Tax Evasion: What is it and How are People Prosecuted?

Tax evasion, or tax fraud, is an illegal act defined as the intentional non-payment or under-payment of taxes. Official reports estimate that the IRS loses between $400 billion and $500 billion a year in unpaid taxes, which is why the federal government expends so much time, money, and energy on prosecuting tax evaders and why the penalties are so severe.

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But what constitutes tax evasion, is this something you can do accidentally, how many people are prosecuted every year for this offense and what is the difference between tax avoidance and tax evasion?

We will address all of these topics and more in this complete guide to tax evasion, tax avoidance, and other common issues.

What Constitutes Tax Evasion?

Tax evasion is the incorrect or improper filing of tax returns for the purpose of paying less money to the IRS. If you hide earnings, whether because you were paid in cash, have a small business on the side or simply neglected to mention a few pay checks, you are committing tax fraud. 

You are also committing tax fraud if you report expenses that are not allowed or are not tied to your business or income. If it feels wrong, it probably is, but you’re generally safe with honest mistakes as the government will need to prove that you intentionally filed incorrectly to prosecute you.

However, this doesn’t mean that you can intentionally “forget” or overlook a few payments and then claim an error, because if they can prove otherwise then you will be prosecuted, and even if not, you will still need to cover the unpaid taxes.

What is the Difference Between Tax Avoidance and Tax Evasion?

Tax evasion and tax avoidance both have the same goal as they both lead to smaller tax bills. However, there is one important difference between the two: Tax evasion is an illegal act where tax avoidance is not.

Tax evasion, as discussed above, entails hiding money, adding expenses that don’t qualify, and generally trying to keep the IRS in the dark concerning your finances. Tax avoidance, however, involves the use of sneaky tactics to divert money away from the IRS without breaking any laws. Many consider tax avoidance to be immoral, but it is not illegal and it’s something that countless millionaires and billionaires practice every year.

Tax avoidance can also include fairly innocent and common methods, such as increasing expenses and giving money to charity, but generally, when you see this term used it refers to schemes created with the sole purpose of saving taxpayers some money.

How Many People go to Jail for Tax Evasion?

Statistically, Americans are more likely to pay their taxes than the average global citizen. This doesn’t necessarily mean that Americans are more honest or more willing to fund government activity. Instead, it’s likely a combination of relatively low tax rates (you may think the tax rates are extortionately high, but we actually have one of the lowest tax rates in the developed world) and strict penalties.

Every year, between 1,000 and 2,000 taxpayers go to jail for non-payment of taxes, but as discussed below, a large number of these are actually there for different reasons.

Who Goes to Jail for Tax Evasion?

Estimates suggest that millions of Americans are cheating on their taxes, yet only a handful of these go to jail. There are several reasons for this. Firstly, many “tax cheats” are simply desperate individuals who need the money to pay bills and feed their families. Wages are stagnant when compared to the ever-rising cost of living and this creates a state of desperation across the nation.

Secondly, as discussed above, the government needs to prove that the taxes were withheld intentionally and not mistakenly, which isn’t easy to prove. Finally, and most importantly, the government is only interested in prosecuting those who blatantly and grossly abuse the system; the billionaires and millionaires who shave 6 and 7-figure sums off their tax bills, and not the average family looking to save a few hundred bucks.

Prosecutors also use tax evasion to chase organized criminals. In this sense, tax evasion is used like a loophole. Al Capone is a great example of this. Authorities suspected that he was involved in multiple murders and other serious crimes and had all but confirmed this, but they couldn’t prove it and convict him in a court of law. So, they focused on his income and the fact that he wasn’t paying his fair share.

As preposterous as it sounds, you are required, by law, to report all ill-gotten gains on your tax returns. If you make any money selling stolen goods or committing robberies, technically, you’re supposed to report it. Unsurprisingly, very few individuals actually do, and if that criminal ever finds themselves in court, prosecutors can just follow the money, highlight the unpaid taxes, and then prosecute them for tax fraud.

How Long do you go to Jail for Tax Evasion?

Tax evasion comes with a maximum jail time of 5 years and a fine of $250,000 for individuals and $500,000 for companies. You may also be required to cover legal costs and repay any unpaid taxes, making this a very costly process. They say that cheats never prosper and crime doesn’t pay—those sayings are definitely true where tax evasion is concerned.

What Happens when you Report Someone for Tax Evasion?

If you suspect that an individual or a business is committing tax fraud you can report them to the IRS. They will send you a form that you need to complete and then send away. 

The IRS pays cash rewards to informants via the IRS Whistleblower Program, providing the report results in a conviction. However, due to the nature of these offenses and the fact they can take years to complete, it may be some time before you get your reward.

Before you start making your claims, it’s worth noting that the IRS is only interested in real claims made against serious criminals. They don’t care if your colleague has skimmed a few dollars off their tax bill, nor are they interested in tax avoidance schemes (which, as discussed above, are legal). However, if you know of a business that is defrauding the government out of millions of dollar, click the link above and discover how you can file a claim.