The IRS' 2011 Dirty Dozen Tax Scams

Don't Be a Tax Scam Victim

Every year the IRS issues a list of common tax scams that they call the dirty dozen. The IRS attempts to educate taxpayers about the scams that can end up causing them great financial harm. Remember, you are responsible for what goes on your tax return. If something sounds too good to be true,visit the IRS’ official Web site or consult with a reputable tax professional.

The IRS calls the list of tax scams ‘the dirty dozen.’ “The Dirty Dozen represents the worst of the worst tax scams,” IRS Commissioner Doug Shulman said. “Don’t fall prey to these tax scams. They may look tempting, but these fraudulent deals end up hurting people who participate in them.”

If you fall victim to a tax scam, you are the one responsible for repaying the taxes due, interest, and penalties, even if the scam was one you participated in unwittingly! So, be cautious.

Here are the Dirty Dozen Tax Scams for 2011:

1. Hiding Income Offshore- For the past few years, the IRS has aggressively pursued taxpayers that were hiding income in overseas bank accounts or brokerage accounts as well those who tried to evade taxes by “using offshore debit cards, credit cards, wire transfers, foreign trust, employee-leasing schemes, private annuities or insurance plans.”

In February, 2011 the IRS announced the 2011 Offshore Voluntary Tax Disclosure Initiative, attempting to induce taxpayers who have hidden money overseas to come forward and get current with their tax obligations. This initiative follows a similar, previous initiative from 2009. The rules for the current program are NOT identical to what was offered in 2009. The 2011 program charges a higher penalty rate than the 2009 program and has some different guidelines, too.  IRS Commissioner Doug Shulman stated, “A new penalty framework that requires individuals to pay a penalty of 25 percent of the amount in the foreign bank accounts in the year with the highest aggregate account balance covering the 2003 to 2010 time period. Some taxpayers will be eligible for 5 or 12.5 percent penalties. Participants also must pay back-taxes and interest for up to eight years as well as paying accuracy-related and/or delinquency penalties.”

The main benefit to a taxpayer for participating in the 2011 program is to protect him or herself from aggressive collection efforts, growing penalties, and potential criminal prosecution.

2. Identity Theft and Phishing- Identity theft most commonly involves the criminal theft of an individual’s private information, such as name, Social Security Number, credit card account number, or other personal information to commit some kind of financial fraud or other crime. Identity theft often leads to a number of new accounts fraudulently opened in the individual’s name, allowing the thief to make purchases in the individual’s name, access the individual’s existing credit or bank accounts, or apply for a loan in the individual’s name. Most people don’t think about taxes and identity theft, but the risk is real. As the IRS states,  a criminal with someone else’s personal information can file a fraudulent tax return and collect a refund.”

Phishing is a common tactic that is used online to get taxpayers to reveal valuable personal information that can then be used fraudulently. Phishing usually involves bogus emails, ones that appear to be from the IRS and direct the taxpayer to divulge personal information. It can also involve sending the taxpayer to a bogus Web site that looks official.

It is very important to know that the IRS never sends taxpayers unsolicited emails about their personal tax matters; they do NOT initiate any communications with taxpayers via email. As the IRS Web site states, "If you receive such an e-mail, most likely it's a scam." If you receive an email about your personal tax account, from what purports to be the IRS representative, do not divulge any private information, such as your social security or bank account numbers. The scammer is only trying to find a way to access your account or to steal your identity.

 If you receive a suspicious email or encounter a Web site that purports to be part of the IRS that does not begin with http://www.irs.gov, the IRS asks that you forward that information to them at phishing@irs.gov

If you believe that your personal information has been compromised and used for tax purposes, you should contact the IRS immediately. The IRS has a special unit, the IRS Identity Protection Specialized Unit that can be reached at 1-800-908-4490.

3. Return Preparer Fraud- Be wary of tax preparers that promise a big refund before they know the facts of your situation. Some preparers make money by skimming part of their clients’ refunds. Others charge excessive fees. The IRS warns taxpayers to choose their tax preparers carefully.

4. Filing False or Misleading Forms- The IRS is on the lookout for taxpayers filing false forms and fraudulent tax returns in order to obtain a refund they are not entitled to receive. The penalties for tax fraud are not only financial, but can be criminal, too.

5. Frivolous Arguments- Some taxpayers make arguments that they are not required to pay federal income tax. Sometimes, taxpayers are duped by others who claim that frivolous arguments are valid and the entire tax system is illegal. The IRS provides information about The Truth About Frivolous Tax Arguments that outline some of the more common false arguments as well as the penalties a taxpayer can suffer for making these arguments that have already been deemed frivolous.

6. Nontaxable Social Security Benefits with Exaggerated Withholding Credit- The IRS is keeping its eyes out for returns where taxpayers report nontaxable Social Security Benefits with excessive withholding. By doing this, the taxpayer ends up filing a return with no income reported. This kind of error will lead to the reported income and the withholding being reported incorrectly.  Tax filings containing this type of error can result in a $5,000 penalty.

7. Abuse of Charitable Organizations and Deductions- Problems with charitable deductions that taxpayers claim are wide-spread. Problems include instances where taxpayers try to “shield income or assets from taxation and attempts by donors to maintain control over donated assets or income from donated property. The IRS also continues to investigate various schemes involving the donation of non-cash assets including situations where several organizations claim the full value for both the receipt and distribution of the same non-cash contribution.” Don’t claim charitable deductions that you can’t prove you made. If you are required to get an appraisal for the item you donate and wish to claim as a deduction on your return, make sure to get one.

8. Abusive Retirement Plans- The IRS “continues to find abuses in retirement plan arrangements, including Roth Individual Retirement Arrangements (IRAs). The IRS is looking for transactions that taxpayers use to avoid the limits on contributions to IRAs, as well as transactions that are not properly reported as early distributions.” Taxpayers are warned not to claim a deduction for contributions to a retirement account that exceed contribution limits and to be sure to report any disbursements from retirement accounts properly.

9. Disguised Corporate Ownership- The IRS is partnering with state tax agencies to find business owners who form a business or corporation and try to disguise their ownership. Such businesses “can be used to facilitate underreporting of income, fictitious deductions, non-filing of tax returns, participating in listed transactions, money laundering, financial crimes and even terrorist financing.”  

10. Zero Wages- Filing a return with phone wage or income information that is used to replace legitimate information return is an illegal method to lower the amount of taxes owed. Typically, taxpayers trying to deceive the IRS this way use a Form 4852 (Substitute Form W-2) or a “corrected” Form 1099 to improperly reduce the taxable income to zero. Taxpayers may also submit a statement rebutting wages and taxes reported by a payer to the IRS.

The IRS is watching for taxpayers who replace the proper W-2 or 1099 they received from their employer with false information that results in a return claiming they made zero income. Taxpayers that use an IRS Form 4852 (Substitute Form W-2) or who falsely adjust income shown on an IRS Form 1099 to fraudulently lower their taxable income face a penalty for this criminal behavior of $5,000.

“Sometimes, fraudsters even include an explanation on their Form 4852 that cites statutory language on the definition of wages or may include some reference to a paying company that refuses to issue a corrected Form W-2 for fear of IRS retaliation. Taxpayers should resist any temptation to participate in any of the variations of this scheme. Filings of this type of return may result in a $5,000 penalty.”

11. Misuse of Trust- The proper use of trusts can be a very valuable tool for legally reducing a taxpayer’s tax obligation and the IRS has no problem with a properly structured trust. However, taxpayers are warned to avoid “transactions (that) promise reduction of income subject to tax, deductions for personal expenses and reduced estate or gift taxes. Such trusts rarely deliver the tax benefits promised and are used primarily as a means to avoid income tax liability and hide assets from creditors, including the IRS.” Because trusts are very complex, taxpayers are advised to seek competent professional assistance, before establishing a trust.

12. Fuel Tax Credit Scams- While there are reasonable and proper uses of the fuel tax credit, the IRS is looking for returns that contain excessive claims of the credit. Individuals that claim a credit for nontaxable “when their occupations or income levels make the claim unreasonable,” are considered to have made a frivolous tax claim and face a penalty of up to $5,000.

Summary

Trying to trick or deceive the IRS is a fool’s choice. The IRS has stepped up enforcement and is looking for violators. The penalties can be severe financial fines and possible criminal prosecution. Owing the IRS can result in a wage garnishment, bank levy, or seizure of assets, unless the taxpayer makes payment arrangements or can prove to the IRS that the taxpayer lacks the means to repay the debt.

Don’t work with a tax preparer that promises you a large refund. Use your common sense; if something sounds too good to be true, it likely is.

How to Report Suspected Tax Fraud Activity

If you suspect someone of tax fraud, you can report it to the IRS by using IRS Form 3949-A, Information Referral and sending it to the Internal Revenue Service, Fresno, CA, 93888. The IRS says that “the mailing should include specific information about who is being reported, the activity being reported, how the activity became known, when the alleged violation took place, the amount of money involved and any other information that might be helpful in an investigation. The identity of the person filing the report can be kept confidential.

Whistleblowers also may provide allegations of fraud to the IRS and may be eligible for a reward by filing Form 211, Application for Award for Original Information, and following the procedures outlined in Notice 2008-4, Claims Submitted to the IRS Whistleblower Office under Section 7623.” In fact, in its first award under a new whistleblowing program, the IRS just paid out $4.5 Million to a CPA who reported tax fraud allegations against a business. The whistleblower’s report to the IRS enabled the IRS to collect $20 million that had been previously underreported, so the American taxpayer is way ahead, even after the IRS paid the $.5 million bounty.