Unfortunately, that is not the case with the IRS. As if they weren’t terrifying enough when they were just wearing their “civilian” hats, they become infinitely worse when dealing with the IRS Criminal Investigation Division (CID).

From Regular Tax Audit to Criminal Investigation

Shockingly, it is very common for one to be completely unaware that they have become the target of a criminal investigation by the IRS until they come knocking, and catch you with your pants down.

In fact, oftentimes they can be tipped off by the civil agent who conducted your audit if he or she stumbles upon something they deem to be suspicious in nature. They can then alert the CID which in turn triggers the investigation.  In the meantime, however, they are under no obligation to inform you that they have set all this in motion (and probably won’t).  And what’s worse, at this point, they will likely even suspend their audit without even an explanation.  And you’ll be relieved, celebratory even, assuming that the audit is simply over.

After you have long let your guard down, the IRS has been quietly building their criminal case against you; a case which could go on for years while they gather their evidence, and question their witnesses, etc.  It won’t be until long after the audit has become a distant memory for you that it will all come crashing down.  That’s when you start vaguely recollecting “wait. What did happen during that audit?  I thought it went so well? What went wrong?”  Well taxpayer, allow me to outline a few possibilities.

Common Reasons Audits Become Criminal Investigations

While there are far too many variables that occur during each and every unique audit to list all the possible reasons a regular IRS Tax Audit may trigger a Criminal Investigation, there are some fairly common themes that are most often found to be the perpetrators.  Allow me to elaborate.

Omitting Income and Excessive or Aggressive Deductions

I cannot stress this enough so I will say it with some flair: REPORT ALL YOUR INCOME ALWAYS! Whether you have been 1099’d, received a W-2, K-1 or even no reports at all (totally not an excuse not to report by the way), report it!  That also includes any lottery winnings, money you won at the casino, the tracks, whatever.  Income is income is income is income! I cannot emphasize this enough.  Every dime must be accounted for.   It is these discrepancies that often trigger audits and if the omission in question is substantial enough and looks to have been intentionally unreported, well…let’s just say you better be on guard.

Another issue that often seems to be correlated with unreported income, ironically enough, is an overclaiming of deductions. This issue, though, is not as grave in offense as the income one but is still not one you should make a point of committing.  The IRS particularly frowns upon taxpayers who claim business deductions that are clearly personal (like perhaps an iPad or a brand new Macbook that they rarely ever use for work).  The best practice here is for you to simply draw a line in the sand where your tax life is concerned – a line between your business and personal life.  For example, don’t use a personal laptop “for business” to claim that deduction when in reality you also have a desktop computer you can conduct all your professional dealings on.  Save personal items for personal use (and DON’T claim them as deductions) and use business items strictly for business.  It is often some of the messiest and expensive disputes that are caused because someone was trying to morph their personal life and belongings into their business ones simply to get a write-off.  Big no-no.  At the end of the day, that is stealing from the government.

False Statements or Submitting False Documents

Oftentimes when taxpayers hear that they are being audited, they get so rattled and unnerved that they do something stupid. In reality, the auditor isn’t necessarily looking for any evidence of wrongdoing…not at first.  They are usually just trying to clear up some sort of discrepancy or miscalculation on your tax return and be on their way.  It’s like going to the dentist…people always anticipate that it is going to be far worse than it really is.  And it is that kind of thinking that causes people to do very stupid things like lie to the auditor or even go so far as to submit false documents.  It is precisely that type of behavior that WILL ensure that you become the target of a criminal investigation, where you most likely would not have been otherwise.  You basically just shot yourself in the foot, when you were trying to avoid being shot by a (perceived) gun that was never  even aimed at you in the first place!  (For more on this and also a more comprehensive list of the worst things to do during an IRS audit, check out our recent blog).

Badges of Fraud

The aforementioned acts, of course, are not the only things that can turn a regular audit into a criminal investigation.  Any kind of tax fraud with the intent to evade federal and state tax statutes could lead to criminal prosecution in certain circumstances.  It is for that reason that the courts have developed certain “badges of tax fraud.”  When these badges of fraud exist; more specifically if they seem to draw out a pattern of deceptive or evasive behaviors, the taxpayer will likely find him or herself indicted for criminal tax fraud.  The badges of fraud are as follows:

• Understatement of income;
• Maintaining inadequate records;
• Implausible or inconsistent explanations of behavior;
• Concealing income or assets;
• Engaging in illegal activities;
• Failing to cooperate with tax authorities;
• An intent to mislead; and
• Filing false documents

Have a tax question? Contact Venar Ayar.