On February 19, 2014, IRS released their annual list of the “Dirty Dozen” tax scams. The full release is available on the IRS website here. Following is a summary.
1) Identity theft. This typically happens in one of three ways – 1) someone files a return using your Social Security number as their own, 2) they claim you as a dependent or 3) they use your Social Security number as their own when completing their W-4 (used by an employer to generate a W-2 among other purposes) or on some other document showing income. If this happens to you, IRS has an identity protection page to help.
2) Pervasive telephone scams. Fraudsters call people claiming to work for IRS and that you have an outstanding tax obligation. If you know you do not owe IRS any money then hang up. You may want to call IRS directly at 1-800-829-1040 to verify they show you do not owe. If you do know you owe IRS, do not give the caller any personal information. Again, call IRS back at their 800 number.
3) Phishing. Phishing scams can involve emails, fake websites, text messages or via social media. IRS does not make initial contact electronically. You should never send personal financial information via unsecured email or unsecured websites to anyone.
4) False promises of “free money” from inflated refunds. This one can be summarized by the old saying – “If it sounds too good to be true, it probably is.” There is no magic credit or deduction that most preparers do not know about. I realize you hire a preparer because you either do not have time prepare your own return or do not understand the tax law. You should still review your return before signing it. For example, if you know you were not self-employed and the preparer included a Schedule C for self-employed people, demand an explanation. “Everyone does it” is not a valid explanation.
5) Return preparer fraud. “About 60 percent of taxpayers will use tax professionals this year to prepare their tax returns. Most return preparers provide honest service to their clients. But some dishonest preparers prey on unsuspecting taxpayers, and the result can be refund fraud or identity theft.” (Direct quote from IRS.)
6) Hiding income offshore. You may have a great reason to have a foreign financial account. Business keeps get more global every day. However, as a U.S. citizen or resident you owe income tax on your worldwide income. This is different than most countries and perhaps it is unfair. But unfair or not it is the law. Talk to your congressional representatives if you want the law changed. The solution is not to omit the income. You probably also have an obligation to report the foreign financial accounts even if they do not have any income and even if you are not the owner but just have authority over the account(s). The penalties for not reporting foreign accounts, when required, are quite severe financially and can include jail time.
7) Impersonation of charitable organizations. Check the charity out on the IRS website (not all are listed, for example most churches do not have to apply for tax exemption) or with your state regulator.
8) False income, expenses or exemptions. This is a lot like number 5 but is when the taxpayer prepares their own return claiming things they are not entitled to claim. In addition to back taxes, penalties and interest; the IRS can prosecute and you may end up in jail.
9) Frivolous arguments. Do not be gullible. If someone tells you only foreigners have to file and pay income tax, just nod your head and then forget it. The Supreme Court has ruled the income tax is legal and applies to all Americans and U.S. residents. The IRS has a list of other frivolous tax arguments on their website. The IRS is not always right but arguing the same old positions that have lost repeatedly in court is not a good idea. However, you may get to experience our federal prison system.
10) Falsely claiming zero wages or using false Form 1099. Again this is similar to numbers 5, 8 and 9.
11) Abusive tax structures. Some taxpayers setup elaborate and convoluted structures generate large deductions or credits with little or no financial risk or profit. The only real benefit is the tax savings. The structure is arguably legal if you really stretch the law. These scams often use multiple entities such as limited liability companies, foreign businesses, and foreign financial accounts. You can find a list of some of the more common abusive and suspected abusive arrangements on the IRS website.
12) Misuse of trusts. Trusts are valuable asset protection vehicles and are common in estate and gift tax planning. On the other hand, you cannot use a trust to deduct personal living expenses. Think twice before investing in a trust. Better yet, contact your tax preparer before you setup a trust.