Will the United States Please Admit It has an Illicit Enrichment Law

United States officials have asserted for at least two decades that a law would make it a crime for a public servant to hold wealth he or she cannot show was honestly acquired would be unconstitutional. Officials say “illicit enrichment” laws reverse the burden of proof in a criminal trial, violate the presumption of innocence, and therefore infringe a criminal defendant’s right to a fair trial.  The State Department made the claim during negotiations for the 1997 Inter-American Convention Against Corruption; it surfaced most recently in a February 26 decision of the Ukrainian Constitutional Court where a majority cited the U.S. position in striking down Ukraine’s illicit enrichment statute.

The assertion is wrong. Or at best highly misleading.  Americans can be prosecuted for holding wealth greater than what their tax return shows they can afford. Like an illicit enrichment prosecution, a defendant in a tax evasion case who cannot produce evidence showing how the wealth was acquired risks conviction for a serious crime, one that today carries a fine of up to $100,000, imprisonment for five years, or both.

U.S. courts have developed a rich body of case law applying this American version of an illicit enrichment law that shows how prosecutors can convict defendants of living beyond their means without violating their fair trial rights. Prosecutors and courts in nations where illicit enrichment laws are recent additions to the statute books would find this jurisprudence instructive in obviating human rights concerns about their nations’ statute. If only they knew about it.

Would an authoritative American spokesperson please correctly state U.S. law? Or at least publicize the web site where U.S. illicit enrichment jurisprudence can be consulted?

America’s version of an illicit enrichment statute is found in chapter 31 of the Department of Justice’s Criminal Tax Manual. It is a byproduct of the passage of the federal income tax law. Since 1913 Americans have been required to report, with limited exceptions, the source and amount of all income earned the previous year. After deducting the costs of generating the income and specified expenses, a tax is due on the remainder.

For as long as there has been a federal income tax, there have been tax cheats, and one of the more common ways to cheat is to underreport income. The tax payer earns $100,000 but reports only $50,000. Shortly after passage of the income tax law, revenue agents devised what in retrospect is an obvious method for catching those underreporting income. They compared how much the taxpayer was worth against his or her reported income. When the analysis showed the tax payer’s net worth had increased, but their reported income had not, or at least not in line with their wealth, the assumption was the increase came from income the person had failed to report.

One of the first to be nabbed with the help of what has become known as the “net worth method” was gangland figure Al Capone. His lavish lifestyle was splashed across Chicago’s tabloid press throughout the “Roaring Twenties,” while all the while he reported earning little or no income. Capone’s conviction spurred a wholesale expansion in the use of the net worth method over the ensuing decades.

Just as opponents of today’s illicit enrichment laws argue that to require an accused to show he or she came by their wealth honestly violates their rights to a fair trial, those convicted of tax evasion using the net worth method contended that to require them to show that they had reported all taxable income was unconstitutional. American courts divided on the issue, and it was left to the U.S. Supreme Court to settle the method’s constitutionality.  It did so in Holland v. United States, 348 U.S. 121 (1954).

Marion Holland and his wife had been convicted of criminal tax evasion for failing to report all income earned in 1948 from their hotel, bar, and restaurant.  The government had shown that within a three-year period their net worth had increased by $32,000 while their reported income grew by less than one-third of that amount.  The Hollands’ defense was that decades ago they had squirreled away $113,000 in large bills and “hundreds and possibly thousands of shares of stock” that the government had failed to include in its net worth calculations.

Before the Supreme Court the Hollands argued that the conviction must be overturned because the government had not disproved their claim that the cash and stock were the sources of their net worth.  They contended too that the government had “failed to adduce adequate proof [of guilt] because it did not negative all the possible nontaxable sources of the alleged net worth increases—gifts, loans, inheritances, etc.” 348 U.S. at 137. The effect of these failures, they contended, was to unconstitutionally put the burden on them to show they were innocent.

At trial, the government had shown that during the two decades, when the couple alleged they were sitting on what in today’s dollars would be over $1 million in cash along with a large amount of stock, their previous business had gone bust; a default judgment had been entered against them, and both had been forced to take menial jobs to survive.  The government produced other evidence undercutting the couple’s claim to heretofore hidden wealth. The two said they used cash from their hidden stash to refurbish the hotel complex, but the government showed they had paid in small bills rather than with the larger denominations they claimed to have stashed away.  A check of the husband’s tax return back to 1913 showed he had not earned anywhere near enough to have accumulated any significant savings.

A unanimous Court held that the government’s showing was enough to convict the Hollands of tax evasion.  In affirming the conviction, however, it cautioned that:

“When the Government rests its case solely on the approximations and circumstantial inferences of a net worth computation, the cogency of its proof depends upon its effective negation of reasonable explanations by the taxpayer inconsistent with guilt. Such refutation might fail when the Government does not track down relevant leads furnished by the taxpayer—leads reasonably susceptible of being checked, which, if true, would establish the taxpayer’s innocence. When the Government fails to show an investigation into the validity of such leads, the trial judge may consider them as true and the Government’s case insufficient to go to the jury.” 348 U.S. at 135-36 (emphasis supplied).

The duty to follow up all “reasonable” explanations the taxpayer proffered, to investigate “relevant leads” which are “reasonably susceptible of being checked,” the Court explained, means the burden of proof has not shifted:

“The Government must still prove every element of the offense beyond a reasonable doubt. . . .  The settled standards of the criminal law are applicable to net worth cases jt as to prosecutions for other crimes. Once the Government has established its case, the defendant remains quiet at his peril.” 348 U.S. 138 – 39.

A prominent former IRS agent once argued to me that the duty Holland imposes on prosecutors to investigate all reasonable explanation distinguishes net worth prosecutions from those for illicit wealth.  On paper he is correct:  StAR’s 2012 survey of illicit enrichment laws cites none which impose such a duty. In practice, however, the distinction is often if not always imperceptible.

Defendants in an illicit prosecution face the same alternatives as defendants charged with tax evasion. They can present truthful evidence showing the money was acquired licitly. They can stand silent. Or they can fabricate a story about its origin.

Where the defendant is innocent — the source of the wealth is a rich spouse, an inheritance, a winning lottery ticket, or whatever — the defendant can and surely will furnish documentation in support: the spouse’s bank records, a valid will, the lottery ticket. Once such evidence is produced, no responsible prosecutor would proceed to trial. The prudent prosecutor would do exactly what the Holland court demands of prosecutors in net worth prosecutions: investigate the material defendant proffered.  Once the prosecutor did, and found it to be genuine, that would end the matter.  If it did not, the court would, likely with an admonition to the prosecution for wasting the court’s time

The difference between a garden-variety illicit enrichment law and a net worth prosecution is in those cases where defendant chooses one of the latter two alternatives. He or she remains silent, offering no explanation for how the wealth the prosecution claims was illicit was obtained. Or two, defendant invents a specious explanation to explain how he or she came into the money but offers incredible, far-fetched evidence in support. In both, the illicit enrichment prosecutor need do nothing while Holland requires net worth prosecutors to do something.  As a practical matter, however, that “something” will rarely if ever be different from what a prudent prosecutor in any criminal case would do.

Take first those cases where the defendant stays silent.  While the Holland court warned that “defendant remains quiet at his peril,” in later cases the courts reasoned that to ensure the burden of proof remains with the prosecution, the government should be sure it has not overlooked any possible source of nontaxable income.  Under U.S. tax law, there are few sources of nontaxable income, and the requirement is met when a careful pre-trial investigation fails to uncover any sources of nontaxable income. Would a prosecutor pursuing an illicit enrichment case deliberately avoid looking into honest, non-criminal explanations for the defendant’s wealth?  Wouldn’t he or she want to be prepared to answer any explanation defendant might offer?  Would a defendant who had an honest explanation stand silent rather than presenting it at the first possible moment?

Where any real difference between an illicit wealth prosecution and one based on a net worth calculation could arise is with cases where a defendant conjures up some half-baked explanation for how he or she has managed to live beyond their means but offers no credible, verifiable evidence in support. The claim might be the money came from a friend, or a bag of cash was found on the street corner, or defendant hit a lucky streak at the gaming tables. Again, in these cases the illicit enrichment prosecutor need do nothing.  If the fact finder doesn’t believe the excuse — if the defendant can’t produce the friend who have him the money or a person who saw her find the bag of cash or witnesses to the winning streak – there is a high-risk conviction will follow.

By contrast, under Holland the net worth prosecutor has a duty to investigate such claims. But the duty is not without bounds.  Where, as in the examples above, the claims are “sketchy” and defendants provide little useful information, the prosecution need do little. It is not obliged to “pursue phantom clues as to some mysterious sources and assets.”

Under the rule in Holland, the net worth prosecutor’s duty to investigate a lead attaches only when it is both “reasonable” and “reasonably susceptible of being checked.” It is here where the extensive U.S. case law showing what explanations American courts have thought serious enough to merit investigation is instructive. My conjecture, supported by accounts of some illicit enrichment cases, is that the unverifiable, cockamamie stories illicit enrichment defendants offer are much like the ones net worth defendants have tried to pass off over the years: a loan from an acquaintance in Nigeria, money found in old mailbags and iron pots, a gift from an unidentified source.

In all the three cases, U.S. courts held prosecutors had no duty to try to verify the defendant’s story, for the stories were not reasonable or not capable of being verified with reasonable effort or often both. Accordingly, in each prosecution for net worth was no different than it would have been had the charge been illicit enrichment. Evidence would be presented the defendant had lived beyond her or his means; the defendant offer some flimsy evidence it had concocted to rebut the charge, and the factfinder would decide whom to believe applying the controlling standard – beyond a reasonable doubt in common law countries, some formulation of in dubio pro reo in continental law ones.

Net worth cases have arisen where U.S. courts have ruled defendants offered a “reasonable” explanation “reasonably susceptible of being checked.”  In the several dozen collected in chapter 31 of the Tax Manual, current through 2012, there is exactly one, United States v. Keller, 523 F.2d 1009 (9th Cir. 1975).  Defendants Kellers challenged a conviction for tax evasion on the grounds the net worth calculation omitted expenses for property improvements which, had the expenses been included, would have shown their income was correctly reported.  The Kellers had provided investigators with information showing the improvements but investigators did not try to confirm whether the claim was true or false.  No explanation for the failure to invest the minimal effort needed to seek confirmation was presented, and accordingly, the conviction was reversed.

While Keller is an example of where U.S. a prosecution for net worth would differs from one for illicit enrichment, such cases are likely rare.  Prosecutors in all legal systems have a duty to see justice is done and a professional interest in avoiding an embarrassing loss at trial.  Had the Kellers been charged in a country with an illicit enrichment law, for reasons both ethical and professional, a prosecutor would likely have investigated their “reasonable” explanation, one that was “reasonably susceptible of being checked.”

The difference between a prosecution for illicit wealth and one for tax evasions based on the net worth method boils down to cases like Heller.  Those where a U.S. court would find it reasonable for prosecutors to investigate a defendant’s evidence rebutting the charge while by law illicit enrichment prosecutors would not be required to do so and, despite ethical and prudential reasons, did not. This is a difference at most paper thin.

Is a paper-thin difference enough to support the categorical claim the United States has no illicit enrichment law? That it considers such laws constitutionally deficient?  Does the difference suffice to give those looking for reasons to avoid adding illicit enrichment to their nation’s anticorruption armory succor? To keep a useful body of case from prosecutors and courts looking for well-reasoned precedents?

Despite Trump-era developments, America remains an influential voice on corruption and human rights.  Repeated assertions that, for constitutional reasons, the nation cannot enact an illicit enrichment statute provides opponents of what the G-7 called in denouncing the Ukrainian decision “a powerful tool in the fight against corruption” a strong argument in opposition.  One the majority in the Ukrainian case took full advantage of in reaching its decision.

Time is long past for the United States to set the record straight about its version of an illicit enrichment and its courts experience in applying it.

1 thought on “Will the United States Please Admit It has an Illicit Enrichment Law

  1. Below is a comment from Tom Lasich, that prominent former IRS agent the post refers to. Looks like I have a ways to go to persuade him. Thanks for the comment, Tom.

    Very interesting analogy comparing the illicit wealth statutes with a NW criminal tax case. I certainly never thought of the similarities.

    However, I think there are some factors that distinguish a criminal tax case based on a NW from an illicit wealth case.

    First, 26 USC 7201 has a couple of extra elements that must be proved, 1) an attempt to evade and 2) willfulness. A few quotes from Holland supports the need to prove these extra elements:

    – “it asks the jury to infer willfulness from this understatement, when taken in connection with direct evidence of “conduct, the likely effect of which would be to mislead or to conceal.”

    – “A final element necessary for conviction is willfulness. The petitioners contend that willfulness “involves a specific intent which must be proven by independent evidence and which cannot be inferred from the mere understatement of income.” This is a fair statement of the rule. Here, however, there was evidence of a consistent pattern of underreporting large amounts of income, and of the failure on petitioners’ part to include all of their income in their books and records.”

    Second, although it is not an element, the courts require the government to prove a “likely source” of the unreported income. A few quotes from Holland support this:

    – “Increases in net 138*138 worth, standing alone, cannot be assumed to be attributable to currently taxable income. But proof of a likely source, from which the jury could reasonably find that the net worth increases sprang, is sufficient.”

    – “The Government introduced evidence tending to show that although the business of the hotel apparently increased during the years in question, the reported profits fell to approximately one-quarter of the amount declared by the previous management in a comparable period”

    “Thus there was ample evidence that not all the income from the hotel had been included in its books and records.”

    – “ In United States v. Johnson, supra, this Court approved of its use to support the inference that the taxpayer, owner of a vast and elaborately concealed network of gambling houses upon which he declared no income, had indeed received unreported income in a “substantial amount.”

    Third, NW cases require an analysis of a specific time period – a definite starting and ending dates. I don’t believe that proof in illicit wealth cases have reach that requirement yet

    Fourth, Some illicit wealth laws have some less than desirable provisions. For example, in the Tanzania law, the government can compel the subject to provide a wealth declaration in the middle of the investigation – no matter how incriminating it may be.

    Lastly, just an interesting fact, IRS – CID works almost no NW cases anymore. Possibly a few cases using source and application (which is far superior to the NW method – not in accuracy but in simplicity).

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