Author Topic: Vanguard forced to raise fees?  (Read 12392 times)

Stillwantluxuries

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Vanguard forced to raise fees?
« on: December 04, 2015, 08:23:09 AM »
Crazy whistle blower story claiming Vanguard has huge tax liability due to low fees:

http://www.newsweek.com/vanguard-whistleblower-tax-dodge-complaint-400901

Dicey

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Re: Vanguard forced to raise fees?
« Reply #1 on: December 04, 2015, 08:28:43 AM »
Ho-lee shit! Is this for real?

alm0stk00l

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Re: Vanguard forced to raise fees?
« Reply #2 on: December 04, 2015, 08:46:40 AM »
Well... that's not good :(

LearnAsIGo

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Re: Vanguard forced to raise fees?
« Reply #3 on: December 04, 2015, 08:47:44 AM »
I was doing some reading and the NY case was thrown out. Though it appears they may have paid much smaller tax bills in other states. I wouldn't think it's anything to worry about until if and when it happens.
« Last Edit: December 04, 2015, 08:52:12 AM by LearnAsIGo »

cautiouspessimist

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Re: Vanguard forced to raise fees?
« Reply #4 on: December 04, 2015, 09:56:13 AM »
Just finished reading this. I'm in shock. I am glad to hear that the NY case was thrown out. On the surface it seems absolutely crazy, but that article does a pretty good job of explaining the logic behind it.

BarkyardBQ

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Re: Vanguard forced to raise fees?
« Reply #5 on: December 04, 2015, 10:05:03 AM »
Duplicate thread.

http://forum.mrmoneymustache.com/investor-alley/vanguard-not-paying-their-taxes/


~600 posts with various opinions at https://www.bogleheads.org/forum/viewtopic.php?f=10&t=143686.

First post in that Bogleheads thread has this update:
Quote
[UPDATE - 11/18/2015. Danon's whistleblower lawsuit dismissed with prejudice due to his breach of attorney ethical requirements. There are no court cases currently pending. However, the underlying tax issues were not adjudicated and may still be under investigation by state and federal tax authorities. Jump ahead to viewtopic.php?f=10&t=143686&start=500#p2692155 for more info - admin alex]

Roboturner

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Re: Vanguard forced to raise fees?
« Reply #6 on: December 04, 2015, 11:40:40 AM »
BTW that "tax whistleblower" is a complete slime bag

povertystrickenbastard

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Re: Vanguard forced to raise fees?
« Reply #7 on: December 04, 2015, 03:20:35 PM »
Vanguard are racking up the trillions under management and Wall Street is getting desperate.

Bracken_Joy

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Re: Vanguard forced to raise fees?
« Reply #8 on: December 04, 2015, 03:25:16 PM »
I was doing some reading and the NY case was thrown out. Though it appears they may have paid much smaller tax bills in other states. I wouldn't think it's anything to worry about until if and when it happens.

Glad to hear that. Would love for you to add links as you do your additional reading!

hops

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Re: Vanguard forced to raise fees?
« Reply #9 on: December 04, 2015, 03:47:08 PM »
From what they're saying on the huge Bogleheads thread about it (the discussion gets particularly interesting about halfway through its current 13 pages), the case being thrown out in New York had less to do with its relative merits than the fact that the whistleblower had violated some kind of attorney-client privilege. Cathy might find that thread interesting, particularly the contributions by a Boglehead named "won the lottery." The whistleblower has also gone to the IRS and just collected a reward from Texas and is seeking rewards in other states that will result in higher payouts than that which came from Texas.
« Last Edit: December 04, 2015, 04:40:16 PM by hops »

Bearded Man

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Re: Vanguard forced to raise fees?
« Reply #10 on: December 04, 2015, 11:07:48 PM »
Dang, I just posted a thread bout this, didn't see this one...

Johnny Aloha

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Re: Vanguard forced to raise fees?
« Reply #11 on: December 06, 2015, 09:16:08 AM »

johnny847

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Re: Vanguard forced to raise fees?
« Reply #12 on: December 06, 2015, 09:36:42 AM »
I just read about it here: http://www.joshuakennon.com/vanguard-accused-of-nearly-35-billion-tax-fraud/

Wow...

So suppose Vanguard is forced to raise their expense ratios. What should we do with this information?

Well, I don't see anything we should do with this information. Once Vanguard increases their expense ratios, then all other companies in the industry will temporarily be the lowest cost provider. But they all seek to make the most profit, and would naturally raise prices until it more or less matches that of Vanguard (or higher if they want to sell their active funds as beating the appropriate index). In the long run, Vanguard would still have the lowest expense ratio funds after a court ruling to raise them because they're still a "not for profit" corporation.

Perhaps I'm wrong about the above.
But basically, if the best course of action is to still invest with Vanguard, I don't see the point of worrying about it.

nobodyspecial

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Re: Vanguard forced to raise fees?
« Reply #13 on: December 06, 2015, 11:05:58 AM »
So suppose Vanguard is forced to raise their expense ratios. What should we do with this information?
Or they could lower fees, make no profit and not pay tax !

But it isn't going to come to that - as pointed out above. The guy is a shyster lawyer taking advantage of a whistleblower bounty that pays some % of the tax reported. He claimed that if VG owned all the shares its members were buying then it owned $$$Bn in tax and he should get  $$$$MM as a reward.


 

Cathy

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Re: Vanguard forced to raise fees?
« Reply #14 on: December 06, 2015, 11:09:43 AM »
Kennon's article is okay, but I was disappointed to see he placed so much emphasis on the credentials of the "expert" who authored a report on the issue.

The courts evaluate legal arguments on their merits, not based on the alleged credentials of the person asserting the argument. This is one reason why, in many jurisdictions in the United States and Canada, so-called expert reports on domestic law are generally not admissible in court. For a representative sample of authorities, see, e.g.:
  • Montgomery v. Aetna Cas & Sur Co, 898 F 2d 1537, 1541 (11th Cir 1990) (stating that an expert "may not testify to the legal implications of conduct");
  • Keller v. City of Fremont, 2012 US Dist LEXIS 1075 (NE) at *7-8 (ordering that a proposed expert "may not testify about immigration law or regulations, or offer any opinion about the legality of the Fremont Ordinance at issue in this case"), remanded without disputing this point 719 F3d 931 (8th Cir 2013), cert denied 134 S Ct 2140 (2014);
  • Damgaard v. Avera Health, 2015 US Dist LEXIS 75007 (MN) (disregarding legal analysis in an export report after citing previous case in this list);
  • Marx & Co. v. Diners' Club, Inc, 550 F2d 505, 508 (2nd Cir 1976) ("We hold that the District Court erred in permitting ... an expert witness called by plaintiffs, to give his opinion as to the legal obligations of the parties under the contract.");
  • Sepcht v. Jenson, 853 F2d 805, 809 (10th Cir 1988) ("[T]estimony on ultimate issues of law by the legal expert is inadmissible because it is detrimental to the trial process. If one side is allowed the right to call an attorney to define and apply the law, one can reasonably expect the other side to do the same. Given the proclivity of our brothers and sisters at the bar, it can be expected that both legal experts will differ over the principles applicable to the case.");
  • etc.

As a practical matter, people who haven't studied the law might have to rely on the credentials of an alleged expert in order to evaluate legal claims, but that is simply not how the courts themselves operate.
« Last Edit: December 06, 2015, 11:26:29 AM by Cathy »

LearnAsIGo

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Re: Vanguard forced to raise fees?
« Reply #15 on: December 06, 2015, 07:05:28 PM »
I keep forgetting to make note of the links. The cases that have merit seem to have merit not because of any real tax dodging on the profit end but by the nature of how Vanguard is structured. Because it's technically one group managing the funds and one group owning them they fall under the same rules as company subsidiaries. What this means is that any transactions between the two entities are supposed to take place "at arms length" which basically means at a price that is consistent with the market at that time. What appears to be the largest part of the issue is that these transactions (the management expenses and such) are taking place at cost instead of at market value. The other issue is that because there is no special exemption for a uniquely built company like Vanguard they still fall under the laws designed to regulate companies that turn a profit. Even though Vanguard has no profit. This regulatory issue is why the fall under the arms reach rule I stated earlier.

The arms reach rule is supposed to stop actions as follows (this is not my example I found it online)
Build shoes in china for $20
Sell to Caribbean subsidiaries for $25 (low to no taxes.
Caribbean company sells to US company at $58
US company sells shoes  for $60
"Technically" US company makes only $2 in profit to be taxed

nobodyspecial

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Re: Vanguard forced to raise fees?
« Reply #16 on: December 06, 2015, 09:00:41 PM »
The arms reach rule is supposed to stop actions as follows (this is not my example I found it online)
Build shoes in china for $20
Sell to Caribbean subsidiaries for $25 (low to no taxes.
Caribbean company sells to US company at $58
US company sells shoes  for $60
"Technically" US company makes only $2 in profit to be taxed
This is what Starbucks does to make a loss on its $5Bn UK sales. It buys all its coffee beans from the world center of coffee production = Switzerland.
Unfortunately this means that they make no money while their coffee supplier, also coincidentally owned by Starbucks, in tax-free Switzerland makes a fortune.

bacchi

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Re: Vanguard forced to raise fees?
« Reply #17 on: December 06, 2015, 09:19:51 PM »
I just read about it here: http://www.joshuakennon.com/vanguard-accused-of-nearly-35-billion-tax-fraud/

Kennon wrote another hit piece article about Vanguard? Shocker.

YoungInvestor

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Re: Vanguard forced to raise fees?
« Reply #18 on: December 06, 2015, 10:11:40 PM »
I just read about it here: http://www.joshuakennon.com/vanguard-accused-of-nearly-35-billion-tax-fraud/

Kennon wrote another hit piece article about Vanguard? Shocker.

Find one other "hit piece" article about vanguard by Kennon. He has lauded the company many times in the past, and there are many great comments about the company and its products through his body of work.

He is an extremely rational person who is fond of challenging his ideas, however. Acknowledging a flaw in something does not mean you are against it. Something might be your best option even if it is not perfect in every regard. Not being able to acknowledge any flaws in your preferred investment strategy or product seems either intellectually lazy or incredibly (and needlessly) bigoted. Perhaps both.

I'm sure he would still recommend index funds with extremely low fees to most beginners.

Kennon is a great writer and I love getting his input on various situations. I find myself agreeing with him more often than not, but this particular situation goes into my "too hard" pile, even if I lean in the opposite direction from him with my initial feeling.

But anyway, you're not going to go read his stuff, so I'm mostly losing my time here. Just try challenging your ideas once in a while. You might even make them stronger that way.

bacchi

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Re: Vanguard forced to raise fees?
« Reply #19 on: December 06, 2015, 10:37:22 PM »
I just read about it here: http://www.joshuakennon.com/vanguard-accused-of-nearly-35-billion-tax-fraud/

Kennon wrote another hit piece article about Vanguard? Shocker.

Find one other "hit piece" article about vanguard by Kennon. He has lauded the company many times in the past, and there are many great comments about the company and its products through his body of work.

Oh, sorry, it wasn't an article. It was one of his mail bag comment responses.

Quote
He is an extremely rational person who is fond of challenging his ideas, however. Acknowledging a flaw in something does not mean you are against it. Something might be your best option even if it is not perfect in every regard. Not being able to acknowledge any flaws in your preferred investment strategy or product seems either intellectually lazy or incredibly (and needlessly) bigoted. Perhaps both.

What exactly are you going on about?

Quote
But anyway, you're not going to go read his stuff, so I'm mostly losing my time here. Just try challenging your ideas once in a while. You might even make them stronger that way.

What I found particularly ironic is when he comments (about Bogle),

Quote
“It’s hard to respect him after this. He’s either totally given in to self-interest or his mind is going in his very advanced age.”

(emphasis added)

And then 2 paragraphs later mentions his (Kennon's own) imminent hedge fund/financial advisory service, for which he will provide superior service for a "small" wrap fee.


Retire-Canada

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Re: Vanguard forced to raise fees?
« Reply #20 on: December 07, 2015, 08:18:17 AM »
Read the blog post and a bunch of the comments. I'm a Vanguard investor and not a JK fan. Nothing in what he wrote seemed terrible or off base as long as you accept you are getting one person's take on a very complex issue. He's a guy with an opinion. Nothing wrong with that.

I don't think he handled his own conflict of interest in an off base way.

You are reading a free post on a commercial site. You can't get too twisted about some shameless self-promotion.

Again I'm not a JK fan, but they guy has every right to make a living.

Ultimately all of this issue is going to be decided in a courtroom or some private negotiations.  Nothing JK or any other media outlet says will affect that outcome. So getting excited about it either way is a waste of everyone's time.

No matter how this plays out Vanguard will still offer low cost funds. They might not be as low cost and they may get restructured to some degree, but I can see no realistic possibility the US Gov't would put Vanguard out of business or do anything to materially risk the assets of its investors.

Stay calm. Invest on!
« Last Edit: December 07, 2015, 10:17:05 AM by Retire-Canada »

arebelspy

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Re: Vanguard forced to raise fees?
« Reply #21 on: December 07, 2015, 09:26:58 AM »
I'm a JK fan and Vanguard fan. And I agree with pretty much everything you wrote. :)
We are two former teachers who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and are now settled with two kids.
If you want to know more about us, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
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iamlindoro

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Re: Vanguard forced to raise fees?
« Reply #22 on: December 07, 2015, 10:03:53 AM »
Totally agree.  There's nothing to be gained and plenty to be lost in worrying about (or even worse, acting upon) any of this at this point.  Possibly relevant, Vanguard is also the fund provider of choice for many of our elected officials, who may (or may not) have a vested interest in finding an amicable solution to this.

johnny847

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Re: Vanguard forced to raise fees?
« Reply #23 on: December 07, 2015, 11:16:42 AM »
Totally agree.  There's nothing to be gained and plenty to be lost in worrying about (or even worse, acting upon) any of this at this point.  Possibly relevant, Vanguard is also the fund provider of choice for many of our elected officials, who may (or may not) have a vested interest in finding an amicable solution to this.

I'm curious - how do you know this?

iamlindoro

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Re: Vanguard forced to raise fees?
« Reply #24 on: December 07, 2015, 12:04:21 PM »
Totally agree.  There's nothing to be gained and plenty to be lost in worrying about (or even worse, acting upon) any of this at this point.  Possibly relevant, Vanguard is also the fund provider of choice for many of our elected officials, who may (or may not) have a vested interest in finding an amicable solution to this.

I'm curious - how do you know this?

Personal financial Disclosures of the Senate and House are public record, so you can actually see what everyone holds.  Interesting reading in some cases.

https://efdsearch.senate.gov/search/home/
http://clerk.house.gov/public_disc/financial-search.aspx

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #25 on: December 07, 2015, 12:21:17 PM »
Quoted from the article:

"Vanguard might be able to use its influence and power to get exceptions written into the law to protect its own interest the same way the sugar lobby (and one family down in Florida, particularly) has been able to artificially control cane sugar due to buying politicians and regulators.  The investors of Vanguard will continue to benefit from expense ratios that they now know come at the expense of cheating.  People who don’t pay attention will have no idea something happened at all.  Newsweek, in writing about the Vanguard fraud allegations, mentioned that if the firm managed to pull it off, it would be the 30th exemption granted; a special exception that allowed it to follow different rules from everybody else...

The IRS settles with Vanguard, most likely for a much lower amount coupled with changes in the internal transfer-pricing practices, which will require a drastic increase in expense ratios over their present levels.  At this point, one of two things should happen given Vanguard’s mission to put its investors first:
Vanguard will need to implement an owner dividend policy that results in regular distributions of the now-higher profits that are properly recognized.  As previously discussed, this might mean someone who has a lot of money in an S&P 500 index fund wakes up to find himself paying an expense ratio of, say, 0.80% per annum, but on the receiving end of a large check each Christmas based on his or her relative share of total assets under management or some other allocation formula.
"

Much ado about nothing - I agree with the above, either Vanguard investors will pay their share of corporate tax and get a refund of "dividends" or Vanguard will work out an exemption with the government - the company has too much goodwill with the public for any regulatory agency/gov to mess with it

matchewed

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Re: Vanguard forced to raise fees?
« Reply #26 on: December 07, 2015, 01:13:18 PM »
Much ado about nothing. The fees may rise, so what. I'll still evaluate each individual major player and pick the one that is lowest cost for me. If it ends up being Vanguard fine, if it ends up being Fidelity, fine.

I'll cross that non problem when it comes.

johnny847

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Re: Vanguard forced to raise fees?
« Reply #27 on: December 07, 2015, 01:20:59 PM »
Totally agree.  There's nothing to be gained and plenty to be lost in worrying about (or even worse, acting upon) any of this at this point.  Possibly relevant, Vanguard is also the fund provider of choice for many of our elected officials, who may (or may not) have a vested interest in finding an amicable solution to this.

I'm curious - how do you know this?

Personal financial Disclosures of the Senate and House are public record, so you can actually see what everyone holds.  Interesting reading in some cases.

https://efdsearch.senate.gov/search/home/
http://clerk.house.gov/public_disc/financial-search.aspx

Oh cool. Thanks!

iamlindoro

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Re: Vanguard forced to raise fees?
« Reply #28 on: December 07, 2015, 01:22:59 PM »
Oh cool. Thanks!

You're welcome!  Also of interest are the many Congresspeople who have terrrrrible investments!

johnny847

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Re: Vanguard forced to raise fees?
« Reply #29 on: December 07, 2015, 02:06:27 PM »
Oh cool. Thanks!

You're welcome!  Also of interest are the many Congresspeople who have terrrrrible investments!

Haha. Well considering many investors in general have terrible investments, that's not surprising!

dandarc

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Re: Vanguard forced to raise fees?
« Reply #30 on: December 07, 2015, 02:46:39 PM »
I doubt there is much to this case.  Pretty sure that the dollars are inflated by at least one order of magnitude at the very least.  May not be anything to see at all.

From Kennon's article - he is saying that the lawsuit alleges that Vanguard is under-charging its funds by around 0.6% of assets annually.  That is absurd - how could Fidelity / Schwab and all of the other major index fund players have funds charging under .1% expense ratios if a competitive charge is .7-.8% for brokerage and marketing services?  These brokerages would be going out of business if .1% didn't include adequate profit, right?

Either that or everyone is breaking the law, and .7% ER's are a federally mandated floor.

From the report JK linked, the key problem I have is with:

Quote
43.  Morningstar reported that the average expense ratios for all mutual funds were between 0.71 and 0.82%.

So the report that supposedly backs up the allegations is using what I think is a totally inappropriate benchmark - we're comparing a largely index-fund price from Vanguard to an average of all mutual funds, including actively-managed funds which by design must charge higher prices.  What is the average ER charged for an index fund?  Fidelity is charging .07%, on its S&P 500 fund.  Is a price considered non-arms-length just because it is below average?  If find it hard to believe the law actually would dictate any where near this high of a price, even if there is a legit complaint here.

I'm betting if the IRS brings this to court, Vanguard goes through every single one of its funds and says "This is an S&P 500 index fund"  What do similarly-sized S&P 500 index funds charged?  What part of that scales and what part doesn't?  OK, so we may have under-charged by .005% there.  Repeat 150 times.

TheOldestYoungMan

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Re: Vanguard forced to raise fees?
« Reply #31 on: December 07, 2015, 03:14:58 PM »
I wrote and rewrote this post trying to get a handle on how to say what Vanguard is accused of doing: 

The complaint is literally that we, as the investors, owe taxes on fees we never received that we didn't charge ourselves. 

It's batshit crazy.

Because Vanguard elected not to charge us as much as their competitors, they are guilty of income tax avoidance/evasion, because we become owners when we invest through Vanguard, and therefore the fee we didn't charge ourselves would have been taxable revenue?

I quit, I want off this planet.

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #32 on: December 07, 2015, 03:17:24 PM »
I doubt there is much to this case.  Pretty sure that the dollars are inflated by at least one order of magnitude at the very least.  May not be anything to see at all.

From Kennon's article - he is saying that the lawsuit alleges that Vanguard is under-charging its funds by around 0.6% of assets annually.  That is absurd - how could Fidelity / Schwab and all of the other major index fund players have funds charging under .1% expense ratios if a competitive charge is .7-.8% for brokerage and marketing services?  These brokerages would be going out of business if .1% didn't include adequate profit, right?

Either that or everyone is breaking the law, and .7% ER's are a federally mandated floor.

From the report JK linked, the key problem I have is with:

Quote
43.  Morningstar reported that the average expense ratios for all mutual funds were between 0.71 and 0.82%.

So the report that supposedly backs up the allegations is using what I think is a totally inappropriate benchmark - we're comparing a largely index-fund price from Vanguard to an average of all mutual funds, including actively-managed funds which by design must charge higher prices.  What is the average ER charged for an index fund?  Fidelity is charging .07%, on its S&P 500 fund.  Is a price considered non-arms-length just because it is below average?  If find it hard to believe the law actually would dictate any where near this high of a price, even if there is a legit complaint here.

I'm betting if the IRS brings this to court, Vanguard goes through every single one of its funds and says "This is an S&P 500 index fund"  What do similarly-sized S&P 500 index funds charged?  What part of that scales and what part doesn't?  OK, so we may have under-charged by .005% there.  Repeat 150 times.

He explains this further in the comments, basically, you can't just cherry pick one or three (this includes Fidelity, Schwab, iShares, etc.) as the "market", you must consider the entire universe - Fidelity, Blackrock, and Schwab are all big enough that they can institute "loss leaders" for the purpose of capturing investors for more profitable (expensive ER) funds. Vanguard won't have a case by only pointing to those companies as all three of them are structured differently and pay lots of taxes to the government. I get the initial reaction of "well this is stupid, low cost shouldn't be punished", but it's more about HOW Vanguard is achieving that, not that what they're trying to do is not a noble goal.

Basically, because the "customer" and the "shareholder" are the same, anyone who is a Vanguard fund investor is currently committing tax evasion and achieving the 5 bps cost as a result of that tax evasion. The real actual winners (as the difference between 100 bps and 5 bps overall is still pretty small, although turns into a big number eventually over time) are the managers/Vanguard executives who have been able to enjoy massive monetary rewards as the giant inflow of investment capital have flooded Vanguard funds (5 bps off $3 trillion is still $1.5B in fees per year if you assume minimum expense ratio on all of the assets under management). Because Vanguard is not structured as a not-for-profit, where salaries must be disclosed, but instead as a C corp, the managers/executives have been able to both get rich off the marketing advantage ("lowest cost in the industry!") while passing some of the realized economic gain from this tax evasion to the Vanguard shareholders/customers.

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #33 on: December 07, 2015, 03:19:08 PM »
I wrote and rewrote this post trying to get a handle on how to say what Vanguard is accused of doing: 

The complaint is literally that we, as the investors, owe taxes on fees we never received that we didn't charge ourselves. 

It's batshit crazy.

Because Vanguard elected not to charge us as much as their competitors, they are guilty of income tax avoidance/evasion, because we become owners when we invest through Vanguard, and therefore the fee we didn't charge ourselves would have been taxable revenue?

I quit, I want off this planet.

Yep, extremely counterintuitive - but it's basically the same as someone saying - I make $1m a year off of my business selling widgets, but I don't really want to pay the social security tax of 15%, so I'm going to setup a company in the Bahamas that charges $1m of services to my company in the US, resulting in no taxable income - now I'm $150k richer because I'm not technically making any profit in the US

Again, I will echo my first post in this thread:
Much ado about nothing - I agree with the above, either Vanguard investors will pay their share of corporate tax and get a refund of "dividends" or Vanguard will work out an exemption with the government - the company has too much goodwill with the public for any regulatory agency/gov to mess with it

TheOldestYoungMan

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Re: Vanguard forced to raise fees?
« Reply #34 on: December 07, 2015, 03:25:00 PM »
Except it isn't the same thing.  In the widget example you make $1m a year selling widgets. 

Vanguard never charged the fees!

They could have!  Other companies do!  Vanguard was just like, you know what, we won't incur all those costs so we won't have to charge those fees.

The fee wasn't hidden.  It isn't in an offshore account.  The nature of how Vanguard is set up is just that what would otherwise be an internal transaction within the business is instead between Vanguard management and its funds.  There was no cost here for that transaction, it only happened between businesses because the funds own the management company, not the other way around.

The fee wasn't hidden, it wasn't shipped offshore or disguised as a cost.  It literally never existed.  Cash was never taken from the customers (us) and given to Vanguard.  It was literally never income.

This isn't selling us a $60.00 shoe you bought for $2.00 and claiming it cost you $58.00.  It's literally selling a fucking $2.00 shoe for $2.00008 and getting sued because someone else wanted to sell it for $60.00.

dandarc

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Re: Vanguard forced to raise fees?
« Reply #35 on: December 07, 2015, 03:33:28 PM »
I doubt there is much to this case.  Pretty sure that the dollars are inflated by at least one order of magnitude at the very least.  May not be anything to see at all.

From Kennon's article - he is saying that the lawsuit alleges that Vanguard is under-charging its funds by around 0.6% of assets annually.  That is absurd - how could Fidelity / Schwab and all of the other major index fund players have funds charging under .1% expense ratios if a competitive charge is .7-.8% for brokerage and marketing services?  These brokerages would be going out of business if .1% didn't include adequate profit, right?

Either that or everyone is breaking the law, and .7% ER's are a federally mandated floor.

From the report JK linked, the key problem I have is with:

Quote
43.  Morningstar reported that the average expense ratios for all mutual funds were between 0.71 and 0.82%.

So the report that supposedly backs up the allegations is using what I think is a totally inappropriate benchmark - we're comparing a largely index-fund price from Vanguard to an average of all mutual funds, including actively-managed funds which by design must charge higher prices.  What is the average ER charged for an index fund?  Fidelity is charging .07%, on its S&P 500 fund.  Is a price considered non-arms-length just because it is below average?  If find it hard to believe the law actually would dictate any where near this high of a price, even if there is a legit complaint here.

I'm betting if the IRS brings this to court, Vanguard goes through every single one of its funds and says "This is an S&P 500 index fund"  What do similarly-sized S&P 500 index funds charged?  What part of that scales and what part doesn't?  OK, so we may have under-charged by .005% there.  Repeat 150 times.

He explains this further in the comments, basically, you can't just cherry pick one or three (this includes Fidelity, Schwab, iShares, etc.) as the "market", you must consider the entire universe - Fidelity, Blackrock, and Schwab are all big enough that they can institute "loss leaders" for the purpose of capturing investors for more profitable (expensive ER) funds. Vanguard won't have a case by only pointing to those companies as all three of them are structured differently and pay lots of taxes to the government. I get the initial reaction of "well this is stupid, low cost shouldn't be punished", but it's more about HOW Vanguard is achieving that, not that what they're trying to do is not a noble goal.

Basically, because the "customer" and the "shareholder" are the same, anyone who is a Vanguard fund investor is currently committing tax evasion and achieving the 5 bps cost as a result of that tax evasion. The real actual winners (as the difference between 100 bps and 5 bps overall is still pretty small, although turns into a big number eventually over time) are the managers/Vanguard executives who have been able to enjoy massive monetary rewards as the giant inflow of investment capital have flooded Vanguard funds (5 bps off $3 trillion is still $1.5B in fees per year if you assume minimum expense ratio on all of the assets under management). Because Vanguard is not structured as a not-for-profit, where salaries must be disclosed, but instead as a C corp, the managers/executives have been able to both get rich off the marketing advantage ("lowest cost in the industry!") while passing some of the realized economic gain from this tax evasion to the Vanguard shareholders/customers.
I'm questioning the definition of the market - specific firms are mentioned only as examples.  The 'market for all mutual funds' is simply not appropriate in this case.  The whole point of an index fund is that much less advisory service is required to operate it.

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #36 on: December 07, 2015, 03:49:30 PM »
They could have!  Other companies do!  Vanguard was just like, you know what, we won't incur all those costs so we won't have to charge those fees.

The fee wasn't hidden.  It isn't in an offshore account.  The nature of how Vanguard is set up is just that what would otherwise be an internal transaction within the business is instead between Vanguard management and its funds.  There was no cost here for that transaction, it only happened between businesses because the funds own the management company, not the other way around.

The fee wasn't hidden, it wasn't shipped offshore or disguised as a cost.  It literally never existed.  Cash was never taken from the customers (us) and given to Vanguard.  It was literally never income.

Exactly, Vanguard, the funds, and Vanguard, the management company, are completely separate entities. Vanguard the management company charges Vanguard, the funds we purchase as investors, an advisory fee. That fee is set at cost and has no profit embedded. But the funds own the management company - this results in a conflict of interest and could result in non-at-arms-length transactions. The legality of this pricing is the source of the claim

It's a tragedy of the commons example - imagine if everyone employed a structure where affiliates owned the main business and was able to reduce profit to zero - no one would pay any taxes. The shoe company equivalent example is if a shoe company gathered up everyone in the state of New York and said, okay, we will sell to you at cost if you buy shares of our company. The owners then directly benefit from the lower prices even though shoe companies in all the other states outside of New York are selling at $60 a pair and paying taxes. Both the rogue shoe company and the owners (the people of the state of New York) are actively participating in tax evasion - roads don't get built, hospitals, fire departments, and police stations aren't funded, schools are unable to afford teachers, etc. You don't see a problem with this?
« Last Edit: December 07, 2015, 04:15:20 PM by Aphalite »

seattlecyclone

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Re: Vanguard forced to raise fees?
« Reply #37 on: December 07, 2015, 04:28:51 PM »
They could have!  Other companies do!  Vanguard was just like, you know what, we won't incur all those costs so we won't have to charge those fees.

The fee wasn't hidden.  It isn't in an offshore account.  The nature of how Vanguard is set up is just that what would otherwise be an internal transaction within the business is instead between Vanguard management and its funds.  There was no cost here for that transaction, it only happened between businesses because the funds own the management company, not the other way around.

The fee wasn't hidden, it wasn't shipped offshore or disguised as a cost.  It literally never existed.  Cash was never taken from the customers (us) and given to Vanguard.  It was literally never income.

Exactly, Vanguard, the funds, and Vanguard, the management company, are completely separate entities. Vanguard the management company charges Vanguard, the funds we purchase as investors, an advisory fee. That fee is set at cost and has no profit embedded. But the funds own the management company - this results in a conflict of interest and could result in non-at-arms-length transactions. The legality of this pricing is the source of the claim

It's a tragedy of the commons example - imagine if everyone employed a structure where affiliates owned the main business and was able to reduce profit to zero - no one would pay any taxes. The shoe company equivalent example is if a shoe company gathered up everyone in the state of New York and said, okay, we will sell to you at cost if you buy shares of our company. The owners then directly benefit from the lower prices even though shoe companies in all the other states outside of New York are selling at $60 a pair and paying taxes. Both the rogue shoe company and the owners (the people of the state of New York) are actively participating in tax evasion - roads don't get built, hospitals, fire departments, and police stations aren't funded, schools are unable to afford teachers, etc. You don't see a problem with this?

You can extend that logic to any number of other membership-based discount programs. Costco should pay higher taxes because other stores choose to earn more profit selling the same items! Amazon Prime is just a big tax dodge! etc. etc.

I'm not an expert on how the law of taxation for internal transactions works. I understand the need for these laws in international transactions so that tax is paid in each country proportional to the amount of value that is added in that country. If the law applies to domestic transactions where the company simply chooses never to earn a profit, it's a flawed law.

dandarc

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Re: Vanguard forced to raise fees?
« Reply #38 on: December 07, 2015, 04:34:44 PM »
It's a tragedy of the commons example - imagine if everyone employed a structure where affiliates owned the main business and was able to reduce profit to zero - no one would pay any taxes. The shoe company equivalent example is if a shoe company gathered up everyone in the state of New York and said, okay, we will sell to you at cost if you buy shares of our company. The owners then directly benefit from the lower prices even though shoe companies in all the other states outside of New York are selling at $60 a pair and paying taxes. Both the rogue shoe company and the owners (the people of the state of New York) are actively participating in tax evasion - roads don't get built, hospitals, fire departments, and police stations aren't funded, schools are unable to afford teachers, etc. You don't see a problem with this?
This is a terrible argument.

You can say the same thing about any mutually-owned company, or even an individual person.  If I grow vegetables in my own garden, am I evading taxes because I didn't buy them from the store / distribution chain?  The store / distributer / farmer didn't pay taxes because I vertically-integrated my food production.  Same argument you're making regarding Vanguard, taken even further to the extreme.

If all goods and services are produced by mutual companies such that there are no corporate profits to tax, then the government simply has to tax something other than corporate profits to raise revenue.

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #39 on: December 07, 2015, 04:34:50 PM »
You can extend that logic to any number of other membership-based discount programs. Costco should pay higher taxes because other stores choose to earn more profit selling the same items! Amazon Prime is just a big tax dodge! etc. etc.

I'm not an expert on how the law of taxation for internal transactions works. I understand the need for these laws in international transactions so that tax is paid in each country proportional to the amount of value that is added in that country. If the law applies to domestic transactions where the company simply chooses never to earn a profit, it's a flawed law.

Sure, the law itself is definitely up for discussion - is more tax revenue always better? Can we trust the government to actually put that to good use? Etc., but the claim is talking about the law as it is, and if Vanguard is applying it correctly. If Vanguard from the beginning chose to set itself up under one of the many exemptions that exist (29 I think? although I'm not sure asset management is one of the exemptions), it can charge a lower price to the funds, but then it would have to disclose officer salaries.

The cynic in me goes both ways on this - I think to myself, why wasn't this brought to light before now? And my guess is that it's because Vanguard wasn't big enough until recently (this whistleblower/lawyer started working there in 2008) to sue, then I also think to myself, why would Vanguard structure it in this way? There's plenty of examples of mutual insurance companies or credit unions where you can LEGALLY get away with tax evasion - makes me think Vanguard has something to hide as far as disclosure requirements

In any case, I'll again repeat my first post in the thread:
Much ado about nothing - I agree with the above, either Vanguard investors will pay their share of corporate tax and get a refund of "dividends" or Vanguard will work out an exemption with the government - the company has too much goodwill with the public for any regulatory agency/gov to mess with it

dandarc

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Re: Vanguard forced to raise fees?
« Reply #40 on: December 07, 2015, 04:37:32 PM »
You can extend that logic to any number of other membership-based discount programs. Costco should pay higher taxes because other stores choose to earn more profit selling the same items! Amazon Prime is just a big tax dodge! etc. etc.

I'm not an expert on how the law of taxation for internal transactions works. I understand the need for these laws in international transactions so that tax is paid in each country proportional to the amount of value that is added in that country. If the law applies to domestic transactions where the company simply chooses never to earn a profit, it's a flawed law.
Exactly.  You didn't charge enough to produce adequate profits to be taxed, so we're going to pretend you charged more!  How could that go wrong?

Aphalite

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Re: Vanguard forced to raise fees?
« Reply #41 on: December 07, 2015, 04:38:34 PM »
This is a terrible argument.

You can say the same thing about any mutually-owned company, or even an individual person.  If I grow vegetables in my own garden, am I evading taxes because I didn't buy them from the store / distribution chain?  The store / distributer / farmer didn't pay taxes because I vertically-integrated my food production.  Same argument you're making regarding Vanguard, taken even further to the extreme.

If all goods and services are produced by mutual companies such that there are no corporate profits to tax, then the government simply has to tax something other than corporate profits to raise revenue.

I don't think it's at all terrible, a lot of mutually owned companies have explicit exemptions under tax law, and that land that you are growing vegetables on is subject to property tax. Your argument that government should tax something other than corporate profits is something I agree with, I think things should be taxed at the individual level, as opposed to double taxed, first at the corporate level, then at the dividend/cap gains level

However, these are the rules we have and the rules we must play with - many people use the "step up" basis to avoid capital gains tax all together, and a bunch more in this community take advantage of conversion ladders to avoid paying taxes as well - tax evasion might be a dirty world, but it's not like any of the people in this community is shy about avoiding as much taxes WITHIN THE RULES as possible. Just because the tax law might be flawed doesn't mean you can just choose not to follow it. I hope you understand that sentiment

JetBlast

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Re: Vanguard forced to raise fees?
« Reply #42 on: December 07, 2015, 06:43:44 PM »
The most disturbing part to me are the allegations that multiple Vanguard employees raised similar concerns and were punished or forced out of their positions. I sincerely hope it is not true as it brings into question the ethics of those in charge of Vanguard. I could easily forgive the oversight of running a "non-profit" corporation and not realizing you owe taxes as any for-profit company. But if the allegations are correct and the tax law is on the side if the whistleblower, then it paints an ugly story of a company that decided to simply ignore a law they didn't like and punish anyone that wouldn't fall in line.

I'm very curious about Vanguard's position on the tax issue at hand. Surely they have some plausible position, right? 

iamlindoro

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Re: Vanguard forced to raise fees?
« Reply #43 on: December 07, 2015, 07:45:49 PM »
The most disturbing part to me are the allegations that multiple Vanguard employees raised similar concerns and were punished or forced out of their positions. I sincerely hope it is not true as it brings into question the ethics of those in charge of Vanguard. I could easily forgive the oversight of running a "non-profit" corporation and not realizing you owe taxes as any for-profit company. But if the allegations are correct and the tax law is on the side if the whistleblower, then it paints an ugly story of a company that decided to simply ignore a law they didn't like and punish anyone that wouldn't fall in line.

I'm very curious about Vanguard's position on the tax issue at hand. Surely they have some plausible position, right?

Even if true, it's not as though this is the slam-dunk that some people are making it out to be.  There is no clear-cut criminal behavior here.  If Vanguard dismissed or demoted employees who think that Vanguard did something wrong in this situation, it's not altogether unreasonable, since their position is that they have not (and many of the participants in this thread, upon reading the available information, tend to agree).  That's pretty different from knowing you've done wrong and retaliating against employees who threaten to report it.

Is it possible that Vanguard knowingly committed some offense and punished whistleblowers?  Yes.  But there's absolutely nothing so far that indicates that that's what happened, since we haven't even established whether anything they've done is wrong.

JetBlast

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Re: Vanguard forced to raise fees?
« Reply #44 on: December 07, 2015, 08:32:55 PM »
Even if true, it's not as though this is the slam-dunk that some people are making it out to be.  There is no clear-cut criminal behavior here.  If Vanguard dismissed or demoted employees who think that Vanguard did something wrong in this situation, it's not altogether unreasonable, since their position is that they have not (and many of the participants in this thread, upon reading the available information, tend to agree).  That's pretty different from knowing you've done wrong and retaliating against employees who threaten to report it.

Is it possible that Vanguard knowingly committed some offense and punished whistleblowers?  Yes.  But there's absolutely nothing so far that indicates that that's what happened, since we haven't even established whether anything they've done is wrong.
All very fair points. Right now they are simply allegations involving a very complicated section of tax law.

I hope it is the case that Vanguard has an honest and reasonable belief that they are correct in their position regarding tax law. I want it to be true that Vanguard felt its position was in the right and their employee's reluctance to go along with it unreasonable.  I truly hope they haven't revealed that position due to the pending litigation and not wanting to tip their hand to the whistleblower's legal team.

However, I'm disturbed by the possibility that none of those are true. I'll be watching intently, and refrain from passing judgment until more facts are known.

FeelTheRain

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Re: Vanguard forced to raise fees?
« Reply #45 on: December 09, 2015, 07:20:12 PM »
If we assume that the savings from this scheme were passed to the vanguard investors in terms of less expenses (bigger gains), which would also mean that these have already been taxed at an individual investor level?

If Vanguard was taxed again, isn't that double taxation of the same dollar amount?

Scandium

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Re: Vanguard forced to raise fees?
« Reply #46 on: December 10, 2015, 09:40:23 AM »
He explains this further in the comments, basically, you can't just cherry pick one or three (this includes Fidelity, Schwab, iShares, etc.) as the "market", you must consider the entire universe - Fidelity, Blackrock, and Schwab are all big enough that they can institute "loss leaders" for the purpose of capturing investors for more profitable (expensive ER) funds. Vanguard won't have a case by only pointing to those companies as all three of them are structured differently and pay lots of taxes to the government. I get the initial reaction of "well this is stupid, low cost shouldn't be punished", but it's more about HOW Vanguard is achieving that, not that what they're trying to do is not a noble goal.

It still doesn't make sense to me. Comparing Vanguard fund cost to "industry norm" (1-1.5% I believe?) is as silly as lumping price of walmart sneakers in with $1500 designer shoes. And then declaring cheap sneakers aren't charging industry norm. Who decides what the universe is? Why lump an S&P fund with 2% turnover in with an international bond fund with 100% turnover. These aren't even remotely the same animal! A mutual fund is a structure, not a product.

Are the Schwab and fidelity index funds actually loosing money? Do we know?

I found JK's constant moaning about moral obligations, cheating tax payers etc a bit much. Vanguard didn't take tax payer money, they just didn't generate a profit to be taxed. Plenty of businesses don't have a profit, for various reasons (amazon anyone..). Further, it's not like Vanguard created loss-leaders to steal market share. The ER on their funds are set at-cost, i.e. what it actually costs them to run it. Not below. If the cost on an index fund is 0.05 -0.10% I find the argument that they should have charged 0.80% silly. Is 15 X profits the industry norm? So if Vanguard were forced to a say 10% profit would the ER go up to 0.055%?

Vanguard doesn't do marketing, or richly pay fund managers, and don't do tons of expensive trades. So their costs are lower. But they should be forced to charge the same as the ones who have to pay for these things? If this was the case anyone who runs a more efficient operation would be forced to charge more. Makes no sense and I doubt the law is used in that way.
But INAL..

tj

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Re: Vanguard forced to raise fees?
« Reply #47 on: December 10, 2015, 12:17:29 PM »
It's a tragedy of the commons example - imagine if everyone employed a structure where affiliates owned the main business and was able to reduce profit to zero - no one would pay any taxes. The shoe company equivalent example is if a shoe company gathered up everyone in the state of New York and said, okay, we will sell to you at cost if you buy shares of our company. The owners then directly benefit from the lower prices even though shoe companies in all the other states outside of New York are selling at $60 a pair and paying taxes. Both the rogue shoe company and the owners (the people of the state of New York) are actively participating in tax evasion - roads don't get built, hospitals, fire departments, and police stations aren't funded, schools are unable to afford teachers, etc. You don't see a problem with this?
This is a terrible argument.

You can say the same thing about any mutually-owned company, or even an individual person.  If I grow vegetables in my own garden, am I evading taxes because I didn't buy them from the store / distribution chain?  The store / distributer / farmer didn't pay taxes because I vertically-integrated my food production.  Same argument you're making regarding Vanguard, taken even further to the extreme.

If all goods and services are produced by mutual companies such that there are no corporate profits to tax, then the government simply has to tax something other than corporate profits to raise revenue.

If Vangaurd set itself up as a mutual, we wouldn't have this issue. They chose not to do that.