United States: Lessons From DOJ Prosecution Of Tony Hu For Sales Tax Fraud

Last Updated: December 13 2016
Article by Matthew D. Lee

On Oct. 18, 2016, a federal judge sentenced a well-known Chicago restaurant owner to prison for carrying out an extensive scheme to avoid paying state sales tax collected from customers of his establishments. Two important lessons may be drawn from this criminal case. First, criminal prosecutions of business owners for avoiding payment of state sales tax, which historically have been pursued by state authorities under state law tax statutes, may now be brought by federal prosecutors using the federal fraud and money laundering statutes. Second, the sentence imposed reflects the growing tendency of judges to impose sentences in tax cases that are below the applicable range as calculated under the United States Sentencing Guidelines.

Factual Background

The defendant in the case, Hu Xiaojun (also known as Tony Hu), owns and operates nine restaurants in the Chicago area. He was charged with federal wire fraud and money laundering offenses arising from his failure to pay sales tax to the state of Illinois on nearly $10 million in cash transactions occurring at his restaurants over a four-year period. Earlier this year, Tony Hu pleaded guilty to one count of wire fraud and one count of money laundering.1

According to the guilty plea agreement, between January 2010 and September 2014, the defendant failed to pay sales tax on transactions in which customers paid cash. To conceal cash sales, he instructed restaurant managers and employees to provide him with daily summaries of restaurant sales, which he would in turn alter to conceal cash sales. Hu and others would destroy the daily summary reports and cash transactions receipts, replacing them with incorrect reports that omitted the bulk of each restaurant's cash sales. To hide cash sales from the state tax authorities, the defendant instructed employees to withhold cash generated from the restaurants from the corporate bank accounts to avoid creating financial records for those cash sales. Specifically, the restaurants in question discarded cash receipts until the reported amount was approximately 15 to 20 percent of credit card sales. The "discarded" cash was used to pay restaurant employees and suppliers without recording those expenses in the corporate books and records. The defendant also deposited a portion of the cash into his personal bank account, which he then used to pay personal expenses.

During the 2010 to 2014 time period, Hu instructed others to submit fraudulent sales figures to the Illinois Department of Revenue on monthly sales tax returns. Each month, the defendant directed his employees to provide false sales figures to his accountants, who in turn provided those figures to the state. In all, the defendant underreported his sales to the state by nearly $10 million, resulting in his underpayment of sales taxes by more than $1.1 million.

The wire fraud charge to which the defendant pleaded guilty is based upon his sending of an email containing false sales figures for the month of May 2014. The money-laundering charge to which the defendant pleaded guilty is based upon a series of financial transactions that he conducted using proceeds of his scheme to defraud the Illinois Department of Revenue. Specifically, the defendant deposited over $72,000 in cash into his personal bank account, which he knew consisted of funds derived from cash sales at his restaurants that were concealed from the state tax authorities. The defendant thereafter withdrew $60,000 from that account and purchased an official bank check, which he then deposited into a different business account. The defendant used the funds in that second bank account to purchase a restaurant and equipment, which he subsequently operated.

Sales Tax Fraud: No Longer Just a State Crime

At first glance, the facts of United States v. Xiaojun read like a typical criminal tax case and include the all-too-common attributes of tax fraud in the restaurant industry: the concealment of cash sales and the use of diverted cash to pay employees, purveyors and personal expenses of the restaurant's owners. Indeed, the Justice Department's website is replete with press releases announcing criminal tax charges against restaurant owners who engaged in conduct similar to that of this defendant, mostly commonly filing of false income tax returns in violation of 26 U.S.C. § 7206 or tax evasion in violation of 26 U.S.C. § 7201.

What makes United States v. Xiaojun notable is that the Justice Department did not assert a single federal tax charge against the defendant. The defendant's payment of his employees in cash alone could have led to employment tax-related charges. Instead of charging Title 26 offenses, the government transformed what otherwise appears to be a garden-variety criminal tax case into a wire fraud and money laundering case by focusing on the defendant's failure to pay state sales taxes.

The government's case against Hu was premised upon a Justice Department policy titled Tax Directive No. 128, "Charging Mail Fraud, Wire Fraud or Bank Fraud Alone or as Predicate Offenses in Cases Involving Tax Administration." This directive provides federal prosecutors with significantly expanded authority to use the mail and wire fraud statutes to charge additional crimes, and seek correspondingly increased penalties, in tax-related cases. Under a preceding policy, prosecutors were generally not permitted to use the fraud statutes where the use of the mails or wires was only incidental to a violation arising under the Internal Revenue laws.

Tax Directive No. 128 now authorizes prosecutors to use mail and wire fraud offenses and, more importantly, state tax violations where the mails or wire communication facilities are used, to transform cases that traditionally would be prosecuted under the tax laws into fraud and money laundering prosecutions. By charging mail and wire fraud in tax cases, the government can significantly change the charging and plea bargaining process. The mere threat of a mail fraud or money laundering charge may well cause targets of government investigations to plead guilty more willingly, and to agree to cooperate against other targets, than would have been likely under the prior policy where the charges were likely limited to federal tax offenses absent exceptional circumstances. In addition, the ability to include mail or wire fraud charges in a tax-related case provides prosecutors with an additional tool not previously available in traditional tax cases — the ability to seek forfeiture of the proceeds of the fraudulent scheme.

By relying upon the authority conferred by Tax Directive No. 128, the government can significantly ratchet up the pressure on targets of criminal tax investigations. By bringing charges under Title 18 rather than Title 26, the government can seek a longer prison sentence: the statutory maximum sentences available for mail fraud and money laundering, 20 years each, are significantly higher than the statutory maximum sentences available for tax fraud or tax evasion, which are three years and five years, respectively. In addition, the U.S. Sentencing Guidelines for mail fraud and money laundering crimes typically call for longer sentences than those applicable to tax offenses.

Charging mail fraud and money laundering also enables the government to seek restitution to be paid to the state agency that was defrauded. Had the government only charged federal tax crimes under Title 26, restitution could only have been ordered to the Internal Revenue Service. The government is also able to seek forfeiture of the funds that constitute proceeds of the mail fraud and money laundering offenses, an additional punishment that is not available for tax offenses. As part of his plea agreement, Hu agreed to pay at least $1 million in restitution to the Illinois Department of Revenue and to entry of a forfeiture judgment in an amount to be determined by the court at sentencing.

United States v. Xiaojun illustrates well how Tax Directive No. 128 provides federal prosecutors with significantly more leeway in charging offenses in what are viewed as traditional tax cases. No longer confined to the criminal offenses enumerated in Title 26, federal prosecutors can significantly increase the pressure on defendants by charging mail fraud and money laundering, seeking longer sentences and extracting substantial financial penalties by requiring defendants to pay both restitution and forfeiture. Prosecuting state sales tax fraud is no longer the exclusive domain of state authorities.

Downward Trends: Tax Offenders Often Receive Below-Guideline Range Sentences

As a result of his guilty plea, Hu was facing a possible prison sentence of 41 to 51 months as calculated under the applicable Sentencing Guidelines. Since the Supreme Court ruled in United States v. Booker, 543 U.S. 220 (2005), that the sentencing guidelines are no longer mandatory and binding, the applicable guideline range is but one of numerous factors that sentencing judges must consider in fashioning an appropriate sentence pursuant to 18 U.S.C. § 3553(a). Other considerations are the nature and circumstances of the offense and the history and characteristics of the defendant. After taking account of these factors, as well as the advisory guidelines range, the sentencing judge imposed a significantly below-guideline sentence, of one year and a day. With credit for good-time served, Hu will likely serve only 10 and one-half months in prison.

Far from aberrational, the sentence imposed on Hu fully comports with recent trends in tax fraud cases. According to the United States Sentencing Commission, in fiscal year 2015, 648 offenders were sentenced for tax fraud offenses.2 Nearly two-thirds of those defendants were sentenced to imprisonment, with the average sentence being 17 months in jail. However, nearly half of those offenders received a sentence below the applicable Sentencing Guidelines range. And the percentage of below-range sentences — commonly referred to as "downward variances" — is steadily increasing, from 41.8 percent in FY 2011 to 49.2 percent in FY 2015. The average sentence for tax offenders has also decreased over the past five years.

Notably, the Northern District of Illinois — the judicial district in which Hu was prosecuted — had the most tax prosecutions of any district in the United States during FY 2015. That district also served as the venue for one of most significant downward variances in a tax case ever granted by a district court judge. In United States v. Ty Warner, the defendant pleaded guilty to evading about $5.6 million in federal income taxes.3 Warner, who gained fame as the creator of the Beanie Baby toys, had secret Swiss bank accounts in which he hid over $100 million. Based upon the amount of taxes evaded, Warner faced a sentence of 46 to 57 months under the sentencing guidelines. Notwithstanding the significant tax loss, the district court judge imposed a sentence of probation — a downward variance of virtually unheard-of magnitude — based upon what it considered to be an exemplary lifetime of charitable good works by Warner as well as the fact that the defendant was a first-time offender who posed a low risk of recidivism.

The sentencing judge's decision to grant a substantial downward variance to Hu was undoubtedly influenced by several important considerations. By pleading guilty, the defendant accepted responsibility for his misconduct — always an important factor at sentencing — but demonstrated further acceptance by making full restitution to the state of Illinois of all sales taxes evaded, nearly $1.1 million, prior to sentencing. In addition, the judge ordered Hu to annually perform 200 hours of community service for two years following his release from prison, reflecting a growing judicial trend toward considerations of alternatives to incarceration.

Conclusion

Two important lessons can be learned from the government's case against Hu. First, the prosecution of sales tax fraud no longer falls solely within the purview of state authorities. Tax Division Directive 128 permits federal prosecutors to charge mail fraud, wire fraud, and even money laundering based upon a scheme to avoid paying state sales tax, exposing a culpable business owner to significantly longer jail sentences than could result from prosecution by state prosecutors under state law tax statutes. Second, below-guideline range sentences continue to be a feature that distinguishes tax cases from other white collar offenses. Nearly half of all tax offenders receive a sentence below the applicable range specified in the Sentencing Guidelines. This trend may be attributable to the view, held by some, that tax crimes are less serious than other types of white collar offenses, or to a general distaste for the formulaic approach to sentencing reflected in the Sentencing Guidelines, or both. In any event, tax offenders who accept responsibility for their misconduct by pleading guilty and making full restitution, and who have otherwise lived a commendable life and been productive members of society, can take comfort in the fact that their odds of receiving a below-range sentence are favorable, even if they are charged with fraud or money laundering offenses rather than straightforward tax charges.

Originally published by Law360.

Footnotes

1. See United States v. Hu Xiaojun, No. 16-cr-316 (N.D. Ill.).

2. United States Sentencing Commission, "Quick Facts – Tax Fraud Offenses" (August 2016).

3. See United States v. H. Ty Warner, No. 13 CR 731 (N.D. Ill.).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Matthew D. Lee
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.