Every year the IRS publishes its list of the top tax scams that taxpayers should be aware of, known as the Dirty Dozen. I discussed the IRS’s 2021 Dirty Dozen list in a prior web article,[1] and the IRS has recently released its 2023 Dirty Dozen list.[2] Several of these scams are designed to steal personal information and money from unsuspecting victims, while others are attempts to defraud the government. This year’s list includes a mix of old and new scams, with some variations from previous years. In this article, I will delve into each of the scams on the 2023 Dirty Dozen list and provide information on how to avoid them. I have taken the liberty to reorder the 2023 list to begin discussion with the four scams which are listed on both the 2021 and 2023 lists.
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Phishing and Smishing
Phishing is a common tactic used by scammers to trick taxpayers into providing personal and financial information. This can include passwords, Social Security numbers, and credit card information. Scammers will often use email, phone calls, or text messages (known as “smishing”) to lure their victims into giving up their information.
In recent years, phishing and smishing scams have become more sophisticated, with scammers using more advanced techniques to make their messages look legitimate. For example, they may use logos and branding from well-known companies to make their emails look like they’re from a legitimate source. They may also create fake websites that look like the real thing to trick taxpayers into entering their personal information.
To protect themselves from phishing and smishing scams, it’s important for taxpayers to be cautious when opening emails or text messages from unknown senders. They should not click on links or download attachments from these messages, as they may contain malware that can steal personal information. Instead, taxpayers should visit the company’s website directly by typing the address into their browser or using a saved bookmark.
Taxpayers should similarly be aware of emails or messages claiming to be from the IRS. The IRS will never initiate contact with taxpayers by email or text message, or social media channels to request personal or financial information. Taxpayers should not click on links claiming to be from the IRS and should be wary of emails and websites, as they may be nothing more than scams to steal personal information.
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Unscrupulous Tax Return Preparers
Selecting the right return preparer is important. They are entrusted with a taxpayer’s sensitive personal data. Most tax professionals provide honest, high-quality service, but dishonest preparers pop up every filing season committing fraud, harming innocent taxpayers, or convincing taxpayers to do illegal things they later regret. Unscrupulous tax preparers can steal refunds, charge inflated fees, and engage in other illegal activities. Often the preparer promises a large refund, but accomplishes such by claiming bogus deductions or credits, falsifying information, or other illicit methods. If the tax preparer commits tax fraud, the taxpayer is generally going to be held responsible for any penalties or fees that result. In some cases, the preparer may even use their client’s personal information to commit identity theft, leading to serious financial and legal problems.
Taxpayers should avoid so-called “ghost” preparers who expose their clients to potentially serious filing mistakes as well as possible tax fraud and risk of losing their refunds. Ghost preparers do not sign the tax returns they prepare. They may print the tax return and tell the taxpayer to sign and mail it to the IRS. For e-filed returns, the ghost preparer will prepare but not digitally sign as the paid preparer. By law, anyone who is paid to prepare or assists in preparing federal tax returns must have a Preparer Tax Identification Number (PTIN).[3] Paid preparers must sign and include their PTIN on returns.[4]
To avoid return preparer fraud, it is important for taxpayers to do their research before hiring a tax preparer. Taxpayers should look for preparers who have a PTIN and who are members of professional organizations such as the National Association of Enrolled Agents or the American Institute of Certified Public Accountants and avoid preparers who promise inflated refunds or who charge excessive fees. Taxpayers must remember that they are ultimately responsible for the accuracy of their tax return and should review it carefully before signing and submitting it.
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Fake Charities
Fake charities are a common tax scam that can be especially prevalent in times of crisis or natural disasters. These scammers prey on people’s willingness to help those in need and use a variety of tactics to solicit donations that never actually make it to the intended cause, such as cold calling, sending unsolicited emails or letters, or even going door-to-door. These organizations may use similar names or logos to real charities in order to trick donors into giving money. They may use high-pressure tactics to get taxpayers to donate, such as claiming that they will receive a tax deduction for their contribution.
To avoid fake charities, it’s important that taxpayers research any charity before making a donation. Potential donors should ask the fundraiser for the charity’s exact name, employer identification number, web address, and mailing address, and confirm such information with tools like the IRS’s Tax Exempt Organization Search or to IRS Publication 78 Data available here. Taxpayers should be wary of charities that pressure them to make an immediate donation or that refuse to provide the above-mentioned detailed information. A legitimate charity will be happy to get a donation at any time, so there is no rush. If the taxpayer decides to make a donation, they should not give cash and should avoid any charity which requests payment in the form of a gift card or by wire. Instead, taxpayers can use a credit card or check, which can be tracked (and possibly cancelled or reverse charged) and provide a record of the donation.
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Offer in Compromise Mills
An offer in compromise (“OIC”) is a program offered by the IRS that allows taxpayers to settle their tax debt for less than the full amount owed under Section 7122. Unfortunately, there are some unscrupulous companies that exaggerate chances to settle tax debts for “pennies on the dollar” so they can collect a hefty fee from vulnerable taxpayers already struggling with their finances. These scams are commonly called OIC “mills,” which cast a wide net for taxpayers, charge them pricey fees (often upfront), and churn out applications for a program the taxpayers are unlikely to qualify for.
Generally, the IRS will accept an OIC when it is unlikely that the tax liability can be collected in full, and the amount offered by the taxpayer reasonably reflects the taxpayer’s collection potential. The goal of an OIC is to collect what is potentially collectible at the earliest possible time and at the least cost to the government.
Although the OIC program helps thousands of taxpayers each year reduce their tax debt, not everyone qualifies for an OIC. Taxpayers should be especially wary of promoters who claim they can obtain larger offer settlements than others, that claim they have a special relationship with the IRS that will allow them to negotiate better deals, or who make promises that the IRS will accept an offer for a small percentage. According to the IRS, companies advertising on TV or radio frequently cannot do anything for taxpayers that they cannot do for themselves by contacting the IRS directly. The IRS suggests taxpayers go to IRS.gov and review the Offer in Compromise Pre-Qualifier Tool to see if they qualify for an OIC.
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Employee Retention Credit Claims
The Employee Retention Credit (“ERC”) is a tax credit that was created by the CARES Act in 2020 to help businesses keep employees on payroll during the COVID-19 pandemic by providing a refundable tax credit of up to $7,000 per employee per quarter. The credit is available to businesses that experienced a significant decline in gross receipts or were forced to partially or fully suspend operations due to COVID-19. Unfortunately, scammers have taken advantage of this program by falsely claiming the credit for employees who were not actually retained, claiming the credit for employees who were not eligible, or inflating the amount of wages paid to employees in order to receive a larger credit. The IRS is very focused on the ERC currently and has just issued yet another warning (the third in several months) warning taxpayers against improperly claiming this credit.[5]
The first step to avoiding most tax credit related fraud is to work with a reputable tax professional, such as a CPA or tax attorney. With respect to the ERC, it is important for taxpayers to make sure they understand the eligibility requirements for the credit. The ERC is only available to businesses that were impacted by the COVID-19 pandemic, and there are specific requirements for the decline in gross receipts and the suspension of operations. As we commonly preach, taxpayers should ensure that they keep detailed records of payroll and other expenses related to the credit.
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False Fuel Tax Credit Claims
The other tax credit scam on the 2023 Dirty Dozen list is related to the fuel tax credit. This scam has been listed on the Dirty Dozen list in recent years. The fuel tax credit is available to certain taxpayers who use gasoline, diesel fuel, or other types of fuel for certain purposes, such as farming or off-highway business use. The credit is designed to offset the federal excise tax that is included in the price of fuel. However, scammers will often claim the credit for non-qualifying uses of fuel (such as personal use), claiming the credit for fuel that was not actually used, or claiming the credit for more fuel than was actually used.
Unlike the false ERC claims, most of the false fuel credit claims are perpetrated by taxpayers themselves rather than being pitched to taxpayers from promoters. Thus, it is even more important for taxpayers to understand the eligibility requirements for the credit. The credit is only available for certain uses of fuel, such as farming or off-highway business use. Taxpayers should of course ensure they keep detailed records of fuel usage and only claim the credit for eligible vehicles and purposes. Of course, having a reputable tax professional to assist is always recommended.
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Online Account Help from Third-Party Scammers
Online account help from third-party scammers is a common tax scam that has become increasingly prevalent in recent years. This scam involves fraudsters posing as IRS representatives or third-party tax professionals and offering to “help” taxpayers with their IRS online accounts. The scammers may contact taxpayers by phone, email, or social media, and may use a variety of tactics to convince them to provide personal information or payment.
In some cases, the scammers may claim that the taxpayer’s online account has been compromised or that there is a problem with their tax return. They may then offer to help the taxpayer resolve the issue, but will require them to provide personal information, such as their Social Security number or bank account details, or make a payment. In other cases, the scammers may claim to be able to help the taxpayer access tax refunds or credits that they are not entitled to and may request a payment in exchange for their assistance.
Taxpayers can set up their own IRS online accounts for free at IRS.gov, and should be the only ones to establish their account. Taxpayers should not accept third-party assistance (other than the approved IRS authentication process through IRS.gov) to set up their accounts and should NEVER share their account information with anyone.
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Social Media: Fraudulent Form Filing and Bad Advice
Social media has become a popular platform for spreading misinformation and fraudulent activities, and unfortunately, tax scams and bogus tax advice are no exceptions. One way scammers exploit social media platforms is by creating fake accounts or pages that appear to be legitimate government agencies or tax preparation companies. They may then use these accounts to solicit personal information or to spread misinformation about tax laws and regulations.
Another common tactic is to offer free or low-cost tax preparation services through social media. These services may be advertised as a way to save money or to simplify the tax preparation process, but in reality, they are often a ploy to collect personal information or to trick taxpayers into paying fees for unnecessary or fraudulent services.
In some cases, scammers may also use social media to spread false information about tax laws and regulations. This misinformation can cause confusion and may lead taxpayers to make costly mistakes on their tax returns. Several recent examples noted by the IRS include advice regarding common tax documents like Form W-2 or more obscure ones like Form 8944. While Form 8944 is real, it is intended for a very limited, specialized group. Both schemes encourage people to submit false, inaccurate information in hopes of getting a refund.
Taxpayers should be cautious of any offers that seem too good to be true, such as promises of large tax refunds or excessively low tax preparation fees. As with several of the other scams on the Dirty Dozen list, taxpayers should be wary of unsolicited communications regarding tax advice or tax preparation services. To protect against compromising their account information, taxpayers should always use strong, unique passwords for all of their social media and online accounts and can consider using two-factor authentication for added security.
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Spearphishing and Cybersecurity for Tax Professionals
Spearphishing is a type of phishing that focuses on targeting specific individuals or organizations. These messages often contain malicious links or attachments that can steal sensitive information or install malware on the victim’s computer. In the context of tax scams, spearphishing often involves targeting tax professionals, such as accountants and tax preparers, who have access to sensitive financial information. Scammers may send emails that appear to come from the IRS or other legitimate sources, requesting login credentials or other sensitive information. Once the scammers have access to this information, they can use it to file fraudulent tax returns or engage in other types of identity theft. This can be particularly damaging for tax professionals, who may be held liable for any losses suffered by their clients because of a data breach.
Steps that tax professionals can take to prevent spearphishing and other cybercrime include training all employees on cybersecurity best practices, using strong passwords and two-factor authentication, installing antivirus software, encrypting sensitive data, and keeping systems and software up to date.
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Schemes Aimed at High-Income Filers
High-income (and high net worth taxpayers) have more of an incentive to mitigate their taxes payable than the average taxpayer, given that they are generally taxed at the highest rates. While there are plenty of legitimate options for taxpayers to accomplish this goal, those options don’t always provide as much impact as taxpayers are hoping to see. Thus, creating a market for certain promoters or advisors to push otherwise legitimate tax strategies to the point of being classified as tax scams. For an example of one such abusive arrangement, see the Meyers case, in which Mr. Meyers (an attorney) marketed and sold the “Ultimate Tax Plan” targeted at individuals in high tax brackets.[6] The two “schemes” singled out on the 2023 Dirty Dozen List are Charitable Remainder Annuity Trusts (“CRAT”) and Monetized Installment Sales.
A CRAT is a type of charitable trust that can be established to provide a fixed annual income to one or more beneficiaries for life or a set period of time. At the end of the trust term, the remaining assets are distributed to one or more charitable organizations. CRATs can be a legitimate way to support charitable causes while also providing a source of income for the trust beneficiaries. Unfortunately, these trusts are sometimes misused by promoters, advisors, and taxpayers to try to eliminate ordinary income and/or capital gain on the sale of the property.
A monetized installment sale is an attempt to obtain the tax deferral benefits of an installment sale provided under IRC Section 453 while also receiving cash up front. In a monetized installment sale, the taxpayer sells the asset to a third-party buyer in exchange for a promissory note, then “monetizes” the installment note via a separate, tax free borrowing. The IRS released CCA 202118016 in May of 2021, essentially stating that monetized installment sales do not work (or at least most of the common features are problematic). For a more in-depth discussion of monetized installment sales, see Gray Edmondson’s article.[7]
Taxpayers’ best bet for avoiding the potentially abusive “schemes” constituting the last three items on the 2023 Dirty Dozen list is to only use reputable tax professionals who can adequately advise them of the risks involved with structuring transactions in a particular way. Of course keeping the old adage of “when something seems too good to be true, it probably is” in mind can save a great deal of heartache when a trustworthy tax professional isn’t accessible.
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Bogus Tax Avoidance Strategies
While technically referred to via a different heading in 2023, the IRS is still concerned with micro-captive insurance arrangements and syndicated conservation easements, same as they were in 2021. As was my position in my 2021 article, I still believe that syndicated conservation easements are an issue for Congress to address. According to the IRS, in syndicated conservation easements promoters take a provision of tax law for conservation easements and twist it through using inflated appraisals of undeveloped land and partnerships. Once again per the IRS, these abusive arrangements are designed to game the system and generate inflated and unwarranted tax deductions, often by using inflated appraisals of undeveloped land and partnerships devoid of a legitimate business purpose. For more information recent developments on the conservation easement front, see Parker Durham’s recent article on the Brooks case and Josh Sage’s article discussing Green Valley Investors, LLC.[8]
A micro-captive is an insurance company whose owners elect to be taxed on the captive’s investment income only. Per the IRS, in abusive “micro-captive” structures, promoters, accountants, or wealth planners persuade owners of closely held entities to participate in schemes that lack many of the attributes of insurance. For example, coverages may “insure” implausible risks, fail to match genuine business needs, or duplicate the taxpayer’s commercial coverages. But the “premiums” paid under these arrangements are often excessive and used to skirt tax law.[9] As a result of recent decisions in the Sixth Circuit and the U.S. Tax Court that held that the IRS lacks authority to identify listed transactions, the IRS just released proposed regulations identifying certain micro-captive transactions as “listed transactions” and “transactions of interest” in an attempt to mitigate the effects on the IRS’s efforts to combat purported tax shelters.[10]
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Schemes With International Elements
The IRS continues to scrutinize taxpayer attempts to hide assets in offshore accounts and accounts holding digital assets, to improperly use the Maltese treaty with regard to individual retirement accounts, and to utilize Puerto Rican and foreign captive insurance.
Offshore accounts and digital assets are commonly used by taxpayers to hide assets and income from the IRS. Offshore accounts are bank accounts or financial accounts that are located in foreign countries. Digital assets, on the other hand, are a new type of asset that is stored in digital form, such as cryptocurrencies like Bitcoin. While offshore accounts and digital assets can be used for legitimate purposes, they are also frequently used to evade taxes and hide income. Taxpayers who fail to report offshore accounts or digital assets to the IRS can face severe penalties and fines.
The IRS has implemented a number of programs and initiatives to combat offshore tax evasion. These programs include the Foreign Account Tax Compliance Act (FATCA), which requires foreign financial institutions to report information about U.S. account holders to the IRS. The IRS has also implemented the Offshore Voluntary Disclosure Program (OVDP), which allows taxpayers to come forward and disclose previously undisclosed offshore accounts and assets.
Maltese individual retirement arrangements (IRAs) are a type of retirement plan that is designed to provide tax benefits to individuals who live and work in Malta. However, some taxpayers have been known to misuse these plans by claiming that they are residents of Malta and using the plan to shelter income from U.S. taxation.
Captive insurance is a form of self-insurance that is used by businesses to insure against risks that traditional insurance policies do not cover. Captive insurance companies are typically located in foreign countries, where they can take advantage of lower tax rates and looser regulations. While captive insurance can be a legitimate way for businesses to manage their risk and reduce their insurance costs, it can also be used as a vehicle for tax fraud and abuse. Some U.S. business owners of closely held entities have been known to set up Puerto Rican or foreign captive insurance companies in which the U.S. business owner has a financial interest. The U.S. business owner (or a related entity) then claims a deduction for amounts paid as premiums for “insurance coverage” provided by a fronting carrier, which reinsures the “coverage” with the Puerto Rican or other foreign corporation. Despite being labeled as insurance, taxpayers should be particularly wary of these types of arrangements which may lack many of the attributes of legitimate insurance, and therefore be particularly subject to attack by the IRS.
Conclusion
The IRS publishes its Dirty Dozen list each year for multiple reasons. Primary among these motivations is to inform the unwary of those schemes that might be perpetrated against them to reduce the likelihood of success. The more informed taxpayers are regarding how these scams work, the more protected they can be. The Dirty Dozen list also provides a convenient method for encouraging taxpayers to report individuals who promote improper and abusive tax schemes as well as tax return preparers who deliberately prepare improper returns. Finally, by informing taxpayers that the agency has its eye on these transactions, they deter those who might voluntarily perpetrate such schemes because the taxpayers know that doing so will place a target on their back.
[1] Devin Mills, “IRS Demands iTunes Cards? Beware the Dirty Dozen!” (September 14, 2021), https://esapllc.com/scams-and-dirty-dozen-2021/#_ftn13.
[2] IR-2023-71 (April 5, 2023), https://www.irs.gov/newsroom/irs-wraps-up-2023-dirty-dozen-list-reminds-taxpayers-and-tax-pros-to-be-wary-of-scams-and-schemes-even-after-tax-season.
[3] Treas. Reg. § 1.6109-2(d).
[4] IRC § 6109(a)(4) and Treas. Reg. §§ 1.6109-2(a)(1), 1.6109-2(a)(2)(ii), 1.6695-1(c)(1).
[5] IR-2023-40, March 7, 2023, “IRS issues renewed warning on Employee Retention Credit claims; false claims generate compliance risk for people and businesses claiming credit improperly,” https://www.irs.gov/newsroom/irs-issues-renewed-warning-on-employee-retention-credit-claims-false-claims-generate-compliance-risk-for-people-and-businesses-claiming-credit-improperly.
[6] United States v. Meyer, No. 18-CV-60704, 2021 WL 2905304 (S.D. Fla. Mar. 21, 2019).
[7] Gray Edmondson, “Monetized Installment Sale: Cash Today, Tax Today?” (June 17, 2021), https://esapllc.com/monetized-installment-sale-2021/.
[8] Parker Durham, “Conservation Easements: The Importance of Proper Planning and Compliance” (January 17, 2023), https://esapllc.com/brooks-ce-case-2022/#_ftn1; Josh Sage, “Goodbye Notice 2017-10” (November 15, 2022), https://www.esapllc.com/goodbye-notice-2017-10/#_ftn2.
[9] IR-2019-157, September 16, 2019, “IRS offers settlement for micro-captive insurance schemes; letters being mailed to groups under audit,” https://www.irs.gov/newsroom/irs-offers-settlement-for-micro-captive-insurance-schemes-letters-being-mailed-to-groups-under-audit.
[10] IR-2023-74, April 10, 2023, “Treasury and IRS propose regulations identifying micro-captive transactions as abusive tax transactions,” https://www.irs.gov/newsroom/treasury-and-irs-propose-regulations-identifying-micro-captive-transactions-as-abusive-tax-transactions.
