No matter how Jack Lew performs at his Senate confirmation hearing on Wednesday, his nomination to be Treasury Secretary has already produced one big winner: the Cayman Islands. The Caribbean low-tax haven is getting a political rehabilitation thanks to Mr. Lew's participation in a Cayman-based fund he invested in while working at Citigroup (C)
For years Democrats have denounced the Caymans, which has no corporate income tax, as a refuge for tax cheats. In 2012 President Obama ripped Mitt Romney for investments based there. But now an Obama spokesman suggests that Mr. Lew's Caymans investment, a Citigroup fund he chose to invest in, was a model of transparency and says that "Jack Lew paid all of his taxes and reported all of the income, gains and losses from the investment on his tax returns."
Wednesday's hearing might even restore the good name of Ugland House, a small Caymans building that Democrats made famous as the legal home to thousands of businesses and investment partnershipsâincluding Mr. Lew's. Mr. Obama has called Ugland an "outrage" and a "tax scam." Senate Finance Chairman Max Baucus, who will preside over the Lew festivities, devoted an entire hearing to Ugland House in 2008 and said that businesses maintain legal residences there for reasons that "have a lot to do with tax evasion." Tax evasion is a felony.
One might therefore expect that the appointment of an investor in an Ugland-based fund to oversee the IRS would cause Mr. Baucus to blow a gasket. But on Monday the Montana Democrat expressed his hope that Mr. Lew would be "quickly confirmed."
Sounds like Ugland and its virtual residents are now off the political hook, as Democrats acknowledge that U.S. investors like Mr. Lew are paying the U.S. taxes they owe. That may be true, but it does raise a practical question. If U.S. investors owe taxes on their Caymans investments, then why did this fund for employees at Mr. Lew's New York-based Citigroup need to be located there?
Citigroup declines to answer. It's possible the Caymans was chosen to help Citi's foreign executives avoid taxes in their home countries. But it's also possible the legal structure helped American Citibankers avoid some tax exposure, too.
Our legal sources say that venture-capital funds like Mr. Lew's will often use a Caymans vehicle so that any non-U.S. investments will more easily avoid being characterized as "controlled foreign corporations" (CFCs). If a venture fund owns more than 50% of a CFC, then U.S. investors might have to report as income some of the CFC's income, even if it hadn't been distributed to the fund or its investors.
Speaking of income, Senators may also want to ask about the last paycheck Mr. Lew received from Citigroup. On January 15, 2009, after Citi had received taxpayer bailouts of $45 billion in cash, and hundreds of billions more in loans and guarantees, Mr. Lew received a payment of $944,518. As he was about to join the Obama Administration, he received this sum for "salary, payout for vested restricted stock, discretionary cash compensation for work performed in 2008," according to a disclosure report he signed in 2010.
Thus someâperhaps mostâof this money was a bonus for Mr. Lew's work in 2008. Did Mr. Lew feel guilty signing the back of a bonus check of almost $1 million underwritten by middle-class American taxpayers?
Mr. Lew's supporters say he didn't know much about the mortgage bets that sank Citigroup because he oversaw things like human resources and technology. But a 2008 Citigroup organization chart provided by a Senate aide says that as chief operating officer of Citigroup's Alternative Investments division, Mr. Lew also oversaw boxes labeled "Finance," "Illiquid Operations" and "Liquid Operations." Perhaps Mr. Lew can illuminate the meaning of these terms, but they sound a lot like the business of funding this mortgage-investment unit that failed in spectacular fashion.
If Jack Lew was seeking loans for this Citi division without a clue what the loans were funding, he might qualify as Wall Street's most reckless banker of 2008. And if he did have a clue and either dismissed the risks or kept silent about them, what is he doing as the President's nominee to run the Treasury? Meanwhile, readers may want to check out Ugland House. If the IRS objects, Max Baucus has your back.Printed in The Wall Street Journal, page 9