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IRS Traps Gentlemen’s Club Owner Who Filed False Tax Returns And Maintained Two Sets Of Books.

You can’t have it both ways. More than one small business owner has either underreported his income or overstated his business expenses in order to save on income taxes. But that can come back to haunt them when they go to sell the business. While not universally true, most buyers base their offer on the cash flow from the business. Low income means a low selling price. That was the situation in this case. The big difference was the buyers were undercover IRS agents.

John M. Potter owned and operated a “gentlemen’s club” called Potter’s Pub, Inc. Potter’s Pub was a cash-based business that derived receipts from food and drink charges run through the cash register, door cover charges, juke box moneys, pool table receipts, and moneys paid to the pub by the dancers for the privilege of “dancing”. Mr. Potter was the president and sole owner. For each year at issue he filed, and signed as president, a Form 1120, U.S. Corporation Income Tax Return, for Potter’s Pub. Those returns reported losses for 2002 and 2003 and zero taxable income for 2004 and 2005. Mr. Potter’s individual income tax returns for the years at issue reported no wages, dividends, or other income from Potter’s Pub on the returns.

In December 2006 IRS Special Agents engaged in an undercover investigation of Potter’s Pub posing as buyers interested in acquiring the business. Mr. Potter assured the undercover agents that Potter’s Pub was much more profitable than it appeared. He explained that he deposited in the corporate account only enough of the business revenues to cover its expenses and that he wired the balance of its revenues to his personal bank account in Florida. These wire transfers were structured in amounts less than $10,000 to avoid reporting obligations by the bank to the IRS. In reality, Mr. Potter told the undercover agents, Potter’s Pub grossed more than $1 million annually and he took home between $400,000 and $520,000 each year. He showed the agents clandestine sales ledgers for 2003 and 2004 that supported the gross receipts he claimed, acknowledging that it might have been unwise to maintain documentary evidence of his skimming.

During a subsequent search of Potter’s Pub, IRS Special Agents seized upwards of $200,000 in cash and obtained the set of clandestine sales ledgers that tracked its daily receipts. These ledgers confirmed that Potter’s Pub’s annual receipts for 2002 to 2005 were vastly in excess of the amounts that Mr. Potter had reported to the IRS. The difference between its actual gross receipts and the gross receipts reported on the company’s Forms 1120 for those years exceeded $2 million.

In January 2009 Mr. Potter was criminally charged with eight counts under Section 7206(1) and (2) for making and subscribing false tax returns, and for assisting in the preparation of false tax returns, for himself and Potter’s Pub. In May 2009 he pleaded guilty to one count of making and subscribing a false Form 1120 on behalf of Potter’s Pub for 2002. Pursuant to his plea, he was sentenced to 18 months’ prison time and supervised release for one year. He was also ordered to pay restitution of $400,000.

Don’t think the case above could happen to you? In a case some years ago a taxpayer was selling his business and divulged the second set of books to the buyer. At some point the buyer had a falling out with the seller and reported him to the IRS.

One of the dangers of filing false returns, other than the obvious one of problems with the IRS (and the applicable state), is that how you deal with other parties who are interested in your financial position. For example, you’re going for a bank loan for your business, or a home mortgage, a car loan, or, as in this case, you’re trying to sell your business. If you present financials that conflict with your tax return you run the risk being accused of defrauding the lender or buyer. Worse, the financials presented to the bank can be used as evidence of fraudulent intent with respect to the tax returns.

Already filed returns which can be considered fraudulent? The sooner you hire tax counsel experienced in criminal tax matters, the higher the chance that further escalation of your case in the criminal arena could be avoided or limited.

Protect yourself from excessive fines and possible jail time. Let the tax attorneys of the Law Offices Of Jeffrey B. Kahn, P.C. located in Los Angeles, San Francisco, San Diego and elsewhere in California defend you from the IRS.

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