Government Accountability Office report addresses impact of sole proprietor noncompliant loss deductions on tax gap.

Ninety-five percent of all sole proprietors who reported losses in 2006 deducted some or all of their losses against other income, deducting a total of $40 billion, said the Government Accountability Office (GAO) in a report issued on Oct. 13. Approximately 5.4 million (or 25%) of all sole proprietors reported losses in 2006. The latest estimates for 2001, when the gross tax gap was some $345 billion, found “70% of the sole proprietor tax returns reporting losses had losses that were either fully or partially noncompliant,” GAO said. “About 53% of aggregate dollar losses reported in 2001 were noncompliant,” the report said, adding that “this noncompliance would correspond to billions of dollars of lost tax revenue.”

GAO found fault with IRS' compliance programs. For example, while utilizing nearly 25% of all revenue agent time in 2008, the agency examined just 1% of estimated noncompliant sole proprietors, the report said. “These exams are costly and yielded less revenue than exams of other categories of taxpayers, in part because sole proprietorships are small in terms of receipts,” GAO said. Another compliance program utilizing third-party information to electronically verify compliance has been ineffective because of the paucity of expense information reported by third parties, the report said. GAO also discussed various approaches for limiting sole proprietorship loss noncompliance. The report can be found at http://www.gao.gov/new.items/d09815.pdf.

Source: Federal Tax Updates on RIA Checkpoint Newsstand 10/15/09