IRS DIRTY DOZEN VOID FOR VAGUENESS

 

The IRS is frustrated with US taxpayers. So we report today what’s on the IRS’s mind. Every year the IRS releases the 12 most egregious tax schemes it’s targeting, known as the IRS “Dirty Dozen.” Not surprising, hiding income in offshore accounts, identity theft, return preparer fraud, abusive and offshore trusts are a few of the items on the list below we report that irritates the IRS most.  

 

But if the IRS is frustrated, it should consider what taxpayers are going through. Some individuals are so fed up with the inconceivable tax rules and regulations that they go to the extreme measure of giving up US citizenship.

 

Consider the following before you pull all the hair from your head while preparing your tax return.

 

 

Rather than deal with the complexities of US tax law, more and more Americans are giving up their citizenship. The highest numbers are coming from US citizens living overseas. Their objective is increasingly to renounce their citizenship in order to avoid US tax and compliance headaches. If you think it's bad for Americans at home, it's a real nightmare for fellow patriots living aboard. Some of the smart ones legally avoid paying taxes anywhere in the world. Maybe they’re on to something. It takes some active travel and tax planning, but we’ve heard how it can be done.

 

If you're interested in the details of President's Obama's 2012 Fiscal Year Budget and the tables, here are all 360 pages. Probably not, and if you prefer a nice easy chart to see the future of what America looks like, then see this chart instead. The 'outlays' are in the red circle, and 'receipts' are in the blue. Why is the red circle so much larger than the blue? Some 65% of the $3.55 trillion budget is already fixed as mandatory spending: Medicare ($1.47 trillion) and Social Security ($820 billion). Defense ($693 billion) is almost as high as Social Security, but the total deficit ($901 billion) is much larger than either of the two. A shortfall of $75 billion per month, or $1.5 billion every single day. This is no way to run a business, a household, or a government. According to this amazing real time US Debt Clock, America is already over $15,000,000,000,000 in hock. And who do you think is going to pay for it?

 

In 1940 there were roughly 500 pages to the US tax code. Today, the US tax code weighs in at somewhere around 71,684 pages, or 5.6 million words, and 7 times longer than the Bible. I have no idea if those numbers are exact, but they seem sufficiently absurd to be the truth. If it takes the equivalent of 55 War and Peaces to explain how to do your taxes, it begs the question whether the tax code qualifies for 'void for vagueness'.

 

Void for vagueness is a legal concept in American constitutional law that states that a given statute is void and unenforceable if it is too vague for the average citizen to understand. Legally, there are several ways a statute might be considered vague. In general, a statute might be void for vagueness when an average citizen cannot generally determine what persons are regulated, what conduct is prohibited, what punishment may be imposed, or what is legally required.  

 

No matter, the audit rate for individuals in all income brackets remained constant at 1.11 percent in 2011, while the rate for small corporations - those with assets less than $10 million - rose to 1.02 percent from 0.94 percent in 2010. The IRS said it audited 12.48 percent of individual tax returns (USCBTAXR) with income exceeding $1 million during fiscal 2011, a high reached at a time of debate over the taxation of top earners.

 

Steven Miller, deputy IRS commissioner for services and enforcement, said in a recent interview that the higher rate of audits on top earners is attributed to a greater focus on income held outside the U.S. “We have done a lot of work in the offshore area,” Miller said.

 

He also indicated that the IRS will conduct audits this year with about 3,000 fewer enforcement personnel, but claims that the reduced workforce wouldn’t diminish the agency’s tax collection efforts. Does that mean we will suddenly see improved efficiency at the IRS?

 

Meanwhile, according to National Taxpayer Advocate, Nina E. Olson, approximately 4,000 people gave up their US citizenship during the past five years. Admittedly not large numbers. But importantly, numbers were up sharply since the global financial crisis began. In 2008 there were only 128 individuals that renounced citizenship, while in 2010 the numbers jumped twelve-fold to 1,534. Then, in just the first six months alone of 2011 the rate quickened further sixteen-fold with 1,024 Americans ditching their citizenship. The trend is obvious.

 

The advocate’s 2012 report cites two reasons for the renunciations. First, many taxpayers abroad say they are confused “by the complex legal and reporting requirements they face and are overwhelmed by the prospect of having to comply with them.” Second, others have accused the IRS of “bait and switch” tactics, telling Americans they can resolve their unpaid taxes under an “older voluntary disclosure program with the promise of reduced penalties, only to find themselves subjected to steeper penalties.”

 

But another factor may be a result of a change of law in 2008 that allows former US citizens/nonresidents to annually visit the US for 120 or more days without becoming taxed as US residents. Under the pre-2008 rules, visits to the US for more than 30 days during any of the 10 years following expatriation caused the individual to be treated as a US tax resident for that year. This was a significant change for those wishing to return to visit family and friends in the US.

 

To be sure, the number of Americans in the past going the final distance was small. But the trend is what’s important. And while the trend is still young, it is likely to continue to gather pace as America’s day of reckoning gets closer. Not that I have anything personal against anyone in particular in government, but they are all a bunch of dishonest phonies constantly trying to pick our pockets. Many Americans have already found themselves treated much better as guests in another country than tax slaves at home.

 

So what’s on the mind of the IRS?  

 

 

What follows helps you to stay informed. And what follows is the infamous IRS “Dirty Dozen” line up of what the IRS is targeting. You can even watch ‘Patty’ linked directly from the IRS to discuss the Dirty Dozen in this short YouTube video in English, in Spanish,  or even from ‘Patrick’ in sign language with dramatic facial expressions. There are also numerous other purported tax tips that follow the English version, but none of which we can authenticate.

 

And keep in mind the IRS works with the Justice Department to pursue and shut down perpetrators of these and other illegal scams. Promoters frequently end up facing heavy fines and imprisonment. Meanwhile, individuals who wittingly - or unwittingly - get involved with these schemes are still responsible to repay all taxes due, plus interest and penalties.

 

 

The IRS continues to aggressively pursue taxpayers involved in abusive offshore transactions as well as the promoters, professionals and others who facilitate or enable these schemes. Some individuals have tried to avoid or evade US income tax by hiding income in offshore banks, brokerage accounts or through the use of nominee entities. Others also have been caught evading taxes by using offshore debit cards, credit cards, wire transfers, foreign trusts, employee-leasing schemes, private annuities or insurance plans.

 

And de’ja’ vu, the IRS announced yet another - the third round - of a special voluntary disclosure initiative designed to bring offshore money back into the US tax system. Of course, they're from the IRS and here to help you with undisclosed income from hidden offshore accounts get current with their taxes. The folks at the IRS are so helpful you can obtain information in English, Spanish, Chinese, Korean, Russian, Vietnamese, Farsi, German, Hindi, and Russian. But sacre bleu! No French? 

 

 

Identity theft is the world’s fastest growing crime. Even the IRS has lost its identity, if it ever had one. Identity theft occurs when someone uses an unsuspecting company or individual’s name, Social Security number, credit card number or other personal information without permission to commit fraud or other crimes. For example, a criminal can use someone else's information to run up bills on that person's credit card, empty that person’s bank account or take out a loan in that person’s name. And when it comes to taxes, a criminal with someone else’s personal information can file a fraudulent tax return and collect a refund. In all seriousness, this is the fastest growing crime reported to the FBI. Some 27 million Americans alone have been victims within the past five years. 27 million! 

 

Phishing is one tactic used by scam artists to trick unsuspecting victims into revealing personal or financial information online. Phishing involves the use of phony e-mail or websites - even social media. A scammer may pose as an institution such as the IRS, and IRS impersonation schemes flourish during tax season. Spyware, which can be loaded onto an unsuspecting taxpayer’s computer by opening an e-mail attachment or clicking on a link, is another tool identity thieves use to steal personal information.

 

Identity theft is a major problem that affects many individuals each year. It's important that you protect all personal information from all potential attacks. Anyone who believes his or her personal information has been stolen and used for tax purposes can contact the IRS Identity Protection Specialized Unit at 1-800-908-4490. A suspicious e-mail or an “IRS” web address that does not begin with www.irs.gov can be forwarded to the IRS at phishing@irs.gov.

 

 

While most tax return preparers are professionals who provide honest and excellent service to their clients, some make basic errors, while others engage in fraud and other illegal activities.

 

Dishonest tax return preparers can cause big troubles for taxpayers who fall victim to their ploys. The fraudsters derive benefit by skimming a portion of their clients’ refunds, charging inflated fees for return preparation services and attracting new clients by making false promises. Choose carefully to avoid tax preparer fraud when hiring a tax preparer. Federal courts have issued hundreds of injunctions ordering individuals to cease preparing returns, and the Department of Justice has pending complaints against dozens of others.

 

To increase confidence in the tax system and improve compliance with the tax law, the IRS indicates that it is implementing a number of new requirements for paid tax preparers, including registration with the IRS and a preparer tax identification number (PTIN), as well as competency tests and ongoing continuing professional education. The new regulations require paid tax preparers (including attorneys, CPAs, and enrolled agents) to apply and keep current their Preparer Tax Identification Number (PTIN) before preparing any federal tax returns for the current year.

 

The IRS indicates it is attempting to obtain higher standards for the tax preparer community, which will hopefully result in greater compliance with tax laws, increase confidence in the tax system and ultimately lead to a better experience for taxpayers. A better experience for taxpayers? Imagine that.

 

 

The IRS further notes it is seeing various instances in which individuals file false or misleading returns to claim refunds to which they are not entitled. In one variation of this scheme, a taxpayer seeks a refund by fabricating an information return and falsely claiming the corresponding amount as withholding. Phony information returns, such as a Form 1099 Original Issue Discount (OID), which claims false withholding credits, are usually used to legitimize erroneous refund claims. Another version of the scheme is based on the bogus theory that the US government maintains secret accounts for taxpayers and that you can supposedly gain access to funds in those accounts by issuing 1099-OID forms to their creditors, including the IRS.

 

The IRS continues to see instances in which people file false or fraudulent tax returns to try to obtain improper tax refunds. The IRS takes refund fraud seriously, has programs to aggressively combat it and stops the vast majority of incorrect refunds. Because scammers often use information from family or friends in filing false or fraudulent returns, beware of requests from anyone for such data. Don’t fall prey to people who encourage you to claim deductions or credits you are not entitled to or willingly allow others to use your information to file false returns. If you are a party to such schemes, you could be liable for financial penalties or even face criminal prosecution.

 

 

Promoters of frivolous tax schemes encourage people to make unreasonable and outlandish claims to avoid paying the taxes they owe. The IRS has a list of frivolous legal positions that taxpayers should avoid, and issued an 87 page white paper discussing a long laundry list of tax truths. The frivolous tax arguments are generally considered false by the IRS, and have generally been thrown out of court. While you have the right to contest your tax liabilities in court, avoid outright disobedience to the law or IRS guidance.

 

 

The IRS has identified returns where taxpayers report nontaxable Social Security Benefits with excessive withholding. This tactic results in no income reported to the IRS on the tax return. Often both the withholding amount and the reported income are incorrect. Avoid making these mistakes, as filings of this type may result in a $5,000 penalty.

 

 

Also on the IRS list is the misuse of tax-exempt organizations. Abuse includes arrangements to improperly 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. Often these donations are highly overvalued or the organization receiving the donation promises that the donor can repurchase the items later at a price set by the donor. The Pension Protection Act of 2006 imposed increased penalties for inaccurate appraisals and set new definitions of qualified appraisals and qualified appraisers for taxpayers claiming charitable contributions.

 

 

The IRS continues to hunt down 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. Be wary of advisers who encourage you to shift appreciated assets at less than fair market value into IRAs or companies owned by their IRAs to circumvent annual contribution limits. Other variations have included the use of limited liability companies to engage in activity that is considered prohibited.

 

 

The IRS is now also looking at corporations and other entities formed and operated in certain states for the purpose of disguising the ownership of the business or financial activity, particularly when set up under someone else’s tax ID number. The concern is that such entities 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. The IRS is working with state authorities to identify these entities and to bring the owners of these entities into compliance with the law.

 

 

Filing a phony wage-or-income-related informational return to replace a legitimate information return has been used as an illegal method to lower the amount of taxes owed. Typically, a Form 4852 (Substitute Form W-2) or a “corrected” Form 1099 is used as a way to improperly reduce taxable income to zero. The taxpayer may also submit a statement rebutting wages and taxes reported by a payer to the IRS. 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. 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.

 

 

For years, unscrupulous promoters have urged some individuals to transfer assets into trusts to evade taxes. There are many legitimate, valid uses of trusts in tax and estate planning, but abusive transactions arise following improper promises of a reduction of income subject to tax, deductions for personal expenses and improperly reduced estate or gift taxes. Questionable and abusive trusts rarely deliver the tax benefits promised and are used primarily as a means to avoid income tax liability and hide assets from legitimate creditors, including the IRS.

 

IRS indicates that they have recently seen an increase in the improper use of private annuity trusts and foreign trusts to shift income and deduct personal expenses. As with other tax planning, seek the advice of a trusted professional before entering into a trust arrangement.

 

 

The IRS sometimes receives claims for the fuel tax credit that are excessive. Some individuals, such as farmers who use fuel for off-highway business purposes, may be eligible for the fuel tax credit. But other individuals are claiming the tax credit for nontaxable uses of fuel when their occupations or income levels make the claim unreasonable. Fraud involving the fuel tax credit is considered a frivolous tax claim and can result in a penalty of $5,000.

 

 

The IRS encourages that suspected individual tax fraud be reported to the IRS, either directly by telephone or mail. During the reported process the identity of the person filing the report can be kept confidential. Company whistleblowers are also encouraged to report allegations of fraud to the IRS and may be eligible for a reward. Caveat emptor.

 

 

Hopefully the above provides you with some fresh thoughts at tax time. Getting it right is also important when it comes to setting up International Trusts. While our clients have many different reasons for creating an International Trust, they share one common factor: they desire to protect and maintain control over assets acquired during their lifetime.

In previous newsletters we covered a wide range of topics on domestic and international asset protection, and offshore living and investing. Many of these Past Articles can be found at our site. 

 

If you are interested in learning more about international planning, start with the tips at this link. If you what to learn more, then How to Legally Protect Your Assets and Offshore Living & Investing are two great books to help you get started.

 

And if you would like to get serious about how you can protect your hard-earned assets, then contact me to discuss how you can proceed with a confidential initial review.

 

Until next time….

 

David