Tax Administration

IRS Can Better Pursue Noncompliant Sole Proprietors Gao ID: GGD-94-175 August 2, 1994

Noncompliance in reporting sole proprietor income represents a major challenge for the Internal Revenue Service (IRS). Such noncompliance spreads over a majority of the estimated 13 million sole proprietors and creates an estimated income tax gap--the difference between the amount of income taxes owed and the amount voluntarily paid--of $34 billion a year. During the past 15 years, sole proprietor rate of noncompliance has fluctuated with little evidence that IRS' current compliance efforts will lead to significant improvements. This report (1) analyzes the extent of noncompliance by type of sole proprietor, (2) reviews steps that IRS is taking to correct such noncompliance, and (3) identifies additional steps that IRS could take to improve compliance.

GAO found that: (1) although they constituted about 13 percent of individual taxpayers, sole proprietors accounted for 36 percent to 40 percent of the underreported total income by individuals in 1988; (2) sole proprietors materially differ from nonbusiness taxpayers in that they are less compliant, file more complex tax returns, are deliberately noncompliant more often, and tend to be better off financially; (3) nonbusiness taxpayers have more income reported on information returns by third parties, which is probably why they are more compliant; (4) income reporting varies widely by type of sole proprietor, but in general, sole proprietors report only 75 percent of their net business income; (5) IRS does not link its compliance strategy and its compliance efforts for sole proprietors; (6) IRS compliance efforts are constrained by resource and information reporting limitations; (7) IRS does not know if its new information systems, which will not be online until after 2000, will provide the data needed to systematically improve sole proprietor compliance; (8) IRS plans to improve its Taxpayer Compliance Measurement Program (TCMP) to identify local problems and causes for noncompliance; and (9) IRS could better use existing TCMP data to identify the root causes of noncompliance.


Our recommendations from this work are listed below with a Contact for more information. Status will change from "In process" to "Open," "Closed - implemented," or "Closed - not implemented" based on our follow up work.

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