Last month, you probably read about Lauryn Hill being sentenced to prison for three months  after she failed to pay federal income taxes for three years. After three months in prison, she’ll have three months of home confinement followed by a year of supervised probation. That’s on top of penalties and taxes she owes plus a $60,000 fine. She’s the latest in a long line of celebrities who have mishandled their taxes and gone to jail for it, the most recent spectacular example has to be Wesley Snipes . He didn’t file tax returns for three years and didn’t pay $7 million in taxes on the basis that he didn’t legally have to pay taxes. He was wrong. He spent 3 years in jail for it.
So the big question is, what if you mess up your taxes or fail to file returns… will you get time in prison? Or is this just a case of judges wanting to set examples?
A Mistake vs. a Cheat
The big difference here is whether you made a mistake on your tax return versus you willfully lied on your tax return. The basic idea is that if you’re a cheater, and the auditor suspects this is the case, they have the option of hitting you with a penalty or referring your case to the IRS criminal investigation division, the CID. Most of the cases will not go to the CID, you’ll simply be hit with a penalty and everyone will go on their merry way.
How do they decide if you made a mistake? It’s a little subjective but like what US Supreme Court Justice Potter Stewart said of obscenity… “I know it when I see it. ” If you forgot to include interest income from a bank, you’ll get a CP2000 letter in the mail because the IRS already got the 1099-INT. If you kept two sets of financial books for your business and the auditor discovers it, chances are you’ll get a visit from the CID. If you mis-typed your Social Security Number, you’ll get a letter. If you used someone else’s Social Security Number, you’ll may get a visit.
Fines, Penalties, Interest
Even if the IRS suspects fraud, you may not get a call from the CID. The auditor has two options available to him or her when it comes to penalties. The first is a 20% penalty simply because you made a mistake (negligence). If they suspect fraud, you might get hit with the bigger 75% penalty, civil penalty for tax fraud. In both cases, you’ll owe interest on the tax due and the penalty. If you owed $10,000 and are hit with the 20% penalty, you’ll owe $12,000 plus interest. If you owed $10,000 and are hit with the larger 75% penalty, you’ll owe $17,500 plus interest.
In the vast majority of cases, auditors will not refer their case to the CID unless it’s especially egregious because it usually means a lot more paperwork and an open case. If the amounts are small, it’s simply not worth the IRS’s time to pursue. Adding a 20%/75% penalty is already a pretty good return on the time, dragging it out may not help. Most of the cases that go to the CID have other factors involved, such as drug trafficking or the numbers were simply too large to ignore. Wesley Snipes failed to pay $7 million taxes, that’s the kind of evasion that needs to be punished with prison time.
What Are The Crimes?
There are really only three crimes they ever charge people with:
- Tax evasion or tax fraud: This is when you intentionally try to evade taxes. It’s a felony with a maximum prison sentence of five years and a maximum penalty of $100,000.
- Filing a false return: Lying on your tax return in some way, it’s often used instead of tax evasion because it’s easier to prove (you don’t have to prove intent to evade taxes). It’s also a felony but with a maximum 3 years and $100,000 fine.
- Failure to file a tax return: The least serious of the three, this is a misdemeanor with a maximum sentance of 1 year and/or a $25,000 fine for each year not filed.
We get comments often on an old post titled “What Law Requires Us To Pay Taxes? ” with plenty of folks chiming in that the government is a fraud and we don’t need to pay taxes. Even if you don’t believe the Internal Revenue Code, like Snipes and his accountant, believe the IRS in their ability to enforce it. You probably won’t go to jail for not paying your taxes but you’ll definitely get hit with hefty penalties.
(Credit: Hot Rod Homepage )