Electronic Filing Scams Are Taxing Resources of the IRS

Jerome Hearne used to rob people for a living, but sometime in the late 1980s or early 1990s, he turned to a more lucrative profession: robbing the U.S. Treasury.

Hearne’s adopted brand of crime was electronic tax fraud. He and a band of Los Angeles cohorts joined a fast-growing legion of crooks who are raiding millions of taxpayer dollars every year by filing false returns and getting quick, illegal refunds in the form of bank loans.

The scams bring together clever ringleaders and large numbers of low-rent co-conspirators, usually unemployed or homeless people who are willing to have their real names and Social Security numbers used on fake tax returns.

Using the government’s computerized tax return system, returns are filed electronically, then the crooks apply for bank loans based on the anticipated return. It takes only two to three days for the bank to approve the loan and for the scam artists to have a check.

By the time Internal Revenue Service auditors discover what has happened, everyone involved usually has disappeared with the money, sometimes a great deal of it. Hearne and the government fiercely dispute the size of the take in his scam, but the total could top $1 million in false returns.

“Whereas Hearne originally robbed others with a gun, he now uses a pencil,” Special Assistant U.S. Atty. Eric C. Lisann wrote of Hearne, who denies he was the group’s ringleader but has pleaded guilty to tax fraud and conspiracy charges. He faces sentencing this month.

Hearne’s case--which involved seven other defendants charged with similar crimes--is the nation’s biggest so far. But Hearne has plenty of company in the electronic tax-scam business.

The number and size of the scams have grown so fast that they are creating a huge headache for the IRS. In Los Angeles, roughly 40% of the IRS’ criminal investigation agents are devoted to electronic filing scams, more than are assigned to drugs, savings and loans, or money-laundering.

“This is a major problem for us,” said Dennis Crawford, chief of the criminal investigation division of the IRS’ Los Angeles office. “It’s what’s hot right now. We’ve had to pull people off other areas to deal it.”

The electronic filing system was introduced gradually beginning in 1985, and officials say early abuses were relatively rare.

Through 1990, officials had prosecuted about 35 cases. But for much of that time, electronic filing was available only in certain parts of the country and only to taxpayers filing for refunds. As of this year, it is available everywhere and to everyone.

Including criminals.

Last year, the Justice Department prosecuted 65 defendants--with 43 convictions so far. Those cases involved 319 counts of electronic tax fraud. Of those, 133 were logged in Los Angeles, tops in the nation and rivaled only by Houston. This year is bound to be bigger, authorities say.

“We could see this coming a couple years ago, and then, boom, it was here,” said one IRS official who asked not to be identified. “It’s terrible. It’s everywhere.”

Nowhere is it growing faster than in California. According to the IRS, 1,205 false electronic returns from California were identified in the first three months of this year. That was up from 85 during the same period last year.

The value of fake California returns has leaped from $280,000 in early 1991 to $3.4 million this year.

And that is just those filed by the ones who get caught. IRS agents cannot even guess how many false returns are slipping through unnoticed, but many officials admit that it is bound to be a lot.

It is a mystery as to why Los Angeles and Houston far outpace the rest of the country in electronic filing scams. But experts say the crime tends to spread by word of mouth, so once it catches on someplace, it is hard to shake.

Also, criminals who succeed at first tend to ratchet up their take. They often go from modest returns of a few hundred dollars to claiming several thousand dollars in refunds on each return.

Meanwhile, their organizations also spread, as they recruit more unemployed people and pump out more false W2 forms. Prosecutors say Hearne and his associates falsified more than 300 returns--some using fake W2’s from companies such as Sears, Roebuck & Co., others using fictional company names.

“These are folks who are greedy,” said Jim Bruton, acting assistant attorney general in charge of the tax division. “They tend to go for as much as they can.”

Authorities are eager to curb the spread of electronic tax crime before it endangers the computerized filing system. The IRS has aggressively promoted electronic filing, and officials say it is appreciated by honest users because they get their refunds more quickly.

“We’re not going to let these people ruin this for everyone,” Crawford said. “That’s why we’re devoting so much attention to it.”

Prosecutors agree.

“We regard it as a priority to handle these cases,” Bruton said. “Most taxpayers that are owed money by the government want to get their refund quickly. These other individuals will try to exploit the speed with which we’re trying to serve the taxpayers. . . . We’re trying to protect that system.”

But catching the crooks is difficult because investigators usually have little time to work. When the false return is filed, it gets a quick check by the IRS to confirm that the person filing the return exists and holds the Social Security number on the tax return.

If the person and Social Security number match, the IRS “accepts” the return. That does not mean it gives final approval to it, but acceptance is enough to arrange for a refund anticipation loan from the bank. That can be done within a day or two, and because the recipients usually are homeless or unemployed, it is easy for them to disappear with the money and hard for investigators to track them down.

“It’s like chasing a rumor,” Crawford said. “It’s done so quickly that we have a hard time keeping up with it.”

Under new federal sentencing guidelines, filing a false claim carries a penalty of five years in prison. Conspiring with others to do it can mean a 10-year sentence. And money-laundering, which many people involved in the scams can be charged with, brings a 20-year maximum.

A criminal history can increase the sentence, as can other factors. In Hearne’s case, he could do extra time because of a past conviction for armed robbery. His sentence could also be tougher because he fled the area and had to be rearrested. And he could do even more time because prosecutors and the IRS say he defrauded the government of more than $800,000--the threshold amount for a stiffer sentence.

Prosecutors want Hearne to spend nearly 20 years behind bars.

Although government lawyers and agents hope that tough sentences and expanded enforcement will curb electronic filing fraud, the results remain to be seen. Few hold out much hope that the fraud will disappear.

The lure, after all, is quick cash. And that has always been a powerful motivator.

As Lisann wrote in his sentencing report on Hearne: “Conspiracy recruited individuals by preaching the powerful gospel of easy money, to be obtained from the coffers of the United States, at taxpayer expense.”

“Not surprisingly,” Lisann said, “Hearne found easy converts.”

A Growing Crime

Only a few years old, electronic tax scams are growing fast, and the crime appears especially widespread in Los Angeles and Houston--in fact, no other cities even come close. In addition to the prosecutions listed below, all of which are from 1991, authorities say thousands of other criminals are still working the scam.

DISTRICT DEFENDANTS COUNTS AMOUNT Los Angeles 20 133 $1,074,000 Houston 23 120 $1,700,00 Chicago 2 16 unknown El Paso 4 11 $750,000 Brooklyn, N.Y. 2 8 $20,000 Des Moines, Iowa 1 8 $20,000 Orlando, Fla. 1 5 $3,500 St. Louis, Mo. 3 4 $150,000 Detroit 2 4 $54,000 Alexandria, Va. 1 3 $210,000 Atlanta 2 2 $35,000 Miami 1 2 $9,000 Cleveland 1 1 $5,300 Dallas 1 1 $125,000 Baltimore 1 1 $50,000 Total 65 319 $4,205,800

SOURCE: U.S. Department of Justice