Penalties

The Qualified Quiet Disclosure: Operating Outside of the IRS Offshore Voluntary Disclosure Initiative

Individuals with previously undisclosed foreign assets and/or income have a variety of options to become compliant with the IRS, with two avenues for resolution being the most common:  Qualified Quiet Disclosure and the Offshore Voluntary Disclosure Program ("OVDP").

Absent facts indicating willful or reckless intent, an individual may be better off ‘explaining’ the undisclosed foreign bank accounts through amended tax returns, rather than opting into the Offshore Voluntary Disclosure Program.  Though the IRS prefers everyone opting into the OVDP because the IRS has collected so much money from it, there is another avenue known as a "Qualified Quiet Disclosure."  The IRS has also blessed the "qualified quiet disclosure" which, if a person qualifies, gives the same forgiveness as the OVDP but without paying the heavy penalties, without giving up rights, and without forced admissions of intent to evade U.S. income tax, that can come back to haunt.    Note, a Qualified Quiet Disclosure is very different from a "quiet disclosure," of which the IRS has promised a detection and punishment campaign.      Moreover, the Qualified Quiet Disclosure approach allows a taxpayer to operate outside the OVDP and to thereby, freely and fully, administratively and/or judicially contest the offshore penalties.   Through, an Administrative Agency Procedure Act before the District Court, for instance, an individual may contest the offshore penalty demand as it is applied by the IRS.

Conversely, if a taxpayer enters into the OVDP, he or she must agree to the penalties outlined in the program. The penalties and taxes imposed within the OVDP, are extremely expensive and punitive. For instance, a participant must pay a penalty of 27.5 percent based on the value of the undisclosed assets - as they are defined by the IRS.  In addition to the OVDP penalties, a participant must also pay the original tax, an additional 20 percent accuracy related penalty, failure to timely pay penalties of up to 25 percent of the income tax, and interest.  The taxpayer must also consent to re-open tax years which are already beyond the statute of limitations, thereby allowing the IRS to assess tax and penalties that the IRS otherwise would not be unable to do.    Thus, in many cases, participants are forfeiting assets, including entire lifetime savings and more to the government so that any income, inheritances, or gifts these people may receive in the future will belong to the IRS. 

To make matters worse, participants entering into the OVDP must waive Constitutional Protections against: self-incrimination (5th amendment), unreasonable search and seizure (4th amendment), and excessive fines (8th amendment).  This "Trifecta" of constitutional protections disappear once an individual enters into the OVDP disclosing: their names, social security numbers, undisclosed income, undisclosed assets, and the names of the advisors/3rd parties who facilitated the alleged "offshore tax evasion." Further, the government is not bound by transactional or use immunity for the participant participating in the Program.   For instance, numerous participants of the OVDP have been removed from the program and have been prosecuted with the government using (and the taxpayer being limited by) the very information provided by the taxpayer as part of the OVDP process.     Therefore, a taxpayer should be fully advised of OVDP advantages and disadvantages before deciding to make a disclosure because an OVDP begins first, with a waiver of constitutional rights, and then requires directly disclosing to the IRS criminal investigation division offshore transactions that could be (mis)construed as money laundering, wire fraud, mail fraud, tax evasion, or failing to disclose foreign financial accounts on an FBAR.  An example of such treatment is the Ty Warner matter.

In the case of Ty Warner (Beanie Bag founder, a former member of the Forbes 400 richest Americans, with a previous net worth of $2.6 billion) entered into the IRS OVDP only to be removed from the program for unknown reasons. The risk of entering into the OVDP for Ty Warner can be best understood in the settlement his attorneys reached with the IRS for the civil part of his case; his criminal case is still pending. Ty Warner failed to pay approximately $885,000 of taxes generated from undisclosed Swiss accounts. Even though Ty Warner failed to pay $885,000 taxes, the settlement agreement requires him to pay the government $53 million in taxes, penalties, and interest. This amounts to 60 times the original tax due. In addition, Ty Warner faces up to five years in a federal prison for tax evasion.  There have been a number of other individuals removed from the OVDP program and prosecuted, including most recently a 79 year old widow residing in Palm Beach because she did not report her inheritance of late husband’s foreign accounts.

On the other hand, even though the government has issued ominous threats to individuals who have not entered the OVDP (or previous, similar programs), since 2009, the government has not carried out this threat in any significant way.   For example: a taxpayer made a partial disclosure (i.e., not a Qualified Quiet Disclosure) to the IRS in which he omitted a secret Bermuda account on his amended tax returns.  Evidence suggests that individuals making Qualified Quiet Disclosures outside of OVDP have mostly fared better than individuals making disclosures through OVDP.  Those outside of OVDP, are assessed far less in taxes and penalties than individuals who have elected to make a disclosure through OVDP. In addition, these individuals have not waived their constitutional rights.

To sum it up, despite the fact that the IRS continues to threaten those who chose not to enter OVDP with prison sentences, monetary penalties, and more, those qualified to make a Qualified Quiet Disclosure have a far greater ability to contest IRS allegations of criminal and civil wrongdoing than the participants of the IRS OVDP. As of this date, individuals making disclosures outside the OVDP as a whole are far better off than their counterparts.

For a related article, "A Closer Look at the Non-Willful FBAR Penalty", California Tax Lawyer, Published by the State Bar of California, (Winter 2012).  

Stephen M. Moskowitz is the founding partner of Moskowitz LLP.   He is a member of the California State Bar, and holds an LLM in tax along with admission to practice in the United States Supreme Court, all Federal Courts, and all courts within the State of California.   Before Steve began practicing as a tax attorney, he practiced as a CPA.     He has been a professor of law, tax, and accounting at Golden Gate University, University of San Francisco, and San Francisco State University.   He routinely addresses the public, professionals, students and governments on tax matters impacting individuals and businesses.    

Anthony V. Diosdi is a tax attorney with Moskowitz LLP.   He is a member of the Florida State Bar and holds an LLM in tax.    Anthony concentrates his practice on federal tax controversies, planning, and international taxation. 

Moskowitz LLP is a tax law firm.   We save financial lives by relentlessly pursuing all avenues to successfully resolve client tax matters.  From audits, appeals, trials and tax planning to tax opinions and civil and criminal defense, we help individuals and businesses understand their entire tax picture and act accordingly.  We defend personal liberty and dignity through our skill, experience and an aggressive approach.  Whether it’s spending time in court or negotiating with the government, we passionately treat your case as if it were our own.  We do whatever it takes, within the bounds of the law, to deliver top quality, non-judgmental legal representation to help you save your life’s work, resolve tax matters pending, and to enjoy your life and thrive.  

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Moskowitz LLP, A Tax Law Firm, Disclaimer: Because of the generality of this blog post, 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. Prior results do not guarantee a similar outcome. Furthermore, in accordance with Treasury Regulation Circular 230, we inform you that any tax advice contained in this communication was not intended or written to be used, and cannot be used, for the purposes of (i) avoiding tax related penalties under the Internal Revenue Code, or (ii.) promoting, marketing, or recommending to another party any tax related matter addressed herein.

Tax Return Preparers, Crimes, and Penalties


with thanks to Elizabeth E. Prehn, Law Clerk

The Internal Revenue Service and lawmakers across the nation have introduced a bill to Congress to Increase Tax Preparer Penalties.    While this bill, introduced as the Fighting Tax Fraud Act, is aimed at blatant schemes by tax preparers to defraud taxpayers, it is also a symbol of the increased scrutiny of tax preparers are facing.

A.    WHO IS A TAX PREPARER ?

In general, an income tax return preparer is any person who prepares for compensation, or who employs (or engages) one or more persons to prepare for compensation, all or a substantial portion of any tax return or claim for refund of a tax under the Internal Revenue Code.   26 C.F.R. §301.7701-15.

While this does answer one question, closer examination of the definition raises more questions and requires further analysis to fully grasp the implications.  The most prominent being, what is recognized as “compensation”?  Further, what is included in determining a “substantial portion” of the return’s preparation?  When does the employer of a tax return preparer become liable as the “true” tax preparer?  Does this statute have any exemptions?  And not least, what are the penalties for understating income as a “tax return preparer”?

For Compensation

It seems obvious that if you were paid for your work you were compensated, but what if you complete a tax return for a friend and he takes you out to dinner in thanks.  Is this gesture considered compensation?  As per Treasury Regulation §301.7701-15(f)(1)(xii), the intention of the tax preparer determines if the action is seen as compensation.  So if you prepare a tax return not expecting anything in return, then you are not a tax return preparer.  However, if you expect to be rewarded for your efforts, even something as inconsequential as a thank you dinner, then you are considered a tax return preparer.

Who Employs (or engages) one or more persons to prepare tax returns for compensation

As an employer, liability is always an important concern, and as an employer of tax return preparers, liability for their actions is also a concern.  According to the court Schneider v. United States,”[…] being an employer of one or more persons who prepare a tax return for compensation is sufficient to qualify one as an income tax preparer.” 257 F Supp. 2d 1154, 1160 (2003).    Schneider, a Certified Public Accountant, signed off on a return prepared by an employee.  The employee incorrectly calculated the business deductions causing an understatement of income.  Schneider was charged the penalty.

All, or a substantial portion, of any tax return or claim for refund

Defining what constitutes a “substantial portion” of the tax return is slightly more complicated.  Both advice given and a physical return can be considered when calculating the “substantial portion” of the tax return.  In the case of advice, giving advice prior to the client completing a transaction is not part of the “substantial portion” of the tax return.  Treasury Regulation §301.7701-15(a)(2)(i).  On the other hand, advising a client once the transaction has occurred comprises part of what is figured into the “substantial portion” of the tax return preparation.  As an example, if prior to a merger (the transaction) accountant Karl advises his client of potential tax outcomes; Karl is not seen as a tax preparer.  Yet, should Karl continue to give advice once the merger concluded, his actions would then be seen as those of a tax return preparer.

Further examination of what compromises the “substantial portion of the tax return” reveals the IRS’s position.  This is illustrated Goulding v. United States, 957 F.2d 1420 (7th Cir. 1992).  Goulding, who was the tax return preparer for a partnership return, was found by the IRS to also be the tax return preparer for the individual return of one of the partners, despite the fact that he did not physically complete the latter.   The IRS’s reasoning, which was upheld by the 7th Circuit, being that the return he did complete equated to a substantial portion of the taxpayer’s overall income and tax liability.  An example of this situation in a corporate context can be found under Treasury Regulation §301.7701-15(b)(3)(iii).

B.   CRIMES

Tax Preparers have a duty to uphold the Internal Revenue Code and a standard of professional care to their clients.    They can face charges stemming from intentional conduct of their own, such as, schemes intending to defraud their clients, and the conduct the individual surrounding the tax return being prepared, such as,  charges for aiding and abetting their client’s wrongful tax conduct.   They can also face charges for negligent preparation.      The Department of Justice, Internal Revenue Service - Criminal Investigation Division and Office of Professional Responsibilities are the primary authorities overseeing tax preparers.   However, the Attorney General for a State, various consumer protection authorities, such as the Federal Trade Commission, have been known to investigate and prosecute tax preparers’.      As such, it is important to consult with a criminal tax attorney if you are a tax preparer (whether you knew it or not) if investigated by any government agency.

i.  CRIMINAL TAX CRIMES OF TAX PREPARER

Recent examples of criminal tax preparer cases:

State of California prosecution:  Home Based Tax Preparation by Couple

Chino Hills, CA:     A home based tax preparation business, Al Vivo, 56, and Rachel Vivo, 48 were sentenced to serve 180 days in jail by the State of California for preparing 3 fraudulent tax returns plus their own.

Federal Tax Crime, Department of Justice prosecutions results in: Two Sentenced for Preparing Fraudulent Tax Returns

On June 1, 2012, Anita Montelongo, was sentenced for one count of tax fraud, was ordered to serve 24 months in federal prison, one year of supervised release and ordered to pay $16,632 in restitution to the IRS..

Her partner, Susan Gloria, who plead guilty to one count of tax fraud, was sentenced to 30 months in prison, one year of supervised release and was ordered to pay $194,966 in restitution to the IRS.

According to court documents, from February 2008 through April 2010, Gloria and Montelongo worked as tax preparers for Z & Z Bookkeeping & Tax Service. Both prepared income tax returns that contained false W -2s and false "Other Income" amounts. Their intent was to increase the amount of the refunds for the taxpayers and maximize eligibility for the Earned Income Credit.

Return Preparer Sentenced for Tax Fraud (see IRS.gov)

On May 31, 2012, in San Jose, Calif., Samuel S. Fung, of Medford, Ore., was sentenced to 27 months in prison and ordered to pay more than $1.7 million in restitution to individual victims and the IRS. Fung pleaded guilty on September 14, 2011, to conspiring to defraud the United States. According to court documents, Fung provided services for clients of National Trust Services, including preparing tax returns, under his business names Cortland Tax Management and Professional Business Consultants, LLC. From August 1997 through March 2006, Fung and others agreed to defraud the United States by impeding or obstructing the lawful government functions of the IRS in the assessment and collection of federal income taxes. Fung and others established fictitious business names through which they received income and held assets in order to conceal their assets and income from the IRS. Fung admitted to preparing at least 65 false fraudulent income tax returns for taxpayers and entities for tax years 1998 through 2002.

Alabama Sisters Sentenced for Their Roles in Stolen Identity Refund Fraud Scheme (see IRS.gov)

On May 16, 2012, in Montgomery, Ala., Loretta Fergerson and her sister, Tracey Fergerson, were each sentenced to 115 months prison for their involvement in a conspiracy to file claims for false income tax refunds using stolen identities.  The Fergerson sisters were also ordered to pay $504,305 in restitution to the IRS.  According to court documents, Loretta Fergerson owned and operated a tax return preparation business called Fast Tax Cash in Montgomery, Ala. From 2005 through 2008, Loretta and Tracey Fergerson filed tax returns using stolen identities to claim fraudulent tax refunds. Additionally, Loretta Fergerson and her employees filed tax returns for Fast Tax Cash customers that contained false information to obtain higher refunds for customers.  Court records established that Tracey Fergerson participated in the scheme by gathering stolen personal information and cashing refund checks for tax returns that were filed using the stolen personal information. Tracey Fergerson also recruited customers and coached them to provide false information. She further admitted that she improperly obtained personal information to have false tax returns prepared at Fast Tax Cash.

California Return Preparer Sentenced for Defrauding IRS of Nearly $8 Million (See IRS.gov)

On April 24, 2012, in Los Angeles, Calif., Mario Placencia, an accountant and tax return preparer, was sentenced to 60 months in prison and ordered to pay $1,213,789 in restitution to the Internal Revenue Service (IRS).  Placencia pleaded guilty in July 2011 to two counts of aiding and assisting in the preparation of fraudulent tax returns and one count of submitting false documents to the IRS in an attempt to substantiate the false deductions taken on tax returns.  According to the plea agreement, for the tax years 2003 through 2009, Placencia admitted that he caused the government to incur a tax loss of $7,982,043 by intentionally inflating the amounts of home mortgage interest that he reported on his clients’ federal income tax returns.  Some of Placencia’s clients received notices of audits for the 2004, 2005, and 2006 tax years.  During the audits, Placencia provided the IRS with false documents to convince auditors that the clients had incurred expenses that he knew the clients had not incurred and were entitled to deductions that Placencia knew had been fabricated.

California Tax Preparer Sentenced for Mortgage Fraud and Tax Fraud (See IRS.gov)

On April 23, 2012, in Fresno, Calif., Patricia Ann King, of Bakersfield, was sentenced to 37 months in prison, three years of supervised release, and ordered to pay $530,300 in restitution to the victim lenders and $174,002 in restitution to the Internal Revenue Service (IRS).  According to court documents, King admitted to willfully aiding and counseling a taxpayer in preparing and presenting a fraudulent income tax return to the IRS. The 2005 tax return falsely claimed Schedule A and Schedule C expenses that King knew were not valid.  In the mortgage fraud case, King admitted that from October 2005 to July 2006, she helped other defendants submit false documentation in support of loan applications to defraud mortgage lenders. During this time, King was a tax return preparer and owned The Tax Kings, a tax return business in Bakersfield. King prepared and provided to her co-defendants false and misleading verification letters that purported to verify loan applicants’ self-employment history and income, among other information. King also falsely claimed to be a CPA. King received compensation payments from the co-defendants for providing the verification letters.

Unlicensed California Tax Preparer Sentenced for Preparing False Tax Returns (See IRS.gov)

On February 29, 2012, in Oakland, Calif., Diane Lipina Tuiono was sentenced to 18 months in prison, one year of supervised release and ordered to pay $135,803 in restitution. Tuiono pleaded guilty on November 23, 2011 to aiding and assisting in the preparation of false tax returns.  As part of her plea, Tuiono admitted she prepared tax returns from 2006 through 2009 although she was not a licensed return preparer and did not sign the returns she prepared. Many of her clients were low income families who were unaware of the details of state and federal tax laws. Sometimes her clients brought Forms W-2, 1098, and 1099 to prepare their tax returns and other times they did not have verifiable income or did not earn income at all during the year, but they would still ask her to prepare their returns.  In those situations, Tuiono would input an amount of income on the tax return in order to maximize the amount of the refunds. This resulted in her clients obtaining the Earned Income Credits and/or Child Tax Credits. Tuiono also admitted that she inflated refunds or reduced her clients’ tax liabilities by using several methods including: claiming false filing status, ineligible dependents, non-existent Household Help Income, false wages, exaggerated or fictitious Schedule A itemized deductions, false Schedule C businesses and expenses.  Sometimes she had the married couples file separate tax returns. Each return unlawfully listed each spouse as “Single” or “Head of Household.” In some cases Tuiono split the couples’ children between the two parents or listed ineligible dependents and claimed false income on each of the returns.  These fraudulent acts allowed each spouse to receive the highest refundable Earned Income Credit. For the tax years 2006 through 2009, Tuiono prepared 33 returns on behalf of 16 different people, resulting in a tax loss of $135,803. Tuiono received between $100 to $300 for the preparation of each tax return, which she did not report on her tax returns.

ii.  CIVIL CHARGES

In addition to criminal charges, tax preparers can face civil litigation by the taxing authorities wherein the agency attempts to shut down the business.    In fact, more than 255 permanent injunctions against tax preparers have been obtained and with this the heightened scrutiny we expect to see more suits.    Further, tax preparers also face charges of malpractice by their clients.   So even if you did not consider yourself to be a tax preparer, you may be held to the standards of a preparer under the statute, and you may face malpractice charges.

C.  TAX PREPARER PENALTIES

The bill recently submitted to Congress would essentially double the current penalties for tax preparers who are involved in certain unlawful activity.   Doubling the penalty increases the potential ‘reward’ for the prosecuting agency and the Internal Revenue Service.    In the last 30 years, I have seen the greatly increased penalty structures work in two ways:

  1. I believe it does serve its purpose and deter some people from committing the unlawful act;
  2. I believe that the agencies become more aggressive in their investigations and prosecutions when the stakes are higher.  Because of this unintended consequence, I believe that individuals who never even classified themselves as a tax preparer will face charges stemming from returns they prepared or had some involvement in the preparation.

Further, the IRS has greatly increased its staff of IRS agents whose full time job it is to police tax return preparers.   The IRS has publicly announced that it intends to aggressively prosecute tax preparers and enforce the criminal punishments, including prison time, massive fines (which are not dischargeable in bankruptcy and may stay with you for a lifetime) and barring you from preparing tax returns or work as a tax professional at all.

Therefore, determining whether or not you meet tax return preparer status is a complex and sometimes confusing process.  Many potential scenarios have not been discussed, including employers who do not sign the tax return.  Understanding the subtleties of how this area of law can be argued and defended is extremely important in protecting you from criminal charges and monetary penalties, and also in protecting your license and livelihood.  To better understand and defend yourself in this intricate area of tax law, consult with a tax attorney at Moskowitz, LLP by calling (415) 394-7200 or via our Tax Law Firm’s website.

Moskowitz LLP, A Tax Law Firm, Disclaimer:   Because of the generality of this blog post, 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.   Prior results do not guarantee a similar outcome.   Furthermore, in accordance with Treasury Regulation Circular 230, we inform you that any tax advice contained in this communication was not intended or written to be used, and cannot be used, for the purposes of (i) avoiding tax related penalties under the Internal Revenue Code, or (ii.) promoting, marketing, or recommending to another party any tax related matter addressed herein.