Taxes and scams seem to go together hand in hand. While the Internal Revenue Service has long been subject to individuals claiming that there is no law stating that they must pay tax, individuals who owe the Internal Revenue Service large sums of money apparently are being scammed by the people who they turn to for help.

American Tax Relief

According to a recent New York Times article "over 20,000 people have turned to American Tax Relief of Beverly Hills, California, to do just that after seeing the company's advertisements on television, the Internet or in print, where actors portraying clients say the company reduced their back taxes to say, $2,000 from $20,000 or $40,000 from $200,000.

"But the Federal Trade Commission said on Wednesday that despite collecting $60 million to $100 million in upfront fees from often-desperate clients in recent years, American Tax Relief rarely, if ever, delivered on its promises.

"Of the 20,000 clients that the FTC says it believes the American Tax Relief signed up, we have not been able to find a single one that the company helped to reduce a tax burden…"

The column in the Times was timely in that we frequently receive calls from clients that owe the Internal Revenue Service large sums of money who have seen these advertisements and ask us why we cannot do the same for them.

The answer is that the Internal Revenue Service has a two pronged process. If you cannot pay all the taxes you owe they will enter into an instalment plane with you. You still have to pay all your taxes plus interest but you can do so over a period of years.

The second process is called "an offer in compromise". In this process you have to disclose all your assets to the Internal Revenue Service and accompany the offer along with a cheque as an upfront payment. If the offer is accepted, the remainder of your offer is due immediately.

If your offer is not accepted the Internal Revenue Service cashes your cheque and you owe them a little less.

What is the balancing point?

If your assets are worth more than what you owe, the Internal Revenue Service will likely turn down your offer. For example if you owed them $50,000 but used the money to buy a boat and you own a house worth $400,000, the Internal Revenue Service will likely take a position that you should sell the boat that you bought with "their money" or take a mortgage on your house.

However, if you owe the Internal Revenue Service $50,000 because you won a lottery prize of $200,000, which you promptly spent on a six-month, around the world cruise for five, rent your house or apartment, own a 10-year-old car, earn $40,000 a year and are married with three children, the Internal Revenue Service is likely open to "let's make a deal".

The Internal Revenue Service is cognisant that the likelihood of your ever paying them $50,000 in full is remote, so they will bargain with you to obtain the highest amount of cash that they think you can pay, now, and forgive the rest. But at the end of the day the decision the Internal Revenue Service will make is based on your net worth, not who represents you.

Bush Tax Cuts

With the continuing debate on the so called Bush tax cuts, no resolution appears in sight and it may depend on who will control Congress after the November elections. In the interim the Internal Revenue Service released the following statistics based on 2008 returns:

• Individuals filing returns with adjusted gross income over $200,000 paid 52 percent of total income taxes.

• Individuals filing returns with adjusted gross income over $100,000 paid 23 percent of total income taxes.

• Individuals filing returns with adjusted gross income over $50,000 paid 18 percent of total income taxes.

• Individuals filing returns with adjusted gross income under $50,000 paid seven percent of total income taxes.

Tax Shelter Investments

Wealthy individuals have turned to tax shelters for many years to reduce or defer current year's income tax. And for as many years the Internal Revenue Service has attacked tax shelters that have no economic substance.

For tax shelters purchased after March 2010, if the individual cannot prove that the tax shelters have economic substance, they will now be subject to a new underpayment penalty of 20 percent, or 40 percent if they failed to disclose the transaction.

Tax Return Preparers

The number of individuals preparing 2010 US Federal individual income tax returns is likely to significantly diminish. As of January 1, 2011 all preparers must register with the Internal Revenue Service and obtain a new preparer tax identification number.

With the exception of CPA's, attorneys, and a few others, other preparers will now have to pass a competency test before they are given a new preparer tax identification number. Once these individuals pass the test, they will be subject to the same ethical standards as CPA's and attorneys and those acting unethically could be barred from preparing returns in the future.

Tax Reform

One tax bill that has generated discussion is S.3018. The bill calls for three tax brackets: 15 percent of the first $75,000 of taxable income, 25 percent on the next $65,000 and 35 percent on anything over $140,000 for married filing joint.

The standard deduction would be $30,000 for married filing joint and $15,000 for single. Capital gains and dividends would be taxed at whatever tax bracket you are in with a 35 percent exclusion allowed.

Municipal bonds would become taxable with a 25 percent credit against tax. The alternative minimum tax would disappear. Some itemised deductions would be disallowed, most employer provided benefits would be taxable and the foreign earned income exclusion would be eliminated.

Pursuant to the requirements relating to practice before the Internal Revenue Service, any tax advice in this communication is not intended to be used, and cannot be used, for the purpose of (i) avoiding penalties imposed under the United States Internal Revenue Code, or (ii) promoting, marketing or recommending to another person any tax related manner.

The tax advice given by this column is, by necessity, general in nature. You should, of course, check with your own US tax consultant as to how specific transactions affect you since tax advice varies with individual circumstances.

James Paul Sabo, CPA, is the President of ETS Ltd., PO Box HM 1574, Hamilton HM GX, Bermuda. Questions should be sent to: jsabo@expatriatetaxservices.com