The New York Times reports that the IRS is teaching its auditors how to uncover tax cheating by self-styled business consultants and by corporations that use former employees as consultants to avoid withholding income, Social Security, and Medicare taxes.
The IRS has posted on its Web site a guide for the new auditing technique, which encourages checking the business records of consultants to determine whether they are improperly deducting vacations and family travel on their tax returns.
The agency has played down the significance of the guide, according to the Times, but several outside tax experts said the IRS is finally addressing two growing forms of tax cheating.
The guide says auditors should:
Look closely at consultants who do not report a profit.
Scutinize consultants who work in resort areas and deduct large expenses but report little revenue, especially in health-related fields. The guide says such people may be improperly writing off vacations or the cost of a second home.
The IRS estimates that as many as 8.5 million people work as consultants, two-thirds of them in construction, the service industry and retail or wholesale trade.
The second prong of the guide, which deals with former employees who return to their old jobs as consultants, addresses an issue that has been around for more than a decade and that continues to grow as companies increase the outsourcing of many functions, an expert told the Times.
Treating workers as independent contractors relieves employers of the duty to withhold taxes and to match Social Security and Medicare taxes. It also frees them of the costs of health insurance, pensions, and other benefits.
Several experts on the home- based and consulting businesses said yesterday that the agency had been too slow to look into tax cheating involving consultants. They said that such inaction was hurting legitimate businesses.
"There is a vast array of seminar companies and organizations who are espousing totally illegal stuff, and the IRS is not acting," said Sanford C. Botkin, whose Tax Reduction Institute in Germantown, Md., conducts seminars on tax deductions for home-based businesses.
"The rule on deducting travel is simple," said Botkin, an accountant and tax lawyer who at one time trained IRS lawyers. "The primary purpose of your travel must be business, and you must document that.
"If you have some incidental fun that is fine, but it must be incidental. All over the country people are paying money to attend seminars where they are told they can write off family travel if they just contact a few potential clients. Wrong."
Botkin told the Times that he often fields calls from people who want advice on deducting vacations as a business expenses. Many of them were not dissuaded when he explained the law, because they had paid money to consultants who said that they could deduct such expenses, he added.
