Michael Cohen takes the Fifth, but with taxes, it’s tricky

President Donald Trump's lawyer Michael Cohen continues to be in hot water after his home and office were searched. The feds want details about the Stormy Daniels payment and presumably other matters, taking the unusual step of searching a lawyer's office despite claims of privilege. Every lawyer and client must feel a little uneasy hearing about the search of a lawyer's office, with the inevitable possibility that innocent client confidences could be prejudiced.

A special master will now make the call about which items are privileged and which are not. Meanwhile, Cohen has said that he will assert his rights under the Fifth Amendment. That is another important privilege, one that most people know only from television. For many Americans, the most serious legal exposure they may have relates to the IRS.

After all, every tax return must be signed under penalties of perjury. Yet it turns out that trying to take the Fifth on your taxes isn't exactly easy. For example, In Lee v. United States, 2:14-cv-00606-RJC-PAL (D. Nev. 2017). Theodore Lee argued that he could not file his 2006 tax return because it would incriminate him.

The argument has a certain appeal. Lee claimed that when his tax return was due, he was already deep in an audit with the IRS over tax returns he had filed for 1999 through 2005. He was fearful that the IRS would prosecute him, so he took the Fifth.

However, the court rejected his claim. The Fifth Amendment does grant a privilege against self-incrimination. However, that does not mean you can just refuse to file taxes. The mere act of filing an annual income tax return has little real and appreciable tendency to incriminate the filer, said the court.

In fact, merely invoking the Fifth in a tax case can invite penalties or get the IRS looking more harshly at you. Everyone must file tax returns, and must report their income. As early as 1927, the Supreme Court considered a man who refused to file a tax return, claiming that to do so would incriminate him. The case was U.S. v. Sullivan, 274 U.S. 259 (1927).

There, the Supreme Court said that it was too bad if disclosing illegal income opened him up to prosecution. Even a criminal must file tax returns and pay taxes. You have to do it accurately, and you have to sign every return under penalties of perjury.

Filing a tax return, may not be the end of it. Plenty of problems arise in the course of audits. What if the IRS asks you questions you are afraid to answer? Answering IRS questions in an audit or investigation can be nerve-wracking, and the last thing you want to do is to state something that is untrue.

The safest policy is not to speak up without your lawyer present. Ask your lawyer what is fair to discuss. But claiming Fifth Amendment protection in taxes cases can be a mistake. The issue can also come up with books and records.

You have to keep books and records to fulfill your tax filing obligations. You even have to keep bank account records for accounts outside the U.S. Undisclosed offshore bank accounts can qualify as money laundering. So, if the IRS asks you if you have any foreign bank accounts, can you take the Fifth?

You can, but it is probably not likely to help. Even if you claim the Fifth, the IRS can hand you an "information document request" to produce your records. If you refuse, the IRS will issue a summons. Then, if you refuse to answer that, the IRS will take you to court, which will probably order you to comply.

This may seem like an end run. You might assume that your constitutional right to take the Fifth should trump the IRS. Even in court, you can say, "I refuse to answer on the grounds that I may incriminate myself." In the case of the IRS, you can refuse to talk, but you cannot refuse to produce most documents.

Your own private papers are personal records. If they might incriminate you, they are protected by the Fifth Amendment. But the required records doctrine says you must hand over some documents no matter how incriminating they are. The government requires you to keep certain records, and the government has a right to inspect them. The IRS and prosecutors have exploited this rule.

It can mean that pleading the Fifth in response to a subpoena for foreign account records can cause even more trouble than claiming it on your tax returns. Required records are those where the reporting has a regulatory purpose, where a person must customarily keep the records the record-keeping scheme requires him to keep, and the records have public aspects. In the case of foreign bank records, the courts uniformly deny Fifth Amendment protection. Numerous courts have all given the IRS a free pass, ruling that no Fifth Amendment protection applies.

Despite repeated requests, the U.S. Supreme Court has been unwilling to hear this issue. So, is it likely that the Fifth Amendment will be much help on your taxes? Not really. In most cases, a tax audit is civil, and there is little risk that it will become otherwise. However,

Remember, a majority of criminal tax cases come directly out of civil tax cases. That fact itself should be sobering. You might just have a plain old tax audit, but it might expand. The IRS civil auditors 'refer' a case to the IRS Criminal Investigation Division. The IRS civil auditor will not tell you this is occurring, so the first time you hear about it, your case may have gone from bad to worse.