Tax evasion is when a person or a company purposefully underpays its taxes. This article provides an overview of tax evasion and examples of ways people evade taxes to help you avoid them in the future.
Mistakes are not considered tax fraud
Tax forms are long, the Internal Revenue Code is complicated, and unless you’re an accountant or other tax professional, you are bound to make some mistakes that may result in underpaying taxes. Although you should always try to fill out your tax forms correctly, there’s no need to worry about being convicted for tax evasion over a simple error. In order to be convicted of tax evasion, the IRS must show that you deliberately tried to underpay your taxes. If you simply made an error, you’ll still have to pay what you should have paid, and possibly an additional fine, but you’ll avoid the time, expense, and penalties of a criminal trial.
How taxes are calculated
Although the tax code is complicated, general tax procedures are fairly simple at their heart. Every year, Americans must file a return stating how much money they made, how big their families are, and what their expenses were. The IRS then calculates each family's total income and subtracts certain expenses, called “deductions,” in order to determine their adjusted gross income, or AGI. The service then uses a chart to determine what percentage of your AGI to tax, and comes up with a number representing the taxes you should owe.
Finally, the IRS looks to see if there were any special circumstances that mean you should pay less taxes, and then reduces the amount you owe by applying “credits.” Congress often uses these credits to motivate people to make changes in the way they live. For example, credits may be available to homeowners who make substantial improvements in order to make their homes energy efficient, or to businesses that hire people with criminal backgrounds.
Examples of tax evasion
Each step of the process of taxation is vulnerable to tax fraud. If someone fails to file his or her tax return, the IRS has no way of auditing the person’s finances. One of the most common forms of tax evasion involves underreporting income. Businesses and employees who deal largely in cash, such as wait staff, hairdressers, and retail store owners, sometimes underreport income because there’s little in the way of a paper trail. Businesses sometimes inflate their expenses, and families occasionally overstate the size of the household in order to take larger deductions. Finally, people take advantage of the current credit system by misrepresenting their circumstances. If the IRS suspects you of any of these activities, it will launch an investigation and may prosecute you for tax fraud.
For more information, see FindLaw's sections on financial crime and tax fraud.