Paying taxes is never fun.

But hiding assets from the IRS and violating federal tax law to avoid paying what you owe can have serious consequences, including costly court battles, hefty fines and even time in prison. 

Learn what tax evasion is, how it stacks up against tax avoidance and what you can do to ensure your tax return is on the up-and-up for the 2020 tax season. 

What is tax evasion?

Tax evasion is the illegal act of deliberately underpaying or not paying your federal taxes. Because tax evasion is a federal offense and felony under current U.S. tax law, individuals and companies found guilty of evading their taxes may be subject to anything from substantial financial penalties to criminal charges, or both.

What is considered tax evasion?

There are two types of tax evasion officially recognized by the IRS:

1. Evasion of Payment

Evading payment generally involves hiding money or assets the taxpayer could have used to pay their federal taxes. Examples of tax payment evasion may include hiding assets in a relative’s bank account or removing assets from IRS reach, such as by placing them in an overseas bank account. 

2. Evasion of Assessment

Evading assessment involves a deliberate action to avoid proper assessment of a tax, meaning the IRS must show the taxpayer is guilty of more than negligence. One example of tax assessment evasion may include an intentional underreporting of assets to avoid taxation.

What are examples of tax evasion?

Some of the actions federal courts have found to meet the definition of tax evasion include:

For instance, if you claimed $20,000 in deductions last year but were only eligible for $4,000, you’re likely guilty of tax evasion. Similarly, if you were frequently paid in cash during the year and claimed earnings below what you actually made, you underreported your income and may face criminal charges.

Note that tax deficiencies like unpaid taxes or errors on your return is not enough to be guilty of tax evasion. According to federal rules, a taxpayer is only guilty of evasion when there’s an “affirmative” and intentional act to evade tax assessment or payment. In other words, proving the intent to commit an illegal act is key to showing you committed tax evasion.

Who goes to jail for tax evasion?

The chance an individual serves jail time for tax evasion generally depends on the nature and severity of their case, including how much money and assets they were hiding from the federal government. As a felony crime, tax evasion may result in a sentence of 1-3 years in federal prison, a penalty of up to $250,000 or a combination of both. 

Depending on the offense, businesses or corporations guilty of violating tax law may face fines of up to $500,000.

Because the tax code is so complex, taxpayers are bound to make mistakes, setting the bar pretty high to prove an error was made beyond simple negligence. This is one reason why the IRS tends to prefer civil penalties over jail time in tax evasion matters. Criminal prosecution for evading your taxes is more likely in cases involving patterns of extensive, willful fraud—those taking over the course of several years.

What is tax avoidance?

Unlike tax evasion, tax avoidance involves the legal means by which an individual or company can reduce their tax burden. Current tax law offers taxpayers a number of ways to lower their full tax liability, including charitable donations, investing money into approved tax-deferred mechanisms and legally claiming deductions to reduce your taxable income.

Some of the more common ways you can engage in legal tax avoidance and reduce your tax bill include:

  • Claiming dependents on your tax return
  • Investing in an IRA (Individual Retirement Account) or 401k
  • Donating assets to charity
  • Deducting any investment losses (capital gains)
  • Taking advantage of tax credit eligibility

What is the difference between tax evasion and tax avoidance?

The main difference between tax evasion and tax avoidance is legality. While tax evasion involves intentional, illegal acts to hide assets or money from the IRS, tax avoidance is centered on using legally available methods to reduce your taxable income, lower tax payments and minimize your tax bill before the filing deadline.

Tax Evasion vs. Tax Avoidance

What is tax fraud?

Tax fraud includes any effort to willfully deceive the IRS by intentionally lying on a tax return to lower your tax liability. While tax evasion fits the definition of tax fraud, it is considered a subset of fraud and is primarily focused on the illegal and intentional avoidance of tax payment. 

In other words, evading your taxes is always considered a form of tax fraud, while committing fraud doesn’t always mean you’re guilty of tax evasion. 

Solutions to tax evasion and tax avoidance

With any new tax season comes another opportunity to reduce your tax bill and maximize your return. But doing so accurately, thoroughly and legally is key to avoiding run-ins with the IRS, not to mention the potentially severe financial and criminal penalties that can result from hiding your assets and violating federal tax law. 

Here are a few tips for avoiding tax evasion and reducing your taxes the right way in 2020:

1. Don’t underreport your income 

If you were paid in cash at any time during the year, be sure to include that money as part of your annual gross income. Avoid the temptation to omit any source of income, as it may come back to haunt you in the form of an audit. 

2. Keep honest, unaltered records

Falsifying records of your income is against tax law and something the IRS takes seriously—and will likely land you more than a slap on the wrist when an auditor finds out. Never alter or destroy records and engage in good recordkeeping during the year to ensure everything is above board.

3. Don’t inflate expenses

If you’re self-employed and/or own a business, tax deductible business expenses can really help take the bite out of that end-of-year tax bill. But inflating those costs to reduce your taxable income is highly illegal, making it essential to be as accurate as possible when tallying up those deductions.

4. Avoid hiding assets

Concealing assets or income in foreign bank accounts or other sketchy financial arrangements may seem like an easy way to reduce your tax liability, but doing so is the very meaning of tax evasion and can land you in hot water once the scheme is exposed. 

5. Claim charitable donations

It is perfectly acceptable, legal and even encouraged to claim what you’ve given to charity on your federal tax return. And the more you give, the more impact those donations will have reducing your tax bill. Just be sure to make an honest assessment of each item’s value and avoid inflating those numbers at tax time.

6. Take advantage of tax credits

Tax credits are there for a reason: to provide multiple ways to take the bite out of your federal tax bill. If you’re eligible, tax credits like the Child Tax Credit, Lifetime Learning Credit and Earned Income Tax Credit can provide some much-needed relief when filing your return.

7. Consult a tax pro

Tax law is complex. And sometimes it takes the eyes of a tax expert to avoid mistakes, identify opportunities and minimize your tax burden when it comes time to file. 

At Liberty Tax®, we provide the guidance and expertise to reduce your taxes and maximize your return—and ensure you’re ready for the April 15 deadline.

Call or visit your local Liberty Tax® pro today to learn more. 

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