States Need to Close This Tax Fraud Loophole
Less IRS capacity, more whistleblowers?
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California Attorney General Rob Bonta and state Sen. Ben Allen last week unveiled a bill — SB 799 — that would enhance the Golden State’s ability to pursue tax fraud cases against dominant corporations and wealthy individuals. Specifically, it would add a provision to the state’s False Claims Act granting the state AG the ability to prosecute tax fraud cases above a certain dollar threshold, and granting whistleblower protections to corporate insiders who have knowledge that their employer is dodging taxes owed to the state.
“Hardworking taxpayers pay into their state and local funds to protect critical public and social infrastructure like schools, healthcare, and our streets and roads. When powerful companies use their power to cheat our government, these taxpayers are also cheated,” said Bonta. “SB 799 would give my office, and local enforcement partners the ability to go after bad actors committing egregious cases of tax fraud and would provide added protections for the brave people who come forward and report these cases.”
Were this bill to become law, it would make California the third state to adopt this kind of False Claims Act provision, after New York and Washington, D.C. Especially at a time in which IRS enforcement is being gutted at the federal level, it’s vital that other states step up and do the same thing.
Currently, 32 states and nine municipalities have a version of a False Claims Act, most modeled on the federal law of the same name, enabling them to prosecute those who knowingly defraud the government, and providing whistleblower protections to those who come forward with knowledge that their employer is engaged in such fraud.
However, the federal False Claims Act does not cover tax fraud — people defrauding the government by hiding income or making false reports in order to dodge taxes, for instance — instead leaving that to the Internal Revenue Service. Most states, then, have the same exception in their versions of the law, leaving tax fraud to their departments of revenue or state tax commissions and failing to extend whistleblower protections.
New York and D.C., though, have removed that exception. They also allow what are known as “qui tam” cases, wherein a whistleblower pursues a case on behalf of the government, or starts a case that the government successfully prosecutes, and can share in any money recovered.
New York made this change back in 2010, and has since recovered about $674 million in unpaid taxes. D.C.’s change dates to 2021 and resulted in a $40 million income tax fraud recovery, the largest in the city’s history.
There’s also evidence these changes have successfully deterred tax fraud, thanks to the knowledge potential fraudsters have that the state or whistleblowers could come after them if they engage in any chicanery.
As Gregory Krakower, an attorney who drafted the New York False Claims Act amendment, told me, “New York and Washington, D.C.’s successful experience in closing the tax fraud loopholes in their False Claims Acts have exposed, stopped, and recovered hundreds of millions in tax fraud. Those laws needs to be emulated by other states now more than ever.”
Indeed, there’s a fierce urgency for more efforts like the one currently underway in California, because depending on the IRS to deal with tax fraud is going to get dicier than it already was thanks to federal budget cuts. The IRS, under the Trump Administration, has shed more than 10,000 workers, and up to half of the agency’s workforce could be on the chopping block.
Cuts this deep will cost hundreds of billions of dollars in revenue, as tax scofflaws get away with evading their civic duty. 38 percent of the unit that audits high-wealth individuals at the IRS has already been cut, and those now-unemployed workers “have left behind unfinished audits of ultrawealthy individuals and cases that have either stalled or are being closed.”
States, though, can fill in some of that gap by empowering both state officials and whistleblowers to initiate tax fraud cases. Sure, it’s no replacement for a fully functioning IRS, but it’s something.
Importantly, the New York and D.C. laws were retroactive, allowing old tax frauds to become new cases. Given that the IRS is likely abandoning cases midstream, having retroactivity — which the current iteration of California’s legislation does not — is key.
Also key are the safeguards New York and D.C. put in place to ensure that tax fraud cases focus on rich taxpayers and large corporations skipping out on significant tax payments intentionally, rather than a mom-and-pop shop that makes a mistake. Both laws, along with the California bill, have thresholds requiring a firm to have intentionally dodged hundreds of thousands of dollars in taxes before a case can be filed.
This is in comparison to Illinois, which technically has a similar law: But it only allows cases for sales tax fraud (leaving out state income and property tax, for example) and has no dollar threshold, leading to lots of cases for small dollar amounts of sales tax being missed. As Krakower put it, the Illinois law is narrow where it should be broad and broad where it should be narrow.
I’ve been saying it a lot lately, but it’s true with this topic too: With federal capacity being gutted, states need to step up and fill the void when it comes to consumer protection, labor law, and generally reining in the power of dominant corporations to do whatever the heck their leaders want. Closing this tax fraud loophole is one more step in that direction, provided states do it right. Fortunately, they only have to look to New York or D.C. for a model.
SIMPLY STATED: Here are links to a few stories that caught my eye this week.
The city of Baltimore sued FanDuel and DraftKings for allegedly targeting residents they felt would become compulsive gamblers.
Minnesota Senate Democrats have proposed a tax on social media corporations that collect data from Minnesotans.
Rite-Aid may file for bankruptcy … again.
The Department of Energy says it has identified 16 federal sites eligible for data center development.
Google is profiting from sending taxpayers to scam IRS look-alike websites.
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— Pat Garofalo