With the IRS tasked with collecting hundreds of billions of dollars in unpaid taxes over the next decade, tax experts say individuals’ business income is an untapped source of income.
A report from the agency in late October showed that the “tax gap” — money owed but not paid to the IRS — rose to a net $428 billion.
The Lower Inflation Act, passed by Democrats, allocated $80 billion to the IRS to boost revenue over 10 years.
“The increase in the estimated net tax gap from $380 billion to $428 billion is a strong case for why the IRS must be properly funded before it can finally start cracking down on wealthy tax evasion,” said Rep. Bill Pascrell (DN.J.), a member of the Tax and Fundraising Committee, said at the release of the report.
There are two lucrative ways the agency could earn more money, experts say.
Personal business income presents a huge opportunity for the IRS to get some of what it owes while it figures out how to spend its new big budget, former IRS chief Charles Rossotti said Monday.
“More reporting on what’s called a 1099-K, which deals with certain types of payments, like short-term rental income from Airbnb, and all sorts of other things like that — it’s a huge untapped opportunity,” he said at the presentation An event said courtesy of the Tax Policy Center, a think tank in Washington, D.C.
“There’s over $1.2 trillion in revenue from so-called pass-through businesses like partnerships and S corporations that are supposed to be reported on individual returns. … The IRS doesn’t have any automated system to use these. If Audit it, it can use it,” Rossotti said.
Rossotti warned that the IRS could collect unpaid taxes more effectively than by conducting a full audit of taxpayers by using data to find out where people are underreporting.
“The IRS audit volume, if you double it, it’s not even going to close the tax gap. What’s really important is using the data to find where there are indeed income underreportings or irregularities,” he said.
The tax shortfall was about 13 percent of the federal budget in 2015, about the same size as the deficit. It just goes back every few years.
Of the $428 billion that blew out of public coffers during that period, $306 billion came from personal income taxes, more than a third of which came from corporate income, according to the IRS. It was the largest single category in the agency’s latest federal tax compliance report.
In other words, underreported revenue accounts for almost all of the $398 billion tax gap. Audits and other enforcement activities recoup about $68 billion, but that number is likely to increase substantially due to the tax enforcement push enshrined in the Inflation Act over the next decade.
“The other goal is partnerships,” Janet Holzblatt, the former tax policy director of the Congressional Budget Office, said during the event, referring to specific types of businesses ranging from small businesses to hedge funds.
Former IRS chief John Koskinen echoed Holtzblatt, saying the popular notion of a partnership as a mom-and-pop or small law firm is outdated.
“You can do things like audit large partnerships,” he said. “What most people don’t realize is that we think of a partnership as eight or ten lawyers or doctors buying an office building. Today, many of these partnerships have thousands of partners, some of them with several A partnership of a thousand partners.”
“The IRS slush fund has very limited capacity to analyze the returns of these partnerships with data. They are large. So basically a lot of the partnerships are not audited at all,” Koskinen added.
Partnerships and other types of pass-through businesses have exploded since 1980, according to a 2015 paper by the National Bureau of Economic Research by Treasury economist Michael Cooper, Congressional Budget Office tax analyst John McClelland, and others. growth.
The legality surrounding the transfer business has led to a sharp divide between the ultra-wealthy and ordinary Americans in recent decades, researchers believe.
“In 1980, pass-through entities accounted for 20.7 percent of U.S. corporate revenue; by 2011, they accounted for 54.2 percent. Around the same time, the top 1 percent doubled their share of income. Previous research has shown that both The phenomena are correlated: income growth from pass-through entities accounted for 41% of income growth among the top 1 percent,” the researchers wrote.
Most US business income is now generated outside of the traditional C Corporation structure. It was earned by pass-through entities, they found, noting that pass-through income is often taxed at a lower rate.
The researchers also say they can’t even figure out who owns much of the partnership’s income, and that tax laws encourage corporate secrecy.
“Current U.S. tax law encourages the opaque organization of corporations in partnerships to minimize tax liabilities,” they wrote.
With the $80 billion in funding, the IRS may be able to effectively tax partnerships, Steve Rosenthal, a tax expert at the Tax Policy Center, said in an interview.
“The IRS isn’t effectively enforcing the tax code against partnerships because the IRS simply can’t figure out what’s going on, but maybe with $80 billion, they can start to figure it out,” he said.
Partnerships have been a blind spot for the IRS for years.
In 2014, Sen. John McCain (R-Ariz.) has called for using businesses as a means of avoiding taxes.
“Big trading companies will always try to stay one step ahead when it comes to pushing the limits of the tax code to minimize tax payments,” he told a Senate hearing at the time.
“Whatever practical barriers currently prevent the IRS from auditing large partnerships using such tax structures should be mitigated or eliminated,” he said.