The Internal Revenue Service had increased taxes for Griffin, her ex-husband and Terrell Equipment Co. and tacked on a fraud penalty.

To sniff out fraud, the IRS looks at activities such as having two sets of books, misleading the agent, filing false documents. Fraud is under-reporting taxes intentionally. But can under-reporting alone be fraud? The agency says yes.

Many years before the IRS arrived, Janet Knauss married Vernon Griffin. That same year he started work for Terrell Equipment as a janitor. The company, home based in Grand Saline, Texas, built commercial kitchen sinks and counter tops. Janet's father, its owner and operator, groomed Vernon to eventually take over the business. Seventeen years later and after the senior's retirement, Vernon headed the company as its president and owned 25.07% of its stock. His wife also owned 25.07%, with her mother owning the remainder.

Then things began to unravel. The couple divorced, and Vernon moved his home and the company office to New Braunfels, Texas.

To top it off, the IRS challenged their tax returns. It said the company understated taxes by $312,343 and the couple by $140, 859 for a three-year period, and it added a fraud penalty. Janet had prepared the couples' returns. The CPA, who had prepared the company's returns, was given Terrell's records and full access to employees for questioning.

The judge considered these points favorable to the company and the couple: They were cooperative; they maintained adequate records; they didn't file false documents; they didn't mislead the agent; they didn't conceal income or assets; they weren't engaged in illegal activities; and the couple had a limited education-Vernon attended junior college for one semester, and Janet only completed only high school.

The judge said their only misconduct was understating income.

That's enough for fraud, said the government. The judge disagreed, saying an understatement of income alone doesn't support a fraud conviction. He ruled there was no fraud: None of the taxpayers concealed, misled or otherwise tried to prevent the collection of taxes. And without fraud, the statute of limitations had run on the years examined, so the taxpayers owed nothing.

These taxpayers were lucky. Some courts say consistently under-reporting large amounts of income over several years alone is sufficient for fraud. (more at Fraud and Scams)

Released 5-13-02