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Tax Fraud

5 min read

5 min read

Every year, the IRS compiles a list of the 12 most common tax schemes and scams. Topping the list for 2023 is identity theft.

The IRS urges you to avoid these common schemes:

Hiding income offshore

Some people try to avoid paying taxes by illegally hiding income in offshore bank and brokerage accounts. They also use offshore:

  • Debit and credit cards
  • Wire transfers
  • Foreign trusts
  • Employee-leasing schemes
  • Private annuities or life insurance plans

The IRS instructs auditors on how to deal with someone who hides income offshore in undisclosed accounts. The IRS draws a clear line between people with offshore accounts who voluntarily come forward and those who try to hide those accounts instead (committing tax evasion).

An IRS program, the 2014 Offshore Voluntary Disclosure Program (OVDP), is an effort to bring offshore money back into the U.S. tax system. If you have hidden income in offshore accounts, the program is a way to get current with your taxes. To learn more about the OVDP, see the IRS website.

Identity theft and phishing

Identity thieves use a technique called “phishing” to try to get your personal data and access your financial accounts. They send phony emails, usually posing as representatives of a financial company or the IRS itself.

A typical tax fraud email notifies you of an outstanding refund or audit. The email then urges you to click on a link and enter your Social Security and credit card numbers. Don’t click on this link, and don’t send your private numbers.

The reality is the IRS never uses email to start contact with you regarding your accounts. If you receive unsolicited email that claims to be from the IRS, you can forward the message to phishing@irs.gov. The only official IRS website is www.irs.gov.

Return-preparer fraud

Dishonest return preparers make their money by:

  • Skimming a portion of their clients’ refunds
  • Charging inflated fees for tax-preparation services

Some preparers promote the filing of fraudulent claims for refunds on items like fuel tax credits to recover taxes paid in prior years. You should be careful when hiring a tax preparer, especially one who promises something that seems too good to be true.

To increase confidence in the tax system and improve compliance with the tax law, the IRS requires tax preparers to:

  • Register with the IRS
  • Have a preparer tax identification number (PTIN)
  • Pass competency tests
  • Take ongoing continuing professional education courses

Paid tax preparers must apply for a PTIN before preparing any federal returns. Paid preparers can be attorneys, certified public accountants (CPAs), or enrolled agents.

Filing false or misleading forms

Scam artists will file false or misleading returns to claim refunds they’re not entitled to. Scammers file returns based on frivolous information to legitimize illegitimate refund claims. Ex: Form 1099-OID (Original Issue Discount) claiming false withholding credits

The new scam evolved from an earlier scam that a “straw man” bank account had been created for each citizen. Under this scam, individuals filed a false information return, arguing they used their “straw man” account to pay for goods and services. They falsely claimed the corresponding amount as withholding to seek a refund.

Abuse of charitable organizations and deductions

Ways tax-exempt organizations are misused include:

  • Arrangements to improperly shield income or assets from taxation
  • Attempts by donors to keep control of — and income from — assets or property they “donated”
  • Overstating the value of contributed property

Other schemes involve the donation of noncash assets, including:

  • Easements on property
  • Closely held corporate stock
  • Real property

Sometimes, these donations are highly overvalued. In other cases, the organization receiving the donation promises that the donor can purchase the items back at a later date at a price the donor sets.

The Pension Protection Act of 2006:

  • Increased penalties against donors who use inaccurate appraisals to value their donations
  • Included new definitions of qualified appraisals and qualified appraisers

Frivolous arguments

Frivolous schemes involve using unreasonable and unfounded claims to avoid paying the taxes you owe. The IRS keeps a list of frivolous arguments; if you file a return or make a submission based on a scheme that’s on the list, you’re subject to a $5,000 penalty.

Disguised corporate ownership

Someone who wants to hide ownership of a business or financial activity might create a shell corporation. The shell corporation acts as the “owner” of the activity or business, disguising activities like:

  • Underreporting of income
  • Fictitious deductions
  • Non-filing of returns
  • Engaging in listed transactions
  • Money laundering
  • Financial crimes
  • Terrorist financing

The IRS is working with state authorities to identify these entities and bring their owners into compliance.

Zero wages

In this scam, taxpayers attach one of these forms that shows no or little income:

  • Form 4852: Substitute for Form W-2: Wage and Tax Statement
  • Form 1099R: Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.
  • Corrected Form 1099

These taxpayers include a statement refuting information they previously submitted to the IRS. Ex: They might cite on Form 4852 “statutory language behind IRC 3401 and 3121.” They also might mention their employers refusing to issue a corrected Form W-2 for fear of IRS retaliation.

They usually attach Form 4852 or 1099 to a zero-income return.

Misuse of trusts

For years, scammers have urged taxpayers to transfer assets into trusts. They promise:

  • Reduction of income subject to tax
  • Deductions for personal expenses
  • Reduced estate or gift taxes

However, some trusts don’t deliver the promised tax benefits. Also, the IRS has seen an increase in the improper use of private annuity trusts and foreign trusts to divert income and deduct personal expenses. You should seek the advice of a trusted professional before entering into a trust arrangement.

Fuel-tax credit scams

There are tax penalties for making unreasonable claims for the fuel tax credit. Some people — like farmers who use fuel for off-highway business purposes — might be eligible for the fuel tax credit. But some people claim the credit for nontaxable uses of fuel when their jobs or income levels make the claims unreasonable.

Fraud involving the fuel tax credit is considered a frivolous tax claim. It carries a $5,000 penalty.

Report suspected tax-fraud activity

You can report suspected tax fraud to the IRS using Form 3949-A: Information Referral. Your report should include:

  • Specific information about who you’re reporting
  • Activity you’re reporting
  • How you learned about the activity
  • When the alleged violation took place
  • Amount of money involved
  • Other information that might be helpful in an investigation

If you report suspicions of tax fraud, your identity can be kept confidential.

To learn more, see these tax tips:

  • Audit
  • IRS Contact Information

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