IRS Moves to Block Refunds on False Tax Credit Claims

The Internal Revenue Service, battling a huge increase in fraud, has quietly launched a program to crack down on certain low-income tax cheats allegedly responsible for billions of dollars’ worth of bogus refund claims.

The program is the agency’s first attempt to block refunds to people who falsely claim to qualify for the earned income tax credit, a generous tax break for the working poor. As a result, millions of low-income families are likely to see their refunds delayed or rejected and could face civil and criminal penalties.

About one of every four earned income credit claims is rejected because of fraud or error, said Judith Golden, an IRS spokeswoman in Laguna Niguel. Taxpayers, seeking refundable credits of as much as $2,364, usually commit fraud by misrepresenting their marital status, dependents or job status.

Bogus earned income credit claims are expected to total $5 billion for the 1993 tax year, compared to about $3.4 billion in 1992, she said. The problem appears to be particularly severe in Southern California, Chicago and Florida, tax experts add.

Revelations about widespread fraud could be embarrassing for the Clinton Administration, which recently bolstered the earned income credit by increasing the amount that low-income parents could claim and opening it up to individuals without children as of 1994. White House officials did not return calls seeking comment.

“Over 75% of the fraud that comes into our offices in some way relates to the earned income credit,” said Tim Robinson, Southern California district manager for Jackson Hewitt Tax Service, a tax preparation franchise.

There are three prevalent types of earned income credit fraud, tax preparers say. One involves people who falsely claim they have children or understate the age of the children. Others fabricate jobs, because taxpayers can claim the credit only if they have earned income such as wages, salaries or tips. Married couples who earn too much together to qualify also claim to be divorced. That allows them to split their income--and their children--and both claim the credit, preparers say.

The new IRS program is designed to ferret out those who falsely claim they have children or jobs, tax officials say. The agency is also apparently attempting to improve its ability to check marital status. However, that part of the program is not as effective at finding cheaters, tax preparers say.

Since January, the agency has been using a sophisticated computerized matching program that checks the ages and Social Security numbers of dependents on the earned income form with information on file with the Social Security Administration. It has also improved its system to verify employment information.

Although it is too soon to measure the program’s effectiveness, tax preparers say they have loads of anecdotal evidence to prove it is working.

For example, on Thursday four separate groups came into Jackson Hewitt’s Inglewood office with fake W-2 forms--the employer-provided income statements necessary to file tax returns--according to Robinson, the district manager. A Burbank preparer recently dealt with an 18-year-old girl who attempted to claim her 14-year-old friend as a dependent. And an Ohio preparer’s client attempted to claim a 35-year-old friend as a minor dependent.

However, thanks to the matching program, age and wage disparities were kicked out of the computer overnight.

The immediate fraud signal is pivotal because, in past years, the IRS tended to uncover earned income credit fraud after refunds were issued.

In many cases, preparers and filers had fled, making it virtually impossible for the IRS to reclaim the money.

Taxpayers can legitimately claim the earned income tax credit if they earned less than $23,050 in 1993 and have a “qualifying child.” To qualify, the child must have lived with the taxpayer in the United States for more than six months of the year. The child must be younger than 19 or a full-time student younger than 24, or he or she must be permanently disabled.

Taxpayers generally cannot get the credit if they receive military housing or subsistence payments or if they are on welfare. The point is to give poor families an incentive to work, McClellan said.

Golden stressed that not all of the returns kicked out of the system are fraudulent. Some contain simple errors, such as a wrong birth date or a transposed number.

Taxpayers shouldn’t panic if they are contacted by the IRS after filing a legitimate claim, Golden said.

However, if a return is found to be fraudulent, she said, the IRS will pursue civil and criminal penalties against the taxpayer and tax preparer who filed it.