Black case can provide lessons for advisors, experts say

(September 13, 2004) Although allegations that Conrad Black and his associates siphoned hundreds of millions of dollars from Hollinger International for personal expenses may seem far removed from the daily lives of financial advisors, there are a few important lessons to be learned from the messy saga, experts say.

While few advisors could imagine spending the amounts quoted in a recent report detailing Black’s alleged indiscretions — even those servicing high net worth clients — allegations about Black’s propensity for expensing personal items as corporate disbursements provide a tutorial in handling expenses at an advisor’s practice, suggested Steven Kelman, investment counsellor and co-author of the Investment Funds Institute of Canada/Peel Institute’s LLQP Course.

The Hollinger report alleges wrongdoing such as expensing holidays, birthday parties, as well as a variety of seemingly personal purchases such as handbags and gym clothes. It alleges that “Hollinger was used as a piggy bank for the Blacks, with shareholders paying for large and small expenses that would not typically be considered eligible for corporate re-imbursement.” The allegations have not been proven in court and Black’s private company has dismissed them as “exaggerated claims laced with outright lies.”

However, these allegations provide a reminder to everyone with access to company expense accounts, Kelman said. “What you’re looking at is the reasonableness of charging off things.”

One financial services “Bible” for measuring reasonableness is National Instrument 81-105, which outlines allowable deductions for marketing, Kelman noted.

Some advisors try to get financial help from fund companies towards some marketing expenses. NI 81-105 outlines allowable deductions and other considerations for practitioner activities including marketing, Kelman said. This document sets out circumstances under which an advisor can be re-imbursed for expenses connected to an educational seminar by a fund company, the advisor’s own company or neither company. In that regard, it sets rules for guests at a function as well as hosts of a function.

Some representatives still look for subsidies from fund companies for marketing expenses, he said, but pointed to provisions in 81-105 that prohibit fund companies from paying what it terms “personal incidental expenses” connected to attending a conference or seminar.

It also describes situations in which a fund company can and cannot pay for client entertainment festivities.

Prior to 81-105 some reps would try to pass on as much of their marketing expenses as possible to fund companies, Kelman recalled. “What would happen is somebody would throw an evening for clients at a club. They would all be there for dinner and the fund wholesaler or manager would talk about where they saw the market going and then the rep would bill the whole thing back to the fund companies,” he recalled. “National Instrument 81-105 stopped that.”

There are also tax-related reasons for advisors to take a closer look at Black’s case, says Chris Ireland, vice-president of planning services for western Canada at PPI Financial Group.

“Someone’s got their own business. It’s incorporated and they’ve run up a bunch of expenses but not all are related to the business,” said Ireland, recounting a scenario encountered periodically. “Some are related or for the individual’s benefit. The company is paying for them and not getting reimbursed by the shareholder.”

That amounts to a shareholder benefit, taxable under Canadian tax law. Notwithstanding Hollinger’s scale, the problem occurs in small companies started and incorporated by an entrepreneur, with or without investment from other individuals and sometimes falling into the “piggy bank” trap. “That’s where abuse inadvertently or otherwise can often happen because they consider the company’s chequebook to be their own chequebook,” Ireland said.

The potential problem is not restricted to small companies where the owner may be the only shareholder but can apply any company where a benefit is conferred on a shareholder.

The tax advisor has an obligation to broach the subject when it appears that the client has blurred the line between personal and corporate expensing, Ireland believes, even to the point of risking client objection.

Visible clues include substantial increases in expenses compared with previous years but without a parallel increase in income. “Why? Maybe they are trying to bury some personal expenses.”

The advisor’s responsibilities include educating clients on tax implications of shareholder benefits, Ireland said. “For tax purposes you’ve got two distinct taxpayers. There are rules that if you don’t separate them properly it can be very punitive.”

Art Melo is a Toronto-based freelance financial writer

(09/13/04)