The IRS and Badges of Fraud

The consequences of Tax Fraud and Tax Evasion

Avoidance of tax is not a criminal offense. “Tax avoidance” generally refers to legally permissible conduct to reduce one’s tax liability while “tax evasion” refers to willfully and knowingly fraudulent actions designed to reduce one’s tax liability.  Taxpayers have the right to reduce, avoid, or minimize their taxes by legitimate means.

One who avoids tax does not conceal or misrepresent, but shapes and preplans events to reduce or eliminate tax liability within the parameters of the law. Evasion involves some affirmative act to evade or defeat a tax, or payment of tax. Examples of affirmative acts of evasion might include deceit, subterfuge, camouflage, concealment, attempts to color or obscure events, or make things seem other than they are.

If any part of any underpayment of tax required to be shown on a return is due to fraud, Code section 6663(a) of the Internal Revenue Code may impose a penalty of 75% of the portion of the underpayment due to fraud. In addition, if the IRS can show fraud, there is no statue of limitations.

What is the IRS Badges of Fraud?

Below are some of the items that the IRS may look at in attempting to determine if a taxpayer is committing fraud:

  • Failure to file income tax returns.
  • Understating income.
  • Failure to maintain adequate records.
  • Concealing income or assets.
  • Failure to cooperate with tax authorities.
  • Asserting frivolous arguments.
  • Lack of credibility of the taxpayer’s testimony.
  • Implausible or inconsistent explanations of behavior.
  • Engaging in illegal activities.
  • Attempting to conceal illegal activities.
  • Filing false documents.
  • Dealing in cash.
  • Failure to provide documents to the IRS.
  • Engaging in a pattern of behavior with an intent to mislead.
  • Failure to deposit receipts into a business account.
  • Commingling personal and business income or assets.
  • Establishing multiple entities with no business purpose.

Just because one of the badges above is applicable does not necessarily mean that fraud is being committed. (for example, many types of businesses deal with cash transactions).  The IRS and the courts will look at the badges, and overall fact pattern of each individual case to determine if fraud has occurred.

Freeman Tax Law and the IRS

We have decades of experience dealing directly with the IRS.  If you have any questions concerning your past or current tax situation, please contact us.