Watch your step: think the IRS is bluffing when it says it will crack down on small-business tax abuses? Think again

Entrepreneur, June, 2003 by Joan Szabo

IF YOU RE TEMPTED TO KEEP THE IRS in the dark about income you've received from your business, think again. As part of its new auditing effort, the tax agency promises to crack down on small-business owners who flout the law. Focusing on certain areas of noncompliance, the IRS will take a closer look at abusive tax shelters, offshore credit card abuse, high-income nonfilers, and high-income taxpayers engaged in partnerships, trusts or S corporations. In addition, under the new National Research Program (NRP), the IRS will randomly select about 50,000 returns from 2001 for review.

To help with this effort, the Bush administration wants Congress to boost the agency's 2004 budget. Under President Bush's proposal, the IRS would receive an extra $133 million for this new program and other law enforcement work. With the extra funds, the agency says it can increase by one-third or more the number of audits of taxpayers who may be hiding income received from a business, partnership, investments or offshore accounts.

The IRS has also devised a new tool to identify returns with a high probability of unreported income. The Unreported Income Discriminant Index Formula gives tax returns a score rating the likelihood that income has been omitted.

What does all this mean for entrepreneurs? The IRS says the news isn't all bad. "If business owners are reporting their income, claiming proper deductions and otherwise sending in a return that is going to be substantiated by the records they have, then the chance of being selected for examination and review is even lower than it was in the past," says Don Roberts of the IRS.

If you are selected for any audit, whether in the NRP or a regular selection, whether in person or by correspondence, be sure you know your rights. IRS Publication is very helpful in that regard. Before a face-to-face audit situation, be sure to carefully check the return in question. If you want to consult an attorney or your accountant, the IRS will suspend the interview and reschedule it. Keep in mind that the IRS cannot suspend the interview if you are there because of an administrative summons.

Says Roberts: "Overall, the resources [for audits] are definitely going to go to the areas where the abuses are."

Great Falls, Virginia. writer JOAN SZABO has reported on tax issues for 16 years.