Preventing Tax Refund Fraud

Fraud, by way of Identity theft, places a burden on its victims and presents a challenge to businesses, organizations and government agencies. Tax-related identity theft occurs when someone uses a stolen social security number to file a tax return claiming a fraudulent refund. Even though the IRS combats tax-related identity theft with an aggressive strategy of prevention, detection and victim assistance, it is still ramped at the federal, state and local levels.

It is nearly impossible to operate a business or run a government entity and not collect or hold personally identifying information such as names and addresses, social security numbers, etc., related to residents and/or consumers. If this information is lost or stolen, it likely puts these individuals at risk for identity theft and/or fraud.

According to the Internal Revenue Service (IRS)¹, here are three important steps to take when you first realize your business has encountered a data security breach.

• Notify law enforcement. When the compromise could result in harm to a person or business, call the local police department immediately to report the situation and the potential risk for identity theft.
• Notify affected businesses. Information compromises can affect other businesses, such as banks or credit issuers. If names and social security numbers have been stolen, it is recommended to also contact the major credit bureaus for additional information or advice.
• Notify individuals. Generally, early notification to those whose personal information has been compromised allows them to take steps to mitigate the misuse of their information.

Income tax fraud is the willful attempt to evade tax law or defraud the IRS. Tax fraud occurs when a person or a company does any of the following:

• Intentionally fails to file an income tax return
• Willfully fails to pay taxes due
• Intentionally fails to report all income received
• Makes fraudulent or false claims
• Prepares and files a false return

The latter two may result in a conviction of a felony and (1) imprisonment for no more than 3 years, (2) a fine of not more than $250,000 for individuals or $500,000 for corporations, or (3) both penalties, plus the cost of prosecution (26 USC 7206(1)). This does not, however, necessarily compensate the victim(s). 

Nationally, the theft of taxpayer identities has risen, while receiving far less attention than the loss of credit card information.  In the first six months of 2013, 1.6 million taxpayers were affected by identity theft, compared with 271,000 for all of 2010, according to an audit by the Treasury Department's inspector general.
 
Many of the fraudulent tax returns are filed by using the social security numbers of people who are not required to file returns and thus don't realize their identity was used to obtain illicit refunds. For example, potentially fraudulent returns were filed in 2011 using the social security numbers of 1,451 children under 14 years old; 19,102 dead people; 37,249 prisoners; and 753,000 people whose income level did not require a tax return.²

Federal tax fraud receives the most attention, but this fraud often rolls down to the state and local levels.  Protecting personally identifiable information and auditing returns are two key components to combat this growing trend.