Taxable Talk

Another repeat, but one that is a continual issue with cash business. It may be “cash and carry,” but cash is taxable in all ways. And cash reporting (or lack thereof) can be a problem. Our #1 Bozo Tax Tip is brand new for this year and it will be up tomorrow! Anyway, let’s be suspicious:

Given my practice area, I deal with individuals who occasionally make large cash deposits. I tell them that they shouldn’t mind the completion of a Currency Transaction Report. The IRS gets so many of them that as long as you’re paying your taxes it’s not a big deal.

On the other hand, if you break up your $11,000 transaction into two $5,500 deposits, you can get in trouble. Big trouble. A suspicious activity report (SAR) might be issued. The IRS doesn’t get as many of these, and a lot of them are investigated. And that’s what leads into this tale of woe.

We’re focusing today on a public figure. He was a prosecutor, and he used the Bank Secrecy Act (among other laws) to help send many individuals—primarily in organized crime—to prison. He then became Attorney General of his state, serving two terms in that office. He was then elected Governor.

But our public figure had a problem. He enjoyed the world’s oldest profession. While traveling to Washington, D.C. he used a service called the Emperor’s Club. He funded his nighttime activities by making multiple wire transfers of just under $10,000.

Come on, could a politician who used to use the Bank Secrecy Act actually get blindsided by the Act? Yes. Eliot Spitzer’s wire transactions were duly reported by North Fork Bank. That led to an IRS investigation which led to an FBI investigation which led to a governor becoming an ex-governor.

So if you want to send money, go big-time. Send more than $10,000. But whatever you do, don’t break up your cash transactions into smaller pieces to evade the reporting requirements. One day you might find two armed federal agents at your door, reminding you, “You have the right to remain silent….”

Another repeat from last year, but just as apropros. Only last week I was offered the “Deal of a Lifetime” to invest in the guacamole fund. I’d rather eat my guacamole, thank you. Anyway:

Just today someone sent me an email noting the following “truth”:

Hey Russ, [redacted] sent me this video on how I can put all my wages and other income into this investment vehicle and I’ll no longer have to pay taxes on any of this.

I know, it sounds too good to be true, but it is true. I’ve read all of these documents and it sure seems legal….

I won’t bore you with all of the other details. Suffice to say, I was being asked to invest in a Cayman Islands Trust. Somehow, after spending lots of money in fees my taxable income will become sheltered from US income taxes. There’s no reporting, no tax, and no trouble from the IRS!

If it sounds too good to be true it probably is.

This is. We start with the first problem, the economic substance rule. In order for any transaction to be meaningful in the Tax Code, there must be some economic substance to it. For example, I sell John $10 worth of paper. That has economic substance: I now have $10 and John has a bunch of paper. But what economic substance can there possibly be when I magically turn my earned income into vanished income?

In order for a Trust to be recognized under federal tax law, a trust must have some real economic effects.

Next, federal law requires the grantor of a foreign trust to report that. So if you decide to obtain a foreign trust, you had better be prepared to disclose it or face severe penalties including possible time at ClubFed.

I hope you get the idea. If you follow this Bozo path you will likely get in deep trouble. Consider what happened to Lorin Sloan, as noted in United States v. Sloan, 939 F.2d 499 (7th Cir. 1991), cert. den. 112 S.Ct. 940 (1992). (My thanks to Dan Evans’ Tax Protester FAQ for this.)

Like moths to a flame, some people find themselves irresistibly drawn to the tax protestor movement’s illusory claim that there is no legal requirement to pay federal income tax. And, like the moths, these people sometimes get burned. Lorin G. Sloan believed these claims and because he acted upon them now faces four months in a federal prison; there can be little doubt that he has been burned.

[. . . .]

The real tragedy of this case is the unconscionable waste of Mr. Sloan’s time, resources, and emotion in continuing to pursue these wholly defective and unsuccessful arguments about the validity of the income tax laws of the United States. Despite our rejection of Mr. Sloan’s legal analysis of the tax laws, we are not unmindful of the sincerity of his beliefs. On the other hand, we are less sure of the sincerity of the professional tax protestors who promote their views in literature and meetings to persons like Mr. Sloan, yet are unlikely ever to face the type of penalties incurred by him. It may be that our decision will not alter Mr. Sloan’s views regarding the tax laws of this country, for he has stated that if we affirm his conviction without applying the law as he understands it, our decision will be ‘a sham to which I WILL NOT SUBMIT.’ It may also be that serving his sentence in prison will not alter Mr. Sloan’s view. We hope this pessimistic assessment is incorrect.

A repeat for the third year follows, but it’s one again getting a lot of play due to business conditions here in California. While I’m focusing on California and Nevada, the principle applies to any pair of states.

Nevada is doing everything it can to draw businesses from California. Frankly, California is doing a lot to draw businesses away from the Bronze Golden State. But just like last year you need to beware if you’re going to incorporate in Nevada.

If the corporation operates in California it will need to file a California tax return. Period. It doesn’t matter if the corporation is a California corporation, a Delaware corporation, or a Nevada corporation.

Now, if you’re planning on moving to Nevada incorporating in the Silver State can be a very good idea. But thinking you’re going to avoid California taxes just because you’re a Nevada corporation is, well, bozo.

Last week a new client came into my office for the preparation of his tax return. Everything went smoothly, and an hour or so later his returns were complete and filed, he had his copies of the returns, and the Bozo festivities (unknowingly to me) were about to begin.

He asked me if I’d take cash. “Sure,” I replied.

The client then handed me an amount exactly 10% less than the amount of the invoice. “This way you don’t have to report it–after all, it’s cash so there won’t be any record.”

“Cash income is just as taxable as any other source,” I replied. “I’m ethical, and I report all my income.”

“Oh, come on,” he replied. “When I was self-employed everyone did that.” Thankfully, my client is currently not self-employed.

“Well, that’s a good way to get in trouble. That’s called tax evasion. I don’t need to get myself involved in that, and neither does anyone else today.” I pointed out to my client the number of business owners who have done what he thought was ‘normal’ who are now residing in ClubFed. It’s amazing how many owners of Gentlemen’s Clubs (which are definitely cash businesses) get in trouble, thinking that they only have to report some of the income.

My client, after some prodding, came up with the other ten percent of the fees, and he ended up (hopefully) a little wiser. You needn’t worry about this: Just report all of your income on your tax return. But if you want to live on the Bozo side of life, skip reporting the cash…until one day you find out that really was a Bozo move.

We’re running some repeats, but there is some new Bozo material coming. It’s just that people keep trying the same things over and over again.

It’s tough to avoid the tax system. There are currency transaction reports (cash transactions of $10,000 or more) and suspicious activity reports (theoretically can be done on any transaction, but usually starts at $3,000 or more) done with cash. Businesses must send out 1099s on payments of $600 or more to individuals. Barter organizations must send out 1099s.

But that doesn’t stop the Bozo contingent. “They’ll never catch me,” they believe. Until the IRS or the Franchise Tax Board (substitute your state tax agency if you’re not in California) knocks on their door. There’s no statute of limitations if you don’t file.

Paying taxes isn’t fun. Avoiding the system and living on the edge may give you a thrill, but if you get caught you’ll be given a bill…and possibly a trip to ClubFed.

I’ve come to the conclusion that everything in life is normally distributed. You may remember the normal distribution from a class you took on probability theory. It’s the bell curve. Most things are in the middle, but some are outliers stuck at both ends.

It’s that way in the world of tax accounting. There are good accountants, there are average accountants, and there are, of course, bad accountants. But it takes a special set of skills to be a Bozo accountant.

I’ve written several stories about Bozo tax practitioners. Here are some helpful hints on what to look for in a Bozo tax practitioner:

* He’s never met a deduction that doesn’t fit everyone. There’s no reason why a renter can’t take a mortgage interest deduction, right? And everyone’s entitled to $20,000 of employee business expenses…even if their salary is just $40,000 a year. Ask the proprietors of Western Tax Service about that.

* He believes that the income tax is voluntary. After all, we live in a democracy, so we don’t have to pay taxes, right?

* Besides preparing tax returns, he sells courses on why the Income Tax is unconstitutional or how by filing the magical $2295 papers he sells you’ll be able to avoid the income tax.

* He wants you to sign over that tax refund to him. After all, he’ll make sure you get your share of it after he takes out his 50% of the refund.

I think you get the idea. If your tax preparer starts exhibiting symptoms like these, make sure you find someone else. File an extension and seek someone who is not a Bozo.

Like it or not, taxes are part of life. Tax preparers who follow one of the items on the Tax Protester FAQ are Bozos. If you follow a Bozo’s advice you’re just asking for trouble.

With Tax Day fast approaching it’s time to look into the Bozo method of courting disaster. And it doesn’t, on the surface, seem to be a Bozo method. After all, this organization has the motto, Neither rain nor snow nor gloom of night can stay these messengers about their duty.

Well, that’s not really the Postal Service’s motto. It’s just the inscription on the General Post Office in New York (at 8th Avenue and 33rd Street).

So assume you have a lengthy, difficult return. You’ve paid a professional good money to get it done. You go to the Post Office, put proper postage on it, dump it in the slot (before April 15th), and you’ve just committed a Bozo act.

If you use the Postal Service to mail your tax returns, spend the extra money for certified mail. For $2.80 you can purchase certified mail. Yes, you will have to stand in a line (or you can use the automated machines in many post offices), but you now have a receipt that verifies that you have mailed your return.

About three years ago a client saved $2.42 (I think that was the cost of a certified mail piece then) and sent his return in with a $0.37 stamp. It never made it. He ended up paying nearly $1000 in penalties and interest…but he did save $2.42.

Don’t be a Bozo. Efile (and you don’t have to worry at all about the Post Office), or spend the $2.70! And you can go all out and get a return receipt, too (though you can now track certified mail online). There’s a reason every client letter notes, “using certified mail, return receipt requested.”

A warning for those who save the money and do not use return receipt service. The postal service only keeps the computerized (online) records up for two years. So you must print that record of delivery off the postal service’s website. Or you can spend an additional $2.30 for a return receipt postcard or $1.10 for an electronic return receipt. Paper counts, so make sure you get a receipt of some sort.

It’s time for our annual rundown of Bozo Tax Tips, strategies that you really, really, really shouldn’t try. But somewhere, somehow, someone will try these. Don’t say I didn’t warn you.

Here’s a repeat for the third year:

Let’s thank Michael Graham of Queens, New York for coming up with this gem. Mr. Graham decided to file phony tax returns with the IRS. He used consecutive social security numbers on his tax returns.

He did get one tax refund through the system and collected $900. However, the other 1,799 returns were caught by the IRS and he didn’t get the $1.6 million he attempted to collect. He did find his way to court, though….

I strongly suggest that you do not try anything like this. The IRS and state tax agencies do have systems in place to catch bozos who attempt crimes like this. Instead of trying to bilk the system, ask your tax preparer about legitimate deductions that are available for you to take. The regular IRA allows you to deduct $5,000 ($6,000 if you’re 50 or older) from your income (if you’re eligible). You have until April 15th to make your contributions.

And if you’re self-employed, you may be able to contribute to a SEP IRA. You have until your return is timely filed, including extensions, to contribute to a SEP IRA. You can contribute 20% of your net self-employment income up to a maximum of $49,000 to a SEP. This is one tax deduction that’s available until October 15th if you file an extension.

Phony tax returns will likely lead you to a stint at ClubFed (where Mr. Graham went). We recommend the IRA or SEP IRA over ClubFed….