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Could I go to Jail?

My client’s shaking, horrified. She lied on her tax return and worries the IRS will find out when they open the audit.  She thinks she’ll end up in handcuffs if she even talks to the IRS.  She won’t.   But the IRS will be happy that she is scared.

Americans filed 137.3 million tax returns in 2015. That same year, the United States convicted just 648 people of tax crimes.  Millions of Americans do things on their returns that they’d be ashamed to have exposed: claim they have no legal obligation to pay tax, fail to pay estimated taxes or withholdings, hide money to keep the IRS from taking it.  There are many more than 648 Americans who could go behind bars for tax violations. Why don’t they?

Because the IRS has many ways to catch and punish tax misconduct before it locks up citizens.  If a taxpayer underreports his annual income tax by more than 10 percent or $5,000, the IRS can automatically assess a 20 percent negligence penalty. If the IRS can prove that a taxpayer lied on their tax return to underpay their tax, it can assess a 75 percent fraud penalty. These assessments either get paid, or become subject to the most stringent collection procedures available at law: wage garnishments, notices of federal tax lien, jeopardy levies. There are lots of negative incentives short of jail time to goad even the most stubborn citizens into properly reporting and paying the correct amount of tax.

The IRS also can and does routinely convict tax cheats of fraud.  The civil statute defining fraud: “If any part of any underpayment of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 75 percent of the portion of the underpayment which is attributable to fraud.” IRC § 6663. Case law has fleshed out the elements: an understatement of tax, and knowledge of the understatement at the time the return was signed.

There’s also the criminal statute for tax fraud which prescribes prison or a fine for anyone who “willfully attempts in any manner to evade or defeat any tax imposed by this title or the payment thereof.” IRC § 7201. Case law has defined the elements of criminal fraud almost identically to those of civil fraud. What takes a case from civil into criminal fraud?

According to Assistant US Attorney Robert Conte, who spoke at the California State Bar Tax Section conference in San Diego in October 2016, it’s the “egregiousness” of the conduct. This includes (1) the identity of the taxpayer (federal prosecutors like high-profile people like reality TV stars (, attorneys ( , and even Tax Court judges (, (2) the amount of tax loss at issue, (3) how complicated the scheme is, and (4) how the taxpayer acts during audit. While the elements of criminal fraud must be present at the time the taxpayer files the return, Conte said that most cases become criminal because the taxpayer starts to play games with the IRS auditor.

Criminal cases go through a gauntlet of bureaucratic review: once a case becomes criminal, the civil auditor must close the case and turn it over to the IRS’s Criminal Investigation Division (a bunch of auditors with guns). Once the criminal investigation is completed, it is turned over to the Department of Justice. Referral of a criminal case requires approval from three levels of IRS management; prosecution requires approval from two levels of management at the Department of Justice.

The federal government puts a lot of resources into any criminal tax case. It uses these cases as a deterrent: it wants the world to see that it doesn’t lose them. To Bob Conte, the prosecutor, he feels he has not won the case unless the defendant actually goes to jail. He will not even issue a press release if his defendant is convicted but only sentenced to probation.

And that is why my client won’t go to jail: her sins are too trivial and invisible for the federal government use her as a public example of What Not To Do. Chances are, your tax issues are too small to become criminal either. Let’s talk so I can help you reach peace with the government.

What is a Private Letter Ruling (aka PLR)?

Sometimes a taxpayer makes a seemingly minor technical mistake on his return that ends up with large consequences down the line. Shocking, yes, but it’s been known to occur. Good examples of such minor technical mistakes: using a wrong depreciation schedule on a large asset; continuing to report a corporation’s income on Form 1120S after an event that undoes the corporation’s Chapter S election; reporting income on a cash basis when the taxpayer has already elected to report income on an accrual basis.


There are ways to undo some of these mistakes, if caught quickly. Others can’t be undone easily.


Sometimes a taxpayer does not know how to report a particular transaction, for instance, in a sophisticated call option contract is really an option contract, or a management contract (PLR 2015-47004).


In all these cases, it helps to have the IRS commit to a position: “it’s okay to treat the transaction this way.” “Despite bringing in a corporation as a shareholder of the S Corporation (an event that automatically ends a Chapter S corporation election), you can continue to treat the corporation as an S Corporation.” “Assuming you pay these fees and taxes for past years, you may continue to report income on a cash basis.”


There is a process for asking for these commitments from the IRS: the Private Letter Ruling (PLR). The procedure for requesting a PLR is more than 100 pages long, and it can be found here.


The procedures govern how the request gets to the Internal Revenue Service’s building, how it gets channeled to the correct person (a staff attorney in the National Office, usually a specialist in the particular area of income tax at issue), how long the IRS has to respond (usually six months), and the user fee ($2,000 to $28,000, depending on the issue and the nature and size of the taxpayer).


Faucher Law has had a good success record in dealing with Private Letter Rulings. If you need to get out ahead of the IRS on an issue, give us a call.

Tax “Love Gifts”

Churches and ministers receive many tax breaks: churches do not need to withhold social security taxes from their ministers’ pay; churches receive income tax-free; and ministers do not pay tax on the cash value of church-provided housing. But receiving a tax-free salary is not one of the breaks ministers receive.

I have client who’s a minister and is trying to come clean to the IRS after years claiming that he owed no income tax. He has come to his senses and wants to “render unto Caesar what belongs to Caesar,” (Matthew 22:21) and start paying his back taxes but in such a way that the IRS doesn’t take all his income.

To get to this happy result, he and I need to report his ongoing income -not just because it belongs on his tax return, but because we need to show the collection agent how little income the minister collects above what the IRS budgets for living expenses before they beginning levying on everything above that amount.

However, determining my client’s exact income is challenging, primarily because a substantial portion of his income comes from self-described “love gifts,” or cash donations made directly by church members to him personally at the behest of the church’s deacons. In churches where this is a tradition, the congregation is asked not to record the donations or seek a tax deduction, specifically so that the minister may receive the money tax-free.

No matter how generous the intention behind this practice, it’s still illegal. The income tax applies to “all income from whatever source derived,” in the uncompromising words of the Internal Revenue Code. Just because the money showed up in a way that the IRS cannot trace (cash donations) does not mean that it was not income to the minister.

But aren’t gifts excludible from income? Yes, except when an employment relationship exists, such as between a minister and his church, then all payments are assumed to be made within that relationship, and the income must be included on the tax form.

My minister thus will have a tough time getting himself right with the IRS, because the prior “love gifts” are taxable, and because he will need to keep track of all cash he receives in the future. I’d recommend to the church that it make these gifts by check, so that the donors can get a deduction and so that the minister has an easier time keeping records.

In the interim, we can contemplate his parish’s lovely generosity on this Valentine’s Day…

Tax Season is Phishing & Scam Season

I recently received an email solicitation — purporting to be from the IRS — claiming I was eligible for a refund and asking me to click a link to process my return for the refund. Here’s a copy of it.  It is shamelessly not from the IRS: the return email address has nothing to do with our government, and there’s no IRS logo.

This is a good reminder to make sure that you are dealing with the actual government and not a scam artist when you receive communications from the IRS. Here is a link to the IRS website talking about phishing and other scams.

Stay alert out there, people.

Account Transcripts: What the IRS Knows About You

Except for what you tell it, the IRS (and for that matter, state tax authorities like the FTB) doesn’t really know very much about you. But it’s worthwhile to find out what it does know about you. The IRS keeps information about taxpayers in transcripts, small files on its central computers. I find it invaluable to get these transcripts when I start to represent a client.

The IRS keeps transcripts of the tax return, the information returns it receives (from Forms W-2 and 1099), and account transcripts (see an example here) showing tax due and payments made. Some of the transcripts, such as tax return transcripts, are available for only three years; account transcripts are available as long as the account is open (meaning there are unresolved/unpaid taxes).

The computerized transcript format has remained almost the same since at least the late 1970s. It has only been in the last decade that transcripts actually use upper and lower-case letters. They display arcane codes, and I need to refer to large textbooks to determine what they mean.

But the transcripts give a wealth of useful information. Did you fail to file a tax return a few years ago, and now you don’t know how much money you made in 2011? A wage and income transcript will show you how much income your sources reported to the IRS. Do you have an S Corporation, and need to know when the corporation made its election? That shows on an account transcript. Is bankruptcy a good option for your unpaid taxes, or should you start a collection due process hearing? Reading the account transcript history will give me a good sense of how to advise you.

I have third ways to get the transcript: first, I can send a power of attorney form to the IRS, and in about two weeks, it may record that form and allow me to access your transcripts online. Second, I can call the IRS’s call center. After about an hour or two on hold, a phone service rep will send me the transcripts by fax. Finally, I can also walk into an IRS office to present the Forms 2848; the IRS will usually generate the transcripts right then.

Once I get the transcripts and read them, the “fun” (or my version of fun) can begin, because then I have a very good idea of exactly what my client’s problem is.

The IRS *Never* Phones You As Its First Contact

My client has several years of unfiled tax returns. Like many people with several years of unfiled tax returns, he’s been putting off working with me. So I hadn’t heard from him for about six months when he called me in a panic.

“I just got a call from the IRS,” he said. “The guy called and left a voice mail message at my house. He said that he was from the Criminal Investigation Division of the Internal Revenue Service, and that there was a warrant out for my arrest. They left a number to call. Should I avoid going home?”

The call took me by surprise, and I said yes, he should avoid going home until someone called the number and checked it out. Perhaps we could arrange a peaceful surrender, or a quick plea bargain? He had another friend who is a criminal attorney, who had given him the same advice.

But after about 200 seconds on the phone with him, common sense entered the conversation. “Chris,” I said, “the IRS never calls first.”

This is a hard-and-fast rule. If your first contact with an IRS agent regarding your taxes is by phone, it is not a contact with the IRS; it is a scam. The IRS sends letters or knocks on your door. It does not call first, and it certainly does not ask for money over the phone.

There are many scams out there involving people claiming to be with the IRS, and horror stories of people who authorize payments of tens of thousands of dollars by credit card over the phone to settle their alleged tax debts. Do not fall for these. The IRS never phones first.

If the government can prove that you “willfully attempted in any manner” to “evade or defeat” a tax, then you cannot discharge that tax debt in bankruptcy. 11 U.S.C. 523(a)(1)(c).   I’ve always seen this as a very low bar for the IRS to prove, because the elements are simple: 1) the taxpayer had a duty to pay a tax; 2) the taxpayer knew that he had this duty; and 3) the taxpayer voluntarily and intentionally violated that duty. Payment of any expense beyond subsistence, such as a child’s college tuition, at a time when taxes remain unpaid, could meet the standard. That’s what the cases around the country teach.

The 9th Circuit, however, has changed the standard here in California and elsewhere in its domain. In Hawkins v. FTB, Case No. 11-16276, decided on September 15, 2014, the court has held that the taxpayer needs to have a specific intent of evading tax for this discharge exception to apply. Outside the 9th Circuit, a “willful attempt “ to intentionally violate the duty to pay tax means a deliberate act that results in nonpayment of tax. Here in the 9th Circuit, the “willful attempt” means a deliberate act with the intent of evading tax.

The facts in Hawkins are rather shocking to this former IRS attorney. The debtor-taxpayer made a fortune in Silicon Valley enterprises, and tried to shelter some of his capital gains through sophisticated yet dubious transactions. A large tax bill ensued, and then his enterprises lost a great deal of money. Yet he continued to live large: in the face of of a $25 million tax bill, he continued to maintain two residences worth a total of more than $6 million, and bought a fourth family car (in a two-driver family) for $70,000. The family spent between $17,000 and $78,000 more per month than its income for several years.

I think that the result in Hawkins is wrong. This kind of spending by a taxpayer who knows he owes $25 million in taxes is dishonest. As a taxpayer, I do not want my fellow Americans to get away with this by saying “gee, I wasn’t trying to avoid paying the taxes, but I just couldn’t stop myself from spending.  But I do salute the attorneys who reached this result. It is a good result for my clients, and I intend to use it until the Supreme Court reverses the 9th Circuit.

Wells Fargo: Worst Bank EVER, Part II

If you have more than $5,000 in your Wells Fargo checking account when you file a bankruptcy petition, be prepared. Wells Fargo will freeze your account until the bankruptcy trustee tells them it’s okay to release it.

This is due to strict reading of the law. Legally, when you file bankruptcy, you turn over ownership of all your assets (including money in bank accounts) to the bankruptcy trustee.   So your checking account isn’t legally yours any more. Wells Fargo Bank, in a bizarre effort to protect bankruptcy trustees everywhere, wants to make sure that the trustees’ money is kept safe from the depredations of debtors.

Wells Fargo Bank has legal justification for this: Mwangi v. Wells Fargo, 432 B.R. 812 (9th Cir. BAP 2010). However, in more than 10 years of practice in California, I have only ever seen Wells Fargo freeze checking accounts – no other bank does this.

Of course, the vast majority of frozen accounts will be unfrozen eventually. That’s because the trustee returns property to debtors that she can’t keep – stuff that is either worthless or exempt from collection. In California, debtors are allowed a “wild-card” exemption of up to almost $25,000. That means any collection of assets, including cash in a bank, worth up to $25,000 will be returned to the debtor.

So the Wells Fargo practice of freezing accounts, while legally-sanctioned, appears to be useless except for the purpose of inconveniencing people of lesser means. In short, financially-strapped people who are already filing bankruptcy have their checking frozen, but 98 percent of these will be unfrozen after all. Good work, Wells Fargo! The bank that had its stage coaches robbed in the 19th century becomes the robber in the 21st century.

My advice to would-be debtors: get your money out of Wells Fargo accounts.

Wells Fargo: Worst Bank EVER?

I don’t like Wells Fargo Bank. Its policies make it impossible to think well of it.

I try not to do loan modifications for clients because all banks are reluctant to negotiate them. Banks are forced to do so by well-meaning statutes. Evidence of the banks’ dislike is widespread: just open the newspaper to find stories about banks requesting the same documentation time after time, and failing to respond to queries from borrowers.

In my experience, however, Wells Fargo takes this passive-aggressive approach to loan modification to a new, and diabolical, level.

My client had filed a chapter 7 bankruptcy and still had a Notice of Federal Tax Lien in the amount of $100,000 on his property. He was paying off the IRS through an installment agreement. Wells Fargo Bank had approved his HAMP (Home Affordable Modification Program) modification, with the exception of one item: it needed a lien subordination from the IRS.

A lien subordination allows a lender to create a new loan and get it secured in a better position than an existing lien. If Wells Fargo modifies its loans by creating an entirely new mortgage, this makes sense: without the lien subordination, its new mortgage would have to get out of its place in line in front of the IRS, and step behind the IRS. The lien subordination is kind of like me allowing someone in front of me in a campout line for Grateful Dead tickets to let his sister hold his spot in line.

The borrower hired me because I know the bureaucracy at the IRS, and if anyone could get a lien subordination, it was me. I dutifully made contact with the IRS, and got a reasonable answer: ‘we don’t issue a lien subordination until we can see the new mortgage that we are subordinating to. In the meantime, here is the revenue procedure that says that yes, we will subordinate to any appropriate lien.’ The IRS lien technician said he had never heard of any other bank than Wells Fargo requesting a lien subordination without providing evidence of the new mortgage; he said that one reason to not subordinate is that most HAMP modifications don’t even require a new mortgage, thus the lien subordination is a useless piece of paper. In this case, even the IRS tries to avoid creating useless pieces of paper.

I called back to Wells Fargo Bank: do you guys need the lien subordination in these circumstances? Are you modifying by creating a new mortgage, or merely modifying the current loan? If you are creating a new mortgage, can you generate the documentation on that loan so we can get the lien subordination? Finally, if you really need the lien subordination from the IRS, and it’s clear that they won’t issue it, will you just admit that you won’t do a loan modification when the borrower has a notice of federal tax lien, because you’re requesting a document that published guidance says will never be issued and letting people know this will save a lot of effort and time?

I still get mad thinking about how I tried to get a useable response from Wells Fargo. We had numbers for a loan settlement officer and two levels of supervisors above her. These people were very unresponsive; they failed to return dozens of phone calls over the course of about three months. At one point, the borrower’s case went to a special technician. That guy was fairly responsive, but could not answer our questions either.

The case ended with my client’s property getting foreclosed, and no acknowledgement that Wells Fargo asked us to do the impossible, nor answers to the questions posed above. It still galls me, and it certainly hurts my opinion of Wells Fargo Bank.