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Con
artists have been ripping off taxpayers -- millions of them -- by touting
various trusts, credits and legal strategies. But it's the person who
signs the returns who's on the hook.
Let's say you're thinking about your taxes and worried about getting zapped for so
much taxable income or so many deductions that you qualify for the
alternative minimum tax.
And then the phone rings with an irresistible offer. The caller confides
that (for a fee ranging from $5,000 to $70,000) he can help you set up a
credit-card account in a tax haven country with money you do not report to
the Internal Revenue Service. Then you get a credit or debit card to draw
down on the account for personal expenses.
Sound too good to be true? It potentially is. But that hasn’t stopped
nearly 2 million people from already trying to take advantage of the scam.
And there are plenty of other con artists looking to prey on you with
other scams.
Don’t be tempted by hucksters claiming they can help vastly reduce your
tax burden or show you how to pay no taxes at all.
The IRS has cracked down on some of the scams, and, prodded by Congress,
it has been getting tougher. Its own "Dirty Dozen" scams list
for 2006 adds a few new twists to the classics:
Zero wages, zero return
In this scam, new to the Dirty Dozen, a taxpayer attaches either a Form
4852 (Substitute Form W-2) or a “corrected” Form 1099 that shows zero
or little wages or other income. The taxpayer may include a statement
indicating the taxpayer is rebutting information submitted to the IRS by
the payer.
An explanation on the Form 4852 may cite "statutory language behind
IRC 3401 and 3121" or may include some reference to the paying
company refusing to issue a corrected Form W-2 for fear of IRS
retaliation.
The Form 4852 or 1099 is usually attached to a “Zero Return," where
promoters instruct taxpayers to enter all zeros on their federal income
tax filings. In a twist on this scheme, filers enter zero income, report
their withholding and then write “nunc pro tunc”–– Latin for
“now for then”-- on the return. They often also do this with amended
returns in the hope the IRS will disregard the original return in which
they reported wages and other income.
Shelter income by moving your money offshore
Despite a crackdown by the IRS and state tax agencies, individuals
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 to do so. During fiscal 2005, 68 people were convicted on
charges of promotion and use of abusive tax schemes designed to evade
taxes.
The accounts are being set up by banks, brokerages, accounting firms and
others for very affluent people -- entertainers, lawyers, doctors and
other professionals. Offshore accounts are of little use to people whose
wages are reported to the IRS by employers.
The General Accounting Office estimates that 1 million to 2 million
Americans have offshore credit-card accounts in tax-haven countries, and
fraudulent activities cost the Treasury $20 billion to $40 billion a year.
The accounts are legal so long as income generated to the accounts is
reported and taxes paid. Failure to disclose the income is a felony
punishable by up to five years in prison.
The IRS has convinced VISA, Master Card and American Express to turn over
lists of U.S. residents with credit card accounts domiciled outside the
United States. The goal: to find out who has an offshore account and, more
importantly, who has not reported it and the income illegally disguised.
Cut your taxes with abusive trusts at home
In addition to the offshore accounts, the IRS has also detected a sharp
increase in the abuse of domestic trusts set up to conceal taxable income
and has 200 investigations ongoing. The average prison sentence for those
convicted: 37 months.
The schemes are usually offered in a series of trusts layered upon each
other by promoters who target people with incomes in at least six figures.
Here’s how they work:
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A promoter advises a
taxpayer to start an asset management company (AMC), with the taxpayer
listed as the director of a domestic trust. This gives the illusion
that the taxpayer is not managing his business and allows him to start
layering the process.
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Then, a business trust
is formed with the AMC serving as the trustee. False administrative
expenses may be deducted from the trust as a way of cutting taxable
income. “The scheme gives the appearance that the taxpayer has given
up control of their business to a trust; however, in reality the
taxpayer is still running the day-to-day activities of their business
and is controlling its income stream,” said one IRS report on the
scam.
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Next comes an
equipment or service trust to hold equipment that’s rented or leased
to the business trust at inflated rates. This lets the business trust
reduce its income by claiming deductions for payments to this trust.
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In some promotions,
taxpayers are also encouraged to start a charitable trust to pay for
personal, education or recreational expenses. These expenses are
falsely claimed as “charitable deductions” on the trust’s tax
returns. Any remaining balance of income, usually a small amount, is
then distributed to the taxpayer.
Try to claim the tax code is unconstitutional
Don’t fall for the 16th Amendment scam or other such frivolous
arguments. One victim was duped by a promoter claiming that the 16th
Amendment authorizing the federal income tax was never ratified, and thus
citizens do not have to file a return.
The victim paid the promoter $1,500 for a packet that explained how he
could become part of a movement of people who have decided to “un-tax”
themselves. The packet included a series of sample letters to send to the
IRS making the case that he did not have to pay taxes.
When the IRS started a collection action against the victim, he made his
own situation worse. He gave $100,000 to the promoter to hide in an
offshore account, which the promoter ended up taking for his own use.
Your tax preparer promises really big deductions
The IRS advises that you be as careful about choosing a tax preparer as
you would in choosing a doctor or a lawyer. The IRS has a special Criminal
Investigation Return Prepare Program to root out unscrupulous or
incompetent return preparers. In 2005 it prosecuted 110 tax preparers.
The problem for taxpayers is that even if the preparer gets in hot water,
you are ultimately responsible for all of the information on your return.
At best, you will be stuck with paying additional taxes and interest.
At worst, depending on culpability, you could be subject to penalties and
maybe even criminal prosecution. Don’t forget that tax evasion is a
felony punishable by five years imprisonment and a $10,000 fine.
Dishonest tax preparers use several methods to create illegal deductions
reducing taxable income including, preparing fraudulent Schedule C, Profit
or Loss from Business; and claiming deductions for expenses that have not
been paid by the taxpayer for expenses that have not been paid to offset
form 1099, Miscellaneous Income.
They also come up with false or inflated itemized deductions on Schedule A
for:
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Charitable
contributions
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Medical and dental
expenses
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Claiming false
dependents
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Claiming false losses
on IRS Schedule E. (This covers supplemental income and losses from
rental properties, partnerships, royalties, trusts and the like.)
To protect yourself, avoid
tax preparers who claim they can get larger refunds than their
competitors. Make sure the preparer signs your tax return and provides you
with a copy for your records. And never, ever, sign a blank tax form.
Your company scams its way to avoid payroll
taxes
The most prevalent methods of tax evasion by employers include pyramiding,
employee leasing, paying employees in cash, filing false payroll tax
returns or failing to file payroll tax returns. During fiscal 2005, more
than 50 people were sentenced to an average of 30 months in prison for
employment tax evasion.
So-called pyramiding of employment taxes is a fraudulent practice where a
business withholds taxes from its employees but intentionally fails to
remit them to the IRS. Businesses involved in this game often file for
bankruptcy to evade the liabilities accrued and then start a new business
under a different name and start all over again.
Employee leasing is a legal practice of contracting with outside
businesses to handle all administrative, personnel and payroll concerns
for employees. But some employee-leasing companies end up not paying any
portion of the collected employment taxes to the IRS.
If you’re an employee and your employer has failed to pay the income
tax, Social Security and Medicare taxes withheld from your paycheck,
you’re not likely to be held liable. But you have to be able to prove
that the money was, in fact, withheld and that you had nothing to do with
the fraud. The best proof is a set of valid pay stubs. The employer,
meanwhile, is in big trouble because, by withholding the taxes, he’s
been acting as an agent for the government. He’s personally liable.
ID thieves masquerading as IRS agents
These Internet-based criminals pose as representatives of a financial
institution and send out fictitious e-mail correspondence in an attempt to
trick consumers into disclosing private information. Sometimes scammers
pose as the IRS itself.
In recent months, some taxpayers have received e-mails that appear to come
from the IRS. A typical e-mail notifies a taxpayer of an outstanding
refund and urges the taxpayer to click on a hyperlink and visit an
official-looking Web site. The Web site then solicits a Social Security
and credit card number.
In a variation of this scheme, criminals have used e-mail to announce to
unsuspecting taxpayers they are “under audit” and could make things
right by divulging selected private financial information. Taxpayers
should take note: The IRS does not use e-mail to initiate contact with
taxpayers about issues related to their accounts. If a taxpayer has any
doubt whether a contact from the IRS is authentic, the taxpayer should
call 1-800-829-1040 to confirm it.
Three more to avoid
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Form 843 tax
abatement. This scam, also new to the Dirty Dozen, rests on faulty
interpretation of the Internal Revenue Code. It involves the filer
requesting abatement of previously assessed tax using Form 843. Many
using this scam have not previously filed tax returns and the tax they
are trying to have abated has been assessed by the IRS through the
Substitute for Return Program. The filer uses the Form 843 to list
reasons for the request. Often, one of the reasons is: "Failed to
properly compute and/or calculate IRC Sec 83 -- Property Transferred
in Connection with Performance of Service."
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“No Gain”
deduction. Filers attempt to eliminate their entire adjusted gross
income (AGI) by deducting it on Schedule A. The filer lists his or her
AGI under the Schedule A section labeled “Other Miscellaneous
Deductions” and attaches a statement to the return that refers to
court documents and includes the words “No Gain Realized.”
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Abuse of charitable
organizations and deductions. The IRS has observed increased use
of tax-exempt organizations to improperly shield income or assets from
taxation. This can occur, for example, 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 a commensurate benefit to charity.
A “contribution” of a historic facade easement to a tax-exempt
conservation organization is another example. In many cases, local
historic preservation laws already prohibit alteration of the home’s
facade, making the contributed easement superfluous. Even if the
facade could be altered, the deduction claimed for the easement
contribution may far exceed the easement’s impact on the value of
the property.
Two more scams driven into hiding
Crackdowns by the Department of Justice and the IRS have knocked two
of 2005's Dirty Dozen off the list.
The Department of Justice has obtained injunctions and filed
complaints against dozens of promoters of the "Corporation
Sole" scheme. Participants apply for incorporation under the
pretext of being a “bishop” or “overseer” of a one-person,
phony religious organization or society with the idea that this
entitles the individual to exemption from federal income taxes as a
nonprofit, religious organization.
When used as intended, Corporation Sole statutes enable religious
leaders to separate themselves legally from the control and ownership
of church assets. But the rules were twisted at seminars where
taxpayers were charged fees of $1,000 or more and incorrectly told
that Corporation Sole laws provide a “legal” way to escape paying
federal income taxes, child support and other personal debts.
Another scheme, known as "Claim of Right," purportedly
allowed taxpayer to deduct their entire wages as “a necessary
expense for the production of income” or “compensation for
personal services actually rendered.” The IRS went after promoters
there, too.
The two scams join such schemes as slavery reparations and improper
home-based businesses on the Dirty Dozen dust heap. But taxpayers
should remain wary because the IRS has seen old scams resurface or
evolve.
If you have any concerns about your employer’s activities or if you
feel like you are being targeted by a scam artist, the IRS says, seek
professional advice from the federal agency or a private tax
professional. You can report suspected tax fraud activity to the IRS
by calling 1-800-829-0433.
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