The Internal Revenue Service has issued a nationwide alert to taxpayers - and practitioners - warning them not to fall victim to tax scams.
The schemes take several shapes, ranging from promises of special refunds to illegal ways taxpayers can "untax" themselves. Following are common schemes of which to be aware.
* Tax avoidance: Con artists advertise that they have found a way to avoid taxes and charge people a fee to share their "secret." According to the IRS, however, many of those con artists actually do file and pay taxes, but just don't publicly admit it.
* Avoiding employment tax: In these schemes, employers are instructed not to withhold federal income tax or employment taxes from employees' wages. The IRS says the schemes are based on incorrect interpretation of tax law and have been refuted in court. For more information on employment taxes, call the IRS at (800) 829-1040.
* Special tax refunds for African-Americans: Thousands of African-Americans have been misled by people offering to file for tax credits or refunds related to reparations for slavery. There is no such provision in tax law. Some unscrupulous promoters convince taxpayers to pay them to prepare a claim for the refund. Plus, those who file subsequent claims can incur a $500 frivolous-return penalty.
* Pay tax and win a prize: A con artist calls a taxpayer declaring that they will win a cash prize if they pay upfront the tax that is due as a result of the prize. While prizewinners may need to pay a portion of the estimated tax that will be due, payment is made to the IRS. Whether taxpayers win cash, a car or a trip, the prize giver generally sends the winner and the IRS a statement (Form 1099) showing the total prize value to be included on the tax return.
* Untax yourself: This one's as old as snake oil, but people continue to be taken in. And now it's on the Internet. Taxpayers are offered, for $49.95, a kit claiming that paying taxes is voluntary and can be avoided. The U.S. courts have continuously rejected that and similar arguments. Unfortunately, hundreds of people nationwide have bought the kits before discovering that the advice they contain can result in civil and/or criminal tax penalties. Numerous sellers of the bogus packages have been convicted on criminal tax charges.
* Social Security tax scheme: This scam offers taxpayers refunds of the Social Security taxes they have paid during their lifetime. Taxpayers pay a $100 "paperwork" fee, plus a percentage of any refund received, to file a refund claim with the IRS. The hoax fleeces taxpayers for the upfront fee. Under the law, Social Security taxes are not repaid to taxpayers. The IRS claims that its processing centers are alert to the hoax and have been stopping the false claims.
* Big tax refund guarantee - for a fee: Scheme operators approach taxpayers to borrow their Social Security number to file a false return with a phony W-2. The return is filed in the hope that the IRS will issue a quick refund without immediate checks. The scheme's promoters may also promise to split the refund with the taxpayer. Taxpayers, however, who make false claims must repay the refund plus penalties and interest. Taxpayers - and their tax preparers - should be wary of anyone who promises a large refund without knowing the taxpayer's situation. Taxpayers are also warned to review tax returns before signing them to ensure they are correct.
* IRS house call: The scam involves con artists, posing as IRS agents, who knock on taxpayers' doors to collect taxes. To report IRS impostors, call the Treasury inspector general's hotline at (800) 366-4484.
Cite: IR-2001-19
Online self-filings
increase 31%
* The IRS has announced that more than 1.6 million taxpayers have already filed tax returns from their personal computers - a 31% increase over the same period last year.
According to the IRS, taxpayers can lodge a paperless return by using a five-digit personal identification number.
Using the self-select PIN system, taxpayers can choose their own PIN without mailing any signature document to the IRS. That is, provided taxpayers supply tax details from last year's return to verify identification - the adjusted gross income and total tax.
Two-thirds of taxpayers who have filed their returns online have used the self-select PIN system.
Unfortunately, only 15% of the taxpayers who e-filed through a paid preparer selected heir own PIN.
That may be because taxpayers did not provide the preparer with details from last year's return - a prerequisite for using the online PIN system.
Taxpayers win
on time limits
* The IRS can generally go back three years from a tax return's filing date for audit purposes. In the case of Ridge L. Harlan and Marjory C. Harlan (116 TC - - -, No. 4), the IRS missed the three-year deadline.
However, the IRS asserted that it was entitled to go back six years because the taxpayers omitted more than 25% of the gross income on their return.
The taxpayers argued otherwise. The issue became more involved, because the income arose from a partnership that was involved in a second-tier partnership.
The court held that the IRS had to review the second-tier partnership's information returns. Because the 25% threshold had not been reached even after that extended examination, the court rejected the IRS' arguments and found for the taxpayers. The IRS had to close the books on the situation.
On the carpet
over carpet cost
* The U.S. Tax Court has sustained penalties and agreed with the IRS' disallowance of a sole practitioner's various tax deductions and expenses, including claims that he contended were related to his law practice.
Richard Haeder and his wife included various Schedule C deductions on their income tax returns over five years.
As a result of an audit, the IRS disallowed Mr. Haeder's deductions for wages paid to his wife and the annual IRA deductions that he transferred into her personal account.
The IRS also disallowed deductions for medical plan expenses, legal and professional fees, travel, meals and entertainment expenses, a bad debt and repairs to an Oriental rug.
The IRS determined that the couple failed to report prize income and additional business income for one year and that they overstated their dividend income.
Tax Court Judge L. Paige Marvel sustained the IRS' determinations, including penalties.
Specifically, the court held that the Haeders failed to show that Mrs. Haeder had provided any services as an employee.
It also found that the medical expenses and also the IRA deductions claimed in her name were in fact personal expenses.
According to the court, the Haeders failed to substantiate the legal and professional fees for Mr. Haeder's law practice, and they failed to substantiate expense deductions for travel, meal and entertainment.
The court held that the IRS properly disallowed Mr. Haeder's bad-debt deduction because he couldn't show that the debt arose from a true debtor-creditor relationship.
Finally, Mr. Haeder failed to substantiate the rug repair costs or that the repair was an ordinary and necessary business expense. The court sustained the remaining IRS determinations and upheld the imposition of penalties and additions to tax.
Cite: Richard Haeder, et ux., v. Commissioner, T.C. Memo 2001-7
A voice of dissent
to tax-haven purge
* The Department of Treasury, under both Republican and Democratic presidents, has long waged war against "tax havens."
And the IRS has for years waged its own war against banking secrecy laws in many of those tax havens.
In fact, the IRS is in the midst of a campaign to root out overseas trusts that attempt to evade U.S. taxes by basing their operations in tax havens.
Recently, however, Sen. Don Nickles, R-Okla., wrote a letter to Treasury Secretary Paul O'Neill urging him to reconsider the government's support for the Organi-
zation for Economic Cooperation and Development's project against harmful tax competition.
In his Feb. 6 letter, Mr. Nickles, a member of the Senate Finance Committee, said that the OECD's harmful-tax-competition project "pressures" low-tax nations to change their tax and financial privacy policies or face financial protectionism from OECD nations.
"I believe that it is contrary to America's economic interests to restrict tax competition, a phenomenon that keeps politicians in check and enhances economic growth," he wrote.
Mr. Nickles, a senior lawmaker and assistant majority leader of the Senate, also serves on the Senate's budget committee and its rules committee.
Other lawmakers who have openly questioned U.S. support for the OECD campaign include House Majority Leader Richard K. Armey, R-Texas, and Rep. Sam Johnson, R-Texas, who is a member of the House Ways and Means Committee.
