Tax Avoidance vs Evasion – Who Goes to Jail?

There is a difference between tax avoidance (which is legal) and tax evasion (which is illegal). Every taxpayer should know the basic distinction between the two. After all, the difference means saving money on taxes and possibly facing a prison sentence.

When it comes to avoiding tax obligations, some people always get confused about tax avoidance and tax evasion. You may also have experienced talking about tax avoidance, but you find yourself discussing the meaning of tax evasion. Because of that, read this entire article to clear things up, and understand the meaning of these two terms. Doing so will also help you avoid committing them in the future when filing your yearly return. Hence, check the details below to get to know about tax evasion vs tax avoidance.

tax fraud
Learn the difference between tax fraud and tax avoidance.

What is Tax Avoidance

Tax avoidance is when an individual utilizes various legal methods to lessen the total amount of the taxpayer’s income tax. Tax avoidance is legal – you are arranging your tax affairs in a way to save the most taxes. It can be possible when an individual claims different allowable tax deductions and credits to minimize the final tax amount. Besides that, another option of avoiding a tax is when you buy an investment with a particular tax benefit. The best example is when you purchase tax-free bond funds that you can invest in municipal bonds.

What are Some Examples of Tax Avoidance?

To get to know more how to minimize your taxes, check these few tax avoidance examples below.

If you’re still working and you want to prepare for your retirement as early as today, that’s another way you may avoid paying taxes. You may have a traditional IRA that has tax advantages. Whatever amount you’ve contributed can have either partial or full tax deductions based on your existing status and the income you’re earning every month. It’s because the profits you’ll get from this retirement savings are free of taxes until the time comes that you start taking a distribution.

Moreover, one of the common examples of tax avoidance to minimize a taxable income is when a homeowner receives a tax deduction from their home mortgage (although tax rules have drastically changed over the years). In addition, providing tax deductions for loan interest has been an available option that residents in the US enjoy for years even before the implementation of the Tax Reform Act of 1986. After that, those broad tax deductions have been taken out and replaced by a little percentage of tax adjustment in the interest incurred from home mortgages.

In addition, let’s look at one of the tax avoidance strategies that many people do across the country. If you have an existing medical plan that’s high-deductible, you can use it to help you minimize your taxable income. You can open a health savings account (or HSA), and whatever amount you’ve paid will have a corresponding tax adjustment. The exciting thing about it is that you can also withdraw your money totally tax-free. Besides that, if you still have a remaining balance when the year ends, it’ll automatically roll over the following year.

These are just a few examples of legal tax avoidance. If you do your research, you can find many ways to avoid taxes using any legal methods. It’ll surely help you get more tax deductions and credits, and you’ll enjoy more savings in the future.

What Qualifies as Tax Evasion?

Tax evasion is totally different from tax avoidance. Tax evasion is illegal and can potentially get you criminally charged and sentenced to prison, fined, or both. While you use legal methods to minimize your taxable income in tax avoidance, tax evasion is when a taxpayer utilizes various unlawful methods to get rid of paying taxes. Tax evasion is is the deliberate attempt to defeat the collection of a lawful tax, or deliberately misleading the IRS by filing false returns (or false information on those returns). That’s why tax evasion is a fraudulent activity and is punishable by law in the US. Hence, anyone who has been proven of committing this crime will likely face corresponding criminal penalties and other serious consequences.

Examples of Tax Evasion

To get to know more how this illegal activity works, check these few tax evasion examples below.

One scenario of committing tax evasion is by underreporting your true income. Instead of disclosing all of your sources that generate profit, you choose to exclude some of them or even state an amount that’s very much lower than what you truly get. Besides that, you can also do it by intentional alteration of the data on your bank report and other documents of your assets and profits.

Let’s take a look into one of the real-world examples of tax evasion. Tony is working as a waiter in a particular restaurant in the city, and he is earning tips on average of $300 a day, besides his hourly wage. The manager will only require the employees to write the total amount of tips they’ve received every day in a particular logbook near the counter area. Since Tony wants to maximize his earnings and lessen his taxable income, he gets tempted by writing a lower amount on the logbook from the tips he has received on a daily basis. In other words, he writes an amount less than $300 in the logbook, do when his manager sends Tony his tax document (and sends those documents to the IRS) a lower number is reported. This means that Tony will only pay taxes on a lower, inaccurate amount.

Then, since waiters or servers are required to declare the total amount of tips they’ve received when they file their returns, Tony has evaded his tax liability for a year. Hence, he has committed a crime of tax evasion. Whenever he’s proven guilty with proof and evidence, he’ll surely face different criminal penalties and consequences.

What is the Difference Between Tax Avoidance and Tax Evasion?

All people know that the taxable income will depend on the profit you generate every year. It means that every time your income increases, so do your taxes. That’s why many people will find ways to minimize their tax liability using lawful methods, and that is tax avoidance. Since claiming these tax deductions and credits are permitted and legal, you can enjoy getting more savings and paying a minimal amount of taxes.

On the other hand, if there’s no available options to lessen the taxable income in legal ways, some people may get tempted to use an unlawful approach to avoid paying taxes. That’s how tax evasion works. It’s when people may conceal their information and even present inaccurate data and statements to mislead the IRS. As a result, some tax deductions or credits may apply to lessen their tax liabilities.

Is Tax Avoidance a Criminal Offense?

The Internal Revenue Service regulations allow people to claim tax deductions, adjustments, and credits when they qualify for a particular eligibility requirement. For example, those parents who go to work may receive a tax credit to help cover the expenses spent on child-care services.

Hence, tax avoidance is not a criminal offense. In fact, it’s legal that eligible individuals can take advantage of as long as they can provide proof and documents that will make them qualify for any appropriate tax adjustments or credits.

tax avoidance
Tax avoidance is legal, whereas tax fraud is a crime.

Can You Go to Jail for Tax Avoidance?

The Internal Revenue Service gives more penalties to people who didn’t file and pay tax returns than those who can’t pay. Besides that, the IRS won’t put you in prison for not paying your tax obligations unless you’ve proven guilty of committing intentional legal actions that will lead you to jail. It includes tax evasion, failure to file your tax return, helping people evade their tax obligations, and many others that can be considered criminal and unlawful activities.

However, as mentioned earlier, according to IRS regulations, tax avoidance is legal in the US as long as you qualify for the eligibility requirements to claim tax adjustments or credits. Hence, committing any instances of tax avoidance using lawful methods should not send you to jail (but may result in civil penalties if you take it too far).

What Kind of Crime is the Evasion of Income Tax?

Tax evasion is a criminal offense that will result in paying large amounts of penalties and even years of imprisonment. Once the IRS Criminal Investigation (or IRS-CI) has finished the thorough investigation, they will then forward the case to the Criminal Tax Division of the US Department of Justice for legal proceedings.

Hence, to prove that a person is guilty of the crime, the prosecution will look into a few essential elements. It includes the process of proving the defendant has committed tax evasion on purpose, the existing unsettled tax obligation, and to seek evidence that the taxpayer has the intention to violate his lawful responsibility. Key evidence IRS CID and the prosecutors will try to obtain can include any books and records of the taxpayers, communications such as emails and text messages, and testimony from other witnesses such as employees or managers.

Punishment for Tax Evasion

If you’re proven guilty of committing tax evasion, you’ll surely face different penalties and consequences. According to the Federal Tax Evasion Statute on the Internal Revenue Code, anyone who has been proven guilty of tax evasion will pay a penalty up to a hundred thousand dollars and up to half millions dollars for corporations. On top of that, the defendant may also suffer from up to five years of imprisonment per violation. Tax evasion is considered a federal felony offense.

Moreover, besides these criminal penalties, the defendant will still have to settle the income tax return he owed to the IRS with corresponding penalties and interest for delinquent taxes. Keep in mind that the interest will continue to increase until you’ve finally paid your tax in full. It means that the longer you pay for it, you would expect that it’ll surely increase significantly.

tax fraud
Committing tax fraud has serious consequences, including prison.

FAQ

Which is illegal tax avoidance or evasion?

Tax evasion is an illegal and fraudulent activity that aims to avoid paying taxes. On the other hand, tax avoidance is an option that most people do to minimize their income tax return by claiming tax adjustments or credits using lawful and legal methods.

Can you go to jail for tax avoidance?

Tax avoidance is legal across the country. It’s when you use lawful methods to lessen the amount of your overall income tax return. However, you have to make sure that you qualify for the eligibility requirements before you can enjoy claiming tax deduction or credits.

Is tax avoidance morally wrong?

Many people argue about the morality of doing tax avoidance. Some say that it’s not quite right to establish high-deductible organizations or companies with tax massive benefits. Others may also butt in to share their opinion about the fact that not all people have the same amount of taxes every year. It seems to be unfair with those who pay more.

However, the main concept of tax avoidance is to give those eligible people a privilege to get something in return. That’s why there’s a particular set of eligibility requirements to determine those who qualify and can take advantage of tax adjustments or credits. Then, when it comes to the issues of morality of tax avoidance, it all boils down to a relative understanding and accepting the fact that it’s everyone’s responsibility to pay taxes as a citizen of the country.

What is the difference between tax avoidance and tax evasion?

Tax avoidance vs tax evasion: these are two different terms that caused confusion to many people. When you want to minimize your tax liability and increase your savings using any legal methods, you’re doing tax avoidance, and that’s legal across the country. As long as you’ve met the eligibility requirements, you can start claiming tax adjustments or credits that you can apply on your final income taxes.

On the other hand, tax evasion is different. It’s when you avoid your tax obligation by using various unlawful methods. That’s why anyone who has been proven guilty of committing tax evasion will surely face several criminal charges, penalties, and even years of imprisonment. Hence, this is the difference between tax evasion and tax avoidance that you have to remember.

Conclusion

As mentioned earlier, it’s everyone’s legal responsibility to file income tax returns every year. That’s why you have to know your rights and master the process that everyone does in dealing with tax obligations. Besides that, keep in mind all the things discussed above, including tax evasion vs avoidance.

Always remember that tax avoidance is legal as long as you’re eligible for claiming any tax adjustments or credits. However, since tax evasion has already been discussed earlier, always make sure to avoid any activity that may result in facing any possible consequences and penalties. Just do your job by complying with all of the instructions on time, and the IRS will do the rest.

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