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Inaccurate or Fraudulent? Tax Returns Can Lead to Investigations, Stiff Penalties

Aug 28th 2017
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Question. I filed returns for 2013 and 2014 that listed only modest amounts of wages. Because of money and marital problems, I failed to declare several hundred thousand dollars of gains from sales of land and other investments.

Let’s suppose the IRS computers bounce my 1040s. What are my chances of convincing the feds that medical problems caused me to file returns that were inaccurate, but not fraudulent?

Answer. It depends on the nature of your ailment. Might it be diabetes or alcoholism?

In that event, reflect on what happened when an executive suffering from diabetes contended that his condition justified overturning his conviction on charges of tax fraud. The claim didn’t sway the judge, who noted, among other things, that a doctor testifying on behalf of the defense didn’t state that his patient had experienced any mental problems. Moreover, his honor considered it unlikely that the exec was "in insulin shock every time he signed a tax return."

Then there was the conviction of businessman Joseph Jalbert. His resume included attendance at law school and employment as an investigator for the Federal Bureau of Investigation. Joseph cited medical testimony about his chronic drunkenness as one reason why he shouldn’t have been found guilty of filing false returns. Unfortunately for the former G-Man, the court found "far more persuasive" the testimony of government witnesses that he’d been sharp enough to run his business, despite his alcoholism.

Q. Let’s say the government does decide to make a federal case out of my failure to declare sizable amounts of income on several returns. Just how harsh are the criminal penalties?

A. Internal Revenue Code Section 7201 authorizes severe punishment for tax evaders. A criminal prosecution can culminate in a sojourn at Club Fed of as much as 5 years, as well as a fine of as much as $100,000, for each fraudulent return.

Those sentences and fines, by the way, are in addition to the substantial civil penalties for fraud, plus back taxes and interest, that the feds routinely exact from cheaters who are spared criminal prosecution.

Follow the money. If you’re under investigation by the IRS, it can compel third parties, such as relatives, employers, and financial institutions, to furnish detailed information about their dealings with you. In fact, the law authorizes the agency to obtain information for a year later than the one in issue.

The courts routinely hold that there’s no violation of your constitutional rights when, for example, the IRS summonses force banks to disclose records of deposits to checking accounts or dates of entries to safe deposit boxes—entries that just might coincide with when, hmm, checks from those unreported land sales were converted into currency instead of being deposited. Similarly, the IRS can require your employers to hand over personnel records.

Additional articles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 200 and counting).

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