Description of Tax Fraud

Methods of IRS Income Tax Fraud

In the United States, individuals are responsible for determining and paying their own federal taxes. While most Americans make an honest attempt to do so, some individuals and corporations use a variety of methods to avoid paying their fair share. Many employ the use of abusive tax shelter to evade their taxes. This type of activity is difficult for outside IRS tax investigators to uncover. But often, individuals, such as a business’ employees, will have first hand knowledge of these schemes. The Tax Relief and Health Care Act of 2006 was passed in December 2006 to encourage individuals with knowledge of tax code violations to come forward.

Some of the most common tax fraud schemes include:

1. Deliberately omitting income:

  • From foreign stock sales
  • Earned overseas

2. Hiding or transferring assets or income:

  • In foreign country
  • Through transfer to another party
  • Using any other method

3. Deliberately underreporting or omitting income

4. Overstating deductions

5. Keeping two sets of books

6. Making false entries to books and records

7. Claiming personal expenses as business expenses

Other more exotic ways of evading taxes include:

1. False or overstated invoicing, also known as transfer pricing. – This is a scheme in which the tax evader’s US business is billed by a supposedly unrelated overseas business for goods or services (consulting services is a popular disguise) that are either nonexistent overvalued.

2. Offshore Deferred Compensation Agreements – This scheme usually involves highly compensated professionals and business owners in the US. The US taxpayer appears to end their employment with the US business and substitutes an arrangement in which the nominal employer is a foreign “employee leasing” company. As a result, tax on a large portion of the individual’s salary is deferred, and the person gains access to the funds through loans or offshore-based credit cards. The US corporation also takes an improper deduction for employee leasing expenses.

3. Factoring of Accounts Receivable – A US taxpayer’s business may discount or “factor” its receivables to a supposedly unrelated foreign business. This scheme significantly reduces US tax liability, and the discount or factoring fee is moved overseas where it can be used or invested free of US tax.

4. Abusive Insurance Arrangements – These schemes generally involve self-insurance disguised in a way that makes it appear that insurance premiums are being paid to an unrelated offshore entity. The taxpayer then takes a fraudulent deduction for the insurance premiums.

5. Shifting of Income Via Offshore Private Annuities – Transferring property or income streams to either an offshore private annuity, or using such an annuity along with an offshore variable life insurance policy to decontrol a foreign corporation or entity used in a series of abusive transactions. The taxpayer then claims that the property, foreign corporation or entity is owned by the insurance policy and not subject to US tax.

In addition to these schemes, taxes can be avoided through a variety of abusive trust schemes, such as business trusts, equipment and service trusts and family residence trusts to name a few. Offshore schemes, such as false billing to a supposedly unrelated foreign entity, offshore internet businesses or hiding income in offshore banks or brokerages are also common ways of evading taxes.

All of these schemes are complicated, and if you suspect that such tax fraud is being perpetrated, it is in your best interest to consult a qualified attorney before going to the IRS with your allegations. If you have knowledge of tax fraud that exceeds $2 million and would like assistance in bringing your allegations to the IRS, please contact Parker Waichman LLP at 1-800-529-4636, or fill out the form to the right and you will be contacted by a qualified attorney.