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Child credit scam prompts U.S. tax crackdown on expats in Israel

Published 31/07/2014, 09:04
Child credit scam prompts U.S. tax crackdown on expats in Israel

By Steven Scheer and Tova Cohen

TEL AVIV (Reuters) - It was called the "Israel Project", an operation by the U.S. Internal Revenue Service (IRS) that has uncovered false claims for child tax credits involving an estimated tens of millions of dollars filed by U.S. citizens living in Israel.

About 200,000 American citizens live in Israel, one of the largest U.S. expatriate communities, and in a separate inquiry, U.S. regulators are investigating whether Israeli banks helped American clients evade U.S. taxes, mostly at Swiss subsidiaries.

As a result of the child credit scam, many Americans in Israel who made legitimate claims have faced costly audits by the IRS. These require claimants to prove they meet conditions for getting the money, including that they are legitimately employed and that their children are also U.S. citizens.

Accountants said claims surged when it was realised U.S. nationals living abroad were eligible for the credit, beginning in the ultra-Orthodox community and spreading from there.

Ultra-Orthodox families are typically large, but men usually have no formal employment, devoting their lives to religious study on small Israeli state stipends. Fathers are therefore ineligible for the allowance, which is worth $1,000 per child to middle income wage earners every year. In many cases, mothers are either not U.S. citizens or earn too little to make a claim.

Accountant Philip Stein said ultra-Orthodox Jews, who are also known in Hebrew as Haredim, weren't the only people involved in making false claims. "It started in that sector but it wasn't just Haredim," he told Reuters.

Ultra-Orthodox leaders declined to comment.

The IRS initially called the examination the "Israel Project", a phrase one accountant said appeared on letters some of his clients received from the government agency.

Stein said the IRS "took off its gloves" after pre-audit letters were ignored and then false income was reported. "I met an IRS official and she said: 'You are from the land of false tax returns,'" he said.

The IRS denied there is an "Israel Project" or that it is singling out U.S. citizens in the country for special scrutiny.

"The IRS bases its exam selection on analysis of the information reported on individual returns," it said in an emailed statement to Reuters. "Currently, audits of potential abuse in the child tax credit and other refundable credits are underway and ongoing in more than a dozen different countries."

Some expats are being served with IRS penalties amounting to thousands of dollars, which often results in the case going to tax courts in the United States.

Under U.S. law, Americans expats must file annual income tax returns in the United States. But for many who grumble about this, there's also a perk in the child allowance. Even those who wind up owing no taxes in the United States after deductions and foreign income exclusions can claim the money.

"This took off like a torpedo,", said Jeff Melamed, a U.S. certified public accountant (CPA) practising in Israel. "Unfortunately, some unscrupulous tax preparers, many of whom were not CPAs but opened up shop to generate refunds, did a lot of less-than-kosher things."

Melamed said that even before the IRS had begun to investigate he had spoken to several rabbis in Orthodox communities to try to stop the child credit abuse.

The irregularities were of two types. To qualify for the U.S. credit, one must have "taxable earned income" - but some people based their claims on religious studies allocations, child allowances from the Israeli government and even gifts.

Others claimed credits for children who were in the process of becoming U.S. nationals - but not yet citizens.

"Once the IRS discovered that certain taxpayers may not have reported their income properly, due possibly to improper advice they received from some unscrupulous advisers, the IRS extrapolated and thought most if not all taxpayers from Israel were filing improperly," said Alan Deutsch, a U.S. CPA in Israel. "As such, they started auditing thousands of taxpayers in Israel."

NERVE-RACKING

Debbie Eisenberg, a mother of two who runs after-school programming in Israel, was audited by the IRS over her child allowance claim - even though her kids were U.S.-born.

"Any time you get a letter from the IRS saying there's a problem, it's nerve-racking," she said. "So I immediately called my accountant freaking out and he said: 'Don't worry, it happened to me too.'"

While no data is available on U.S. audits in Israel, several accountants interviewed estimate about half their American clients have been audited in the past few years. In the United States, less than 1 percent of tax filers were audited in 2013.

Ultimately, Deutsch said, cases in which income was reported properly have been resolved in the taxpayers' favour in Israel, but not before they spent thousands of dollars on accountants, certified translators for documents in Hebrew and tax lawyers.

"The IRS was tough," said Steven Walz, who immigrated from New York in 2001. "They asked for birth certificates, they asked for my marriage certificate and a voucher from the kids' doctors and teachers that they existed and were a part of my family." Eventually, the IRS ruled all was fine.

Laura Ben David, a mother of six, said her audit has taken three years and the IRS is demanding $70,000 (£41,440). "They never gave us a reason why we would owe them any money," said Ben David, who recently started her own business as a marketing consultant. "All of a sudden we were a target and it has been extremely frustrating and scary."

TAX EVASION

Media have reported scams involving the child allowance in other countries, and the audits are another step in wider efforts to boost compliance with U.S. tax law and crack down on evaders generally.

Leumi, Israel's second-largest bank, said last month it was close to a deal to pay nearly 1 billion shekels (£172.8 million) to the U.S. Justice Department in relation to an investigation into possible tax evasion by American clients.

In May, Credit Suisse agreed to pay more than $2.5 billion in penalties for helping Americans dodge taxes.

"We live in an age where you can't be a citizen of the United States, hold income-producing assets outside of the U.S. and expect them to be shrouded in secrecy," said Leonard Tuber, an accountant with Crowe Horwath who heads its U.S. tax services department in Israel.

According to Israel's Globes financial newspaper, U.S. customers have withdrawn $4 billion from Israeli banks in the past few years because of tightened compliance requirements.

(editing by David Stamp)

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