Everyone wants to save as much as they can on tax returns; indeed, there's countless businesses out there that are dedicated to getting you the best return. But are there loopholes in the system that enable you to get away with not having certain parts of your income taxed, or even get out of paying federal income tax altogether?
The IRS has heard all the arguments, some of which are pretty inventive, and in response they have released an 84-page document titled The Truth About Frivolous Tax Arguments, which responds to some of the more common frivolous "legal" arguments made by individuals and groups who oppose compliance with the federal tax laws. While the term "frivolous argument" sounds light enough, there's nothing fun about the penalties you get dinged for if you happen to make a frivolous argument in an attempt to get out of paying some or all of your federal income tax. Below are some of the highlights from the report.
Military Retirement Income: Taxable?
The frivolous argument which will be of most interest to servicemembers and veterans is the claim that if you are receiving military retirement pay (MRP), it does not count as income for federal income tax purposes. Section 61 of the Tax Code sees it differently, however, as it defines gross income as "all income from whatever source derived, including . . . pensions." Retirees who have made this argument in the past to avoid getting their retirement pay taxed have gotten penalized up to $25,000 in court.
Other Popular "Frivolous Arguments"
- "Zero Return" - Some taxpayers attempt to reduce their federal income tax liability by filing a tax return that reports no income and no tax liability (a "zero return") even though they have taxable income, and sometimes they also request a refund of any taxes withheld by an employer. But according to Section 61 of the IRS code, gross income includes all income from all sources, including compensation for services. Courts have penalized taxpayers for filing a zero return, and have also imposed "frivolous return" and "failure to file" penalties.
- The IRS must prepare a tax return if I don't file one - Some argue that section 6020(b) of the tax code obligates the IRS to prepare and sign a federal tax return for a person who does not file a return -- in other words, if you don't file a return, then it's up to the IRS to file one for you. But according to the law, section 6020(b) only provides the IRS with a mechanism for determining the tax liability of a taxpayer who has failed to file a return, and does not require the IRS to prepare or sign for persons who do not file. It also doesn't excuse you from civil penalties or criminal liability for failure to file.
- Income for personal services is not taxable income - Some argue that there is no taxable gain when a person "exchanges" labor for money. Under this theory, certain wages and compensation for personal services are not taxable income services. In truth, all compensation for personal services, no matter what the form of payment, must be included in gross income. This includes salary or wages paid in cash, value of property and other economic benefits received for services performed, or to be performed in the future.
- State vs. U.S. citizenship - Some have argued that they have rejected citizenship in the US in favor of state citizenship; therefore, they are relieved of their federal income tax obligations. One version of this argument is that a person is a free-born citizen of a particular state and thus was never a citizen of the United States. But according to the 14th Amendment of the Constitution, "[a]ll persons born or naturalized in the United States, and subject to the jurisdiction thereof, are citizens of the United States and of the State wherein they reside."
- Filing a tax return is voluntary - A lot of people line up behind this argument, as the IRS tells taxpayers in the Form 1040 instruction book that the tax system is voluntary. There's also a Supreme Court opinion in (Flora v. United States, 362 U.S. 145, 176 (1960)) that states "[o]ur system of taxation is based upon voluntary assessment and payment, not upon distraint." Too bad that the word "voluntary" in both these cases refers to our system of allowing taxpayers initially to determine the correct amount of tax and complete the appropriate returns, rather than have the government determine tax for them. The actual requirement to file an income tax return is not voluntary, and failure to file a return can lead to criminal penalties, including fines and imprisonment, as well as civil penalties.
