Completing taxes can often be difficult, especially if you are filing yourself. There are a lot of common errors that occur on taxes, and the IRS is understanding of innocent mistakes. However, committing tax fraud is a very serious matter punishable by jail time and large fines. Are you knowingly or unknowingly committing tax fraud?
What is tax fraud?
Tax fraud occurs when someone willfully and intentionally provides false information on a tax return to limit the amount of taxes they should be paying. People cheat on their taxes in order to avoid paying the entire amount owed. There are multiple ways individuals and businesses may commit tax fraud, including claiming personal expenses as business expenses, using a fake Social Security number, claiming false deductions, and not reporting income. If you purposefully leave out an entire income source from your taxes, this is known as “Tax Evasion”.
If you are feeling anxious that you committed tax fraud on your recent returns, don’t stress! Tax fraud is only considered fraud if you have intentionally filled out your tax return incorrectly. You may still owe penalty fees if you have filled incorrectly, but it is not seen as a crime for having made a mistake on your filing.
Who is in charge of detecting tax fraud?
You may be wondering who the “tax police” are. The department in charge of detecting and fining individuals found guilty of tax fraud is the Internal Revenue Service. They are the ones who investigate and audit each year's tax filings.
When they are investigating the matter, tax fraud is said to be evident if the taxpayer is found to have:
- Purposely failed to file his income tax return
- Falsely claim tax deductions or tax credits by way of misrepresenting the actual state of their affairs.
- Deliberately failing to pay a tax debt
- Was the preparer and filer of a false return
- Intentionally failed to report all income received
Many people assign a negative connotation to the IRS, however, the IRS has a duty to collect appropriate revenue from taxpayers in order to fund the federal government. You may be wondering what qualifies someone to work for the IRS and regulate such important fiscal matters.
In order to be a special agent working for the IRS you must:
- Have at least 3 years of successful, responsible accounting and business experience, OR possess a CPA Certificate.
- Complete 1 full year of graduate-level education, supplemented by at least 15 semesters and 23 quarter hours in accounting
- Be a citizen of the United States
- Not have reached your 37th birthday
- Be available to work anywhere in the US.
Individuals who make up the IRS task force are highly qualified and educated, ensuring that the highest standards of regulation are taking place.
There is no reason to dislike, or fear, the IRS if you are a law-abiding taxpayer. Keep reading to learn more about how to stay in compliance with tax laws!
How to avoid tax fraud?
The easiest way to avoid tax fraud is simply to avoid any intention of cheating on your taxes. If you are worried about even the appearance of tax evasion or fraud, then it’s important to find an accountant to assist you with your taxes. This ensures that you aren’t accidentally claiming deductions that don’t apply to you, and they’ll also help you report all sources of income.
What is tax evasion?
The legal definition of tax evasion is: “The non-payment of taxes by means of not reporting all taxable income, or by taking unallowed deductions.” In order to convict someone of tax evasion, the prosecution must prove:
The unpaid tax debt exists
The defendant specifically evaded or attempted to evade paying taxes
The defendant specifically meant to evade the legal duty to pay taxes
Examples of Tax Evasion
1. Falsifying Records
If someone is working with an accountant to file their taxes, they might lie to their CPA about their income. They may deny an entire offshore account that exists or falsify the numbers they give to the accountant.
2. Underreporting Income
Tax liability is based on income, so if you report lower income, you would then be liable to pay less in taxes. While this sounds like it would be a good idea, this is another example of tax evasion.
Some people underreport income through a method called "structuring". Through this method, deposits and bank transfers are artificially lowered to a point below bank reporting requirements. Structuring is designed to hide income, therefore, it is illegal.
3. Illegally Assigning Income
Some people commit tax evasion by saying the income belongs to someone else. Tax evasion occurs when you deliberately assign income that is actually your own to reduce your taxes. So, if you report on your taxes that an income source belongs to your brother, your friend, your mother, or your uncle when it belongs to you, be aware of the consequences of tax evasion.
What are the consequences of tax evasion?
Committing tax evasion comes with harsh consequences if the IRS chooses to penalize you. Individuals who are convicted of having evaded taxes must repay the taxes with an additional, and expensive, fraud penalty. These individuals are also subject to jail sentences of up to 5 years.
How is tax evasion detected?
The IRS uses an Information Returns Processing (IRP) System to match information sent by employers and other third parties to the IRS with what is reported by individuals on their tax returns. Information from W-2s, 1099s, and Schedule K-1s are all processed and examined for errors.
The IRS computers find individuals who received this reported information to make sure it’s been reported on their tax returns. Some omissions are seen as mistakes, and others are obvious attempts at cheating taxes.
With recent technological advances, it’s believed that the IRS can also track information such as medical records, credit card transactions, and other electronic information and this is all data that is used to detect tax cheats. It’s also believed that the IRS is tracking individuals' social media footprint to see if their social activities match what they claim on taxes. For example, if an individual claim they only make $15k a year but is then seen posting pictures in their brand new Tesla, then that might send red flags to the IRS.
It is estimated that one out of every six dollars in federal taxes owed goes unpaid due to tax evasion. Interestingly enough, studies have been conducted and have found that most tax evasion is committed by individuals in the higher tax brackets. Tax evasion is a huge problem and occurs very frequently. When dealing with tax fraud or tax evasion, it is best to consult with an enrolled agent.
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