Alien Invasion, Alien Evasion

A May 22 article in the Pioneer Press of St. Paul, Minnesota, reported that Somali tax preparers had filed thousands of bogus income tax returns for their compatriots. This is just another example of alien tax fiddling, and will not be the last. All new groups of aliens seem to think they are the first to discover how to trifle with the Internal Revenue Code, and many take to it naturally because they come from countries where people think tax evasion is a birthright or a national sport or both. The authorities almost always catch dishonest alien tax preparers because they do the obvious things the IRS looks for. However, when they file thousands of bad returns, as these Somalis did, they can overwhelm the system, and many of those returns will go through.

As a tax preparer and investigator, I have seen extraordinary levels of immigrant tax fraud, and there is every reason to think what I have seen is typical. As our country becomes increasingly Third World, we will suffer from Third-World levels of tax evasion.

Tax fraud runs the gamut from low to high income, and at the low end, foreign dependent exemptions are a particularly troublesome area. Most Americans do not know this, but Mexicans and Canadians who work in the United States can claim dependents who live back home. The temptation to commit fraud becomes irresistible when other Latin Americans see Mexicans doing this, and decide to try it themselves. A variant on this scheme is for Mexicans with large families to farm out excess dependents to others. If a man has more than enough children to lower his own tax bill to zero, why not make the additional exemptions available to someone else?

Underpaying taxes is nice; actually getting money from the IRS is better. The Earned Income Credit (EIC) is a payment a filer may receive without having paid any income taxes. Originally conceived by Senator Russell Long as a way to keep the working poor off welfare and to ease the bite on low-income workers, the credit quickly became a major fraud target for Mexicans, and then Central Americans and Asians.

In outline, the EIC is a maximum cash benefit of $2,600 for a family with one child, and $4,000 for a family with two or more children. A filer with an income of $16,000 will generally receive the largest credit, with gradual reductions in the credit as income either falls short of that figure or rises above it.

The first assault on the credit came to light in the 1980s when low-income Mexican “businessmen” in Arizona were caught filing returns specifically designed for the credit. Since a self-employed person does not get W-2 wage statements, he can adjust his income to get the maximum EIC. These “businessmen” were all receiving their checks at the same PO box in Douglas, Arizona, and this is what caught the attention of the IRS. EIC fraud continues at an estimated rate of four to six billion dollars a year. The leading practitioners tend to be aliens; this is logical since they are more likely to have low incomes.

The EIC limit of two children leads, as in the dependent exemption fraud, to much sharing out of extra dependent children. For example, an extended family may be composed of four nuclear families with varying numbers of children. On their returns, taxpayers can share out children to achieve the maximum tax benefit. The Minnesota Somalis were maximizing benefits even further by having spouses file separate returns, and sharing dependents even more precisely for the best tax effect.

Better-heeled criminals go in for different frauds. Self-employed Eastern European, Middle-Eastern, and Asian immigrants have long evaded tax by means of an accounting principle, the Gross Profit Factor. This fraud is based on the average commercial gross profit margin of 33 percent. As IRS Publication 334, Tax Guide for Small Business, explains, a typical business can expect expenses to consume 67 percent of its revenue, leaving a gross profit margin of 33 percent.

For example, a businessman might have $100,000 in revenue. He then claims $67,000 in expenses, leaving a gross profit of $33,000. Subtracting administrative overhead might leave a net and taxable profit of only $10,000, which is more or less what the IRS expects.

This could be realistic in a business with inventory or raw materials, but services do not follow this pattern. Consultants, lawyers, brokers, commission agents, and so forth normally have far fewer expenses than a small construction company, factory, or shop. A self-employed person in the service sector may require only $15,000 in expenses to produce $100,000 in income, leaving $85,000 in potentially taxable income. The fraud involves filing a return based on the IRS model, padded with false expenses to bring the gross profit down to $33,000. Because this is a typical gross profit margin, it is unlikely to trigger an audit. Also, the smart filer stays away from expenses often scrutinized very closely — meals, entertainment, travel, auto, home office, and depreciation. A final trick is to ask for an extension to file, because the IRS chooses which returns it will audit for that year before the August extension deadline.

There is no way to tabulate the amount of evasion due to the gross profit fraud. In this example, the difference between the $15,000 in actual expenses and the $67,000 in claimed expenses results in a reduction in taxable income of $52,000. The combined federal and state rate of 30 percent for a taxpayer at that level of income means the tax man lost $15,600. Also, a self-employed person pays Social Security (FICA) at a weighted average of 14 percent, so the total loss to government is $23,000.

The Gross Profit Factor tax return is so well known, mainly among Asians, that they openly ask for it at specialty tax firms as if they were ordering a hamburger with the works at a fast food restaurant. During the 1980s I worked as a tax preparer in Rolling Hills, California. Eighty percent of the self-employed Asian immigrants asked for this kind of return. My job was to prepare the return, based on the numbers provided to me, and make sure the percentages squared up (the taxpayer, not the person who fills in the return, is legally responsible for its contents).

Another type of high-income fraud surfaces as part of mortgage lending. Once again, the perpetrators are self-employed aliens, this time seeking home loans. The applicant has to submit two years of tax returns to prove he has the income to service the loan, and unsurprisingly, he produces returns with plenty of income. These returns can be altogether different from the ones actually filed with the IRS, which may report very low income and tax liability. Immigrants are well represented in this type of fraud because many of them are small businessmen and sole proprietors.

A number of years ago, I did an investigation for a mortgage broker on fraudulent applications. Only 35 percent of self-employed borrowers got their loans honestly. The majority of the frauds were recent immigrants: Taiwanese, Vietnamese, Koreans, Iranians, Indians, and Pakistanis. That mixed group of Asians accounted for 90 percent of the 65 percent, or in round numbers, for 180 of the 200 dishonestly-obtained loans I uncovered during a six-month period.

The honest borrowers were mainly people with European names, but there was not one recognizably Japanese or Jewish name among the frauds. Since I investigated only one mortgage brokerage office, multiplying those results by the thousands of brokers and banks that do business with Asian immigrants would yield a huge level of mortgage loan fraud.

An interesting sidelight to my investigation was the discovery of 15 tax mills openly doing business in Southern California and producing phony returns to suit their clients’ needs. Thirteen of the mills were Asian-operated, mostly home-grown Chinese and recently arrived Taiwanese, with some Koreans thrown in for diversity.

Tax mill operators were perpetrating two major felonies simultaneously: one, defrauding a lender with intent (Title 18, U.S.C.); and two, income tax evasion (Title 26, U.S.C.). We can assume the latter, if only because the mortgage payments in all instances were greater than the total income claimed on the rather different returns the borrowers filed with the IRS, some of which showed income low enough to qualify for the EIC. The loans were all in the $200,000 to $400,000 range, and at that time required a monthly payment of approximately $3,000.

From a nationwide perspective, immigration will produce major enforcement problems. Americans traditionally evade about ten percent of the taxes they owe, but millions of newcomers will eventually give us Third-World rates of evasion. Even a high-grade country like Chile has an evasion rate of about 30 percent. El Salvador, where I live, collects only about half the taxes due. If El Salvador could collect at the Chilean rate — 70 percent — it would not have to borrow a dime on the world markets, and would need no foreign aid.

The United States has a perfectly adequate native-born, white-collar criminal class. We do not need to import another.