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Tax Fraud Blotter: Chips have fallen

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Dutch treat; for the record; last Resort; and other highlights of recent tax cases.

New York: Frank Butselaar, a native of Naarden, Netherlands, has pleaded guilty to one count of aiding or assisting in the filing of a false or fraudulent return.

Butselaar advised the creation of offshore structures for ultra-high-net-worth individuals and did so while a shareholder in the Amsterdam office of a major U.S.-based international law firm. When the clients were becoming or had become U.S. tax residents, Butselaar and his co-conspirators, who were partners at the firm, sought to conceal the clients’ offshore income through nominee owners, generally a family member who lived outside the U.S. The clients, with the knowledge of Butselaar and his co-conspirators, unknowingly continued to operate their offshore entities as their own and believed they had access to and could direct the money they were accumulating offshore.

The amount of unreported income for two of the client taxpayers exceeded $70 million. Butselaar was also repeatedly warned that the income being collected offshore for his clients was reportable.

He faces up to three years in prison. Sentencing is Feb. 13.

St. Louis: Tax preparer Robert Droege, 59, has been sentenced to 46 months in prison for filing false returns that caused an estimated tax loss of $2.5 million.

Droege pleaded guilty in June to four counts of aiding in the preparation of a fraudulent return, admitting to preparing at least 34 false returns in his home office, Bob’s Tax Service.

He prepared returns that contained false or fraudulent information including medical expenses, charitable contributions, personal property rental expenses, non-business bad debt and other deductions.

White Plains, Maryland: Part-time tax preparer Anthony Judd has pleaded guilty to preparing and filing a false return for a client.

Since at least 2013, Judd, who was also a full-time special police officer at the National Archives and Records Administration, prepared and filed more than 40 false returns for individual clients that reduced the clients’ taxes and inflated refunds. These returns reported losses for businesses that the clients did not have and deductions for expenses, such as transportation and job-related expenses, that the clients did not actually incur.

Judd prepared and filed each return as a ghost preparer and caused a tax loss to the IRS of some $484,525.

Sentencing is April 16. He faces a maximum of three years in prison as well as a period of supervised release, restitution and monetary penalties.

Naples, Florida: Tax preparer Heidi Torres-Moncaleano, 45, has been sentenced to a year and a day in prison for aiding in the preparation of false and fraudulent income tax returns.

From 2018 through 2021, Torres-Moncaleano, through her business Torres Tax Services, submitted fraudulent returns and Schedules C to the IRS, inflating clients’ losses to generate larger refunds. The federal tax loss exceeded $847,000.

Torres-Moncaleano, who pleaded guilty in April, was also sentenced to a year of supervised release with the condition that she pay $429,888 in restitution to the IRS.

Hands-in-jail-Blotter

New York: Ilya Kahn, a national of the U.S., Israel and Russia, has pleaded guilty to conspiracy to violate the Export Control Reform Act for his role in a scheme to secure and illegally export dual-use semiconductors and other sensitive technology to Joint Stock Company Research and Development Center Elvees and other entities in Russia. Kahn also pleaded guilty to attempted tax evasion for failing to pay taxes on his income from the scheme.

Kahn owns Senesys Incorporated and Sensor Design Association, which operated in California and Brooklyn, New York. Kahn operated these businesses as fronts for a years-long conspiracy to acquire and export sensitive and sophisticated dual-use electronics from the U.S. to Elvees, one of the leading Russian developers of microchips and which was sanctioned by the U.S. in 2022.

Many of these items required an export license for national security and anti-terrorism reasons, which Kahn did not obtain. He also arranged for Elvees to continue to fabricate and import semiconductors after Russia’s February 2022 invasion of Ukraine, using a network of front companies and bank accounts.

Kahn’s export activity for the benefit of Elvees dates to at least 2012, and accounts under his control received more than $50 million from Elvees and related entities between 2012 and 2022. Of that money, Kahn channeled nearly $5 million for his personal use, which he did not report to the IRS and on which he did not pay income taxes.

Kahn agreed to forfeit $4,923,548.94 and to pay an additional $1,892,816.00 in restitution to the IRS. He also faces up to 20 years in prison.

Newark, New Jersey: Insurance broker Joseph Schwartz of Suffern, New York, has admitted his role in a $38 million employment tax fraud scheme involving nursing homes.

He pleaded guilty to two counts of an indictment charging him with willfully failing to pay over employment taxes withheld from employees of his company and willfully failing to file a Form 5500 for a 401(k).

Schwartz, operator of Skyline Management Group, with headquarters in New Jersey, failed to pay employment taxes relating to health care and rehabilitation facilities that Skyline operated in 11 states. From October 2017 through May 2018, Schwartz caused taxes to be withheld from employees’ pay but failed to then pay over more than $38 million in employment taxes to the IRS. He also failed to file the 5500.

The employment tax fraud count carries up to five years in prison and a $250,000 fine, or twice the gross gain or loss from the offense, whichever is greater. The failure to file a Form 5500 carries a maximum of 10 years in prison and a $250,000 fine, or twice the gross gain or loss from the offense. Sentencing is April 10.

Cape Coral, Florida: William Skaggs Jr. and Billie Adkison have pleaded guilty to conspiracy to commit tax fraud.

Skaggs owned and operated Nastar Roofing; Adkison was the main office administrator for Nastar, and her duties included managing the company’s payroll. Between 2013 and 2023, Nastar paid its employees predominantly in cash to avoid paying taxes the pair knew were owed to the federal government. Typically, one or more Nastar employees, including Skaggs and Adkison, withdrew significant amounts of cash on Thursdays and Fridays to make Nastar’s payroll at the end of the work week.

Between 2013 and 2023, Nastar employees withdrew more than $21 million from the company’s bank accounts to pay employees in cash. The company did not withhold taxes from the cash payments, nor did it pay its own share of FICA taxes.

Skaggs and Adkison have agreed to make full restitution to the United States for the employment taxes, including an upfront partial restitution payment of $1 million before their sentencing. Each faces up to five years in prison.

Ocala, Florida: Tax preparer Steven Cabrera has been sentenced to three years in prison for assisting in preparing false tax documents, submitting false tax documents and willfully failing to file returns.

From 2017 to 2019, Cabrera, who pleaded guilty in August, engaged in widespread tax fraud, adding unauthorized and fraudulent deductions and credits to clients’ returns without their knowledge and then embezzling the additional tax return money.

He also defrauded clients directly by telling them to make out checks to “IRS” and pledging that he would send the funds to the IRS himself. Instead, he deposited those checks into an account he controlled for a fictitious business, “International Resort Services.”

Cabrera caused total losses of nearly $1 million.

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Senate unveils plan to fast-track tax cuts, debt limit hike

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Senate Republicans unveiled a budget blueprint designed to fast-track a renewal of President Donald Trump’s tax cuts and an increase to the nation’s borrowing limit, ahead of a planned vote on the resolution later this week. 

The Senate plan will allow for a $4 trillion extension of Trump’s tax cuts and an additional $1.5 trillion in further levy reductions. The House plan called for $4.5 trillion in total cuts.

Republicans say they are assuming that the cost of extending the expiring 2017 Trump tax cuts will cost zero dollars.

The draft is a sign that divisions within the Senate GOP over the size and scope of spending cuts to offset tax reductions are closer to being resolved. 

Lawmakers, however, have yet to face some of the most difficult decisions, including which spending to cut and which tax reductions to prioritize. That will be negotiated in the coming weeks after both chambers approve identical budget resolutions unlocking the process.

The Senate budget plan would also increase the debt ceiling by up to $5 trillion, compared with the $4 trillion hike in the House plan. Senate Republicans say they want to ensure that Congress does not need to vote on the debt ceiling again before the 2026 midterm elections. 

“This budget resolution unlocks the process to permanently extend proven, pro-growth tax policy,” Senate Finance Chairman Mike Crapo, an Idaho Republican, said. 

The blueprint is the latest in a multi-step legislative process for Republicans to pass a renewal of Trump’s tax cuts through Congress. The bill will renew the president’s 2017 reductions set to expire at the end of this year, which include lower rates for households and deductions for privately held businesses. 

Republicans are also hoping to include additional tax measures to the bill, including raising the state and local tax deduction cap and some of Trump’s campaign pledges to eliminate taxes on certain categories of income, including tips and overtime pay.

The plan would allow for the debt ceiling hike to be vote on separately from the rest of the tax and spending package. That gives lawmakers flexibility to move more quickly on the debt ceiling piece if a federal default looms before lawmakers can agree on the tax package.

Political realities

Senate Majority Leader John Thune told reporters on Wednesday, after meeting with Trump at the White House to discuss the tax blueprint, that he’s not sure yet if he has the votes to pass the measure.

Thune in a statement said the budget has been blessed by the top Senate ruleskeeper but Democrats said that it is still vulnerable to being challenged later.

The biggest differences in the Senate budget from the competing House plan are in the directives for spending cuts, a reflection of divisions among lawmakers over reductions to benefit programs, including Medicaid and food stamps. 

The Senate plan pares back a House measure that calls for at least $2 trillion in spending reductions over a decade, a massive reduction that would likely mean curbing popular entitlement programs.

The Senate GOP budget grants significantly more flexibility. It instructs key committees that oversee entitlement programs to come up with at least $4 billion in cuts. Republicans say they expect the final tax package to contain much larger curbs on spending.

The Senate budget would also allow $150 billion in new spending for the military and $175 billion for border and immigration enforcement.

If the minimum spending cuts are achieved along with the maximum tax cuts, the plan would add $5.8 trillion in new deficits over 10 years, according to the Committee for a Responsible Federal Budget.

The Senate is planning a vote on the plan in the coming days. Then it goes to the House for a vote as soon as next week. There, it could face opposition from spending hawks like South Carolina’s Ralph Norman, who are signaling they want more aggressive cuts. 

House Speaker Mike Johnson can likely afford just two or three defections on the budget vote given his slim majority and unified Democratic opposition.

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How asset location decides bond ladder taxes

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Financial advisors and clients worried about stock volatility and inflation can climb bond ladders to safety — but they won’t find any, if those steps lead to a place with higher taxes.

The choice of asset location for bond ladders in a client portfolio can prove so important that some wealthy customers holding them in a taxable brokerage account may wind up losing money in an inflationary period due to the payments to Uncle Sam, according to a new academic study. And those taxes, due to what the author described as the “dead loss” from the so-called original issue discount compared to the value, come with an extra sting if advisors and clients thought the bond ladder had prepared for the rise in inflation.

Bond ladders — whether they are based on Treasury inflation-protected securities like the strategy described in the study or another fixed-income security — provide small but steady returns tied to the regular cadence of maturities in the debt-based products. However, advisors and their clients need to consider where any interest payments, coupon income or principal accretion from the bond ladders could wind up as ordinary income, said Cal Spranger, a fixed income and wealth manager with Seattle-based Badgley + Phelps Wealth Managers.

“Thats going to be the No. 1 concern about, where is the optimal place to hold them,” Spranger said in an interview. “One of our primary objectives for a bond portfolio is to smooth out that volatility. … We’re trying to reduce risk with the bond portfolio, not increase risks.”

READ MORE: Why laddered bond portfolios cover all the bases

The ‘peculiarly bad location’ for a bond ladder

Risk-averse planners, then, could likely predict the conclusion of the working academic paper, which was posted in late February by Edward McQuarrie, a professor emeritus in the Leavey School of Business at Santa Clara University: Tax-deferred retirement accounts such as a 401(k) or a traditional individual retirement account are usually the best location for a Treasury inflation-protected securities ladder. The appreciation attributes available through an after-tax Roth IRA work better for equities than a bond ladder designed for decumulation, and the potential payments to Uncle Sam in brokerage accounts make them an even worse asset location.

“Few planners will be surprised to learn that locating a TIPS ladder in a taxable account leads to phantom income and excess payment of tax, with a consequent reduction in after-tax real spending power,” McQuarrie writes. “Some may be surprised to learn just how baleful that mistake in account location can be, up to and including negative payouts in the early years for high tax brackets and very high rates of inflation. In the worst cases, more is due in tax than the ladder payout provides. And many will be surprised to learn how rapidly the penalty for choosing the wrong asset location increases at higher rates of inflation — precisely the motivation for setting up a TIPS ladder in the first place. Perhaps the most surprising result of all was the discovery that excess tax payments in the early years are never made up. [Original issue discount] causes a dead loss.”

The Roth account may look like a healthy alternative, since the clients wouldn’t owe any further taxes on distributions from them in retirement. But the bond ladder would defeat the whole purpose of that vehicle, McQuarrie writes.

“Planners should recognize that a Roth account is a peculiarly bad location for a bond ladder, whether real or nominal,” he writes. “Ladders are decumulation tools designed to provide a stream of distributions, which the Roth account does not otherwise require. Locating a bond ladder in the Roth thus forfeits what some consider to be one of the most valuable features of the Roth account. If the bond ladder is the only asset in the Roth, then the Roth itself will have been liquidated as the ladder reaches its end.”

READ MORE: How to hedge risk with annuity ladders

RMD advantages

That means that the Treasury inflation-protected securities ladder will add the most value to portfolios in a tax-deferred account (TDA), which McQuarrie acknowledges is not a shocking recommendation to anyone familiar with them. On the other hand, some planners with clients who need to begin required minimum distributions from their traditional IRA may reap further benefits than expected from that location.

“More interesting is the demonstration that the after-tax real income received from a TIPS ladder located in a TDA does not vary with the rate of inflation, in contrast to what happens in a taxable account,” McQuarrie writes. “Also of note was the ability of most TIPS ladders to handle the RMDs due, and, at higher rates of inflation, to shelter other assets from the need to take RMDs.”

The present time of high yields from Treasury inflation-protected securities could represent an ample opportunity to tap into that scenario.

“If TIPS yields are attractive when the ladder is set up, distributions from the ladder will typically satisfy RMDs on the ladder balance throughout the 30 years,” McQuarrie writes. “The higher the inflation experienced, the greater the surplus coverage, allowing other assets in the account to be sheltered in part from RMDs by means of the TIPS ladder payout. However, if TIPS yields are borderline unattractive at ladder set up, and if the ladder proved unnecessary because inflation fell to historically low levels, then there may be a shortfall in RMD coverage in the middle years, requiring either that TIPS bonds be sold prematurely, or that other assets in the TDA be tapped to cover the RMD.”

READ MORE: A primer on the IRA ‘bridge’ to bigger Social Security benefits

The key takeaways on bond ladders

Other caveats to the strategies revolve around any possible state taxes on withdrawals or any number of client circumstances ruling out a universal recommendation. The main message of McQuarrie’s study serves as a warning against putting the ladder in a taxable brokerage account.

“Unsurprisingly, the higher the client’s tax rate, the worse the outcomes from locating a TIPS ladder in taxable when inflation rages,” he writes. “High-bracket taxpayers who accurately foresee a surge in future inflation, and take steps to defend against it, but who make the mistake of locating their TIPS ladder in taxable, can end up paying more in tax to the government than is received from the TIPS ladder during the first year or two.”

For municipal or other types of tax-exempt bonds, though, a taxable account is “the optimal place,” Spranger said. Convertible Treasury or corporate bonds show more similarity with the Treasury inflation-protected securities in that their ideal location is in a tax-deferred account, he noted.

Regardless, bonds act as a crucial core to a client’s portfolio, tamping down on the risk of volatility and sensitivity to interest rates. And the right ladder strategies yield more reliable future rates of returns for clients than a bond ETF or mutual fund, Spranger said.

“We’re strong proponents of using individual bonds, No. 1 so that we can create bond ladders, but, most importantly, for the certainty that individual bonds provide,” he said.

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Why IRS cuts may spare a unit that facilitates mortgages

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Loan applicants and mortgage companies often rely on an Internal Revenue Service that’s dramatically downsizing to help facilitate the lending process, but they may be in luck.

That’s because the division responsible for the main form used to allow consumers to authorize the release of income-tax information to lenders is tied to essential IRS operations.

The Income Verification Express Service could be insulated from what NMN affiliate Accounting Today has described of a series of fluctuating IRS cuts because it’s part of the submission processing unit within wage and investment, a division central to the tax bureau’s purpose.

“It’s unlikely that IVES will be impacted due to association within submission processing,” said Curtis Knuth, president and CEO of NCS, a consumer reporting agency. “Processing tax returns and collecting revenue is the core function and purpose of the IRS.”

Knuth is a member of the IVES participant working group, which is comprised of representatives from companies that facilitate processing of 4506-C forms used to request tax transcripts for mortgages. Those involved represent a range of company sizes and business models.

The IRS has planned to slash thousands of jobs and make billions of dollars of cuts that are still in process, some of which have been successfully challenged in court.

While the current cuts might not be a concern for processing the main form of tax transcript requests this time around, there have been past issues with it in other situations like 2019’s lengthy government shutdown.

President Trump recently signed a continuing funding resolution to avert a shutdown. But it will run out later this year, so the issue could re-emerge if there’s an impasse in Congress at that time. Republicans largely dominate Congress but their lead is thinner in the Senate.

The mortgage industry will likely have an additional option it didn’t have in 2019 if another extended deadlock on the budget emerges and impedes processing of the central tax transcript form.

“It absolutely affected closings, because you couldn’t get the transcripts. You couldn’t get anybody on the phone,” said Phil Crescenzo Jr., vice president of National One Mortgage Corp.’s Southeast division.

There is an automated, free way for consumers to release their transcripts that may still operate when there are issues with the 4506-C process, which has a $4 surcharge. However, the alternative to the 4506-C form is less straightforward and objective as it’s done outside of the mortgage process, requiring a separate logon and actions.

Some of the most recent IRS cuts have targeted technology jobs and could have an impact on systems, so it’s also worth noting that another option lenders have sometimes elected to use is to allow loans temporarily move forward when transcript access is interrupted and verified later. 

There is a risk to waiting for verification or not getting it directly from the IRS, however, as government-related agencies hold mortgage lenders responsible for the accuracy of borrower income information. That risk could increase if loan performance issues become more prevalent.

Currently, tax transcripts primarily come into play for government-related loans made to contract workers, said Crescenzo.

“That’s the only receipt that you have for a self-employed client’s income to know it’s valid,” he said.

The home affordability crunch and rise of gig work like Uber driving has increased interest in these types of mortgages, he said. 

Contract workers can alternatively seek financing from the private non-qualified mortgage market where bank statements could be used to verify self-employment income, but Crescenzo said that has disadvantages related to government-related loans.

“Non QM requires higher downpayments and interest rates than traditional financing,” he said.

In the next couple years, regional demand for loans based on self-employment income could rise given the federal job cuts planned broadly at public agencies, depending on the extent to which court challenges to them go through.

Those potential borrowers will find it difficult to get new mortgages until they can establish more of a track record with their new sources of income, in most cases two years from a tax filing perspective. 

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