Tax return preparer fraud is an area of increasing concern for the Internal Revenue Service (IRS). The IRS defines tax return preparer fraud as the preparation and filing of false income tax returns containing inflated personal or business expenses, false deductions, unpermitted credits, or excessive exemptions. Unscrupulous preparers may either steal the refund outright, charge a fee based on a percentage of the refund, or collude with the taxpayer to split the proceeds.

With return preparation fraud as one of the IRS’s top scams, the BSA departments in financial institutions can contribute a great deal to the detection of unscrupulous return preparers.

Approximately 56% of all taxpayers rely on Professional Service Providers (PSPs) who often act as intermediaries between the FI and its clients to prepare their returns. Return preparers can be attorneys, accountants, enrolled agents, enrolled retirement plan agents, enrolled actuaries, or annual filing season program participants. The latter group requires no formalized education or credentials and therefore should be considered as high-risk as the others.

The IRS is adamant that tax return preparers should not be receiving refunds on behalf of their customers. The IRS now limits the number of refunds electronically deposited into a single financial account or pre-paid debit card to three. Additional refunds will automatically convert to a paper refund check and be mailed.

BSA departments have an important role in detecting return preparer fraud once the refund checks enter their institutions. Even though FIs are not reviewing tax returns, some red flags can help FIs detect fraudulent tax return checks. By filing suspicious activity reports (SARs) after appropriate detection, BSA departments aid in the detection of tax preparer fraud.

Tax return checks payable to the preparer should be considered a red flag for “return preparation fraud.” Other red flags include cashing or depositing refund checks issued to unrelated or multiple individuals, return preparers escorting clients to the institution and receiving portions of the refund, and individuals receiving multiple refund checks for a single tax year. BSA departments should also monitor return preparer accounts for outgoing sources of funds if preparers are remitting taxes on behalf of their clients. Excessive ATM withdrawals, cash withdrawals, or transfers to the preparer’s personal accounts may all be red flags of preparers embezzling client funds. The IRS accepts payments via ACH, EFT, credit and debit cards, wire transfers, and paper checks. Unusual forms of payment, such as prepaid debit cards, PayPal, iTunes or Google Play cards may be red flags, as these forms of payment either contain higher fees (prepaid debit cards) or are not forms of payment accepted by the IRS.

It should be noted that the individuals may not realize that they are victims of preparer fraud, as they are relying on preparers to know the tax laws and fill out the forms correctly. For individual returns, the most common large refundable credits (that is, the credits that create refunds of $1,000 or more) include the Earned Income Tax Credit (EITC), the Additional Child Tax Credit (CTC), and the American Opportunity Credit (AOC). All three credits either require that the customer have children (the CTC and AOC), or are largest when the individual has children (the EITC). Therefore, if an individual wishes to negotiate a large refund check and does not have children, this may be a red flag that the individual is a victim of return preparer fraud. Other common victims of return preparer fraud are international students – students attending college in the United States on an F visa. The AOC offers a tax refund of up to $2,500 per year, but it is only available to US citizens. Unscrupulous or poorly trained tax preparers fill out US citizen tax forms for international students, causing them to qualify for tax refunds that those students are not entitled. Most international students are entitled to small refunds, or to their dismay, they may discover that they owe money to the IRS.

These red flags, along with standard PSP red flags, provide BSA departments with greater opportunities for catching tax return preparer fraud. As the IRS is a key agency in the BSA/AML process, SARs for unusual or suspicious tax refunds can be a significant component in the battle against unscrupulous tax return preparers.

At AML RightSource, our Financial Crimes Advisory professionals can help you build an AML program designed to mitigate risk and enhance the detection of various fraud trends including tax return preparer fraud.