oversight

Small Business: Taxpayers Face Many Layers of Requirements

Published by the Government Accountability Office on 1999-04-12.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                          United States General Accounting Office

GAO                       Testimony
                          Before the Committee on Small Business
                          U.S. Senate



For Release on Delivery
1:00 p. m. EDT
Monday
                          SMALL BUSINESS
April 12, 1999


                          Taxpayers Face Many
                          Layers of Requirements
                          Statement of Margaret T. Wrightson
                          Associate Director, Tax Policy and Administration Issues
                          General Government Division




GAO/T-GGD-99-76
Summary

Small Business: Taxpayers Face Many Layers
of Requirements

               Small businesses—a category that includes sole proprietorships,
               partnerships, S corporations, and corporations with assets less than $5
               million—are an important segment of taxpayers that are subject to
               substantial federal tax requirements. Not only do they account for nearly
               half of all taxes the Internal Revenue Service (IRS) collects annually, but
               they also have extensive interactions with IRS about some very difficult
               and complex issues.

               GAO’s preliminary results indicate that

             • Small businesses, like large businesses, are subject to multiple layers of
               filing, reporting, and deposit requirements. GAO identified more than 200
               different Internal Revenue Code (IRC) requirements that potentially apply
               to small businesses. The requirements reflect IRS’ administration of a
               variety of tax and other policies, including income, employment, and
               excise taxes, as well as pension and other employee benefit programs.
               GAO also found that it is highly unlikely that any business would need to
               comply with all or even most of these requirements. Those that apply
               would depend on how the small business is organized, whether it has
               employees, and the nature of its business operations. In considering the
               number of requirements, it is important to note that the requirements did
               not come about by happenstance. They reflect the many decisions and
               compromises that have been made by Congress and Administrations to
               accomplish their policy goals, including those that may benefit small
               businesses and other taxpayers.
             • Limitations in IRS information systems prevented GAO from fully
               determining the extent to which small businesses filed the various forms
               and schedules or their involvement in key stages of IRS’ enforcement
               processes. One problem pertained to locating information that GAO
               needed. IRS has dozens of discrete databases—so many that it is difficult
               to determine what data are in them, what the data mean, how the files are
               structured, or even how many files there might be. Also, many of the IRS
               databases do not allow for a detailed analysis of the information they
               contain. The limitations currently hinder IRS’ ability to effectively manage
               its activities and serve small businesses and, as IRS has acknowledged, will
               continue to be a serious impediment until the systems are improved.
             • Although IRS does not have a reliable method to measure compliance
               burden, there is common agreement that the burden is significant for small
               businesses. Past GAO surveys and case studies illustrate that much of the
               burden can be traced to the IRC itself. For example, respondents to one
               survey of small businesses, larger businesses, and tax professionals noted
               that some of the most difficult problems they faced were due to the tax
               provisions’ ambiguity, frequent changes, and expiration clauses and the



               Page 1                                                        GAO/T-GGD-99-76
  Summary
  Small Business: Taxpayers Face Many Layers of Requirements




  many layers of complex and confusing regulation that attend such
  provisions.
• IRS has long tried to reduce small businesses’ compliance burden and
  improve customer service to these taxpayers. For example, IRS has used
  targeted mailings, expanded toll-free telephone service, experimented with
  one-stop shopping, and sponsored seminars and other face-to-face
  educational outreach. IRS also has worked to make filing and reporting
  easier and to increase IRS employees’ expertise and understanding of
  small business tax issues and practices.
• Most recently, IRS has begun an extensive modernization effort that,
  among other things, is intended to substantially improve customer service,
  thereby making it less burdensome for small businesses and other
  taxpayers to meet their tax obligations. One of the most visible signs of
  IRS’ commitment to improve its services to small businesses is the
  establishment of a separate operating unit dedicated to this group of
  taxpayers. However, as IRS has acknowledged, reorganization alone will
  not change IRS’ business practices or the way the agency treats taxpayers.
  As part of its reform efforts, IRS also will need to consistently follow
  results-oriented management principles, integrate the principles into its
  day-to-day activities and culture, and hold managers at every level
  accountable for doing the same. IRS also must develop and use
  organizational and individual performance systems that support IRS’ new
  mission statement and implement information systems that support
  customer service and management in a reorganized environment.




  Page 2                                                       GAO/T-GGD-99-76
Statement

Small Business: Taxpayers Face Many Layers
of Requirements

              Mr. Chairman and Members of the Committee:

              I want to thank you for inviting me here today to discuss small business
              tax issues. As the Internal Revenue Service (IRS) is reorganizing into four
              operating units, one of which is dedicated to small businesses, the agency
              faces critical challenges in meeting the needs of taxpayers and its
              managers and employees.

              As my testimony underscores, small businesses are an important category
              of taxpayers. Not only do they account for nearly half the total taxes
              collected annually, but they also have extensive interactions with IRS
              about some very difficult and complex tax issues. As you requested, we
              focused on federal taxes in relation to four types of small businesses
              (including farmers)—sole proprietorship, partnership, S corporation, and
              corporation. My remarks today concern (1) the federal filing, reporting,
              and deposit requirements that apply to small businesses; (2) the actual
              experience of small businesses in meeting these requirements, including
              their involvement in IRS’ enforcement processes; (3) the burden small
              businesses can face in complying; and (4) IRS’ efforts to reduce small
              businesses’ compliance burden and improve customer service, especially
              IRS’ planned reorganization.

              My statement today is based on our ongoing small business tax work for
              the Committee. To develop the information, we reviewed IRS forms,
              publications, manuals, and related Internal Revenue Code (IRC)
              provisions; collected and analyzed relevant data; and interviewed agency
              officials who were cognizant of small business tax issues and IRS’ efforts
              to improve small business customer service and reduce compliance
              burden. We also drew from our past reports and testimonies and our
              current work related to small business tax issues.

              We experienced several limitations during the course of our work. As
              described later in this statement, much of the data we sought to obtain
              were not collected in IRS information systems or were not sufficiently
              reliable. To obtain and analyze the available data, we often had to rely
              upon sampling, matching, and ad hoc techniques. In addition, data were
              not available for a single year across all variables, so we had to use data
                                               1
              from different years as needed. We did not verify the reliability of IRS data
              used in this testimony, except for some limited checking described in the
              statement. Lastly, our review did not address IRS activities related to small
              business nonfilers.
              1
                  We obtained the most recent data available from IRS; some were for 1995 and some for 1997.




              Page 3                                                                             GAO/T-GGD-99-76
                         Statement
                         Small Business: Taxpayers Face Many Layers of Requirements




                         Businesses established in the United States (including farmers) are
Background               generally structured in one of four forms: sole proprietorship, partnership,
                                        2                3
                         S corporation, or corporation. The IRC distinguishes small businesses
                         from larger businesses in a number of ways, and IRS has used different
                                                                                                 4
                         definitions of small business for different internal operating purposes.

                         Now, as part of its current reorganization effort, IRS is developing an
                         agencywide definition of small business, which we have adopted for this
                         testimony. Small businesses (including farmers) are sole proprietorships,
                         partnerships, S corporations, and corporations that reported less than $5
                         million in assets. In this context, a large majority of all businesses are
                                            5
                         small businesses.

                         Small businesses, like large businesses, are subject to multiple layers of
Small Businesses Face    filing, reporting, and deposit requirements that reflect how the business is
Multiple Layers of Tax   organized, whether it has employees, and the nature of its business
                                     6
Requirements             operations. By our count, there are more than 200 requirements—which
                         we grouped into four layers—that may apply to small businesses as well as
                         larger businesses and other taxpayers. The requirements are designed to
                         implement a variety of tax policies. Not only do they provide a way to
                         collect taxes from businesses, but also to use businesses to collect taxes
                         owed by third parties (e.g., employees’ personal income tax withholding
                         and Social Security and Medicare (FICA) taxes).

                         2
                          Corporations with no more than 75 shareholders can elect to be treated as S corporations for federal
                         tax purposes if certain requirements are met. The main advantage of this election is avoidance of tax at
                         both the corporate and shareholder level, as the income of S corporations is generally subject to tax
                         only at the shareholder level.
                         3
                           Another alternative business form that has emerged is the limited liability company (LLC). The LLC
                         generally is classified as a partnership for tax purposes, but offers the corporate benefit of limited
                         liability for owners.
                         4
                          Tax rates vary by business type, as corporations are taxed at a corporate rate, sole proprietorships are
                         taxed as individuals, and the income earned by partnerships and S corporations is passed through to
                         their owners and taxed at individual rates. Because of this, partnerships and S corporations are often
                         referred to as “pass-through entities.”
                         5
                          To illustrate, for tax year 1995 we identified approximately 23.4 million businesses that filed returns.
                         Of this population, 94 percent of partnerships reported total assets of less than $5 million and 98
                         percent of S corporations reported total assets of less than $5 million. Although most large businesses
                         are organized as corporations, even among corporations, 97 percent reported assets of less than $5
                         million in 1995. Also included were all sole proprietorships, which accounted for approximately 16.3
                         million of the nearly 23.4 million small business filers in 1995. According to IRS, though, about half of
                         these taxpayers received the vast majority of their income from wages, not business-related
                         enterprises, and should be considered as “incidental” business filers. Nevertheless, both we and IRS
                         include them in the definition of small business.
                         6
                         For the purpose of this testimony, requirements are the filing of a tax form, schedule, and deposit.
                         Schedules that were embedded in a primary return were not counted as a separate requirement.




                         Page 4                                                                               GAO/T-GGD-99-76
                        Statement
                        Small Business: Taxpayers Face Many Layers of Requirements




                        In contemplating the significance of the total number, it is important to
                        know that many of the requirements apply to businesses generally and that
                        it is highly unlikely that any business would need to complete all 200
                        requirements. This is because the forms, schedules, and other
                        requirements that apply to a particular small business reflect how the
                        business is organized, whether it has employees, and the nature of its
                        business operations. It is also important to note that although a few of the
                        requirements must be submitted more frequently than once a year, the vast
                        majority is submitted annually. Appendix I provides a listing of all the
                        requirements that we identified. Also, as described later in this statement,
                        the requirements reflect the decisions and compromises of Congress and
                        Administrations in keeping with their policy goals and objectives.

Primary Income Tax      The requirements with which a small business must comply depend upon
                        how it is organized—sole proprietorship, partnership, S corporation, and
Returns Represent One   corporation. Each business type has its own primary income tax return,
Layer of Requirements   some of which include a set of schedules embedded in the form. For
                        example, the primary corporate income tax return, Form 1120, U.S.
                        Corporation Income Tax Return, contains eight embedded schedules. To
                        further support their primary income tax return, certain types of
                        businesses and individuals with business income must also attach a
                        mandatory schedule to their return. (See table 1.) For example, sole
                        proprietorships must file Form 1040, U.S. Individual Income Tax Return
                                                                        7
                        and Schedule C, Profit or Loss from Business. As pass-through entities,
                        partnerships and S corporations each have two separate sets of returns–
                        one for the entity and one for its owners. In addition to the primary income
                        tax return filed by the entity, each owner must file a Form 1040 and a
                                                                      8
                        Schedule E, Supplemental Income and Loss.




                        7
                         Related to income tax, estimated tax is another important requirement that applies to many small
                        businesses. Many sole proprietorships, partners, and S corporation shareholders must pay estimated
                        taxes quarterly for income and self-employment tax. In making these payments, they must estimate
                        their income for the coming year and the amount of income, Social Security, and Medicare taxes that
                        will be owed on this income. Corporations must also make installment payments of estimated tax on
                        their income, while S corporations must pay estimated tax only on certain tax liabilities.
                        8
                            Form 1040 and Schedule E are not generally considered to be business returns.




                        Page 5                                                                              GAO/T-GGD-99-76
                                            Statement
                                            Small Business: Taxpayers Face Many Layers of Requirements




Table 1: Primary Income Tax Returns and Mandatory Schedules
                                                                                                            a
Business category     Primary income tax return                                      Mandatory schedule
Sole proprietorship   Form 1040, U.S. Individual Income Tax Return                   Schedule C, Profit or Loss From Business
Farmer                Form 1040, U.S. Individual Income Tax Return                   Schedule F, Profit or Loss From Farming
Partnership           Form 1065, U.S. Partnership Return of Income                   Schedule K-1, Partner’s Share of Income
 Partner              Form 1040, U.S. Individual Income Tax Return                   Schedule E, Supplemental Income and Loss
S corporation         Form 1120S, Income Tax Return for an S corporation             Schedule K-1, Shareholders Share of Income
 Shareholder          Form 1040, U.S. Individual Income Tax Return                   Schedule E, Supplemental Income and Loss
Corporation           Form 1120, U.S. Corporation Income Tax Return                  None
                                            a
                                                Schedules that are required with the primary return.
                                            Source: IRS.


Employment Tax Adds a                       A small business’ decision to hire employees adds a second layer of tax
                                            requirements. We identified more than 10 different federal employment tax
Second Layer of                             requirements that potentially apply to small businesses. The number of
Requirements                                employment tax filings and deposits depends on the number of employees
                                            and the resulting employment tax liability owed at a particular time. (See
                                            table 2.) For each employee, a small business is generally responsible for
                                            collecting and remitting several federal taxes with varying frequency
                                            stipulations–withholdings for employees’ personal income tax along with
                                            the employer’s matching amount, FICA, and federal unemployment tax
                                            (FUTA).


Table 2: Key Employment Tax Requirements
Type of employment tax   Primary return                     Deposit
Personal income and FICA Form 941, Employer’s Quarterly Quarterly if liability is less than $1,000 per quarter
                                                                                                               a
tax withheld             Federal Tax Return                 Monthly if less than $50,000 in the lookback period
                                                            Semi-weekly if more than $50,000 in the lookback period
                                                            Next day if more than $100,000 accumulated on any day during a
                                                            deposit period
                                                            Annually if liability is less than $1,000 per year
                                                                                                               b
                                                            Monthly if less than $50,000 in the lookback period
                         Form 943, Employer’s Annual        Semi-weekly if more than $50,000 in the lookback period
                         Tax Return for Agricultural        Next day if more than $100,000 accumulated on any day during a
                         Employees                          deposit period
                                                                                                                                c
                                                            Deposits made by mail using Form 8109 or electronically using EFTPS
FUTA                     Form 940, Employer’s Annual        Deposit quarterly by mail using Form 8109 or electronically using
                                                                   a
                         Unemployment Tax Return            EFTPS
                         (if liability is greater than $100
                          in a tax year)
                                            a
                                             The Form 941 lookback period for 1999 covers four quarters, beginning July 1, 1997 and ending
                                            June 30, 1998.
                                            b
                                                The Form 943 lookback period is the second calendar year preceding the current calendar year.
                                            c
                                                Electronic Funds Transfer Payment System
                                            Source: IRS.




                                            Page 6                                                                            GAO/T-GGD-99-76
                             Statement
                             Small Business: Taxpayers Face Many Layers of Requirements




                             A small business employer must report quarterly the amount of personal
                             income tax withheld and FICA paid for each employee on Form 941,
                             Employer’s Quarterly Federal Tax Return. The employer must deposit
                             income tax withheld, including the matching amount, and FICA taxes
                             either by mail or electronically either quarterly, monthly, weekly, or the
                             next business day, depending on the employers’ tax liability. If total
                             deposits of withheld income taxes and FICA taxes were more than $50,000
                             in the preceding year, the employer must make electronic deposits using
                                                                                     9
                             the Electronic Federal Tax Payment System (EFTPS). In addition, a small
                             business employer must annually report and quarterly deposit FUTA taxes
                             separately from FICA and withheld income tax. Lastly, an employer must
                             send a federal Form W-2, Wage and Earnings Statement to each of its
                             employees and file federal Forms W-3, Transmittal of Wage and Tax
                             Statements and W-2 with the Social Security Administration. In sum, hiring
                             employees—even just one employee—is a critical decision for small
                             businesses in terms of their tax liability and the complexities of the tax
                                                                        10
                             administration processes that they face.

Offering Employee Benefits   The decision to offer employee pension, fringe, and welfare benefit plans
                             adds another layer of requirements for a small business. Some benefit
Adds a Third Layer of        plans may substantially increase the number of filing requirements that
Requirements                 small businesses face, while others are simplified and entail few if any
                             filing requirements. We counted over 10 filing and reporting requirements
                             pertaining to benefit plans, including requirements like the Form 5500
                             series and related schedules.

                             Certain pension plans are tailored to small businesses and self-employed
                             individuals, offering them a tax-favored way to save for retirement.
                             Simplified Employee Pensions (SEP), Savings Incentive Match Plans for
                             Employees (SIMPLE), and Keogh plans offer small employers and self-
                             employed individuals a deduction for contributions to the plan and
                             deferral of tax on income of the plan. Generally, SEP and SIMPLE plans
                             are less complex than Keogh plans and, while businesses must maintain
                             records about the plans, they do not have any separate filing or reporting
                             requirements with IRS. Keogh plans offer certain benefits not offered by
                             SEP and SIMPLE, but they tend to be more complex and entail substantial


                             9
                              IRS has waived penalties for most smaller businesses required to use EFTPS that make timely deposits
                             using paper deposit coupons. The penalty relief applies through January 1, 2000, to all taxpayers
                             currently required to use EFTPS if they did not make aggregate tax deposits of more than $200,000
                             during the year.
                             10
                                  Employment Taxes and Small Business (GAO/T-GGD-97-21, Nov. 8, 1996), p. 7.




                             Page 7                                                                            GAO/T-GGD-99-76
                            Statement
                            Small Business: Taxpayers Face Many Layers of Requirements




                                                                                                              11
                            filing and reporting requirements with IRS (Form 5500 series). In
                            addition, most fringe and welfare benefit plans entail filing and reporting
                            requirements with IRS (Form 5500 series). (For a complete list see table I.3
                            in app. I.)

Other Business Operations   The remaining tax requirements that potentially apply to small businesses
                            depend upon the nature of the business activities. A few of these
Add a Fourth Layer of       secondary requirements are specific to a type of business, but most are
Requirements                generally applicable to all businesses. For example, there are requirements
                            that pertain to the depreciation of assets, the sale of business property,
                            and claims for a credit to increase research activities. These requirements,
                            of which there are nearly 140, range across income taxes, excise taxes, and
                            information reporting. (For a complete list see tables I.4, I.5, and I.6 in app.
                            I.) Some of these requirements are used to implement provisions in the
                            IRC (some of which were recently enacted) that can benefit small (and
                            other) businesses. For example, businesses must complete Form 8861,
                            Welfare-to-Work Credit, to receive a tax credit for hiring long-term family
                            assistance recipients. Also, businesses must complete Form 4562 to claim
                            deductions for depreciation and amortization of business assets or to
                            make the election to immediately expense the cost of certain property. The
                            election to expense property allows the taxpayer to take an immediate
                            deduction instead of using the depreciation schedules to recover a portion
                            of the costs annually over the property’s useful life. (The total cost that
                            may be expensed is $18,500 for 1998).

                            Among excise taxes alone, we identified about 70 requirements that
                            potentially apply to small businesses. (For a complete list see tables I.5
                            and I.6 in app. I.) Generally, though, most small businesses are not
                            responsible for filing excise taxes. According to IRS, fewer than 800,000
                            small businesses filed excise tax returns in 1997. IRS and the Bureau of
                            Alcohol, Tobacco and Firearms (ATF) administer many of the federal
                            excise taxes. The excise taxes administered by IRS consist of several
                            broad categories, including environmental taxes, communications taxes,
                            fuel taxes, retail sale of heavy trucks and trailers, luxury taxes on
                            passenger cars, and manufacturers’ taxes on a variety of different
                            products. ATF administers excise taxes on the production, sale, or import
                            of guns, tobacco, or alcohol products or the manufacture of equipment for
                            their production.



                            11
                             IRS, Department of Labor, and Pension Benefit Guaranty Corporation have consolidated their returns
                            and report forms to minimize the filing burden for plan administrators and employers.




                            Page 8                                                                         GAO/T-GGD-99-76
                             Statement
                             Small Business: Taxpayers Face Many Layers of Requirements




                             Limitations in IRS’ information systems prevented us from fully
Small Businesses’            determining the extent to which small businesses actually filed various
Experience in Filing         required forms and schedules and which businesses made deposits, or
and Enforcement              determine the extent of small businesses’ involvement in IRS’ enforcement
                             processes. We were, however, able to obtain and analyze limited data on
Processes Could Not          small business filings of income tax forms in 1995. As we discuss in detail
Be Fully Determined          in the final section of this statement, the data limitations currently hinder
                             IRS’ ability to effectively manage its activities and serve small businesses
                             and, as IRS has acknowledged, will continue to be a serious impediment
                             until the systems are improved.

Information Systems          The first problem we encountered pertained to locating information that
                             we needed. IRS has dozens of discrete databases -- so many that it is
Significantly Limit Access   difficult to determine what data are in them, what the data mean, how the
to Data                      files are structured, or even how many files there might be. The databases
                             are function-specific (e.g., Examination) and designed to reflect
                             transactions at different points in the life of a return or information
                             report—from its receipt to its disposition. As a consequence, IRS does not
                             have any easy means to access comprehensive information about
                             taxpayers or their accounts in order to provide high quality customer
                             service.

                             Second, many of the IRS datasets do not allow for a detailed analysis of the
                             information they contain. We were unable to separate out the four types of
                             small businesses in some the datasets. For example, the Form 941 that
                             employers are to use to file their employment taxes does not have
                             information on business assets or gross receipts that would have allowed
                             us to categorize employers by size. Without this information, our
                             alternative was to use information from the Business Master File.
                             Accessing the appropriate tax module in that file might have made it
                             possible to capture information on assets.

                             However, extracting Master File data is a time- and resource-intensive
                             undertaking that is prone to errors and data reliability problems. It
                             involves requesting IRS’ Information Services to provide an extract from
                             various Master Files, working with the File to validate it, and then melding
                             the data from two Files into one that would be suitable for analysis. IRS
                             receives many internal and external requests for data, and each request
                             must await its turn in the queue. IRS’ resources are limited, and the request




                             Page 9                                                        GAO/T-GGD-99-76
                             Statement
                             Small Business: Taxpayers Face Many Layers of Requirements




                             could have taken many months for the agency to complete. Thus, we
                                                                                 12
                             decided not to request IRS to make the extractions.

Filing Experience of Small
Businesses

Income Tax                   Although we weren’t able to obtain data on most types of requirements, we
                             were able to obtain information pertaining to small business income tax
                             requirements. Our analysis of 1995 IRS data for approximately 44 forms
                             and 46 related schedules that IRS believes are those most commonly filed
                             showed that small businesses, on average, filed one secondary form in
                             addition to their primary income tax return, with little variation among the
                             different types of business. The most commonly filed secondary income
                             tax form among the 44 was Form 4562, Depreciation and Amortization.
                             Approximately 74 percent of farmers, 62 percent of partnerships, 69
                             percent of S corporations, and 73 percent of corporations filed the
                             depreciation and amortization form in 1995. The returns for sole
                             proprietorships were lower, with slightly less than 40 percent filing the
                             depreciation and amortization form in 1995.

                             The number of schedules small businesses submitted varied, depending on
                             the type of business. This includes the mandatory schedules filed with the
                             primary return by certain business types and individuals with business
                             income as well as secondary schedules and other schedules embedded in
                             the primary tax return. On average, sole proprietorships and corporations
                             filed approximately three schedules, while farmers filed slightly less than
                                    13
                             three. Partnerships and S corporations filed more schedules than other
                             types of business. Partnerships filed approximately 11 schedules and S
                             corporations filed approximately six schedules, on average, in 1995. The
                             filing results are higher for partnerships and S corporations because of
                             their unique structure as pass-through entities. Partnerships and S
                             12
                                IRS has information about each taxpayer’s filing and compliance history in a Master File account,
                             currently maintained in Martinsburg, West Virginia. Business Master File accounts are especially
                             complicated due to multiple reporting requirements and are more difficult for IRS to maintain without
                             error or have data from them accessed and used. Also, the information on the Master Files is not
                             complete because other databases may have other related information (e.g., income received about the
                             business from a bank or other payer that has been reported to IRS on an information return). Further,
                             IRS updates Master Files on a weekly basis, after the transactions have taken place. Most of IRS’
                             compliance systems (e.g., Collection) operate off of uploads and downloads of selected taxpayer
                             account information on the Master Files. These systems are used online by IRS employees to assist
                             taxpayers or assess their compliance. But, the account information on the systems is limited to the
                             intended purpose and updates are not reflected until the Master Files are updated on weekends.
                             13
                              The results for sole proprietorships and farmers include schedules pertaining to nonbusiness income
                             (e.g., wages).




                             Page 10                                                                          GAO/T-GGD-99-76
                              Statement
                              Small Business: Taxpayers Face Many Layers of Requirements




                              corporations must file a Schedule K-1, Partner’s or Shareholder’s Share of
                              Income, with IRS for each partner or shareholder. As a result, Schedule K-1
                              filings accounted for a significant proportion of the multiple schedules
                              filed by partnerships and S corporations in that year.

Employment Tax and Pensions   IRS does have information on federal employment taxes, but it could not
                              be broken out by small businesses. Further, IRS did not have sufficient and
                              reliable data on the number of small businesses that filed pension forms in
                                    14
                              1995.

Enforcement Experience of     IRS also did not have the data we needed on the extent to which small
                              businesses are involved in both Examination and Collection activities. We
Small Businesses              did obtain limited data on audit rates and some aspects of how the audits
                                                                                                  15
                              concluded (i.e., with refunds, no change, or recommended changes).

                              When IRS has indications that a small business may have failed to meet
                              one or more of the aforementioned requirements, the business can become
                              involved in IRS’ enforcement processes. These processes are basically the
                              same for small businesses as for other taxpayers. They involve examining
                              returns for potential errors or compliance problems, notifying taxpayers of
                              suspected discrepancies, settling disputes over additional taxes
                                                                             16
                              recommended, and collecting taxes assessed. (App. 2 provides a
                              simplified picture of IRS’ audit and dispute resolution process.)




                              14
                               We were able to obtain very limited disaggregated data on the number of pension forms filed in 1995.
                              However, the results cannot be projected to the larger population of small businesses. We worked with
                              IRS’ Employee Plans/Exempt Organizations Division to obtain a sample of the number of small
                              businesses that filed Form 5500 using an Employer Identification Number (EIN) match. From a sample
                              of 65,701 small business EINs, we matched 11,585 that filed Form 5500. The data indicated that 1,090
                              sole proprietorships, 824 partnerships, and 9,671 corporations filed forms from the Form 5500 series in
                              1995.
                              15
                                 Some of the information we sought was not readily available from IRS’ Examination and Collection
                              databases. For example, no single IRS database contains the data needed to determine the proportion
                              of amounts owed that were ultimately collected (the collection rate) or whether a small business is
                              undergoing a specific collection action. Second, as was true for other databases we used, IRS’ Audit
                              Information Management System (AIMS) database does not identify some small business taxpayers or
                              adequately distinguish small businesses from other businesses. AIMS does not include the asset size of
                              partnerships or S corporations; it cannot distinguish between small and other partnerships or S
                              corporations. AIMS does include asset data for sole proprietorships and corporations.
                              16
                               See Tax Administration: IRS’ Return Selection Process (GAO/GGD-99-30, Feb. 22, 1999) and Tax
                              Administration: IRS Measures Could Provide a More Balanced Picture of Audit Results and Costs
                              (GAO/GGD-98-128, June 23, 1998).




                              Page 11                                                                           GAO/T-GGD-99-76
         Statement
         Small Business: Taxpayers Face Many Layers of Requirements




Audits   IRS’ primary technique for assessing compliance with tax laws is to
                                                                       17
         examine the accuracy of the tax reported on filed tax returns.

         In selecting returns to be audited, IRS attempts to focus on those it
         believes are most likely to have compliance problems. IRS data showed
         that about 2.3 percent of the small business income tax returns filed by
         small businesses in 1997 were audited, generally through audits conducted
                                  18
         by IRS’ district offices. By contrast, IRS audited 1.3 percent of all returns
         filed in 1997. The audit rate for sole proprietors (individuals filing Schedule
         C) was 3.2 percent compared to 1.2 percent for individuals not filing
                      19
         Schedule C.

         According to IRS officials, the audit rate for small business taxpayers is
         higher than the overall rate because small businesses tend to have more
         compliance problems than other taxpayers. For example, in the area of
         employment tax audits, a small business could fall short of operating
         capital. As a consequence, it might divert some or all of its estimated tax
         deposits or employment tax withholdings to make up the shortfall, hoping
         to pay IRS at a later date. According to IRS officials, the amount of these
         unpaid taxes, penalties, and interest can pyramid quickly. The danger is
         that a business, which must rely on these funds for working capital, is
         likely to have other liabilities and delinquencies that reflect financial
         problems so severe that it cannot recover.

         Table 3 provides detailed information on the audit rates for the four types
         of small businesses.




         17
            IRS’ audits do not include all taxpayer contacts that can result in recommended assessments of
         additional tax. In particular, notices resulting from IRS’ information matching math-error programs are
         generally not counted as audits, according to IRS officials. In 1997, IRS’ information matching program
         generated about 2.8 million notices, resulting in assessments totaling about $1.5 billion. We could not
         identify any readily available data on the proportion of these assessments directed at small businesses.
         18
            IRS data on audits of schedule C filers is limited to filers who derive most of their income from their
         business activities rather than from wages. These audits, when conducted by IRS’ service centers,
         generally involve aspects of the Form 1040 or self-employment tax return, rather than Schedule C.
         Also, the data do not take into account audits of Schedule E filers, particularly the individual owners of
         partnerships or S corporations.
         19
           The data showed audit rates of 4.1 percent and 3.6 percent for Schedule C filers in 1995 and 1996
         respectively, compared to 1.5 percent in both years for individuals not filing Schedule C.




         Page 12                                                                              GAO/T-GGD-99-76
                                    Statement
                                    Small Business: Taxpayers Face Many Layers of Requirements




Table 3: Audit Rates Across Small
Business Types (1997)               Business category                   Size                                               Audit rate
                                    Sole proprietorship                 Total                                                     3.2 %
                                                                        Gross receipts < $25,000                                  3.2
                                                                        Gross receipts $25,000 < 100,000                          2.6
                                                                        Gross receipts $100,000 and over                          4.1
                                    Farmer                              Total                                                     1.8
                                                                        Gross receipts < $100,000                                 1.3
                                                                        Gross receipts $100,000 and over                          2.8
                                                 a
                                    Partnership                         Total                                                     0.6
                                                  a
                                    S corporation                       Total                                                     1.0
                                    Corporation                         Total                                                     2.1
                                                                        Assets < $250,000                                         1.2
                                                                        Assets $ 250,000 < $1 million                             3.5
                                                                        Assets $1 million < $5 million                            7.8
                                    a
                                     About 98 percent of S corporations and 94 percent of partnerships were small businesses in 1995
                                    (i.e., they had less than $5 million in assets, based on GAO’s analysis of IRS’ Statistics of Income
                                    data).
                                    Source: IRS Data Book (Publication 55B), 1997.



Recommended Additional Taxes        Small business audits often result in recommendations for the assessment
and Penalties                       of additional tax and penalties. For the small business audits closed in
                                    1995, 67 percent resulted in some recommended change to the reported
                                    tax liability or refundable credits, while about 33 percent resulted in no
                                    such changes. Some audits resulting in no change to the reported tax
                                    liability did result in changes to other return items deemed significant by
                                    IRS examiners. For example, net loss, which can be carried forward and
                                    claimed in future years, may have been overstated on the return and
                                    adjusted by IRS. Table 4 provides more detailed information on small
                                    business audit results. In considering the information presented, it is
                                    important to note that the audit recommendations do not equate to final
                                    audit outcomes. For example, recommendations may be partially or fully
                                    overturned in IRS appeals or in court decisions.




                                    Page 13                                                                            GAO/T-GGD-99-76
                                       Statement
                                       Small Business: Taxpayers Face Many Layers of Requirements




Table 4: Audit Recommendations for Small Business Audits Closed in 1995
                    a
  Business category   Total audits    Audits recommending change                              Audits recommending no change
                                              Additional
                                                                                                                   b
                                          taxes/penalties %      Refund%                            Adjustment %             No adjustment%
Sole proprietorship     298,609                     63.8             4.4                                   15.7                       16.1
Farmer                    13,381                    59.0             6.7                                   10.3                       23.9
Corporation               35,011                    52.4             5.8                                   17.0                       24.8
Total                   347,001                     62.4             4.6                                   15.6                       17.3
                                       a
                                        Partnerships and S corporations were excluded because audit results generally pass through to the
                                       individual business owners.
                                       b
                                        Includes audits that resulted in adjustments not affecting the taxpayers liability for the current year,
                                       such as adjustments to reported net losses. Also includes delinquent returns secured by IRS auditors
                                       where reported tax liability was considered accurate.
                                       Source: GAO analysis of IRS’ AIMS Data.


Collections                            IRS’ Collection process starts at the point IRS identifies a taxpayer as not
                                                                                                                  20
                                       having paid the amount of tax due as determined by the tax assessment.
                                       First, IRS is to send a notice (or series of notices) to the taxpayers
                                                                               21
                                       informing them of the amount owed. If the amount is not paid, IRS is
                                       authorized to employ enforcement powers to collect what is owed.

                                       IRS can refer the delinquency to an automated collection system call site
                                       where an employee calls the taxpayer by telephone, asking for payment.
                                       The payment arrangements may include installment agreements or an
                                       offer-in-compromise from the taxpayers if the full amount owed cannot be
                                       paid.

                                       Information about large and chronic tax delinquencies can be referred
                                       directly to one of IRS’ 33 district offices where IRS revenue officers may
                                       contact the taxpayer in person. According to IRS officials, small
                                       businesses’ audits involving employment taxes are often referred directly
                                       to district offices. In addition to liens and levies, IRS Collection officials
                                       have authority to seize and sell taxpayers’ property, such as cars or real
                                       estate. Seizure is generally a last resort to get payment of the amount owed
                                       and the IRS Restructuring and Reform Act (RRA) now requires a district
                                       director’s approval. We were unable to obtain information on the number
                                       of small businesses undergoing enforced collection actions (i.e., liens,
                                       levies, or seizures).


                                       20
                                          As we have reported, IRS has had difficulty collecting assessments from many taxpayers, including
                                       small businesses. See Tax Administration: IRS Measures Could Provide a More Balanced Picture of
                                       Audit Results and Costs (GAO/GGD-98-128, June 23, 1998).
                                       21
                                        Collectively, these notices are to provide the taxpayer with statutory notification of the tax liability,
                                       IRS’ intent to levy assets if necessary, and information on the taxpayer’s rights.




                                       Page 14                                                                                GAO/T-GGD-99-76
                       Statement
                       Small Business: Taxpayers Face Many Layers of Requirements




                       Although IRS does not have a reliable way to measure tax compliance
Compliance Burden Is   burden or the portion attributable to small business tax requirements,
Hard to Measure, but   there is common agreement that the burden is significant. Employment
Significant            taxes present a microcosm of these requirements, the tax provisions that
                       underlie them, and an illustration of how burdensome the requirements
                       can be.

IRS Does Not Have a    IRS has acknowledged that the measure of burden that it now uses to meet
                       requirements of the Paperwork Reduction Act is inadequate, and IRS is
Reliable Measure of    beginning work to change it. Until IRS develops such a measure, it will be
Compliance Burden      difficult for IRS or others to assess the extent to which the compliance
                       burdens of small businesses are being reduced or increased.

                       Developing such a measure, including that portion that IRS can influence,
                       will not be easy. A key problem involves defining the set of activities that
                       contributes to burden and figuring what portion of the resources expended
                       are the result of federal tax regulations, state and local regulations, or are
                       part of business operations that would have been done in the absence of
                       the requirement. Although business officials and tax experts we have
                       interviewed for past work identified considerable anecdotal examples of
                       such compliance costs, the businesses told us that they did not routinely
                       need, nor did they keep, information on these costs. A reason may be that
                       business tax compliance strategies are usually not done in isolation of
                       other business operations. Some business activities serve multiple
                       purposes, and it is difficult to separate out the activities conducted
                       primarily for tax reasons. For example, businesses told us that it would be
                       difficult to take payroll expenditures and isolate those associated with tax
                       compliance.

                       To be comprehensive, any measure of compliance burden would need to
                       include more than the resources expended to fill in the returns, forms, and
                       schedules that we identified as being required of small business. In
                       addition to the time and resources that small businesses expend to
                       complete a return or schedule are the resources they expend to learn of
                       the form and determine whether and how it might apply to their facts and
                       circumstances. They also expend resources to collect the information
                       necessary to complete the form and store any supporting documentation
                       that IRS later might ask to see in connection with an inquiry or audit.

                       There is common agreement that tax burden, while hard to measure, is
                       significant. Tax experts, small businesses, and larger businesses that
                       responded to a survey we conducted to identify aspects of the business tax
                       compliance burden and options for reducing it identified the following



                       Page 15                                                       GAO/T-GGD-99-76
                              Statement
                              Small Business: Taxpayers Face Many Layers of Requirements




                              characteristics of especially troublesome tax provisions—ambiguity,
                                                                                             22
                              frequent changes, expiration clauses, and layers of regulation. That
                              survey underscored the role of the IRC as a major factor in compliance
                              burden. Business officials and tax experts we interviewed regarded the
                              code as complex, difficult to understand, and in some cases,
                              indecipherable. They reported that businesses have difficulty with the
                              code because of numerous and unwieldy cross-references and overly
                              broad, imprecise, and ambiguous language

Employment Tax                Employment taxes are a case in point. As discussed earlier, when a
                              business hires an employee, the business generally becomes responsible
Requirements Illustrate the   for collecting and paying personal income taxes withheld, FICA, and
Complexity and Burden         FUTA. To meet these requirements, employers must answer four
Small Businesses Can Face     questions: (1) Is the worker an employee covered by the tax? (2) Are the
                              compensation payments made to the employee to be considered wages for
                              employment tax purposes? (3) What is the employer’s employment tax
                              liability related to these wages? (4) What are the associated deposit and
                              filing requirements?

                              The answers to these questions are not always clear-cut. For example, we
                              have identified perennial problems and inconsistencies in IRS’
                              administration of common law rules governing whether a worker is an
                              employee for employment tax purposes or is an independent contractor,
                              who is responsible for payment of such taxes. Our reviews also have
                              pointed out the complexities in determining whether the compensation
                              paid to the employee fits the category of nontaxable compensation for
                              such payments as fringe benefits.

                              Making proper calculations of the periodic tax liability of compensation
                              payments and meeting filing and depositing requirements also can be
                              difficult. For the federal income tax, wages are to be withheld for each
                              payroll period; and the amount is to be based on the amount of wages and
                              number of allowances claimed by the employee on his or her federal Form
                              W-4, Employee’s Withholding Allowance Certificate. For FICA, the
                              employer is to deduct a certain percentage of the employee’s wages up to a
                              dollar limit and a lesser percentage of wages above that amount. FUTA is
                              paid at a different rate, but the amount paid can be reduced with credit for
                              payments to state unemployment tax. Added to all of this, in many cases,
                              employers will also need to make an additional set of calculations and
                              remittances for state employment taxes.

                              22
                                The survey is discussed in Tax System Issues in Compliance Burden (GAO/T-GGD-90-100, Apr. 3,
                              1996).




                              Page 16                                                                        GAO/T-GGD-99-76
                       Statement
                       Small Business: Taxpayers Face Many Layers of Requirements




                       The complexities of employment taxes were not created by happenstance.
                       They, like other tax requirements, reflect the compromises that have been
                       made to address assorted tax policy issues.

                       With tax laws and the ensuing regulations, forms, and instructions so
IRS Has Tried Many     complicated, it is not surprising that over the years IRS has tried many
Approaches to Reduce   different approaches to reduce the compliance burden and make it less
Compliance Burden      difficult for small businesses to meet their tax obligations. IRS has used
                       targeted mailings, expanded toll-free telephone service, experimented with
                       one-stop service facilities dedicated to small business clients, expanded its
                       Web site, and sponsored seminars and other face-to-face educational
                       programs in partnership with the Small Business Administration as means
                       to educate small business taxpayers. IRS also has sought to make filing
                       easier by encouraging electronic filing of information returns and by
                       establishing a nationwide telephone service that these businesses can use
                       to file their quarterly federal employment tax returns. Through programs
                       such as the Market Segment Specialization Program, IRS has worked to
                       improve its employees’ capacity to deal effectively and efficiently with
                       business tax issues affecting specific industries or market segments,
                       including small business issues, in its enforcement processes.

                       Other IRS programs, including the Simplified Tax and Wage Reporting
                       System, have been intended to reduce burden by increasing opportunities
                       to file tax and wage forms electronically and improving coordination
                       among federal and state tax administrators. Still other IRS programs have
                       focused on effective and timely identification of small businesses that have
                       not paid their proper tax so that compliance problems are resolved before
                       they become overwhelming.

                       While the benefits of such programs may not yet have been realized, the
                       Commissioner of Internal Revenue has recognized the importance of IRS’
                       working with taxpayers in a more proactive manner to ease these
                       compliance burdens. He also recognizes the importance of modernizing
                       IRS’ information systems to allow for better informed, proactive
                       interactions with taxpayers.

                       Most recently, IRS has begun an extensive modernization effort that,
Reorganization and     among other things, is intended to substantially improve customer service.
Other Reforms Show     IRS’ has characterized its plan as the most significant reform of the agency
Promise                in more than 50 years. In part, it is to reorganize IRS into four major
                       operating units, each one serving a taxpayer group with similar needs and
                       tax issues. One will be the Small Business and Self-Employed operating
                       unit, serving the small businesses discussed in this statement. The



                       Page 17                                                      GAO/T-GGD-99-76
                              Statement
                              Small Business: Taxpayers Face Many Layers of Requirements




                              organizational blueprints for the small business unit are nearly complete,
                              and implementation blueprints are in process.

                              The vision of a modernized IRS is compelling, but IRS’ agenda is
                              formidable. As IRS has acknowledged, reorganization will not, in itself,
                              change IRS’ business processes, its culture, or the way in which the agency
                              deals with taxpayers. Management, performance, and information systems
                              improvements will also be critical.

Managing for Results Is as    As our past work on the Government Performance and Results Act
                              demonstrates, IRS should follow results-oriented management principles
Important as Organizational                                             23
                              in addition to reorganizing its structure. Our case studies of leading
Structure                     organizations using performance and accountability principles found that
                              the organizations had varied structures, but similar results-oriented
                              management strategies. These organizations placed great emphasis on
                              clearly defined missions and desired outcomes and measuring and using
                              information on performance. Their leaders devolved decision making and
                              accountability, developed incentives to achieve organizational objectives,
                              built expertise, and used an integrated approach to manage reform. They
                              made clear their commitment to the fundamental principles of this type of
                              management and to steps to ensure that managers and staff at all levels of
                              the organization recognized that they must do the same.

                              Driving a results orientation down through all levels of the organization
                              can be particularly important because, traditionally, the danger to such
                              reforms is that they become hollow, paper-filled exercises. By integrating
                              results-oriented management into the day-to-day activities and culture of
                              the organization and holding managers accountable for doing the same,
                              leaders can help to avoid that danger.

                              As noted above, IRS has recently revised its mission statement to reflect
                              the need for better balance between customer service and compliance
                              enforcement. This is an important first step for IRS to define its mission
                                                                        24
                              and articulate corresponding objectives. It is too early to know whether
                              IRS will successfully continue this initiative and consistently apply the
                              results-oriented principles. We have recently begun to monitor how IRS is
                              managing reorganization and the other challenges that accompany so
                              23
                                 Numerous reports by GAO in recent years have discussed the implementation of the Results Act by
                              federal agencies. A major report addressing these issues was, Effectively Implementing the
                              Government Performance and Results Act (GAO/GGD-96-118, June 1996).
                              24
                                 IRS’ mission statement is to “Provide America’s taxpayers top quality service by helping them
                              understand and meet their tax responsibilities and by applying the tax law with integrity and fairness to
                              all.”




                              Page 18                                                                             GAO/T-GGD-99-76
                          Statement
                          Small Business: Taxpayers Face Many Layers of Requirements




                          significant a reform effort. Some of our work is being done at the request
                          of this committee. Because we believe that a results orientation will be
                          critical to IRS’ success, we expect to pay close attention to how IRS is
                          progressing in this area.

Organizational and        Performance measures can create powerful incentives to influence
                          organizational and individual behavior. In this regard, IRS recently
Individual Performance    announced a new set of organizational performance measures that it
Measurement Systems       believes reflect the agency’s new customer service emphasis, while also
Could Change Incentives   striking a balance between customer satisfaction, employee satisfaction,
and Help Reinforce IRS’   and business results. IRS is now in the process of further defining and
                          implementing the measures for organizational performance, using a
New Mission               phased approach.
                                             25




                          IRS has not yet announced its approach for applying the measures to
                          individual performance. IRS does, however, list the establishment of a new
                          employee evaluation system as one of more than 150 short-term customer
                          service improvements it hopes to complete by mid-2000. Doing so will be
                          important. Unless the performance of IRS employees is based on
                          incentives that are in accord with the agency’s new mission statement and
                          aligned with its organizational measures, managers and front-line workers
                          might find it easy to fall back on measures such as enforcement results and
                          other productivity statistics—measures that have created problems for IRS
                          in the past. Alternately, if employees come to believe that they should
                          place disproportionate value on customer satisfaction, they might not take
                          enforcement actions, even where appropriate, because the perceived risks
                          of taking action might be seen to outweigh the risks of not taking action.
                          The potential for such a pendulum swing is an additional reason for
                          putting the systems in place expeditiously.

                          How effectively IRS addresses the issue of balance in its measures of
                          performance could be especially significant for the small business unit.
                          Although the unit is also expected to have new resources to expand IRS’
                          education, outreach, and account services to small businesses, a large
                          majority of its employees will be engaged in post-filing and enforcement
                          activities. We are currently reviewing the relationship between IRS’
                          employee evaluation system and its new mission statement. Preliminary
                          results raise a question as to the extent to which evaluations have tended
                          to emphasize efficiency and revenue over customer service considerations

                          25
                             For example, IRS has not yet determined how it will measure all aspects of business results, most
                          notably compliance. Also, IRS expects the new units to make refinements to the performance
                          measures consistent with their own objectives to achieve IRS new mission statement.




                          Page 19                                                                            GAO/T-GGD-99-76
                           Statement
                           Small Business: Taxpayers Face Many Layers of Requirements




                           and whether the tone of some evaluative statements discourages customer
                           service. If this concern were borne out, IRS would need to modify the
                           system to achieve the types of cultural change to which Congress and IRS’
                           leadership are committed.

Success Will Also Depend   As IRS has recognized, the information systems that it uses to keep
                           records on taxpayers’ accounts are fundamentally deficient and thwart
on Implementation of       IRS’ ability to provide high-quality customer service. For years, IRS has
Information Systems to     struggled with this problem, and we have made numerous
Support Customer Service   recommendations for actions that IRS could take. As IRS begins to
and Management Needs       implement aspects of its reorganization plans, in the near term, IRS also
                           plans to modify its existing systems so that it can better identify taxpayers’
                           needs in each of the four operating units. In the long term, as part of its
                           modernization blueprint, IRS is to develop new systems and databases.
                           This long-term effort will take several years, and even near-term efforts
                           will pose serious challenges. In the interim, the limitations will make it
                           more difficult to manage and improve customer service, even in a
                           reorganized environment.

                           Many of IRS’ current systems reflect the agency’s stovepipe structure and
                                                                    26
                           transaction-based business approach. Now that IRS is to be structured
                           along taxpayer lines, its information systems need to reflect the new
                           environment. They should provide managers and employees with
                           convenient access to reliable up-to-date information on all relevant
                           transactions between taxpayers and IRS. For example, the type of
                           information we sought presumably would be the type that managers would
                           need to know about small business taxpayers and understand their
                           problems—including the source of the problems. If this kind of
                           information about small businesses is not readily available or in a form
                           suitable for analysis, it will be more difficult for unit managers to devise
                           effective strategies to target resources and improve service.

                           The implications of these system limitations extend to customer service as
                           well as management. For example, the information system that front-line
                           workers generally use in dealing with employment tax issues stores
                           information on quarterly employment tax deposits. That is, the data are
                           arranged according to each individual required filing—at least four for
                           each year. IRS is to notify the taxpayer about delinquencies in required
                           filings, although the notifications may be received by the taxpayer after

                           26
                              As noted, historically IRS has operated through functions like Examination or Collection and
                           information about taxpayers’ compliance tended to be developed to service the functions’ needs and
                           interactions with taxpayers, rather than IRS’ overall needs or those of taxpayers.




                           Page 20                                                                         GAO/T-GGD-99-76
Statement
Small Business: Taxpayers Face Many Layers of Requirements




several delinquencies have occurred. Confusion may result over what has
been paid and what remains due. Such confusion may be particularly
difficult to resolve if IRS and the taxpayer are corresponding over a
protracted period. Also, interest on any tax liability due would continue to
                                                                         27
accrue and could eventually come to equal or exceed the amount owed.

Employment tax situations like this illustrate how fragmented account
information can make it difficult for IRS to work with taxpayers to resolve
their problems and can frustrate taxpayers seeking to settle their account
by paying the taxes owed. Also, the extra time and energy that the
taxpayer might spend due to IRS’ systems limitations is time away from
income-producing activities that an already struggling business might ill
afford to miss.

IRS has said it is taking interim steps to address some of its data problems.
IRS expects to develop a way of linking a customer identifier to the case
information in 35 of its most important information systems. When this
“workaround” is complete, IRS managers and front-line workers should
know whether the return or information report data they might be using
are for a small sole proprietor, partnership, S corporation, or corporation.

However, the interim solution will not provide real-time information about
the full range of transactions currently ongoing for a particular taxpayer.
Nor will it be easy or inexpensive to put in place. As with IRS’ initiative to
make its information systems Year 2000 compliant, the workaround will
affect a large number of systems and involve many steps to program,
implement, and validate. Nevertheless, IRS may not have a choice as it will
remain hamstrung in its efforts to assist taxpayers in complying with tax
laws until its systems are replaced.

Depending on the speed and success of this and other interim solutions
IRS might devise for its data problems, the small business and other
operating units will need to rely on existing systems and human ingenuity.
Recent IRS experience shows that such reliance bears careful watching. As
we testified in March 1999, IRS’ problems in preparing financial statements
illustrate what can happen when human ingenuity is substituted in lieu of
                                   28
adequate information technology. Our work showed that in the past,

27
   The IRS Restructuring and Reform Act of 1998 (RRA) includes provisions that suspend the accrual of
interest and some penalties if IRS fails to notify the taxpayer of additional tax liabilities within 18
months after a return is filed.
28
  Internal Revenue Service: Results of Fiscal Year 1998 Financial Statement Audit (GAO/T-AIMD-99-
103, March 1, 1999).




Page 21                                                                            GAO/T-GGD-99-76
               Statement
               Small Business: Taxpayers Face Many Layers of Requirements




               without adequate systems, IRS was forced to use ad hoc programming and
               substantial manual intervention to overcome pervasive internal control
               and systems weaknesses. However, these costly and time-consuming
               efforts could not be duplicated for fiscal year 1998 due to IRS’ loss of key
               Chief Financial Officer staff who were managing the preparation of its
               administrative financial statements. As a consequence, IRS has received a
               qualified opinion from us on most of its fiscal year 1998 administrative
               financial statements.

               Small businesses, like large businesses, are subject to multiple layers of
Concluding     filing, reporting, and deposit requirements. Together, the requirements are
Observations   intended to implement a complicated mix of fiscal and other policies—
               some of which benefit as well as burden businesses. Although IRS does not
               have a reliable way to measure the full extent of the compliance burden
               associated with the policies, the burden is significant.

               The reforms underway at IRS hold promise for small businesses and all
               taxpayers. One of the most visible signs that IRS may be changing is its
               establishment of four new operating units. However, reorganization will
               not be enough. As my statement underscores, management, performance,
               and information systems improvements will also be critical.

               Mr. Chairman, this concludes my prepared statement. I would be happy to
               answer any questions you or other Members of the Committee might have.




               Page 22                                                      GAO/T-GGD-99-76
Page 23   GAO/T-GGD-99-76
Appendix I

Tax Requirements that Potentially Apply to
Small Businesses

Table I.1: Layer One - Primary Income Tax Returns and Related Schedules
                                                            Frequency
                                                            (annually unless
                      a
                Title                                       otherwise noted)   Explanation
Sole            Form 1040 - U.S. Individual Income Tax                         If reporting income from a sole proprietorship (or
Proprietorship Return                                                          other individual income)
                Schedule C - Profit or Loss from a Business                    If incurred profit or loss as owner of a sole
                (Sole Proprietor)                                              proprietorship
                Schedule C-EZ - Net Profit from Business                       If expenses are $2,500 or less, may use Schedule
                                                                               C-EZ as alternative to Schedule C
               Form 1040 ES – Estimated Tax                  Quarterly         If income and self-employment taxes expected to be
               for Individuals                                                 $1,000 or more and withholding and credits are
                                                                               expected to be less than the smaller of 90 percent of
                                                                               the tax on the current year return or 100 percent of
                                                                               the tax shown on return for the previous year.
               Form 2210 - Underpayment of Estimated Tax                       If estimated tax filer wants to perform their own
               by Individuals, Estates, and Trusts                             penalty calculations instead of allowing IRS to make
                                                                               the calculations for them
Farmer         Form 1040 - U.S. Individual Income Tax                          If reporting income from a farm as an individual
               Return                                                          taxpayer
               Form 1065 - U.S. Partnership Return of                          If reporting income from a farm and organized as a
               Income                                                          partnership
               Schedule F - Profit or Loss from Farming                        If incurred farm income or expenses
               Schedule J - Farm Income Averaging                              If electing to figure tax liability by averaging income
                                                                               over past 3 years
               Form 990C- Farmers' Cooperative Association                     If a farmers' associations operated on a cooperative
               Income Tax Return                                               basis
               Form 1040 ES – Estimated Tax                Quarterly           See explanation above. Qualified farmers pay
               for Individuals                                                 annually; nonqualified farmers pay quarterly.
               Form 2210F - Underpayment of Estimated Tax                      If farmers or fishermen want to perform their own
               by Farmers and Fisherman                                        penalty calculations for estimated tax instead of
                                                                               allowing IRS to make the calculations for them
Partnership    Form 1065 - U.S. Partnership Return                             If organized as a partnership, unless received no
               (info return only)                                              income and incurred no expenses treated as
                                                                               deductions or credits for federal income tax
                                                                               purposes
               Schedule K1 - (form 1065) Partners Share of                     If organized as a partnership with income or
               Income, Credits, Deductions etc.                                deductions; copy filed with IRS for each partner
 Partner       Form 1040 - U.S. Individual Income Tax                          See explanation above
               Return
               Schedule E - Supplemental Income and Loss                       If a partner in a partnership (even if no income
               (part II)                                                       received) to report share of partnership income or
                                                                               loss
              Form 1040 ES – Estimated Tax               Quarterly             See explanation above
              for Individuals
              Form 2210 - Underpayment of Estimated Tax                        See explanation above
              by Individuals, Estates, and Trusts
S corporation Form 1120S – U.S. Income Tax Return for an                       If elected to be an S corporation to report income,
              S Corporation                                                    gains, losses, etc.
              Schedule K1 - (form 1120S) Shareholder's                         If an S corporation, copy filed with IRS for each
              Share of Income, Credits, Deductions                             shareholder
              Estimated Tax – Form 8109 – Tax Deposit    Quarterly             If tax expected to be $500 or more for certain
              Coupon or EFTPS                                                  specified taxes




                                            Page 24                                                                GAO/T-GGD-99-76
                                             Appendix I
                                             Tax Requirements That Potentially Apply to Small Businesses




 Shareholder Form 1040 - U.S. Individual Income Tax                                   See explanation above
             Return
             Schedule E - Supplemental Income and Loss                                If a shareholder in a S corporation (even if no
             (part II)                                                                income received) to report share of S corporation
                                                                                      income or losses
              Form 1040 ES – Estimated Tax              Quarterly                     See explanation above
              for Individuals
              Form 2210 - Underpayment of Estimated Tax                               See explanation above
              by Individuals, Estates, and Trusts
Corporation   Form 1120 - U.S. Corporation Income Tax                                 If a domestic corporation regardless of taxable
              Return                                                                  income, unless meeting requirements for specialized
                                                                                      forms or exempt under section 501
              Form 1120-A - U.S. Corporation Short Form                               If gross receipts, total income, and total assets each
              Income Tax Return                                                       under $500,000 and certain other requirements met
              Estimated Tax - Form 8109 Tax Deposit     Quarterly                     If income tax expected to be $500 or more
              Coupon or EFTPS
              Form 2220 – Underpayment of Estimated Tax                               If corporation is using annualized income installment
              by Corporations                                                         method or adjusted seasonal installment method or
                                                                                      a large corporation figuring first required installment
                                                                                      based on prior year’s tax
Other         Form 1120-H - Income Tax Return for                                     If a qualified homeowners association and form
Corporation   Homeowners Associations (attach to 1120)                                1120-H yields lower tax than form 1120
Returns       Form 1120-IC-DISC - Interest Charge                                     If at least 95 percent of gross receipts during the tax
              Domestic International Sales Corporation                                year are qualified export receipts and certain other
              Return (also must file three additional forms,                          requirements met
              Schedules K, P, Q Form 1120-IC-DISC)
              Form 1120-L - U.S. Life Insurance Company                               If a domestic LIC (or a foreign corporation that would
              Income Tax Return                                                       qualify as a LIC if it were a U.S. corporation)
              Form 1120-PC - U.S. Property and Casualty                               If a domestic nonlife insurance company (or a
              Insurance Company Income Tax Return                                     foreign corporation that would qualify as a nonlife
                                                                                      insurance company if it were a U.S. corporation)
              Form 1120-REIT - U.S. Income Tax Return for                             If a corporation, trust or association meeting
              Real Estate Investment Trusts                                           specified conditions and electing to be treated as a
                                                                                      REIT
              Form 1120-RIC - U.S. Income Tax Return for                              If a domestic corporation that elects to be treated as
              Regulated Investment Companies                                          an RIC
              Form 1120-SF - U.S. Income Tax Return for                               If structured as a section 468B designated and
              Settlement Funds                                                        qualified settlement fund
                                             a
                                              We did not count schedules that are embedded in a primary return as separate requirements.




                                             Page 25                                                                        GAO/T-GGD-99-76
                                          Appendix I
                                          Tax Requirements That Potentially Apply to Small Businesses




Table I.2: Layer Two - Employment Tax Requirements
                                                        Frequency
                                                        (annually unless
             Title                                      otherwise noted)           Explanation
Withheld     Form 941 - Employer's Quarterly            Quarterly                  If business has employees they are to report
Income Taxes Federal Tax Return                                                    withheld taxes
and FICA
             Schedule B (form 941) - Employer's         As required:            If business has employees
             Record of Federal Tax Liability            quarterly, monthly,
             (attach to 941)                            semi-weekly
             Form 941C - Supporting Statement to        As needed to correct    If business has employees
             Correct Information                        withholding errors from
                                                        prior quarters
              Form 941-M - Employer's Monthly           Monthly                 If business has employees
              Federal Tax Return
              Deposit (Form 941 payments) – By mail     Quarterly if liability <   If business has employees and withholds taxes.
              using Form 8109 - Federal Tax Deposit     $1,000 per quarter         Electronic deposit if annual liability greater than
              Coupon                                                               $50,000
              or by EFTPS                               monthly if < $50,000 in
                                                                        a
                                                        lookback period

                                                        semi-weekly if >
                                                        $50,000 in lookback
                                                        period

                                                        next day if > $100,000
                                                        undeposited
              Form 943 – Employer’s Annual Tax Return                              If withheld income and employment taxes on
              for Agricultural Employees                                           wages paid to agricultural employees.
              Deposit (Form 943 payments) - By mail     Annually if liability <    Same as above
              using Form 8109 - Federal Tax Deposit     $1000 for the year
              Coupon or by EFTPS
                                                        monthly if < $50,000 in
                                                                        b
                                                        lookback period

                                                        semi-weekly if >
                                                        $50,000 in lookback
                                                        period

                                                        next day if > $100,000
                                                        undeposited
              Form 945 - Annual Return of Withheld                                 If income tax withheld from nonpayroll payments
              Federal Income Tax
FUTA          Form 940 - employer's annual federal                                 If business has employees and liability is greater
              unemployment tax return                                              than $100 in tax year
              Form 940EZ                                                           If business has employees and if certain
                                                                                   conditions are met for state unemployment taxes
              Deposit (Form 940 payments)            Quarterly                     If liability greater than $100 in tax year
              Form 8109 - Federal Tax Deposit
              Coupon or EFTPS
Information   Form W-2 - Wages and Compensation Paid                               If business has employees (must file on magnetic
Returns       to Employees                                                         media if 250 or more Form W-2s)




                                          Page 26                                                                     GAO/T-GGD-99-76
                                            Appendix I
                                            Tax Requirements That Potentially Apply to Small Businesses




             Form W-2G – Certain Gambling Winnings                                     If business paid out reportable gambling winnings


             Form W3 - transmittal of W2s                                              If business has employees (shows totals from
                                                                                       Form W2s, same filing as W2)
Self         Schedule SE – Self Employment Tax                                         If received net earnings of $400 or more from self
Employment                                                                             employment
Tax
                                            a
                                             The Form 941 lookback period for 1999 covers four quarters, beginning July 1, 1997 and ending
                                            June 30, 1998.
                                            b
                                            The Form 943 lookback period is the second calendar year preceding the current calendar year.




                                            Page 27                                                                        GAO/T-GGD-99-76
                                              Appendix I
                                              Tax Requirements That Potentially Apply to Small Businesses




Table I.3: Layer Three - Employee Benefit Plan Requirements
Title                                            Frequency           Explanation
Form 5500, Annual Return/Report of Employee      Annually            If plan has 100 or more participants
Benefit Plan
Form 5500-EZ, Annual Return/Report of One-       Annually            If only participant and certain other conditions met
Participant Retirement Plan
Form 5500-C/R, Annual Return/Report of Employee Annually             If fewer than 100 participants
Benefit Plan
Schedule A (Form 5500), Insurance Information    Annually            If any plan benefits provided by insurance company
Schedule B (Form 5500), Actuarial Information    Annually            If plan set up as "defined benefit" rather than "defined
                                                                     contribution" and subject to minimum funding standard
Schedule C (Form 5500), Service Provider and        Annually         If compensation paid to any trustee or others providing services to
Trustee Information                                                  the plan exceeds a certain threshold, generally $5,000 per year
Schedule E (Form 5500) - Employee Stock             Annually         If an employer with a pension benefit plan that contains ESOP
Ownership Plan (ESOP) Annual Information                             benefits
Schedule F (Form 5500) - Fringe Benefit Plan        Annually         If an employer with a cafeteria plan, educational assistance
Annual Information Return                                            program, or adoption assistance program
Schedule G (Form 5500) - Financial Schedules        Annually         If filing Form 5500
Schedule P (Form 5500) - Annual Return of           Annually         If a trustee of a trust created as part of an employee benefit plan
Fiduciary of Employee Benefit Trust                                  or a custodian of a custodial account
Schedule SSA (Form 5500) - Annual Registration      Annually         If filing Form 5500, to report participants with vested benefits who
Statement Identifying Separated Participants with                    were separated from the company during the year
Deferred Vested Benefits




                                              Page 28                                                                  GAO/T-GGD-99-76
                                            Appendix I
                                            Tax Requirements That Potentially Apply to Small Businesses




Table I.4: Layer Four - Requirements That Depend on Business Operations
                                                        Frequency
                                                        (annually unless
                Title                                   otherwise noted)      Explanation
Potentially     Schedule D - Capital Gains and Losses                         If business sold or exchanged capital assets
applicable to Form 1116 - Foreign Tax Credit                                  If filing as an individual, estate or trust and paid certain
any business                                                                  foreign taxes to a foreign country or U.S. possession
form            Form 3468 - Investment Credit                                 If claiming investment in building rehabilitation,
                                                                              alternative energy or reforestation
              Form 3800 - General Business Credit                             If more than one type business credit claimed
              Form 4255 - Recapture of Investment Credit                      If required to refigure investment credit, e.g., when
                                                                              investment credit property sold
              Form 4562 - Depreciation and Amortization                       If depreciating, amortizing, or expensing certain
                                                                              business property
              Form 4684 - Casualties and Thefts                               If deducting losses due to fire, storm, theft or other
                                                                              casualty
              Form 4797 - Sales of Business Property                          If sold or exchanged business property
              Form 4952 - Investment Interest Expense                         If filing as an individual, estate or trust and claiming
              Deduction                                                       deduction for investment interest expense
              Form 5884 - Work Opportunity Credit                             If claiming the work opportunity credit for wages paid to
                                                                              targeted groups of employees
              Form 6198 - At-Risk Limitations                                 If incurred loss from specified "at risk activities" e.g.,
                                                                              farming, exploring for oil, others
              Form 6251 - AMT Individuals                                     If tax on alternative minimum tax income is greater
                                                                              than tax reported on 1040
              Form 6252 - Installment Sale Income                             If reporting income from casual sales (other than
                                                                              inventory) where payments received in a tax year after
                                                                              the year of sale
              Form 6478 - Alcohol Used as Fuel Credit                         If claiming the credit for alcohol used as fuel
              Form 6765 - Increasing Research Credit                          If claiming the credit for increasing research activities
              6781 - Gains and Losses from Section 1256                       If claiming gains or losses from (1) section 1256
              Contracts and Straddles                                         contracts under the marked-to-market rules(such as
                                                                              regulated futures contracts) or (2) straddles (offsetting
                                                                              positions that decrease the risk of loss)
              Form 8275 - Disclosure Statement                                If disclosing items that are otherwise not adequately
                                                                              disclosed for the purpose of avoiding penalties
              Form 8275-R - Regulation Disclosure                             If disclosing positions taken on a tax return that are
              Statement                                                       contrary to Treasury regulations
              Form 8404 - Interest Charge on DISC-                            If a shareholder in a Interest Charge Domestic
              Related Deferred Tax Liability                                  International Sales Corporation and receiving deferred
                                                                              DISC income that increases taxable income
              Form 8582 - Passive Activity Loss Limitations                   If reporting a net loss from "passive activities" (e.g.,
                                                                              most real estate investments)
              Form 8586 - Low Income Housing Credit                           If an owner of certain low-income housing projects and
                                                                              claiming credit
              Form 8594 - Asset Acquisition Statement                         If bought or sold a trade or business and goodwill or
                                                                              going-concern value attaches or could attach to assets
              Form 8609 - Low-Income Housing Credit                           If obtaining a housing credit allocation in order to claim
              Allocation Certification                                        low-income housing credit




                                            Page 29                                                                   GAO/T-GGD-99-76
                              Appendix I
                              Tax Requirements That Potentially Apply to Small Businesses




Form 8697 - Interest Computation under the                         If required to figure interest on certain long-term
Look-Back Method for Completed Long-term                           contracts under the "look-back" method of section
Contracts                                                          460(b)(2)
Form 8801 - Credit for Prior Year Minimum                          If filing as individual, estate, or trust and claiming the
Tax                                                                minimum tax credit for alternative minimum tax
                                                                   incurred in a prior year
Form 8816 - Special Loss Discount Account                          If an insurance company and electing an additional
and Special Estimated Tax Payments for                             deduction under section 847
Insurance Companies
Form 8817 - Allocation of Patronage and                            If organized as a cooperative and reporting income or
Nonpatronage Income and Deductions                                 deductions from patronage or nonpatronage sources.
Form 8820 - Orphan Drug Credit                                     If claiming an orphan drug credit
Form 8824 - Like-kind Exchanges                                    If exchanged of business or investment property for
                                                                   property that is of a like kind
Form 8826 - Disabled Access Credit                                 If an eligible small business (with not more than $1
                                                                   million in gross receipts or 30 employees) and claiming
                                                                   the Disabled Access Credit
Form 8830 - Enhanced Oil Recovery Credit                           If claiming the enhanced oil recovery credit
Form 8834 - Qualified Electric Vehicle Credit                      If claiming the credit for a qualified electric vehicle
                                                                   placed in service during the tax year
Form 8835 - Renewable Electricity Production                       If claiming the renewable electricity production credit
Credit
Form 8844 - Empowerment Zone                                       If claiming the empowerment zone employment credit
Employment Credit                                                  for qualified wages and other expenses paid or
                                                                   incurred on behalf of any qualified zone employee
Form 8845 - Indian Employment Credit                               If employed American Indian(s) meeting certain criteria
Form 8846 - Credit for Employer Social                             If claiming credit for Social Security and Medicare
Security and Medicare Taxes Paid on                                taxes incurred on employees' tip income
Certain Employee Tips
Form 8847 - Credit for Contributions to                            If claiming the credit for contributions to a selected
Selected Community Development Corps                               Community Development Corporation
Form 8850 - Pre-Screening Notice and            No later than 21   If an employer and claiming the Work Opportunity
Certification Request for the Work              days after job     Credit or the Welfare-to-Work Credit
Opportunity and Welfare-to-Work Credits         applicant begins
                                                working
Form 8861 - Welfare-to-work Credit                                 If an employer and claiming the welfare-to-work credit
                                                                   for wages paid or incurred to long-term family
                                                                   assistance recipients
Form 1096 - Annual Summary and                                     If certain information returns filed, including paper
Transmittal of Information Returns                                 forms 1099
Form 1098 - Mortgage Interest Statement                            If business receives $600 or more in mortgage interest
                                                                   from any person(s)
Form 1099-A - Acquisition or Abandonment                           If acquired property as security for loan
of Secured Property
Form 1099-B - Proceeds from Broker or                              If business operates as a broker or barter exchange, it
Barter Exchange Transactions                                       must report proceeds from transactions
Form 1099-C - Cancellation of Debt                                 If certain financial institutions cancel debt of $600 or
                                                                   more
Form 1099-DIV - Dividends and                                      If paid dividends or made certain other distributions of
Distributions                                                      stock
Form 1099-INT - Interest Income                                    If paid interest income exceeding specified amounts;
                                                                   also shows backup withholding
Form 1099-LTC - Long-Term Care and                                 If an insurance company or other payer of long-term
Accelerated Death Benefits                                         care benefits




                              Page 30                                                                       GAO/T-GGD-99-76
                                          Appendix I
                                          Tax Requirements That Potentially Apply to Small Businesses




              Form 1099-MISC - Miscellaneous Income                           If made certain payments in the course of a trade or
                                                                              business, e.g., payments to independent contractors
              Form 1099-MSA - Distributions From Medical                      If made distributions from employees medical savings
              Savings Accounts                                                accounts
              Form 1099-OID - Original Issue Discount                         If issued debt instrument with $10 or more of original
                                                                              issue discount
              Form 1099-PATR - Taxable Distributions                          If a consumer cooperative and issued patronage
              Received From Cooperatives                                      dividends of $10 or more
              Form 1099-R - Distributions From Pensions,                      If business distributed $10 or more from retirement or
              Annuities, Profit Sharing and Retirement                        profit sharing plan
              Plans, etc.
              Form 1099-S - Proceeds From Real Estate                         If received proceeds from the sale or exchange of real
              Transactions                                                    estate
              Form 4789 - Currency Transaction           No later than 15     If customer of financial institution enters transaction of
              Report                                     days after           $10,000 or more in currency
                                                         transaction
              Form 5498 - IRA Contribution Information                       If maintained IRAs for any person(s)
              Form 5498 - MSA Information                                    If maintained a medical savings account for any
                                                                             person(s)
              Form 8027 - Employer's Annual Information                      If a food and beverage establishment with more than
              Return of Tip Income and Allocated Tips                        10 employees who work a total of more than 80
                                                                             business hours on a typical business day (and tipping
                                                                             is a customary practice)
              Form 8281 - Information Return for           Within 30 days of If issued publicly offered debt instrument having
              Publicly Offered Original Issue              issuance of OID original issue discount
              Discount Instruments                         instrument
              Form 8282 - Donee Information Return         125 days after    If a donee organization that sells or otherwise disposes
                                                           disposition of    of certain charitable deduction property within 2 years
                                                           charitable        after the date of receipt
                                                           property
              Form 8271 - Investor Reporting of Tax                          If claiming a tax benefit or reporting income from a
              Shelter Registration Number                                    "registration-required" tax shelter
              Form 8300 - Report of Cash Payments          No later than 15 If business received cash payment of $10,000 or more
              Over $10,000 Received in a Trade or          days after        received in one transaction
              Business                                     transaction
              Form 8329 - Lender's Information Return                        If made a loan that is a certified indebtedness amount
              for Mortgage Credit Certificates (MCCs)                        on any mortgage credit certificate
              Form 8362 - Currency Transaction Report      Daily             If a casino in the U.S. with gross gaming revenues in
              by Casinos                                                     excess of $1 million, to report currency transactions of
                                                                             $10,000 or more
              Form 8703 - Annual Certification of a                          If operating a qualified residential rental project
              Residential Rental Project
              Form 8852 - Currency Transaction Report      15th day after the If a Nevada casino with annual gross gaming revenue
              by Casinos-Nevada                            transaction        of more than $10 million to report currency
                                                                              transactions of $10,000 or more
              Form 926 - Return by a U.S. Transferor of    Day of transfer    If transferred property to a foreign corporation, estate,
              Property to a Foreign Corporation                               trust, or partnership
Specific to   Form 4835 - Farm Rental Income and                              If a landowning farmer reporting farm rental income
Farmers       Expenses                                                        based on crops or livestock produced by tenant
Partnership   Schedule D (Form 1065), Capital Gains and                       If sale of capital assets allocated to partnership, not
and/or S      Losses                                                          partners
corporation   Schedule D (Form 1120S) - Capital Gains                         If sold or exchanged capital assets and to report gains
              and Losses and Built-in Gain                                    on distributions to shareholders of appreciated capital
                                                                              assets; also used to report any built in gains tax




                                          Page 31                                                                     GAO/T-GGD-99-76
                                             Appendix I
                                             Tax Requirements That Potentially Apply to Small Businesses




               Form 8308 - Report of a Sale or Exchange of                     If sold or exchanged a partner's interest in a section
               Certain Partnership Interests                                   751a exchange
               Form 8621 - Return by a Shareholder of a                        If an owner/shareholder of a PFIC
               Passive Foreign Investment Company or
               Qualified Electing Fund
               Form 8752 - Required Payment or Refund                          If elected to have an alternate tax year
               Under Section 7519
               Form 8825 - Rental Real Estate Income and                       If business had income or deductible expenses from
               Expenses of a Partnership or an S                               rental real estate activities
               Corporation
Partner and/or Form 4952, Investment Interest Expense                          If a partner or other individual, estate or trust claiming
Shareholder Deduction                                                          a deduction for investment interest expense, unless
                                                                               certain conditions apply

               Form 8082, Notice of Inconsistent Treatment                     If items treated differently on schedule E and Form
               or Administrative Adjustment Request                            1065 or Form 1120S
Corporation    Schedule D (Form 1120) - Capital Gains and                      If sold or exchanged capital assets and have gains on
               Losses                                                          distributions to shareholders of appreciated capital
                                                                               assets
               Schedule H (Form 1120) - Section 280H                           If a PSC did not meet certain distribution requirements
               Limitations for a Personal Service Corporation
               (PSC)
               Schedule PH (Form 1120) - U.S. Personal                         If a PHC
               Holding Company (PHC) Tax
               Form 1118 - Foreign Tax Credit (form 1120);                     If electing to claim the foreign tax credit; separate
               (attached to Form 1118 are schedule I -                         forms 1118 must be filed for each of nine limitation
               Reduction of Oil and Gas Extraction Taxes                       categories that apply
               and Schedule J - Separate Limitation Loss
               Allocations)
               Form 2438 - Undistributed Capital Gains                         If a RIC or REIT and had undistributed capital gains
               (attach to 1120-RIC or 1120-REIT)
               Form 4626 - Alternative Minimum Tax--                           If taxable income or loss before the net operating loss
               Corporations (file with Form 1120)                              deduction, plus adjustments and preferences, totals
                                                                               more than $40,000
               Form 5735 - Possessions Corporation Tax                         If a domestic corporation engaged in a trade or
               Credit                                                          business within a U.S. possession on Oct. 13, 1995
                                                                               and elected the benefits of the possessions credit
               Form 8810 - Corporate Passive Activity Loss                     If a personal service corporation or closely held
               and Credit Limitations                                          corporation with losses or credits from passive
                                                                               activities
               Form 8827 - Credit for Prior Minimum Tax                        If incurred an AMT liability in previous year and meet
               (file with 1120)                                                certain criteria
               Form 8860 - Qualified Zone Academy Bond                         If a bank, insurance company or other corporation that
               Credit                                                          lends money and an eligible holder of qualified zone
                                                                               academy bonds
               Form 5452 - Corporate Report of                                 If made nondividend distributions to shareholders
               Nondividend Distributions
               Form 5472 - Information Return of a 25%                         If had a reportable transaction with a foreign or
               Foreign-Owned U.S. Corporation or a foreign                     domestic related party
               corporation engaged in a U.S. trade or
               business
               Form 8842 - Election to Use Different                           If electing to use an annualization option under the
               Annualization Periods for Corporate                             annualized income installment method to figure
               Estimated Tax                                                   estimated tax payments




                                             Page 32                                                                   GAO/T-GGD-99-76
                                              Appendix I
                                              Tax Requirements That Potentially Apply to Small Businesses




Table I.5: Layer Four (continued) - Excise Tax Requirements Administered by IRS
                                                Frequency
                                                (annually unless
Title                                           otherwise noted) Explanation
Form 637 - Application for Registration         As needed            If engaging in activities with excise taxes entity must register
Form 720 - Quarterly Federal Excise Tax         Quarterly: April 30, If engaging in activities with excise taxes; Form 720 covers most
Return                                          July 31, Oct. 31,    excise taxes - environmental, communications, air transport, fuel,
                                                Jan. 31              retail, luxury, manufacturing, foreign insurance
Form 11-C - Occupational Tax and Registration                        If principle operator or employee-agent of businesses that accept
Return for Wagering                                                  wagers
Form 730 - Tax on Wagering                      Monthly for the      If involved in the business of accepting wagers or conducting
                                                periods reporting wagering pools or lotteries
                                                taxable wagers
Form 1363 - Export Exemption Certificate        As needed            If exporting property by continuous movement must file to claim
                                                                     exemption from the tax on transportation of property by air
Form 2290 - Heavy Vehicle Use Tax Return        Annually (unless     Any entity with a taxable highway motor vehicle - vehicles greater
                                                used for a partial   than 55,000 pounds
                                                year)
Form 4136 - Credit for Federal Tax Paid on                           If claiming the credit for federal excise tax paid on fuels;
Fuels                                                                generally partnerships cannot file this form
Form 5330 - Return of Excise Taxes                                   If there were nondeductible contributions or prohibited
Related to Employee Benefit Plans                                    transactions
Form 6197 - Gas Guzzler Tax                     Quarterly as         If manufacturer and importers (including individuals) that sell or
(attach to Form 720)                            needed               use automobiles that do not meet fuel economy standards
Form 6627 - Environmental Taxes                 Quarterly as         If manufacturers or importer of ozone-depleting chemicals
(attach to Form 720)                            needed               (ODCs) and entities that hold for sale or sell those products
Form 8849 - Claim for Refund of Excise Taxes    As needed            If business paid excise taxes




                                              Page 33                                                                GAO/T-GGD-99-76
                                             Appendix I
                                             Tax Requirements That Potentially Apply to Small Businesses




Table I.6: Layer Four (continued) - Excise Taxes Administered by ATF
                                                  a
Form Number                                 Title
F 5000.19                                   Tax Information Authorization
F 5000.24                                   Excise Tax Return
F 5000.25                                   Excise Tax Return – Alcohol and Tobacco (Puerto Rico)
F 5000.25A                                  Excise Tax Return – Alcohol and Tobacco (Puerto Rico)
F 5100.12                                   Specific Transportation Bond-Distilled Spirits Or Wines Withdrawn for Transportation to
                                            Manufacturing Bonded Warehouse – Class Six
F 5100.25                                   Specific Export Bond – Distilled Spirits or Wine
F 5110.31                                   Application and Permit to Ship Puerto Rico Spirits to the United States Without Payment of
                                            Tax
F 5120.20                                   Certification of Tax Determination - Wine
F 5120.24                                   Drawback on Wine Exported
F 5130.6                                    Drawback on Beer Exported
F 5130.12                                   Beer for Exportation
F 5170.7                                    Application and Permit to Ship Liquors and Articles of Puerto Rico Manufacture Tax paid to
                                            the United States
F 5200.17                                   Bond - Drawback of Tax on Tobacco Products, Cigarette Papers or Tubes
F 5210.5                                    Monthly Report – Manufacturer of Tobacco Products
F 5210.8                                    Computation of Tax Agreement to Pay Tax on Puerto Rican Cigars or Cigarettes
F 5210.9                                    Inventory – Manufacturer of Tobacco Products
F 5300.27                                   Federal Firearms and Ammunition Excise Tax Deposit
F 5620.7                                    Claim for Drawback of Tax on Tobacco Products, Cigarette Papers, or Cigarette Tubes
F 5620.8                                    Claim – Alcohol, Tobacco, and Firearms Taxes
F 5630.5                                    Special Tax Registration and Return (Alcohol and Tobacco)
F 5320.4                                    Application for Tax Paid transfer and Registration of a Firearm
F 5320.5                                    Application for Tax-Exempt Transfer and Registration of a Firearm
F 1610.2                                    Special Occupational Tax Printing Request
F 5100.30                                   Continuing Export Bond- Distilled Spirits and Wine
F 5110.67                                   Continuing Transportation Bond Distilled Spirits Or Wines Withdrawn for Transportation to
                                            Manufacturing Bonded Warehouse – Class Six
F 5110.68                                   Drawback Bind – Distilled Spirits and Wine
F 5130.16                                   Tax Deferral Bond – Beer (Puerto Rico)
F 5200.9                                    Certification of Prepayment of Tax on Puerto Rico Cigars, Cigarettes, Cigarette Papers, or
                                            Cigarette Tubes
                                            Report of Multiple Sales or Other Disposition of Pistols and Revolvers
F 5300.9                                    Firearms Transaction Record Part I Over-the-Counter
F 5300.24                                   Firearms Transaction Record Part I – Low Volume – Over-the-Counter
F 5300.9                                    Firearms Transaction Record Part I - Intra-State Over-the-Counter (English-Spanish)
F 5300.9                                    Firearms Transaction Record Part II – Non-Over-the-Counter
F 5300.9                                    Firearms Transaction Record Part II – Low Volumne – Intra-State Non-Over-the-Counter
F 5000.28                                   Floor Stocks Tax Return
F 5000.28T                                  1993 Floor Stocks Tax Return (Cigarettes)
F 5100.4                                    Certificate of Taxpaid Alcohol
F 5110.3                                    Drawback on Distilled Spirits Exported
F 5110.5                                    Tax Deferred Bond – Distilled Spirits
F 5200.23                                   Floor Stocks Tax Return – Pipe Tobacco
F 5300.26                                   Federal Firearms and Ammunition Excise tax Return
F 5300.28                                   Application for Registration for Tax Free Transactions Under 26 USC 4221
                                            (Firearms and Ammunition)
F 55600.8                                   Statement of Adjustment to the Puerto Rico or Virgin Islands Tax Account




                                             Page 34                                                                 GAO/T-GGD-99-76
              Appendix I
              Tax Requirements That Potentially Apply to Small Businesses




F 5600.26    Tax Collection Waiver
F5600.33     Certification of Ultimate Vendor for Use in Tax Refund Claim Under Section 6416 (b) (2) of
             the Internal Revenue Code (27 CFR 53.179 (b) (iii))
F 5600.34    Purchaser’s Certificate of Tax Free Purchase for use as Supplies for Vessels and Aircraft
             (27 CFR 53.134 (d) (2))
F 5600.35    Purchaser’s Certificate of Tax Free Purchase for State or Local Government Use (27 CFR
             53.135 (c) (1))
F 5600.36    Vendor’s Certificate of Tax-Free Purchase for Resale for Export (27 CFR 53.133 (d) (2))
F 5600.37    Vendor’s Certificate of Tax-Free Purchase for Resale for Further Manufacture (27 CFR
             53.132 (c) (2))
F 5600.38    Application for Extension of Time for Payment of Excise Tax
F 5610.6     Consent to Extend the Time to Assess ATF Excise Tax
F 5630.5R    Special Tax “Renewal” Registration and Return
F 5630.5RC   Special Tax Location Registration Listing
F 5630.6A    Special Tax Stamp
F 5630.7     Special Tax Registration and Return National Firearms Act (NFA)
F 5632.1     Special Occupational Tax Inquiry Letter
F 5640.5     IRC Guideline/Worksheet for Late Excise Payment/Deposit or Tax Return
F 5150.35    Bond for Spirits or Distilled Spirits or Rum Brought into the US Free of Tax (Used by Virgin
             Islands)
F 5150.36    Bond for Articles Brought into the US Free of Tax (Used by Virgin Islands)
              a
               We did not compile information regarding the applicability or frequency of ATF excise tax
              requirements.




              Page 35                                                                           GAO/T-GGD-99-76
Appendix II

Simplified Audit and Dispute Resolution
Processes

                                           This appendix illustrates a simplified process for auditing tax returns,
                                           resolving disputed taxes, and collecting taxes owed. For the small
                                           percentage of returns that are audited, most tax issues are resolved during
                                           the audit process. However, some audited taxpayers dispute their
                                           additional taxes to Appeals, and a few seek to resolve their disputes with
                                           IRS in the courts.

                                                             a
Figure II.1: Simplified Audit and Dispute Resolution Processes




                                           Page 36                                                     GAO/T-GGD-99-76
Appendix II
Simplified Audit and Dispute Resolution Processes




Page 37                                             GAO/T-GGD-99-76
Page 38   GAO/T-GGD-99-76
Page 39   GAO/T-GGD-99-76
Page 40   GAO/T-GGD-99-76
Ordering Information

The first copy of each GAO report and testimony is free. Additional
copies are $2 each. Orders should be sent to the following address,
accompanied by a check or money order made out to the
Superintendent of Documents, when necessary. VISA and
MasterCard credit cards are accepted, also. Orders for 100 or more
copies to be mailed to a single address are discounted 25 percent.

Order by mail:

U.S. General Accounting Office
P.O. Box 37050
Washington, DC 20013

or visit:

Room 1100
     th                  th
700 4 St. NW (corner of 4 and G Sts. NW)
U.S. General Accounting Office
Washington, DC

Orders may also be placed by calling (202) 512-6000 or by using fax
number (202) 512-6061, or TDD (202) 512-2537.

Each day, GAO issues a list of newly available reports and testimony.
To receive facsimile copies of the daily list or any list from the past
30 days, please call (202) 512-6000 using a touch-tone phone. A
recorded menu will provide information on how to obtain these
lists.

For information on how to access GAO reports on the INTERNET,
send e-mail message with “info” in the body to:

info@www.gao.gov

or visit GAO’s World Wide Web Home Page at:

http://www.gao.gov
United States                       Bulk Rate
General Accounting Office      Postage & Fees Paid
Washington, D.C. 20548-0001           GAO
                                Permit No. G100
Official Business
Penalty for Private Use $300

Address Correction Requested




(268879)