More On Tax Cheats

Who cheats on their taxes?

[T]he I.R.S. conducted the National Research Program, a three-year study during which 46,000 randomly selected 2001 tax returns were intensively reviewed. . . . Using this sample, the study found a tax gap — the difference between taxes owed and taxes actually paid — of $345 billion, or nearly one-fifth of all taxes collected by the I.R.S. This sum happens to be just a few billion dollars less than the projected federal budget deficit for 2007 . . . .

The key statistic in the I.R.S.'s study is called the Net Misreporting Percentage. It measures the amount that was misreported on every major line item on those 46,000 returns. In the "wages, salaries, tips" category, for instance, Americans are underreporting only 1% of their actual income. Meanwhile, in the "nonfarm proprietor income" category — think of self-employed workers like a restaurateur or the boss of a small construction crew — 57% of the income goes unreported. That's $68 billion in unpaid taxes right there.

Why such a huge difference between the wage earner and a restaurateur? Simple: The only person reporting the restaurateur's income to the IRS is the restaurateur himself; for the wage earner, his employer is generating a W2 to let the IRS know exactly how much he has been paid. And the wage earner's taxes are automatically withheld from his every check, while the restaurateur has all year to decide if, and how much, he will pay.

Sometimes, even simple steps can make tax reporting more accurate. For example, when the IRS starting requiring social security numbers to claim deductions for dependents "seven million dependents had suddenly vanished from the tax rolls, some incalculable combination of real pets and phantom children [which] generated nearly $3 billion in revenues in a single year."

Hat Tip to Tax Profs Blog.