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2007 Rutgers Quarterly “Does An Ambulatory Surgery Center Make Sense for My Practice?”
Wednesday, Januar y 17th, 2007
Business Outlook
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P r esenters: Stephen M. Greenberg, Flaster/Greenberg
and Richard Wagar, M.B.A., president, Editor’s Note… Accountants Liable
A distinguished panel of industry leaders
Surgery Center Management Services, Inc. (SCMS)
Location: Flaster/Greenberg Conference Center
This issue of the
Tax and Business
for Not Detecting Fraud
will forecast what bodes for the 1810 Chapel Avenue West, Cherry Hill, NJ
Law Report contains BY MICHAEL P. SPIRO
Southern New Jersey economy articles on a broad
“How to Avoid the 10 Biggest Legal & Economic After the fall of accounting giant Arthur Anderson for its part
each quarter of ’07. Mistakes Made in Physician Buy-Ins & Buy-Outs” spectrum of topics
in the Enron scandal, accounting professionals became further
Moderator: Rutgers University School Tuesday, March 6th, 2007
— offering insights
sensitized to the risk that they could be held both civilly and
of Business-Camden Dean Mitchell Koza Registration: 5 to 5:30 p.m. on pension and exec-
criminally liable for aiding, abetting or participating in the
Program: 5:30 to 7 p.m. utive compensation
Richard J. Flaster known fraudulent activities of an accounting or auditing client.
Supported by Flaster/Greenberg P.C. and the Wine Tasting Reception: 7 to 8 p.m. planning, broadened
However, a recent decision by the New Jersey Supreme Court
scope of state corporate income taxation,
Chamber of Commerce Southern New Jersey P r esenters: Richard J. Flaster and Markley S. Roderick, has taken this concern a step further, in holding that an
a frightening caveat on malpractice
in partnership with the Flaster/Greenberg P.C. accounting firm can be liable to shareholders of a corporation for
exposure as well as new rules for IRS
Rutgers University School of Business-Camden Location: Flaster/Greenberg Conference Center failing to detect fraud by the officers of the corporation, even
tax collection and changes to privacy
1810 Chapel Avenue West, Cherry Hill, NJ where the accountant was unaware of the fraudulent activity.
notice requirements.
Advance registration is required. To register, In NCP Litigation Trust v. KPMG, LLP, No. A-19-04, June 28, 2006, two
contact the Chamber of Commerce Southern New Jersey Registration information and event details can be found If you pr ovide us with your e-mail
at (856) 424-7776, register online at www.flastergreenberg.com/events addr e s s a n d t h e e - m a i l a d d r esses of officers of a public company committed fraud by falsifying the corporation’s
at www.chambersnj.com/calendar.mv, Call Stacie Koch at 856-661-2281 to reserve your seat and materials. colleagues who would be inter ested in financial data. Ultimately, the fraud led the corporation into bankruptcy, and the
or send an email with your name and company
to firm@flastergreenberg.com.
Register online: www.flastergreenberg.com/events
Email: healthcare@flastergreenberg.com Office Locations r e c e i v i n g t h i s r epor t, we would be
pleased to include that infor m a t i o n
shareholders of the corporation (through a litigation trust) brought suit against
not only the officers of the corporation, who had committed the fraud, but also
1810 Chapel Avenue West 190 South Main Road in the database for this r epor t. Please against the corporation’s accountants, (KPMG), for negligently failing to detect
Cherry Hill, NJ 08002-4609 Vineland, NJ 08360 send that infor mation to me at the fraud. In its defense, KPMG relied on the “doctrine of imputation,” which
TAX & CORPORATE PRACTICE GROUP Tel 856-661-1900 Tel 856-691-6200 r i c k . f l a s t e r @ f l a s t e r g r e e n b e r g.com. provides that the fraud of an agent is generally imputed to its principal. KPMG
Fax 856-661-1919 Fax 856-696-8150 MORRISTOWN argued that under this doctrine, the litigation trust (as successor to the corpora-
Richard J. Flaster Peter R. Spirgel Elliot D. Raff
rick.flaster@flastergreenberg.com peter.spirgel@flastergreenberg.com elliot.raff@flastergreenberg.com
tion) was deemed to be aware of the fraud. In other words, that there was no basis
856-661-2260
Stephen M. Greenberg
856-661-2267
Alan H. Zuckerman
856-382-2241
Dennis J. Helms
2900 Fire Road, Suite 102A
Egg Harbor Twp., NJ 08234
8 Penn Center
1628 JFK Boulevard PA In This Issue. . . to hold the accounting firm responsible for failing to detect and advise them of a
fraud that they were deemed to already know about. While this argument was
steve.greenberg@flastergreenberg.com alan.zuckerman@flastergreenberg.com dennis.helms@flastergreenberg.com
Tel 609-645-1881 Philadelphia, PA 19103 Accountants Liable for Not successful at the trial court level, the Supreme Court of New Jersey reversed the
856-661-2261 856-661-2266 856-382-2238 Fax 609-645-9932 Tel 215-279-9393 Detecting Fraud........................1 ruling of the trial court, finding that “KPMG had an independent contractual
Fax 215-279-9394 obligation, at a level defined by its agreement with the Company, to detect the
Laura B. Wallenstein William S. Skinner Thomas D. Scholtes 89 Headquarters Plaza North
TRENTON Pension Act Creates
fraud, which it allegedly failed to do.”
laura.wallenstein@flastergreenberg.com william.skinner@flastergreenberg.com thomas.scholtes@flastergreenberg.com 14th Floor, Suite 1472 New Opportunities
913 North Market Street While this case was decided in the context of a public company with numerous
856-661-2263 856-661-2262 856-382-2227 to Enhance 401(k) Plans ..........2
Morristown, NJ 07960 Suite 1001 PHILADELPHIA NJ passive shareholders, the decision is also relevant to accountants for smaller closely held
Allen P. Fineberg Elaine J. Petruzziello Michael P. Spiro Tel 973-605-1799 Wilmington, DE 19801 Private Companies Incentivize
allen.fineberg@flastergreenberg.com elaine.petruzziello@flastergreenberg.com michael.spiro@flastergreenberg.com businesses with minority shareholders who are not involved in management. Many
Fax 973-605-1344 Tel 302-351-1910 Employees By Granting Stock
856-661-2264 856-661-2287 856-382-2203 CHERRY HILL accountants rely on the representations of company officers in preparing the company’s
Fax 302-351-1919 Appreciation Rights..................3
financial statements. If the officers making representations to the corporation’s
Markley S. Roderick Marc R. Garber * Mitchell R. Cohen * 441 East State Street
mark.roderick@flastergreenberg.com marc.garber@flastergreenberg.com mitchell.cohen@flastergreenberg.com VINELAND IRS Updates accountants are committing fraud, the accountants could potentially be held liable to
Trenton, NJ 08608
856-661-2265 856-382-2237 856-382-2222 Collection Procedures ..............3 the corporation’s passive shareholders if they do not fulfill their duties to detect and
Tel 609-695-4000
Another Nail in the Coffin disclose the existence of fraud.
Fax 609-695-5111 DE EGG HARBOR TOWNSHIP
* Of Counsel
of the Intellectual Property (continued on page 4)
Holding Company ....................4
PRACTICE AREAS
Alternative Dispute Resolution; Bankruptcy; Business & Corporate Services; Closely-Held Businesses; Construction Law; E-Commerce & Internet;
CPAs Made Exempt from This report is for general use and information, and the content should not be interpreted as rendering legal
Emerging Business; Employee Benefits; Environmental Law & Litigation; Estate Planning & Administration; Family Law & Adoption; Health Care; Privacy Notice Rules..................4 advice on any matter. Specific situations may raise additional or different issues and such information should be
coordinated with professional legal advice.
Intellectual Property; Labor & Employment; Litigation; Real Estate & Land Use; Redevelopment; Risk Management; Taxation.
www.flastergreenberg.com Copyright © 2006 Tax & Business Law Report • Flaster/Greenberg P.C.
2 3 4
Pension Act Creates New Opportunities to Enhance 401(k) Plans Private Companies Incentivize Employees Another Nail in the Coffin of the Intellectual Property
BY ELLIOT D. RAFF By Granting Stock Appreciation Rights Holding Company
The Pension Protection Act of 2006 (the would automatically have one percent of his pay withheld and
“Act”) enacted on August 17, 2006 contributed to the plan, and this would continue until the employee BY RICHARD J. FLASTER BY MARKLEY S. RODERICK
represents one of the most significant pieces makes an affirmative election e.g., to change the contribution rate or
of pension legislation since the Tax Reform to cease all contributions. While public companies often utilize • They can be funded out of ultimate sale proceeds, insur- The New Jersey Supreme Court recently be subject to the CBT. It is this premise that the Supreme Court’s
Act of 1986. Although chiefly aimed at qualified stock options and restricted stock ance proceeds to cover payments due upon death, or upheld a lower court’s decision holding that decision in Lanco strikes down.
The Act specifies that an ACA will preempt state law and thus
overhauling the way in which defined plans to incentivize key employees, those reserves from operating income. an out-of-state corporation whose activity in Relying on the decision of the U.S. Supreme Court in Quill
eliminates difficult compliance State issues — e.g., with state wage
benefits (i.e., traditional pension plans) are techniques are often unsuitable for family- Caveats: These plans are highly complex in structure and must New Jersey is limited to licensing intellectual Corp. v. North Dakota, a case that involved the imposition of sales
payment laws.
funded, the Act contains many intriguing owned or other closely-held businesses, be carefully drafted to address not only existing company cir- property is subject to the Corporation and use taxes on catalog sellers, the taxpayer in Lanco argued that
new design opportunities for defined As to elective deferrals contributed pursuant to an ACA, which are reluctant to part with stock Business Tax (“CBT”) on royalties it receives
cumstances and objectives but also possible future “special there was insufficient “nexus” for New Jersey to constitutionally
contributions plans to boost participation and to promote fiduciaries may be protected against liability for the investment ownership. Yet such companies have the from a New Jersey retailer. In Lanco, Inc. v.
transactions.” These transactions might change the company’s impose the CBT on a company whose only contacts with New
intelligent savings strategies coupled with fiduciary protection. losses through compliance with ERISA Section 404(c) and the same need to foster long-term employment Division of Taxation, 2006 Westlaw 2883340
capital structure and produce distorted and unintended results Jersey involved licensing intellectual property. Indeed, this had
safe harbor default investment rules (discussed above). Further, and motivate profitability. As a result, with (NJ), the Court’s holding drives one more
Several of the most important new features affecting unless built-in adjustments are made. Depending on the stock been the conclusion of the New Jersey Tax Court in the trial of the
the employee contributions are immediately 100 percent vested increasing frequency, such companies are turning to stock nail in the coffin of the “intellectual property holding company.”
sponsors of defined contribution plans are highlighted below: valuation formula used, such future special transactions might Lanco case. However, the New Jersey Supreme Court held that
and are subject to the distribution restrictions generally appreciation rights plans (“SARs”) — a form of phantom stock include (among others): Under Delaware law, a corporation based in Delaware may while a physical presence might be required to impose sales and use
• Investment Safe Harbor: If a defined contribution plan (such applicable to elective deferrals. plan that is generally geared to mimicking stock values but lim-
• New primary stock offering avoid Delaware corporate tax if its activity is limited to holding and taxes under Quill, it is not required to impose state income taxes.
as a 401(k) plan) allows a participant to direct the manner in The Act offers plan sponsors various incentives to adopt an iting the benefit to the appreciation in value realized during the licensing patents, copyrights, or other intellectual property. Thus, the Court permitted New Jersey to tax the royalties received
which his plan account is invested and the participant ACA. An “eligible” ACA provides a longer period for participant’s tenure. • Capital contribution infusion
Creative tax planners realized that this feature of Delaware law by the out-of-state company.
exercises such right, then the fiduciaries will not be liable for correcting of ADP/ACP test failures • Mergers or other reorganizations
As nonqualified plans that are not subject to ERISA or could give rise to significant tax savings. Observations:
losses caused by the participant’s and may offer a window during which other tax requirements (other than avoiding or meeting the • Acquisitions
investment directions. Notably, The proposed regulation provides an employee can cash-out accumulat- deferred compensation restrictions of Code Section 409),
Suppose, for example, that Company X, operating in New If the royalties are constitutionally subject to New Jersey tax,
to obtain this protection, a detailed, substantive guidance as to what ed deferrals (with earnings). Further a • Partial sales Jersey, owned patents and other intellectual property. X could then of course the tax benefits of the intellectual property holding
these plans can unusually be tailored to meet the specific transfer its intellectual property to a newly-formed subsidiary, Y,
participant must actually exercise “qualified” ACA provides a 401(k) • Unusual dividend distributions, stock splits or redemptions. company structure disappear. Following similar decisions in other
objectives of the employer:
the right to direct the investment characteristics an investment must have testing safe harbor design, which is
operating in Delaware. Y would then license the intellectual prop- states, the Lanco decision is therefore another obstacle for
• They can choose to cover only key executives or a special class Observations:
of his plan account. See ERISA in order to meet the safe harbor. less expensive than the existing safe
erty back to X in exchange for a royalty. In calculating its liability companies seeking to take advantage of this once-popular
section 404(c). of employee or can cover multiple classes (tiers) of employees Aside from fashioning an SAR that actually functions prop- for the CBT, X would deduct the royalty against its income. Yet Y, Delaware tax-savings idea.
harbor design.
in different categories, with benefit amounts, eligibility, erly from a tax and economic perspective, it must also be under- operating in Delaware, would not be subject to Delaware corpo-
Beginning after December 31, 2006, the Act expands the • E l i g i b l e I n v e s t m e n t A d v i c e A r r a n g e m e n t : Fiduciaries Query whether the Lanco decision opens the door even
vesting, and other rules defined differently for each tier. standable and valued by participants. Even the best-drawn plan rate tax. If the structure holds up, X has managed to avoid CBT
fiduciary protection available under ERISA Section 404(c) by often want to offer participants access to individualized further for New Jersey to more generally tax the income of
• They can define benefits in terms of a percent of company will fall short of its primary goal if its terms are beyond compre- on the royalty income.
providing that a participant will be deemed to exercise control investment advice, but are deterred from doing so foreign entities with only small contacts within the
appreciation over a base value (for example, the value as of hension of those it seeks to incentivize. Underlying this tax benefit is the premise that Y, operating in
over the investment of his or her plan account, even if failing to because of concern that the arrangement may constitute state and whether it will prompt an appeal to the United
make an affirmative investment election, if (a) the account is the year of employment or participation), which might Two new Treasury Regulations issued under Code §409A Delaware with no physical presence in New Jersey, would itself not States Supreme Court to determine whether this violates
a prohibited transaction (e.g., if the advisor is associated
invested in a “safe harbor default investment” and (b) notice is differ for each tier or even among participants within a tier. impact on how and where “deferred compensation plans” are constitutional predicates. ◆
with another service provider) or that the fiduciary may
provided prior to each plan year. In clarification, the U.S. • They can confine benefit payment to be made only upon a used and set forth harsh penalties if they are not designed,
be liable for the advice given. Although investment
Department of Labor has published a proposed safe harbor sale or change of control or provide for earlier payouts monitored and administered in accordance with these rules.
advice programs may currently be structured to avoid
default investment regulation and must finalize this regulation upon death or retirement. However, the deadline for compliance with these rules has just
prohibited transactions and perhaps shield the fiduciaries
by February 17, 2007. The proposed regulation provides from liability, this now requires extensive legal review and • They can foster employee retention for sale transactions,
been deferred from January 1, 2007 to January 1, 2008. Accountants Liable
detailed, substantive guidance as to what characteristics an TDNR HP-128. ◆ for Not Detecting Fraud
documentation and entails some uncertainty. by requiring ongoing post-sale employment for
investment must have in order to meet the safe harbor. benefit entitlement.
The Act provides detailed standards for an eligible investment (CONTINUED FROM PAGE 1)
Observation: Fiduciaries should be aware that they will be
responsible for the investment of plan accounts for participants
advice program (“EIAA”), which will qualify for both a
prohibited transaction exemption and a fiduciary safe harbor.
• They can confine benefit payment only to those employees
who are still employed as of the “payout date” or allow
Alert Alert Observations: The Court stated that only passive
who do not furnish any investment direction unless the default
Under an EIAA, the provision of advice, the acquisition, ex-employees to receive benefits provided that they meet IRS Updates Collection Procedures CPAs Made Exempt from shareholders could bring suit in such circumstances. The
investment complies with the safe harbor. post-employment restrictive covenants. doctrine of imputation would continue to bar suits by any
• Automatic Contribution Ar rangement: The Act codifies
holding, and sale of an investment pursuant to the advice, and Privacy Notice Rules shareholders participating in the fraud, or by officers or
the direct or indirect receipt of fees in connection with such • When utilized by a corporation, the benefits payable under BY RICHARD J. FLASTER
and expands IRS guidance regarding “negative election” or directors of the company, who have an opportunity to detect
activities will not constitute a prohibited transaction even the SAR should be deductible when paid and income to the The IRS recently issued new guidance that supercedes BY RICHARD J. FLASTER
automatic enrollment arrangements by establishing standards the fraud themselves.
though the advisor (or an affiliate) offers the investments. The recipient when received. Although the benefit payments the IRS’ existing collection due process hearing proce-
for an automatic contribution arrangement (“ACA”). Act also provides that a fiduciary will be deemed to have satisfied will not qualify for favorable long-term capital gain treat- Effective for 2006, new legislation enacted The Court also acknowledged that accountant liability
dures with respect to: when a hearing is required to be could be reduced (though not necessarily eliminated) to
An ACA is an optional 401(k) plan structure intended to promote its fiduciary duties if the program constitutes an EIAA. ment (as would the sale of actual stock), similar bottom line on October 13, 2006 exempts certified public accountants
held and/or when a taxpayer may demand a hearing; when shareholders owning large portions of the stock, as these
retirement savings by making enrollment and contributions an “opt- tax and economic results can be achieved by “gross-up from the requirement to send annual notices out under the
Observation: By establishing an EIAA, plan fiduciaries can levy (including jeopardy levies) and lien notices may be
out” process. If upon satisfying the plan’s eligibility requirements an adjustments”, if that is desired. Of course, SARs can also be Gramm-Leach-Bliley Privacy Rules which prohibits shareholders would presumably have “ability to conduct
make individualized investment advice available to participants, issued; and various procedural requirements for the con-
employee fails to make an affirmative contribution election, then he is utilized for non-corporate entities and structuring them as disclosure of personal information without the oversight of the firm’s operations.” However, accountants
which can be paid for with plan assets, without concern duct of hearings, including prohibitions on certain third
automatically enrolled and pre-tax salary reduction contributions “profit interests” can possibly avoid current taxation as acknowledged consent of the impacted party. Section 609 should take caution in preparing financial statements to
about unknown prohibited transactions and with limited party and ex parte communications. CC-2006-019.
begin at a rate specified by the plan. For example, the plan could compensation for services while qualifying for capital gain of the Financial Services Regulatory Relief Act of 2006. ensure that they are undertaking sufficient due diligence to
fiduciary exposure. ◆
provide that upon meeting the eligibility requirements, an employee treatment at the time of sale. shield themselves from liability for negligence. ◆
Tax & Business Law Report • Flaster/Greenberg P.C. www.flastergreenberg.com Tax & Business Law Report • Flaster/Greenberg P.C.
2 3 4
payment laws.
harbor design.
2 3 4
payment laws.
harbor design.
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856-661-2260
856-661-2267
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856-382-2241
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8 Penn Center
Trenton, NJ 08608
Tel 609-695-4000
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856-661-2260
856-661-2267
Alan H. Zuckerman
856-382-2241
Dennis J. Helms
8 Penn Center
Trenton, NJ 08608
Tel 609-695-4000
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