The Dirty Dozen
Tax Scams to Avoid
While not as entertaining as the 1967 WWII film starring Lee Marvin, the annual release of the IRS Dirty Dozen tax scams has been issued and is worth a quick review.
Tax Scammers
The first four items on the Dirty Dozen deal with scammers who are using the pandemic to scare and confuse potential victims into handing over personal information and money. These scams are targeted at all taxpayers but especially the elderly. Please ensure that the older people in your life are aware of these scams.
1) Economic Impact Payment and tax refund scams: Identity thieves are using the promise of additional stimulus payments or tax refunds to steal personal information. Remember to watch out for these tell-tale signs of a scam:
Any text messages, random incoming phone calls or emails inquiring about bank account information.
Requests to click a link or verify data should be considered suspicious and deleted without opening.
The IRS won't initiate contact by phone, email, text or social media asking for Social Security numbers or other personal or financial information.
2) Unemployment fraud leading to inaccurate taxpayer 1099-Gs: Scammers took advantage of the pandemic by filing fraudulent claims for unemployment compensation using stolen personal information of individuals who had not filed claims. If you received a Form 1099-G reporting unemployment compensation they didn't receive, you need to report the fraud to your local state agency (DOL.gov/fraud).
3) Fake employment offers posted on social media: There have been many reports of fake job postings on social media. Similar to the promise of additional stimulus money, these fake posts entice their victims to provide their personal financial information. The personal information can then be used to create a fraudulent tax return for a fraudulent refund or used in some other criminal endeavor.
4) Fake charities that steal your money: Bogus charities are always a problem and they tend to be a bigger threat when there is a national crisis like the pandemic or foreign war. To ensure deductibility (and avoid scammers), you should only donate to a charity you are familiar with and that is a qualified charity. To check the status of a charity, use the IRS Tax Exempt Organization Search tool.
Abusive Scams
The next four items on the list cover heavily advertised tax avoidance schemes, many of which are now promoted online, that promise tax savings that are too good to be true and will likely cause taxpayers to legally compromise themselves. These are complex tax avoidance schemes created for the ultra-wealthy so feel free to skip if you are worth less than $10 million.
5) Use of Charitable Remainder Annuity Trust (CRAT) to Eliminate Taxable Gain. In this estate planning transaction, appreciated property is transferred to a CRAT. Taxpayers improperly claim the transfer of the appreciated assets to the CRAT. Any legitimate trust attorney will not recommend this improper use of a CRAT.
6) Maltese (or Other Foreign) Pension Arrangements Misusing Treaty. In these transactions, U.S. citizens attempt to avoid U.S. tax by making contributions to certain foreign individual retirement arrangements in Malta (or possibly other foreign countries). By improperly asserting the foreign arrangement is a "pension fund" for U.S. tax treaty purposes, the U.S. taxpayer misconstrues the relevant treaty to improperly claim an exemption from U.S. income tax. OJ Simpson used a Maltese trust to hide assets from the Brown Family after his conviction is civil court but even he paid taxes on his distributions.
7) Puerto Rican and Other Foreign Captive Insurance. U.S owners of closely held entities participate in a purported insurance arrangement with a Puerto Rican or other foreign corporation with cell arrangements or segregated asset plans in which the U.S. owner has a financial interest. The U.S. based individual or entity claims deductions for the cost of "insurance coverage" provided by a fronting carrier, which reinsures the "coverage" with the foreign corporation. The characteristics of the purported insurance arrangements typically will include one or more of the following: implausible risks covered, non-arm's-length pricing, and lack of business purpose for entering into the arrangement. Any time you invest into something just to save taxes and without a business purpose, you are committing tax fraud.
8) Monetized Installment Sales. These transactions involve the inappropriate use of the installment sale rules under section 453 by a seller who, in the year of a sale of property, effectively receives the sales proceeds through purported loans. In a typical transaction, the seller engages an intermediary third party to disguise a cash sale as an installment sale. The installment sale rules can be a great way to reduce capital gains but remember that the loan must be directly held by the seller.
Hiding Assets and Income
Finally, the last four items deal with the increased IRS scrutiny on high wealth taxpayers attempting to hide assets or conceal income in an effort to avoid taxation. While overall audits at the IRS are down, increased data analytics are focused on tracking down these types of scams.
9) Concealing Assets in Offshore Accounts and Improper Reporting of Digital Assets: The IRS remains focused on stopping tax avoidance by those who hide assets in offshore accounts and in accounts holding cryptocurrency or other digital assets.
Over the years, numerous individuals have been identified as evading U.S. taxes by attempting to hide income in offshore banks, brokerage accounts or nominee entities. U.S. citizens are taxed on worldwide income. The mere fact that money is placed in an offshore account does not put it out of reach of the U.S. tax system. U.S. persons are required, under penalty of perjury, to report income from offshore funds and other foreign holdings. New foreign transaction laws and reporting requirements make it much easier for the IRS to track down foreign accounts.
Digital assets (NFTs, crypto) are being adopted by mainstream financial organizations along with many other parts of the economy. The proliferation of digital assets across the world in the last decade or so has created tax administration challenges regarding digital assets, in part because there is an incorrect perception that digital asset accounts are undetectable by tax authorities. Unscrupulous promoters continue to perpetuate this myth and make assertions that taxpayers can easily conceal their digital asset holdings. The IRS urges taxpayers to not be misled into believing this storyline about digital assets and possibly exposing themselves to civil fraud penalties and criminal charges that could result from failure to report transactions involving digital assets.
10) High-income individuals who don't file tax returns: The IRS continues to focus on people who choose to ignore the law and not file a tax return, especially those individuals earning more than $100,000 a year. Taxpayers who exercise their best efforts to file their tax returns and pay their taxes deserve to know that the IRS is pursuing others who have failed to satisfy their filing and payment obligations. If a person's failure to file is deemed fraudulent, the penalty generally increases from 5 percent per month to 15 percent for each month or part of a month the return is late, with the maximum penalty generally increasing from 25 percent to 75 percent. This is the ultimate game of audit roulette, where the cost of losing could cost you lots of money and maybe a few years of your freedom.
11) Abusive Syndicated Conservation Easements: In syndicated conservation easements, promoters take a provision of the tax law allowing for conservation easements and twist it by using inflated appraisals of undeveloped land (or, for a few specialized ones, the facades of historic buildings), and by using partnership arrangements devoid of a legitimate business purpose. These abusive arrangements do nothing more than game the tax system with grossly inflated tax deductions and generate high fees for promoters.
In the last five years, the IRS has examined many hundreds of syndicated conservation easement deals where tens of billions of dollars of deductions were improperly claimed. The IRS examines 100 percent of these deals and plans to continue doing so for the foreseeable future. Hundreds of these deals have gone to court and hundreds more will likely end up in court in the future.
If presented with this “investment opportunity”, please remember that if something sounds too good to be true, then it probably is. You risk severe monetary penalties for engaging in questionable deals such as abusive syndicated conservation easements and you will never be able to recover your initial investment.
12) Abusive Micro-Captive Insurance Arrangements: In abusive "micro-captive" structures, promoters persuade owners of closely held entities to participate in schemes that lack many of the attributes of insurance.
For example, coverages may "insure" implausible risks, fail to match genuine business needs (like hurricane coverage in Portland, Oregon) or duplicate the taxpayer's commercial coverages. The "premiums" paid under these arrangements are often excessive and are used to skirt the tax law.
Like the Syndicated Conservation Easements, the IRS has conducted thousands of participant examination and promoter investigations into Micro-Captive Insurance arrangements, assessed hundreds of millions of dollars in additional taxes and penalties owed, and launched a successful settlement initiative.