Steer Clear of Dangerous Tax Promises

You look around the room andnotice hundreds of peoplejust like you. All have cometo hear a speaker's claimsthat, "Taxes are unconstitutional and canbe avoided with either pure trusts or foreigntrusts." The well-dressed speakernotes that they have personally beat theIRS in court on several occasions. Beforeyou invest your hard earned money creatingvarious trusts, stop and reconsider.

Pollock vs. Farmer's

Loan and Trust Company

Pollock vs. Farmer's Loan and Trust

Company

The only bit of truth to the prospectof the claim made above happened inthe year 1895. In that year, the USSupreme court in held that theincome tax act at the time was unconstitutional.They specifically held thatincome taxes on real property were aprohibited direct tax. However, even atthat time, income taxes on professions,wages, trades, or vocations were alwaysconstitutionally valid. As a result, thecountry ratified the 16th amendment tothe constitution to specifically overrule. This amendment allowedCongress to lay and collect taxes onincomes from whatever source derivedand allowed passage of the Income TaxAct of 1913, the predecessor to the currentInternal Revenue Code.

Failed Attempts

Since that time, there have beennumerous attempts to get the courts tohold that the income tax code is unconstitutional.Some of the arguments werethat the 16th amendment had been ratified incorrectly. Taxpayers have even triedto avoid paying income tax on religiousgrounds. All taxpayer attempts to legallyavoid taxes have failed.

For example:

Since taxpayers have failed in allcases to invalidate the Income Tax Code,they have tried to have parts of the Codedeclared unconstitutional. Courts have held that the tax classificationdifferences between single and marriedcouples are constitutional. Courtshave also held that the marriage penaltythat results is constitutional. Moreover,the Social Security on net earning hasbeen held to be constitutional as is therequirement for estimated tax payments.Taxpayers not only tried to unsuccessfullyinvalidate the income tax on wagesand the tax on the receipt of property,but also creatively argued that havingdifferent tax rates for capital gains areunconstitutional. As you can see, all ofthese attempts have been futile.

In fact, the courts are so tired ofhearing these frivolous arguments thatthey are now asserting the government'slegal fees against taxpayers that claimthis as well as upholding the IRS'simposition of a special frivolous returnpenalty. In fact, even the frivolousreturn penalty was held to be constitutional.The bottom line is that theIncome Tax Act is quite constitutionaland Congress can enact almost any taxlaw as long as there is a rational basis.

False Havens

The next major argument by manyof these "tax protest" speakers is thatyou can avoid income tax by maintainingall assets and income in either apure trust (ie, a family estate trust) orforeign trust. These types of trusts usuallyinvolve the transfer of your assetswith a corresponding assignment oflifetime services to the trust. Thesetrusts usually pay fees and livingexpenses such as rent and make otherdistributions of income.

Sadly, this has been at best a waste ofmoney and at worst a loss of all assetsplaced in the trust. As many of thesespeakers note, these types of trusts arenot subject to tax. This is true, however,what they neglect to say is that allincome of the trust is taxed to thegrantor (you) who set up the trust if youmeet any of the following conditions:

• You can revoke the trust
• You can profit from the trust
• You can control the trust

Thus, if you keep any control whatsoever,you are taxed on the income. Inaddition, even if you are willing to giveup all control, trusts reach the highertax brackets faster than individual taxpayers.Thus, you could actually beincreasing your taxes. Moreover, foreigntrusts have stricter IRS reportingrequirements than US trusts, thus increasingyour accounting fees. Moreover,if you place your assets out of theUnited States, you will not be subject toany United States legal protections ifany assets are embezzled.

In addition, the IRS has warned thatpeople who take the position that thesetypes of trusts can avoid federal incometax will be subject to both civil andcriminal penalties. Moreover, there arehundreds of cases in which the courtsare starting to uniformly impose negligencepenalties on taxpayers who attemptto avoid tax through the use offamily estate trusts or pure trusts.

In short, whenever you hear someonetell you that taxes are unconstitutionaland can be avoided with sometrusts, run away as fast as you can.Always remember that the differencebetween tax avoidance and tax evasionis 5 years' imprisonment.

a former IRS tax

attorney and trainer of IRS attorneys,

is CEO of the Tax Reduction

Institute in Maryland and the author

of Lower Your Taxes—Big Time!

(McGraw-Hill; 2003). He travels

nationwide lecturing on tax planning and audit-proofing

techniques for small and home-based businesses.

He welcomes questions or comments at 301-972-3600 or www.taxreductioninstitute.com.

Sandy Botkin,