Small Business Audits Up, Big Business Audits Down, and the IRS Doesn’t Want You to Know

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I was researching at some of my favorite sites for tax news when I came across a fascinating article on audits, and shift being made at the IRS from focusing on large businesses to smaller businesses. Also interesting was the report’s conclusions that the shift was resulting in more businesses being audited, but less money being collected.

According to the study I was reading, large company ($250m+ in assets) have been steadily declining. In the past 3 tax years audits of large companies decreased from 43% in 2005 to 26% in 2007.

Small companies are picking up the slack. In 2007 alone, the audit rates for companies in the 3 smallest brackets increased by 41%, 24% and 29%, respectively. Plus, auditors are spending, on average, about 20% less time on the big company audits, meaning they have more time to conduct small company audits, and can therefore carry out more audits. In fact, the IRS has been telling us for awhile now that they are auditing more businesses than ever.

So following all of this, it would seem to make sense that the IRS was doing well – more audits = more money, etc. The problem is, according to the study, those numbers aren’t holding up.

In 2007, audits of large companies resulted in an additional tax collected of $24 billion – about 54% of the total tax collected from all taxpayers. In simple terms, it equated to about $7,498 in additional taxes per audit hour. As I doubt the agents performing the audit are being paid anywhere near that, it’s an awfully good return on investment for the IRS.

Smaller company audits though, weren’t anywhere near as lucrative. In 2007, the audits conducted on the smallest companies (those with $5m or less in assets, or in other words, most of them) returned an average of $682 additional tax per audit hour. Audits conducted on mid-size businesses were worse – they returned only $474 in additional tax per audit hour. In fact, over 34% of smaller business audits conducted last year alone resulted in no new taxes being assessed. On the face of it, it looks like most small business owners are reporting and paying their share.

To me (and to the authors of the study) this seems pretty counter-productive. In business, we support the products and services which give the highest return – so why wouldn’t the IRS follow this same logic?

More troubling was the report that the IRS had already withheld key statistical audit data for the 2005 tax year and was seeking a court order expanding their powers to withhold even more information. Even with the Freedom of Information Act, the reporting agency has been in and out of court on a regular basis to get data that should be made available.

Here’s a link to the study for those who are interested.

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