Zappers

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August 23, 2018
Articles
Law360
By Matthew D. Lee

Two weeks ago federal prosecutors announced criminal tax charges against the owners of five Chicago-area restaurants as part of an ongoing federal investigation into the underreporting of gross receipts using sales suppression software. The charges allege that the defendants willfully avoided paying the full amount of federal taxes by reporting gross receipts that were substantially lower than the true amounts. This case appears to be the largest and perhaps most significant federal criminal case to date against businesses that use sale suppression techniques to conceal revenue from tax authorities.

Commonly called “zappers,” sales suppression software programs run on a point-of-sale computers or cash registers and are used to secretly delete some or all cash transactions. 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. An article published by BNA last year reported that tax-zapping software costs states $21 billion in taxes annually and that 30 percent of the electronic cash registers, or point-of-sale systems, in the United States have a zapper installed.

To date, state attorneys general and revenue departments have taken the lead in cracking down on businesses that use sales suppression techniques. In the last two years, state authorities in Washington, Minnesota, Michigan, Illinois and Connecticut have successfully prosecuted criminal cases against businesses and their owners — primarily in the restaurant industry. Washington’s attorney general has been particularly aggressive in this area, filing earlier this year what he called the largest sales suppression case in the state’s history and two years ago what he called the “first-of-its-kind” zapper prosecution. In addition, numerous states have also passed laws outlawing the use of zappers and other types of sales suppression devices.

The Internal Revenue Service has been conspicuously absent from efforts to prosecute businesses and their owners for use of zappers, leading many to wonder whether the IRS would ever play a role or leave the anti-zapper efforts to the states. The only notable federal case to date involved John Yin, a salesman for a company that sold sales suppression software who was charged in December 2016. Yin sold zapper software to businesses in the Seattle area from at least 2009 through mid-2015. He pleaded guilty to assisting in the widespread distribution of zappers to dozens of customers in and around Seattle over the course of several years, and was eventually sentenced to 18 months in prison. While we expected a wave of federal prosecutions to follow the Yin case, that has not yet materialized (at least not publicly).

The federal charges in Chicago are the first federal charges in a zapper case since the Yin case. Five separate, and for the most part unrelated, business owners were charged in what was described as a “federal investigation targeting underreporting of gross receipts.” It appears that the federal investigation may have been prompted by a prior state case against one of the defendants. In August 2017, Illinois Attorney General Lisa Madigan announced charges against Sandra Sanchez, owner of Cesar’s Restaurant in Chicago. In that case, Sanchez was charged with theft and tax evasion for defrauding the state out of more than $100,000 by using a sales suppression device to underreport more than $1 million in sales to the Illinois Department of Revenue. The Attorney General alleged that between January 2012 and October 2015, Sanchez used a zapper to falsify electronic sales records to avoid paying the full amount of sales and use taxes to the state each month. The Sanchez prosecution was the first zapper case prosecuted in Illinois, following the state’s enactment of anti-zapper legislation in 2013. The press release announcing the charges noted that IRS criminal investigators assisted in the investigation. The Illinois Attorney General has not issued any subsequent press releases regarding this case, so it is not clear whether Sanchez has pleaded guilty or will be proceeding to trial or is cooperating with investigators.

Sandra Sanchez was one of the five individuals charged federally in Chicago two weeks ago. And the press release announcing the charges noted that she was charged by information, not by indictment, indicating that she has likely agreed to plead guilty. Also charged at the same time was Israel Sanchez, owner of a restaurant called Cesar’s on Broadway. Like Sandra Sanchez, Israel Sanchez was charged by information, indicating that he too is likely to plead guilty.

Given the prior state charges filed against Sandra Sanchez, and the apparent forthcoming federal guilty pleas by both Sandra Sanchez and Israel Sanchez, it may well be the case that one or both of these individuals are cooperating and assisting state and federal investigators with their zapper investigation. Indeed, last week’s Justice Department press release indicates that the federal investigation is ongoing and therefore may be more broadly focused than the five individuals charged. Indeed, the special agent-in-charge of the IRS Criminal Investigation Division in Chicago warned that these charges are just tip of the iceberg, and that cash-intensive businesses using zappers are at risk: “This is only the beginning. I want to warn those restaurants, gas stations, convenience stores and other establishments that are currently using or thinking of using sales suppression software, that we are on to you and your methods.”

Three other individuals were charged in Chicago last week: Shuli Zhao, owner of Katy’s Dumpling House in Westmont; Chun Xu Zhang, owner of Sushi City in Downers Grove; and Quan Shun Chen, owner of Hunan Spring in Evanston. It is not clear from the press release and charging documents whether these three individuals are related to each other or if they are related to the other two individuals charged, Sandra Sanchez and Israel Sanchez. Unlike the Sanchezes, these three business owners were charged by indictments, indicating that they are contesting the charges and are not pleading guilty.

The Chicago cases appear to be the most significant federal criminal case alleging use of tax zapper technology to date. As noted, for the past several years, state authorities have been taking a lead role in investigating and prosecuting businesses that use sale suppression technology. The Chicago cases are significant not only because they represent the first federal charges against business owners in many years (as opposed to the Yin case, which involved a zapper salesman) but also because they appear to be part of a larger investigation of Chicago-area businesses that use zappers. With guilty pleas expected from two of the individuals charged, at least one of those individuals likely cooperating, and the investigation ongoing, we anticipate seeing more federal charges arising out of this likely widening-probe.

Reprinted with permission from Law360. (c) 2018 Portfolio Media. Further duplication without permission is prohibited. All rights reserved.

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The State of Minnesota has joined the growing list of states that are criminally prosecuting business owners for using “zapper” programs to commit tax evasion.  Yesterday the Minnesota Department of Revenue and the St. Louis County Attorney’s Office announced the convictions of a Duluth restaurant and its owners for tax crimes based upon their use of sales suppression software.  This represents the first time that Minnesota has criminally prosecuted anyone for using a zapper.

Commonly called “zappers,” sales suppression software programs run on a point-of-sale computer or cash register and are used to secretly 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. Business owners using zapper programs often maintain two sets of books, in order track the business’ real revenue. A recent article published by BNA estimates that tax-zapping software costs states $21 billion in taxes annually and that 30 percent of the electronic cash registers, or point-of-sale systems, in the United States have a zapper installed.

The restaurant in question, Osaka Sushi Hibachi & Steak House, is owned by Dan Xu and Zhong Wei Lin.  Dan Xu pleaded guilty to one felony count of aiding in the filing of false tax returns.  Zhong Wei Lin pleaded guilty to one felony count of failing to pay sales tax.  The court stayed prison sentences for both individuals in lieu of the immediate payment of restitution in full and a year of probation.  The restaurant itself pleaded guilty to two felony counts of aiding in the filing of false tax returns and fifteen felony counts of failing to pay sales tax.  The court ordered the corporation to pay restitution as well.  All three defendants paid restitution in the total amount of $292,760.

During their plea hearing, Xu and Lin admitted to intentionally using “zapper” computer software in the point of sale system at their restaurant.  The software, which was called “Happy World,” was contained on a thumb drive that was discovered by investigators during a search of the restaurant.  The Happy World software automatically created a second set of books that removed line items from cash transactions after the fact, allowing the business to underreport its monthly sales and avoid paying sales tax collected from customers.

“These are first-of-their-kind convictions in Minnesota and highlight our investigators’ efforts to combat the growing use of sales suppression software,” said Revenue Commissioner Cynthia Bauerly.  “These convictions demonstrate our determination to level the playing field so that businesses who report and pay their fair share of tax don’t have to compete with those who break the law.”

“Deliberately failing to turn over sales taxes collected increases the tax burden on all residents.   We hope this case sends a message to others engaging in this kind of behavior that it will not be tolerated, and you will be prosecuted when caught,” said St. Louis County Attorney Mark Rubin.

As we have previously reported, state revenue departments and attorneys general (and not the Internal Revenue Service) are leading the effort to combat the use of zappers.  More than half of the states have now enacted laws criminalizing the use of sales suppression devices, and in the last two years, authorities in Washington, Michigan, Illinois, and Connecticut have successfully prosecuted criminal cases against businesses and their owners – primarily in the restaurant industry.  The Minnesota case is yet another example of aggressive action undertaken recently by state authorities against zappers, and should serve as a stern warning to business owners using (or considering using) such technology.

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Calling it the largest sales suppression software case in state history, Washington State Attorney General Bob Ferguson announced the filing of criminal charges last week against the owner of six restaurants for allegedly using illicit point-of-sale software to delete cash transactions and pocket more than $5.6 million in sales tax. The charges include six counts of first-degree theft and three counts of possessing and using sales suppression software, commonly known as a “zapper,” which is illegal in the state of Washington. This case is yet another example of aggressive action undertaken recently by state authorities against zappers, and should serve as a stern warning to business owners making use of such technology.

Sales Suppression Software

Commonly called “zappers,” sales suppression software programs run on a point-of-sale computer or cash register and are used to secretly 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. Business owners using zapper programs often maintain two sets of books, in order track the business’ real revenue. A recent article published by BNA estimates that tax-zapping software costs states $21 billion in taxes annually and that 30 percent of the electronic cash registers, or point-of-sale systems, in the United States have a zapper installed.

State of Washington v. Salvador Sahagun

According to the charging documents (available here, here, here, and here), the defendant, Salvador Sahagun, operated six restaurants in West Seattle, Broadway, Greenlake, Fremont, Lynnwood, and Marysville. During an audit, an auditor with the Washington State Department of Revenue found that point-of-sale records from these restaurants did not match with tax returns submitted by Sahagun. The auditor also found that the majority of sales receipts were missing from Sahagun’s point-of-sale system.

The press release announcing the charges notes that Department of Revenue employees, suspecting that Sahagun was using sales suppression software, visited the seven restaurants on several occasions and paid cash for their meals. The auditor then compared the employees’ receipts with the receipts on the point-of-sale system to determine whether the transactions existed and the amounts matched. The auditor found that three of the restaurants were using sales suppression software to delete or underreport cash transactions. The auditor determined that the other three locations also owed sales tax. The amount of taxes owed from each of the six locations ranged from $43,339 to $2,197,460. In total, the auditor determined that the owner owed $5,615,497 to the state.

State of Washington v. Yu-Ling Wong

While the case filed against Sahagun may be the largest in Washington state history, it is not the first. In February 2016, Washington’s Attorney General filed what he called the “first-of-its-kind” criminal case against a Bellevue restauranteur, Yu-Ling Wong, for using sales suppression software to avoid paying nearly $400,000 in state sales tax. That case 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, which had been provided by a software salesman named John Yin. Yin worked for a Canadian company called Profitek, which sold point-of-sale systems for the hospitality and retail industries. The audit was thereafter referred for criminal prosecution, and the Washington 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 Wong in how to use it.

In August 2016, Wong pleaded guilty to first-degree theft and unlawful use of sales suppression software. The court ordered Wong to pay $300,000 in restitution to the Washington Department of Revenue. In addition, Wong’s business entered a corporate guilty plea to first-degree theft, unlawful use of sales suppression software, and filing a false or fraudulent tax return. In an unusual provision, both Wong and the business are subject to monitoring by the Department of Revenue for a period of five years.

United States v. John Yin

As a result of Washington’s investigation and prosecution of Yu-Ling Wong, the Justice Department announced federal criminal charges against John Yin in December 2016. According to the publicly-filed charging document and guilty plea agreement, Yin worked as a salesman for Profitek 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 (RSS) – commonly referred to as a “zapper” – as an “add-on” to its Profitek point-of-sale software. The RSS functioned only with the Profitek POS software.

Yin acknowledged in his guilty plea agreement that he successfully sold the POS software, and assisted in the widespread distribution of the Zapper add-on, 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 stated 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 was $3,445,589.00.

Yin entered a guilty plea on December 2, 2016, to wire fraud and conspiracy to defraud the U.S. government. Yin agreed to make full restitution, in the amount of $3,445,589, to the IRS and Washington state. He was eventually sentenced to 18 months in prison.

Other States’ Efforts to Combat Zappers

Many states in addition to Washington have passed laws outlawing the use of revenue suppression software, including Michigan, Illinois, Connecticut, Florida, Georgia, Utah, and West Virginia, and others — like Mississippi — are considering proposals to enact such laws. The Washington state law, passed in 2013, makes it a class C felony for anyone to “sell, purchase, install, transfer, manufacture, create, design, update, repair, use, possess, or otherwise make available” software or hardware that deletes transactions.

While Washington state appears to be taking the lead in prosecuting business owners who use zappers, it is not alone in that effort. In December, Michigan Attorney General Bill Schuette announced that a sushi restaurant outside Detroit has been ordered to pay nearly $1 million in restitution and to serve a five-year sentence of probation for embezzling sales tax paid by customers and underreporting its income. The restaurant, Sushi Samurai Inc., entered a guilty plea and its owners, Dong and Christina Chang, also pleaded guilty to filing false monthly sales tax returns and filing false joint income tax returns.

In August 2017, the Illinois Attorney General announced that a Chicago restaurant owner was charged with underreporting sales by $1 million. The charges alleged that the defendant used a zapper to falsify electronic sales records in order to avoid paying the full amount of sales and use taxes owed each month. This case was the first zapper prosecution in Illinois, which banned sales suppression software and devices in 2013.

In July 2017, Connecticut’s Department of Revenue Services arrested and charged a New Haven restauranteur with various offenses for using sales tax suppression software. According to a press release announcing the charges, this was the first time the State of Connecticut has charged an individual for using “zapper” software.

Paging the Internal Revenue Service

Conspicuously absent from recent coverage of state efforts to detect, and prosecute, businesses and individuals who employ sales suppression technology is the Internal Revenue Service. Businesses that use zappers to avoid paying sales taxes are presumably underreporting their receipts for federal income tax purposes as well, thereby providing the IRS with an opportunity to at least audit income tax returns if not investigate potential federal tax crimes. Other than the federal prosecution of zapper salesman John Yin, however, the federal government does not appear to be playing a significant role (at least publicly) in the ever-widening crackdown on zappers by state lawmakers and prosecutors. In a few of the state cases, IRS agents appear to be playing no more than a supporting role to state investigators. While we expected a wave of federal prosecutions to follow the Yin case, so far that has not happened. One can only wonder whether the IRS will join the anti-zapper bandwagon or allow the states to continue to lead this fight.

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Lawmakers in Mississippi are tackling the pervasive use of automated sales suppression devices, commonly known as “zappers,” by businesses to hide a portion of their sales and thereby avoid paying sales tax. Zapper programs are used to delete certain transactions – usually cash sales – 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. With fewer sales to report, the business is able to reduce the amount of sales tax it is required to pay.

In an article published in the Daily Journal, it was reported that during recent testimony before the Mississippi legislature, Revenue Commissioner Herb Frierson said that the use of zappers is costing the state millions of dollars in lost sales tax revenue. “The zapper has two sets of books. Al Capone (the Chicago gangster who was convicted of tax evasion) would have loved it,” Frierson said. “It has one set of books for tax purposes and another (true set of books) if you want to sell your business.”

We previously wrote about the Justice Department’s efforts to crack down on the use of tax suppression software by charging a software salesman in Seattle who worked for a Canadian company that sold “point of sale” program that enabled restaurants to underreport their sales. Historically, state law enforcement agencies, not the Justice Department or 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 filed what he called the “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. That case 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.

Many states have passed laws outlawing the use of revenue suppression software, including Washington, Michigan, Florida, Georgia, Utah, and West Virginia, and others — like Mississippi — 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.”

BNA’s Michael J. Bologna and Paul Shukovsky have written a comprehensive article about the pervasive problem of sales suppression software used by restaurants and other cash-intensive businesses. In their article, entitled “Tax-Zapping Software Costing States $21 Billion,” the authors note that the use of revenue suppression software by businesses costs states a whopping $21 billion in lost tax revenue.

In Mississippi, Frierson is seeking the passage of legislation making it a felony to possess or sell the zapper software. A version of the bill already has passed the Senate Judiciary Committee.

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Earlier this week Michigan Attorney General Bill Schuette announced that a sushi restaurant outside Detroit has been ordered to pay nearly $1 million in restitution and to serve a five-year sentence of probation for embezzling sales tax paid by customers and underreporting its income. The restaurant, Sushi Samurai Inc., entered a guilty plea in October, and its owners, Dong and Christina Chang, pleaded guilty earlier this month to filing false monthly sales tax returns and filing false joint income tax returns. They will be sentenced on December 15, 2017.

The Changs were charged after a joint investigation by the Department of Attorney General and the Department of Treasury into whether the restaurant was using point of sale sales suppression software, which is illegal under Michigan law. During the investigation, it was determined that sales in Sushi Samurai’s records were significantly higher than those reported to the state. The investigation further determined that the restaurant used “zapper” software to delete thousands of sales from its point of sale records. The investigation revealed that the Changs were found to have embezzled over $170,000 in sales receipts, and they failed to report over $2.5 million in sales on income tax returns between 2012 and 2016. The Changs used this money for payment of business and personal expenses.

We previously wrote about the Justice Department’s efforts to crack down on the use of tax suppression software by charging a software salesman in Seattle who worked for a Canadian company that sold “point of sale” program that enabled restaurants to underreport their sales. Historically, state law enforcement agencies, not the Justice Department or 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 filed what he called the “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. That case 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.

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.”

For more up-to-date coverage from Tax Controversy Sentinel, please subscribe by clicking here.

BNA’s Michael J. Bologna and Paul Shukovsky have written a comprehensive article about a pervasive problem facing state tax auditors:  the use by restaurants and other cash-intensive businesses of electronic revenue suppression software, commonly referred to as “Zappers.”  We have previously blogged about efforts by state and federal tax authorities to crack down on the use of “Zapper” software here (reporting on the Connecticut Department of Revenue’s arrest of a New Haven restauranteur) and here (predicting a federal crackdown on tax zapper software).  In their article, entitled “Tax-Zapping Software Costing States $21 Billion,” Messrs. Bologna and Shukovsky note that the use of revenue suppression software by businesses costs states a whopping $21 billion in lost tax revenue.  In a related article, entitled “Zapper Fraud Case Results in Mandatory Real-Time Monitoring,” the authors describe the recent prosecution of a Bellevue, Washington restaurant owner which resulted in a “first-in-the-nation settlement requiring continuous monitoring by the state for five years,” the first time any state has ever required monitoring to resolve charges involving the use of “Zapper” software.

Connecticut’s Department of Revenue Services (DRS) has arrested and charged a New Haven restauranteur with various offenses for using sales tax suppression software. According to a press release announcing the charges, this is the first time the State of Connecticut has charged an individual for using “zapper” software, which it describes as “a type of commercial ‘phantom-ware’ used to create fraudulent point-of-sale records that deliberately understate taxes actually collected.” Zapper 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.

We previously wrote about the Justice Department’s efforts to crack down on the use of tax suppression software by charging a software salesman in Seattle who worked for a Canadian company that sold “point of sale” program that enabled restaurants to underreport their sales. Historically, state law enforcement agencies, not the Justice Department or 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 filed what he called the “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. That case 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.

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.”

In the Connecticut case, the defendant, Xiaoning Fan of New Haven, was arrested by DRS Special Agents from the Criminal Investigations Unit at her Lao Sze Chaun restaurant in Milford. Ms. Fan was charged with possession of tax suppression software, larceny in the 1st degree and willful delivery of a false return. She is charged with two Class D felonies subject to a fine of up to $100,000 and a sentence of one to five years or both, a Class B felony subject to a fine of up to $15,000 and a sentence of one to twenty years or both. She is also liable for all taxes, penalties, and interest due to the state as a result of the crime, forfeiture of all profits associated with the sale, and confiscation of the zapper device as contraband.

Said DRS Commissioner Kevin B. Sullivan, “[t]his arrest is a big breakthrough for DRS. We have been working with other states to develop our ability to detect and prosecute ‘zapper’ fraud. What began as a routine tax audit became a DRS arrest when our specially trained auditors successfully detected illegal use of sales suppression software from 2008 to 2016 that resulted in over $80,000 of state tax evasion plus an additional $60,000 in penalty and interest charges. At DRS, we continue to step up our game in the fight to stop tax fraud.”

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2000px-Seal_of_the_United_States_Department_of_Justice_svgIn 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.

Reprinted with permission from Law360. (c) 2017 Portfolio Media. Further duplication without permission is prohibited. All rights reserved.

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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” software programs that enabled restaurants to underreport their sales, thereby lowering their tax liability.[1] Commonly called “Zapper” programs, these “revenue suppression software” 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 Offense Conduct

According to the publicly-filed charging document and guilty plea agreement, Yin worked as a salesman for Profitek, a British Columbia company selling point of sale (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 (RSS) as an “add-on” to its Profitek point-of-sale software. The RSS functioned only with the Profitek POS software.

Point-of-sale software creates a database of transactions that is used to calculate a business’ tax obligations. Revenue suppression software 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 December 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 February 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 Justice Department or 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 the “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 the Washington 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 her 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.

[1] See United States v. John Yin, No. CR16-314 RAJ (W.D. Wash.).

[2] See State of Washington v. Yu-Ling Wong, No. 16-1-00179-0 (King County Superior Court).