Mercer Hedge Fund Tax Dispute Moves to IRS Appeals Office

(Bloomberg) -- A tax dispute involving Renaissance Technologies, the hedge fund firm whose co-chief executive officer is a prominent backer of President Donald Trump, is advancing to a new phase.

Members of the Internal Revenue Service’s Office of Appeals are scheduled to meet with lawyers for Renaissance in New York on Nov. 7, according to a person with knowledge of the matter. The meeting kicks off a review by an independent branch of the tax agency and suggests a resolution may be years away.

Although the dollar amount at issue has never been made public, Senate investigators estimated that Renaissance employees may have pocketed about $6.8 billion through what a bipartisan panel in 2014 called an “abusive” tax shelter. Renaissance executives maintain the transactions at issue were within the law and weren’t driven by tax savings.

Underscoring the stakes for Renaissance is the legal team it has assembled at Skadden Arps Slate Meagher & Flom LLP. It includes B. John Williams, a former IRS chief counsel and tax court judge; Fred Goldberg, a former IRS commissioner; and Diane Ryan, the former chief of the agency’s appeals unit, according to the person with knowledge of the matter, who spoke on condition of anonymity.

A spokesman for Renaissance, based in East Setauket, New York, declined to comment.

Acting Commissioner

Robert Mercer, the firm’s co-chief executive officer, is a financial backer of the staunchly pro-Trump Breitbart News and a patron of Stephen Bannon, Breitbart’s chairman and the president’s former chief strategist. Renaissance’s founder and chairman, James Simons, was one of Hillary Clinton’s biggest benefactors during the 2016 election.

The firm’s political ties have added to scrutiny of the case.

Trump named David Kautter to become acting IRS commissioner after the term of John Koskinen, an appointee of Barack Obama, expires Nov. 12. Kautter doesn’t require Senate confirmation. Rootstrikers, a group critical of the Trump administration, began a petition drive Friday opposing the Kautter appointment, calling it an “end run around the Senate” that “could lead to a massive payback for billionaire Trump donor Robert Mercer.”

Matthew Leas, a spokesmen for the IRS, said in an email that the agency is prohibited by law from discussing individual taxpayers or cases.

“The audit process is handled by career, nonpartisan civil servants, and IRS commissioners are not involved in specific examination cases,” Leas said. “In addition, the IRS has extensive processes in place to safeguard the integrity of the audit process.”

Medallion Fund

At the heart of the tax case is the Medallion Fund, open only to Renaissance employees, which has posted 40 percent annualized returns over a period of almost three decades.

Funds like Medallion that make frequent trades generate mostly short-term capital gains for investors, taxed at the same rate as salary. The tax code rewards investments of a year or more with a preferential, lower rate on long-term capital gains.

Beginning in 2000, Renaissance routed some Medallion investments through special options it purchased from banks. The options were tied to the value of securities held by the banks but bought and sold on Renaissance’s orders. Since the fund held the options for more than a year, it claimed long-term capital gains income on those profits, cutting its investors’ taxes roughly in half.

The IRS learned of the practice in 2008. It issued a memorandum in 2010 describing the transaction without mentioning Renaissance by name and notified field staff that it wouldn’t pass legal muster. Banks stopped offering versions of the option with tax advantages, and Renaissance exited its last such option contract in 2013.

The tax dispute that will be taken up by the IRS appeals office concerns the period from 2005 to 2008, according to the person familiar with the matter.

Senate Investigation

The Senate Permanent Subcommittee on Investigations held a hearing on Renaissance’s transactions in 2014, a year after Bloomberg News revealed the existence of the tax dispute. The subcommittee issued a report estimating that Renaissance improperly claimed $34 billion of profits at the preferential tax rate.

Renaissance Chief Financial Officer Mark Silber testified at the hearing that the firm used the options to manage risk and obtain leverage otherwise unavailable, not for tax reasons.

Silber said at the time that the IRS had already been reviewing the options for six years. “Ultimately, we expect to prevail because we have complied with the law,” he said.

The IRS Office of Appeals is designed to resolve taxpayer disputes without litigation. If no agreement results, taxpayers can ask the U.S. Tax Court or another court to review the decision.

To contact the reporters on this story: Zachary R. Mider in New York at zmider1@bloomberg.net, Katherine Burton in New York at kburton@bloomberg.net.

To contact the editors responsible for this story: Michael J. Moore at mmoore55@bloomberg.net, Margaret Collins at mcollins45@bloomberg.net, Robert Friedman, Josh Friedman

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