What Is IRS Tax Fraud & the Penalties for Tax Fraud

What Are the Penalties for IRS Tax Fraud?

Tax fraud is a serious offense that can lead to imprisonment and significant fines. If you’re facing charges of tax fraud or worried that you may have committed tax fraud, you should consult with an attorney as soon as possible. The tax attorneys at The W Tax Group can help you assess the situation and figure out the best steps forward. To get help, contact us today.

What Is the Definition of Tax Fraud?

Tax fraud refers to all situations where a taxpayer reports false information or withholds information to reduce their tax liability. Tax fraud can include failing to report income, inflating deductions, or falsely claiming credits.

However, tax fraud does not include honest mistakes. To be considered fraud, a taxpayer’s actions must be willful. They must intend to evade paying taxes.

Penalties for Tax Fraud

If you’re found guilty of tax evasion, you can be imprisoned for up to five years. You can also face fines of up to $100,000 for individuals and up to $500,000 for corporations plus the cost of prosecution.

Difference Between Tax Fraud and Tax Evasion

Tax fraud is an umbrella term that includes tax evasion as well as other types of tax crimes. It is a general term. It doesn’t have a specific legal definition. Instead, when most people use this phrase, they are referring to tax evasion.

Tax evasion is a specific type of tax crime. The U.S. Tax Code and the IRS Tax Crimes Handbook use the phrase “tax evasion” when referring to tax crimes designed to evade tax.

Examples of Tax Fraud

Tax fraud includes any willful attempt to reduce your tax liability. It can take the following forms:

  • Claiming false exemptions
  • Reporting false deductions
  • Multiple filings
  • Organized crime
  • Unsubstantiated income
  • Falsely claiming the earned income credit
  • Public or political corruption
  • Using false or altered financial documents
  • Underreporting income
  • Not reporting narcotics income
  • Kickbacks
  • Failure to withhold tax
  • Failure to file a return
  • Failure to pay tax

Here’s an example of tax fraud — Imagine that a business offers discounts for cash payments. The business also collects credit card payments. When the business files its tax return, it only reports the credit card payments as income. It doesn’t report any of the cash. By underreporting its income, the business reduces its tax liability.

Here’s another example. Say that an individual knows their grandmother doesn’t file a tax return. They steal their grandmother’s Social Security Number, and they claim her as a dependent on their tax return. Falsely claiming an extra dependent reduces the taxpayer’s tax liability and potentially increases their credits.

A business that inflates its deductions is also committing tax fraud. Imagine that a business reported that it spent $100,000 on supplies on its tax return, but it really only spent $20,000. By overstating its expenses by $80,000, the business lowers its taxable income and reduces its tax liability.

Another type of tax fraud relates to illegal-source income. Say that someone earns $100,000 per year selling illegal narcotics. By law, they commit tax fraud when they don’t report that income or pay tax on it.

Statute of Limitations on Tax Fraud

Typically, the IRS only has three years to go back and audit your return, but if you understate your income by more than 25%, the agency has six years to go back. Most tax fraud cases involve a material misstatement of income by 25% or more. Effectively, that makes the statute of limitations on tax fraud six years.

However, there is some subjectivity about when the clock starts running. Generally, the clock starts when you file the return or when you fail to file a required return. However, the clock can be paused in many situations, including if you’re out of the country.

Some tax courts have ruled that the statute of limitations starts during the last act of tax evasion. For instance, if the IRS audits your return and you hide money or lie about the information on your tax return, the six-year time period may restart when that incident happens.

The statute of limitations on tax fraud only applies to criminal penalties. The IRS has an unlimited amount of time to bring civil tax fraud penalties against you.

How Do You Report Tax Fraud?

You can report tax fraud by filing Form 3949-A (Information Referral) with the IRS. Or, you can write a letter to the IRS with details about the individual or business, a description of the tax fraud, and an estimate of the unreported income. You should also explain how you become aware of the information.

You can report tax fraud anonymously, but if you like, you can include your name and contact details. The IRS will not send you any alerts or updates. The individual or business has a right to privacy so the IRS cannot discuss their case with you.

Penalty Abatement if You Commit Tax Fraud

The IRS generally only offers penalty abatement to people who have reasonable cause. If you purposefully commit tax fraud, the IRS is very unlikely to abate your penalties.

Get Help With Tax Fraud

The IRS does not take tax fraud lightly. If you’re facing charges of tax fraud or worried that the IRS may flag your return for fraud, you should get help. A tax attorney can answer your questions, help you understand your rights, and guide you toward the best results for your situation.

Also, if someone from the IRS contacts you about tax fraud — consult with a tax attorney before talking to anyone. If you talk to the IRS without representation, you risk pausing the statute of limitations, incriminating yourself, or making other mistakes. Our tax attorneys handle IRS tax issues every day, and they know the best strategies for dealing with the IRS. Get help, contact us today.