Step 4-1

Tax Scams and Shams

In the last few years taxpayers have been bombarded by promotions of various shady schemes and tactics that challenge the power structure of the government. Even though some are alleged to be tax-avoidance maneuvers, they are really tax-evasion acts that could result in the imposition of heavy civil and criminal penalties.

There are now so many of these patently illegal schemes that the IRS has grouped them into the category of tax-protester activity, even though some schemes are purported to be "tax shelters." The IRS defines a tax protester as, "a person who employees one or more illegal schemes that offset the payment of taxes."

These protesters attempt to undermine the tax system by using various schemes that lead to the evasion of taxes. The "illegal tax-protest movement" is a general term describing several areas of noncompliance in which a growing number of individuals and groups are using illegal methods to protest the tax laws.

The illegal tax-protest movement began in the early 1920s. Until a few years ago, the movement was centered mainly in the western and southwestern parts of the country, and was viewed by IRS as a local compliance problem. The movement consisted of a few individuals who disputed the constitutionality of taxes and who practiced and promoted illegal schemes. The schemes were simple and straightforward- individuals refused to file tax returns, or would file returns but report no income.

The movement grew in the late 1960s, when protest returns were filed by individuals who belonged to geographically isolated groups who protested: (1) the Government's right to tax individual income, (2) the taxability of paper money versus gold or silver, and/or (3) the unwarranted growth of Government. Their protest scheme involved filing blank form 1040 tax returns while citing the Fifth Amendment or monetary arguments. These arguments have long been denied by the courts.

In recent years, the movement has continued to grow and spread across the country as protesters make speeches and offer seminars, often misrepresenting the tax laws. According to the IRS, the movement became more attractive as our Nation's economic conditions worsened. Today people from all walks of life are involved, and the schemes are more sophisticated.

As of September 30, 1986 the IRS had 22,211 protest-type tax returns under examination and had closed another 20,725 cases during the year.

The IRS says these individuals and groups who are attempting to disrupt the effective administration of taxes "present a potential threat to our voluntary compliance system," some by advocating and using violence against IRS employees. The Government acknowledges that all citizens have the right to criticize the tax system and Government policies related to it, as well as to join groups which express such criticisms. But as IRS Commissioner Roscoe Egger once pointed out: "Once an individual moves from expressing dissatisfaction to actually employing schemes with the intention of evading taxes, the Service has an obligation to become involved in order to protect the Government's revenue base and to preserve the tax system."

The basic element in any illegal tax protester scheme is a challenge to the Government's authority to levy and collect taxes. A common characteristic of tax-protest rhetoric is the misleading appeal to patriotism and righteous indignation. Because everyone knows the American Revolution started with a protest against taxes, these appeals to patriotism lead many tax-protest followers into believing that what they are doing is as "American" as apple pie and motherhood. However, illegal tax-protest activities are not really the American way because taxpayers do have legal ways to protest the Government's tax policies. Legal tax protesters seek to change the tax laws through legislation, while continuing to pay their taxes in accordance with existing laws. They legally and peacefully exercise their right to petition the Government. California's "Proposition 13" movement is an example of a legal tax protest movement.

Perhaps the most visible legal challengers of our tax code are the high-powered tax-law lobbyists on Capitol Hill. There are virtually thousands of lobbyists trying to influence the writing of the tax code in innumerable and sometimes mysterious ways that could possibly save their clients millions of tax dollars. (Sometimes, lobbyists even write sections of the Tax Code.)

While no one can deny that there are flaws in our tax system, our country is founded upon a respect for law where changes are made through the law, not by subverting the law. The irony is that many tax protesters have a "quasi-legal" approach; that is, they initially try to openly subvert the system with an illegal scheme or clearly meritless constitutional attack, but then use the court system, a constitutional and legal approach, to try and prove their point. Using the courts to fight the system and change the laws is an acknowledgment that our system works.

The question then arises, If these tax protesters go so far as to recognize the power of the courts by using the courts for their appeals, then why don't they recognize the previous rulings of the courts in denying the legitimacy of their claims?

Some tax protesters are truly gullible individuals who have been victimized by fast-talking promoters into believing that we have a system of rule without a system of law. For example, many taxpayers have never even heard of the Tax code and are misled by promoters into believing that the existence of the IRS and our tax system is based either on some arbitrary, authoritarian government fiat or some type of historical accident. Typical arguments making the circuits now are that "wages are not income" because some law in the early 1900s did not tax wages, or that income tax withholding is not legal because the Victory War Tax of 1943, which introduced withholding, has been repealed.

Even though the mechanics of how our tax system works may be a mystery to many, the existence of our system should not be. It's difficult to comprehend how anyone could think there is no basic legal foundation to our tax system. A visit to any practitioner's tax law library should be sufficient evidence to the contrary, that every mechanism in our tax system has roots embedded in the tax code. Those who believe otherwise are perfect candidates for buying portions of the Brooklyn Bridge. the fact is that most illegal tax protesters are just using these schemes as an excuse not to pay, and their appeals through the courts are nothing more than delaying tactics to forestall paying what they know they owe.

If there should be any outrageous indignation, it should come from the hundred million taxpayers who do pay their taxes, and from the 76 million who overpay their taxes every year. The Government, as a matter of equity, owes it to the complying millions to ferret out these subversive activists. Those who are foolish enough to believe that there will be no day of reckoning down the road have no understanding of the awesome powers of the IRS. After the courts have summarily disposed of the tax protester cases, the unpaid taxes will be assessed, and will have to be paid. The Collection Division of the IRS has no special leniency policy for tax protesters; they will not hesitate to use the strongest seizure powers of any governmental authority in the United States. For a good explanation of IRS's seizure powers, read my book, When You Owe the IRS.

AUDIT-PROOFER'S STRATEGY RULE

Avoid any type of tax scam or sham that challenges the legality or constitutionality of the tax system. This is not to say that you shouldn't challenge any particular provision of the tax code or any specific action of the IRS when you feel you have a legitimate argument. But, you must avoid any of the spurious arguments associated with the tax-protest movement and which have already been defeated numerous times.

IRS Actions Against Illegal Tax Protesters

The IRS says, "The service centers are identifying more protest returns during processing, and examiners are asserting civil penalties...against tax protesters who file frivolous returns." The IRS asserted a $500 penalty against 2,343 taxpayers last year for filing frivolous tax returns.

The frivolous-return penalty allowed by Code Section 6702 can be immediately imposed upon any taxpayer who files a purported return that fails to contain information from which a correct tax liability can be determined, or contains information that the self-assessment is substantially incorrect, and the filing of the return is either due to a frivolous position or a desire to delay or impede the administration of the Federal income tax laws.

The penalty is intended to attack a great variety of tax-protest activities, including: * Returns that are not complete enough to be processed. * Returns that refer to spurious constitutional arguments instead of being completed. * Returns that clearly present inconsistent information. * Returns that made deductions for "war taxes" or for the government not being "on the gold standard." * Returns that deliberately use incorrect tax tables.

Unlike other penalties, the frivolous return penalty is not based on any amount of unpaid tax, and can be assessed immediately by the IRS upon filing of the return, with no requirement of an advance notice. Because Congress imposed this penalty to halt the increase of protester returns, the processing of which "delays and impedes the administration of the internal revenue laws," a taxpayer who submits multiple frivolous returns will be subject of multiple frivolous penalties.

The Criminal Investigations Division investigates violations of federal tax laws and related offenses. In 1986, about 15 percent of their general enforcement program resources were devoted to illegal tax protesters and fraudulent tax shelters.

The program effort on illegal tax protesters concentrated on the investigation of leaders and promoters of major protest groups and schemes with significant numbers of participants. One investigation resulted in a 19-count indictment of nine leaders of a major mail-order ministry scheme. They were charged with evading the payment of taxes on about $10 million of income received from the sale of mail-order ministry charters. Approximately 1,000 taxpayers who bought those charters and took improper tax deductions for "contributions" to their own churches will have to pay millions of dollars in back taxes and penalties.

Tax Court Actions Against Illegal Tax Protesters

Even though the Government hasn't released any statistics, it is clear from the volume of Tax Court opinions being issued, that a large percentage of docketed cases also pertain to tax-protester appeals. The Tax Court frequently issues summary opinions on these cases against the protester-taxpayers in very short statements denouncing their arguments as "frivolous and without merit." Under Code Section 6673 the Tax Court is also awarding damages to the government up to $5,000 against taxpayers pursuing these ridiculous claims. The award is made, "Whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay or that the taxpayer's position in such proceedings is frivolous or groundless."

Next Section: Common Tax Protest Schemes

Audit Proofing Main | Home

© 1986, 1998 to 2002, Jack Warren Wade, Jr.