The 2018 IRS Dirty Dozen,Part III: Abusive Tax Shelters, Offshore Tax Schemes, and Frivolous Tax Arguments

by Moskowitz LLP

In this post we continue our coverage of tax evasion schemes with three that make it to the IRS Dirty Dozen list every year: Abusive tax shelters, offshore tax schemes, and frivolous tax arguments.

More tax evasion schemes to watch out for
Tax shelters and offshore bank accounts are two otherwise legal tax savings vehicles that, if used improperly and/or illegally concealed, get many taxpayers into a heap of trouble every year:

  • Abusive tax shelters are sophisticated tax schemes that often involve the use of micro-captive insurance shelters. Businesses are generally permitted to utilize captives to reduce their insurance costs, but the IRS will treat them as illegal tax schemes if they fail to function as genuine insurance, meaning that they:
    1. insure implausible risks,
    2. don’t match the genuine insurance needs of the business,
    3. duplicate existing commercial coverage,
    4. are not underwritten,
    5. have premiums geared to a specific deduction amount,
    6. have premiums that are significantly higher than comparable commercial coverage,
    7. have insufficient (or no) administrative processes,
    8. have policies that contain vague or ambiguous terms, or
    9. otherwise do not comply with industry or regulatory standards.

    Another IRS trigger for abuse is where an insured doesn’t file a claim that is allegedly covered by their captive insurance.

  • Offshore tax schemes involve hiding money overseas and failing to report it on your annual 1040 and other required informational returns. In recent years the IRS and the Justice Department, with assistance from their international partners, have intensified efforts to identify and prosecute noncompliant U.S. taxpayers who have been hiding assets in undeclared overseas bank and brokerage accounts, foreign trusts, foreign annuities and insurance plans, and the like. The IRS has conducted thousands of civil audits of taxpayers with overseas accounts, and in many cases has also pursued criminal charges. These efforts have resulted in the collection of billions of dollars in taxes, criminal fines and restitution.

    Taxpayers with undisclosed foreign accounts are urged to explore the possibility of enrolling in the Offshore Voluntary Disclosure Program before it closes on September 28, 2018.

Don’t make frivolous tax arguments
The warning against making frivolous tax arguments makes the Dirty Dozen every year, and for good reason. The number of frivolous positions taken by taxpayers is ever increasing, with a lengthy IRS publication dedicated to it. The IRS repeatedly informs taxpayers that while you are within your rights to contest your tax liabilities, you still must follow the law.

If you make a frivolous tax argument, you face civil penalties and also risk criminal prosecution. The penalty for filing a frivolous tax return is $5,000. You may also be subject to an accuracy-related penalty of 20% of the tax you underpaid, a civil fraud penalty of 75% of any underpayment that is attributable to fraud, an erroneous refund claim penalty of 20% of the amount deemed excessive, and/or additional penalties as imposed by the Tax Court.

In our final post on this year’s Dirty Dozen, we will cover issues tax return preparer fraud and how to choose a reputable tax preparer.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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