What The NSA Can Learn From The IRS

Jan 28 2014, 11:37am CST | by

I would guess that a few years ago, few people had any idea what the National Security Agency (NSA) is or what it does. Now, this agency is fodder for conversation around the water cooler and in the blogosphere. Whatever your personal feelings are about the issues, most would agree that the recent revelations about NSA activities have raised the level of national dialogue about the needs of government versus the interests of citizens in privacy. Lost in the in the discussion, however, is another federal agency that arguably intrudes even more into the personal lives of citizens: the Internal Revenue Service. Again, irrespective of your opinions of the appropriateness of the IRS’s reach, most would agree this agency has access to a substantial amount of data about the lives and finances of taxpayers.

Consider how the IRS has both access to information and authority to act on this information. As a business owner, this knowledge can help you avoid an unwanted run-in.

-   Filing: We take filing our taxes for granted, but it wasn’t always such a given. In fact, it took an amendment to the U.S. Constitution 100 years ago to make the income tax a permanent aspect of federal law. The NSA doesn’t expect people to file as a spy, yet most of us understand why the IRS expects income earners to declare their income and tax paid on that income. For most, it’s considered an obligation of being a citizen. In fact, the U.S. is the only country that even requires its non-resident citizens to report and pay taxes on their worldwide income.

-   Reporting: Our tax system has obligations that go well beyond income earners filing their taxes.  Individuals and institutions also are statutorily required to report on income they pay to others; and, failure to report that income can result in stiff penalties. While the NSA can’t require citizens to report others as spies, the IRS requires income providers to file 1099s, W-2s and other statements of income paid. Keep in mind these reporting requirements extend well beyond national boundaries.

  • The U.S. successfully forced Switzerland to disclose the names of wealthy Americans who hid assets in Swiss bank accounts.
  • In the last few weeks, eight jurisdictions – including the Cayman Islands, the Isle of Man and other famous tax havens – signed separate agreements with the IRS to help it implement the Foreign Account Tax Compliance Act (FATCA).  This law was enacted by Congress to uncover tax evasion.

-   Matching:  It is commonly known that the IRS aggressively matches records between those who report income and those who receive that income. I recently had a question where an employer issued a 1099 for a deferred compensation payment in 2013, but the individual did not actually receive that payment until early 2014. The recipient intends to report the income as being received in 2014. Although I didn’t have a definitive answer as to how this discrepancy will be resolved, I was adamant that the IRS will, at some point, detect this mismatch in reporting years and inquire about it.

The opportunity for the IRS to match reportings and filings is one of the reasons Congress has passed laws requiring employers to report on income items even when the income has yet to be paid. Examples include reporting on 401(k) deferrals, business-owned life insurance and other employee-related transactions. This gives the IRS a huge database of information with which to connect the dots.

In the last few years, the IRS has been given other tools to enforce its mandate to collect taxes.

-   Tax Shelters:  Nine years ago, there was a new disclosure requirement for advisors who provide “material aid, assistance or advice with respect to any reportable transaction.” In English, this translates to a requirement that tax shelters must report themselves as tax shelters. The chilling effect of this reporting requirement is exactly what the government intended. A tax shelter promoter can no longer claim caveat emptor when a taxpayer has a tax scheme torn apart on an audit. The promoter potentially will share in the prosecution and penalties. I’d imagine the NSA would love to have enforcement powers of this nature.

-   Tax Snitch: There is formal process known as The IRS Whistleblower Program. This helps catch the cheats that are outside the net cast by normal filing and reporting requirements.  One whistleblower received a payment in excess of $100 million. This program has the potential for finding so many tax cheats (and revenue) that some Senators have complained the IRS is too slow in utilizing this program.

If the federal government is to function, it has long been understood they need to collect revenue from its citizens. Most would agree they want the system to be fair and enforceable. That’s why over 150 years ago President Abraham Lincoln and Congress created the position of commissioner of Internal Revenue.  The IRS has long taken more of a stick-than-carrot approach to enforcement, and generally has been allowed to do so without much other than the predictable grumbling of the citizenry. It will be interesting to see where the national interest takes the NSA debate, but the IRS example demonstrates how policy can become institutional.   

 

Source: Forbes Business

 
 

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