Understanding the Difference Between Tax Evasion and Avoidance

The terms “tax evasion” and “tax avoidance” are often used interchangeably. Although a surface similarity exists (failure to remit the correct amount of tax due), one is a criminal offense and the other can only expose you to civil penalties at most. When deciding whether a taxpayer is guilty of tax evasion or avoidance, the IRS seeks to answer the question: Are they lying or hiding?

What Is Tax Evasion?

Tax evasion is the willful act of failing to file your tax returns, pay your tax debt, or both. Unlike tax avoidance, which is calculated to minimize liability, evasion attempts to avoid it entirely. Common strategies include:

  • Intentionally omitting or under-reporting income. Examples include a waiter or waitress’s deliberate failure to report cash tips.
  • Concealing or transferring income or assets.
  • Making false or overstated deductions. Common examples include overstating travel expenses and inflating the amount of charitable deductions.
  • Keeping two sets of books for a single company.
  • Making fraudulent entries in company records.
  • Carrying out sham transactions, such as paying dividends to stockholders and labeling them as ‘interest’ to disguise the payments.

Being a criminal act, tax evasion has serious implications. Although the type and extent of the fraudulent activity determine the applicable penalty, potential punishments include a felony conviction, imprisonment of up to five years, and/or a fine of up to $250,000 for individuals and $500,000 for corporations, plus the cost of prosecution.

What Is Tax Avoidance?

Tax avoidance uses legitimate ways to reduce tax liability. What can make it a questionable practice is that it takes advantage of shortcomings and loopholes in the law to reduce the amount owed. 

In the 1935 case Gregory v. Helvering, the Supreme Court acknowledged that taxpayers are legally entitled to use tax-efficient alternatives to structure a transaction, and defined legal tax avoidance as strategies that lower, minimize, alleviate, or avoid taxes through legitimate means. Examples include:

  • Minimizing a business tax bill by making legitimate deductions such as travel expenses, office utilities, rent, and more. 
  • Taking tax credits for legitimate spending, such as the Work Opportunity Tax Credit for hiring employees. 
  • Depositing funds into an IRA, SEP-IRA or 401(k) in order to defer taxation until a later date.
  • Taking advantage of accelerated depreciation.
  • Holding investments longer to benefit from a lower capital gains tax rate.

The US Tax Code is complicated and has multiple gray areas, which is why some taxpayers can unintentionally cross the divide between tax avoidance and evasion. If this happens to you, it is imperative that you consult with an experienced tax attorney with a strong record of defending clients in both state and federal matters.

Contact a Seattle Tax Attorney

If you have been accused of a tax crime after the IRS assessed your income tax liability, contact Boeshaar Law immediately. Attorney Bob Boeshaar spent 14 years as a trial lawyer for the IRS in US Tax Court, so he understands how the government works and will negotiate or litigate for the best outcome in your case. He also holds a Master of Laws in Taxation from the University of Washington and remains current on changing tax laws, so you have a knowledgeable and committed advocate in your corner. For more information, contact us or call (206) 899-4860.

Written by Robert V. Boeshaar

Robert V. Boeshaar

Robert V. Boeshaar is a Seattle tax attorney committed to helping individuals and small businesses who are facing problems with the IRS. He believes in using his experience to serve others and to make a difference in their lives.