Although they sound similar, “tax avoidance” and “tax evasion” are completely different. Tax avoidance lowers your tax bill by structuring your transactions so you realize the largest tax benefits – in a completely legal way. Tax evasion, on the other hand, is an attempt to reduce your tax liability by deceit, subterfuge or concealment and is a crime.
The IRS sometimes refers to tax evasion as “illegal tax avoidance” or “abusive tax avoidance.” In addition, the media often refers to “tax shelters” which can refer to either legal tax avoidance strategies or illegal tax evasion.
“Fair Taxation” Strategies
For both business owners and individuals, there is often more than one way to complete a taxable transaction. We use advance tax planning to evaluate these different options in order to reduce or eliminate your tax liability. I suggest you scan my previous blogs for tips on some of these approaches.
Strategies often fall into one of these categories: (legally) minimizing taxable income, maximizing tax deductions and tax credits and controlling the timing of income and deductions. For example, we encourage our clients to consider the big picture when claiming deductions. Claiming certain types of deductions can have a tax impact in later years.
One example is when a business asset has been purchased. You may be able to claim the entire expense as a deduction in the year of purchase and lower your tax liability for the current year. But if you anticipate your business income increasing in the future, you may want to scale back the current deduction so that you can claim depreciation deductions in future years.
Your fair taxation strategy should consider investment options such as traditional 401(k) retirement accounts and tax-deductible IRAs to lower your taxable income today – though you may still have to pay income taxes when you withdraw the money later.
Common tax deductions to which you may be entitled include health savings account contributions, student loan interest, the educator expense deduction and expenses, if you choose to itemize, such as home mortgage interest and real estate taxes.
Several common credits can also legally reduce the amount of tax you owe: the Child Tax Credit, the Saver’s Credit and education credits such as the American Opportunity Credit and the Lifetime Learning Credit.
Criminal Tax Evasions
Many of the common criminal evasions below can apply to both personal and business tax returns, though business owners have more options – or temptations – for evading.
• Deliberately under-reporting or omitting income. This could include a landlord failing to report rent payments or a business owner’s failure to report some of the day’s receipts.
• Keeping “two sets of books” or making false entries in books and records.
• Claiming false or overstated deductions on a return, from claiming unsubstantiated charitable deductions to overstating travel expenses. It can also include paying your children or spouse for work that they did not perform.
• Claiming personal expenses as business expenses. While some assets, such as a car or a computer, will have both business and personal use, proper record-keeping will help the taxpayer from inadvertently committing tax fraud.
• Hiding or transferring assets or income such as concealing funds in another bank account.
• Engaging in a “sham transaction” by labeling a transaction as something it is not, for example, calling payments by a corporation to its stockholders “interest” when they are in fact actually dividends.
Overseas Bank Accounts
Popular culture is full of stories of the wealthy or criminals (often both) moving money into overseas bank accounts run by authorities that refuse to divulge information about client accounts. Banks in Switzerland long had the distinction of this kind of secrecy but lawsuits and fines over the past few years appear to be eroding that policy.
There’s nothing unlawful about where you keep your money. The federal income tax system requires you to report your worldwide income no matter where it is. What’s illegal is not reporting or not paying taxes on any income or interest.
Penalties for Tax Evaders
People convicted of criminal tax evasion have to pay their original tax liability plus interest, but there are also hefty fines that can be as much $100,000 for an individual and possible prison terms of a few months to several years.
As in all tax matters, it’s best to discuss any decisions in advance with your tax professional to be sure you are in line with tax law and best practices.
If you have questions about this featured topic or other accounting and tax related topics, please do not hesitate to contact us at 727-327-1999 OR [email protected].
ANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN TO BE USED, AND CANNOT BE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THAT MAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING OR RECOMMENDING TO ANOTHER PARTY ANY MATTERS ADDRESSED HEREIN.
