Free Guide to Recognizing and Reporting IRS Fraud

Understanding IRS Fraud: What It Is and Why It Matters

IRS fraud occurs when someone intentionally deceives the Internal Revenue Service to gain money, benefits, or avoid paying taxes they owe. This can happen in many forms, from filing false tax returns to claiming deductions that don't exist to identity theft where criminals use stolen Social Security numbers to file fraudulent returns. The IRS estimates that the "tax gap"—the difference between taxes owed and taxes paid—costs the government billions of dollars each year. In 2023, the Treasury Inspector General for Tax Administration reported that refund fraud alone costs taxpayers hundreds of millions annually.

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IRS fraud isn't a victimless crime. When some people don't pay their fair share of taxes, the burden falls on honest taxpayers and reduces funding for roads, schools, Social Security, and other government services. Additionally, victims of identity theft used for tax fraud often discover the crime only when they try to file their own returns and learn someone has already filed using their information.

Fraud can be committed by individuals, businesses, tax professionals, or organized criminal rings. Common schemes include inflating business expenses, falsifying charitable donations, hiding income in offshore accounts, claiming false dependents, and creating fraudulent business entities to launder money. Some scams are sophisticated and target specific industries, while others are straightforward attempts to get larger refunds than deserved.

Recognizing the different types of IRS fraud is the first step in identifying suspicious activity—whether in your own situation, among people you know, or in your workplace. Understanding what constitutes fraud helps separate honest mistakes (which happen to many taxpayers) from intentional deception. The IRS distinguishes between errors made in good faith and fraud, which involves deliberate misrepresentation of facts.

Practical Takeaway: IRS fraud takes many forms, from individual tax return falsification to organized schemes. Learning the difference between common fraud types and honest filing mistakes helps you recognize problems when they occur.

Red Flags: How to Spot Suspicious Tax Activity

Certain patterns and behaviors signal that tax fraud may be occurring. One major red flag is when someone receives tax documents (like W-2s or 1099s) they didn't expect, or when their tax preparer pressure them to claim deductions they know are false. Another sign is when a business suddenly reports much lower income than usual without legitimate business reasons, or when someone claims deductions for activities that obviously aren't business-related.

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Behavioral red flags include when tax preparers encourage clients to keep minimal records, offer unusually large refunds without careful analysis of finances, or demand payment in cash. Legitimate tax professionals maintain documentation and follow IRS regulations. If a tax preparer seems unconcerned about whether information is accurate, that's a serious warning sign.

Personal financial red flags involve lifestyle mismatches—when someone has expensive homes, luxury vehicles, and lavish spending but reports very low income on their tax return. This discrepancy can indicate unreported income or money from illegal sources being laundered through fraudulent tax returns. Similarly, if someone has substantial investment income but doesn't report it, or claims business losses year after year without any legitimate business operations, these patterns warrant attention.

In the workplace, fraud indicators include employees with access to financial records who live well beyond their apparent salary, sudden changes in lifestyle that can't be explained by inheritance or legitimate investment gains, and employees who become defensive or secretive about financial matters. Business-level red flags include sharply increased deductions without increased business activity, transactions with related parties at non-market prices, and accounting records that don't reconcile with actual business operations.

Digital red flags include receiving email or phone calls claiming to be from the IRS demanding immediate payment or threatening arrest—the IRS doesn't initiate contact this way. Receiving tax documents for income you didn't earn, or discovering unfiled returns in your name, both indicate potential identity theft for tax fraud purposes.

Practical Takeaway: Watch for inconsistencies between reported income and lifestyle, pressure from tax professionals to claim false deductions, unexpected tax documents, and claims of deductions that don't match actual business activities. These patterns often indicate fraudulent activity.

Common Types of IRS Fraud and Fraud Schemes

Refund fraud is among the most common schemes. Perpetrators file tax returns claiming inflated withholdings or false credits to receive refunds they don't deserve. Identity theft refund fraud involves using stolen Social Security numbers and personal information to file returns and claim refunds before the legitimate taxpayer files. According to the Treasury Inspector General, identity theft resulted in over $16 billion in fraudulent refunds during a five-year period.

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Earned Income Tax Credit (EITC) fraud involves claiming this refundable credit with false information about dependents, income, or filing status. Because EITC can result in refunds of several thousand dollars, it's a frequent target. Similarly, Child Tax Credit fraud occurs when people claim credits for children who don't exist or who don't meet the relationship requirements.

Business income fraud includes underreporting business income, inflating business expenses, or claiming personal expenses as business deductions. For example, someone might claim personal vehicle expenses as business use when the vehicle is primarily for personal transportation. Home office deductions are frequently overstated, with people claiming too much square footage or personal spaces as business areas.

Charitable donation fraud involves claiming deductions for donations that were never made or inflating the value of donated items far beyond fair market value. For instance, someone might donate a used vehicle worth $3,000 but claim a $15,000 deduction. Preparer fraud occurs when tax professionals themselves commit fraud, either by filing false returns for clients they know are inaccurate or by stealing client information for identity theft schemes.

Offshore account schemes involve hiding income in foreign accounts or claiming false foreign tax credits. Fake business entity fraud creates shell companies primarily to hide income or claim false deductions. Employment tax fraud happens when employers misclassify workers as independent contractors to avoid payroll taxes, or when they fail to deposit withheld taxes.

Abusive tax shelter fraud involves participation in tax schemes promoted as "legal" ways to eliminate or drastically reduce tax liability, often with unrealistic promises. These schemes frequently target high-income individuals and can involve complex transactions with little substance other than creating paper losses.

Practical Takeaway: IRS fraud includes refund schemes, misreported business income, false credits, charitable donation overstatements, and identity theft. Recognizing these specific types helps you identify fraud in situations you encounter.

Reporting Suspected IRS Fraud: Where and How

The IRS has several mechanisms for reporting suspected fraud. The primary method is through Form 13909, "Information Referral," which is the official form for reporting suspected tax law violations. This form can be submitted online through the IRS website, mailed to the IRS Criminal Investigation division, or filed anonymously. The IRS maintains a dedicated website section where people can report suspected tax fraud, and this information goes directly to the Criminal Investigation unit that handles fraud cases.

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When reporting fraud, provide as much specific information as possible. Include the suspect's name, address, phone number, and Social Security number if available. Describe the suspected fraud in detail: What specific violations do you suspect? What evidence supports your suspicion? What time period does the fraud cover? Include relevant documents such as tax returns, financial statements, bank records, emails, or other evidence that supports your report. The more detailed your information, the more useful it is to investigators.

For workplace fraud, you may also report to the Department of Labor's Office of Inspector General, the FBI, your state's tax agency, or your company's internal compliance or ethics hotline. Many organizations have anonymous reporting systems specifically designed to receive fraud reports without identifying the reporter. If the fraud involves money laundering or organized crime, the Financial Crimes Enforcement Network (FinCEN) accepts reports of suspicious financial activity.

If you're a tax professional who knows of fraud committed by a colleague, you have reporting obligations under IRS Circular 230, which governs tax professional conduct. The IRS Office of Professional Responsibility investigates complaints against tax professionals who violate these standards.

For identity theft used in tax fraud, report it to the Federal Trade Commission at IdentityTheft.gov, which creates an identity theft report that can help resolve the fraud. Also file a Form 13909 with the IRS specifically noting the identity theft. Contact the IRS Identity Protection Specialized Unit if your Social Security number has been used fraudulently on a tax return.