10 Red Flags for Criminal Tax Evasion (According to the IRS)

Combating tax evasion among high-net-worth and high-income taxpayers is among the Internal Revenue Service’s (IRS) top law enforcement priorities. The IRS uses a variety of investigative tools and methods to uncover tax evasion, and, in doing so, it often focuses on a number of specific “red flags.”

But, while these red flags can lead to evidence of tax evasion in some circumstances, none of them are inherently indicative of fraud. As a taxpayer facing an IRS audit or investigation, this is imperative to keep in mind. The fact that the IRS is scrutinizing your returns—and may have even directly or indirectly accused you of tax evasion—does not necessarily mean that you have violated the law.

The IRS’ “Red Flags” for Federal Tax Evasion

With that said, if the IRS identifies any of these red flags in your returns, you will need to deal with the agency very carefully. Audits and investigations can—and do—lead to unjust consequences, and if you have violated the law, you will need to take a proactive and strategic approach to your defense.

Here are 10 examples of common issues that can trigger audits and investigations and lead to criminal tax evasion allegations from the IRS:

1. Claims of No Tax Due and Owing

In many cases, high-net-worth and high-income taxpayers can avoid federal income tax liability through strategic tax planning. However, even when a taxpayer’s returns are completely accurate, a claim of no tax due and owing can still trigger scrutiny from the IRS. To be prepared to deal with the IRS when necessary, high-net-worth and high-income taxpayers should ensure that they are relying on the advice of counsel and have all of the documentation required to substantiate the contents of their federal returns.

2. Substantial Discrepancies Between Taxpayers’ Returns and Auditors’ Determinations

If IRS auditors disagree with a taxpayer’s calculation of his or her liability, this can lead to additional scrutiny. This is especially true when the discrepancy between the taxpayer’s calculation of tax owed and the auditors’ determination of liability is substantial. Taxpayers can—and should—play an active role in the audit process, and when audits lead to unfavorable results, taxpayers should work with their counsel to pursue an appeal before the audit triggers a follow-on criminal investigation.  

3. Large and Unsubstantiated Business Credits and Deductions

Improperly claiming business credits and deductions is among the most common forms of tax evasion. While the IRS simply does not have the resources to investigate all taxpayers’ claims, it will scrutinize taxpayers’ credits and deductions when they are well above average or appear to lack substantiation. This applies to all types of credits and deductions, from the limited-time Employee Retention Credit to business deductions for meals, travel and home office expenses.

4. No Change in Income, Expenses, or Deductions Year-Over-Year

If a taxpayer reports the same income, expenses or deductions from year to year, the IRS will view this as a potential sign of tax evasion as well. Taxpayers must prepare their returns annually to reflect their actual income and expenses throughout the tax year, and if these figures don’t change on a taxpayer’s returns, the IRS may view this as a sign that the taxpayer is not reporting his or her tax liability accurately.

5. Substantial Charitable Donations and Donations to Unfamiliar Charities

Similar to other tax deductions, taxpayers must be able to substantiate all charitable donations reported on their annual returns. Substantial charitable donations are more likely to trigger IRS scrutiny, so taxpayers who make these donations should be especially cautious to ensure that they have the documentation they need to justify the contents of their returns. Donations to unfamiliar charities can raise eyebrows at the IRS as well, and the IRS has been paying particular attention to claimed donations to fake charities in recent years.

6. Working with an Unscrupulous Accountant or Tax Return Preparer

The IRS has also been paying particular attention to returns filed by unscrupulous accountants and tax return preparers. If the IRS has identified your accountant or preparer as a target, this alone could trigger enhanced scrutiny of your federal tax returns.

7. Working with an Offer in Compromise “Mill”

Submitting an offer in compromise is a valid way for eligible taxpayers to reduce the amount they owe. But, ineligible taxpayers who submit offers in compromise can find themselves facing intense scrutiny and additional liability. This is especially true when taxpayers submit their offers through an offer in compromise “mill”—a business that works with taxpayers to reduce their tax liability in noncompliance with the Internal Revenue Code.

8. Charitable Remainder Trusts, Syndicated Conservation Easements and Other Tax Planning Strategies

High-net-worth and high-income taxpayers can use several legitimate strategies to minimize their federal income tax liability. These include forming charitable remainder trusts and participating in syndicated conservation easements—among many others. But, the IRS has identified these as red flags as well, and these too can trigger enhanced scrutiny of taxpayers’ annual returns.

9. Failure to Disclose Income or Investment Returns Reported By Third Parties

Banks, exchanges, employers, contractors and various other agencies have varying obligations to report taxpayers’ income and investment returns to the IRS. If a third party reports income or investment returns that a taxpayer does not, this will raise questions within the agency as well.

10. Failure to Disclose Offshore Accounts or Other Foreign Financial Assets

Failure to disclose offshore accounts and other foreign financial assets is also a major red flag for the IRS. Most taxpayers who own offshore accounts and other foreign financial assets have an obligation to report these on an annual basis, and if they fail to do so, this can lead to scrutiny of all of the taxpayer’s filings from the past several years.

Request a Confidential Consultation at Brown Tax, P.C. in Fort Worth, TX

We represent high-net-worth and high-income taxpayers in audits, investigations and other IRS matters. If you have questions or concerns, or if you need help dealing with the IRS, you can call 888-870-0025 or contact us online to arrange a confidential initial consultation.