The tax code is complex, and if you make a mistake while filing your taxes, you could be breaking the law, putting you at risk of penalties levied by the Internal Revenue Service (IRS).
If that happens, one of the key factors will be whether you were negligent in filing your taxes or if you committed tax evasion, which is a type of fraud. The difference between these comes down to intent. Although it can be difficult to determine which of these two applies to your situation, the IRS uses the information at hand to figure it out.
Here’s what you need to know on the difference between negligence and tax evasion.
How Negligence Works
The simplest way of defining negligence when it comes to your taxes is that it’s an honest mistake. You did something wrong which likely resulted in you paying less in taxes, but you weren’t intentionally misleading the IRS with your tax return.
Here are a few situations where the IRS would likely consider you negligent with your taxes but not guilty of tax fraud:
• You reported the incorrect amount of income from one of your employers because of a typo.
• You are a freelancer who worked for many clients throughout the previous year and you forget to report one of them.
• You claim a deduction without reading the requirements because you assume you qualify for it, but you actually don’t quality.
What’s important here is that you made what the IRS considered a reasonable attempt to follow all tax laws.
Negligence can obviously be tricky to prove one way or the other, as you can see by the examples above. For example, how can the IRS know if you forgot one of your many clients, or if you were trying to slide by without reporting that client? You’ll need to explain the situation to demonstrate that you weren’t trying to evade your taxes. If your story is reasonable, the IRS will usually give you the benefit of the doubt.
How Fraudulent Tax Evasion Works
When you commit tax evasion, you’re intentionally doing something wrong to avoid a tax that you either know you owe or believe you owe. This can be obvious or subtle, depending on the type of tax evasion. For example, if you don’t file your taxes at all, that’s an obvious method of tax evasion. More subtle methods include the following:
• Underreporting your income or failing to report certain income.
• Making up fake deductions or deducting more than you should for legitimate deductions – it would be fine to deduct a small portion of your house payment if you have a dedicated home office for business purposes, but deducting 75 percent of your home payment would be far too much.
The most common way that people evade taxes is by underreporting their income. This is particularly common among those who are self-employed and those who work in industries where cash payments are common.
It can be difficult to tell the difference between negligence and tax evasion, which is why the IRS will often give the benefit of the doubt to an extent. Let’s use the home office example to illustrate this.
If you deduct a bit more than you should have for your home office and you tell the IRS that you simply got the math wrong on the square footage of the office, that’s a plausible explanation, and you would likely just be considered negligent. If you were deducting most of your home payment for an office that is just one room, that’s a different story. A reasonable person would know that the office takes up only a small portion of their home, which would make that deduction fraudulent tax evasion, not negligence.
The distinction between negligence and tax evasion is critical because the penalties for tax evasion are much more severe. The fines are higher and punishment can even include jail time. It’s important that if there were any issues with your taxes, you demonstrate to the IRS that you only made an honest mistake and were not trying to evade paying what you owed.