The Risks of Tax Resistance

My close friend, Karl Bray, is in jail.

Not many persons come to mind that are Karl's equal in publicizing the evils of the tax system and encouraging people to take action to oppose it. That, in my view, is why Karl is where he is today. Federal court judges, acting as self-appointed protectors of "the system," think it is necessary to give articulate tax resisters the full sentence provided by the law. Whereas a mere murderer or kidnapper might be given probation, a man like Karl must be incarcerated for as long as possible in order to shut him up. He is much more dangerous to the system than a thousand murderers or rapists. (The Feds have made a mistake with Karl, however—he is using his time in jail to study, organize, and produce more books and articles than ever before.)

Karl has a long history of considerable effort to educate the public to the realities of the tax system in the United States and, in particular, to the police-state tactics of Internal Revenue Service and other government agents involved in enforcing the tax laws. Despite the protection of the first amendment, Karl was first convicted for possession of a copy of an IRS seizure sticker. This was a misdemeanor with a maximum sentence of six months. He got the maximum sentence. Karl was subsequently convicted of two counts of failure to file income-tax returns. The maximum sentence on those counts is two years. Karl received the maximum sentence on each count. U.S. District Court Judge Willis Ritter, who presided over Karl's jury trial on the failure to file charges, ordered that the sentences be served consecutively rather than concurrently.

The purpose of this article is to examine certain avenues of tax resistance and avoidance popularized by people such as Karl Bray, to examine what can be accomplished by such approaches and to assess the risks involved. Karl's present circumstances underscore the timeliness of such an assessment.

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For purposes of analysis I divide the various forms of tax resistance into three categories. The first, "radical tax resistance," involves high-visibility tactics designed to publicize the evils of the tax system and thereby undermine it. Radical tax resistance falls into the general category of civil disobedience. The second category I will refer to as "sneaky tax resistance," which involves various devices that are illegal but keep one's money away from the tax collectors. The third category, "low-profile tax resistance," involves using the tax laws legally in order to minimize the tax burden as much as possible at relatively low risk.

Any analysis of the tax system and any recommendations for tax avoidance must take into consideration the fact that the government has two basic powers in the tax area. It first has the power to lay and collect taxes. The exercise of this power is characterized as a "civil" matter. The government is also empowered to impose criminal penalties for certain conduct which relates to collection of the revenue. The exercise of this power is characterized as a "criminal" matter. The government is never limited to only one of these sets of weapons, and it should be obvious that it will use the full range of its arsenal of tools in order to be effective. Unfortunately, many tax resistance advocates fail to deal adequately with this fundamental fact of legal reality.

In Karl Bray's related article, "Taxes Are Revolting," he refers to a number of loopholes being used by tax resisters. ("Loophole" has a negative connotation. It should not. A loophole is a perfectly legal provision of which the speaker does not approve. A true collectivist would say that any provision that allows an individual to keep any of his property is a "loophole.") I can say without equivocation that I would like to see every taxpayer in this country use every loophole he can to reduce the take of the bureaucrats. But, because of the complexities of the tax laws, I think it is important that everyone who is considering the use of some tax loophole be more fully apprised of the limitations of the various devices and the risks attendant to their use.

HIGH-RISK RESISTANCE

Let us first take up the "fifth amendment" strategy and the "money" device. These are issues raised almost exclusively in the context of defending oneself against criminal charges of willful failure to file tax returns.

One does not raise these defenses after being charged with the crime, however. These are classic examples of what I've referred to as radical tax resistance. The tax resister actually prepares and files a Form 1040 that raises either the fifth amendment defense or the money defense on its face. So, right at the outset the tax resister throws down the gauntlet to the government. Either he is saying, "I will give you no information because I am not required to incriminate myself under the fifth amendment," or he is saying, "I did not receive any gold or silver money, therefore I received no lawful money, therefore I had no income, therefore I have no tax liability."

Of the two approaches, the money defense seems to be slightly more successful against the criminal charge. The government must prove willful failure to file. "Willfulness" is the crux. The position of the tax resister who raises the money defense is: "I have filed; I am not trying to hide anything; I would be happy to pay my tax, but I received no lawful money of the United States and therefore have no way of knowing what tax I should pay."

The fifth amendment defense, however, has not served its adherents very well. Karl Bray was convicted in spite of this strategy. Perhaps even more notable was the conviction of Marvin Cooley, author of The Big Bluff. In upholding his conviction, the Ninth Circuit Court of Appeals observed that Cooley's sophistication in the law—evidenced by the documents he had filed with the IRS, handling his own defense, and raising the fifth amendment—demonstrated that he knew exactly what he was doing and, therefore, had indeed willfully failed to file.

Assuming that one could effectively avoid a criminal conviction by either a fifth amendment defense or the money defense, one must still never forget that the Feds, as well as the state taxing authorities, have their civil tax collection tools. The tax system in America is based on a process of self-assessment. (This is what is really meant when taxation is said to be "voluntary.") The tax laws put the burden on the taxpayer to keep records, prepare tax returns, and hand over the tax to the collector.

CATCH-22

If the taxpayer fails to perform, the government is empowered to construct a return for him based on what it can find out (Internal Revenue Code § 6020). What can be found out depends upon investigations into the citizen's net worth, style of living, bank account, employment records, etc. Thus, if the taxpayer refuses to help in making the assessment, the government merrily constructs a return for him and that becomes the taxpayer's return. Under the tax law it is presumed to be accurate, which means that the burden is now on the taxpayer to come forward with evidence to prove that it is wrong. To successfully meet this burden, one would have to jettison his fifth amendment claim.

The presumption in favor of the validity of the government-constructed return also undercuts the effectiveness of the money defense, since this device hinges on the question of lawful money and therefore "income." The government simply does not care about the legality of its money when it is exacting tribute. "Income" is defined in §61 of the Internal Revenue Code. The regulations in that section state in part:

General definition. Gross income means all income from whatever source derived, unless excluded by law. Gross income includes income realized in any form, whether in money, property, or services. Income may be realized, therefore, in the form of services, meals, accommodations, stock, or other property, as well as in cash. Section 61 lists the more common items of gross income for purposes of illustration. For purposes of further illustration, § 1.61-14 mentions several miscellaneous items of gross income not listed specifically in section 61. Gross income, however, is not limited to the items so enumerated.

The litigated cases involving issues of what is or is not "income" would fill a library.

Suffice it to say that the fifth amendment defense and the money defense are no barrier at all to the government's power to say what someone's income is, tax it all accordingly, and levy on his assets to satisfy the tax liability. This is not considered to be any violation of due process rights or rights against self-incrimination—this is merely a "civil" matter, not a "criminal" matter.

As if this were not enough, the IRS also has at its disposal the "jeopardy assessment" procedure (Internal Revenue Code § § 6851, 6861). This allows the local IRS Director to arbitrarily determine that the collection of the tax is in jeopardy, immediately terminate the taxpayer's tax year, make an assessment of the tax owed, and levy on the taxpayer's assets. Employment of this device has been held not to violate due process. It has the interesting effect of depriving the taxpayer of all his property, which in turn makes it impossible for him to hire a lawyer to challenge the action or bring a suit for refund.

It appears that the only people who can really afford to employ the radical tax resistance devices are those who have nothing to lose anyway or who have wealthy and benevolent friends and relatives who will support them after the IRS has taken all their assets by "civil" tax collection procedures. Many people think that it is worth it, and adopt it as their particular form of civil disobedience to publicize the evils of taxation in general, and the Internal Revenue Service in particular. This is a judgment each person has to make for himself.

LEAVING WELL ENOUGH ALONE

"Sneaky" tax resistance devices can of course result in very high immediate gains, but they are also extremely risky. An obvious (and illegal) way to avoid taxes is to simply not report one's income—not file income tax returns. This is much easier for those who are self-employed than for those who have employers who withhold tax.

The Wall Street Journal of January 7, 1976, contained a report of a 74-year-old man who had not filed tax returns for 31 years. It took the IRS that long to catch up with him, even though he had been employed for some years during that period, and his employers had filed the appropriate forms with the government, which should have been thus alerted to the fact that the man was failing to file. At long last he was discovered and convicted of willful failure to file. He was sentenced to only one year in jail, probably due to his advanced age.

By definition, sneaky tax resistance is illegal, and if caught at it one will probably be convicted. This approach is not recommended, simply because there are alternatives which result in minimal taxation with little or no risk of criminal prosecution.

Use of IRS Forms W-4 and W-4E can be either legal or illegal, depending on the circumstances. These are the forms that an employee must fill out so that the employer can withhold income tax from the employee's paycheck.

The W-4 is what most employees use. Some tax avoiders have attempted to use the W-4 to reduce their withholding by misstating the number of dependents. For instance, the taxpayer indicates that he has ten children when in fact he only has three. This constitutes a crime under the Internal Revenue Code, and quite a number of people who have attempted this trick have spent some hard time in the cooler.

It is possible to use the W-4 legally and intelligently to minimize withholding. A taxpayer is allowed to estimate his itemized deductions for the coming year and adjust the number of exemptions claimed on his W-4, thus reducing the amount withheld for taxes. So long as there is some reasonable basis for the estimate, there should be no risk of criminal prosecution. The nice result is that the paycheck is larger and there is no need to ask for a refund the following April. This also keeps money out of the hands of the bureaucrats (who use it without paying interest) for that period.

The W-4E is another proposition entirely. When this form is used by the employee it results in no income tax withholding. To use the form, however, the employee must sign a sworn statement that he had no tax liability in the preceding year and expects to have no liability in the current tax year. The main purpose of the W-4E is to accommodate students who work a few weeks during summer vacations. Without it they would have large amounts withheld from their paychecks, only to be returned as tax refunds the following year. If a person uses the W-4E but in fact did have a tax liability the previous year and has tax liability during the current year, he is making a false statement; that is a crime and he can go to jail for it.

AN OVERRATED STRATEGY

One tax avoidance program that seems to have generated a considerable amount of interest in 1974 and the early part of 1975 is the "equity trust." This device was touted by its promoters as the perfect vehicle for the high-earnings professional to avoid all taxes and hide all of his assets from creditors (and, by the way, eliminate the necessity of carrying malpractice insurance). Much of what the promoters were saying is bunk.

Trusts have been used for years as a tax-saving device. One common way is for a parent to create a trust for his children, putting some income-producing assets like bonds or apartment buildings into the trust for the benefit of the children. The tax savings comes about because the income is "split" between the high-income producing parent and the non-income-producing child, putting them both in a lower tax bracket. As for eliminating taxation altogether, that just could never happen. Assume, for example, that we are talking about a physician, his wife, and their three children. A trust is created into which all their property is put, including the right to the doctor's services. Patients seeking medical service actually deal with the trust, which now has control over the doctor's services. Under the law, each one of the human beings involved, and the trust, is a taxpaying entity. So long as income is produced and not offset by legitimate business expenses, that income is going to be taxed. The tax may be reduced by splitting it among the family members, but complete avoidance—never.

Quite a number of people attempted the equity trust device, and the attention of the IRS was naturally attracted. The result was a comprehensive set of Revenue Rulings issued during 1975 by the IRS, specifically dealing with this device and making it totally worthless as a tax shelter. Further, the attorney general of Colorado obtained an injunction against the purveyors of these packages in Colorado. It is my understanding that attorneys general in other states are also on the lookout to stamp out this particular device.

One of the tragedies in this area is that the promoters of trust devices sold them to taxpayers (in exchange for substantial fees), apparently without disclosing the hostility of the IRS and the local attorneys general. Anyone who went into this particular program was sure to be audited by the IRS, which takes the position that the equity trust device is invalid. Failure of the promoters to disclose this very material information to potential investors is a clear case of fraud. Unfortunately, promoters of tax resistance packages, in general, tend to minimize the risk of IRS scrutiny. Caveat Emptor.

CUTTING THE TAX BITE

This brings home very graphically the issue of "alternatives foregone." If a person is interested primarily in reducing his tax burden with minimal risk, then one very important question to ask is, if the tax avoidance program I have adopted is successfully attacked by the IRS and invalidated by the courts, what will be the ultimate tax consequences? Further, might there be some alternative tax avoidance approach which, although it may not give me quite as much now, is less likely to be attacked by the IRS, and if it is attacked, is more likely to be upheld as valid? Although it may be philosophically abhorrent to some, many people would like to find a way to give Caesar a minuscule amount of the tribute demanded, in such a way that it is very unlikely that more will be requested—as opposed to noisily refusing to give him anything and having him take away everything.

Does anyone remember Joan Baez? During the Vietnam War she loudly publicized the fact that she refused to pay her income tax because a substantial portion of it went to support the war. What she did not publicize was that she always maintained sufficient funds in her bank account for the IRS to seize and satisfy her tax liability. Under the Internal Revenue Code, when the tax is ultimately collected in this manner the IRS imposes interest and penalties for late payment. The government thus winds up with more in its coffers than if the tax had been paid promptly.

Finally, there is religion. I believe that it provides a legitimate vehicle for libertarians and others to improve the world and concurrently reduce the bureaucratic theft of their productivity. In this brief article, it is impossible to discuss the more important aspects of religious endeavor, and the comments that follow relate only to tax matters.

Those who want to become church activists have two very substantial allies. On the one hand there is the first amendment, which establishes the principle of separation of church and state. It is the first amendment that results in what is basically a "hands-off" attitude on the part of Congress and the IRS toward the taxation of church activities. The other major ally is the strength of organized religion. Churches obtain their support primarily from charitable contributions, for which taxpayers get a deduction. If our outrageous income tax system is overhauled, the charitable deduction will probably be one of the last things to go, simply because of the great pressure that would be brought to bear by churches and other charitable institutions to retain it.

CASTING OUT THE MONEYCHANGERS

It is possible for anyone to set up his own church. But it is important to understand that to set up a church really means to set up a church. Anyone who thinks that all he has to do is say, "I hereby set up a church and donate 50 percent of my income to it," will be in for some unpleasant surprises. The church may not conduct activities that are primarily for the benefit of any individual, including the person who created it.

To create a valid church one must do the things that churches traditionally do, i.e., conduct services, perform marriages, do charitable works, publish sermons, have a creed, etc. For people who are of a philosophical bent and are interested in promulgating certain views as to how to improve the world, a church is an ideal vehicle. But one must go into it with commitment and do it right if one expects to withstand the scrutiny of a hostile IRS agent. The growing popularity of church activity is already of concern to the IRS. Anyone who views the church as merely a way to avoid tax should consider some other device as more appropriate.

One supposed tax benefit for church activity is avoidance of the self-employment (social security) tax by use of IRS Form 4029. Under the present state of the law, this benefit is only available to the Amish. Form 4029 derives from § 1402(h) of the Internal Revenue Code, which was adopted to accommodate the Amish, who have religious convictions against insurance (e.g., social security). To be exempt, one must apply with Form 4029—but, it says:

…You may apply for exemption from payment of self-employment tax if you are a member of a recognized religious sect or division, and as a follower of that sect's established teachings, you are conscientiously opposed to accepting benefits of any private or public insurance payments in the event of death, disability, old-age, or retirement, or payments towards the cost of, or to provide services for, medical care (including benefits of any insurance system established by the Social Security Act). Before you are granted an exemption, the Secretary of Health, Education, and Welfare must determine that—(1) the sect or division has the established teachings referred to in the preceding sentence, (2) it is the practice, and has been for a period of time which he deems substantial, for members of this sect or division to provide for its dependent members in a manner he deems reasonable in view of the general level of living, and (3) the sect or division has existed at all times since December 31, 1950.

There are other limitations as well.

It appears to me that the equal protection provisions of the U.S. Constitution are thus violated because special treatment is given to religious sects in existence before 1950, to the exclusion of younger sects. No constitutional challenge has yet been made, however. Suffice it to say that, unless the above criteria are met, application for exemption will be disapproved and redress will have to be sought in the courts at one's own expense.

SENSIBLE SELF-PROTECTION

The tax laws are fraught with risk—for everyone, not just tax resisters.

Under our system of laws, it would be constitutional for Congress to tax 100 percent of everyone's income. The only reason Congress doesn't is that "our representatives" know the revolution would start the day they tried it. Thus, they will steal whatever they think the citizens are willing to forgo. It follows that without any self-protection, chances are that an individual's tax burden will be fairly high. On the other hand, to actually produce income and refuse to pay any tax is to run the high risk of winding up in jail and having all one's property confiscated by the government. Somewhere in between each person has to decide for himself how much he can gain by tax avoidance procedures in light of the risk of IRS attack.

Unfortunately for most people, there is no way to adequately assess the appropriateness of any particular tax avoidance procedure or the risks attendant to it without the help of tax experts such as lawyers and accountants. No matter how appealing a particular approach might appear in an article or a book, it is impossible to say that it would be appropriate for a particular person in particular circumstances. The one piece of advice that holds true for everyone is: unless confident of your own ability as a trained tax expert, you are looking for big trouble if you undertake a tax avoidance program without some assistance from a professional.

David P. Bergland is an attorney in private practice in Newport Beach, California. He received his law degree from the University of Southern California where he was Editor-in-Chief of the Southern California Law Review. Bergland's article "Low Profile Tax Resistance" appeared in REASON's June 1975 issue. Last September Bergland was selected as the 1976 vice presidential candidate of the Libertarian Party.