Introduction to Tax Fraud with Examples, A Tax Fraud Primer

A Guide to Tax Fraud and Fraud Penalties with Examples

A Primer on Tax Fraud Violations

Most IRS tax violations are civil and not criminal. And, while a civil tax violation may result in additional taxes, fines, penalties, and interest — it does not result in incarceration (although violating civil orders can result in jail or prison as was the result in the FBAR case of Kelly). Civil tax fraud is one of the more serious types of tax violations. That is because a civil tax fraud violation may result in a large penalty, along with having a negative stigma attached to it. In addition, when the IRS believes a Taxpayer may have committed tax fraud, it can lead to an expanded investigation of the Taxpayer’s non-compliance. With tax fraud, the U.S. government is held to a higher standard (clear and convincing evidence) to show the violation occurred than it is for most other civil tax violations. It is also important to note that while tax fraud and tax evasion are often used interchangeably, tax evasion is a crime, whereas tax fraud may be a civil and/or criminal violation. Let’s look at the basics of civil tax fraud and then work through a few international/offshore tax fraud examples.

The Office of Fraud Enforcement Advisor Program

In efforts to close the tax gap, the IRS has made fraud a key enforcement priority — with an emphasis on wealthy taxpayers, international taxpayers, and cryptocurrency. The Internal Revenue Service has allocated a significant amount of time and resources to pursuing tax fraud investigations – and the Fraud Enforcement Advisor Program was developed to help facilitate the research and investigation of tax fraud cases for enforcement and prosecution.

As provided by the IRM:

• • • “The Office of Fraud Enforcement Advisor Program is a servicewide program. The groups are comprised of revenue agents and revenue officers who are located strategically throughout the country to assist with the development of fraud.”

As provided by the IRS:

• • • “Mission: OFE’s mission is to promote compliance through strengthening the IRS’s response to fraud and mitigating emerging threats. This includes:

      • Cultivating internal and external partnerships to identify new treatment streams to enhance enforcement,

      • Strengthening fraud detection and development to address areas of high-fraud and high-risk noncompliance and

      • Pursuing civil fraud penalties and referring cases that may lead to prosecutions where appropriate.”

What is Clear and Convincing Evidence?

To meet the clear and convincing evidence standard, the Government must show there is a high probability that the violation occurred. It is higher than the preponderance of the evidence standard but not as high as the beyond a reasonable doubt standard.

As provided by the IRM:

• • • “Evidence showing that the assertion made is highly probable or reasonably certain. This is a greater burden of proof than preponderance of the evidence but less than beyond a reasonable doubt.”

In most situations, the government is merely required to show the tax violation occurred by a preponderance of the evidence. While there is no specific numerical value assigned to each different evidentiary standard, the preponderance of the evidence standard is generally considered to be more than 50%, whereas the clear and convincing evidence standard is estimated to be closer to 75%.

As provided by the IRM:

• • • “Civil fraud penalties will be asserted when there is clear and convincing evidence to prove that some part of the underpayment of tax was due to fraud. Such evidence must show the taxpayer’s intent to evade the assessment of tax, which the taxpayer believed to be owing.

    • Intent is distinguished from inadvertence, reliance on incorrect technical advice, sincerely-held difference of opinion, negligence or carelessness. In the case of a joint return, intent must be established separately for each spouse as required by IRC 6663(c).

    • The fraud of one spouse cannot be used to impute fraud by the other spouse. Thus, the civil fraud penalty may be asserted only on one spouse, unless there is sufficient evidence that both spouses participated in the fraudulent act(s) resulting in the underpayment reported in their joint return.

      • Note: When considering the civil fraud penalty under IRC 6663 the fact that a taxpayer has tax due is not sufficient to assert the civil fraud penalty. An affirmative act of fraud, as stated in IRM 25.1.1.4(2), Affirmative Acts (Firm Indications) of Fraud, must also be present.”

Fraud Penalties (26 U.S.C. 6663)

The penalties for tax fraud can be significant, especially when coupled with other penalties such as FBAR and FATCA.

As provided by 26 U.S.C. 6663:

• • • “(a) Imposition of penalty: If any part of any underpayment of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 75 percent of the portion of the underpayment which is attributable to fraud.”

Examples of Potential Tax Fraud

Since Golding & Golding specializes exclusively in international tax and offshore compliance, our tax fraud examples will focus on foreign income and offshore asset non-compliance.

Falsifying Information to a Foreign Financial Institution

• • • Mary is a lawful permanent resident. She has decided to expand her business to a new foreign country and when she goes to the foreign bank to open an account, she is asked whether she is a U.S. person. Mary understands that the customer service representative is asking her whether she is a U.S. person for tax purposes. Even though Mary knows she is a U.S. person and understands the question, she denies that she is a U.S. person for tax purposes and provides a foreign identification card. On the application, she also indicates that she is not a U.S. person.

Intentionally Failing to Include Foreign Income on a Tax Return

• • • Scott is a U.S. citizen who has some overseas investments. The investments are managed by his parents and he believes that the foreign financial institution does not have his U.S. Social Security or other identifying information because when the account was opened he was not yet a U.S. Citizen. Since Scott does not believe the foreign institution will report the information to the U.S. government, he knowingly fails to include the foreign income on his U.S. tax return. Scott knows the income is reportable, but decides to exclude the information because he does not believe he will get caught.

Failing to Report Foreign Accounts

• • • In addition to failing to report his foreign income, Scott is also aware that he has to report his foreign accounts, assets, and investments on various international information reporting forms such as the FBAR and Form 8938. Since Scott does not believe these foreign financial institutions have his U.S. information, he also does not believe that they will report his account information to the U.S. government in accordance with FATCA. Therefore, even though Scott knows he is supposed to report this information to the U.S. Government, he excludes it from his tax return.

Fraudulent Conveyance of Foreign Assets

• • • Dana is a lawful permanent resident who has family members overseas. She is the part owner of a foreign grantor trust that generates a good amount of income and she also realizes that once she became a U.S. person she is required to include this income on her U.S. tax return. Dana does not want to include the information on her U.S. tax return so she transfers the ownership in a trust to a family member, who collects the income on Dana’s behalf and transers the money to Dana. Dana knows that this is really her income and that she did not really ever give up her equitable ownership in the trust. The IRS would claim the income from the false conveyance is a form of tax fraud.

* These examples are for illustrative purposes only. Each person’s facts and circumstances are unique and even small changes in the fact pattern can significantly impact the outcome of a tax fraud investigation.

Late Filing Penalties May Be Reduced or Avoided

For Taxpayers who did not timely file their FBAR and other international information-related reporting forms, the IRS has developed many different offshore amnesty programs to assist Taxpayers with safely getting into compliance. These programs may reduce or even eliminate international reporting penalties.

Current Year vs. Prior Year Non-Compliance

Once a Taxpayer missed the tax and reporting (such as FBAR and FATCA) requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, Taxpayers should consider speaking with a Board-Certified Tax Law Specialist who specializes exclusively in these types of offshore disclosure matters.

Avoid False Offshore Disclosure Submissions (Willful vs Non-Willful)

In recent years, the IRS has increased the level of scrutiny for certain streamlined procedure submissions. When a person is non-willful, they have an excellent chance of making a successful submission to Streamlined Procedures. If they are willful, they would submit to the IRS Voluntary Disclosure Program instead. But, if a willful Taxpayer submits an intentionally false narrative under the Streamlined Procedures (and gets caught), they may become subject to significant fines and penalties. 

Need Help Finding an Experienced Offshore Tax Attorney?

When it comes to hiring an experienced international tax attorney to represent you for unreported foreign and offshore account reporting, it can become overwhelming for Taxpayers trying to trek through all the false information and nonsense they will find in their online research. There are only a handful of attorneys worldwide who are Board-Certified Tax Specialists and who specialize exclusively in offshore disclosure and international tax amnesty reporting. 

*This resource may help Taxpayers seeking to hire offshore tax counsel: How to Hire an Offshore Disclosure Lawyer.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.