Each year the IRS releases a list of the “Dirty Dozen” tax scams to watch out for. Unfortunately, scams are common and lead to lost taxpayer money every year.
To best avoid these scams, know what to look out for. Here’s an overview of the top 12 tax scams – and how to combat them.
1. Identity Theft
Obviously you have to use sensitive personal information, including your Social Security Number, to file your taxes. And if you use that information in the presence of others – such as a disreputable tax professional – you could become a victim of identity theft.
Some scammers will try to use stolen identities to file fraudulent tax returns in order to get an undeserved refund. Fortunately, the IRS is getting better at spotting fraudulent returns. In 2012, it prevented the issuance of $20 billion in fraudulent refunds.
Combat It: The best way to protect yourself from identity theft is to stay on top of your credit report, which will let you know if someone has been taking out fraudulent accounts in your name. You may also want to look into identity theft insurance. At tax time, be especially careful about who has access to your tax returns – whether you file online or by mail.
If you receive an unexpected email that looks as though it’s from the IRS or other federal organization, it may be a phishing scam. These scams set up counterfeit websites and emails, which often look authentic. The goal is to lure you into giving away personal information to a seemingly legitimate source.
Combat It: The IRS never sends unsolicited emails. If they need information from you, they’ll send a letter or call. (And even then, you should be careful to ensure that the contact is authentic.) So if you get an email from the IRS that you aren’t expecting, forward it to [email protected] and then ignore it.
3. Return Preparer Fraud
According to the IRS’ latest Dirty Dozen report, about 60 percent of taxpayers rely on a tax professional to prepare their tax returns. Obviously, your tax preparer has access to much of your personal information, and unscrupulous tax preparers have been known to commit fraud.
Combat It: The IRS has a webpage with advice about choosing the right tax professional, and it includes information on what red flags to look for in a tax preparer or preparation company. One other helpful hint: make sure your tax preparer signs your prepared returns and enters his or her IRS Preparer Tax Identification Number (PTIN) before sending your returns in or returning them to you.
4. Evading Taxes with Offshore Accounts
This is a tax no-no that will come back to bite you. Instead of being scammed, some taxpayers are scamming the government by hiding – or attempting to hide – income in offshore accounts.
Sure, you might have a good reason to have money in non-U.S. accounts, and if so make sure it’s reported properly.
Combat It: If you’re not sure that you’re reporting income in offshore accounts correctly, talk to a qualified tax professional. Also, if you’ve failed to disclose this information in the past, check out the Offshore Voluntary Disclosure Program. This program, reopened in 2012, can help you catch up on taxes without being prosecuted for tax evasion.
5. Free Money Scams
This scheme, according to the IRS, is popping up in community churches across the nation. Basically, scammers promise that taxpayers can get free money in return for filing a tax return – with next to no information on it.
Many of the scammers are claiming that participants can get money through the American Opportunity Tax Credit, an educational credit, even if they were enrolled in college years ago.
Combat It: This scam often preys on elderly or low-income Americans. Many times, these individuals are eligible for money back from the IRS – but they’ll have to file a tax return to get it. There are very few situations in which you may not need to file a return, so when in doubt, just file.
6. Impersonating a Charity
Most of us know that we can save on taxes and do a good deed by donating to a charity. But in order to qualify, you must make charitable donations to a 501(c)(3) non-profit organization. Scam artists may impersonate charities to get money or financial information. This is an especially common scam after natural disasters – like Hurricane Sandy – where scammers make phone calls to solicit funds supposedly to help disaster victims.
Combat It: If you do want to earn a tax break and help others, donate only to a charity you recognize. Feel free to dig into a charity’s background to find out if it is legitimate before writing a check. And speaking of checks, always write a check rather than giving out bank account information, credit card numbers or cash.
7. Falsified Income and Expenses
Here’s another scam against the IRS, instead of against taxpayers. Some taxpayers will try to increase their refund by claiming income they didn’t earn or business or self-employment expenses they didn’t have.
Obviously if the IRS finds out about this, you’ll have to repay that extra refund and probably penalties and interest. If the scam is big enough, you may be prosecuted.
Combat It: Keep careful track of your income and expenses throughout the year and make sure everything is reported accurately on your tax return. Even if you have someone else prepare your taxes, double-check to ensure that everything you’ve reported is true and correct.
8. False Form 1099 Claims
In this age-old scam, individuals will use form 1099-OID to justify a claim for a refund they shouldn’t have. Again, if you receive a refund that you shouldn’t, you’ll have to pay it back with penalties and interest, and you may be prosecuted for this crime.
Combat It: Make sure you’re eligible for all deductions and credits you claim on your tax return. If all the tax forms are Greek to you, find a reputable tax preparer who will be straight with you about which deductions and credits you can apply for.
9. Frivolous Arguments
In this scam, someone might try to persuade you to make excuses about why you can’t pay the taxes that you owe. The IRS put out a recent publication detailing a huge list of frivolous tax arguments that you definitely want to avoid. The list includes the argument that tips for personal services aren’t income and that the payment of federal taxes is voluntary.
Combat It: If someone tells you that you can avoid filing taxes for whatever reason, do some research. Yes, there are some cases in which you may not need to file a tax return. But for the most part, we all have to file, and we all have to pay what we owe.
10. Claiming Zero Wages
Here’s yet another scam that will get you in serious trouble with the federal government. If you try to reduce your taxable income to zero by claiming that you didn’t earn wages or by fudging Form 1099 or Form 4852, you’ll get in trouble. The penalty if you’re found out is up to $5,000 (plus all the back taxes you’ll owe once the situation is corrected).
Combat It: Again, if someone asks you to participate in a scheme like this, say no. There are plenty of legitimate ways to reduce your taxable income and your subsequent tax check. But if you’re uncomfortable or not completely sure, do your research or find a new tax preparer.
11. Disguised Corporate Ownership
Basically, this scheme is used to underreport income by distancing yourself from ownership in a company. This is a financial crime, up there with laundering money.
Combat It: If you’re a business owner (unless you’re actually a tax pro yourself), you’ll likely need to hire someone to help with your complicated tax returns. But if your tax preparer – or anyone else – suggests you don’t take ownership of a company that you own or partly own, back away.
12. Misusing Trusts
If you’re working through estate planning, be very careful who you choose to help you. Many questionable estate planners urge taxpayers to shield money from taxes by misusing trusts. Yes, there is a time and a place for a trust – and even for shielding your children’s inheritance from taxes as much as possible.
But using a trust to take deductions for personal expenses, reduce gift taxes, or other purposes may not be legitimate. The IRS lists private annuity trusts and foreign trusts as particularly easy to abuse.
Combat It: Protect your financial interests and those of your inheritors by working with a legitimate estate planner. And make sure you fully understand every provision made in your estate plan before you sign on the dotted line.
Being conned out of your identity or your hard-earned cash, or being conned into scamming the government, are all things you want to avoid. So pay attention to these 12 common tax-related scams and steer clear of suspicious individuals this April.