Direct Marketing Association, The v. Huber

Filing 50

RESPONSE to 15 MOTION for Preliminary Injunction with Incorporated Memorandum of Law filed by Defendant Roxy Huber. (Attachments: # 1 Exhibit 1, # 2 Exhibit 2, # 3 Exhibit 3, # 4 Exhibit 4, # 5 Exhibit 5, # 6 Exhibit 6, # 7 Exhibit 7, Part 1, # 8 Exhibit 7, Part 2, # 9 Exhibit 7, Part 3, # 10 Exhibit 7, Part 4, # 11 Exhibit 7, Part 5, # 12 Exhibit 7, Part 6, # 13 Exhibit 7, Part 7, # 14 Exhibit 8, # 15 Exhibit 9, # 16 Exhibit 10, # 17 Exhibit 11, # 18 Exhibit 12, # 19 Exhibit 13, # 20 Exhibit 14, # 21 Exhibit 15, # 22 Exhibit 16, # 23 Exhibit 17)(Scoville, Stephanie)

The estimate of the self-employment tax underreporting gap is $39 billion, which accounts for
The estimate of the self-employment tax underreporting gap is $39 billion, which accounts for
about 11 percent of the overall tax gap. Self-employment tax is underreported primarily
about 11 percent of the overall tax gap. Self-employment tax is underreported primarily
because self-employment income is underreported for income tax purposes. Taking individual
because self-employment income is underreported for income tax purposes . Taking individual
income tax and self-employment tax together, then , it can be seen that individual underreporting
income tax and self-employment tax together, then, it can be seen that individual underreporting
contributes approximately 68 percent of the overall tax gap.
contributes approximately 68 percent of the overall tax gap.
Figure 3 presents the same information, broken out by type of taxpayer (as defined by the IRS
Figure 3 presents the same information , broken out by type of taxpayer (as defined by the IRS
operating divisions that serve the taxpayer) rather than by type of noncompliance. This
operating divisions that serve the taxpayer) rather than by type of noncompliance. This
indicates that most of the underreporting individual income tax is associated
indicates that most of the underreporting of individual income tax is associated with individuals
individuals
who have business income.
underreporting of self-employment tax closely
who have business income. The underreporting of self-employment tax is closely associated
underreporting of
income by individuals;
with the underreporting of business income by individuals; sole proprietors who understate their
proprietors
understate
business income
income
not likely report
business income for income tax purposes are not likely to report the unreported income for
employment
employment tax purposes either.
Figure 3

Tax Year 2001 Gross Tax Gap by Type of Tax and IRS Operating Division (in $ billions)
."'L· "

I'

Type of Tax

W8ge &

Investment

i: ividual
Individual

IRS 0oeratJj'1g DMsJort ," .,.-.

Small Buslness·'
Em.pIQyed

loot-

ser-

~

,.'

~

Tax-

~e& exemptMkl-Stza &Gov't
Do ••.

Corporvlduals allons Total ~-- entities

--

TOTAL

a"O-

NOn-

Tax

Comt!1l(X!

Gap
.... 1

50
195
N/A
N/A
N/A N/A
195
195
195
NJA
N/A
245
20.9%
Income Tax
Corporation
N/A
6
18.5%
N/A
1
6
25
1
32
Income Tax *
"
Employment
0
40
7
8 .1%
47
0
7
8
8
4
59
8.1%
Tax
Tax
SelfN/A
39
N/A
N/A N/A
N/A
51 .9%
39
N/A
39
51.9%
ppjpy!ent_
Employment
FICA and
0
1
7
4
3.0%
0
1
8
4
8
20
3.0%
FUTA
FUTA
Estate& Gift
Estate & Gift
#
8
N/A
N/A N/A
22.9%
N/A
8
8
8
8
22.9%
8
Tax
Tax
Excise
Excise
0
0
0
0
0
0
1
0
0
0
0
0
0
1
Tax t
Tax
TOTAL Gap
TOTAl Gap
50
243
14
257
50
257
34
4
345
34
243
4
345
Percentof
Percent of
14.5% 70.5% 4.0% 74.5% 9.8% 1.2% 100.0%
14.5%
70.5% 4.0% 74.5% 9.8% 1.2% 100.0%
Total
Total
Noncompliance
Noncompliance
12.1%
3.4%
16.3%
12.1% 27.1%
27.1 % 5.3% 22.3% 8.0%
5.3% 22.3% 8.0% 3.4%
16.3%
Rate
Rate
* Unrelated Business Income Tax is shown as corporation income tax.
Unrelated Business Income Tax IS shown as corporation Income tax.
t Includes underpayment gap only.
t Includes underpayment gap only.
# No estimate is available for this component.
# No estimate is available for this component.
Amounts may not add to totals due to rounding. Zeros indicate amounts less than $0.5 billion. See
Amounts may not add to totals due to rounding. Zeros indicate amounts less than $0.5 billion. See
Figure 11regarding reliability of estimates.
Figure regarding reliability of estimates.
*

11
11
D027
Exh.7

Individual income tax accounts for over 71 percent of the overall tax gap estimate of $345 billion.
Individual income tax accounts for over 71 percent of the overall tax gap estimate of $345 billion.
This is due, in part, to the fact that individual income tax is the largest single source of federal
This is due, in part, to the fact that individual income tax is the largest single source of federal
receipts.
receipts.
The individual income tax underreporting gap can be broken out by the various line items on a
The individual income tax underreporting gap can be broken out by the various line items on a
return income sources, offsets income (i.e., exemptions, adjustments, and
typical return - income sources, offsets to income (Le., exemptions, adjustments, and
deductions), and offsets
(i.e., credits). Figure provides
deductions), and offsets to tax (Le., credits). Figure 4 provides updated estimates of both the
of both the
tax gap arising
misreporting on
line item
tax gap arising from misreporting on each line item and the corresponding Net Misreporting
Net Misreporting
1
(NMP).
Percentage (NMP).1 These estimates are based on thorough audits of a representative sample
but
of returns, but they also account for underreporting that is not detected in those audits.
in
is
—

in previous
As in previous compliance studies, the NRP data suggest that well over half ($109 billion) of the
individual underreporting gap came from understated net business income (e.g., unreported
income
receipts and overstated expenses). Approximately 28 percent ($56 billion) came from
underreported non-business income, such as wages, tips, interest, dividends, and capital gains.
The remaining $32 billion came from overstated subtractions from income (Le., statutory
(i.e.,
adjustments, deductions, and exemptions) and from overstated tax credits.
An obvious conclusion from Figure 4 is that the accuracy of reporting the various line items on
the average income tax return varies widely, depending on the type of income or offset being
reported. Figure 5 presents the same line items grouped by the degree to which the items are
“visible”
"visible" to the IRS - that is, the extent to which they are subject to information reporting and
withholding. The conclusion is striking: reporting compliance is strongest in the presence of
substantial information reporting and withholding. This is illustrated graphically in Figure 6.
Although the contribution to the underreporting gap depends on the dollars of income or offset at
stake, the NMP is clearly inversely related to the degree of visibility.
—

It appears that compliance rates for sections of the Form 1040 where the most noncompliance
occurs have not changed dramatically since the last compliance study for TY 1988. The
forTY 1988.
amounts least likely to be misreported on tax returns are subject to both third-party information
reporting and withholding and are, therefore, the most visible (e.g., wages and salaries). The
net misreporting percentage for wages and salaries is only 1.2 percent.
Amounts subject to third-party information reporting, but not to withholding (e.g., interest and
dividend income), exhibit a somewhat higher misreporting percentage. For example, there is
about a 4.5 net misreporting percentage rate for items subject to substantial information
a
substantial information
reporting, such as interest, dividends, pensions, and social security benefits.
Amounts subject to partial reporting by third parties (e.g., capital gains) have a still higher net
gains)
net
misreporting percentage rate of 8.6 percent. As expected, amounts not subject to withholding or
misreporting
8.6
not subject
third-party information reporting (e.g., sole proprietor income and the “other income” line on
third-party
sole proprietor income
the "other income" line on
Form 1040) are the least visible and, therefore, are most likely to be misreported. The net
Form 1040)
visible and,
are most likely be
The net
misreporting percentage for this group of line items is 53.9 percent.
group of line items

1 The net amount of income misreported divided by the sum of the absolute values of the amounts that
The net amount of income misreported divided by the sum of
absolute values of the
that
should have been reported. The NMP measures provide insight into the extent of noncompliance for any
should have been reported. The NMP measures
insight into the extent of noncompliance
any
given provision. However, caution should be applied when comparing NMPs across tax provisions. First,
given provision. However, caution should be applied
NMPs across tax provisions. First,
a provision may have a large NMP but contribute only slightly to the tax gap (e.g., the total true tax liability
a provision may have a large NMP but contribute only slightly to the tax gap (e.g., the total true tax liability
for a particular item is relatively small). Second, the NMP contains an adjustment for income amounts
for a particular item is relatively small). Second, the NMP contains an adjustment for income amounts
that were underreported but does not have a corresponding adjustment for offset amounts that were not
that were underreported but does not have a corresponding adjustment for offset amounts that were not
claimed.
claimed.

12
12
D028
Exh.7

Figure 4

Tax Year 2001 Individual Income Tax Underreporting Gap and Net Misreporting
Percentage (NMP) Associated with Income and Offset Line Items
.

Underre)rting
Underreportlng

of Income Offset
Type Qf I come or Offaet

ap
Gap ($B)

Total Underreportlng Gap
Underreporting
Underreported Income

197
166
56

Non-Business
Non-Busl11BSS Income
Wages, salaries, tips
Interest income
Dividend income
State income tax refunds
Alimony income
Pensions & annuities
Unemployment compensation
Social Security benefits
Capital gains
Form 4797 income
Other income
Business Income
Non-farm proprietor income
Non-farm
Farm income
Rents & royalties
Partnership, S-Corp,
Estate_&_Trust,_etc.
Estate & Trust, etc.
Overreported Offsets to Income
Overreported-otfaets
Adjustments
SE Tax deductions
SE Tax deduction!!
All other adjustments
other
Deductions
Deductions
Exemptions
Exemptions
Credits
Credits
Net Math Errors (non-EITC)
Net Math Errors (non-ErTe)

10
2
1
1
1
1

•
*

4
*

*

1
1
11
11
3
3
23
109
68
6
6
13
13
22
22

15
-3
-3
-4
1
1
14
14
4
4
, 17
107

•

Net
Misreportin
Misreportl
P&centage
18%
11%
4%
1%
4%
4%
12%
7%
4%
11%
11 %
6%
12%
64%
64%
43%
57%
72%
51%
18%
18%

percentag~

4%
4%
-21%
-21%
-51%
-51%
6%
5%
5%
5%
5%
26%
26"

-

*

The amount of income or offset misreported divided by the amount that should have been reported The NRP
t The amount of income or offset msreported divided by the amount that should have been reported.. The NRP
contains an adjustment for income amounts that were underreported, but does not have a corresponding
contains an adjustment for income amounts that were underreported, but does not have a corresponding
adjustment for offset amounts that were not claimed.
adjustment for offset amounts that were not claimed.
* Less than $0.5 billion.
Less than $0.5 billion.
§ Taxpayers understate this adjustment because they understate their self-employment income and,
§ Taxpayers understate this adjustment because they understate their self-employment income and,
thereby, their self-employment tax. Therefore, the gap associated with this item is negative.
thereby, their self-employment tax. Therefore, the gap associated with this item is negative.
*

13
13
D029
Exh.7

Figure 5

Tax Year 2001 Individual Income Tax Underreporting Gap and Net Misreporting
Percentage (NMP) Associated with Income and Offset Line Items, By Visibility
Groups

Vlslbntly Group
Type of lncome or Offset

Percentage

197

18%

- -

Total Underreporting Gap
Items SubjeCt to Substantial
lilfurmation Reporting and Wlthhofdlng
Wages, salaries, tips
tten,s Subjeql to ~~ntial
InformatiOh RellUl III",
Interest income
Dividend income
State income tax refunds
Pensions & annuities
&
Unemployment compensation
Social Security benefits
Subject to
Items Subjedto Some Information
Reporting
Reporting~
Partnership, S-Corp,
Partnership, S-Corp,
& Trust,
Estate & Trust, etc.
Alimony income
Capital gains
Deductions
Exemptions
Items Subject to Little or No
Information Reporting
Infol'l"Mtion 'ReW'oD~ IW
Non-farm proprietor income
Farm income
Rents & royalties
&
Form 4797 income
Other income
Total statutory adjustments
Not Showg on figure 6'
Shown
Figure 6
Credits
-

Net

Underreporting
Gap (SB)

.

.

Mfsreportln~

1%

10

~.

10

1%

9

5%

2
1
1
1
1
4

4%
4%
12%
4%
11%
11%
6%

•

*

1
1

.,,:,
.j

.{

'"

9%
9"

22

18°/
18%

*
*

11
14
4

7%
12%
5%
5%

110

54’
54%

68
6
13
3
23
-3
17
17

.,

57%
57%
72%
51%
64%
64%
-21%

51

21 %
26%
26%

t The aggregate amount of income or offset misreported divided by the sum of the absolute values of the amount
that should have been reported. The estimates of the amounts that should have been reported account for
underreported income that was not detected by the audits, but do not have a corresponding adjustment for
unclaimed offsets (e.g., deductions, exemptions, statutory adjustments, and credits) that were not detected.

*
* Less than $0.5 billion.

§ Since credits are offsets to tax, it is difficult to combine them with income and income offset items when
§
calculating a combined NMP.

14
D030
Exh.7

Figure 6
Figure 6
Tax Year 2001 Individual Income Tax Underreporting Gap
Tax Year 2001 Individual Income Tax Underreporting Gap
Misreporting of Income and Offsets by “Visibility” Categories
Misreporting of Income and Offsets by 'Visibility" Categories
l~'r------------------------------------------------------------. ro
1 10'~----------------------------------------------r-----~====~ ~

45
CS

40

f

35~

I

30 .{

25

a
e

.l!

20~

!

15
15 II

10
10
S
5
Amoums
to
I. Amounts subject !o
substant4I
substantial
irfoxmøion reporting
information reporting
ad withhoIdng
and withholding

f’ae salarles)
,Wage. & aaesi

o
0

H,
n. Amounts subject to

fit. Amounts su*ct to
IlL Anio’,jrts subject

_es.

substantlat
substantial

some
som•
information reporting

information reporting

il'_l""" &
<l1\'i(1end
(Oed _
s. onerew;
eon
Oend
1t.e&c’ions, parlnersllij> I S-Cc<p
nona, enon. pets gains.
"""""". tO5t """""".
Inter",,!
",,,,,,,,e, "".~. capitol gaina.
oymanC toipenon, Socia
_I"",nsnt compenwon. Soc
alimony nOme}
5tOfl’ income}
Sacw* bent!!its)
~rity e’sft)

pdatd etmat sñved fron he TV0 Natona Research Pgrm study of ndiv4L frcorne ta

IV. Amounts subjeCt to
subect to
liWe or no
little
no
Intonna!lon reporting
information
(Nonfann _ _ ii><:omI>. _

rcenor oma. cr
in..,.,..,.,"",. and I'O'jalLies. taJrm
ans
af’n
aSas. 4
[
"<lOme. Fonn 4797
icona. Forn 47tF1 ""","""
m,
~nisi

oplae.

With transactions that are less visible to the IRS, and with very low audit rates by historical
IRS,
low
standards,, some sole proprietors may have become emboldened to cut corners on their taxes.
standards
may
Other small business owners may fail to comply fully because they are overwhelmed by the cost
business
are
and complexity of meeting their tax obligations and their business requirements. Whatever the
and complexity meeting
obligations and
business requirements. Whatever
reasons, there is a serious problem with underreporting for those items not subject to
is a serious problem with underreporting
those items not subject to
information reporting.
information
The underpayment gap is the simplest component of the tax gap to measure since, for the most
The underpayment gap is the simplest component of the tax gap to measure since, for
most
part, it is observed in full. The underpayment gap is the difference between the tax that
part, it is observed in
The underpayment gap is the difference between
tax that
taxpayers report on their timely filed returns and the amount that is actually paid by the payment
taxpayers report on their timely filed
and the amount that is actually paid by the payment
due date. The first amount is tabulated from the Individual Master File. With the exception of
due date. The first amount is tabulated from the Individual Master File. With the exception of
employer under-deposit of withheld income tax, the amount paid is also tabulated from the
employer under-deposit of withheld income tax, the amount paid is also tabulated from the
Individual Master File.
Individuai Master File.
Figure 7 summarizes the underpayment gap and rates for TY 2001 arrayed by taxpayer type
Figure 7 summarizes the underpayment gap and rates for TV 2001 arrayed by taxpayer type
(rather than tax type as in Figure 1). Almost all of what is voluntarily reported is also paid on
(rather than tax type as in Figure 1). Almost all of what is voluntarily reported is also paid on
time, and more than two-thirds of the balance is paid within two years. Individual income tax
time, and more than two-thirds of the balance is paid within two years. Individual income tax
contributes almost two-thirds of the total underpayment gap, and over three-quarters of the
contributes almost two-thirds of the total underpayment gap, and over three-quarters of the
individual income tax underpayment gap is associated with taxpayers who have business
individual income tax underpayment gap is associated with taxpayers who have business
income.
income.

15
15
D031
Exh.7

Since sole proprietors report their self-employment tax on their individual income tax returns
Since sole proprietors report their self-employment tax on their individual income tax returns
(Form 1040), the TY 2001 NRP study provided new compliance data with which to estimate this
(Form 1040), the TY 2001 NRP study provided new compliance data with which to estimate this
component of the tax gap. Self-employment tax is sometimes not reported correctly (or at all) in
component of the tax gap. Self-employment tax is sometimes not reported correctly (or at all) in
connection with reported self-employment income that is reported. However, most of this
connection with reported self-employment income that is reported. However, most of this
component of the tax gap is associated with unreported self-employment income. The NRP
component of the tax gap is associated with unreported self-employment income. The NRP
auditors detected some of this unreported income, but not all of it. The IRS estimate of the selfauditors detected some of this unreported income, but not all of it. The IRS estimate of the selfemployment tax underreporting gap accounts for this undetected income. Estimates also
employment tax underreporting gap accounts for this undetected income. Estimates also
account for the fact that some of this unreported income would not be subject to full selfaccount for the fact that some of this unreported income would not be subject to full selfemployment tax, given the annual cap on Social Security taxes. Accounting for all of these
employment tax, given the annual cap on Social Security taxes. Accounting for all of these
factors, the updated estimate of
self-employment tax gap for TY 2001 is $39 billion.
factors, the updated estimate of the self-employment tax gap for TY 2001 is $39 billion.
The remaining tax gap estimates shown on the Tax Gap Map (Figure 1) are based on data older
The remaining tax gap estimates shown on the Tax Gap Map (Figure 1) are based on data older
than TY 2001. In order to develop estimates based on the latest data, but for a common tax
In
to develop estimates based on
latest data, but
a common tax
year, the IRS projected the most recent previous estimates to TY 2001 using a simple approach.
projected
most recent previous estimates
using
approach.
Lacking information to the contrary, the IRS assumed that the compliance rate for each major
IRS
component remained constant. The tax gap in a given component was projected to grow at the
in
tax
in
same rate as tax receipts in that component. The IRS plans to update these estimates as newer
compliance data become available.
The main lesson from the Tax Gap Map is that noncompliance is worst where the barriers to
noncompliance
voluntary compliance or the opportunities for noncompliance are greatest. This is seen even
noncompliance
more vividly in Figure 6, which shows the importance of third-party information reporting.

Fi’ure 7
Figure

Tax Year 2001 Underpayment Gap By Type of Taxpayer
Underpayment
Type of Taxpayer

Underpayment

4$ Billions)
All Taxes •
All Taxes
Wage & Investment
Wage & Investment
Small Business II SelfSmall Business SelfEmployed
Employed
Large & Mid-Size
Large & Mid-Si?e
Business
Business
TaxExemptl
Tax Exempli
Government Entities
Government Entitles
*

i:

fiatEf

....
1 Year

2 Years

31.7
31 .7

98.9%
98.9%

2.1
2.1

1.8
1.8

23.7
23.7

97.6%
97.6%

7.3
7.3

3.3
3.3

99.6%
99.6%

0.4
0.4

99.87%
99.87%

,"-

1":r
IY

2Years

I

98.6%
98.6%

4.3
4.3

..

:

6.5
6.5

99.4%
99.4%
99.2%
99.2%

99.6%
99.6%
99.3%
99.3%

2.0
2.0

2.0
2.0

99.7%
99.7%

99.7%
99.7%

0.2
0.2

0.1
0.1

99.95%
99.95%

99.97%
99.97%

t The Voluntary Payment Compliance Rate is the portion of tax reported on timely filed returns that is paid on time.
t The Voluntary Payment Compliance Rate is the portion of tax reported on timely filed returns that is paid on time.

The Cumulative Payment Compliance Rate is the portion of tax reported on timely filed returns that is paid as of a
The Cumulative Payment Compliance Rate is the portion of tax reported on timely filed returns that is paid as of a
certain date.
certain date.
*
* The $31.7 billion total for all taxes excludes $1.6 billion of individual income taxes withheld by employers but neither
The $31.7 billion total for all taxes excludes $1 ,6 billion of individual income taxes withheld by employers but neither
reported on timely filed employment tax returns nor paid by employers.
reported on timely filed employment tax returns nor paid by employers.

Return to Table of Contents
Return to Table of Contents

16
16
D032
Exh.7

VOLUNTARY COMPLIANCE
A wide range of factors influence voluntary compliance, although there is little empirical
confirmation as to the most important of these factors or their magnitudes. However, it is
generally agreed that IRS actions are not the sole - or perhaps even the primary - determinants
of voluntary compliance. In addition to whether information reporting and withholding
requirements exist as mentioned previously, other important factors include the following:
—

—

•
•

Tax law changes, including:
o
o opening or closing opportunities for noncompliance
o tax law complexity may confuse taxpayers or make noncompliance more
difficult to observe
o tax rates may affect incentives to report income

•

The economy, including:
o income and unemployment levels
o the mix of industries

•

Demographics, including:
o the aging of the population
o changing household arrangements
o growth in the number of non-English-speaking taxpayers

•

Socio-political factors, including:
o swings in patriotic sentiments
o taxpayer perceptions of whether they are getting their money's worth from
money’s
their taxes

Additionally, there are both direct and indirect effects of enforcement activities. Direct effects
refer to the collection of additional revenue from taxpayers who are subject to enforcement
“spillover”
actions. Indirect effects refer to "spillover" effects when enforcement activity on one set of
taxpayers has positive effects on the compliance behavior of the rest of the taxpayer population
in response to heightened enforcement activity.

MEASURING VOLUNTARY COMPLIANCE
It is very difficult to determine the impact that any IRS activity has on voluntary compliance.
While the direct effect of IRS enforcement activities is identifiable through the impact on
collections, the IRS cannot easily estimate the indirect effects. That is partly because the IRS
IRS
cannot observe taxpayers’ true tax liabilities (they must be estimated), and partly because so
taxpayers'
many factors may influence the extent to which they pay their tax voluntarily and timely including many factors outside of IRS control. The challenge is to estimate the impact of each
IRS activity on observable behaviors - returns filed, tax reported, and tax paid - controlling for
and
other influences as much as possible. Only then will the IRS know the best mix of activities that
will foster the greatest degree of voluntary compliance.
—

—

—

17
17
D033
Exh.7

Long-Term Goal for
Compliance
Long-Term Goal for Voluntary Compliance
The Voluntary Compliance Rate (VCR) is the amount tax for a given tax year that is
The Voluntary Compliance Rate (VCR) is the amount of tax for a given tax year that is paid
voluntarily and timely, expressed as a
of the corresponding amount of tax
voluntarily and timely, expressed as a percentage of the corresponding amount of tax that the
the
IRS estimates should have been paid. reflects taxpayers’ compliance with their
IRS estimates should have been paid. It reflects taxpayers' compliance with their filing,
reporting,
payment
latest estimate of
reporting, and payment obligations. The latest estimate of VCR is 83.7 percent for all taxes and
is 83.7 percent
all taxes and
all
TY 2001.
all taxpayers for TY 2001.
Administration’s
request
In the Administration's budget request for FY 2007, the IRS established a long-term goal of an
by
85 percent voluntary compliance by TY 2009. In February of 2007, the IRS Oversight Board, as
In February
Board,
IRS
part of establishing a strategic direction for the IRS, established a long-term goal of an 86
percent voluntary compliance rate by TY 2009. Senator Baucus, Chairman of the Senate
Finance Committee, has asked for a 90 percent voluntary compliance goal by TY 2017.
An increase in the VCR to 86 percent by TY 2009 may not seem large, but the available
evidence suggests that the VCR has not changed dramatically over the last 20 to 30 years. For
example, based on TCMP data from the 1960s through the 1980s, the IRS estimates that the
VCR has moved within a range of two percentage points and was virtually the same in TY 2001
as it had been in TY 1985.
Much of the estimated fluctuation during this time likely was due to the inherently imprecise
nature of these estimates, the impact of the Tax Reform Act of 1986, and the changing relative
sizes of revenues from different taxes. Since the IRS has estimated the overall VCR for just a
few selected years in that period, it is possible that compliance may have fluctuated in the
intervening years. However, the evidence from individual income tax underreporting - by far the
largest portion of the tax gap, and the component most frequently measured - indicates that
there was no consistent trend over this time period.
—

—

The IRS and the public must have realistic expectations about the magnitude and timing of the
impact of any reasonable actions to reduce the tax gap, particularly if it is not accompanied by
broader simplification and reform of the tax code, or significant advances in compliance
technology. Implementing efforts to reduce the tax gap will take time; changing taxpayer
behavior significantly will also take time. Accordingly, results from these efforts will be realized
incrementally over a number of years. As part of the actions outlined in this report, the IRS will,
for example, acquire and analyze new data, improve document-matching programs, refine
analyze
examination selection criteria, purchase and test new technology, and train employees to handle
new enforcement and customer service responsibilities.
enforcement

Moreover, while it may be possible to take action to reduce the tax gap, it is not possible to
gap, it
implement a policy that eliminates the tax gap without an unacceptable change in the
implement
e/iminatesthe
gap
unacceptable change in
fundamental nature of the current tax compliance system. The IRS is, however, committed to
nature of
system.
IRS is, however, committed
addressing all levels of noncompliance. Therefore, the efforts to reduce the tax gap will
addressing all
Therefore,
reduce
gap
continue to be developed and refined to achieve the highest level of compliance possible.
be developed and
highest level of
Return to Table of Contents
Return Table of Contents

18
18
D034
Exh.7

COMPONENTS
N
With an estimated net tax gap of $290 billion for TY 2001, no single approach will be successful
at substantially reducing noncompliance. Accordingly, the Treasury Strategy set out a
comprehensive, integrated, multi-year strategy that must be implemented within the context of
the annual budget process. This report builds on the work of the Treasury Strategy to provide a
comprehensive framework that will be institutionalized by the IRS as part of sound tax
administration.
This report includes seven components, detailed below:
1. Reduce Opportunities for Evasion (pages 20-25)
2. Make a Multi-Year Commitment to Research (pages 26-27)
3. Continue Improvements in Information Technology (pages 28-32)

4. Improve Compliance Activities (pages 33-41 )
33-41)
5. Enhance Taxpayer Service (pages 42-49)
6,
6. Reform and Simplify the Tax Law (page 50-52)
7. Coordinate with Partners and Stakeholders (page 53-56)

19
19
D035
Exh.7

Component 1

Reduce Opportunities for Evasion
Legislative changes and published guidance will reduce opportunities for evasion.

i
!

,
.
,
.

The Administration's FY 2007 Buelget contain~d five legislative proposals that would reduce
Administration’s FY
Budget contained
evasion opportunities by focusing on emptoym$~ taxes information reporting. streamlining
employment taxes. information
collection procedures,
return
Administration’s
coOectf6n procedures. and problem retum preparers. The A~miJ11~tratlonls FY 2008 Budget
expands
contains several
proposals
would
expand$ on those five and contalnsseveral additional proposals that wou~ further re<:l1x>e .
reduce
without
taxpayers.
opportunities for evasion Without unduly burdening honest taxpayers. Collectively, the- .
the
Treasury
thesel6
Department of Treasur.y estimates that these16 legislative proposals would generate $29.5
10 years.
encouraged
billion over the next 10 y~ars. The IRS is eAco~ragecl to see that thfl:J8 of the proposals have
three
already
law (in
Congress
alread~ become lew (in,modified form) and that Oengress is taking action on a,nomberof·the
a number of 1he
remaining proposals.
rema~ning propos~ls.
Public Law 110-28, TiUe VIII, the Small Business and Work Opportunlty Tax Act of 2007,
110-28. Title VIII.
Opportunity
enacted proposals on amending the colleCtion due process procedures for employment tax
collection
liabilities,
penalties,
erroneous
nabilitles.. expanding preparer penalties. and creating an erreneous refund Claim penaltY.
claim penalty.
These proposals, alOng with otherseohtained in the FY 2008 Budget, are described beloW in
along
others contained
FY
Budget,
below
more detail:
.
Expanding Infonnation Refio/flg:
EXRf!nding Information RePOrtina: Third-party reporting is critical for ensuring voluntary
re~rting
voluntary
data.
compliance. Without reliable third-party data, the IRS cannot easily detect errors In the
cannot
in
expensive and intrusive
IRS
absence of exPensive and lntruSive audits. The IRS receives over 1.5 bllnoo information
OVeJ' 1 .5 billion
returns
income
retums a year, reporting Income from employers, financial institutions, third-party payers, and
institlJtions, third-party. ~YElrs.
IRS
information on certain
state and federal governments. However, the IRS still lacks reliable information en Certaln
govemments~
types of income, most notably Income earned by small businesses and the self-employed.
ofincome, most n~bly income earned, bys~1I
and
self~mployed.
Information reporting proposals in the Administration’s FY 2008 Budget would:
in
Budget Would;
Information repol'ting
Admin[stra~ion's FY
•

Require information reporting on payments to COI'fXJrafiQns. This proposal would require a
Informa(iop f8ptJJrtiI7g payments corporations. This proposal would
a
business to file an information return for payments aggregating to 1eQO or more in a
file'em information retum
payments ag~ating to $600 or more in ~
calendar year to a corporation (except a tax-exempt corporation). This proposal is
to a corporation (ex~pt a tax.-exe.mpt corporation). This proposalls
estimated to generate $7.7 billion over the next ten years.
estimated to generate $7.7 bJlJwn oV, r the next ten years.
e

i •
•

Require basis reporting on security sales. This proposal would require certain brokers to
Require basis repplfing on seclJ.rlty $BIBs. This propoSal
req~ire certain broke~ to
report information regarding adjusted basis in connection with the sale of certain publicly
report fnformatlon regardfng adjusted basis In conriection with the sale'of certain publicly
traded securities. Brokers would also be required to report Jtc;qulsl\fon .or disposition
to report acquisition or disposition
traded securities. Brokers would also be
dates to help determine gain or loss for taxpayers. This proposal is estimated to generate
dates to help detennine gain or loss for taxpayers~ This proposaf Is e&tiMQ.ted to gEtJ'l$rate
$6.7 billion over the next ten years.
$6.7 billion ever the next ten years.

I

!

• Expandbroker/nformation reporting. This proposal would require a broker who is an
Expand brOker inronnstion rep!)rting. This proppssl wot)Id requIre a broker Who is an
auctioneer or operates a consignment business (electronic or other) to file an lnformfiltion
auctioj'leer Qr operates a consignment busine$S (electrOhic or other) to file an information
return showing customer information and gross proceeds from the sale of tangible
returo-showtng custoOler information and gross proceeds from tbe sale of tangible
personal property. The requirement would apply only for customers ·~h 100 or more
J)Etrsonal propertY. The reqalrement would apply only for-customf)rs with 100 or more
separate transactions generating at least $5000 in gross proceeds in a year. This
separate transactfons generatil'lg at least $5,000 In gross proceeds tn a year. This
proposal is estimated to generate $2.0 billion over the next ten years. ~
proposal i$ estlmated to generate $2.0 billion over the next len years.
20
20
D036
Exh.7

• Require information
on
payment
reimbursements.
proposal
• Require information reporting on merchant pjJym8f1t card re;mbufStlmenfs. This proposal
would provide the IRS with authority to put into effect ~i.Jlatlons ~uiring mercha;nt
IRS
regulations requiring merchant
acquiring
(organizations that
merchants) to report
a~ujring banks (organizatlofl$ that process card payments for merchants1te report to
the IRS annually the gfPSs reimbursement payments made to merchants in a calendar
the gross
in
proposal
to
the
$10.7 billion
year. This proposal is estimated tp generate $10,1 billiQn over th~ next ten years.
• Require a certifletj 'raxpaye,r Identification Number !;om contra.cIors. This proposal
certified Taxpayer
from contractors.
proposal
a
or more in calendar
a
requires a contractor receiving payments of $600 or mo~ In a ,calendar year from a
particular business to furnish to the business its certified Taxpayer Identification Number \
(TIN). This
require a
TIN
to
IRS.
(TIN). 'this proposal would requite a business fo verify the TIN,with the IRS, which
authorized disclose whether
TIN-name
IRS
would be authorizSd to dJsclose whetfter the 'fIN-name combination matches IRScontractor
furnish
TIN,
records. If a contractor: fails to fumi'sh an accurate certified TIN. the business would then
proposal is
million over
be required to withhold a flat rate. This propOsal Is estimated to raise $749 millIOn OVer
the next ten years.

•

information reporting r
go vernment psymellis
Require increased InfonnstiQn reportif1/l for certain govemment payments for property
and serviaes,,- rills pro~1 would auttiortze the IRS and Treasury Department to issue
services. This proposal
authorize
regulations reqlJfrigg information reporting
federal,
~ula~ons requiring Infonnation reporting on all non-wage payments by federal. state
non-wag,
and I~I govemments to procure property and services. Thls proposal is e$tJmated to
local governments procure pro~rty
This pro~1 estimated
generate $390 million over the next ten years.

•

Increase information return penalties. This proposal WOUld,increase the $50 and $100
would increasEftne
retum. pensltles. This~
penalty amounts to $100 and $250. respectJyely. and would Inore~ the $250.000 ~~
respectively, and
increase
$100
$250,000 and
$100,000 penalty .caps to $1,500.000 and $500.000, respectively. This proposalls
caps to $1,500,000 and $500,000. respeCtively.
proposal is
$100,000
estimated to generate $546 million over the next ten years.
estimated generate
rrUlllon oyer tfle next

0"

; ImprovllJO Compliance byiLsñ7esses: More efficient filing mechanisms. clearer rules on
b'l'Businesses: More effICientflllng mechanisms! cl~arer' liJles
~ who is liable for employment taxes, and streamlined collection due process will contribute to
wh9 Is Ii~ble
employment taxes, and
collect;on due process Will contribute to
improved business tax compliance.
improved
tax eompliance.
•

Require e-fihing by certain large organizations. This proposal would require all
Require e-Rling by certaIn farge organizations. This proposal Would require an
corporations and partnerships required to file Schedule M-3 to file their income tax
corporations ancfpartnershlps required to
Sch8dule M-3 tOlftle thflir1r'OOme tax
returns electronically. In the case of large taxpayers not required to file Schedule M-3,
returns electrdnically. In the case of large,taxpayers not required to file Sctledule M-3.
such as exempt organizations. the regulatory authority to require electronic filing would
such as exempt organizations,
te.guratory authority to require electronic filln9.-would
be expanded beyond the current 250-return minimum.
be expanded oayond1he current 250 ..retum minimUm.

•

Implement standards clarifying when employee leasing companies can be held liable for
Implement standards clarifYIng' when employ86 leasing fJjJmpanies can be hjJ/d liable for
their dllents’federal employment taxes. This proposal would set standards for hotdin,g
thlJlrdlentS'fsderal employment taxes. ThiS p~RQSSI woultfsf)t standards for holding
employee leasing companies jointly and severally liable with their clients for federal
employee leasing companies 'ointly and severalty liable with their olients for
employment taxes. This proposal would provide standards for holding employee leasing
employment taxes. This propOsal would prov~ standards for holding e~ployee leasIng
companies solely liable if they meet specified requirements. This proposal is estimated
companies solelY liable If they meet specified requirements. This propOsal is estimated
to generate $57 million over the next ten years.
to generate $57 million·overthe ne>rt ten years,

federal'"

• Amend collection due process procedures for employment tax liabilities. Legislation was
• Amend colteCfjon due 'P~ proCeclures lor employment tax liabilitieS. Legislation was
signed May 25. 2007, implementing a modified version of this proposal. It expands the
signed May 25. 2001. implementing a modified version of this proposal. tt expands the
exception to the requirement for pre-levy Collection Due Process proceedings to include
exception to the requiRtment for pre-f~vy ColleetJon Due Process prDceedlngs to Include
certain levies issued to collect federal employment taxes. The change will generate an
certain leVies is~ued to conect ted~ral employment taxes. The change will generate an
estimated $364 million over the next ten years.
estimated $364 million over the next ten years.

21
21
D037
Exh.7