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Auditing Employee-Tax Compliance
The IRS will be auditing company employment-tax practices beginning in February. Organizations would be wise to ensure worker classifications, fringe benefits, reimbursed expenses and officer compensation issues are reviewed and conducted properly.
The Internal Revenue Service will be conducting detailed employment-tax examinations of some 6,000 companies beginning in February, the agency has announced. These auditing initiatives are being carried out, the IRS maintains, to gather statistical data for its first National Research Program study of employment tax compliance in about 25 years. The likely reason for resurrecting this particular focus is that a study of the tax gap -- the difference between the amount of taxes collected and the amount owed -- done in 2005 showed that employment taxes, after underreporting of income by individuals, was the second-largest contributor to the tax gap, says Mark Luscombe, principal analyst with Riverwood, Ill.-based CCH, a provider of tax and business-law information. "The IRS has spent the last three or four years trying to attack the tax gap ... through initiatives such as pursuing foreign bank accounts and corporate tax shelters," he says. "With those programs now in place and under way, it appears that the IRS is now turning its attention to underpayment of employment taxes." According to the IRS, the audits will center on five main employment-tax issues: worker classification, fringe benefits, reimbursed expenses, officer compensation and non-filers. The plan behind this NRP initiative is to audit some 2,000 firms per year over the next three years, targeting a broad cross-section of all company sizes and industries with firms selected at random. Some 200 to 300 of the IRS's most experienced and specially trained agents are slated to conduct the audits -- which are expected to include line-by-line reviews of the businesses' employment-tax returns and related documents, such as income tax and information returns filed. The audits will likely focus on returns for the calendar years 2007 and 2008. Experts say there is nothing companies can do to avoid being selected, but there are ways to prepare. "Businesses should review their compliance before these exams begin," says Colette Carlson, tax principal at Minneapolis-based LarsonAllen, in a report on the CPA firm's Web site. "Those with potential issues can shore things up in advance of these audits." For instance, she asks, does your business have workers receiving 1099s as independent contractors who regularly perform services under your direction and control? That may raise a question about employee status. And as a result, some fringe benefits may be discriminatory, because not all employees were properly covered. "The 'accountable-plan' rules can be particularly tricky," Carlson says, adding that there are some IRS allowances that do permit flat-dollar reimbursements, such as the out-of-town meals or lodging per diems. But in most areas, she says, tax-free reimbursements can only occur if there is specific documentation of the business expense by the employee. In general, writes Ira B. Mirsky on the Society for Human Resource Management's Web site, tax and payroll departments should review the company's current payroll practices, "with a specific focus on the fine areas identified by the NRP initiative, as well as any other known areas of weakness." "Companies should also review the condition of their three most recent years' employment tax returns, as well as all supporting documents and records," writes Mirsky, counsel with McDermott Will & Emery, a Washington-based employment law firm. In the event your company is selected for examination, Mirsky advises that "good IRS examination-management practices should be followed," including: * Designating a clear chain of command for responding to audit notices and other IRS communications, * Retaining expert outside advisers early in the process and * Maintaining control over the IRS audit by requesting additional time to respond to information-document requests, or tailoring the scope of information requested, where appropriate. As troubling as it may be that little can be done to prevent being selected for these random audits over the next three years, Luscombe does suggest there are some silver linings to the possible dark clouds ahead. Six-thousand, he says "is not a very large number, so the odds of any one company being selected are not that large." And should your company be chosen, Luscombe adds, if you've taken all the extra steps "to make sure that your employment-tax practices -- including areas such as worker classification, fringe benefits, reimbursed expenses and officer compensation -- are conducted in accordance with the law," you should be OK. "The main danger for most companies," he says, "will not be the random audits of 2007 and 2008 returns, but instead, the subsequent targeted audits of companies where the random audits have shown problems are likely to occur. "Those audits are not likely to commence until after this three-year study is complete," he says. "Companies, therefore, have some time to get their employment-tax procedures in order ... ."
October 28, 2009 Copyright 2009© LRP Publications |
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