This article is beneficial knowledge for all businesses. The Internal Revenue Service has known where the tax abuse has occurred for years. On September 8, 2023, they announced a new enforcement initiative to use artificial intelligence and other technologies to catch tax evaders more effectively. The efforts will be focused on the “Tax Gap.” Forty years ago, former Congressman J. Jake Pickle of Austin, Texas, would ask, when will the IRS do something about the Tax Gap? In an Executive Summary, IRS estimated the Tax Gap for 1992 to be $93.2 billion to $95.3 billion.^[1]  On October 28, 2022, the IRS estimated for 2017 through 2019 the Tax Gap at $540 billion. 

What is the gross tax gap comprised of:

• Non-filing (tax not paid timely by those who do not file on time, $41 billion),
• Underreporting (tax understated on timely filed returns, $433 billion) and
• Underpayment (tax that was reported timely but not paid timely, $66 billion).

The Gross Tax Gap is currently defined as the difference between the true tax liability for a given tax year and the amount that is paid on time.

The net tax gap is defined as the amount of true tax liability that is not paid on time and is not collected subsequently, either voluntarily or as the result of enforcement activities. Thus, the net tax gap represents the amount of tax liability that is never paid.^[2]

Commissioner Danny Werfel said in a memorandum to Treasury Secretary Janet Yellen that part of what is now a $60 billion cash infusion would buy artificial intelligence tools and that technology and data advances will allow us to “focus enforcement on taxpayers trying to avoid taxes,” “rather than taxpayers trying to pay what they owe.” This is an important distinction. The areas receiving more scrutiny will be high-income earners, partnerships, S-Corporations, large corporations, and promoters abusing the nation’s tax laws. They will be looking more closely at pass-through entities issuing form K-1. The reduction in the budget allocated to the IRS and the COVID-19 epidemic negatively impacted audits  tax collection, and enforcement efforts and will now be changing.  

Individuals and entities with earnings over $400,000 will be the focus of the IRS audits. For the average person, earnings are the amount of money someone is paid for working. For a business, earnings are revenue minus business expenses or Net Income. Caution: Business owners must avoid personal expenditures recorded as business expenses because even though your earnings are less than $400,000, it is possible that you will be audited. IRC Section 162 still regards business expenditures as ordinary and necessary expenses incurred while engaged in trade or business.

As singer Bob Dylan said, ’The times are a-changin’.

Avoid exposure to the IRS through voluntary compliance with the income tax system. But if you or your clients get in trouble, don’t hesitate to contact the Sage Investigation team and Chief Investigator Edmond Martin at 512-659-3179 or email edmartin@sageinvestigations.com. Let our 25 years as an IRS Special Agent and 25 years of financial fraud and forensics benefit you and your clients. Please read about our team CVs.

[1] IRS Publication 1415 (Rev. 4-96) Catalog Number 10263H)

[2] IRS Tax Gap for Tax Year 2006