You must remember this, a kiss is just a kiss…
Even in this crazy business, certain fundamental things apply. Details and section numbers may change, but one thing is eternal—the "crime" of tax evasion. It's the essence of our "voluntary" tax system, the rock upon which the state is built.
Lots of folks are probably cheating a little on their taxes. That's why the feds audit us. About 1.3 percent of individual tax returns were examined in 1985. But audits rarely lead to criminal prosecution. Most end in settlements, or sometimes in Tax Court. These are civil cases, where the stakes are taxes and penalties, not time in the slammer. (Thus the folklore that mere tax avoidance is "legal.")
We like to think we're civilized; we don't jail people for debt. That's why the mere failure to pay taxes or file a return, even when willful, is only a misdemeanor (Section 7203—one year or $25,000 or both). But filing a false return is a felony (Section 7206—three years or $100,000 or both). The fines for corporations are more, and the penalties apply separately to each year of each offense, for you and your company, and are in addition to big civil fraud penalties. It can really add up.
But willful tax evasion is even more serious. The penalty (for each annual offense) is five years or $100,000 or both. To convict you of tax evasion under Section 7201 of the tax code, the feds have to prove three elements: besides showing that some additional tax is owing, they have to prove an affirmative act of tax evasion, plus willfulness. It's not difficult to prove those things (and paying up after you're indicted may not help; it may even be used as an admission that you cheated).
Willfulness and affirmative acts are interrelated. If the feds can show a pattern of keeping two sets of books, or no books, or bank accounts under an alias, or some other scheme, or if they show you've been destroying records or lying to IRS agents, they've got it made.
But without your records, how do they prove that you owe more taxes? Greatly simplified, there are three ways:
1. Specific items: This can be a killer, because all they need to show is one concealed sale, or one fictitious name on your payroll (where you probably signed the back of the check and cashed it), or one instance of anything. They don't have to prove (or know) everything.
2. Bank deposits: They can get your bank records as easily as you can (usually), and all they need to show is that your deposits exceed your reported income. They've made their case. Now it's your turn. Sure, you might prove that some of those deposits were interaccount transfers, or loans, or gifts, or something, but what about the rest?
3. Net worth: Here, they show that your outlays for investments and living expenses exceed your reported income and savings. Suppose—after years of reporting trivial income and borrowing from small loan companies—you pay all cash for your house. Where'd the money come from? It's presumed to be unreported income. Now you have to prove a nontaxable source of the funds.
Surprisingly, fewer than 10,000 fraud investigations are conducted annually, resulting in fewer than 2,000 actual cases. More than half result in guilty pleas. Of maybe 700 trials, about half end with convictions. Such is the effectiveness of this "state-sponsored terrorism" that a few hundred annual convictions are sufficient to keep us in line.
How do the feds decide whom to prosecute? There are a hundred million taxpayers and only 80,000 wretches in the IRS. The feds can't attack everyone, and they don't. They strive for maximum deterrent value by prosecuting only the strongest cases, preferring high-profile defendants. So they go after Max Megabucks, a case they think is a sure thing and likely to strike terror in the community where Max is a prominent citizen.
But still, how do they find him?
Often it's luck. Some fraud cases arise routinely from normal audits, where the revenue agent stumbles across unmistakable evidence of cheating. Or they can come as "referrals" from other bureaucracies.
And then there's greed. The IRS pays a bounty of up to 10 percent to stoolies. Another tool of the trade is cowardice. All they need to do is arrest your trusted bookkeeper for possessing a gram of some illegal substance, and he'll hasten to make a deal: "Spare me, and I'll tell you about my boss, Max Megabucks, who's been evading taxes for years." Forget about gold; the IRS operates on the sleaze standard.
In addition to luck, greed, and cowardice, the feds have other assets at their disposal—hatred, vengeance, and jealousy. A disgustingly large percentage of cases begin with informants: ex-spouses, ex-sweethearts, ex-partners, employees, customers, competitors, etc.
"Ah," you're saying to yourself, "perhaps the former wife of Max Megabucks squealed to the feds, but my own sweet darling would never do such a thing."
Really? Probably that's what Max Megabucks thought too. Anyway, this brings us to the great Cosmic Rule of Tax Evasion: Trust no one. If your scheme requires accomplices or involves witnesses, you would be wise to forget about it. Weak individuals are the strength of the state.
"No," you insist. "My own sweet darling—who is also the keeper of my two sets of books—will stand by me forever." Sure. And if you believe that, I've got some land in the Everglades you'll want to invest in.
The conclusion is this: Even if you're brilliant, it's not easy to evade taxes and get away with it. The feds have been working in that sewer since 1913. They're at home in muck, and you're not.
On that you can rely…as time goes by.
Warren Salomon is an attorney and tax specialist practicing in Miami.