What Is the Penalty for Claiming False Dependents?

Civil Penalties and Financial Consequences

When a taxpayer improperly claims a dependent, the first financial consequence is repaying the resulting tax benefit. This means paying back the tax that was underpaid or the refund that was incorrectly issued. The Internal Revenue Service (IRS) also charges interest on the underpayment, which accrues daily from the original tax return due date until the amount is paid. The interest rate is determined quarterly.

The IRS can also impose an accuracy-related penalty under Internal Revenue Code Section 6662. This penalty is 20% of the tax underpayment caused by the error and applies in cases of negligence or disregard of the rules. Negligence does not require an intent to deceive; it can be a failure to make a reasonable attempt to comply with tax laws. For example, if divorced parents claim the same child without a formal agreement, the parent not entitled to the claim could be deemed negligent.

A more severe financial penalty applies if the IRS can demonstrate the false claim was due to fraud. The civil fraud penalty, under Internal Revenue Code Section 6663, is 75% of the tax underpayment from the fraudulent act. Civil fraud requires the IRS to prove the taxpayer acted with willfulness and intent to evade taxes, such as by creating fake documents or claiming a nonexistent dependent.

Another penalty is the Erroneous Claim for Refund or Credit penalty under Internal Revenue Code Section 6676. This penalty is 20% of the “excessive amount” claimed and can be assessed even if the improper claim does not result in an underpayment of tax. It applies when a taxpayer files for a refund or credit without a reasonable cause. For instance, if a taxpayer claims a large refundable credit for a false dependent, this penalty can be imposed even if the IRS stops the refund during processing.

A significant financial consequence is the potential disallowance of future tax credits. If the IRS determines a dependent was claimed due to reckless or intentional disregard of the rules, it can ban the taxpayer from claiming certain credits for two years. These credits include the Earned Income Tax Credit (EITC), the Child Tax Credit (CTC), and the American Opportunity Tax Credit (AOTC). If the claim is found to be fraudulent, this ban extends to ten years.

Criminal Prosecution and Severe Sanctions

A false dependent claim can lead to criminal prosecution, which carries sanctions beyond monetary penalties. The threshold for elevating a case from civil to criminal is “willfulness,” meaning prosecutors must prove the taxpayer intentionally violated a known legal duty. A criminal investigation is reserved for cases with patterns of egregious behavior, such as claiming nonexistent dependents, using fake Social Security numbers, or creating false documents.

A conviction for criminal tax fraud or evasion can lead to federal prison. A conviction for tax evasion under Internal Revenue Code Section 7201 can result in up to five years of incarceration. Filing a false return under penalty of perjury is a separate felony under Section 7206, which carries a sentence of up to three years in prison. These sentences can potentially be served consecutively, and specific outcomes vary based on the crime’s severity.

Criminal convictions also come with fines that are separate from civil penalties. For a felony tax conviction, an individual can be fined up to $100,000. These fines are intended as punishment, not just to recover lost tax revenue. The court may also order the defendant to pay the costs of prosecution, adding to the financial burden.

A criminal tax conviction results in a permanent federal criminal record, which can negatively impact an individual’s life long after a sentence is served. It can create barriers to future employment, professional licenses, and eligibility for certain federal benefits.

The IRS Investigation and Correction Process

The IRS discovers false dependent claims through automated systems and human reviews. An automated check occurs when two taxpayers file returns claiming the same Social Security Number (SSN), causing the system to reject the second return and flag the duplicate claim. The IRS also receives information from third parties, such as a tip from an ex-spouse, which can trigger an investigation. These tips can be submitted using IRS Form 3949-A, Information Referral.

When a potential issue is identified, the process begins with an official notice from the IRS. A common notice for a duplicate claim is the CP87A, which informs both parties that the same dependent was claimed and one must amend their return. If neither party corrects the error, the IRS may initiate a formal audit. An audit requires the taxpayer to provide documentation proving their right to the claim, such as:

• Birth certificates
• School records
• Medical bills
• A letter from a daycare provider to establish residency

Taxpayers who realize they have made a mistake can file an amended tax return using Form 1040-X, Amended U.S. Individual Income Tax Return. This form allows a taxpayer to correct their filing, including removing a dependent claimed in error. Filing Form 1040-X before being contacted by the IRS can help mitigate penalties by demonstrating a willingness to comply with the law.

To complete Form 1040-X, the taxpayer needs a copy of their original return. The form requires showing the original figures, the net change, and the correct amounts, along with a written explanation for each change. If the amended return results in additional tax owed, it should be paid with the filing to avoid further interest and penalties. A taxpayer has three years from the original filing date or two years from the tax payment date, whichever is later, to file an amended return.