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Tax scandal worrying Ernst & Young staffers

Now it's Ernst & Young's turn in the hot seat – and it could get ugly. Accounting industry experts say the curtain is about to rise on the New York-based accounting and auditing giant, exposing multiple examples of the kind of individual tax shelters that have gotten Sprint Corp.'s top two executives in hot water with the IRS.

High-ranking company execs who also were told by Ernst & Young not to worry about the questionable plans “are calling us night and day about their own shelters – they are just freaking out at us,” said one Ernst & Young auditor.

The tax shelter, which essentially allows an executive to defer taxes on capital gains profits from the exercise of stock options, is one of a variety of deferment schemes offered not just by Ernst & Young, but by all of the big accounting firms, like KPMG and PricewaterhouseCoopers.

But it seems Ernst & Young, much like Arthur Andersen, may be lined up to take the first, and perhaps most pricey, hit from both the IRS and clients.

Ernst & Young was slapped Friday with a lawsuit from wealthy execs in New York, North Carolina and Florida over these deferment shelters, and many more suits are expected.

Until last year, the questionable tax shelters used by Sprint CEO William Esrey and COO Ronald LeMay – which were reportedly the cause for their ouster from the long-distance company – were considered legal if rules were followed correctly.

But now the IRS, which issued a terse “no comment” on the matter, has reportedly launched an investigation into the matter.

As is the case in most tax auditing matters, negotiations may be under way for the duo to pay off their tax debts, according to Al Rosen, president of the forensic accounting firm Rosen & Associates Limited.

One thing's for sure: Esrey and LeMay will have one heck of a tax bill.

Esrey and LeMay alone registered a $311 million profit on exercised stock options, according to SEC filings.

Without the shelter, the two executives would have owed more than $123.3 million in income taxes.

The total values of the two executives' Sprint shares now stand at roughly half that taxable amount.

For Ernst & Young, this could be one big headache in the coming months.

The firm, which declined to comment, handles perhaps more corporate audits than any other firm, estimated Alan L. Sklover, an executive compensation specialist at Sklover, Himmel & Bernstein. He said not only is there nothing wrong with most tax-sheltered arrangements, but “the urge to defer has been going on since biblical days.”

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