United States: A Federal Crackdown On Tax Zapper Software

Last Updated: January 26 2017
Article by Matthew D. Lee

Previously published by Law360.

In December, the Justice Department announced criminal charges against John Yin, a software salesman who worked for a Canadian company that sells point of sale (POS) software programs that enabled restaurants to underreport their sales, thereby lowering their tax liability.[1] Commonly called "zapper" programs, these revenue suppression software (RSS) programs are used to delete some or all of a restaurant's cash transactions and then reconcile the books of the business.

The result is that the company's books appear to be complete and accurate, but are in fact false because they reflect fewer sales than were actually made. State authorities have been trying to combat the use of zappers by cash intensive businesses like restaurants for years, and the Yin case is significant because the government's investigation revealed that the defendant marketed and sold zapper software throughout the Seattle area to multiple restaurants over the course of several years.

Yin pleaded guilty to a widespread scheme to defraud federal and state tax authorities, resulting in the avoidance of more than $3.4 million in taxes. This case is undoubtedly only the tip of the iceberg, as charges against other defendants will almost certainly result from Yin's guilty plea.

The Alleged Offenses

According to the publicly-filed charging document and guilty plea agreement, Yin worked as a salesman for Profitek, a British Columbia company selling POS systems for hospitality and retail industries, from at least 2009 through mid-2015. In addition to its Canadian headquarters, Profitek has offices in China and a growing dealership network across North America.

Profitek designed, marketed, sold, and supported revenue suppression software as an "add-on" to its Profitek point-of-sale software. The RSS functioned only with the Profitek POS software. POS software creates a database of transactions that is used to calculate a business' tax obligations. RSS is used to modify a business' POS database for the sole purpose of hiding cash skimming.

When executed, the RSS program deletes all or some of the business's cash transactions, and then reconciles the books of the business. The result is business records that appear to be complete and accurate but, in fact, are false and fraudulent in that they show less than total income earned.

Yin acknowledged in his guilty plea agreement that he successfully sold the POS software, and assisted in the widespread distribution of the zapper software, to dozens of customers in and around Seattle over the course of several years. The zapper software could only be ordered from a supplier in China, so Yin would put his clients in touch with the Chinese company and facilitate their purchase of the software. Yin also serviced the zapper software once his clients purchased and installed it.

Yin further admitted that his clients' use of zapper software allowed them to consistently and significantly underpay their various federal, state and local taxes, including business and occupation taxes, Social Security and Medicare taxes and federal income taxes.

The plea agreement states that eight restaurants in the Seattle area were audited by the Washington State Department of Revenue and found to be using Yin's zapper software. The total amount of state sales and federal income taxes avoided by these establishments during the period 2010 through 2013 were determined as follows:

Restaurant 1 $218,447.75

Restaurant 2 $498,666.75

Restaurant 3 $302,222.25

Restaurant 4 $472,222.25

Restaurant 5 $565,952.75

Restaurant 6 $332,433.00

Restaurant 7 $145,319.75

Restaurant 8 $910,324.50

These amounts do not include unpaid Social Security and Medicare taxes. The grand total of unpaid taxes attributable to zapper software sold by Yin is $3,445,589.00.

Yin entered a guilty plea on Dec. 2, 2016, to two federal charges: (1) wire fraud; and (2) conspiracy to defraud the U.S. government. The wire fraud charge is based upon Yin's use of email to communicate with the Chinese supplier of the zapper software purchased by many of his clients. The conspiracy charge is based upon Yin's efforts to facilitate the use of zapper software by his clients for purposes of underreporting taxable income required to be reported on federal income tax returns.

Based upon the agreed-upon tax loss of $3.4 million, at sentencing Yin is facing a potential sentence of 37 to 46 months in prison as calculated by the United States Sentencing Guidelines. As part of his guilty plea, Yin agreed to make full restitution, in the amount of $3,445,589, to the IRS and Washington State. Sentencing is scheduled for Feb. 24, 2017.

The publicly-filed court documents are silent as to whether Yin is cooperating with ongoing federal and state investigations of restaurants suspected of using zapper software. Given the widespread use of such software by Yin's clients and the substantial jail sentence he is facing, it is reasonable to assume that he is cooperating in order to earn leniency at sentencing. As a result, charges against additional defendants are likely.

State Efforts to Combat Use of Zapper Software

Historically, state law enforcement agencies, not the U.S. Department of Justice or the Internal Revenue Service, have taken the lead in cracking down on the use of revenue suppression software. In early 2016, the attorney general of Washington state filed what he called a "first-of-its-kind" criminal case against a restauranteur, Yu-Ling Wong, for allegedly using sales suppression software to avoid paying nearly $400,000 in state sales tax.[2]

That case, which evidently spawned the federal prosecution of Yin, began as a routine audit by the Washington State Department of Revenue, which trains its auditors to detect the use of revenue suppression software. Auditors noted an unusual change in cash receipts, as compared to the restaurant's historical cash receipts, determined that the restaurant's point-of-sale system could not be trusted, and eventually uncovered the use of zapper software provided by Yin.

The case was thereafter referred for criminal prosecution, and state attorney general executed a search warrant at Yin's residence. During a law enforcement interview conducted during execution of that search warrant, Yin admitted he sold the zapper software in approximately 2007 and trained a purchaser in how to use it.

Many states have passed laws outlawing the use of revenue suppression software, including Washington, Michigan, Florida, Georgia, Utah and West Virginia, and others are considering proposals to enact such laws. And the problem is not just confined to the United States. In a 2013 report entitled "Electronic Sales Suppression: A Threat to Tax Revenues," the Organisation for Economic Co-operation and Development concluded that revenue suppression software "facilitate[s] tax evasion and result[s] in massive tax loss globally."

Increasing Federal Attention to Zapper Software?

The Yin case suggests that federal authorities may take a greater interest in prosecuting restaurants and other cash intensive businesses that make use of revenue suppression software. The investigation of Yin and his subsequent guilty plea have opened a window into what appears to be widespread and longtime use of zapper software by restaurants throughout the Seattle area, and additional charges are expected.

The IRS has trained revenue agents to look for evidence that zapper software may be used, and its "Cash Intensive Businesses Audit Techniques Guide" specifically instructs agents to focus on point-of-sale software when auditing restaurants and bars. In addition, increasing vigilance by state auditors of cash intensive businesses will likely spawn additional federal prosecutions just as occurred in the Yin investigation.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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