Newspapers scandal: Follow the money

U.S. prosecutor charges members of the Hollinger old guard with fraud.

Back when Conrad Black presided over Hollinger International Inc., a portrait of Al Capone hung on the silk-lined walls of its New York boardroom. A visitor might have assumed that, like all else at the newspaper holding firm, it was there with Black's blessing. Capone was an unusual choice. The infamous gangster waged bloody wars against rival racketeers for control of the Chicago underworld in the 1920s. Having left school before the sixth grade, Capone lacked the erudition that might have won him a seat across from Henry Kissinger on Hollinger's board of directors. His portrait apparently didn't suit the tastes of current management, and has since been taken down.

On Aug. 18, the U.S. Attorney's Office for the Northern District of Illinois unveiled a scathing indictment against members of Hollinger's old guard. It charged two of Black's former underlings, along with his erstwhile holding company, Ravelston Corp. Ltd., with multiple counts of fraud. Accused are David Radler (former publisher of the Chicago Sun-Times and an associate of Black for three decades) and one-time Hollinger lawyer Mark Kipnis. The U.S. Department of Justice says Radler is co-operating with its continuing investigation, and Radler's lawyer says he has agreed to plead guilty in September–remarkable backtracking for a man who last year denied all wrongdoing and predicted his vindication. Kipnis was arraigned on Aug. 23 and released on a US$250,000 security bond. Black himself was mentioned only indirectly and has not been charged.

The unproven allegations shed new light on possible motives behind the complex related-party transactions among Black's various companies. According to the indictment, those deals were structured not only to steal money from Hollinger's shareholders, but also to illegally evade taxes.

Let's start with non-competition payments, which are sometimes made by a newspaper buyer for an assurance that the seller will not start a competing broadsheet. Between 1998 and 2000, Hollinger sold off most of its U.S. community newspapers in transactions that included such payments. But here's the catch: Hollinger wasn't the sole recipient of the payments. Parting from standard procedure, those payments also went to other firms controlled by Black and associates–and later, directly to certain executives, among them Black and Radler.

The purported tax avoidance relied on a loophole. During the 1990s, the Canada Revenue Agency held that non-compete payments were taxable as capital gains. That view was challenged after the former owners of Fortinos supermarkets sold their shares. The sellers convinced the Tax Court and the Federal Court of Appeal in 1996 and 1999, respectively, that CRA's reasoning was flawed. Therefore, until the Department of Finance closed this loophole in 2004 through amendments to the Income Tax Act, non-compete fees were effectively tax-free.

The scheme allegedly became more brazen with time. In Feb. 2001, according to the indictment, four directors (including Radler and Kipnis) decided that Hollinger would pay them US$5.5 million in bonuses. In order to take advantage of the tax rulings, the indictment continues, Kipnis arranged for the payments to be made in the form of a three-year non-competition agreement.

Tax avoidance has come up before in the Hollinger scandal. Last year, a report by a special committee of Hollinger directors claimed that Hollinger insiders–particularly accountant Jack Boultbee–frequently engaged in “aggressive schemes to avoid personal taxes.” It claimed that Black and other Ravelston insiders directed significant portions of the “excessive” management fees they received to offshore companies. “Boultbee told the committee that the reason for this structure was that income at these entities would only be subject to income tax at a rate of 2.5%,” read a footnote in the report.

Citing confidentiality rules, the Canada Revenue Agency is tight-lipped about how it's responding to the allegations. It's apparent, though, that the taxman has awakened. A report released in July by Ravelston's court-appointed bankruptcy trustee, RSM Richter, revealed that CRA and the Ontario Ministry of Finance have reassessed Ravelston's taxes for 2001 through 2005 and seek more than $30 million in unpaid taxes. RSM reported that the tax authorities “have questioned the validity and the basis for [Ravelston's] tax treatment” of certain items. RSM says it disagrees, but won't provide details about those allegations or its response.

The allegations in the Department of Justice indictment have yet to be scrutinized by a sober magistrate, but they at least suggest a possible explanation for the Capone portrait. Such offenses were second nature to the gangster: when he went down in the 1930s, it was for tax evasion.