Published April 04, 2013
Don't Be a Tax Scam Victim
Tax season is prime tax scam season. As the April filing deadline nears, criminals prey upon people's fears of making a tax return mistake or appeal to their desire to get a bigger refund.
Every year, the Internal Revenue Service issues its list of the dirty dozen worst tax scams. They range from improper application of real-but-arcane tax laws to downright false claims, along with perennial attempts to get individuals to provide personal information that can be used to steal identities.
The scams appear online, by email and in person. In some cases, taxpayers can't even trust their tax preparers.
Adding injury to insult, tax scam victims and perpetrators also could find themselves in real trouble with the IRS. After the tax con artist has compromised your personal data and taken some, if not all, of your tax refund, you could face significant penalties and interest for not filing a proper tax return or not paying what you legally owe.
Check out this year's top 12 tax tricks, so you won't become another tax scam victim. We count them down from 12 to the No. 1 dirtiest of the dozen.
Misuse of Trusts
Trusts can be valuable legal arrangements to deal with many complex family, financial and tax issues. However, trusts designed solely to hide assets from the IRS are illegal.
But year after year, folks fall prey to unscrupulous promoters who have convinced them to transfer their assets into improperly designed trusts. Recently, the IRS says it has seen an increase in the inappropriate use of private annuity trusts and foreign trusts.
Beware of a trust that promises to reduce the amount of income subject to tax, offers deductions for personal expenses or claims to lower estate or gift taxes. Such trusts rarely deliver the advertised tax benefits. Rather, they are used primarily as a way to hide assets from creditors, including the IRS, and avoid legitimate tax liability.
Trusts can be complicated, so don't take the word of a stranger offering to set up one that will reduce your tax bill. Find an attorney or other trained tax professional who can help you establish a proper, legal trust.
Disguised Corporate Ownership
There are lots of good business and tax reasons to set up a corporation. Flagrant tax evasion is not one of them.
In the 11th worst tax scam of 2012, the con artist applies for an employer identification number and forms a corporation for the sole purpose of hiding the true ownership of the business.
Once established, the shell corporation shields the real owner from tax liability. The fake business avoids taxes by underreporting income, claiming fake deductions and sometimes doesn't file tax returns at all. These illegal entities often go beyond tax cheating, says the IRS, serving as fronts for money laundering and other financial crimes.
And it's not just IRS agents who are on the lookout for disguised corporations. The federal tax agency is working with state authorities who register and license businesses to identify and prosecute fake corporate entities.
Abuse of Charitable Organizations
The tax code offers benefits for philanthropic taxpayers. It does not, however, reward those who set up improper nonprofit groups or illegally donate to them.
A common charitable scam is one that makes it seem like money or an asset was donated. Under these arrangements, the donations are claimed as tax-deductible gifts, but the donor still has control over the assets or income from the donated property.
Quick quiz: When is a gift not a gift? When you still control it. And that means this donation arrangement doesn't pass IRS charitable organization muster.
The legal, but less common contribution choice of noncash assets also comes into play in charity-related scams. These donations are often highly overvalued, says the IRS, or the organization to which the assets are given promises the donor that he or she can repurchase the gift later at a price the donor sets.
Because of this type of scam and other concerns about noncash contributions, tougher laws are now on the books. The Pension Protection Act of 2006 increased penalties for inaccurate property value assessments and set new standards for qualified appraisals.
Falsely Claiming Zero Wages
The IRS gets copies of W-2 forms that businesses send to employees. In cases of contractors, employers issue 1099 forms, again to both the workers and the IRS.
When a business doesn't issue a W-2, a taxpayer can file using Form 4852, Substitute Form W-2. And mistakes on 1099s can be fixed by the issuer sending a corrected form.
But some con artists try to get taxpayers to use doctored income statements to reduce their wages to nothing. To validate such false income filings, the zero-income fraudsters include explanations on the fake forms that cite statutory language on the definition of wages or claim a company won't issue a corrected W-2 for fear of IRS retaliation.
These false claims might slow down IRS detection as it double-checks its copies of your real earnings statements, but it won't stop the tax agency from eventually finding the fraud and coming after you for payment of your proper tax bill. When that happens, in addition to owing your real tax amount you also could face a $5,000 penalty.
The IRS refers to various claims to avoid filing and paying taxes as "frivolous arguments." A better name is "jailbait."
A popular claim is that return filing is voluntary. It's not. In fact, the IRS has tougher penalties for not filing than it does for not paying taxes owed.
Then there's the argument that wages, tips and other compensation received for personal services are not income. Please check the dictionary along with the tax code. Money received via whatever method is income. And it is called an income tax.
Others contend that the United States consists only of the District of Columbia, federal territories and federal enclaves -- and only those U.S. citizens must file a return. The states and their residents that receive federal assistance disagree.
These are only a few of the frivolous tax arguments that anti-tax advocates use to encourage taxpayers to avoid filing and paying taxes. The IRS has a 64-page list of them that you should check before falling for these scams.
And if you are still tempted, just remember they didn't do Wesley Snipes, now serving tax evasion time in a federal prison, any good.
False Form 1099 Refund Claims
This perennial tax scam is perfect for conspiracy theorists.
Scammers pushing this refund ploy contend that the federal government maintains secret accounts for all U.S. citizens. The con artist offers to help his victims get access to the accounts by issuing a fake version of a real tax form, usually Form 1099 Original Issue Discount, to the IRS. The taxpayer then makes a refund claim on his or her tax return based on that false 1099 information.
Even the world's biggest believers in a grassy knoll shooter or "The X-Files" fans should be suspicious of anyone suggesting this fake tax filing strategy. Don't fall prey to people who encourage you to claim deductions or credits to which you are not entitled. Similarly, don't let anyone use your personal information to file false returns.
If you do participate in such a scheme, you could be liable for financial penalties or even face criminal prosecution.
Inflating Income and Expenses
Most tax cheats report less income than they make, so their tax liability will be less. But in some cases, a taxpayer needs more money to get a tax break's maximum benefit.
The IRS says it regularly sees fraudulent income inflating by individuals seeking a refundable tax credit, such as the earned income tax credit, for which they otherwise don't qualify.
Credits prompt such unscrupulous acts because they are better tax breaks than deductions. A deduction lowers taxable income, while a credit lowers the actual tax bill dollar-for-dollar. Refundable credits, as the name indicates, allows filers who don't owe tax to get a refund.
Some taxpayers also exaggerate expenses used to claim refundable credits. The American opportunity education credit, for example, pays for taxpayer higher education expenses. If a filer has enough schooling costs, he or she might be able to get more of the credit and even a possible refund.
These false claims, either of more income or larger expenses, could have serious repercussions. In addition to facing repayment of erroneous refunds, along with interest and penalties, a taxpayer caught making false claims could face criminal prosecution.
'Free Money,' Social Security Scams
The old saying "There's no such thing as a free lunch" has an equally true tax adage cousin: There's no such thing as free money.
But tax con artists who claim they can get filers free money from the IRS or Social Security rebates find enough gullible victims to make this the fifth most egregious tax scam of 2012.
The IRS says con artists specializing in these schemes tend to target low-income individuals and the elderly. The scam typically appears as fliers advertising free money from the IRS. They usually are posted in churches, and then the word spreads by unsuspecting and well-intentioned people who want to share the news with friends and family.
The scam perpetrator gets taxpayer hopes up, collects money to file the fake claims and then is long gone by the time victims learn their claims are rejected.
Hidden Offshore Income
Putting money into a foreign bank account is not illegal. Putting money into a foreign bank account for the sole purpose of hiding it from the IRS is illegal.
These so-called offshore accounts, as well as associated debit cards, credit cards and wire transfers, have cost the U.S. Treasury billions of dollars. So the IRS is continuing its crackdown on individuals it believes are evading U.S. taxes by hiding income outside the United States.
Most foreign account owners must report that money to the IRS. In fact, this year the tax agency instituted a new foreign account reporting document, Form 8938, that some taxpayers must file with their tax returns.
The IRS also has reopened its Offshore Voluntary Disclosure Program to encourage more taxpayers to report their non-U.S. accounts. Earlier national amnesties netted the U.S. Treasury $4.4 billion in previously hidden accounts.
For those who insist on keeping their foreign accounts secret, beware. The IRS and Department of Justice investigators are pursuing taxpayers with undeclared accounts, as well as the banks and bankers suspected of helping clients hide their assets overseas.
Return Preparer Fraud
The IRS expects around 60% of taxpayers to use tax professionals this year to prepare and file their tax returns. In most cases, those tax return preparers provide honest service to their clients.
But, as in any other business, there are unscrupulous tax pros.
Questionable return preparers have been known to skim off their clients' refunds, charge excessive fees for return preparation services and attract new clients by promising guaranteed or inflated refunds.
Choose your tax pro carefully. Be wary of one who does not have a tax ID number from the IRS. Other warning signs that your tax pro might not be working in your best interest include a requirement that you split the refund to pay his or her preparation fee, refusal to give you a copy of your return, addition of forms to your return that you had not seen before, and the preparer's reluctance to put his or her signature on the return.
Phishing scams are always near the top of tax scam lists, and 2012 is no different. These attempts to get hold of taxpayer personal information come in at second worst.
Phishing attempts typically arrive via unsolicited email or a fake website that looks remarkably like the real one. When the targeted victim answers the email or enters in valuable personal and financial information online, the criminal has enough to steal the person's identity and ruin his or her financial life.
Tax phishers usually pose as an IRS representative. Don't fall for it. The IRS doesn't send unsolicited email to taxpayers. Neither does it seek personal information via other electronic avenues, such as text messages and social media channels.
If you get suspicious communications purporting to be from the IRS, ignore them. Then let the tax agency know. It works with federal law enforcement to shut down the bogus websites and track down the criminals who created them.
Drum roll, please. The No. 1 worst tax scam this year is identity theft.
The IRS says more identity thieves are looking for ways to get their hands on taxpayers' personal information. Once they do, they typically file a tax return as the unsuspecting taxpayer and claim a fraudulent refund.
The victimized taxpayer often doesn't realize there's a problem until he files his return. That's when the legitimate filer gets an IRS notice informing him that more than one return was filed in his or her name and the refund has been sent to someone else.
To fight growing identity theft concerns, the IRS has implemented a variety of anti-fraud methods, including stepped-up internal reviews to spot false returns before tax refunds are issued. In 2011 alone, the IRS kept more than $1.4 billion worth of refunds from going to criminals who had tried to claim the money by filing false returns.
When a tax ID theft does occur, a dedicated IRS division works with victims to get them their proper refunds as quickly as possible.
If you believe your personal information has been stolen and used for tax purposes, contact the IRS Identity Protection Specialized Unit.