Serpent on the Rock (17 page)

By the spring of 1981, executives with long backgrounds in the shelter business had been shunted aside or were losing influence for having opposed Darr. The announced acquisition of Bache by Prudential had bolstered confidence in the firm's once-sickly capital base. Darr knew he would have the resources available for a massive expansion in both marketing and due diligence. Prudential's backing made the firm a more attractive employer, and Darr could attract a number of high-profile, wellqualified marketers. But his sights were set lower in selecting due diligence executives. Rather than seeking out executives with a background in the business, Darr loaded up the department with inexperienced young people, most of whom were fresh out of business school. Then he turned over much of the responsibility for ferreting out potential problems with a tax shelter to them. Ellen Schachter was the first of this new breed for the due diligence team.

Her interviews with the department began in February, when she met with Marron and D'Elisa, who still ran due diligence for real estate. Schachter heard from Marron that she had done well. But he said she would have to pass one more interview with the head of the department, Jim Darr.

“What's he like?” Schachter asked.

Marron shrugged. “Judge for yourself.”

A few days later, Schachter took the trip from her apartment to 100 Gold Street to meet with Darr. She arrived a few minutes early and waited outside Darr's office. He kept her waiting past the appointed time, until finally he came to the door and asked her in. Schachter felt almost immediately uncomfortable. Darr never looked her in the eye. He made her horribly uneasy. To Schachter, Darr looked spooky.

The meeting was short and unpleasant. Darr had almost no questions for Schachter. Instead, the interview was mostly a pep talk, delivered in a tone of pure arrogance. “This is going to be a great department,” Darr said. “You'll be making lots of money with us.”

The meeting came to an end, and Schachter stood up to shake Darr's hand. She had said almost nothing the entire time. A day or so later, Marron called her. She had passed the last test with flying colors. Ellen Schachter was the newest due diligence officer for the Bache tax shelter department.

A few weeks later, in April 1981, Schachter was visiting the home of a friend who worked as a stockbroker at Josephthal. She told him she had found a new job, which would be starting on May 1, with Bache. The friend asked her what department she would be in. When she told him tax shelters, his face fell.

“Oh, my gosh,” the broker said. “Be careful of your boss.”

“Who, Darr?” Schachter asked. “What's the matter with him?”

“He's a bad guy. Keep your distance.”

Schachter pressed for details. Her friend told her that Darr had been caught taking money from clients at Josephthal. And, he said, Josephthal had allowed him to leave without pressing charges, just to rid itself of the problem.

Schachter didn't know what to think. She had just been presented with the best job opportunity of her life. Now, before her first day, trouble had been dumped in her lap. Even worse, on her employment application she had mentioned that she maintained a brokerage account at Josephthal. She worried that if Darr saw that, he might think she knew something. Her job might be over before it started. A few weeks later, on one of her first days on the job, she went to Marron and pulled him aside into a private office. At that point, Schachter had never heard of the Futon Five and had no idea she was speaking to one of its original members.

“I've heard some bad stuff about Darr,” Schachter said.

Marron looked stunned. “How did you . . .” He paused. “What are you talking about?”

Schachter quickly outlined what she had been told by her friend from Josephthal and mentioned her concerns about her employment application. Marron seemed to visibly relax, as if he'd heard it all before.

“Well, it might be tough for you,” Marron said, “because if Darr looks at the employment application and sees the name ‘Josephthal,' he's not going to like it. But you just do your job and mind your business, and there's really no reason why you have to deal with Darr.”

Marron spent a few more moments trying to reassure Schachter and then stood up to leave. Schachter still felt concerned.

“But, Dennis,” she asked. “Don't you think we need to tell somebody else at the firm about what I heard?”

Marron stopped in the doorway of the office and looked back at Schachter.

“The firm already knows,” he said. Then he turned to walk away.

By June 1981, D'Elisa's briefcase was stuffed with résumés from young MBAs, all of them eager to join the department's due diligence team. He and Wally Allen interviewed a number of candidates but were most impressed with David Levine, a recent business school graduate from the University of Pennsylvania. Although there was competition for Levine from other firms, he had been won over by D'Elisa and Allen. Levine liked the chemistry of the place.

Like Schachter, Levine also had to clear the final interview with Darr. But Levine came away from that meeting with a different feeling from Schachter. Even though Darr seemed somewhat arrogant, he displayed a level of charm that Levine enjoyed. To a degree, he felt flattered by Darr's attention. The department had little in the way of any business school talent, and Darr seemed to want it badly. Levine decided that at Bache he would be permitted a fair degree of autonomy. So, when D'Elisa came back with a competitive offer, he snapped it up.

In his first few days, D'Elisa told Levine to start a six- to nine-month study to explore the possibility of the department developing a more active business in public tax shelters. Its business to date had been founded mostly on private deals. Such deals had some advantages—for example, a private partnership did not have to register with the Securities and Exchange Commission or publicly file financial information, both of which cost money. But the disadvantages were far larger: The firm still had to send each buyer an investment memorandum describing the deal and disclosing all of the relevant facts. Under the rules at that point, an unregistered security could be sold only to a maximum of a hundred buyers, sharply restricting the amount of money that could be raised. All buyers had to meet certain income and asset standards to ensure that they had the financial wherewithal to handle the risk of the tax shelters.

Still, in the department, it was well known that the high commissions paid by tax shelters encouraged some brokers to fudge their clients' true financial condition in order to get them approved to invest. As the joke went, Bache's files held the names of more people making at least $250,000 than actually existed in the world.

Public deals would solve that problem. Partnerships could be registered with the SEC, then sold to thousands of investors across the country, almost as if they were stocks. All the partnerships would have to do was file prospectuses that disclosed all the risks. Then, for the most part, the law would shift responsibility for assuming that risk onto the investors themselves. If such a market could develop, it would increase the amount of money that partnerships could raise by an exponential factor. And with public deals, the stringent rules restricting which types of investors could purchase the deals would no longer apply.

Levine tore into his assignment with zeal. Working with public filings and contacting people in the industry, he found the competition in the public market and what products they were selling. By the time he finished his analysis, he had assembled a huge matrix of the sale and performance of every public tax shelter available. There seemed to be enormous room for growth. Levine thought that Bache could do great business by selling more public deals.

But Levine's increasing excitement about the prospects for the business was being offset by a growing distaste for Darr. The more he got to know him, the more Levine thought that his initial impression of Darr had been off base. For some reason, Darr seemed to delight in publicly humiliating the people who worked for him, usually by picking their weakest point. Even though Pittman and Proscia were Darr's biggest supporters, he would belittle them at department meetings by saying that they were lucky he existed because they would never be able to find another good job on Wall Street. Sometimes, when it was time for the meetings to break for lunch, Darr would start shaking all over, crudely mimicking a low-blood-sugar attack. Then he would announce that a marketer who was known to have diabetes needed to eat.

With due diligence executives like Levine, Darr's attempts at humiliation in business discussions were more veiled. He would ask technical questions about particular deals that were virtually impossible to answer, such as obscure financial data that might be buried in a footnote of an offering memorandum. If the executive stumbled in answering, Darr would aggressively pursue follow-up questions, sometimes to the point where the executive could no longer speak. Once the executive left the room, Darr would burst into peals of laughter. “I really had him going that time,” Darr said, laughing after one particularly ghastly encounter.

D'Elisa had taken a liking to Levine and couldn't stand it when Darr played his games with him. So he quietly found out what questions Darr was planning to ask. Then, before the interrogation began, he took Levine aside and slipped him the answers. By doing so, D'Elisa figured, he wasn't harming Levine's education; he was just robbing Darr of some cruel pleasure.

Levine's understanding of Darr was solidified in the fall of 1981 at one of the department's quarterly meetings in New York. A number of Bache's general partners attended, making presentations about future projects. Levine sat with his colleagues from around the country in an auditorium at the Gold Street headquarters. Darr sat in the back of the room, occasionally interrupting with his own observations.

Suddenly, a movement in the aisle attracted Levine's attention. It was Darr, signaling that he wanted Levine to come out of the row. Levine stood and pushed past his colleagues. He knew what this was about: It was time for the quarterly bonuses. During these meetings, Darr loved taking people aside, one at a time, to deliver bonus checks. Levine was curious to find out how much he would be making.

He reached the end of the row, and Darr escorted him toward the back with an envelope in his hand. They stopped as they reached the back wall, and Darr turned to look at Levine.

“David, you're a sharp guy,” Darr said. “And you'll have a choice, very soon, to either stay here and have a tremendous amount of power, or join another firm where you could earn a lot more money.”

Levine felt somewhat uncomfortable. He had expected to hear something about his performance. Darr's line of conversation seemed out of context.

“So, that's the choice, money or power,” Darr continued as he handed Levine his bonus of about $4,000. “For me the answer has been easy. That's why I stay here. I like power.”

For what he wanted, Darr was in the right job at the right time. A new administration in Washington was pushing historic revisions in the country's fiscal policies, changes that would alter the American economy. And in an unintended ripple effect, they would transform Jim Darr into one of the most powerful people in the retail brokerage business.

It dawned foggy and damp on August 13, 1981, in California's scenic Santa Ynez Mountains. By late morning, troops of reporters and photographers took the white-knuckle drive up the winding road to the mountaintop. They gathered in front of the stucco house, built in 1872, that was now part of President Reagan's Rancho del Cielo. For weeks, the news media had been wagging a collective finger at Reagan for vacationing during the entire month of August. There was much going on in the world—the airtraffic controllers' strike and Moscow's criticisms of the new administration's Soviet policies. But on this day, the reporters awaited Reagan's arrival for a historic ceremony. He was about to sign into law the package of tax and budget reductions that had come to symbolize his administration. It was the defining moment in the eight-month-old Reagan presidency.

The Reagan bill, called the Economic Recovery Tax Act, promised to cut personal income-tax rates by 25 percent over three years and sharply cut business taxes to encourage new investment in plants, equipment, and real estate. After presenting the plan less than a month into his administration, Reagan, as well as his supporters, expressed confidence that the proposal would effectively kill the burgeoning tax shelter industry. On its face, the argument seemed to make sense. After all, shelters were largely a response to high tax rates, and the Reagan plan was expected to cut personal income-tax rates by an average of 25 percent over three years. But there was a critical flaw in their argument: Rather than kill the shelter business, the Reagan bill would spur their growth by making them more attractive investments.

The heart of his business tax-cut plan was a program known by the acronym ACRS, which stood for Accelerated Cost Recovery System. Under that proposal, assets such as real estate and equipment could be depreciated far faster than they had been in the past. Essentially, where the tax code once declared that a building would run itself down in twenty-five years, giving investors depreciation deductions throughout the entire period, under ACRS the time was reduced to fifteen years. That made investments in real estate and other depreciable assets far more attractive. It sharply boosted the amount of deduction bang an individual could get for each investment buck. Never had there been any legislation so significant to the growth of the tax shelter industry.

At noon, Reagan finally appeared, wearing faded jeans, a denim jacket, and cowboy boots. He grinned broadly, looking relaxed and tanned and projecting the image of a man enjoying victory. He sat down at a table as he apologized for the fog. Then, using twenty-four pens, Reagan signed the bill.

“This is only the beginning,” he promised.