Tax Avoidance versus Tax Evasion

There has been some confusion about the difference between avoiding taxes and evading taxes. This confusion has come to the public’s attention, once again, over the weekend with the New York Times publication of the first of several promised articles on the long awaited taxes of President Trump. Let me try to clear up the confusion a little.

When we “avoid taxes” we minimize the taxes we owe and maximize our after-tax income. To do this we take advantage of legal deductions and exemptions (like our medical deductions or mortgage interest deduction, and family exemptions like our children). These can be part of our annual income planning. In our retirement planning we can put money into a 401(k) and reflect that in our tax filing.  Many of these deductions and exemptions are on the tax forms themselves, and so, are expected to be used.

Tax evasion reduces taxes by illegal means. Evasion often involves fraud (there is an intent by the person owing the taxes to perform the illegal actions) in either filing or paying taxes. Concealing assets, income or information to dodge liability typically constitutes tax evasion.  An example would be something like reporting less income than was actually received or deducting fictitious expenses. Evasion is a crime and carries with it an underpayment penalty as well as a fine of $100,000.00 plus five years in prison, depending on the Federal Sentencing Guidelines. See the Internal Revenue Code Section 7201.

Can tax avoidance become tax evasion? Yes, by taking some legal aspects of tax filing and purposefully concealing the truth about the assets, income or information to dodge tax liability.