The solution to America’s tax problem: Indies

Can you believe it?! The federal government’s deficits continue to pile up. The $9 billion-per-month war in Iraq is bleeding the revenues dry and Washington needs more money. Where will the money come from?

The answer has just been presented to us in a new report from the Government Accountability Office (GAO).

If it’s a relief to you that there is an office somewhere in Washington responsible for government accountability, you’ll be disappointed to learn that the accountability that the office has been checking on is not about the government but about indies. It seems to the accountability office that the indie – those millions of sole proprietors that the government suspects of hiding income – is the chief problem in American tax circles these days.

According to the accountability office at least 61% of sole proprietors underreported their business income in 2001 (the accountability office hasn’t accounted for the years beyond 2001 yet. Hmmmm …. ever wonder what would happen to you if you were four or five years behind in filing your tax return?) One bit of anecdotal backup tells of an Internal Revenue Service examiner who found $30,000 in net income that a sole proprietor had failed to report, which made a difference of $8,000 in taxes. Another indie who reported a $30,000 loss (it was a construction business) had actually netted, according to the IRS, $45,000 in taxable income.

This report, according to former IRS Commissioner Donald Alexander, is “very significant in these times when tax reductions have to be paid for by tax increases.” If that sounds confusing, it will be cleared up later in my post.

The report emerges at just the right moment for the Bush Administration, which is asking for a 5% increase in the IRS budget (to over $11 billion) to help bring in more money. More power to probe into the finances of indies will help to lower the tax gap of $290 billion that the IRS has estimated for the tax year of 2001.

The administration also seeks legislation that would require credit and debit card services to report all payments made to sole proprietors. That means if you accept payment for your services or products by Visa, Mastercard, or any of the other merchant accounts then the merchant account bank will sent out a form similar to a 1099-MISC stating how much you earned through their bank. I expect the merchant bank will charge you an additional 3% or 5% or 9% for providing that service to the government.

Sole proprietors represent less than 5% of all business receipts, and more than two thirds of them have gross receipts of under $25,000. Does that sound as if it’s the key to solving America’s tax revenue problems?

Of course indies should report all their income to the government, and the cheating ways of some indies has put all of us under suspicion.

But it appears that the administration is taking the easy way out by going after the most powerless and disorganized force in the U.S. economy.

That’s what the former IRS commissioner meant in his confusing comment: he was referring to tax reductions (for the powerful) being offset by tax increases (for the powerless).

We indies lack power because we don’t have organizations big enough to fight back effectively. So, learn the rules of the game. Play them right. Report all your income. Get your taxes as low as possible by deducting every business expense. For a complete guide of tax basics for indies on income, expenses and recordkeeping, check out my book Self-employed Tax Solutions.

Statistic sources for this post were from Sole Proprietors Face Tax Scrutiny, by Tom Herman in The Wall Street Journal and from the GAO report.

Want another opinion? Check out a post on the same GAO report by David Hendricks of the San Antonio Express-News, Self-employed Skirting Taxes.

If you want to know all the particulars of the GAO report, you can read it here: A Strategy for Reducing the Tax Gap Should Include Options For Addressing Sole Proprietor Noncompliance.