Monday, December 17, 2018

Tax issue re. Donald Trump, Michael Cohen, and Stormy Daniels

A reporter on the national beat recently asked me whether Trump might be guilty of tax fraud if he deducted the payments of $35,000 per month that he was making, for some period, to reimburse Michael Cohen, for paying $130,000 in hush money to Stormy Daniels. The payments reportedly included a gross-up for the income tax consequences to Cohen, under the assumption that he would include them without deducting the hush money payment.

This would have been a great question for my Federal Income Tax exam, if only (1) I had heard it in time, and (2) it weren’t too politically sensitive to be a proper exam question. (E.g., one doesn't want students' answers to be influenced by their own political views, or their perceptions as to mine.)

Anyway, here’s a lightly edited & expanded version of my response:

That's an interesting question. The key tax issue is, what would have been Trump’s legitimate business reason for deducting the payments to Cohen?  Clearly there would be tension between Trump’s (1) saying it was just personal, hence not a campaign finance violation, and yet also (2) treating it as deductible (if he did).

But here's an odd aspect of it. Suppose we posit that Trump is a long-time criminal who sought the presidency for multiple reasons, but in part as a money-making scheme that would give him opportunities to defraud the U.S. government and the American people by – just to give a partial list – violating the emoluments clause, putting foreign policy up for sale, having the U.S. government pay fees to his businesses, serving the interests of foreign governments that were giving him a lot of money, and so forth. To the extent that he was seeking to maximize the profits from his preexisting business by becoming president, illegal payoffs to Michael Cohen to help him win the election might be viewed as an expense of this business.

Among the relevant tax law doctrines here is the one holding that one can't deduct as business expenses the costs of seeking to enter a new line of business. So, just as law students can't deduct law school tuition (but an established lawyer may be able to deduct expenses of paying for continuing legal education), Trump in 2015-2016 couldn't properly deduct the costs, such as paying off Cohen, of seeking the presidency, if we consider his seeking public office to involve entry into a new business.

But insofar as he was merely seeking to advance his preexisting criminal career by running for president, the case for the business deduction is strengthened.

In short, I think a strong argument against viewing deduction of the amounts paid by Trump to Cohen for silencing Stormy Daniels as improper (whether or not as meeting the mens rea requirement for tax fraud) relates to the view that Trump incurred these costs as part of an ongoing course of criminal activity, of which his political career is merely a continuing part.  Kind of like Michael Corleone moving the family business to Las Vegas.

So far as the mens rea required for tax fraud is concerned, Trump may also have reasonably believed that this line of argument made the payments to Cohen a proper deduction, since surely we know that he was lying when he said publicly that it was merely a personal and private matter.

A further issue pertains to Internal Revenue Code section 162(c)(2), which denies deductions for “an illegal bribe, illegal kickback, or other illegal payment under any law of the United States, or under any law of a State (but only if such State law is generally enforced), which subjects the payor to a criminal penalty or the loss of license or privilege to engage in a trade or business.”

The payoffs to Daniels via Cohen do not appear to have been an illegal bribe or kickback under relevant U.S. law - except, of course, for the campaign finance angle, which led to Cohen’s guilty plea.  Does this make it a nondeductible illegal payment (to Daniels via Cohen) by Trump?  Does it matter if we accept the apparent DOJ position that a president can’t be indicted while in office?  Does it further matter that the statute of limitations will apparently run while he is still in office if he serves for at least five years?

I suppose we could also ask whether the expense could be deducted or instead was required to be capitalized, as an input to creating goodwill. (Or was it merely about preserving existing goodwill? Cf. the pompous, confused, Delphic, and ultimately verging on useless analysis that Justice Cardozo offered in Welch v. Helvering.)

Sounds like a great topic for further legal research by someone (although I don't think it will be me).

UPDATE: A reader points out that, under the so-called INDOPCO regulations (sometimes called the anti-INDOPCO regs, as they involved substantial retreat from the scope of capitalization that was suggested by the eponymous Supreme Court case), Welch v. Helvering-type outlays generally can be expensed, even if there is creation of future value that in principle might seem to support requiring capitalization. 


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