Don't Mess With Taxes

The Internal Revenue Service is holding refunds sought by thousands of filers it suspects inflated those amounts by improperly claiming some tax credits.

While the IRS sorts through these questionable claims, those taxpayers aren’t going to see any refund money. Not even that amount unconnected to the questionable credit claims.

The dubious claims delaying the refunds involve the Fuel Tax Credit, Sick and Family Leave Credit, and household employment taxes.

“Scam artists and social media posts have perpetuated a number of false and misleading claims that have tricked well-meaning taxpayers into believing they’re entitled to big, windfall tax refunds. These bad claims have been caught during our fraud review process,” said IRS Commissioner Danny Werfel in the IRS customer alert issued today.

Bad advice creates worse results: Waiting for a tax refund is always frustrating. But that’s just the start.

These taxpayers, whether they were victims of con artists or bad online advice, are now being asked — instructed — by the IRS to provide legitimate documentation to support their questionable claims. Nobody likes dealing with the federal tax collector beyond filing a return.

In the worst possible case, these taxpayers could see even their valid refunds offset by potential false filing financial penalties.

Some could even face potential follow-up audits, or even criminal action for improper claims.

Three common, and problematic, claims: As noted earlier, there are three questionable claims that keep catching IRS examiners’ eyes this filing season.

They are two credits, for fuel taxes paid and family leave taken, as well deductions for taxes paid by individuals who hire household help. All share a common theme.

These all are legitimate tax provisions, but they are limited to very specialized situations. In most of the cases the IRS is seeing this year, the taxpayers don’t appear to qualify.

Here’s a look at these tax breaks and why the IRS is questioning some of the claims now.

Fuel Tax Credit. This specialized credit is designed for off-highway business and farming use. Taxpayers need a business purpose and a qualifying business activity such as running a farm or purchasing aviation gasoline to be eligible for the credit. Most taxpayers don’t qualify for this credit.

Credits for Sick Leave and Family Leave. This specialized credit is available for individual who were self-employed in 2020 and 2021 during the COVID-19 pandemic; it is not available for 2023 tax returns. The IRS says it has seen repeated instances of this claim this filing season. Taxpayers are using Form 7202, Credits for Sick Leave and Family Leave for Certain Self-Employed Individuals, to improperly claim a credit based on income earned as an employee, not as a self-employed individual.

Household employment taxes: This scam requires taxpayers to invent fictional household employees. They then file Schedule H (Form 1040), Household Employment Taxes, to claim a refund based on false sick and family medical leave wages they never paid.

“These improper claims have been fueled by social media and people sharing bad advice,” Werfel said. “Scam artists constantly prey on people’s hopes and try to use the complexity of the tax system to convince people there are secret ways to get a big refund.”

IRS following up on frozen refunds: Those bigger refund hopes, however, have backfired in these cases.

The IRS has frozen refunds for taxpayers who filed using these questionable claims. Again, this is these filers’ full refunds, not just the portion attributable to false claim.

And now taxpayers who did fall for these traps have heard, or soon will, from the IRS. They will generally receive one of several letters from the IRS asking for additional information.

Initially, taxpayers may have received a letter asking them to verify their identity. In these situations, if they filed the return in question, they should review whether their tax return is accurate. For example, did they actually qualify for one of the three credits listed above?

A number of taxpayers who initially received correspondence asking about their identity may receive an additional letter seeking additional documentation to show they actually qualify for the credits they claimed.

Frivolous filing implications: Note that the IRS letters are based on Notice 3176c, which applies to potentially frivolous tax returns.

Frivolous filings are no joke. The IRS takes them seriously, and so should taxpayers, whether they make the claims on their own or were scammed into making the false filing.

Taxpayers who don’t qualify for these tax credits could face a penalty of up to $5,000 per return for filing a frivolous claim.

Taxpayers submitting inaccurate claims also face the risk of an audit. Those who knowingly filed a false tax return also face potential criminal prosecution.

This is a good time to talk to a reputable tax adviser, who can help keep things from escalating. That tax pro can help you review the claim in question. The preparer also can help you file, if necessary, an amended tax return that omits the claims for which you don’t qualify.

Act on notice: So, follow the first rule of dealing with a tax notice. Don’t ignore it.

Then take the steps the IRS requests, preferably after consulting with a trained tax pro.

You want to straighten out the bad claim as soon as possible to avoid even more IRS trouble.

Plus, right now you want to get the legitimate amount of refund you’re due.

You also might find these items of interest:

• Don't fall for frivolous tax arguments
• 10 tips to help you deal with an IRS tax notice
• IRS Dirty Dozen scams for 2024: Part 1 and Part 2
• Tread lightly when taking tax advice from AI & social media

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