AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS

Comments on

Tax Compliance Revenue Proposals in the Fiscal Year 2008 Budget

1.  Requiring Information Reporting on Payments to Corporations

The AICPA agrees with Treasury that information reporting is generally an effective means for addressing the tax gap. However, we find the Treasury’s proposal for imposing information reporting on business payments to corporations as extremely burdensome for business taxpayers, which we believe imposes compliance burdens far in excess of any appreciable gains in federal revenues.

Under this proposal, each business would generally be required to send a Form 1099 to the IRS and the merchant it has made expenditures to of $600 or more. As a result, small businesses would face a significant increase in the costs associated with the preparation and mailing of Forms 1099. Also, since many corporations operate on a fiscal year basis, receipt of Forms 1099 by these fiscal year corporations would likely prove of little value as the corporations would be receiving calendar year information, triggering a burdensome income reconciliation procedure in order to complete the tax return.

Under such circumstances, we believe the information would prove of little value to the IRS due to the great difficulty the Service would face in trying to reconcile income, putting aside the burdens placed on the fiscal year corporation itself. On the other hand, large businesses would face the tracking of dozens, or even hundreds or thousands, of Forms 1099 sent to them from other taxpayers; potentially making it impractical for the large business establishment to track the forms because the forms would be sent to a multitude of addresses.

In either case, we are not convinced that the IRS’s computers are ready to accept this substantial increase in Form 1099 filings. We query whether it is equitable for the government to increase the compliance burdens for taxpayers should the Service’s computers not be able to handle the staggering increase in documents received.

2.  Impose Basis Reporting Requirements on Security Sales

The AICPA supports the concept of requiring brokers to report to the IRS a customer’s adjusted basis in publicly-traded securities sold during the preceding taxable year. While we believe that this proposal could significantly increase tax compliance with respect to the reporting of capital gains and loss transactions over the longer term, we stress that the technical problems associated with implementation of this proposal in the short-term should not be underestimated.

We believe that the technical problems involved with the proposal can be addressed and overcome, but the pace with respect to implementation of a capital gains basis reporting initiative should not get ahead of the ability of the IRS to utilize such basis information for examination purposes. Otherwise, taxpayers would be subjected to additional reporting burdens without a commensurate ability within the Service to utilize the basis information for enforcement purposes. In particular, we take note of the June 2006 Government Accountability Office (GAO) report[1] acknowledging the challenges relating to: (1) the Service’s computer system capacity to store and use additional data; and (2) the potential that the Service will be unable to process and match capital gains and loss transaction data reported on Form 1040, Schedule D.

This proposal also requires the brokers to furnish customers with information statements showing the same basis information that the brokers provide the IRS. Assuming the information is provided by brokers to taxpayers in an understandable form, we believe this is a positive requirement. We would encourage brokers to provide this basis information involving capital gains and loss transactions to taxpayers in a format that would enable taxpayers and tax preparers to download the basis information directly into their tax return preparation software. This would enable a taxpayer to provide the IRS with details of each capital gain and loss transaction on a separate line on Form 1040, Schedule D and D-1. Absent the availability of such software, we urge the IRS to maintain its current policy of permitting individual taxpayers to provide summary totals for security transactions on Schedule D and D-1, coupled with the attachment of brokerage statements to the Form 1040.

The Administration’s proposal includes special rules for reporting basis when the reporting broker executed the sale, but not the original purchase. We support the requirement that, when securities are transferred from one broker to another, the transferring broker must furnish the transferee broker with sufficient detail relating to the basis of the securities being transferred. However, we are concerned about the compliance burdens placed on taxpayers who receive securities by gift, upon death resulting in a stepped-up basis, or through a direct purchase from the issuing company, and who later transfer the securities into a brokerage account. In these cases, the proposal requires the taxpayer to furnish the basis information to the transferee broker. We urge caution in providing for the routine assessment of a civil penalty against taxpayers for a failure to furnish correct basis information due to the rigorous recordkeeping burdens that may be associated with retaining such information.

Taxpayers will have difficulty in tracking the basis of securities involved with corporate spin-offs, recapitalizations, and mergers. Moreover, we appreciate that the Joint Committee staff recognizes there will be circumstances when brokerage houses may inaccurately report basis amounts to customers, such as when: (1) a taxpayer sells securities involving a wash sale under section 1091; and (2) a corporation or regulated investment company (RIC) makes a distribution determined to be a return of capital.[2]

Reporting basis information to customers may also prove problematic in cases in which taxpayers have chosen the specific identification method of calculating the basis and holding period of a stock sale. As part of any reporting requirements in this area, brokers should be required to provide straightforward mechanisms by which taxpayers can electronically notify the broker of a specific lot that should be sold. These situations need to be carefully reviewed before implementing a broad capital gains and loss basis reporting rule.

We have also received reports that many brokerage houses provide taxpayers with information about their basis in a limited partnership interest that has been sold, information that is often wrong. This is because the broker reports the amount actually paid for the limited partnership interest, without reflecting the distributions paid to the taxpayer; distributions that may include a return of principal and basis adjustments.

If this basis-reporting proposal is enacted into law, we would support making the measure effective for transactions involving securities first purchased 18 months after the date of enactment. Such an effective date should provide the IRS with sufficient time to mitigate many of the compliance burdens for taxpayers that we have raised above.

3.  Expanding Broker Information Reporting

Under this proposal, brokerage information reporting requirements would be expanded to include proceeds from the sale of tangible property. It appears that the proposal will likely have a significant impact on sales conducted by live auctions or over the Internet. In general, the initiative would only apply with respect to those customers for whom a broker has handled 100 or more separate transactions that aggregate to $5,000 or more in gross proceeds in a year.

It is not at all clear as to the level of non-compliance that exists for the types of sales targeted by the proposal. Thus, we commend Treasury for creating an exception to its broker information reporting proposal for transactions already subject to other information reporting requirements under law and regulations, and for granting the IRS (and Treasury) with the authority to create other exceptions involving situations where the associated compliance costs for taxpayers outweigh the information reporting benefits. In this context, Treasury should consider exempting low-value, low-gain items sold by individuals from any new broker information reporting regime. By retaining the authority to create exceptions by regulation, Treasury seems to be acknowledging that defining the types of property subject to information reporting might prove a challenging matter.

Once a review is completed regarding the objectives of Treasury’s broker information reporting proposal, Congress might conclude that the taxpayers who participate in these types of tangible property sales may be involved with transactions that are more apt to generate a loss on the sale of the property – as opposed to a gain. If true, the implementation of an information reporting regime might trigger the exact opposite of what the proposal is striving to accomplish; that is, information reporting on certain sales (e.g., auction sales) may cause confusion among the taxpaying public at large and might result in taxpayers inadvertently claiming unallowable losses on their tax returns. Congress and Treasury may find that a preferable approach to the new broker information reporting initiative is for the government to implement an “educational” advertising campaign (using traditional media and the Internet) to inform taxpayers about when tangible property sales proceeds are taxable.

4.  Require Information Reporting on Merchant Payment Card Reimbursements

Under the proposal, IRS would be granted authority to issue regulations requiring credit card processing companies to report annually to the IRS the gross reimbursement payment made yearly to a merchant. The Administration states it is initiating this proposal because “[s]ome merchants fail to report accurately their gross income, including income derived from payment card transactions. Generally, compliance increases significantly for amounts that a third party reports to the IRS.”

The AICPA is not clear as to how this particular proposal increases compliance by businesses. In general, the proposal increases the reporting of tax return related data that is already well reported on tax returns, while not appreciably increasing the reporting of cash transactions. For example, some small businesses provide customers with a discount if the customer pays cash for the transaction. Thus, the proposal might encourage more small businesses to seek additional ways to generate cash payments from customers. In effect, the proposal appears to merely target the income and receipts of merchants that are likely to be reported anyways; causing us to be concerned that the proposal may actually increase the compliance burdens of otherwise compliant taxpayers without any measurable increase in revenues for the Treasury.

Since the proposal targets the information reporting on the gross receipts of a business that accepts credit card payments from customers, we query as to how the proposal will distinguish between sales tax collections, tip payments, merchandise returns, and other credit card payment adjustments. These are revenue streams that, without adjustment, would otherwise inflate the total receipts of a business. Also, the sale of gift cards are likely to be included in the credit card receipts data of a merchant, receipts that are generally not taxable to the merchant until the following tax year to the extent the gift card owner delays making purchases with the card until the subsequent year.

5.  Make the Repeated Willful Failure to File a Tax Return a Felony

Under section 7203, the willful failure to file a tax return is a misdemeanor punishable by imprisonment of up to one year, and with a fine of as much as $25,000 ($100,000 for a corporation). The proposal would modify section 7203 by making the repeated willful failure to file tax returns a felony as opposed to a misdemeanor. The willful failure to file tax returns in any three years within any five consecutive year period would be subject to a new aggravated failure to fine criminal penalty, to the extent the aggregated tax liability is $50,000 or more during the period. Taxpayers convicted under this new felony would be subject to a fine of as much as $250,000 ($500,000 for a corporation), imprisonment of up to 5 years, or both.

The AICPA does not support this proposed aggravated willful failure to file felony because our members have found that taxpayers (who find themselves in a non-filer status) often become non-filers because of some unintended reason or personal tragedy. Situations involving a personal tragedy can involve drug or alcohol problems, illness or death of the taxpayer or of a family member, or mental illness. According to the June 2007 results of an AICPA survey, 48.5 percent of the nearly 1,300 CPA respondents stated that they believe taxpayers often fail to file due a traumatic event, and then remain a non-filer because of their fear of the consequences of being a non-filer.

We fear that this very serious penalty will not have any appreciable impact on closing the tax gap; but instead will cause taxpayers with very good intentions (but with sad stories) to face real jail time. In fact, IRS statistics actually indicate that non-filers constitute only about 8 percent of the total tax gap.[3] To the extent Congress does give serious consideration to this felony non-filer measure, we suggest that the proposal be limited in application to tax protestors.

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[1] General Accountability Office Report on Capital Gains Tax Gap, Requiring Brokers to Report Securities Cost Basis Would Improve Compliance if Related Challenges Are Addressed, June 2006, page 28.

[2] See Joint Committee on Taxation staff report, Additional Options to Improve Tax Compliance, August 3, 2006, page 9.

[3] See written testimony of IRS Commissioner Mark Everson before the Senate Budget Committee on the Fiscal Year 2008 IRS Budget and the Tax Gap, February 14, 2007.