Change in Fraud Referrals Will Affect Most Taxpayers

In the past, IRS Revenue Agents and Collection officers (now called compliance agents) were encouraged to develop fraud indicators, and once done, to make a Fraud Referral to IRS Criminal Investigation (IRS CI). Since January 2014, Fraud Referrals have changed with the issuance of the Fraud Handbook IRM 25.1., which will affect most segments of the U.S. population that IRS refers to as its Operating Division and includes Large Business and International (LB&I), Small Business /Self Employed (SB/SE), Tax Exempt/Government Entities (TE/GE) and Wage and Investment (W&I).  Generally, in a civil action by audit, the burden of proof was on the taxpayer. When fraud allegations are mentioned by compliance agents or criminal investigation, the burden of proof is upon the Government to prove tax fraud. Where fraud allegations are made the government must show a pattern of fraudulent activity, substantial tax due and owing, and willfulness that includes a material submission of false statements or false documents in connection with an application and/or return. 

The Fraud Manual has changed the playing field for taxpayers, because now the efforts of the compliance agents have changed from looking for “fraud indicators” to establishing “affirmative acts.” If compliance agents for the Operating Division suspect fraud the agent will be more assertive and require an interview with the taxpayer, which they will document in a memorandum to aid IRS CI in a subsequent Fraud Referral. They will make specific inquiries into the omission of specific items of income where similar items are included, omissions of entire sources of income, claims of fictitious deductions, false entries (alterations made to books and records), false statements of a material fact involved in the examination, and other badges of fraud found in IRM

The Fraud Manual refers to “Investigative Techniques” (IRM rather than Examination Techniques, which involves compliance agents directly in the development of potential criminal cases. Indicators that your client is under fraud investigation include: The agents insist on talking to the taxpayer.  Any original documents provided by the taxpayer will not be marked on; the agent may initial and date the back of the document, and the initial contact and subsequent contacts will be documented in a memorandum of interview. The taxpayer will be asked about who prepared the records used to prepare the return, who classified the income and expenses, who deposited business receipts, and how the business gross income, per the return, was determined. Further, the compliance agent will attempt to get the taxpayer’s explanations for any discrepancies and cash on hand. 

Taxpayers classified under the Operating Division and contacted by a compliance agent should consult their attorney as soon as possible. Many people participate in the interview with the compliance agent without securing an attorney, whether in an effort to save money, to satisfy a curiosity, or due to overconfidence in their persuasive abilities; the net result is almost always to their detriment. If a Special Agent later arrives and reads the taxpayer his/her Constitutional Rights, a criminal investigation is underway and the taxpayer can invoke the 5th Amendment against self-incrimination, but the compliance agent enters under secret pretenses and the taxpayer is openly exposed. IRS compliance agents come armed with vast knowledge of the taxpayer, their background, and business career.  The tax return is a window into the activities of the taxpayer, and if the return is not consistent with the life style and accumulation of wealth, consider them warned and emphasize that they should consult a tax attorney. 

IRS is not doing many audits according to the news media, but the pressure is building. Special Agents are working more tax cases, both administrative and grand jury, and they have a number of information tools at their disposal along with Fraud Referrals. IRS Special Agents are among the best-trained financial investigators in the world and are the only agents that can bring criminal charges against a taxpayer.  

If you or your client need a knowledgeable retired IRS Special Agent and forensic accountant for help on a compliance audit with “fraud indicators” and “affirmative acts” or a criminal investigation call Edmond J. Martin Chief Investigator, at Sage Investigations, LLC call 512-659-3179 or email and visit our website at