX J. 409, 416, 421-22 (2002).
141. American Jobs Creation Act of 2004, Pub. L. No. 103-357, § 801(a), 118 Stat. 1418, 1562-63 (codified at I.R.C. § 7874 (2006).
142. See Claire A. Hill, Is Secured Debt Efficient?, 80 TEXAS L. REV. 1117, 1128 n.46 (2002) (defining a "double dip transaction" in the leasing context).
143. Diane M. Ring, One Nation Among Many: Policy Implications of Cross-Border Tax Arbitrage, 44 B.C. L. REV. 79, 112-13 (2002) (analyzing a similar hypothetical transaction).
144. For an example in the consumer context describing restructuring of two-to-four week payday loans into twenty-week "installment loans" to avoid state regulation, see Nathalie Martin, Payday Lending Legislation From the Ground Up: A Customer's View of What Works and What Doesn't 20-21 (Jan. 24, 2010) (unpublished manuscript) (on file with Texas Law Review). There are, of course, numerous examples of changing the structure of transactions to fall just outside a regulatory regime's arbitrary line.
145. Paul Rose, Sovereign Wealth Fund Investment in the Shadow of Regulation and Politics, 40 GEO. J. INT'L L. 1207, 1232 (2009) (noting that sovereign wealth fund investments do not exceed 9.9% of the total stock outstanding to avoid filing requirements for 10% shareholders under Section 16 of the Exchange Act of 1934 and to stay below informal 10% threshold that increases likelihood of CFIUS investigation).
146. I.R.C. § 871(a) (2006).
147. See Jeffrey M. Colón, Financial Products and Source Basis Taxation: U.S. International Tax Policy at the Crossroads, 1999 U. ILL. L. REV. 775, 823 (discussing the popularity of totalreturn swaps as a tool for foreign investors to avoid withholding tax).
148. See Anita Raghavan, Happy Returns: How Lehman Sold Plan to Sidestep Tax Man: Hedge Funds Use Swaps to Avoid Dividend Hit; IRS Seeks Information, WALL ST. J., Sept. 17, 2007, at A1 (detailing why no withholding tax is applied).
149. See, e.g., Henry T.C. Hu & Bernard Black, Equity and Debt Decoupling and Empty Voting II: Importance and Extensions, 156 U. PA. L. REV. 625, 640-42 (2008) [hereinafter Hu & Black, Empty Voting II] (describing how hedge funds use swaps)
150. Henry T.C. Hu & Bernard Black, The New Vote Buying: Empty Voting and Hidden (Morphable) Ownership, 79 S. CAL. L. REV. 811, 816-17 (2006) [hereinafter Hu & Black, Empty Voting I] (giving an example of how swaps enable empty voting).
151. Michael S. Knoll, Samuel Zell, The Chicago Tribune, and the Emergence of the S ESOP: Understanding the Tax Advantages and Disadvantages of S ESOPs, 70 OHIO ST. L.J. 519, 551-52 (2009).
152. Michael S. Knoll, Samuel Zell, The Chicago Tribune, and the Emergence of the S ESOP: Understanding the Tax Advantages and Disadvantages of S ESOPs, 70 OHIO ST. L.J. 519, 551-52 (2009). at 552.
153. See Richard Siklos, For Zell, More Tribune Hell, CNNMONEY. COM (Sept. 22, 2008), http://money.cnn.com/2008/09/19/magazines/fortune/zell_suit_siklos.fortune/index.htm (stating that the transaction put Zell in "effective control" of the company).
154. See Michael S. Knoll, Samuel Zell, The Chicago Tribune, and the Emergence of the S ESOP: Understanding the Tax Advantages and Disadvantages of S ESOPs, 70 OHIO ST. L.J. 519, 551-52 (2009)., at 554 ("[T]he S ESOP blocks the Tribune's tax consequences from being passed through to the participants until they withdraw their assets. "). The Tribune filed for bankruptcy in 2008.
155. Michael J. de la Merced, Tribune Files for Bankruptcy, DEALBOOK (Dec. 8, 2008), http://dealbook.blogs.nytimes.com/2008/12/08/tribune-files-for-bankruptcy/. The problem was not that it paid too much income tax but rather that it didn't have any income. Regulatory arbitrage can save taxes, but it can't save the newspaper industry.
156. Marshall Loeb, Estate-tax Uncertainty Will Drag for a While, MARKETWATCH (Sept. 13, 2010), http://www.marketwatch.com/story/estate-tax-uncertainty-will-drag-for-a-while-2010-09-13.
157. Marshall Loeb, Estate-tax Uncertainty Will Drag for a While, MARKETWATCH (Sept. 13, 2010), http://www.marketwatch.com/story/estate-tax-uncertainty-will-drag-for-a-while-2010-09-13.
158. Marshall Loeb, Estate-tax Uncertainty Will Drag for a While, MARKETWATCH (Sept. 13, 2010), http://www.marketwatch.com/story/estate-tax-uncertainty-will-drag-for-a-while-2010-09-13.
159. For example, it has been reported that former New York Yankees owner George Steinbrenner saved his heirs an estimated $500 million by dying in 2010. Brad Hamilton & Jeane Macintosh, Death'$ Perfect Timing: Saves Kin Half-Bil in Taxes, N.Y. POST (July 14, 2010), http://www.nypost.com/p/news/local/death_perfect_timing_NusLyGlMu8cn8kyepprVJP.
160. Wojciech Kopczuk & Joel Slemron, Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity, 85 REV. ECON. & STAT. 256 (2003).
161. Wojciech Kopczuk & Joel Slemron, Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity, 85 REV. ECON. & STAT. 256 (2003). at 264 (finding that "for individuals dying within two weeks of a tax reform, a $10,000 potential tax saving (using 2000 dollars) increases the probability of dying in the lower-tax regime by 1.6%").
162. Wojciech Kopczuk & Joel Slemron, Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity, 85 REV. ECON. & STAT. 256 (2003). at 257 ("Altruistic individuals should consider adjusting the timing of their death if by so doing it will benefit their heirs.").
163. Wojciech Kopczuk & Joel Slemron, Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity, 85 REV. ECON. & STAT. 256 (2003). ("Decisions about prolonging the life of a critically ill person (e.g., regarding whether to continue with life support) are often made not by the dying person but by others, including the potential heirs themselves. ").
164. Wojciech Kopczuk & Joel Slemron, Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity, 85 REV. ECON. & STAT. 256 (2003). at 264.
165. Prior to 2005, GAAP allowed companies to report only the intrinsic value of options as compensation expense; at-the-money options have no intrinsic value thus allowing companies to maximize reported earnings. See David I. Walker, Unpacking Backdating, 87 B.U. L. REV. 561, 568 (2007) (explaining pre-2005 GAAP rules). "Section 162(m) limits the corporate deduction for non-performance-based compensation paid to certain senior executives to $1 million per year" but counts at-the-money stock options (but not in-the-money options) as performance-based pay.
166. David I. Walker, Unpacking Backdating, 87 B.U. L. REV. 561, 568 (2007). at 569
167. see also, e.g., I.R.C. § 162(m)(1) (2006)
168. Victor Fleischer, Options Backdating, Tax Shelters, and Corporate Culture, 26 VA. TAX REV. 1031 (2007), at 1039-42 (discussing the tax consequences of options backdating).
169. See Press Release, U.S. Sec. & Exch. Comm'n, SEC Charges Former Chairman and CEO of Brooks Automation in Stock Option Fraud (July 26, 2007), available at http://www.sec.gov/news/press/2007/2007-146.htm (accusing the CEO of Brooks Automation of approving "the issuance to company executives and employees of stock options that were backdated to earlier dates on which the stock's market price was lower").
170. See Spotlight on Stock Options Backdating, U.S. SECURITIES AND EXCHANGE COMMISSION, http://www.sec.gov/spotlight/optionsbackdating.htm (July 19, 2010) (collecting press releases, criminal complaints, speeches, testimony, and letters related to options backdating going back to 2006)
171. see also, e.g., Press Release, Dep't of Justice: U.S. Attorney S. Dist. of N.Y., Former Chief Financial Officer of Safenet, Inc. Charged in Connection with Backdating of Stock Options (July 25, 2007), available at http://www.justice.gov/usao/nys/pressreleases/July07/argosafenetindictmentpr.pdf (describing a particular indictment in the options-backdating enforcement).
172. See SCOTT BESLEY & EUGENE F. BRIGHAM, ESSENTIALS OF MANAGERIAL FINANCE 226 & n.7 (14th ed. 2008) (describing OID bonds, equating them with zero coupon bonds, and noting their development by Salomon Brothers in the early 1980s).
173. I.R.C. §§ 1271-75 (2006).
174. See Peter C. Canellos & Edward D. Kleinbard, The Miracle of Compound Interest: Interest Deferral and Discount After 1982, 38 TAX. L. REV. 565, 568-70 (1983) (comparing the 1982 changes to earlier regulation of OID bonds).
175. See Gunter Dufey & Florian Rehm, An Introduction to Credit Derivatives 4 (Univ. of Mich. Bus. Sch., Working Paper No. 00-013, 2000), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=249155 (describing a total-return swap).
176. See Henry T.C. Hu & Bernard Black, Equity and Debt Decoupling and Empty Voting II: Importance and Extensions, 156 U. PA. L. REV. 625, 640-42 (2008), at 823-24 (explaining how ownership of the economic returns from stock shares can easily be decoupled from full ownership, which includes voting rights, through the use of derivatives).
177. See, e.g., I.R.C. § 1(g) (2006) (providing that the unearned income of certain children is taxed as if it was their parents' income in order to prevent families from shifting unearned income to their children and lowering the total amount of tax paid by the family)
178. I.R.C. § 102(c) (2006) (providing that amounts given to employees by employers cannot be excluded from gross income as gifts so as to prevent employers from characterizing employee compensation as gifts).
179. H.R. 1935, 111th Cong. § 2 (2009) (proposed § 710(a)(1)(A).
180. H.R. 1935, 111th Cong. § 2 (2009). (proposed § 710(c)(2)(A).
181. David J. Herzig, Carried Interests: Can They Effectively Be Taxed?, 4 ENTREPRENUERIAL BUS. L.J. 21, 26-27 (2009) (explaining the congressional intent behind § 710 as wanting to prevent individuals from using the capital gains tax rate on the functional equivalent of carried interest).
182. H.R. 1935 § 2 (proposed § 710(c)(2)(D).
183. I.R.C. § 1001 (2006).
184. See, e.g., I.R.C. §§ 351, 354 (2006) (granting certain exceptions to the broad rules governing realization events).
185. See Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008), at 1194-95 (discussing the "drop-and-sell" sequence many taxpayers use to avoid taxation).
186. I.R.C. § 351(a).
187. I.R.C. § 351(b).
188. Rev. Rul. 2003-51, 2003-21 C.B. 938.
189. I.R.C. § 351(g) (preventing the application of the § 351(a) nonrecognition provision if the transferor receives nonqualified preferred stock).
190. See, e.g., I.R.C. § 306 (dictating the tax treatment of the disposition of certain kinds of stock)
191. I.R.C. § 355 (controlling the distribution of stock and securities of a controlled corporation)
192. I.R.C. § 368 (setting out narrowly tailored definitions related to the tax treatment of corporate reorganizations).
193. 15 U.S.C. § 80a-3(c)(1) (2006).
194. See 15 U.S.C. § 80a-3(c)(1)(A) (providing the general rule that a company is normally treated as a single person but also providing exceptions if a company owns 10% or more of the voting securities of an investment company and the 10% owner is an investment company or would be but for the 3(c)(1) or 3(c)(7) exceptions to the Investment Company Act).
195. 17 C.F.R. § 230.506 (2010).
196. See, e.g., I.R.C. § 469 (2006) (limiting passive-activity losses and credits)
197. I.R.C. § 1091(a) (2006) (disallowing a loss deduction for a wash sale of stock of securities)
198. I.R.C. § 1260 (2006) (governing the treatment of gains from constructive-ownership transactions).
199. See, e.g., I.R.C. § 269(a) (2006) (empowering the Secretary of the Treasury to disallow deductions, credits, or other allowances from certain transactions by any person or corporation where the "principal purpose" of the transaction was "avoidance of Federal income tax").
200. C. EUGENE STEUERLE, THE TAX DECADE: HOW TAXES CAME TO DOMINATE THE PUBLIC AGENDA 33 (1992).
201. See, e.g., Stanley S. Surrey, Federal Income Tax Reform: The Varied Approaches Necessary to Replace Tax Expenditures with Direct Government Expenditures, 84 HARV. L. REV. 352, 404-05 (1970) (describing a similar tax-shelter transaction in the real-estate context).
202. Stanley S. Surrey, Federal Income Tax Reform: The Varied Approaches Necessary to Replace Tax Expenditures with Direct Government Expenditures, 84 HARV. L. REV. 352, 404-05 (1970) at 405.
203. I.R.C. § 469.
204. Marvin A. Chirelstein & Lawrence A. Zelenak, Tax Shelters and the Search for a Silver Bullet, 105 COLUM. L. REV. 1939, 1951-61 (2005).
205. E.g., I.R.C. § 163(d) (2006) (limiting the interest deduction allowed for investment interest)
206. I.R.C. § 183 (2006) (limiting the deductions allowed for activities "not engaged in for profit")
207. see Leandra Lederman, A Tisket, A Tasket: Basketing and Corporate Tax Shelters, 88 WASH. U. L. REV. (forthcoming 2011), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1639557 (describing "'basketing'" as occurring in code provisions in which "particular types of deductions are grouped with the same type of income and are only allowed to be deducted to the extent of that income").
208. See Robert J. Peroni, A Policy Critique of the Section 469 Passive Loss Rules, 62 S. CAL. L. REV. 1, 3-4 (1988) (arguing that section 469 generates "tremendous costs to the federal income tax system in terms of economic inefficiency, inequity, and complexity").
209. See Charles I. Kingson, The Foreign Tax Credit and its Critics, 9 AM. J. TAX POL'Y 1, 6 n.14 (1991) (noting that section 269 is "becoming senile with disuse").
210. Graeme S. Cooper, International Experience with General Anti-Avoidance Rules, 54 SMU L. REV. 83, 84 (2001)
211. Tim Edgar, Building a Better GAAR, 27 VA. TAX REV. 833, 836 (2008)
212. Benjamin Alarie, Trebilcock on Tax Avoidance, 60 U. TORONTO L.J. 623, 624-25 (2010).
213. Graeme S. Cooper, International Experience with General Anti-Avoidance Rules, 54 SMU L. REV. 83, 84 (2001), at 85 ("[A] GAAR will usually become just another part of the tax landscape.... What is abundantly clear is that a GAAR does not suddenly embolden a reluctant judiciary to become highly interventionist. It neither unleashes a nuclear winter for advisors, nor serves as a panacea for tax authorities. ").
214. The United Kingdom, like the United States, relies on existing judicial antiavoidance doctrines. Graeme S. Cooper, International Experience with General Anti-Avoidance Rules, 54 SMU L. REV. 83, 84 (2001), at 89.
215. Treas. Reg. § 1.701-2(b) (1995).
216. Andrea Monroe, What's in a Name: Can the Partnership Anti-Abuse Rule Really Stop Partnership Tax Abuse?, 60 CASE W. RES. L. REV. 401, 407 (2010).
217. Joseph Bankman, The Economic Substance Doctrine, 74 S. CAL. L. REV. 5, 5 (2000).
218. Health Care and Education Affordability Reconciliation Act of 2010, Pub. L. No. 111-152, § 1409(a), 124 Stat. 1029 (to be codified at I.R.C. § 7701(o).
219. See Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). ("An anti-abuse rule may not change things. If you are a responsible practitioner, you are applying it in your head anyway. ").
220. See, e.g., MYRON S. SCHOLES ET AL., TAXES AND BUSINESS STRATEGY: A PLANNING APPROACH 9 (3d ed. 2005)., at 137 (emphasizing rules and regulations applicable to arbitrage)
221. see Michael Knoll, Regulatory Arbitrage Using Put-Call Parity, 15 J. APPLIED CORP. FIN. 64, 73 (2005) (explaining how the put-call parity theorem has been used to circumvent legal restrictions)
222. Howard E. Abrams, Special Report: A Close Look at the Carried Interest Legislation, 117 TAX NOTES 961 (2007) (exploring proposed code section 710 and the gaps in its coverage).
223. See Tim Edgar, Building a Better GAAR, 27 VA. TAX REV. 833, 836 (2008), at 874 (noting the under inclusiveness of judicial antiavoidance doctrines with respect to transactional substitution techniques)
224. Leandra Lederman, A Tisket, A Tasket: Basketing and Corporate Tax Shelters, 88 WASH. U. L. REV. (forthcoming 2011), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1639557 (accepting that basketing may be over inclusive but finding this preferable to the economic substance doctrine, which is subject to manipulable motive and purpose inquiries).
225. Joseph E. Stiglitz, Some Aspects of the Taxation of Capital Gains, 21 J. PUB. ECON. 257, 259 (1983).
226. The point of Stiglitz's paper, of course, is that any analysis of the effects of capital taxation must focus on imperfect capital markets. Joseph E. Stiglitz, Some Aspects of the Taxation of Capital Gains, 21 J. PUB. ECON. 257, 259 (1983). at 257.
227. MYRON S. SCHOLES ET AL., TAXES AND BUSINESS STRATEGY: A PLANNING APPROACH 9 (3d ed. 2005)., at 9 ("By frictions, we mean transaction costs incurred in the marketplace that make implementation of certain tax planning strategies costly. "). The textbook, first published in 1992, synthesizes much of Scholes's and Watson's earlier scholarship on tax arbitrage. See, e.g., Myron S. Scholes & Mark A. Wolfson, The Effects of Changes in Tax Laws on Corporate Reorganization Activity, 63 J. BUS. S141, S144 (1990) (finding evidence of increased reliance on management buyouts and going-private transactions designed to reduce transaction costs, thereby enabling tax benefits to be realized in a larger number of deals)
228. Myron S. Scholes, G. Peter Wilson & Mark A. Wolfson, Tax Planning, Regulatory Capital Planning, and Financial Reporting Strategy for Commercial Banks, 3 REV. FIN. STUD. 625, 627 (1990) (finding that banks trade off costs of reducing regulatory capital and financial reporting income against tax advantages).
229. MYRON S. SCHOLES ET AL., TAXES AND BUSINESS STRATEGY: A PLANNING APPROACH 9 (3d ed. 2005)., at 138-39.
230. MYRON S. SCHOLES ET AL., TAXES AND BUSINESS STRATEGY: A PLANNING APPROACH 9 (3d ed. 2005). at 155-76.
231. David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001), at 1314-17.
232. See ROGER LOWENSTEIN, WHEN GENIUS FAILED: THE RISE AND FALL OF LONG-TERM CAPITAL MANAGEMENT 144 (2000) (describing investor panic after the Russian debt default in 1998)
233. Andrei Shleifer & Robert W. Vishny, The Limits of Arbitrage, 52 J. FIN. 35, 40 (1997), at 36-37 (describing the source of constraints in financial arbitrage).
234. Enron was the extreme example. Its use of off-balance sheet securitization vehicles, which arbitraged gaps between the accounting rules and the economics of the underlying transactions, ultimately led to a loss of faith by investors and a collapse of the stock price. Agency costs failed to constrain planning in the short run but worked in the long run, bankrupting the company before the accounting rules were changed.
235. For a recent literature review, see generally Mihir A. Desai & Dhammika Dharmapala, Earnings Management, Corporate Tax Shelters, and Book-Tax Alignment, 62 NAT'L TAX J. 169 (2009).
236. See generally Franco Modigliani & Merton H. Miller, The Cost of Capital, Corporation Finance and the Theory of Investment, 48 AM. ECON. REV. 261 (1958).
237. Mihir A. Desai & Dhammika Dharmapala, Earnings Management, Corporate Tax Shelters, and Book-Tax Alignment, 62 NAT'L TAX J. 169 (2009)., at 169. More recent finance papers explore firmlevel characteristics that explain varied responses to regulatory incentives.
238. See, e.g., Julie H. Collins et al., Bank Differences in the Coordination of Regulatory Capital, Earnings, and Taxes, 33 J. ACCT. RES. 263, 289 (1995) ("Evidence presented in this paper supports the proposition that, despite their common production functions, banks vary in their ability and/or willingness to respond to capital, earnings, and tax incentives. In our sample, bank homogeneity is rejected consistently for capital and earnings management and in some cases for tax management. ").
239. Mihir A. Desai & Dhammika Dharmapala, Earnings Management, Corporate Tax Shelters, and Book-Tax Alignment, 62 NAT'L TAX J. 169 (2009)., at 172
240. see also Mihir A. Desai & Dhammika Dharmapala, Corporate Tax Avoidance and High-Powered Incentives, 79 J. FIN. ECON. 145, 146-47 (2006) [hereinafter Desai & Dharmapala, Incentives] (introducing a model to understand "what induces firms and managers to engage in transactions exclusively designed to minimize taxes")
241. Mihir A. Desai, The Degradation of Corporate Profits, 19 J. ECON. PERSP. 171, 179-82 (2005) (describing similar strategies at Tyco and Parmalat).
242. Mihir A. Desai & Dhammika Dharmapala, Earnings Management, Corporate Tax Shelters, and Book-Tax Alignment, 62 NAT'L TAX J. 169 (2009)., at 183-84.
243. Mihir A. Desai & Dhammika Dharmapala, Earnings Management, Corporate Tax Shelters, and Book-Tax Alignment, 62 NAT'L TAX J. 169 (2009)., at 177.
244. See Mihir A. Desai & Dhammika Dharmapala, Corporate Tax Avoidance and Firm Value, 91 REV. ECON. STAT. 537, 537-38 (2009) (using a regression analysis and instrumental-variables strategy based on check-the-box regulations to find a positive and statistically significant relationship between institutional ownership and tax avoidance).
245. Michelle Hanlon & Joel Slemrod, What Does Tax Aggressiveness Signal? Evidence from Stock Price Reactions to News About Tax Shelter Involvement, 93 J. PUB. ECON. 126, 135-36 (2009).
246. Michelle Hanlon & Joel Slemrod, What Does Tax Aggressiveness Signal? Evidence from Stock Price Reactions to News About Tax Shelter Involvement, 93 J. PUB. ECON. 126, 135-36 (2009).
247. see also Victor Fleischer, Brand New Deal: The Branding Effect of Corporate Deal Structures, 104 MICH. L. REV. 1591, 1616-20 (2006) (suggesting that although Steve Jobs's cash salary of one dollar has positive incentive-based corporate governance implications, the precise dollar amount of the salary is "best explained by its branding effect" as an example of the positive, symbolic branding effect of certain corporate-deal structures).
248. See Mihir A. Desai & James R. Hines, Jr., Expectations and Expatriations: Tracing the Causes and Consequences of Corporate Inversions, 55 NAT'L TAX J. 409, 423 (2002) (analyzing the drop in Stanley's stock price at the time of its expatriation announcement as an example of stock prices dropping on these announcements).
249. See, e.g., Kenneth J. Klassen, The Impact of Inside Ownership Concentration on the Trade-Off Between Financial and Tax Reporting, 72 ACCT. REV. 455, 456 (1997) (finding that firms with more concentrated ownership engage in more tax avoidance)
250. Michael B. Mikhail, Coordination of Earnings, Regulatory Capital and Taxes in Private and Public Companies 1 (May 1999) (unpublished manuscript), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=165010 ("[P]ublic companies leave tax benefits on the table while private companies do not.").
251. Shuping Chen et al., Are Family Firms More Tax Aggressive than Non-family Firms?, 95 J. FIN. ECON. 41, 60 (2010).
252. Brad Badertscher, Sharon P. Katz & Sonja Olhoft Rego, The Impact of Private Equity Ownership on Corporate Tax Avoidance 3 (Harvard Bus. Sch. Acct. & Mgmt. Unit, Working Paper No. 1338282, 2009), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1338282 ("[W]e find that PE-backed firms pay 14.2 percent less income tax per dollar of adjusted pre-tax income than non-PE-backed private firms....").
253. See Michelle Hanlon & Joel Slemrod, What Does Tax Aggressiveness Signal? Evidence from Stock Price Reactions to News About Tax Shelter Involvement, 93 J. PUB. ECON. 126, 135-36 (2009) (reporting stock price declines associated with tax avoidance).
254. See Colleen M. Baker, Regulating the Invisible: The Case of Over-the-Counter Derivatives, 85 NOTRE DAME L. REV. 1287, 1306 (2010) (describing the importance of counterparty credit risk).
255. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008), at 1202-04.
256. Jenny Anderson, As Lenders, Hedge Funds Draw Insider Scrutiny, N.Y. TIMES, Oct. 16, 2006, at A15.
257. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007), at 616-17.
258. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 617.
259. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 617.
260. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 617-18.
261. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 614-16.
262. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 618-20.
263. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 621.
264. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008), at 1183.
265. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) at 1184.
266. See Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) at 1190 n.26 (recognizing that the waiting period in the wash-sale rule subjects investment decisions to market volatility).
267. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) at 1184.
268. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) at 1239-46.
269. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008) at 1185
270. see also Thomas M. Palay, Avoiding Regulatory Constraints: Contracting Safeguards and the Role of Informal Agreements, 1 J.L. ECON. & ORG. 155, 157 (1985) (describing how informal contracting can be used to avoid regulatory frameworks).
271. Elizabeth MacDonald, Double Dummy Beats IRS, FORBES, Oct. 29, 2001, at 112, 114.
272. Lucian A. Bebchuk & Ehud Kamar, Bundling and Entrenchment, 123 HARV. L. REV. 1549, 1564 (2010).
273. See Igor Kirman & David M. Adlerstein, Not For Dummies: Navigating the "Double Dummy" Merger Structure, M&A LAWYER, Sept. 2008, reprinted in DOING DEALS 2010: UNDERSTANDING TRANSACTIONAL PRACTICE, at 36-41 (PLI Corp. Law and Practice, Course Handbook Series No. B-1797, 2010) (surveying the numerous considerations and complications attendant to the implementation of a double dummy merger, from the presigning phase through the postclosing phase).
274. See Igor Kirman & David M. Adlerstein, Not For Dummies: Navigating the "Double Dummy" Merger Structure, M&A LAWYER, Sept. 2008, reprinted in DOING DEALS 2010: UNDERSTANDING TRANSACTIONAL PRACTICE. at 33 (noting that, while some of the most significant mergers in recent years have used the double dummy technique, it remains underutilized despite its attractive features).
275. See Geoffrey P. Miller, Catastrophic Financial Failures: Enron and More, 89 CORNELL L. REV. 423, 451 (2004) (postulating that the excessive complexity resulting from more than 3,000 off-balance-sheet arrangements at the time of EnronEnron's collapse contributed to its downfall).
276. KURT EICHENWALD, CONSPIRACY OF FOOLS 559-63 (2005).
277. KURT EICHENWALD, CONSPIRACY OF FOOLS 559-63 (2005). at 33-34.
278. See FINANCIAL CRISIS INQUIRY COMM'N, PRELIMINARY STAFF REPORT, SECURITIZATION AND THE MORTGAGE CRISIS 18-21 (2010) (discussing the potential roles that increase in securitization played in the financial crisis).
279. See Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004), at 137-38 ("Because a start-up typically is organized as a corporation,... its tax losses get trapped at the entity level and only can be carried forward as a net operating loss (NOL), which is less valuable. ").
280. See Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004),. at 184 (concluding that the "key factors" contributing to the observed preference for the corporate form "are the limited ability of investors to use tax losses, agency costs, the tax treatment of gains, and the complexity of the pass-through structure").
281. See Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004), at 167 (explaining that "[p]artnership tax law treats any employee with an equity stake as a partner, complicating compensation issues and increasing tax liabilities for the employees").
282. See Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41, at 672 ("These uses of reputational capital are inefficient. Considerations that have nothing to do with maximizing the expected value of the contractual relationship skew the optimal allocation of formal and informal enforcement mechanisms. Apparently, the tax benefits exceed the costs of suboptimal contracting. ").
283. See Larry E. Ribstein, The Death of Big Law, 2010 WIS. L. REV. 749, 760-61, 765-67 (listing the rise of in-house counsel and increased global competition from legal service providers in India and areas with lower labor costs among the pressures on the large law-firm model).
284. See Scott Baker & Kimberly D. Krawiec, The Economics of Limited Liability: An Empirical Study of New York Law Firms, 2005 U. ILL. L. REV. 107, 148 (discussing the concern with maintaining reputational capital).
285. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
286. See Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007) (stating that the primary value is "knowing market practice[,] [k]nowing the going rates for management fees, knowing how expenses are being whacked up, how people are thinking about industry terms").
287. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
288. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
289. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). Thus the emphasis in law firm marketing materials on "cutting-edge" deals. "The greater the uncertainty in the area, " explained one tax lawyer, "the more important the market practice. "
290. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). Firms that have extensive practices in areas where the law is less settled or exceedingly intricate or both-capital markets, banking, and telecommunications come to mind-can develop a comparative advantage over other law firms. Similarly, in-house counsel rarely sees enough deal flow to develop expertise. Practitioners point to having the expertise to structure deals in the "gray area" (i.e., without definitive written regulatory guidance, cases, or rulings) as a critical element of what they bring to the table.
291. See Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). ("Market practice is important in transactions that have something new... the greater the uncertainty in the area, the more important the market practice. "). Closely related is the access to regulators and the power of persuasion that experts in the field can provide. This structuring savvy is sometimes offered as an anecdotal explanation for why clients are willing to pay lawyers higher and higher fees. Explained one lawyer: Here's one data point. In London, a few lawyers are billing £1,000 an hour [over $2,000 an hour at the time]. They are all tax lawyers. The premia flow to the specialists. It's not the negotiating skill, the identifying and allocating business risks that comes with experience. It's the structuring.
292. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
293. See Peter C. Canellos, A Tax Practitioner's Perspective on Substance, Form and Business Purpose in Structuring Business Transactions and in Tax Shelters, 54 SMU L. REV. 47, 55 (2001), at 56 ("Practitioners who have a reputation for knowledge and experience in real transactions are, needless to say, given a warmer reception [by the IRS] than those who are less well known or are known for participating in tax shelter or other aggressive transactions. ").
294. See PATRICK SCHMIDT, LAWYERS AND REGULATION: THE POLITICS OF THE ADMINISTRATIVE PROCESS 195-96 (2005) (discussing the limited influence of lawyers on regulatory compliance culture)
295. Ronald J. Gilson, The Devolution of the Legal Profession: A Demand Side Perspective, 49 MD. L. REV. 869, 900-01 (1990) (hypothesizing that increased client sophistication will reduce information asymmetry and dissipate lawyers' power to act as gatekeepers).
296. See Marc Galanter & William Henderson, The Elastic Tournament: A Second Transformation of the Big Law Firm, 60 STAN. L. REV. 1867, 1907-13 (2008) (describing the elastic tournament, marked by lateral mobility, as straining ethical decisions by large law-firm partners).
297. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
298. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
299. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007)
300. Ronald J. Gilson, The Devolution of the Legal Profession: A Demand Side Perspective, 49 MD. L. REV. 869, 900-01 (1990), at 901 n.69.
301. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007)
302. More often the pressure is implicit. "You're not generally beholden to a client, but it can happen occasionally. Usually the pressure is much more subtle. It's wanting to make people happy-desire to please. " Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
303. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). This lawyer explained the Peter Canellos syndrome: "You give the advice, and the client responds, 'Well, I'm surprised, because X says it works,' even if Peter didn't say that. The client says, 'Peter is a smart guy. If he says it works, how can he be wrong?'"
304. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). (Canellos is a well-regarded tax lawyer at Wachtell, Lipton, Rosen & Katz.)
305. See Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007) ("When that happens, I feel the squeeze, but I'm not going to give somebody an opinion I'm not comfortable with. It might give me some real pause-why can this guy give the opinion if I can't?").
306. "Pressure also comes from the desire to close the deal that you started. Sometimes the facts change as the deal progresses. The ownership structure may shift subtly, or a client may shed some of the economic risk associated with holding a security. " Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). Does it force people to cross the line? No. But there's more risk when they close the deal than when they started. A corporate lawyer will come in and say, "Are you really telling me that we can't close?" In a gray area, maybe it's hard to say that you can't close the deal.
307. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007) Do corporate lawyers pressure you? Absolutely. The first thing the corporate lawyers says is "Really? Is this a real problem or are you just being an old lady about this?" Corporate lawyers push to find out just how much better it is from a tax perspective. As a tax lawyer, to the extent you have to change the deal, you act with restraint. They're going to ask why. And you have to explain it in technical terms. And you need credibility.
308. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
309. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007).
310. see also Interview with Lawyer 7, in N.Y.C. (Sept. 12, 2007) ("Firms are more aggressive when they are not on lockstep. People are looking for the business. ").
311. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007).
312. Interview with Lawyer 2, in N.Y.C. (Sept. 12, 2007). ("We're also a general partnership. This keeps us more conservative in our advice. LLPs may have reputational capital, but there's a difference between reputational capital and putting your personal assets at risk. ").
313. See MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004) ("Partners continue to compete for compensation, status, and job stability on an ongoing basis, with their ability to generate revenues serving as the primary scorecard. ")
314. Marc Galanter & William Henderson, The Elastic Tournament: A Second Transformation of the Big Law Firm, 60 STAN. L. REV. 1867, 1907-13 (2008) (describing the elastic tournament, marked by lateral mobility, as straining ethical decisions by large law-firm partners)., at 1910 (observing that firms evaluate partners' profitability primarily based on billed hours and fees).
315. See generally Robert W. Hillman, Professional Partnerships, Competition, and the Evolution of Firm Culture: The Case of Law Firms, 26 J. CORP. L. 1061, 1067 (2001) ("The most dramatic evidence of the changing times is the reallocation of a firm's income in favor of partners with loyal client bases, an event that often is combined with a consolidation of management in the hands of these same lawyers. ").
316. One lawyer stated, The new law firm economic model puts pressure on tax partners. You're not just a service provider anymore. You have your own clients. To get to higher levels of compensation, you need a book of business. There's pressure to think about client relationships more. When you aren't in a lockstep system, and there's a lateral partner market out there, there's more incentive to be aggressive. On the other hand, a lot of us think long term. Why risk it? Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
317. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
318. See MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004), at 7 ("Partners continue to compete for compensation, status, and job stability on an ongoing basis, with their ability to generate revenues serving as the primary scorecard. "). One tax lawyer stated, It does help if you are lockstep, or modified lockstep with gates, where everyone makes the same amount for a few years, then you go up in lockstep provided you make the hurdle at ten years, fifteen years, and so on. Because then you are always doing what's in the best interest of the firm. Without lockstep, there is still personal integrity at work, but probably you are being swayed subconsciously by the economics.
319. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007). ("Partners continue to compete for compensation, status, and job stability on an ongoing basis, with their ability to generate revenues serving as the primary scorecard. ").
320. See William D. Henderson & Leonard Bierman, An Empirical Analysis of Lateral Lawyer Trends from 2000 to 2007: The Emerging Equilibrium for Corporate Law Firms 30-31 (Ind. Univ. Maurer Sch. of Law-Bloomington, Research Paper No. 136, 2009), available at http://ssrn.com/abstract=1407051 (discussing Cravath, Swaine & Moore's practice of promoting from within the firm).
321. MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004), at 35 ("As one partner puts it, 'The market is changing quickly.... Firms can't develop resources organically fast enough to keep up. They have to go outside to get talent.'... In contrast to a generation ago, an increasingly large percentage of law firm partners are not associates who are promoted from within, but arrivals from other firms. ").
322. The financial incentive to move laterally is muted at the most elite firms, which offer high compensation that is difficult to match even by high-producing lawyers at nonlockstep firms. Cf. William D. Henderson & Leonard Bierman, An Empirical Analysis of Lateral Lawyer Trends from 2000 to 2007: The Emerging Equilibrium for Corporate Law Firms 30-31 (Ind. Univ. Maurer Sch. of Law-Bloomington, Research Paper No. 136, 2009), available at http://ssrn.com/abstract=1407051, at 12 (noting that single-tier firms have less partner lateral movement than two-tier firms)
323. William D. Henderson & Leonard Bierman, An Empirical Analysis of Lateral Lawyer Trends from 2000 to 2007: The Emerging Equilibrium for Corporate Law Firms 30-31 (Ind. Univ. Maurer Sch. of Law-Bloomington, Research Paper No. 136, 2009). at 14 ("This observation suggests that highly profitable firms-most of them single-tier-are not dependent upon lateral mobility to generate high profits. ").
324. See William D. Henderson & Leonard Bierman, An Empirical Analysis of Lateral Lawyer Trends from 2000 to 2007: The Emerging Equilibrium for Corporate Law Firms 30-31 (Ind. Univ. Maurer Sch. of Law-Bloomington, Research Paper No. 136, 2009). at 14-15 (finding empirical evidence of "deliberate shedding of partners who are in less lucrative practice areas or are perceived as underperforming" among firms in the middle of the profitability spectrum).
325. See Joseph Bankman, The Business Purpose Doctrine and the Sociology of Tax, 54 SMU L. REV. 149, 151-52 (2001) (postulating that law schools' renewed emphasis on textualism is partially responsible for young tax lawyers' text-based statutory interpretation, which conflicts with senior tax lawyers' standards-based statutory interpretation).
326. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007) ("The only real constraint is what do you think Congress meant. What is the best account, using a theory of language. Otherwise it's nihilism. ").
327. See Joseph Bankman, The Business Purpose Doctrine and the Sociology of Tax, 54 SMU L. REV. 149, 151-52 (2001), at 150-51 (observing that many tax lawyers who graduated from law school between 1936 and 1956 favored a nontextual method of interpreting tax statutes).
328. See Noël B. Cunningham & James R. Repetti, Textualism and Tax Shelters, 24 VA. TAX REV. 1, 4 (2004) (voicing concern that tax lawyers are using the textualism movement to create tax shelters).
329. See Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007) ("The only real constraint is what do you think Congress meant. What is the best account, using a theory of language. Otherwise it's nihilism. ").
330. Interview with Lawyer 8, in N.Y.C. (Sept. 11, 2007)
331. see also Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007) ("Excessive literalism, combined with nihilism, produces a result that's absurd. There's too much willingness to think that there's no best answer. ").
332. See Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007). ("I do think about whether I'm comfortable that the spirit of the law is on our side. If I write a 'should' opinion, then I'm not comfortable unless the spirit of the law is there. ").
333. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
334. See, e.g., Deborah L. Rhode & Paul D. Paton, Lawyers, Ethics, and Enron, 8 STAN. J.L. BUS. & FIN. 9, 19-21 (2002) (discussing the conflict of interest inherent in the external review of Enron's transactions conducted by Vinson & Elkins, LLP, Enron's primary outside counsel).
335. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007).
336. see also MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004), at 8 ("[L]egal work continues to require more refined specialization. As a result, lawyers are likely to draw many of their norms and much of their practice culture from colleagues working in the same specialty, rather than from the firm as a whole. ").
337. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007).
338. see also MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004), at 41 ("Both professional training and psychological tendencies incline many lawyers to identify strongly with their clients. ").
339. Interview with Lawyer 6, in N.Y.C. (Sept. 11, 2007).
340. See, e.g., Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). ("The first question that people ask is who else has done it. Then they ask how big are they, and what's their reputation. The problem is that it can lead to something like option backdating. People act like lemmings. If everyone is doing it, it must be okay. And regulators are less likely to do something retroactively. Most clients do not want to be first. Others like to get out front.").
341. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). ("A lot of lawyers 'go native.' Tax lawyers can get too close to the client. Corporate lawyers too, who pressure tax lawyers to toe the line. In the heat of the moment, you resolve issues in favor of the client. ").
342. See Elizabeth Chambliss, The Professionalization of Law Firm In-House Counsel, 84 N.C. L. REV. 1515, 1517 (2006) (noting that a number of general counsels at large firms were promoted from within)
343. Carolyn Kolker, Making Partner Less Likely as Big Law Firms Face Cash Crunch, BLOOMBERG BUSINESSWEEK (Feb. 17, 2010), http://www.businessweek.com/news/2010-02-17/making-partner-less-likely-as-big-law-firms-face-cash-crunch.html (indicating that although firms are less inclined to promote from within, firms have still promoted associates to partners).
344. See Norman Field et al., Law Office Opinion Practices, 60 BUS. LAW. 327, 330-31 (2004) (outlining the various roles that opinion committees play in law firms).
345. James D. Cotterman, Lockstep Compensation. Does it Still Merit Consideration?, LAW PRACTICE TODAY (Aug. 2007), http://www.abanet.org/lpm/lpt/articles/fin08071.shtml.
346. See MILTON C. REGAN, JR., EAT WHAT YOU KILL: THE FALL OF A WALL STREET LAWYER 7 (2004), at 30 ("As one Chase official said of Milbank partner Roy Haberkern, if something was 'legally feasible but risky, he would tell his partner that it was a dumb thing to recommend.'").
347. See Deborah L. Rhode, The Professionalism Problem, 39 WM. & MARY L. REV. 283, 284 (1998) ("If ever there was a true fall from grace, then it must have occurred quite early in the profession's history. ").
348. Several lawyers emphasized that clients shared responsibility for aggressive regulatory stances. For example, one stated, "We're just advisors. It's like a criminal defendant's decision to take the stand-ultimately it's the client's decision. Our clients are very sophisticated consumers. " Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007). He noted that many in-house tax departments are run by former New York tax partners. Deborah L. Rhode, The Professionalism Problem, 39 WM. & MARY L. REV. 283, 284 (1998).
349. Remarks on the Financial Crisis Responsibility Fee, 2010 DAILY COMP. PRES. DOC. 20 (Jan. 14, 2010).
350. Dan Wilchins, Banks, Experts Eye Possible Ways Around Obama Fee, REUTERS (Jan. 14, 2010), http://www.reuters.com/article/idUSTRE60D6D120100114 (describing potential ways to work around bank fees).
351. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
352. Interview with Lawyer 3, in N.Y.C. (Sept. 12, 2007).
353. See generally Michele DeStefano Beardslee, Advocacy in the Court of Public Opinion Installment One: Broadening the Role of Corporate Attorneys, 22 GEO. J. LEGAL ETHICS 1259, 1279-80 (2009) (describing how corporate attorneys manage legal public relations)
354. Michele DeStefano Beardslee, Advocacy in the Court of Public Opinion Installment One: Broadening the Role of Corporate Attorneys, 22 GEO. J. LEGAL ETHICS 1259, 1279-80 (2009) at 1300 ("[A]t times, a lawyer may not be able to provide competent legal advice without taking into account the media ramifications. "). Some have disputed whether engaging in tax-avoidance activity-even aggressive tax-shelter activity-is politically costly.
355. See Joshua D. Blank, What's Wrong With Shaming Corporate Tax Abuse, 62 TAX L. REV. 539, 541 (2009) ("[L]ittle evidence supports the claim that publicity of a corporation's tax shelter activity would lead to ostracism of the corporation. When the press has reported on high-profile public tax-shelter litigation in the past, the corporations involved have not suffered significant drops in stock price, consumer boycotts of their goods, or calls for management reform, even in cases where courts have issued resounding pronouncements in favor of the government. ").
356. See, e.g., David Frisch, Rational Retroactivity in a Commercial Context, 58 ALA. L. REV. 765, 765-66 (2007) (discussing the "traditional disrepute" in which retroactive legislation has been held)
357. Alison L. LaCroix, Temporal Imperialism, 158 U. PA. L. REV. 1329, 1335 (2010) (noting common law attitudes and scrutiny of retroactive legislation).
358. See Matthew T. Bodie, Mother Jones Meets Gordon Gekko: The Complicated Relationship Between Labor and Private Equity, 79 U. COLO. L. REV. 1317, 1350 (2008) (acknowledging unions' ability to leverage support for their issues by "dangling [their] support (or opposition)" for issues the corporation deems a priority).
359. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007).
360. see also Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). ("Is there a difference between public and private deals? Yes. The first reason is nefarious-the transparency issue. My advice is that you shouldn't do it if you wouldn't want the IRS to see it. Assume everything is known. But not everyone is like that. Second, in public deals, it's hard for a board to have a high risk tolerance. You have to talk to investors, and they don't like uncertainty. Confusion. ").
361. Interview with Lawyer 2, in N.Y.C. (Sept. 12, 2007). ("Creative tax planning is more common in the less public deals, the private equity deals. Especially with financial buyers, who scrutinize the aftertax result. Private deals are more aggressive. They are financial buyers, and they don't have to follow a well-trodden path. In public deals, you are usually buying the entire company. In private deals where you are buying assets, or a division, you can get much more creative. ").
362. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
363. Jill E. Fisch, How Do Corporations Play Politics? The FedEx Story, 58 VAND. L. REV. 1495, 1499 (2005).
364. See Jill E. Fisch, How Do Corporations Play Politics? The FedEx Story, 58 VAND. L. REV. 1495, 1499 (2005). at 1504 (highlighting FedEx's investment in political capital through soft money, PAC disbursements, and lobbying expenditures).
365. Amy J. Hillman et al., Corporate Political Activity: A Review and Research Agenda, 30 J. MGMT. 837, 839 (2004).
366. Amy J. Hillman & Michael A. Hitt, Corporate Political Strategy Formulation: A Model of Approach, Participation, and Strategy Decisions, 24 ACAD. MGMT. J. 825, 829 (1999).
367. Amy J. Hillman & Michael A. Hitt, Corporate Political Strategy Formulation: A Model of Approach, Participation, and Strategy Decisions, 24 ACAD. MGMT. J. 825, 829 (1999). at 829-30.
368. See Martin B. Menzar & Douglas Nigh, Buffer or Bridge? Environmental and Organizational Determinants of Public Affairs Activities in American Firms, 38 ACAD. MGMT. J. 975, 991 (1995) (discussing the role a firm's top management philosophy plays in political activity).
369. See Daniel J. Gifford, The Emerging Outlines of a Revised Chevron Doctrine: Congressional Intent, Judicial Judgment, and Administrative Autonomy, 59 ADMIN. L. REV. 783, 790 (2007) ("[R]egulatory agencies were designed to weigh technical expertise over politics by insulating the agency from direct presidential control and ensuring that they were headed by persons representing both political parties. ")
370. see also Marshall J. Breger & Gary J. Edles, Established By Practice: The Theory and Operation of Independent Federal Agencies, 52 ADMIN. L. REV. 1111, 1163-97 (2000) (summarizing internal agency procedures for independent agencies and discussing how this model should combat possible political pressures).
371. See Guy L. F. Holburn & Richard G. Vanden Bergh, Influencing Agencies Through Pivotal Political Institutions, 20 J.L. ECON. & ORG. 458, 478 (2004) (giving examples of situations where a company would choose to lobby the legislature or executive instead of an agency).
372. E.g., Roberta Romano, Law as a Product: Some Pieces of the Incorporation Puzzle, 1 J.L. ECON. & ORG. 225, 249 (1985)
373. see also William J. Carney, The Political Economy of Competition for Corporate Charters, 26 J. LEGAL STUD. 303, 304 (1997) (assuming that entrepreneurs and existing firms will migrate to the least costly regulatory system available).
374. E.g., Erin A. O'Hara & Larry E. Ribstein, From Politics to Efficiency in Choice of Law, 67 U. CHI. L. REV. 1151, 1163 (2000), at 1162-63.
375. Consider the effect of the debt-equity distinction on takeovers. As noted by Robert Bartlett, corporate law has not properly accounted for the distorting effect that tax can have on acquisition financing. See Robert P. Bartlett III, Taking Finance Seriously: How Debt Financing Distorts Bidding Outcomes in Corporate Takeovers, 76 FORDHAM L. REV. 1975, 1999-2000 (2008) ("[H]aving a tax-efficient capital structure does not necessarily mean a bidder is capable of putting a target's assets to the most productive use. "). Because financial buyers-such as private equity funds-typically include more debt in the acquisition financing than strategic buyers and enjoy larger tax deductions as a result, legal rules that encourage boards to sell to the highest bidder are not necessarily efficient. That is, the target's assets may not stand up in the hands of the buyer who would put those assets to their most productive use. The only plausible fix, I think, would be to eliminate the disparate tax treatment of debt and equity.
376. See David I. Walker & Victor Fleischer, Book/Tax Conformity and Equity Compensation, 62 TAX L. REV. 399 (2009), at 443 (observing that increasing conformity may reduce the gaming of reported earnings but increase the gaming of corporate tax deductions).
377. See Janice Grant Brunner, All Together Now? The Quest for International Accounting Standards, 20 U. PA. J. INT'L ECON. L. 911, 912 (1999) (discussing the ability of international financial standards to reduce inconsistency between countries and thereby reduce transaction costs).
378. See Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008) (discussing the incentive that the unique American taxation policy gives to firms to relocate to lower-tax jurisdictions).
379. See David I. Walker & Victor Fleischer, Book/Tax Conformity and Equity Compensation, 62 TAX L. REV. 399 (2009), at 443 ("Any move might affect tax-and accounting-induced distortions in the selection of equity instruments. ").
380. See Daniel R. Fischel, The "Race to the Bottom" Revisited: Reflections on Developments in Delaware's Corporation Law, 76 NW. U. L. REV. 913, 919-20 (1982) (arguing that Delaware's preeminence in incorporations is due to a "climb to the top" that maximizes shareholder wealth)
381. Roberta Romano, Law as a Product: Some Pieces of the Incorporation Puzzle, 1 J.L. ECON. & ORG. 225, 249 (1985), at 226.
382. Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008), at 1235.
383. Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008). at 1230.
384. Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008). at 1283.
385. Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008). at 1256.
386. Mitchell A. Kane & Edward B. Rock, Corporate Taxation and International Charter Competition, 106 MICH. L. REV. 1229, 1266-67 (2008). at 1251-52.
387. See Mihir A. Desai, The Degradation of Reported Corporate Profits, 19 J. ECON. PERSP. 171, 189-90 (2005) ("[S]uch a system would also remove a distinction that has served to enable opportunism. ")
388. Daniel Shaviro, The Optimal Relationship Between Taxable Income and Financial Accounting Income: Analysis and a Proposal, 97 GEO. L.J. 423, 426-27 (2009) ("Absent our twobook system... [c]orporate executives would often be forced to choose between the earnings management goal of increasing reported income and the tax planning goal of reducing it, rather than being able, in many cases, to enjoy the best of both worlds. ").
389. See generally Carter G. Bishop, The Low-Profit LLC (L3C): Program Related Investment by Proxy or Perversion?, 63 ARK. L. REV. 243 (2010) (enumerating the common features and tax implications of L3C entities).
390. An SIV is frequently known as a Special Purpose Entity (SPE). See Frank A. Partnoy, Shapeshifting Corporations, 76 U. CHI. L. REV. 261, 268 (2009) (describing a structured investment vehicle as a "special purpose entity" that issues short-and medium-term debt to finance the purchase of long-term securities).
391. See Frank Partnoy & David A. Skeel, Jr., The Promise and Perils of Credit Derivatives, 75 U. CIN. L. REV. 1019, 1022 (2007) (defining a CDO as "a pool of debt contracts housed within [an SPE] whose capital structure is sliced and resold based on differences in credit quality").
392. See Frank Partnoy & David A. Skeel, Jr., The Promise and Perils of Credit Derivatives, 75 U. CIN. L. REV. 1019, 1022 (2007) at 1044 (reporting that CDO-squared transactions include assets consisting of a portfolio of other CDOs and asset-backed securities).
393. See Frank Partnoy & David A. Skeel, Jr., The Promise and Perils of Credit Derivatives, 75 U. CIN. L. REV. 1019, 1022 (2007) (characterizing CDO-cubed transactions as those involving a portfolio of CDOsquareds).
394. Larry E. Ribstein, Partnership Governance of Large Firms, 76 U. CHI. L. REV. 289, 309 (2009).
395. Susan Pace Hamill, The Limited Liability Company: A Catalyst Exposing the Corporate Integration Question, 95 MICH. L. REV. 393, 394 (1997).
396. See Victor Fleischer, Taxing Blackstone, 61 TAX L. REV. 89, 99-101 (2008), at 99 ("The potential for conflicts of interest between public investors and other entities in the Blackstone structure is substantial. ")
397. Larry E. Ribstein, Partnership Governance of Large Firms, 76 U. CHI. L. REV. 289, 309 (2009)., at 305 ("Blackstone Group unit-holders get almost no formal control rights. ").
398. Victor E. Fleischer, Note, "If It Looks Like a Duck": Corporate Resemblance and the Check-the-Box Elective Tax Classification, 96 COLUM. L. REV. 518, 521 (1996) (detailing the factors for classifying an unincorporated entity, before enactment of the current check-the-box classification).
399. Treas. Reg. § 301.7701-3(a) (as amended in 2006).
400. Section 7704 generally treats publicly traded partnerships as corporations for tax purposes. I.R.C. § 7704 (2006).
401. See, e.g., Lucian Arye Bebchuck & Jesse M. Fried, Executive Compensation as an Agency Problem, 17 J. ECON. PERSP. 71, 71 (2003) (explaining that much of the research on executive compensation schemes in publicly traded companies has focused on how such schemes can alleviate the "agency problem")
402. Developments-Corporations and Society, 117 HARV. L. REV. 2205, 2208 (2004) (stating that the traditional view on executive compensation has been that, "if wielded effectively, [it] is a tool that can minimize agency costs and maximize shareholder value"). Some legal scholars argue that executive compensation is also designed to camouflage managerial rent extraction.
403. See, e.g., LUCIAN BEBCHUK & JESSE FRIED, PAY WITHOUT PERFORMANCE: THE UNFULFILLED PROMISE OF EXECUTIVE COMPENSATION 67-70 (2004) (illustrating the incentive to adopt compensation packages that obscure the total amount of compensation in order to limit outside criticism)
404. Jesse M. Fried, Share Repurchases, Equity Issuances, and the Optimal Design of Executive Pay, 89 TEXAS L. REV. (forthcoming 2011) (asserting that standard equity-based pay provides incentives to managers to engage in inefficient share repurchases and equity issuances).
405. See Sharon Hannes, Compensating for Executive Compensation: The Case for Gatekeeper Incentive Pay, 98 CALIF. L. REV. 385, 395 (2010) (describing the growth in executive pay and equity-based executive compensation since 1990).
406. 148 CONG. REC. 3,879 (2002) (statement of Rep. Staria).
407. Paul J. Carruth, Accounting for Stock Options: A Historical Perspective, J. BUS. & ECON. RES., May 2003, at 9, 9.
408. See David I. Walker & Victor Fleischer, Book/Tax Conformity and Equity Compensation, 62 TAX L. REV. 399 (2009), at 403
409. David I. Walker, Evolving Executive Compensation and the Limits of Optimal Contracting, 63 VAND. L. REV. (forthcoming 2010).
410. Victor Fleischer, The Missing Preferred Return, 31 J. CORP. L. 77 (2005), at 109.
411. See Victor Fleischer, The Missing Preferred Return, 31 J. CORP. L. 77 (2005). at 79 (discussing how the disparate treatment of carry and management fees encourages fund managers to receive more compensation in the form of carry).
412. Victor Fleischer, The Missing Preferred Return, 31 J. CORP. L. 77 (2005). at 114.
413. Gregg D. Polsky, Private Equity Management Fee Conversions, 122 TAX NOTES 743, 749 (2009).
414. See Gregg D. Polsky, Private Equity Management Fee Conversions, 122 TAX NOTES 743, 749 (2009). at 750 ("In fact, the odd design of the additional carried inte interest is entirely taxdriven. ").
415. See Michael Knoll, Regulatory Arbitrage Using Put-Call Parity, 15 J. APPLIED CORP. FIN. 64, 73 (2005), at 65 ("Regulatory arbitrage is unfair because the less wealthy and less sophisticated often are unable to avail themselves of the arbitrage and so only they pay the higher regulatory cost. ").
416. See Jesse M. Fried & Mira Ganor, Agency Costs of Venture Capitalist Control in Startups, 81 N.Y.U. L. REV. 967, 1010 (2006) (describing how angel investors pass along transaction costs to entrepreneurs in the form of investment terms).
417. Ronald J. Gilson, Engineering a Venture Capital Market: Lessons from the American Experience, 55 STAN. L. REV. 1067, 1077 (2003).
418. See William A. Sahlman, The Structure and Governance of Venture Capital Organizations, 27 J. FIN. ECON. 473, 518 (1990) (exploring the constraints of venture capital industry standards).
419. Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004), at 137
420. Joseph Bankman, The Structure of Silicon Valley Start-Ups, 41 UCLA L. REV. 1737, 1738 (1994).
421. See Victor Fleischer, The Rational Exuberance of Structuring Venture Capital Start-ups, 57 TAX L. REV. 137 (2004), at 171-72 (describing the complications surrounding employee options in partnerships).
422. Joseph Bankman, The Structure of Silicon Valley Start-Ups, 41 UCLA L. REV. 1737, 1738 (1994)., at 1756.
423. See Dana L. Trier & Lucy W. Farr, Constructive Sales Under Section 1259: The Best Is Yet to Come (describing methods of reducing market risk associated with constructive sale rules), in 16 TAX STRATEGIES FOR CORPORATE ACQUISITIONS, DISPOSITIONS, SPIN-OFFS, JOINT VENTURES, FINANCINGS, REORGANIZATIONS & RESTRUCTURINGS 1217, 1223 (PLI Tax Law and Estate Planning: Tax Law and Practice, Course Handbook Ser. No. J-553, 2002)
424. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007), at 669-70 ("Large businesses and very wealthy individuals... should be expected to look for more complicated ways of reducing their tax liabilities. ")
425. David M. Schizer, Frictions as a Constraint on Tax Planning, 101 COLUM. L. REV. 1312, 1315-16 (2001), at 1319 (discussing how wealthy individuals are capable of planning around tax rules).
426. Having said that, it is somewhat speculative to argue that, absent regulatory arbitrage, the poor would be any better off. David Weisbach, for example, has argued that there is no relationship between tax avoidance and progressivity. David A. Weisbach, Ten Truths About Tax Shelters, 55 TAX L. REV. 215, 240 (2002).
427. If tax shelters (or, presumably, tax avoidance generally) were reduced, he argues, "the extra revenue could be used to reduce other taxes on the rich. " David A. Weisbach, Ten Truths About Tax Shelters, 55 TAX L. REV. 215, 240 (2002).
428. see also David A. Weisbach, Ten Truths About Tax Shelters, 55 TAX L. REV. 215, 240 (2002). ("Therefore, the distributional consequences of shelters are basically independent of the efficiency consequences. "). Weisbach notes, however, that attacks on tax shelters affect the elasticity of taxable income and thus the efficiency of the tax system overall.
429. David A. Weisbach, Ten Truths About Tax Shelters, 55 TAX L. REV. 215, 240 (2002). If a regulatory arbitrage technique is shut down, the rich may be in a better position to lobby Congress to create a new exception to the rules. My only claim here is the more limited one that the rich are in a better position to engage in regulatory arbitrage.
430. See, e.g., Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007), at 668-69 ("For instance, a tax lawyer without special training may be simply unable to recognize the requirement that an NPC must provide for multiple payments.... Thus, it will often take sophisticated tax experts merely to discern how a tax-driven norm works. ").
431. See Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 668 ("For instance, to rely on the confidentiality norm, one must be aware, at a minimum, of the disclosure requirement in the Treasury regulations. While the requirement is quite straightforward, we can hardly presume that all (or most) business-people have a working knowledge of these regulations. ").
432. Alex Raskolnikov, The Cost of Norms: Tax Effects of Tacit Understandings, 74 U. CHI. L. REV. 601, 639-41 (2007) at 643-44.
433. See, e.g., ERIN A. O'HARA & LARRY E. RIBSTEIN, THE LAW MARKET (2009), at 19-20 (advocating a "law market, " maintained via contractual choice-of-law clauses, as a means of mitigating burdensome state regulations that at best "suit the average citizen, not each individual citizen" they govern)
434. Erin A. O'Hara & Larry E. Ribstein, From Politics to Efficiency in Choice of Law, 67 U. CHI. L. REV. 1151, 1163 (2000), at 1154, 1157-61 (arguing that efficiency dictates regulatory arbitrage where legislators and courts are subject to influences that undermine the public interest).
435. See James M. Buchanan, Externality in Tax Response, 33 S. ECON. J. 35, 36 (1966) ("Implicitly, excess-burden analysis assumes that taxes are collected from the economy in complete independence from the financing of public service benefits. By contrast, I shall assume that taxes are collected solely for the purpose of financing public-service benefits that are enjoyed by the same set of persons as those who pay the taxes. ").
436. Cf. Martin D. Ginsburg, Making the Tax Law Through the Judicial Process, 70 A.B.A. J. 74, 76 (1984) ("[E]very stick crafted to beat on the head of a taxpayer will, sooner or later, metamorphose into a large green snake and bite the Commissioner on the hind part. ")
437. David Reilly, Closing Lehman's Legal Loophole, WALL ST. J., Mar. 13, 2010, at B16 ("Give Wall Street a rule and it will find a loophole.... Regulators and legislators should keep this in mind as they pursue financial overhaul. "). Professor Ginsburg was no regulatory nihilist. His point was that, when the government stretches tax policy to achieve a pro-government result, astute taxpayers will convert the rule into a pro-taxpayer strategy the best government strategy is to stick to tax rules that more closely track underlying economics. I am indebted to Howard Abrams for this insight.
438. See also David Reilly, Closing Lehman's Legal Loophole, WALL ST. J., Mar. 13, 2010, at B16 ("The lesson: Regulators should move toward a system where companies are judged by the substance of what they are trying to achieve, rather than meeting the definition of accounting rules. ").
439. See, e.g., David A. Weisbach, The Taxation of Carried Interests in Private Equity, 94 VA. L. REV. 715, 759 (2008) ("The exact avoidance strategies will depend on the precise legislation, if any, that is enacted, so it is difficult to make definite predictions. Nevertheless, it is clear that avoidance will be relatively easy because of the underlying theoretical problem: the difficulty of distinguishing labor and capital income. ").
440. See generally Rachel Barkow, Insulating Agencies: Avoiding Capture Through Institutional Design, 89 TEXAS L. REV. 15 (2010) (discussing theories of agency capture and ways to insulate agencies from outside influence).
441. Interview with Lawyer 9, in N.Y.C. (Sept. 11, 2007).
442. Interview with Lawyer 9, in N.Y.C. (Sept. 11, 2007).
443. Interview with Lawyer 9, in N.Y.C. (Sept. 11, 2007).
444. Interview with Lawyer 1, in N.Y.C. (Sept. 12, 2007).
445. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
446. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
447. See Eric Lipton & Raymond Hernandez, A Champion of Wall Street Reaps the Benefits, N.Y. TIMES, Dec. 14, 2008, § 1, at 1 (discussing lawyers' successful lobbying of Senator Schumer to defeat an SEC initiative).
448. See Eric Lipton & Raymond Hernandez, A Champion of Wall Street Reaps the Benefits, N.Y. TIMES, Dec. 14, 2008, § 1 ("Lee A. Pickard, a lawyer representing clients including the Bank of New York, whose employees have been significant donors to Mr. Schumer and other Senate Democrats, turned to Mr. Schumer last year to successfully beat back a regulatory initiative by the Securities and Exchange Commission. 'If you get Chuck Schumer on your side, you are O.K.,' he said. ").
449. See Peter Lattman, Jenny Strasburg & Naftali Bendavid, Congress Has Hedge Funds, Buyout Firms in Tax Sights, WALL ST. J., Jan. 7, 2010, at C1 (discussing Senator Baucus's opposition to carried-interest reform).
450. I am indebted to three of my corporate tax students for their cogent analysis of this deal. See Brett Hudspeth, Jennifer Rhein & Kristen Spath, Wells Fargo + Wachovia: Structure, Tax, and Politics (Spring 2009) (unpublished student paper) (on file with author).
451. Ben White & Andrew Ross Sorkin, Morgan Stanley Considers Merger with Wachovia, N.Y. TIMES (Sept. 17, 2008), http://www.nytimes.com/2008/09/18/business/18morgan.html.
452. Charlie Gasparino & Mary Thompson, Morgan-Wachovia Deal Is Off the Table, CNBC (Sept. 21, 2008), http://www.cnbc.com/id/26827870.
453. David Enrich & Dan Fitzpatrick, Wachovia Chooses Wells Fargo, Spurns Citi, WALL ST. J., Oct. 4, 2008, at A1.
454. David Enrich & Dan Fitzpatrick, Wachovia Chooses Wells Fargo, Spurns Citi, WALL ST. J., Oct. 4, 2008, at A1.
455. Alistair Barr & John Spence, Citi to Buy Wachovia Banking Business for $2.16 bln, MARKETWATCH (Sept. 29, 2008), http://www.marketwatch.com/story/citi-to-buy-wachovias-bankbiz-in-latest-government-backed-deal.
456. See David Enrich & Dan Fitzpatrick, Wachovia Chooses Wells Fargo, Spurns Citi, WALL ST. J., Oct. 4, 2008, at A1.
457. See Amit R. Paley, A Quiet Windfall for U.S. Banks, WASH. POST, Nov. 10, 2008, at A1 (discussing lobbying efforts prior to the change in interpretation of section 382).
458. E.g., Guhan Subramanian & Nithyasri Sharma, Citigroup-Wachovia-Wells Fargo 6 (Harvard Law Sch., Case No. 10-03, 2010), available at http://www.law.harvard.edu/faculty/faculty-workshops/subramanian.summer.2010.faculty.workshop.pdf (noting that Wells Fargo was one of the banks who had sufficient profits to capitalize on Wachovia's $75 billion in losses).
459. See Guhan Subramanian & Nithyasri Sharma, Citigroup-Wachovia-Wells Fargo 6 (Harvard Law Sch., Case No. 10-03, 2010), available at http://www.law.harvard.edu/faculty/faculty-workshops/subramanian.summer.2010.faculty.workshop.pdf, at 2, 6 (discussing Citigroup's losses and postulating that Wells Fargo was one of very few banks capable of capitalizing on Wachovia's estimated $75 billion in built-in losses).
460. Carl Hulse & David M. Herszenhorn, Defiant House Rejects Huge Bailout; Stocks Plunge; Next Step Is Uncertain, N.Y. TIMES, Sept. 29, 2008, at A1.
461. See Lawrence Zelenak, Can Obama's IRS Retroactively Revoke Massive Bank Giveaway?, 122. TAX NOTES 889, 890-93 (2009) (arguing that lack of apparent statutory authority for Notice 2008-83 would permit retroactive revocation of the notice).
462. David Enrich & Dan Fitzpatrick, Wachovia Chooses Wells Fargo, Spurns Citi, WALL ST. J., Oct. 4, 2008, at A1.
463. I.R.S. Notice 2010-2, 2010-2 I.R.B. 251 (Jan. 11, 2010).
464. See Jeremiah Coder, Treasury Inspector General Reviewing Bank Loss Notice, 121 TAX NOTES 884, 884-85 (2008) (quoting Mark Prater, House Finance Minority Chief Tax Counsel, as explaining that "[t]he ruling is out there. Folks have relied on that. Deals have been done, " and quoting House Ways and Means Majority Chief Tax Counsel John Buckley as saying "[w]e all have personal views. It's somewhat irrelevant. I mean, they did it.... I really think you have to see those regulations as at least temporarily having the effect of law").
465. Emily Parker, Acting Chief Counsel, Internal Revenue Serv., Address at the TEI/LMSB Financial Services Industry Conference 1-2 (Sept. 22, 2003), available at http://www.irs.gov/pub/irs-utl/tei-92203.pdf. The Treasury and the IRS, of course, disclaim the existence of any such rule, noting the limited resources of the regulators to examine every deal.
466. Emily Parker, Acting Chief Counsel, Internal Revenue Serv., Address at the TEI/LMSB Financial Services Industry Conference 1-2 (Sept. 22, 2003) at 2.
467. See Dana L. Trier & Lucy W. Farr, Constructive Sales Under Section 1259: The Best Is Yet to Come (describing methods of reducing market risk associated with constructive sale rules), in 16 TAX STRATEGIES FOR CORPORATE ACQUISITIONS, DISPOSITIONS, SPIN-OFFS, JOINT VENTURES, FINANCINGS, REORGANIZATIONS & RESTRUCTURINGS 1217, 1223.
468. Interview with Lawyer 9, in N.Y.C. (Sept. 11, 2007).
469. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007).
470. Interview with Lawyer 5, in N.Y.C. (Sept. 11, 2007).
471. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007). ("Part of it is experience. Knowing market practice. Sometimes it's the attraction of a key player, an expert in tax, antitrust. Sometimes it's access to regulators. Managing regulatory risk. Making the most compelling arguments to the regulators. ").
472. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
473. Interview with Lawyer 4, in N.Y.C. (Sept. 12, 2007).
474. See Marisa McQuilken, Skadden Posts Huge Capital Gains, LEGAL TIMES, May 5, 2008 (discussing Skadden's "insider access" across various regulatory agencies led by Fred Goldberg, Bob Bennett, and others).
475. Cf. Alex Raskolnikov, Relational Tax Planning Under Risk-Based Rules, 156 U. PA. L. REV. 1181, 1239 (2008), at 1241-42 (noting that traditional market-risk-based backstops "actually used today are significantly more effective than relational ones").