The Kovel Accountant in Criminal Tax Cases | Criminal Tax Blog

The Kovel Accountant in Criminal Tax Cases

Kovel Accountant in Criminal Tax

The most common felony charges in the criminal tax arena are tax evasion and false statements.  These two offenses make up the majority of criminal tax prosecutions in the United States.  Under these two legal theories, the validity of the tax returns filed, and the associated tax loss to the government, are pivotal questions at various steps in a prosecution.  For this reason, it is imperative the defense has access to a qualified accountant to combat the government’s purported loss figures.  In most cases, a taxpayer cannot be competently represented without the assistance of an accounting expert.

  • The Tax Loss is Key in Criminal Tax

The loss associated with a taxpayer’s conduct is key in all criminal tax prosecutions.  The tax loss will drive charging decisions at the Department of Justice, defenses under the willfulness element at trial, and the eventual sentencing range if convicted.  There is not a more important factor in any criminal tax case than the loss associated with the “scheme.”

The government will attempt to calculate the tax loss early in the investigation.  The Special Agent will create tables and charts to show the tax loss they believe is associated with the conduct.  This tax loss will drive the prosecution going forward.

Though Special Agents are generally pretty good at their job, they often suffer from a lack of information.  For example, a Special Agent may use the bank account method to calculate income for a particular business.  Under this method, the government often assumes every deposit into a particular account is income.  For most taxpayers, this assumption is false.  There will be multiple bank deposits that are not income under the Internal Revenue Code.  In some cases, the government’s assumptions can lead to a large inflation in the underlying tax loss figures.

In addition to assumptions on income, the government is generally not in the business of finding unclaimed business expenses during their review.  If the taxpayer claimed $100,000 in expenses for a given tax year, the government is not going to hunt for additional unclaimed expenses during the investigation.  This reality often creates inflation in the real tax loss figures.  Most taxpayers who inaccurately report their revenue, willfully or otherwise, also miss important expenses that would decrease their tax liability.

With the tax loss playing such a significant role in a criminal tax case, it is imperative the taxpayer retains a qualified accountant to review their numbers.  We have had cases where an accountant was able to considerably lower the government’s tax loss figures.  And a few, where the accountant was able to remove the tax loss altogether.

  • Tax deficiency is an element of tax evasion

Under a false statement case, the government is not required to prove an actual tax loss for conviction.  Their only requirement is to show the taxpayer willfully misstated a material figure on the return.  It is immaterial under the elements of the offense whether that misstatement created a tax loss of $1 or $1 million.  Though a tax loss is not required, generally, the government is not going to pursue criminal charges for misstatements that do not result in a substantial tax loss.  Even if the statute would technically allow it.

Unlike false statement cases, tax evasion does require the government to prove a tax deficiency.  The tax deficiency element requires the government to show the taxpayer’s conduct led to a loss in tax revenue.  This reality opens the door to unique defenses to tax evasion.  If a taxpayer, through their expert, can show the taxpayer’s conduct did not affect the government’s bottom line, tax evasion cannot be proven.  This defensive showing can be done through creative accounting and/or manipulation of the current tax laws.  A successful defense to the deficiency element cannot be deployed without a qualified accountant.

Expert Assistance Criminal Tax

The Kovel Accountant in Criminal Tax Cases

Tax experts are a requirement to competently represent a taxpayer under criminal investigation.  The question for criminal tax attorneys is not whether they need a tax expert, it is simply determining who they need.  The who question is often answered by the client’s budget and the issues that are seen in the case.

Once the tax expert is identified, there is a well-defined procedure for hiring the expert.  Under Kovel, the federal courts of appeals have outlined the confines of the attorney client privilege for tax professionals.  This case, and its progeny, provides guide posts for retaining expert assistance in criminal tax cases while providing the most protection to the client.

First, the accountant or expert should be retained by the law firm under a Kovel agreement.  The agreement will clearly provide the expert is being retained by the law firm for the client, the expert is under the attorney-client umbrella, the expert is being retained to assist the attorneys in their representation, all files and notes are the property of the firm/client, and the accountant will agree to resist any disclosures to the government or another third party under the privilege.

A proper Kovel agreement will allow the tax expert to have open discussions with the client, and prepare tax return figures/accounting data, without fear the government can force disclosure of the findings or figures.  This may seem intuitive to most attorneys as experts hired by defense counsel are often included under the attorney-client umbrella.  However, extra focus is required in the criminal tax arena as tax return preparers are often not subject to any privileges.  Once a return preparer files their caluclations with the government, they have clearly destroyed any privilege to the underlying data that produced the figures.  The government often uses return preparers as key witnesses in criminal tax prosecutions.

Once under a Kovel agreement, the accountant or CPA should be free to prepare sample returns, recalculate income, and otherwise work with the taxpayer on their return figures.  However, criminal tax attorneys must be careful to ensure the privilege stays in tact.  One area of concern revolves around filing sample returns.

For example, let’s assume a Kovel accountant prepares sample returns for the defense to calculate an accurate tax loss.  Then the attorney makes the strategic decision to file those returns during the investigation in hopes of closing the criminal investigation.  A question remains whether the Kovel accountant should file those returns.  If the accountant does file those returns, there is an argument that the disclosed figures have opened the door to otherwise privileged information that was used to support those figures.  We have never had the government try to penetrate a Kovel agreement under these circumstances, but a valid argument exists that certain documents, calculations, and conversations are no longer privileged as they form the basis for the figures filed in a return to the government.

To avoid this risk, the best practice is to hire a second accountant that is removed from the Kovel accountant’s firm.  This second accountant can review the final figures, compile the tax return, and file.  This second accountant has limited knowledge of the work that was done to arrive at the final figures.  This extra layer should insulate key privileged information from disclosure to the government if requested.  Of course, there is no guarantee that all information would remain privileged, but a more cautious approach always trumps the alternative.

Criminal Tax Cases Require a Kovel Accountant

A Kovel accountant is a requirement in the criminal tax world.  It is impossible to represent a client without calculating a proper tax loss.  The tax loss is just too important at every stage of an investigation and trial to be left unreviewed.  Criminal tax attorneys should ensure they are hiring professionals to run calculations on every case and following the appropriate procedures to ensure the expert’s assistance is well within the attorney-client privilege.  Only then can an attorney properly represent a criminal tax client.

More information can be found at our pages for criminal tax, tax evasion, tax fraud, and at our criminal tax blog.