Two new schemes have joined the Internal Revenue Service’s (IRS’) list of most noxious tax scams this filing season. Several usual suspects also remain on the list, which was released earlier this week. The IRS reminds taxpayers and tax preparers that involvement with tax schemes can lead to fines and even imprisonment.
“When it comes to taxes, everyone has to pay their fair share,” IRS Commissioner Mark V. Everson said in a prepared statement detailing the 2006 list. “I urge taxpayers not to be taken in by hucksters who promise to lower or eliminate taxes. Getting caught up in the Dirty Dozen or similar schemes can lead to big headaches.”
The Dirty Dozen List
- Zero Wages NEW! A taxpayer attaches either a Form 4852 (Substitute Form W-2) or a “corrected” Form 1099 showing no or very little wages or other income. A statement indicating the taxpayer is rebutting information submitted to the IRS by the payer, a reference to the paying company’s refusal to issue a corrected Form W-2 for fear of IRS retaliation or an explanation on Form 4852 citing the “statutory language behind Internal Revenue Code (IRC) 3401 and 3121,” may also be included when the tax return is filed.
- Form 843 Tax Abatement NEW! This faulty interpretation of the IRC involves the use of Form 843 by the taxpayer to request abatement of previously assessed tax. Form 843 is used to provide a list of reasons for the request, which often includes “Failed to properly compute and/or calculate IRC Section 83 – Property Transferred in Connection with Performance of Service.” This scam is most frequently used by those who have not previously filed tax returns in an attempt to abate tax assessed by the IRS through the Substitute for Return Program.
- Phishing Identity thieves, posing as financial institutions or even the IRS itself, attempt to acquire personal information and financial data that can be used to access the financial accounts of consumers. Ficticious e-mail messages, phone calls and other correspondence, solicit taxpayer Social Security Number, credit card number, PIN number and other data, by pretending to notify them of suspicious activity on their account or that their account is under audit/review. NOTE: The IRS DOES NOT use e-mail to initiate contact with taxpayers about issues related to their accounts. Taxpayers can confirm authentic IRS contact by calling 800-829-1040.
- Zero Return Taxpayers enter all zeros or enter zero income, their withholding and write “nunc pro tunc” (“now for then” in Latin) on their federal tax return. This is also done with amended returns in hope that the IRS will disregard the original return on which they reported wages and other income. This is similar to the “Zero Wages” listed in Number 1 above.
- Trust Misuse Taxpayers are encouraged, with promises of reducing the income subject to tax deductions for personal expenses and reduced estate or gift taxes, to transfer assets into trusts. Some trusts, however, do not deliver the promised tax benefits. The IRS is actively examining these arrangements, with more than 200 active investigations currently underway, as well as three dozen injunctions obtained against the promoters of non-performing trusts since 2001.
- Frivolous Arguments Promoters of this tactic have been known to make wild claims including: the Sixteenth Amendment, concerning the power of Congress to lay and collect taxes, was never ratified; wages are not income; filing returns and paying taxes is voluntary; being required to file Form 1040 violates the Fifth Amendment right against self-incrimination or the Fourth Amendment right to privacy; and more. These arguments are false and have been thrown out of court.
- Return Preparer Fraud Dishonest return preparers, who derive financial gain by skimming a portion of their clients’ refunds and charging inflated fees for return preparation services, cause many headaches for taxpayers lured in by the promise of big refunds. Since 2002, the courts have issued injunctions ordering dozens of individuals to cease preparing returns. The Department of Justice has filed complaints against dozens of others. More than 110 tax preparers were convicted of tax crimes during fiscal year 2005.
- Credit Counseling Agencies The IRS Tax Exempt and Government Entities Division is in the process of revoking the tax-exempt status of numerous credit counseling organizations that operated under the guise of educating financially distressed consumers with debt problems while charging debtors large fees and providing little or no counseling. Taxpayers are encouraged to exercise caution when considering utilizing the services of credit counseling organizations that claim they can fix credit ratings, push debt payment plans or impose high set-up fees or monthly service charges that may increase existing debt levels.
- Abuse of Charitable Organizations and Deductions Tax-exempt organizations are being increasingly used to improperly shield income or assets from taxation. According to the IRS this can occur when a taxpayer moves assets or income to a tax-exempt supporting organization or donor-advised fund, but maintains control over the assets or income, thereby obtaining a tax deduction without transferring commensurate benefits to charity.
- Offshore Transaction Taxpayers continue to try to avoid U.S. taxes by illegally hiding income in offshore bank and brokerage accounts, or using offshore credit cards, wire transfers, foreign trusts, employee leasing schemes, private annuities or life insurance policies, despite crackdowns by the IRS and state tax agencies, which yielded 68 convictions on charges of promotion and use of abusive tax schemes designed to evade taxes during fiscal year 2005.
- Employment Tax Evasion A number of illegal schemes, based on an incorrect interpretation of Section 861 and other parts of tax law, instruct employers not to withhold federal income tax, or other employment taxes, from wages paid to their employees. The IRS has observed an increase in activity in the area of so-called double dip parking and medical reimbursement issues lately and courts have issued injunctions against more than a dozen persons, ordering them to stop promoting the scheme. More than 50 individuals were sentenced to an average of 30 months in prison for employment tax evasion during fiscal year 2005. Employers can also be held responsible for back payments of employment taxes, plus penalties and interest. Employees who have nothing withheld from their wages are still responsible for payment of their personal taxes.
- ”No Gain” Deduction Taxpayers attempt to eliminate their entire adjusted gross income (AGI) by deducting it on Schedule A by listing their AGI in the section labeled “Miscellaneous Deductions” and attache a statement to the return referring to court documents and including the phrase “No Gain Realized.”
Report Suspected Tax Fraud Activity
Suspected tax fraud can be reported to the IRS using IRS Form 3949-A, Information Referral or by sending a letter detailing the alleged fraudulent activity to the Internal Revenue Service, Fresno, CA 93888. The letter should contain specific information regarding who is being reported, the activity being reported, how the individual reporting the activity gained knowledge of it, when the activity took place, the amount of money involved and any additional information that might be helpful in an investigation. The person reporting the alleged violation are not required to identify themselves, although it is helpful and their identity can be kept confidential. The individual may also be entitled to a reward.
The two scams that dropped of the “Dirty Dozen” list this year were the “claim of right” and “corporation sole”. IRS personnel have noticed less activity using these scams over the past year as a result of court cases against a number of promoters.