[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]




 
                       FULL COMMITTEE HEARING ON
                      CLOSING THE TAX GAP WITHOUT
                 CREATING BURDENS FOR SMALL BUSINESSES

=======================================================================

                      COMMITTEE ON SMALL BUSINESS
                 UNITED STATES HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                               __________

                             APRIL 26, 2007

                               __________

                          Serial Number 110-17

                               __________

         Printed for the use of the Committee on Small Business


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                   HOUSE COMMITTEE ON SMALL BUSINESS

                NYDIA M. VELAZQUEZ, New York, Chairwoman


WILLIAM JEFFERSON, Louisiana         STEVE CHABOT, Ohio, Ranking Member
HEATH SHULER, North Carolina         ROSCOE BARTLETT, Maryland
CHARLIE GONZALEZ, Texas              SAM GRAVES, Missouri
RICK LARSEN, Washington              TODD AKIN, Missouri
RAUL GRIJALVA, Arizona               BILL SHUSTER, Pennsylvania
MICHAEL MICHAUD, Maine               MARILYN MUSGRAVE, Colorado
MELISSA BEAN, Illinois               STEVE KING, Iowa
HENRY CUELLAR, Texas                 JEFF FORTENBERRY, Nebraska
DAN LIPINSKI, Illinois               LYNN WESTMORELAND, Georgia
GWEN MOORE, Wisconsin                LOUIE GOHMERT, Texas
JASON ALTMIRE, Pennsylvania          DEAN HELLER, Nevada
BRUCE BRALEY, Iowa                   DAVID DAVIS, Tennessee
YVETTE CLARKE, New York              MARY FALLIN, Oklahoma
BRAD ELLSWORTH, Indiana              VERN BUCHANAN, Florida
HANK JOHNSON, Georgia                JIM JORDAN, Ohio
JOE SESTAK, Pennsylvania

                  Michael Day, Majority Staff Director

                 Adam Minehardt, Deputy Staff Director

                      Tim Slattery, Chief Counsel

               Kevin Fitzpatrick, Minority Staff Director

                                 ______

                         STANDING SUBCOMMITTEES

                    Subcommittee on Finance and Tax

                   MELISSA BEAN, Illinois, Chairwoman


RAUL GRIJALVA, Arizona               DEAN HELLER, Nevada, Ranking
MICHAEL MICHAUD, Maine               BILL SHUSTER, Pennsylvania
BRAD ELLSWORTH, Indiana              STEVE KING, Iowa
HANK JOHNSON, Georgia                VERN BUCHANAN, Florida
JOE SESTAK, Pennsylvania             JIM JORDAN, Ohio

                                 ______

               Subcommittee on Contracting and Technology

                      BRUCE BRALEY, IOWA, Chairman


WILLIAM JEFFERSON, Louisiana         DAVID DAVIS, Tennessee, Ranking
HENRY CUELLAR, Texas                 ROSCOE BARTLETT, Maryland
GWEN MOORE, Wisconsin                SAM GRAVES, Missouri
YVETTE CLARKE, New York              TODD AKIN, Missouri
JOE SESTAK, Pennsylvania             MARY FALLIN, Oklahoma

        .........................................................

                                  (ii)

  
?

           Subcommittee on Regulations, Health Care and Trade

                   CHARLES GONZALEZ, Texas, Chairman


WILLIAM JEFFERSON, Louisiana         LYNN WESTMORELAND, Georgia, 
RICK LARSEN, Washington              Ranking
DAN LIPINSKI, Illinois               BILL SHUSTER, Pennsylvania
MELISSA BEAN, Illinois               STEVE KING, Iowa
GWEN MOORE, Wisconsin                MARILYN MUSGRAVE, Colorado
JASON ALTMIRE, Pennsylvania          MARY FALLIN, Oklahoma
JOE SESTAK, Pennsylvania             VERN BUCHANAN, Florida
                                     JIM JORDAN, Ohio

                                 ______

            Subcommittee on Urban and Rural Entrepreneurship

                 HEATH SHULER, North Carolina, Chairman


RICK LARSEN, Washington              JEFF FORTENBERRY, Nebraska, 
MICHAEL MICHAUD, Maine               Ranking
GWEN MOORE, Wisconsin                ROSCOE BARTLETT, Maryland
YVETTE CLARKE, New York              MARILYN MUSGRAVE, Colorado
BRAD ELLSWORTH, Indiana              DEAN HELLER, Nevada
HANK JOHNSON, Georgia                DAVID DAVIS, Tennessee

                                 ______

              Subcommittee on Investigations and Oversight

                 JASON ALTMIRE, PENNSYLVANIA, Chairman


CHARLIE GONZALEZ, Texas              LOUIE GOHMERT, Texas, Ranking
RAUL GRIJALVA, Arizona               LYNN WESTMORELAND, Georgia

                                 (iii)

  
?

                            C O N T E N T S

                              ----------                              

                           OPENING STATEMENTS

                                                                   Page

Velazquez, Hon. Nydia M..........................................     1
Chabot, Hon. Steve...............................................     2

                               WITNESSES


PANEL I
Everson, Hon. Mark W., Commissioner of Internal Revenue, Internal 
  Revenue Service................................................     4

PANEL II
Hall, Keith, National Association for the Self-Employed..........    23
Hense, Paul, National Small Business Association.................    25
Brennan, James E., American Institute of Certified Public 
  Accountants....................................................    27
Alexander, Hon. Donald C., Former IRS Commissioner...............    28
Samuel, Joe, First Data Corporation..............................    30

                                APPENDIX


Prepared Statements:
Velazquez, Hon. Nydia M..........................................    44
Chabot, Hon. Steve...............................................    46
Altmire, Hon. Jason..............................................    48
Everson, Hon. Mark W., Commissioner of Internal Revenue, Internal 
  Revenue Service................................................    49
Hall, Keith, National Association for the Self-Employed..........    68
Hense, Paul, National Small Business Association.................    75
Brennan, James E., American Institute of Certified Public 
  Accountants....................................................    84
Alexander, Hon. Donald C., Former IRS Commissioner...............    93
Samuel, Joe, First Data Corporation..............................    95

Statements for the Record:
Porpilia, Paula D., TIN Compliance Consultants...................   105

                                  (v)

  


                        FULL COMITTEE HEARING ON
                      CLOSING THE TAX GAP WITHOUT
                 CREATING BURDENS FOR SMALL BUSINESSES

                              ----------                              


                        THURSDAY, APRIL 26, 2007

                     U.S. House of Representatives,
                               Committee on Small Business,
                                                    Washington, DC.
    The Committee met, pursuant to call, at 11:00 a.m., in Room 
2360 Rayburn House Office Building, Hon. Nydia Velazquez 
[Chairwoman of the Committee] presiding.
    Present: Representatives Velazquez, Jefferson, Shuler, 
Larsen, Cuellar, Braley, Clarke, Sestak, Chabot, Bartlett, 
Akin, Heller and Jordan.

           OPENING STATEMENT OF CHAIRWOMAN VELAZQUEZ

    Chairwoman Velazquez. Good morning. I call this hearing to 
order to address closing the tax gap without creating burdens 
for small businesses.
    One of the focuses of this Committee is to ensure small 
businesses are given every tool to comply with regulations as 
well as reduced paperwork burdens. No place is this more true 
than when it comes to the taxes. Right now, it is estimated 
that small businesses spend 6 billion hours complying at a cost 
of $260 billion. While the vast majority of taxpayers comply 
with their obligations, the Internal Revenue Service has 
estimated that a significant percentage of tax due are not 
paid. This problem, known as the tax gap, is the subject of 
today's hearing.
    The IRS estimated the tax gap to be $345 billion for 2001 
alone. It seems the Administration is seeking for new ways to 
make up for the current deficit. As made clear in the Fiscal 
Year 2008 revenue plan, they have wrongly determined that the 
best course of action is to escalate IRS enforcement efforts on 
small businesses. I believe there are several proposals in the 
plan that will impose severe hardships on the small business 
community, yet only narrow the tax gap by a fraction of 1 
percent.
    Before imposing additional reporting requirements, the IRS 
needs to assess whether their internal procedures can achieve 
this without creating excessive burdens. Small businesses are 
facing a number of challenges which include an overly complex 
tax code. Now, they are being hit with a disproportionate share 
of IRS enforcement efforts.
    Of the $100 million enforcement initiatives in the FY 2008 
budget, nearly 75 percent is directed toward small businesses. 
It is that fact that in our present system of taxation many of 
our most profitable, large corporations avoid paying taxes by 
shifting income to off-shore tax savings. In fact, the IRS web 
site cites one of 30 that the annual loss to off-shore tax 
shelters to be at least $70 billion. Yet, enforcement efforts 
remain on small businesses.
    I find it puzzling when the IRS projects it will generate 
50 percent more revenue for each dollar spent in enforcement 
for large multi-nationals. It is also troubling to know that 
the figures estimating the tax gap do not include recent data 
on the compliance levels of large corporations. That 
information has not been updated since 1988. Before deciding on 
a course of action that may harm small businesses, it is 
necessary to have an accurate picture of the tax gap.
    Congress also needs to work together to make it easier for 
small businesses to comply and harder for bad actors to evade 
their obligations by simplifying the tax code. A good first 
step will be made with passage of a measure to expand and 
extend 179 expending. The Commissioner is right when he says 
that it is unfair for honest, small business taxpayers to have 
to compete against these tax cheats.
    My advice to the IRS in crafting a tax gap plan is to 
consider the private costs on burdens of your proposals and do 
not simply focus on the revenue figures. As this country 
celebrates Small Business Week, we need to ensure our 
government is not creating unnecessarily obstacles for the 
small business owners who are doing the right thing.
    Closing the tax gap is critical, but we must not simply 
replace one problem with another by burdening our small 
businesses. I look forward to today's testimony and I thank the 
witnesses for their participation.
    I yield to Mr. Chabot for his opening statement.

                OPENING STATEMENT OF MR. CHABOT

    Mr. Chabot.
    Thank you, Madam Chairwoman, and thank you for holding this 
hearing on closing the so-called tax gap. This term ``tax gap'' 
is the Internal Revenue Service' estimate of the difference 
between taxes voluntarily paid and taxes that should have been 
collected. For example, a tax gap is created when individuals 
under-report income or improperly claim credits or deductions.
    The IRS estimates that the United States collects 83.7 
percent of the total taxes due and let me state for the record 
that I believe taxes are far too high and should be reduced, 
but as obviously important that businesses and everyone comply 
with the law.
    After adjusting for delinquent taxes collected by existing 
compliance efforts, the IRS estimates that 86.3 percent of tax 
revenues are collected. The net tax gap is currently estimated 
by the IRS National Research Program, as the Chairman 
indicated, nearly $350 billion for the tax year 2001 which was 
the last year that data is available.
    Even Washington, D.C., where the words ``million'' and 
``billion'' are tossed around liberally throughout the course 
of each day, $350 billion is quite a significant amount of 
revenue that is not collected each year. Because of taxpayer 
non-compliance, the burden of funding our nation's commitments 
falls more heavily on taxpayers who willingly and accurately 
pay their taxes and that's not fair.
    And again, I want to make the point that the amount of 
taxes, the total amount of taxes that the Federal Government 
collects from the American public in my view is also not fair 
because I think taxes are just too high.
    The question becomes what do we do about it? Many small 
business groups have serious concerns regarding the IRS plan to 
address the tax gap. Already struggling under the weight of 
massive paperwork burdens and high taxes, many of the ideas put 
forth by the IRS would only make it more difficult for small 
businesses to keep their head above water. While a few of the 
ideas put forth by the IRS has merit, the stated overall goal 
of increasing enforcement efforts is not the way to go.
    I firmly believe that the first and best thing that we can 
do to address this problem is to simplify the tax code. The 
code has become a morass or incomprehensible rules and 
regulations that is growing increasingly complex. For small 
businesses that are just starting out, it can be exceptionally 
difficult to know exactly what to do and when to do it. Most 
small businesses pay their taxes in full and on time. However, 
doing so is never easy for them as the cost of complying and 
the difficulty in following the tax code can be overwhelming.
    In 2001, the Small Business Administration's Office of 
Advocacy released a report on the regulatory costs faced by 
small firms that contained an estimate of the pay for 
compliance costs. The report showed that small businesses with 
fewer than 20 employees spend over $1200 per employee to comply 
with tax paperwork, record keeping and reporting requirements. 
This is twice the compliance cost faced by larger firms.
    Another area that the IRS has not focused on enough is 
education and compliance assistance. The IRS itself estimates 
that roughly $148 billion of a gap comes from under-reported 
business and self-employment taxes. Expanding efforts to help 
businesses and the self-employed to prepare their returns 
accurately and on time would significantly reduce the gap 
without penalizing the honest people out there doing their best 
to comply.
    Make no mistake, I do believe that enforcement must be a 
factor in the equation. Just like any segment of the 
population, there are always going to be bad actors out there 
trying to skirt the system. Finding them is not easy. We must 
continue to look for and penalize those who deliberately evade 
paying their taxes, but it must not be done at the expense of 
those citizens doing their best to comply with their share of 
the tax burden.
    It's going to take a balanced approach of simplification of 
the tax code and again I want to emphasize that, greater 
education and outreach efforts to individuals and businesses in 
enforcement in order to make any real headway on this problem.
    Madam Chairwoman, thank you again for holding this hearing. 
I look forward to hearing from our distinguished panels and to 
working with you and our colleagues in the House in a 
bipartisan fashion, hopefully, as we've done on the Committee 
on most occasions and the Administration to address this issue.
    And again I want to thank you for holding this hearing. I 
yield back my time.
    Chairwoman Velazquez. Thank you, Mr. Chabot. And now I 
welcome the Honorable Mark Everson, Commissioner of the 
Internal Revenue Service.
    Commissioner Everson was confirmed by the U.S. Senate on 
May 1, 2003. Commissioner Everson is the forty-sixth 
Commissioner since the creation of the Agency in 1962. The 
American Red Cross last week announced that Commissioner 
Everson will be its President. We commend Commissioner Everson 
for his service at the IRS and wish him the best in this new 
position.
    Thank you for coming before our Committee today.

  STATEMENT OF THE HONORABLE MARK W. EVERSON, COMMISSIONER OF 
   INTERNAL REVENUE SERVICE, U.S. DEPARTMENT OF THE TREASURY

    Mr. Everson. Thank you, ma'am. It's a pleasure to be back 
here again, Chairman Velazquez, Ranking Member Chabot, Members 
of the Committee.
    Before taking your questions, let me just say a few things 
about the filing season that we're just completing. At the IRS, 
we recognized some time ago that this would be a challenging 
filing season for us. Two of the reasons were Congress' late 
action on the extender legislation. It didn't take place until 
December. And the fact that we did not actually have an 
operating budget until the middle of February, as you know.
    The one time refund of the telephone excise tax and 
initiation of the split refund were also of concern. Taken 
together, we anticipated the most difficult filing season in a 
number of years. Nevertheless, we have kept up with the work 
and the system is functioning well. The extenders were 
successfully implemented. Our software updates were taken care 
of by early February.
    Electronic return filing continues to grow to almost 9 
percent from a year ago at this time and our service indicators 
are healthy. Along with the increase in the e-file rate, we 
have see a 16 percent gain in our volunteer prepared returns 
which is a cornerstone of our outreach program.
    As you may know, this effort helps eligible participants 
claim the earned income tax credit which lifts millions out of 
poverty every year.
    We have, however, seen a lower than expected claim rate for 
the telephone excise tax refund, some 30 percent of the people 
haven't taken that and what I would characterize as quite 
minimal interest in the new split refund program.
    Concerning services for the small business community, our 
small business, self-employed division has a vigorous outreach 
in education program for small businesses, including some 500 
personnel who work in this area. Our office has relationships 
with over 1500 small business, industry and tax professional 
organizations. In Fiscal Year 2006 we concentrated or--pardon 
me, coordinated or participated in over 2000 events across the 
country with more than 120,000 direct participants sharing 
education and outreach messages and information about IRS 
policies and procedures.
    We co-host small business fora along with the U.S. Chamber 
of Commerce, the NFIB, and the Small Business Legislative 
Council. In 2006, we began a new outreach to tax professionals 
through phone forums, eight national forums have been conducted 
by our offices across the country who have more than 1,000 
participants each on various tax topics.
    Let me turn to enforcement. We again enjoyed significant 
increases in our enforcement results in Fiscal Year 2006. And I 
am pleased to report we're making continued strides in Fiscal 
Year 2007. One of the things that I'm proudest of is that the 
IRS has restored the credibility of its enforcement programs 
without generating a significant amount of noise or increased 
allegations of infringement of taxpayer rights, very essential 
that we do it this way.
    In addition, we have successfully launched the private debt 
collection initiative passed into law in 2004. With private 
companies, an estimated $1.4 billion of unpaid back taxes can 
be collected over 10 years. The IRS lacks the manpower to 
collect this money by itself. We are holding the companies to 
the highest standard of professionalism and integrity. The 
Inspector General for Tax Administration recently reported that 
the IRS has effectively developed and implemented the private 
collection program.
    Concerning the President's 2008 budget, I am pleased that 
the President's request provides additional monies for IRS 
systems infrastructure and modernization as well as for 
enforcement and notably for increased research. There is also a 
modest increase for taxpayer services. This is the best budget 
that I have seen in my four years on the job. I ask the Members 
of the Committee to support the President's budget and to help 
enact an appropriation before Fiscal Year 2008 actually starts. 
That's really essential for a large operating agency like ours.
    These requested monies will help us generate continued 
progress in attacking the tax gap, but they are not the only 
things we need to do. The Administration has made 16 
legislative proposals. I would direct your attention to four 
that I think are particularly important. First, reporting of 
credit card gross receipts; second, making willful failure to 
file a tax return a felony, rather than a misdemeanor; third, 
requiring basis reporting for sales of securities; and fourth, 
lowering the threshold for mandatory electronic filing for 
large corporations and partnerships.
    Thank you. I'd be happy to take your questions.
    [The prepared statement of Mr. Everson may be found in the 
Appendix on page 49.]
    Chairwoman Velazquez. I will recognize Mr. Chabot.
    Mr. Chabot. Thank you very much, Madam Chair, and thank you 
for appearing before us this morning, Commissioner Everson.
    Just a few questions. First of all, relative to the 
proposed reporting on payment cards from businesses, there's 
currently no line on the Schedule C for merchants to report 
their annual payment card reimbursement, so clearly these 
annual information reports couldn't presently be used for 
income matching purposes.
    How exactly does the IRS intend to utilize that 
information?
    Mr. Everson. Well, I think that we--what we've seen in our 
research, sir, is that the biggest portion of the tax gap is 
under reporting. A big piece of that is the income on Schedule 
Cs. What we believe is that if we get the information, let's 
take a simple example. You have a dry cleaning business, let's 
say. And we know that from our studies that typically half of 
the revenues in a business like that comes in cash and half 
comes in credit cards. I don't know if that's actually the case 
or not. But if the retailer were to be reporting to us a total 
receipts of $1 million, but we saw in the credit card 
information that would come in once a year, just once a year 
that the total revenues were $800,000 or $900,000 just on the 
credit card receipts, that would prompt us to perhaps make an 
inquiry. And maybe it would be a signal for audit.
    What we believe is though that as soon as this reporting 
took place, there would be more honest reporting on the part of 
some who are under reporting. Let me just give the Committee 
the classic example of this. In '86, when the last time there 
was major tax reform issues, the Congress added in the ability 
for us to show the Social Security Numbers for dependents. 
Previously, that was not on the face of the form. And when that 
happened, the next year, 5 million dependents vanished. And 
that was--even though the IRS had no capability at that time to 
do matching at that stage, because it took a couple of years to 
get it all programmed. But people will just be more honest, 
though some people who aren't reporting honestly.
    Mr. Chabot. Let me ask you another question somewhat 
related. Are you concerned or is there a possibility that the 
proposal on additional reporting on the cards, you may run the 
risk of small merchants not accepting credit cards, for 
example?
    Mr. Everson. I think that that--I guess, the Treasury 
Department has taken some comments to that effect. I think as 
commerce moves more and more into the credit card reporting, I 
don't see that as a significant issue. I had dinner last night 
at a restaurant. I asked the proprietor, I asked, what is your 
percentage of credit card receipts? He said 98.5 percent. 
That's his business. I think we'll get an awful lot from this 
if we do it.
    Mr. Chabot. Have you asked the GAO to evaluate the proposal 
from a cost-benefit perspective?
    Mr. Everson. We have not, sir. What happens in these is 
that the Treasury Department and then the Joint Committee, they 
do revenue estimates and take a look at the proposals and they 
come up with dollar figures that they think will be generated 
and then those are used for scoring purposes. Typically, if you 
add money to our budget to hire more auditors or people doing 
the collection work, that cost is scored by the Congress in the 
budget but not the extra revenues we're going to get.
     If you do a legislative proposal like these, on the other 
hand, that is scored and you do put an effect into the budget.
    Mr. Chabot. Madam Chair, if I have time I'll ask one 
additional question? Thank you.
    I realize it might be more than a little difficult for IRS 
employees to do the education and outreach. But I think most 
Americans might be a little incredulous to having an IRS agent 
come to them and say I'm from the IRS and I want to help you. 
But what strategies are you implementing to get the word out 
and get better education and those types of things out? When 
one considers, I think, 10 percent is going to the education 
effort and 90 percent going to the enforcement effort. So if 
you could respond?
    Mr. Everson. Yes. If you recall the reforms that were taken 
by Congress in 1998, it changed the way the Service was 
organized to have it be organized around tax payer sort of 
segments. So we have one for the larger businesses and we have 
one that's for sort of individuals, one for tax-exempt 
entities. But the one that is of particular interest to this 
Committee is for small business and self-employed individuals.
    So that unit is charged with looking at both the 
enforcement side and the services side. It does have a large 
group of dedicated people who do a lot of outreach with trade 
organizations and others as I have indicated. It is a 
cornerstone of our program. I think we've done much better. The 
other thing we have is we have an Office of Burden Reduction 
that is constantly looking at what we can do administratively.
    I agree, sir, with everything you have said. Simplification 
is something that we have got to do, but that's--I mean, that's 
something that you have got to do. We're trying to do whatever 
we can though, and we have done some things like make it for 
smaller taxpayers, do their employment tax reporting annually 
instead of quarterly and things like that. We try to do 
whatever we can.
    Mr. Everson. Madam Chair, I don't have any additional 
questions. Let me just comment on what the Commissioner just 
said. I agree. It's not the IRS' fault that the code is so 
complicated. It is Congress' and, whereas, in recent we have 
made some progress in reducing the level of taxes, whether it 
is capital gains or a number of other things, we've--I think 
Congress has failed miserably in simplifying the code, and I 
think that ought to be a major effort that hopefully could be 
worked on in a bipartisan fashion. Thank you, and I yield back.
    Chairwoman Velazquez. Mr. Cuellar?
    Mr. Cuellar. Thank you, Madam Chair, and following up on 
what the Ranking Member said, Commissioner, I agree with him. I 
think certainly there is a responsibility that we need to do in 
Congress when we talk about simplifications. But if I can just 
follow up a little bit. You talk about some of the trade 
groups, and I've just talked to one of the small business trade 
groups just a couple of days ago.
    Their concern that IRS, and I appreciate the difficulty 
that you have to look at in your agency, but they are concerned 
that you're looking at, when you look at closing up the tax gap 
that you're looking more at the enforcement part instead of the 
assistance and the compliance and the customer service, and 
that type of assistance.
    How do I respond to them in that particular area?
    Mr. Everson. We're not going to audit our way out of this 
tax gap. What we have to have is a balanced program, and it 
includes some additional of this third-party reporting, which I 
know generates a lot of controversy, and you're certainly going 
to hear from the second panel on this. We have, as I've 
mentioned in my opening statement, asked for more monies our 
infrastructure.
    We've been under funding this for years. It is very 
important because better systems will help us get things more 
accurately as we correspond back and forth with taxpayers and 
respond to their concerns. I think that the other thing I would 
indicate is that we just issued now something called the 
Taxpayer Assistance Blueprint, the second phase of this which 
is a big study that is going to help us. It's an outline, if 
you will, of a set of principles that will help us make 
decisions just in this area on service and on outreach. We've 
worked hard to do better here. It's not so much--I mentioned in 
a statement that our volunteer program, on our assistance for 
the elderly--this program has increased the total returns filed 
by over 16 percent year-on-year.
    That's a phenomenal increase. That is all about outreach.
    There are people who will deal with, be much more 
comfortable dealing with an association or dealing with a 
volunteer group to ask them a tax question. Not maybe as 
comfortable coming to the Service, particularly some of the 
immigrant communities and emerging areas. So we really work 
hard on that.
    Mr. Cuellar. Commissioner, could you on that blueprint, 
because I know my office has worked with your folks on there on 
the outreach and the taxpayer assistance. Is there anything 
else that you have specifically that you can provide to us in 
the Committee that we as Members of Congress, we work on the 
simplification on something else, that you can provide so we 
can work with you to provide some of that assistance to the 
small business community?
    Mr. Everson. Yes, sir. Well, what I will do as the Chair 
has indicated, I'm not going to be in this job that much 
longer. But I will certainly make sure that our folks come see 
you and take you through the materials we have. One of the 
things we'd like, we've worked--Secretary Paulson was very 
strong on the EITC this filing season. And we reached out to 
all of your offices to try and do more outreach through your 
offices. I'd like to do whatever we can working with your 
office.
    Mr. Cuellar. If we can do that. Just one more question, 
Madame Chair.
    As you know, when you look at the simplifications and how 
we can provide customer service, some of it is within the rule-
making authority that you have. Could you give us an outline 
for the Small Business Committee following up what Mr. Chabot 
talked about? What is congressional--what needs congressional 
action and what is something that you can do within your 
rulemaking authority? I mean, you do have a little bit of 
flexibility, if I can say this. Could you give us some 
suggestions where we could improve customer service, improve 
compliance assistance for the small business and just say well, 
if we're going to take this action it needs congressional or 
statutory change, but this is something within the rulemaking 
authority that you might have?
    Mr. Everson. I'm certainly happy to provide you a list of 
the things that we're looking at in terms of administration 
burden reduction. It's a changing list, obviously. But the 
problem is more on the other side where we feel we're following 
what the Congress has said.
    Let me give you an example. People complained in this 
community about a very complicated, something like a 22 part 
test. There's a manual this big about what's an employee versus 
an independent contractor. The Congress wrote into law in I 
think it was 1977--1978, pardon me--saying that you can't 
change this definition or issue any regs on it. That's an 
example of an area where there is a lot of ambiguity. It's very 
hard for people to comply.
    Mr. Cuellar. Well, give us at least an attempt. I know it's 
fluid, but at least so we can get a blueprint, to give us some 
suggestions. I still want to see what rulemaking authority you 
have because I know you have a little bit of flexibility on 
that, sir. If you could provide those two things, I would 
appreciate it.
    Chairwoman Velazquez. Time has expired. Thank you. I will 
recognize Mr. Bartlett, but let me just say that right after 
Mr. Bartlett we're going to recess and go to the House vote. We 
will reconvene within the next half hour right after the vote.
    Mr. Bartlett. Thank you very much. As a small business 
person in a former life, I'm particularly sensitive to the 
issues that we're talking about here. Thank you, Madam 
Chairman, for your comments. And Ranking Member, thank you for 
your comments.
    I have a brief statement I would like to submit to the 
record if that is okay. The gist of the statement is--
    Chairwoman Velazquez. No objection.
    Mr. Bartlett. --Thank you--asking the question are we sure 
in this effort the juice is going to be worth the squeezing?
    [Laughter.]
    Mr. Bartlett. I'm sure that there are some taxes out there 
that we haven't collected. But maybe the harm that we do by 
trying to collect those taxes will not justify the effort. 
There are occasions when the treatment is worse than the 
disease. We have to be careful that this is not going to be one 
of those.
    And now to a specific question, if I might. According to 
the tax gap figures for tax year 2001 released in 2007, I would 
like to ask you to provide to this Committee for the record the 
methodology, you don't have to do that today, but just provide 
us for the record the methodology used to arrive at these 
estimates. How did the IRS arrive at the conclusion that the 
2001 voluntary compliance rate was 83.7 percent? Could it in 
fact have been 95 percent? What are the solid raw data and the 
methodologies including assumptions that produce the tax gap 
estimates?
    I understand that the initial research was done in 1988. I 
would like those raw data sources provided as well as any 
updated data that this most recent research has performed and 
on which the tax gap estimates are based. Can you do that for 
us?
    Mr. Everson. We can certainly provide details on how this 
was all compiled. It has been looked at by GAO and by our 
Inspector General and we have had outside consultants working 
with us. It is a very significant effort involving 46,000 
individual audits. So yes, we can tell you about that. I don't 
know how much we'll be able to provide from 1988, but we 
certainly can tell you how the difference between the two 
approaches.
    Mr. Bartlett. For all of us who fairly pay our taxes, it is 
unfair that others aren't fairly paying their taxes. I think 
the desire for fair enforcement is everybody's goal. Our small 
businesses now are enormously burdened by a cumbersome code. I 
just want to make sure that we aren't going to make their life 
worse and that at the end of the day we'll be happy that the 
results we get were worth the effort that we put into it.
    Thank you very much and thank you Madame Chairman.
    Mr. Everson. If I could just say one thing on that very 
important point. Both the Secretary and I have been very 
cognizant of this question. In fact, we have been criticized 
for not being more ambitious in some circles, Senator Baucus, 
Senator Conrad, in particular, saying you ought to be doing 
more, what you're proposing really is too modest. Because we do 
recognize this trade-off about burden versus the ability to get 
the revenues, and we think we have a good set of proposals. 
We're asking the Congress to work with us to enact those, but 
we're sensitive to going further than this. So I understand 
what you're saying, sir.
    Mr. Bartlett. Thank you, sir.
    Chairwoman Velazquez. Okay, so we're going to the House now 
and vote and come back in a half an hour.
    [Recess.]
     Chairwoman Velazquez. The Committee is called to order.
    Commissioner Everson, I just would like to again ask a 
question that was asked to you by Congressman Bartlett, but I 
don't feel that I didn't hear a complete answer to the 
question. Again, my concern is the impact that the new 
proposals are going to have on small businesses. I would like 
to ask you if either the IRS or Treasury Department conduct a 
cost-benefit analysis of tax cut proposals before they are 
offered in the Blue Book. And if so, what is the nature of this 
analysis?
    Mr. Everson. We look at and estimate all of the revenues 
and we try to look at what we think the burden impact will be. 
Now it is difficult in some instances to know exactly what 
you're going to get, because after all a lot of this is 
directed at what is under reporting now. so you may not know 
how large the populations are. But we look at things like, I'll 
give you an example. We would say right now one of the 
proposals that I'm sure you know is generating commenting, 
concern is about the 1099s for corporations.
    Right now, Madam Chair, we already get something like 82 
million reports a year that are like that, the 1099 
Miscellaneous for Independent Contractors. We anticipate that 
this would be another 60 million perhaps reports that we would 
get because of that. We don't necessarily put a cost figure on 
it, though, but we do estimate the revenue side.
    We could develop some options there. What we tried to do is 
we went through the basket of proposals, ma'am, was we tried 
wherever we could to limit this like in the credit card 
reporting, so that we had the least burden for the small 
businesses. There were other things, as you know, that we could 
do. Some have advocated withholding. We're not suggesting that. 
Withholding gets you more compliance obviously, but is extra 
work. What we have tried to do is be as sensitive to the issue 
as possible.
    Chairwoman Velazquez. As I've mentioned in my opening 
statement, I am concerned by the fact that the data that the 
IRS is relying on in estimating the tax gap for C corporations 
is from the 1970s and 1980s. In fact, and in July 2005, the 
General Accounting Office report cited IRS official as stating 
that the IRS has not systematically measured large corporation 
tax compliance through statistically valid studies.
    This despite the fact that officials acknowledge such 
information will be useful. I suspect that if that information 
was updated, the proportion of the tax gap attributed to small 
businesses will be significantly lower. Do you agree with that?
    Mr. Everson. Can we look at the tax gap map, Lenny? Let me 
just sort of say what we did. We started with the individuals 
and we did the work that was 46,000 individual audits. It's 
very time-consuming because you're going through each line. As 
you say, we have no yet, the corporate piece here is sort of 
this train, maybe you can point to it, Lenny, right there, the 
under reporting. That is exactly what you said. It is using the 
old assumptions and updating it for certain changes. That is a 
relatively smaller portion. Let us go to the audit coverage 
now.
    What I have said, ma'am, is that the way we use the data is 
to make audit selections and update our own internal 
procedures. No, no, the coverage. Right, that front one. We 
already have very high coverages for the large corporations. As 
you can see here, the percentage coverage in 2006 is one out of 
every three of those companies is being audited. So we have 
ongoing, very high coverage in contrast down here with the 
Schedule Cs, which is a 3 percent coverage rate.
    What I have said we would not change our approach too much 
on the big companies based on more data in terms of total 
coverage. Nevertheless, we have in the budget asked for $41 
million more for research. One of the things that we're going 
to do is get at this. I'm particularly concerned about, someone 
mentioned international. The international transactions, very 
great complexity. They are a real challenge for us in the off-
shore areas. So we want to do more in that area. I assure you.
    Chairwoman Velazquez. But let me ask you. Do you have any 
plans to update the tax gap data for C corporations?
    Mr. Everson. Yes, we do. We will start to work on that. 
We're doing some sort of macro studies on it now. But this is a 
tricky thing to do because if you're looking at individual you 
can go line by line and do it all, but a big corporation, like 
General Electric, are you going to audit every line? That's not 
the approach you take as you can imagine given the size of some 
of these.
    Chairwoman Velazquez. When do you plan a better picture of 
the tax gap regarding C schedules?
    Mr. Everson. I would say it's going to take place over the 
next four of five years. If we get the money that we need--this 
takes several years. If you do an audit, the entity or the 
corporation or the individual files the return, then it takes 
us a lot to figure out which ones we want to look at. Right now 
you might be familiar, we're doing the 1120 Ss. We've already 
finished. We started that work a little over a year ago. We 
finished some of them, but those are the clearer ones. The more 
complex ones tend to take a little bit longer where there may 
be issues in sorting out. So it takes several years.
    What we want to do now though, to get at one of the issues 
you may inferring, we don't want to just have a periodic study 
like in 2001 or way going back to 1988. We want to put enough 
money in the base of the budget so that we can be constantly 
fine-tuning the research and updating it and looking across all 
of the different elements of the tax system.
    Chairwoman Velazquez. Let me ask you, shouldn't you wait, 
the Administration wait until you have a complete picture of 
the tax gap? And you just said that yes, you intend to do a--to 
try to update the tax gap data for C corporations. So my 
question is shouldn't the Administration have a complete 
picture of the tax gap before deciding on a plan, on a specific 
plan?
    Mr. Everson. Let's go to the visibility chart. I think we 
know enough here that there are clear problems in terms of 
under reporting of income in the Schedule C area for the 
business income that--we can address that. We can address that 
through a combination of things. Outreach has been mentioned. 
Sure, that may have some impact, but the biggest issue here is 
just plain understatement of gross receipts. That's not so much 
a question of education, we believe.
    What this chart does is it shows you that you have a one 
percent noncompliance rate on wages. That is our estimate. 
There are 146 million wage earners in the country and 
employees. There, we are getting the third-party reporting. 
There's actually withholding too. This says that when you get 
all the way out to the other end where there isn't any third 
party reporting, as in this instance, this credit card proposal 
that we're getting to, that there is a noncompliance rate of 
something like 50 percent.
    I think we know enough to make these proposals. The trick 
though is what we got to before. It's this balance. How much do 
you do and how many proposals do you put in? That's the trick, 
I would say.
    Chairwoman Velazquez. Mr. Everson, I think that also we 
know enough, or maybe you should know enough about corporations 
and accounting firms that are becoming aggressively, 
increasingly aggressive in seeking ways to shift their profits 
on paper into off-shore tax havens in order to avoid tax 
obligation. In fact, the General Accounting Office has stated 
that abusive tax shelters are costing the federal government 
tens of billions of dollars in revenues and that the IRS faces 
challenges in addressing the abusive shelter workload.
    It seems to me that instead of skewing enforcement 
resources towards small businesses, you should be investing 
more to address the abusive shelter workload. Why isn't this 
the case?
    Mr. Everson. Well, I think that if you look over what we 
have done over the last four years, we have made shelters in 
particular both for corporations and high-income individuals a 
centerpiece of our work. So we started there and we have 
increased audits generally, but we have not, I think, addressed 
that much additional focus I would say to you on small 
businesses in particular. We started with the high income 
individuals and the corporations.
    Now the other piece that you're getting at which is so 
complicated is the international. Now a lot of the problem 
there, it's not only--it's not only things that we would 
consider in the tax gap. It would also be the manipulation 
through tax arbitrage and the establishment of sophisticated 
transactions which are actually, arguably legal but they're 
taking advantage of one thing is debt in one country and 
treated as equity by another, and then you structure 
transactions to minimize taxes that way.
    There's a lot of complexity here. It is the hardest thing 
for us to get after, but we devoted more resources to it. It is 
an area of focus. I have chaired something called the Forum on 
Tax Administration which works on it.
    Chairwoman Velazquez. What would you say is the biggest 
challenge in addressing the abusive shelter problem?
    Mr. Everson. Well, the biggest problem in the abusive 
shelter had been I would say the practitioners. What happened, 
you've got Don Alexander here. Not everybody is as scrupulously 
adherent to the standards of the law as Commissioner Alexander. 
Things got quite--they got quite wild a few years ago with 
attorneys and accountants trying to outdo each other, setting 
up transactions that in many instances were inappropriate. Now 
I think some of that through efforts of the Service and the 
Justice Department, stepping in strongly we've turned a corner 
on that. But there still is a lot of problems out there.
    Chairwoman Velazquez. Okay, my last question on this round 
before I turned to Mr. Chabot. You're enforcement budget 
request, it doesn't make a lot of sense to me, basically 
because nearly three times as much money is being requested for 
enforcement against small businesses than for large multi-
nationals. Meanwhile, the IRS says it generates 50 percent more 
revenue for each dollar spent on large, multi-national 
businesses. Why is it that this enforcement budget request is 
not more balanced?
    Mr. Everson. Well, again I think that what we're trying to 
do here is address where this very large portion of the tax gap 
is, which is in under reporting by individuals. We are adding 
$26 million to the large corporate piece, which is about what 
we can take. The work force is much larger on the small 
business area, because that's a much bigger piece of the 
economy, as you would know so well.
    What we do is we are adding an enforcement personnel, 
pretty much what we can in each of these areas, frankly.
    Chairwoman Velazquez. Mr. Chabot?
    Mr. Chabot. Thank you, Madam Chair. I just have a couple of 
questions and you've covered quite a bit in your questions, 
too, and I certainly won't repeat that. But Mr. Commissioner, 
let me ask you this, if I can. On average, how long would it 
take, I know this is going to vary extraordinarily depending on 
the size of the business and the complexity of the return, but 
what is your range on the typical audit for a small business, 
how much time that it would take, and again, I know you can't 
just say it's eight hours or ten hours or whatever.
    Mr. Everson. I'd want to get back to you. It's something 
that we could certainly tell you how, what the norms are and 
then what the ranges will be, but it all depends on whether 
issues can be settled out, or whether documentation can be 
brought--it can take some time, but those are obviously much 
simpler than you get into the big companies. The big companies 
takes years. It's actually something I've been concerned about. 
It takes too long.
    Mr. Chabot. Thank you. In previous hearings on this topic, 
several witnesses brought up the idea that the IRS could help 
address the issue by modernizing their systems to take 
advantage of the information that they already collect. Would 
you comment on this and are there any inefficiencies that you 
could address internally or need help from Congress to address 
internally?
    Mr. Everson. Yes, sir. As I indicated before, I really do 
think this is the best budget request that I've seen in my four 
years on this job. And one of the reasons that's the case is 
because it provides adequate funding to improve our 
infrastructure. Your point is absolutely correct. Good 
infrastructure supports both the service side of the IRS and 
the enforcement side of the IRS, so we need to invest more on 
that. There are new monies in there that do that, both on terms 
of the core sort of infrastructure and also what we call 
modernization efforts within the IRS, so that is the good, the 
real good news on the budget.
    Going to your point, I would tell you that my personnel, my 
managers tell me if you said, Mark, I'm going to give you an 
extra $30 million, you have to choose whether it's in better 
systems or additional people. They would take it in the systems 
is where they are now. So that really is job one and that's a 
good component of the new budget.
    Mr. Chabot. Thank you. Before I yield back, the charts you 
had there before, there was just one of the lines--
    Mr. Everson. Percentage coverage?
    Mr. Chabot. Not that one. It had the list of--
    Mr. Everson. Yes, sir.
    Mr. Chabot. That's it. The very bottom line, ``employment 
tax returns'', then it was .13 percent. What is that exactly?
    Mr. Everson. That is an audit of whether the tax return 
that a business will be filing on what it's withholding for 
Social Security or Medicare, the employment taxes. Most of our 
work in that area is in the collections side where what happens 
is we get into problems where a business and it can often--it's 
typically a small business, the business will get a little 
behind, getting squeezed and then they don't make the current 
payments. They've been withholding the taxes for you as an 
employee, but then they get behind on making the quarterly 
payments. We try to step in very quickly there because what 
happens is it just compounds itself and they get in deeper and 
deeper. It's a lot of well-meaning folks who are trying to stay 
in business and we work with them. If they're a couple of 
quarters behind and they can demonstrate to us that they can 
get current for that quarter, and then start to work out the 
other piece, then we'll work with them, but otherwise, if 
they're just going to keep shorting the government and not 
sending on the money they have withheld from the employee, then 
we'll really step in.
    We don't do that many audits there. We don't find that the 
employer has really--we don't see that as a problem area.
    Mr. Chabot. Thank you. One other thing, I apologize, one 
other thing comes to mind. I'd just like to maybe emphasize and 
reiterate what our colleague Roscoe Bartlett said much better 
than I am going to be able to repeat it now, but he said 
something about squeezing the orange and getting the juice out 
of something like that.
    Mr. Everson. He said is the juice worth the squeeze.
    Mr. Chabot. That was it. Yes. And I have to say I agree 
with him and want to make sure that we kind of keep our eye on 
the ball here. We definitely, if you have businesses or 
individuals that are intentionally or even accidentally but are 
either evading or not paying their fair share, they certainly 
because it does put the burden on the rest of the folks that 
are doing what they're supposed to be doing, both individuals 
and small businesses especially. But we don't want to have one 
additional burden on the small business community where we're 
trying to squeeze out every last dollar and creating kind of a 
paperwork monster on these folks who are already struggling in 
a very competitive environment already.
    I would just urge to the extent that you're able to commit 
to us to going after those tax dollars that are owed, but not 
making it any more burdensome on the small business community 
than necessary.
    Mr. Everson. I think that's good counsel and both the 
Secretary and I really feel quite strongly that you've got to 
be careful about how far you do go and as I indicated before, 
we've both been criticized by a number of people in the 
Congress for not having more robust proposals going after the 
tax gap, but I think it reflects our appreciation of just this 
tricky question you're getting at.
    Mr. Chabot. Thank you very much.
    Chairwoman Velazquez. Mr. Sestak?
    Mr. Sestak. Thank you, ma'am. Sir, just a couple of 
specific questions just for my edification. One of the 
proposals in the Blue Book was to expeditiously verify TINs.
    Mr. Everson. Yes.
    Mr. Sestak. If that were to come about, what would have to 
be done for IRS to be able to verify it expeditiously which has 
got to be one of the major challenges.
    Mr. Everson. Yes, sir. This proposal gets at this question 
of whether there's some misrepresentations, someone saying you 
don't have to give me a 1099 under the existing standard 
because I'm not an independent contractor. I'm a corporation.
    My understanding is we do have already enough automation to 
be able to handle this comfortably. It's not one of the 
proposals. Some of the proposals require additional investment. 
We provided for those monies in the budget. I don't believe 
that this is one of the cases where we feel we would have 
difficulty on it.
    Mr. Sestak. I've heard you speak about PCAs.
    Mr. Everson. Yes.
    Mr. Sestak. But also the comment has been made that we're 
getting what we expected from them. What does that mean? What 
are the figures for it, the return on it?
    Mr. Everson. Thus far, over the life of the program through 
the middle of April, we've received almost $20 million that has 
come in through the program and then you have to back off of 
that $3 or $3.5 million from the commissions that they earn. So 
for this fiscal year, it's about at a break even point 
considering the investments we've made.
    We expect the program--
    Mr. Sestak. Break even after how many years, is it three?
    Mr. Everson. No, no, not even. It was put into law in 
October of 2005, but after we had to develop it and go through 
the procurements, we did not start it until September of this 
past year. So it is really still a very new program.
    We expect to recoup the whole investment, the systems that 
we put in and everything else, by about a year from now. And 
then the comment, I freely acknowledge that we could do this 
work as well or better. We've got great employees who are 
trained. The constraint we have though, sir, is that right now 
as with many other agencies in the government, we have a lot of 
attrition. There's a lot of churning in the workforce, okay. 
Our churning is running at something like 8 or 10 percent, so 
then when you build on top of that the enforcement initiatives 
that we're talking about here today, with the $230, $240 
million we're asking for, that adds more people. There's only 
so many people you can add in a given period without losing 
control of your training and everything else.
    What I have said to the appropriators, your colleague, 
Congressman Serrano, particularly, we got into this at a 
hearing a few weeks ago, is that we would not be able to do 
this work for a number of years. You have to be giving us these 
increases of the magnitude that we've asked for several years 
before we'd be in a position to get after this money.
    Mr. Sestak. The third is you said in your testimony that 
you've increased the audit of those who earn over $1 million by 
78 percent. What's the number change? How many to how many?
    Mr. Everson. I'd have to get you that, but what we have now 
is about a--it's over--I think it's like 6.3 percent for the--
over $1 million. If you take a look again, that's what it is.
    Mr. Sestak. The number of individuals?
    Mr. Everson. Yes, the individuals with income over $1 
million, we audit 6.3 percent last year. That was up from 
around 5.
    Mr. Sestak. I see.
    Mr. Everson. If we go to that one you've got right there, 
individuals, it sort of gets me to another point I would like 
to make. The centerpiece of what I've tried to do over the last 
four years has been to do more for high income individuals and 
corporations. And if you see here this starts in '01 which was 
a transition year. Clinton-Bush, first part of that year was 
under President Clinton, the second part of that is under this 
President.
    You can see the growth. The EITC is the green line. We have 
brought those up but then I took a decision in '05 to flat-line 
those because we were getting a lot more efficiency, but we 
rediverted. We diverted our resources into that blue line which 
is audits of individuals under $100,000. And the real growth, 
you can see, has been over $100,000. So we really have worked 
on this. A lot of it gets back into the shelter question and 
this has been very successful for us because a lot of the money 
is up there.
    Mr. Sestak. Last two. In your comment, when you say that 
you're going to put like $73 million in to get $144 million in 
more revenues from small businesses, does that include what you 
always talk about, that 3 percent of indirect revenue where 
people are deterred?
    Mr. Everson. No, sir.
    Mr. Sestak. That's just what you expect from actually the 
enforcement? Is that correct?
    Mr. Everson. That's right. What we have said in this, all 
the proposals that we've made in the legislative side, they 
would get about $3 billion in direct.
    In the budget side, the money that we're asking for in the 
budget, we've said that would get I think it's $700 million of 
direct. We have conservatively and we think this is 
conservative, stated it 3 to 1 indirect.
    Mr. Sestak. I've got it. Last question is I honestly 
believe from my background you kind of expect what you inspect. 
And my take on it is some of your proposals that you have on 
the merchant payment card reimbursements or the verification of 
TIM or the payments to corporations, my question is even though 
the study says that a large proportion comes through small 
businesses and this may have already been asked, do you see a 
greater return for every dollar for enforcement on small 
businesses, X amount of dollars out for revenue enhancement, as 
compared to big business, even though the study says there's a 
smaller pool of revenue to be garnered? And if so, even though 
there's a bigger pool in the small businesses, if the return is 
better for bigger business, shouldn't more enhancement 
enforcement be there?
    Mr. Everson. We are increasing what we're doing on bigger 
businesses. First of all--
    Mr. Sestak. $23 million compared to $73 million for small 
businesses.
    Mr. Everson. The small businesses are a bigger piece.
    Mr. Sestak. But is there a better return?
    Mr. Everson. The returns vary. Going after the complicated 
bigger businesses can take many, many years. The best returns 
we have--
    Mr. Sestak. The only reason I ask is your testimony shows 
that $73 million into small businesses will you give a 2 to 1 
return, $144.
    Mr. Everson. Right.
    Mr. Sestak. The other one, the 23, it's a 3 to 1 return.
    Mr. Everson. Right.
    Mr. Sestak. When you add up all your seven proposals that 
you have, the last two you don't show what the returns are on 
the criminal investigation and--
    Mr. Everson. We don't calculate it.
    Mr. Sestak. But if you did look at that, that's a 4 to 1 
return. Is it right to go after the 2 to 1 return, if you're 
getting 4 to 1 in other areas or 3 to 1 in other areas? I'm not 
saying you shouldn't. I honestly think you should make sure 
you're fair across the board. But are you putting the marginal 
dollar in the best enforcement pot to get the best return, if 
you are a business?
    Mr. Everson. We don't approach it that way. We try to run a 
balanced program.
    Mr. Sestak. Should we approach it that way? Because this is 
all about getting more dollars back.
    Mr. Everson. I don't believe we should in terms of the 
easiest, the returns that you would do the most on, earned 
income tax credit. You've got a very high return on that. And 
in the middle class, some of the work you do in the middle 
class, you get a very easy return or some of the collection 
work you get a better return. We don't get any return of 
significance in the short term on the work we do on charities, 
as an example, because there's a tax exemption there.
    Mr. Sestak. You show in your testimony you get about a $15 
million return on charities by looking at them. So you do get a 
return.
    Mr. Everson. I'm not sure which piece of that proposal 
you're talking about, but generally speaking, what I'm saying 
is a general rule, we have several thousand people working on 
what are tax-exempt areas.
    Mr. Sestak. Your $50 million to create tax-exempt entities 
compliance?
    Mr. Everson. That's a budget increase that we're making, 
but I don't think we have anything revenue-associated with 
that. Over the long term, sir, if we don't draw the line 
between what is tax-exempt and what is not, you'll have an 
erosion of the revenue base. So we have to run a balanced 
program. This does represent our view of what is good, strong 
steps to take now.
    Mr. Sestak. I understand. And then just it seems though 
when you look, you have gone up $15 billion. You're now at $50 
billion approximately a year now, at $45 billion gap which was 
studied five years ago, so what is it today? That's still just 
a 1 in 7 return. It just seems as though getting the dollar 
back in with close to $9 trillion deficit maybe--shouldn't we 
look at it a little bit more? Having a return across all the 
various channels, but isn't it almost becoming a business 
proposition now if we can get your best return?
    Mr. Everson. I don't like to view it that way. I view it as 
trying to trying to run a balanced program across all of the 
responsibilities that the IRS has and I think what we've done 
is we've added to each of those areas and in my tenure, again, 
we've given great emphasis in the area of tax-exempt and 
governmental entities and they aren't viewed as generating that 
kind of return.
    Mr. Sestak. Thank you, sir.
    Chairwoman Velazquez. Mr. Jefferson.
    Mr. Jefferson. Thank you, Madam Chair. Good afternoon, Mr. 
Everson.
    Mr. Everson. Good afternoon, sir.
    Mr. Jefferson. In your written testimony here, you say that 
in more than one place we cannot determine how much of the gap 
is attributable to willful noncompliance and how much is a 
result of a lack of understanding by the taxpayer, his or her 
full tax obligation. Why is that the case?
    Mr. Everson. Well, I think that as you go through and you 
do these audits, you have penalties that would be associated 
with willful noncompliance that could be more onerous. And the 
individual would not obviously admit that they were willfully 
being non compliant is one factor that I would suggest to you. 
So you have to exercise a fair amount of judgment as the 
auditor as to whether you're going to assess that penalty or 
not.
    Mr. Jefferson. There has to be a long history with the IRS 
collection system.
    Mr. Everson. That's right. And part of it is research on 
service, if I can get to the other piece of this, has been 
lacking. One of the things we're asking for more money in here 
to try and get a little bit of a better understanding on just 
what, if you provide better service and education, what will 
that do.
    Mr. Jefferson. It just seems to me that if you don't know 
which it is, and you make decisions where you apply more 
resources to enforcement over compliance, but you don't know 
which is worse, I don't know how you come to a decision. Here's 
almost 3 to 1 on enforcement, I guess because you just--it 
seems to me you've got to find some way to figure which is a 
greater problem, so you can apply the resources accordingly.
    Mr. Everson. Right.
    Mr. Jefferson. And without that, then you simply seem to 
just opted for the enforcement angle as opposed to the 
compliance angle.
    Now small businesses, you admit in here that complexity is 
a big issue and it obscures the understanding of the code. I 
would suspect that the complexity issues go more to the smaller 
concerns, it seems to me more difficult to understand it and 
have the advice you need from accountants and lawyers who 
clears these things up for people.
    And so doesn't it seem to follow that we ought to do as 
much as we can to make sure that before we get to the issue of 
enforcement and audits and so on, this complexity issue is 
really, really addressed properly by your Agency and that you 
take all the time you need to invest, all the resources you 
need, and ask us for as much as you need to make that 
determination clearly so that we don't overburden small 
business people because of the complexity issues and lack of 
compliance as opposed to intentional under-reporting.
    Mr. Everson. I would say to you, sir, it comes back to the 
earlier conversation. The complexity starts with the nature of 
the law itself and simplification of the code will do a lot for 
compliance.
    Mr. Jefferson. We can't do that. We hear about that all the 
time, so that's not going to work.
    Mr. Everson. You can do that, I can't do that.
    Mr. Jefferson. It hasn't happened here. So we're talking 
about stuff that isn't going to happen on the complexity side. 
We've tried--everybody has a simplification proposal, but it 
never works. The world that we live in is one of a complex tax 
code. That being the case, we ought to deal with the issue of 
compliance, given the complexity that's obviously there and we 
aren't in any quick way get rid of. I know we have it within 
our power theoretically, but as a practical matter, just never 
happens.
    Now--I'm sorry.
    Mr. Everson. No. That's a direct response. I won't--I'm not 
going to agree totally with that.
    (Laughter.)
    Get myself in trouble with others. We are, as I indicated 
earlier, we have this taxpayer assistance blueprint where we're 
looking at all these issues about how we better educate and how 
we serve the taxpayer, but I do have to say on this one area 
which is so large, the understatement of receipts, I don't 
think that's a question of education. That's why this credit 
card proposal we think is such a good one. We think we'll get 
better reporting on that.
    Mr. Jefferson. You have a lot of elements of the under 
reporting over here. Let's see if I can find it. Well, I don't 
seem to see it here. All the way from having deduction 
exemption reported incorrectly to simply failing to report--
overstated reductions of income, under reporting of nonbusiness 
income, all that sort of business.
    Mr. Everson. Yes.
    Mr. Jefferson. Some of these require determinations as to 
how it ought to be categorized and how you--what you 
essentially have to make of it and some of them, of course, you 
know, it's a lot less complicated.
    But in any event, my point is that we ought to really, 
given that we're dealing with this issue complexity, we've 
spent a lot of time on the issue of compliance through 
education. Now the last little thing I want to say here, you 
talk about high-risk tax returns. What do you mean when you 
refer to that? Under the funding or increased audits of high-
risk tax returns. What does that mean?
    Mr. Everson. Well, we see high-income individuals where 
they're working at a level of complexity, they might have lots 
of K-1s or different investments and things that we have seen 
historically some problems with. You can get into this 
international area that we were talking about a little bit 
before. There are certain categories which would fall into the 
higher risk. The Schedule C where we would see certain 
relationships. What we've done with our research is we've 
updated our audit selection models and we go through and we 
look at each return and we see how it relates to other 
comparable returns. And if we see a problem, it's outside the 
norm, that would make it higher risk.
    Mr. Jefferson. Does it have anything to do with the kind of 
how small the concern is or where the concern is located, the 
part of town it's from, any of those things have anything to do 
with higher risk?
    Mr. Everson. I wouldn't say that they generally would. I 
mean you're looking--again, we have to have a balance. We try 
to do across a range of size of organizations and both 
individuals and incorporated businesses.
    Mr. Jefferson. This really is the last thing, Madam Chair. 
The EITC, these are really small people here. These are people 
who are working poor folks who don't make enough to meet the 
poverty wage that are working and therefore we give them a 
refundable tax credit.
    This has to be an area in many cases where people just 
don't understand what's going on with this whole area of 
taxation. This cries out for some sort of assistance to 
taxpayers to make this work right. In your experience, how much 
assistance are we giving to folks in the EITC area and before 
we condemn them as not meeting their responsibilities of the 
system?
    Mr. Everson. One of the things we've really worked on over 
the last several years is increasing the outreach in this area. 
I mentioned earlier the fact that this year there's been a 16 
percent increase in volunteer-prepared returns. We work--there 
are 12,000 sites around the country that are mostly community-
based where organizations work with individuals. And it's all 
based on--it's typically based on income and a large part of it 
is geared towards EITC. I've done events with Congressman 
Lewis, Congressman Emmanuel and others to try to champion just 
these sorts of coalitions because they're highly effective 
because in many instances people in that population, they'll 
feel more comfortable coming in and working with a community-
based organization than they will coming directly to the IRS.
    The EITC is terribly important, both the Secretary and I 
believe it needs to be increased. As you may know, something 
like our calculation is about 75 or 80 percent of eligible 
claimants take the credit. That means there are still millions 
more who could and are not.
    Chairwoman Velazquez. I will ask if the gentleman doesn't 
have any more questions, a last question, Commissioner. It has 
been widely reported in the media that IRS auditors are being 
forced to close larger corporate cases prematurely, allowing 
billions in tax dollars to go unpaid. Agents have said that 
unless they were free to pursue what their instincts told them, 
their focus will end up being only on non-abuses. New tax 
shelters crated by the tax advice industry will go undetected.
    What are your comments on that?
    Mr. Everson. Yes. I'm happy to address that. It's come up 
almost every year. Like with the audits of individuals, the 
audits of corporations, large corporations, we're talking about 
over $10 million, they had decreased. Do they have this chart? 
I think you have this chart in your packet.
    And you can see the number of returns audited--it was going 
down from before this, but this is starting 2001. We brought 
that back up significantly from 2003 where it bottomed out. And 
what we wanted to do is get more coverage in this area between 
$10 and $250 million of assets because those are growing 
businesses that are going to become bigger. We were doing very 
little there. Now we've started adding back there.
    In terms of the dollars that we've set up, if you look at 
this line of dollars recommended, you can see it went from $13 
billion all the way up to $32 and then $27 billion in the last 
two years. So it's gone up very much. Now I have pushed to try 
and reduce the length of time it takes to do these audits. I 
think it's unconscionable that it takes 7, 8, 10 years to do 
these audits because we don't get after problems. The IRS 
missed the tax shelter eruption in the year like 2000, 2001 
because we were looking at audits from 1992 and 1993. So I do 
think it's important to do our work more quickly to help to 
resolve that uncertainty.
    Now an individual auditor though who has a problem with a 
decision that's being taken should take it up line, but the 
complaints I'm hearing is there may be more in those individual 
returns. That conceivably is true, but I'm not hearing 
complaints that we're taking them off line and sending them 
home to watch TV or get trained. They're going off to do other 
work as indicated there and to touch more corporations.
    I think that's a better answer.
    One final point on this, do you have the chart on the 
growth? Yes. This shows the growth in the last several years of 
corporate tax receipts as the green line is the growth in just 
overall dollars and they've come up sharply in the last several 
years and also as a percentage of GDP.
    When I got on this job, I was getting a lot of tough 
questions about how come they're so low? You've got to get in 
there. I would be concerned about what I'm hearing from a macro 
point of view if this wasn't recovering or we weren't setting 
up more dollars, but it's a tough issue. I know it's tough, 
particularly if you think you can do more on an individual 
case, but we're just saying we want you to go work somewhere 
else and get some money there.
    Chairwoman Velazquez. Okay. I have one final question as 
this will be the last time you come before this Committee. When 
are you leaving for your vacation? And where are you going?
    Mr. Everson. Soon, soon. We lived in France for three years 
and we had a joy in 1996 of going on a boat, you know where you 
rent a boat, our family, and you cruise down a river for a few 
hours and you stop and wander around a village. My wife and I 
are going to do that and we're in the Cognac region and 
hopefully we'll get good weather. We're taking a bit of a 
chance here. We've got an 18-year-old, a 20-year-old and 
they're in school, so they're going to be home alone.
    (Laughter.)
    As my mother said, this is a vote of confidence in them and 
we think it's going to go well, but we'll see.
    Chairwoman Velazquez. I guess it's going to be a vacation 
for you and for them.
    Mr. Everson. That's it. That's it.
    Chairwoman Velazquez. Well deserved. Thank you for your 
service, sir, and I just would like to ask you, we are going to 
have a second panel and for you to identify the person, your 
staff person that will remain here?
    Mr. Everson. Yes, okay, in case there are follow-up 
questions. I think that would be Cathy. Kathy Petronchak is 
here and also Beth Tucker and Mark Mazer is the head of our 
research group if you want Mark to stay. He can certainly stay 
as well, because this gets into the question of the tax gap 
methodology.
    Chairwoman Velazquez. Thank you and you're excused.
    Mr. Everson. Thank you, and I just want to say it's always 
a pleasure to be here with Don Alexander. He's a real sort of 
icon of the tax community.
    Chairwoman Velazquez. I would ask the second panel to take 
their seats. We have to put some chairs there. Thank you very 
much.
    Well, I want to welcome all the witnesses, and I want to 
thank you for your participation in this important hearing. You 
will be given five minutes to make your presentation, and your 
complete testimony could be entered into the record.
    So we are going to start with Mr. Keith Hall. He is the 
primary consultant available to the self-employed and micro 
business owners through the National Association of the Self-
Employed Tax Talk Service. He has been involved in providing 
consulting and tax services to small businesses for the last 10 
years through the accounting firm of Hall and Hughes in Dallas/
Fort Worth. He is testifying on behalf of NASE.
    Welcome.

  STATEMENT OF MR. KEITH HALL, NATIONAL TAX ADVISOR, NATIONAL 
               ASSOCIATION FOR THE SELF-EMPLOYED

    Mr. Hall. Thank you. Madam Chair, members of the Committee, 
thank you so much for the opportunity to be here today 
representing micro business owners. From a professional 
standpoint, I am first and foremost a small business owner. I 
have a small tax and accounting practice in Dallas, Texas. We 
have an administrative person, three staff accountants, and me. 
That is it--pretty small, but we have created five jobs where 
none existed before. To me, that is what small business is all 
about.
    Outside of my kids, I am more proud of those five jobs than 
anything else I can think of. There are over 20 million men and 
women just like me out there creating jobs every day one job at 
a time.
    Through the National Association for the Self-Employed, I 
get a chance to visit with thousands of those small business 
owners every year. Most don't ask a lot from the IRS, maybe 
because they don't have time, but mostly they just want a fair 
shake. The problems that you face every day are more 
complicated than those that we face, and certainly the 
decisions that you make affect a lot more people. But today we 
share the same problem in the form of the tax gap.
    There is no doubt that the tax gap is a significant issue. 
There is no doubt that something needs to be done, and there is 
no doubt that you are the ones that can do something about it. 
But after that, I have some doubts.
    The proposals that the administration and Congress are 
considering include increased reporting on credit card 
transactions, requiring ID number verification, TIN 
verification, implementing voluntary withholding on independent 
contractors, and several others affecting micro business 
owners. There is more detail in my written testimony, including 
some new ideas on how to increase compliance with minimum 
burden on small business, but I didn't want to put everybody to 
sleep this close to lunch.
    In general, each of those ideas will provide more data, 
more information, which always seems like a good idea, but at 
what cost? One issue is that we can't tell what any of these 
ideas will really cost. All of the ideas expand current 
reporting systems or create new regulations, which will require 
additional manpower, technology, and infrastructure, both for 
the IRS and for small business owners trying to comply with 
those new rules.
    The only thing we know for sure about the cost is who is 
going to pay for it, and that is us. Worse, we don't know the 
true benefit, and we don't know for sure how any of the new 
information will be used. There is a reasonable chance that 
none of the ideas will help the problem at all.
    About two months ago my sister noticed a burning smell 
inside her new car. After several trips to the shop, several 
different diagnostic tests, nothing worked. They checked 
heating coils, oil gaskets, and even the seat warmers. But it 
turned out to be a plastic bag stuck to the muffler underneath 
her car.
    That is not a great example, but the point is, no matter 
what they are going to do to the heating coil, it is not going 
to affect the smell of that burning plastic bag. I am afraid 
that credit card reporting, TIN verification, 1099 withholding, 
are all heating coil tests that have no chance of fixing the 
problem.
    The plastic bag here that is causing things to smell funny 
is the complexity of the Tax Code itself, as we have heard 
before. Most small business owners are scared to death of the 
IRS. Most are scared to death of their own tax return. They 
just want to do what they are supposed to do when they are 
supposed to do it.
    But let me be more specific. Several weeks ago, 
Commissioner Everson and Assistant Treasury Secretary Solomon 
held a roundtable discussion about the tax gap. After opening 
comments from everyone, Secretary Solomon proposed a question 
before a group for conversation. His first scenario was let us 
assume a small business guy who provides services and gets paid 
in cash but doesn't report that on their tax return. What do we 
do? That was his emphasis for the discussion.
    I think it is interesting that he chose that example, 
because that is what most--most people think the tax gap is 
caused by. The question I have is, I mean, obviously that guy 
is contributing to the tax gap, but which of the proposals that 
we are talking about is going to catch that guy? And I think 
the answer is none of them, and that is my real fear.
    I hope it doesn't sound like I am against any and 
everything, because I want that guy caught also. Every dollar 
that he doesn't pay is a dollar that I have to pay. But adding 
more reporting, more paperwork, and more costs to taxpayers, as 
outlined in the current proposals, won't target those who are 
underreporting, and will only make it more difficult for those 
who are currently complying to continue to comply.
    I am afraid that we are shooting a bunch of arrows that 
really have no chance of hitting the target. My request of this 
Committee, as a micro business owner, is that no matter which 
arrows we choose to shoot, please make sure that they have a 
reasonable chance of hitting the target. And, more critical, 
please make sure that compliant taxpayers don't pay for the 
arrow with less support and less education.
    The Commissioner has often stated that enforcement plus 
education equals compliance. So please don't--please keep both 
of those components important. Don't sacrifice education for 
the sake of enforcement. Current assistance from the IRS helps 
compliance and reduced the tax gap through education. Again, my 
belief is that most people want to do the right thing, so 
please don't take away support from the people who are trying 
to do the right thing solely because of those who aren't doing 
the right thing.
    And, again, I appreciate the opportunity to be here. Thank 
you very much.
    [The prepared statement of Mr. Hall may be found in the 
Appendix on page 68.]
    Chairwoman Velazquez. Thank you, Mr. Hall.
    Our next witness is Mr. Paul Hense. He owns his private 
accounting practice in Grand Rapids, Michigan, which focuses on 
small business, personal tax, and financial advising. He is on 
the Board of Trustees for the National Small Business 
Association. He is speaking on behalf of the National Small 
Business Association.
    Welcome.

STATEMENT OF MR. PAUL HENSE, CPA, PAUL HENSE, CPA, P.C., OWNER, 
      ON BEHALF OF THE NATIONAL SMALL BUSINESS ASSOCIATION

    Mr. Hense. Thank you, Chairman Velazquez, and Ranking 
Member Chabot. I want to thank Todd McCracken from MSB for 
inviting me here, because I am a CPA from a small midwestern 
town. And to have an opportunity to come here and speak for my 
clients in the small business community is a real honor.
    I do want to mention, if I am a little grouchy, I just 
finished tax season. My suit is tight, because I haven't lost 
my tax season fat yet, so I am--may be a little temperamental.
    It is kind of interesting when this--when this came up, I 
ought to have mixed feelings. It is a little bit--I guess in 
pictures--put pictures in people's mind. I look at the 
additional paperwork. I am a little bit like an undertaker 
taking--being told there is a plague coming. Your first 
reaction is, oh, those poor people. But inside you are 
thinking, think of the money I am going to make.
    If you add another level of complexity to the tax law, as a 
CPA, with a--I guess it is a small practice, there is three 
CPAs and five or six staff people, depending on the time of the 
year. But that is how we make our business.
    I bought a new boat a year ago, and I think I was here 
testifying in another committee, and I made the comment that I 
was going to name the boat the Alternative Minimum Tax, because 
that is what paid for it. Whenever things get more complicated, 
as though--even though us accountants come here and complain, 
we make more money, but the problem is that is short-sighted on 
our part, because if we kill the source of our income in the 
long run we are going to suffer. So in the short run, over the 
next two or three or four or five years, I might make more 
money with these proposals, because I will set up the services 
to prepare these forums.
    On the other hand, I believe that these types of proposals 
are the type of thing I am--part of my reputation in Grand 
Rapids has to do with startup. We are good at getting people 
off the ground. It is getting harder and harder to get 
businesses off the ground, because there is more and more 
paperwork.
    And I guess a lot of older people--I am 64, a lot of people 
my age have always said this, ``The people coming up don't know 
what we knew when we were their age.'' On the other hand, I 
don't think that the more complexity we add to the tax law and 
to running a small business, the more we close the door.
    The expansion of information reporting is--I can see where 
the Treasury, the IRS would think that was a good idea. On the 
other hand, I am not sure the small business community can 
handle the burden.
    One comment--and I am not real good with names, but the 
Commissioner mentioned--I am always afraid I am going to 
mispronounce it or--but the Commissioner mentioned the credit 
card issue. That they looked at dry cleaners, that this would 
give them an idea--and this is the difference where I am a 
hands-on, up-to-my-elbows-in-it accountant working with small 
businesses all day every day. That is what I do.
    I don't deal a lot in statistics, but I do know this. If 
you checked a cleaners in--East Grand Rapids is our trendy, 
upper class part of town--you are probably going to see a lot 
of credit cards. Go downtown, you are probably going to see a 
lot of cash.
    So you have got to be real careful how you use statistics, 
because if you are in the guts of this thing, and you are 
working with it every day, and you work with the real people in 
the real situations, you sometimes see that statistics--figures 
don't lie, but liars figure. Well, it is not a lie, it is just 
that the thing doesn't really tell you what you think it told 
you.
    Another question that came up in my mind was this idea of 
providing the ID numbers for people you do business with. It 
seems that you are asking the small business community to do 
your work for you. We are going to collect more numbers, do 
more paperwork, ask people for more information. It just 
becomes overwhelming.
    So now not only do we have to keep track of how much we 
paid them, and their address, we now have to get their federal 
ID number. I see some problems with that.
    Blaming small business for the tax gap--I am going to tell 
you a couple of things--human nature. You can pass all these 
laws, and you can tighten the screws, and you can go all the 
way back to the Revolutionary times to see that the tighter you 
turn the screws, the smarter the real crooks get.
    As you do this and put all of this paper--this squeezing 
juice idea was a nice idea, because you go to everybody and 
make this push, but the real cheaters will figure out a way to 
get around the paperwork. That is just the nature of the way 
things go.
    One of the things that disturbs me in this is there is more 
burden going to be placed on small business, whereas the tax 
law is also inordinately unfair to us. We don't get the pension 
plans, we don't get the health care benefits, we don't get a 
lot of the tax breaks that normal everyday employees and 
government and big business get, yet when there is a problem 
you turn on us.
    You know, I can't go have my 401(k) plan double just 
because, well, I have got a little extra money. I have to go--
because I am the owner, I have to go through a lot of paperwork 
to get that benefit. The simplification is a big issue. It 
leads to some problems with some small businesses feeling set 
upon.
    Improved services--I think the IRS is doing a good job--am 
I out of time?
    Chairwoman Velazquez. Your time is expired.
    Mr. Hense. I am done. Thank you.
    Chairwoman Velazquez. But you could wrap up if you want.
    Mr. Hense. I am very concerned that this is like throwing 
we blanket on a hot fire. Small business, the engine that 
drives the economy, we don't want to put that fire out.
    Thank you.
    [The prepared statement of Mr. Hense may be found in the 
Appendix on page 75.]
    Chairwoman Velazquez. Thank you, Mr. Hense.
    Our next witness is Mr. James Brennan. He is a partner with 
Ernst & Young in New York City, practicing in their tax 
controversy and risk management services group. Prior to 
joining Ernst & Young in 1983, he was with the IRS Appeals 
Division. Jim is testifying on behalf of the American Institute 
of Certified Public Accountants.
    Welcome.

STATEMENT OF MR. JAMES E. BRENNAN, CPA, ERNST & YOUNG, LLP, ON 
  BEHALF OF AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS

    Mr. Brennan. Thank you. Myself and the AICPA want to thank 
the House Small Business Committee for this opportunity, for 
this hearing on the tax gap, the impact on small business, 
where small business, you know, plays in this whole tax gap 
debate. And I find this a very wonderful debate, and not very 
simple, by the way.
    We support the Congress' efforts and the administration to 
identify ways to close the gap. We have heard a lot about 
enhanced information reporting, increased IRS audit activity, 
and we think there is a spot in the tax administration for 
those measures, but the overriding feature is to minimize 
burden. And we have heard that from everyone today.
    Make sure that--again, the juices work the squeeze. Cost-
benefit analyses, and looking at the data--the research data is 
so important, and one of your colleagues, or maybe it was 
yourself, talking about getting the data from the large 
business. It is not there.
    I am sure there are assumptions made from the data that is 
15 years old, but I can--we can see that the data that is more 
current, which impacts individuals and small business, if there 
are problems there, they should be addressed. But keep the 
burden reasonable, practical, and don't hurt the honest person 
unduly.
    Customer service is vital. Recently, the IRS has just 
issued Phase II of its tax assistance blueprint. The AICPA 
looks forward to working with the IRS as they implement the 
various facets of this blueprint. There should be a greater 
emphasis on research, continual research.
    We reiterate our call to the IRS to maintain a high level 
of outreach and dialogue with its stakeholders, and for the 
Service to continuously refine its tax gap data, including 
further analysis of the components of the tax gap, before any 
hasty legislation is enacted. I wonder if anyone would be 
surprised if two years from now we look at the tax gap, and we 
guess that it is double what we say it is today, and that maybe 
it is from an area that is not the areas that have been 
identified heretofore.
    We would also like to commend Chairperson Velazquez for 
including the small business--including in the Small Business 
Tax Flexibility Act, which could give certain S corporations 
and certain partnerships that are starting up the flexibility 
to adopt a tax year-end that makes sense for that business, 
rather than a mandated year-end. Another area that has been 
tossed around recently in the press are increased tax penalties 
and how that might put a dent into the tax gap.
    We are concerned that many of the civil penalty proposals 
are being raised by the Congress in a narrow rifle-shot 
perspective. You might use the word ``haphazard.'' Instead, we, 
as an organization, believe greater levels of tax compliance 
could be achieved if Congress established a broad legislative 
oversight process similar to that which was used in the 
drafting of the Improved Penalty Administration and Compliance 
Tax Act of 1989. We believe that by using a broad process not 
only would you have higher levels of tax compliance, but there 
would be a much better view of fairness in the system.
    Lastly, a comment on some recent proposals that came out of 
the Joint Committee on trying to neutralize--trying to 
eliminate self-employment tax or FICA--Social Security tax--as 
being a determinant in picking the choice of an entity, be it 
an S corp or a partnership.
    Currently, the way self-employment tax or FICA is paid by 
the owners of those different entities--S corp and 
partnership--are distinct. They are quite different. And one 
could pick the choice of an S corporation if they wanted to 
minimize somehow payment of that tax.
    But from our research and from the studies that we have 
done, we believe that the choice of entity, while one factor 
might be the payment of self-employment tax, we do not believe 
it is a driving factor. So to conclude, what we--as the AICPA 
believes, it is premature to enact either of the Joint 
Committee tax proposals that deal with this without first 
identifying whether a self-employment tax avoidance problem 
truly exists, and, if a problem exists, the IRS should first 
utilize its existing enforcement capabilities.
    Thank you.
    [The prepared statement of Mr. Brennan may be found in the 
Appendix on page 84.]
    Chairwoman Velazquez. Thank you, Mr. Brennan.
    And I will recognize Mr. Chabot for the introduction of our 
next witness.
    Mr. Chabot. Thank you, Madam Chair, for permitting me to 
make this introduction. It is a great honor to introduce our 
next witness. Although we have had a very distinguished panel, 
I want to recognize this particular gentleman, The Honorable 
Donald C. Alexander, who was the IRS Commissioner from 1973 to 
1977.
    His expertise includes corporate taxation, the taxation of 
partnerships, insurance companies and their products, and 
employee benefits matters. He is now a partner at Akin Gump, 
and I just want to say that he literally is an institution in 
this town. We have had an opportunity to talk with him many 
times over the years about a whole range of issues.
    And he is--not only that, you know, there is a group of 
people that has been called the greatest generation, Don 
Alexander was also one of our World War II veterans. We are 
losing them at about the rate of 1,000 a day in this country, 
and he fought for his country and was in combat. And it is 
just--I can't say enough about this gentleman who is our next 
witness.
    Mr. Alexander?

  STATEMENT OF THE HONORABLE DONALD C. ALEXANDER, FORMER IRS 
    COMMISSIONER, PARTNER, AKIN GUM STRAUSS HAUER & FELD LLP

    Mr. Alexander. Thank you very much, Mr. Ranking Member, 
Congressman Chabot, whom I have known--had the privilege of 
knowing for many years, and the equal privilege of living in 
Cincinnati, which you have represented extremely well all those 
years.
    Thank you, Madam Chairwoman, for having this hearing on 
this very important subject. By the way, thank you for your 
earlier hearing, on March 22 I think it was, where you 
discussed what we are discussing today, where you saw a 
proposal which would have an enormous squeeze yielding little 
juice, and that was withholding on government contract 
revenues.
    Now, the Treasury has proposed certain measures--and others 
have, too--to try to deal with the tax gap, to try to be able 
to assure the honest taxpayer that those who would cheat their 
fellow taxpayers are going to be called to account more than 
they have been in the past, more than they are in the present.
    All of us have a duty, unfortunate as it is, to pay our 
taxes, and most of us--and that includes small business of 
course--meet that duty well. The duty is a very difficult one 
to meet, because our tax law, as has been pointed out by the 
members of this Committee, is so unbelievably complicated. 
However, when one says, ``Hey, simplify the law and that will 
solve the problem,'' great. When is the law going to be 
simplified, if ever?
    We call on the Internal Revenue Service to try to 
administer at least half our discretionary expenditures in our 
entire budget. Internal Revenue has to try to determine, for 
example--taking a new one--whether a car is environmentally 
friendly enough to deserve a subsidy. Why on earth doesn't the 
Department of Transportation do its job and make that 
determination?
    Well, there are some very good reasons. There are some very 
good reasons that turn not so much on policy as on the 
necessity of having a Congress continue to be concerned about 
national issues. And to be concerned about national issues and 
do something about it, you have to be reelected. And being 
reelected is tough if you were to undertake a genuine deep-
seated simplification of the Code as we tried to do in 1987.
    So we have a tax gap. We have got an enormously complex 
code. You have an excellent Commissioner of Internal Revenue in 
office right now. I wish he were going to stay 10 more years, 
but he is not, and he needs support. We need to recognize that 
there is a gap. We need to recognize that we do need to have 
some more juice in the reduction of a gap measured at $345 
billion gross. I think it is probably closer to $500 billion 
for the reasons stated very briefly in the statement that you 
are willing to put in the record.
    Should we do something about it, or forget about it? I 
don't think we can forget about it. I don't think that's unfair 
to the many people who cope with their tax responsibilities. 
But having in mind, again, the need to get the maximum amount 
of juice from the minimum amount of squeeze what you need to do 
is to avoid withholding as a remedy. Withholding deprives small 
business of the essential working capital that they must have 
to survive.
    You need, then, to turn to the least obtrusive, the least 
expensive, the least difficult remedies. A selection out of 
some of those in the Treasury's proposals and other proposals 
would be useful, and joint staff is reviewing, I understand, 
the burden, and indeed the burden is something of great 
interest to all of us, including even former tax collectors.
    Thank you.
    [The prepared statement of Commissioner Alexander may be 
found in the Appendix on page 93.]
    Chairwoman Velazquez. Thank you very much.
    Our next witness is Mr. Joe Samuel. He is Senior Vice 
President of Public Policy of First Data Corporation, where he 
leads the company's federal and state government advocacy 
initiatives, as well as their community outreach program.
    In addition, Mr. Samuel serves as Chairman of the board of 
the First Data Foundation, which is First Data Corporation's 
philanthropic organization.
    Welcome, sir.

  STATEMENT OF MR. JOE SAMUEL, SENIOR VICE PRESIDENT, PUBLIC 
                 POLICY, FIRST DATA CORPORATION

    Mr. Samuel. Thank you. Good afternoon, Chairwoman 
Velazquez, Ranking Member Chabot, members of the Committee. I 
am pleased to be here today to talk about First Data's role in 
the payments industry and, frankly--and talk about merchant 
processing and really the costly impact that the IRS's proposed 
credit card plan would have on small businesses and payment 
processors such as First Data. Frankly, we believe that the 
consequence of this proposal will have an extremely highly 
negative impact on small businesses as well as payment 
processors such as First Data.
    Now, not long ago, the Committee heard from the IRS 
Commissioner about many of their tax gap proposals, and there 
was some talk about--high-level talk about this credit card 
plan. And while I think the plan has been portrayed as being 
very simple and very easy to implement, I am here to tell you 
in fact that it is a very difficult plan.
    At best, it is flawed and challenging, and, at worst, it is 
flawed and unworkable. And here is why, frankly. And there is a 
lot of detail in my written testimony, so I am just going to 
take a few minutes just really to highly summarize some of the 
question marks that we think should be raised about this 
particular IRS proposal.
    First, again, the data as we see it would be highly 
inaccurate. Second, it is going to be very costly. And unless 
the government is willing to help pay for the considerable 
resources and costs that would be expanded to pay for this, I 
think it is fairly unworkable.
    Third, we believe that this proposal could encourage 
merchants, particularly smaller merchants, to steer customers 
away from certain payment methods and to steer them more into 
particularly cash payments, because of the costs. And, fourth, 
I think a good question the Committee should pose to the IRS 
is, you know, does the Treasury and the IRS--do they have the 
tools necessary to read this kind of information that they are 
talking about?
    Essentially, it is akin to me to opening up the spigot on a 
fire hydrant and putting your face in front of it. Do they have 
the tools necessary to read this information and understand it? 
Even if they did, this accurate--this data would be inaccurate.
    So I am going to take just a minute to talk about--to give 
you some examples of why this information is going to be 
inaccurate. First and foremost, there was some talk earlier 
about how a merchant here in Washington, D.C., a restauranteur 
took 95 percent of his or her payments by credit card 
transactions.
    Well, I am here to tell you that data varies. It varies by 
merchant, it varies by location, it varies in a number of 
different methodologies, and I think Mr. Hense talked about 
this just a few minutes ago. I can tell you that a merchant who 
is a plumber, an electrician, a carpenter, does not have to 
take 95 percent of their transactions via credit cards.
    So to extrapolate the data that was initially talked about 
earlier to all small business merchants, frankly, is doing a 
disservice to them, and it is going to be very costly for them.
    Second of all, I think it is important to note--I have got 
a quick example of another reason why this would be inaccurate, 
why the data would be inaccurate. Many of you--many of us here 
in this room use our debit cards every day to make purchases, 
and we have a feature on our debit cards called a PIN. Use your 
personal identification number to sign electronically for a 
transaction.
    So, for example, I may go to Safeway, and I decide to buy 
$60 worth of groceries for the week. And then, I said, ah, you 
know what, I forgot that I need to get some cash. I need some 
cash; I am going somewhere. So I decided to get $40 in cash, 
and using my PIN with my debit card allows me to get cash back. 
It is called cash back at the point of sale.
    Well, I do that. That is a $100 transaction. That is what 
the IRS wants payment processors like First Data to present to 
them to show, okay, this business had $100 in transactions. 
Well, I can tell you right now that is incorrect. $60 of that 
transaction was actual business transaction, it was, you know, 
me buying something from the store, from the little bodega down 
the street. $40 of it was cash back.
    So, in other words, what I am saying is we would be over 
reporting numbers on small businesses to the IRS. That puts 
them at a significant disadvantage, because then they are going 
to be facing--they are in the burden--now they have the burden 
of proving themselves innocent when they didn't do anything 
wrong.
    And I think that is a significant issue that we wanted to 
bring up to you. There are a lot of other issues, but in the 
interest of time why don't I stop there.
    But ultimately what I would like to say is this. We urge--
we strongly urge, I think all of us on this panel do, members 
of this Committee and members of this Congress to slow down 
this particular IRS process. No one here is against encouraging 
and going after those who don't pay their taxes, but it is how 
the IRS goes after--this plan that they have in place, how they 
go after and solve this tax gap issue, frankly, is a real 
issue.
    So, again, we urge you to slow this process down, because 
the last thing I think would be helpful is to put significant 
burdens on either the payments industry or financial or small 
businesses where you are hurting this backbone of our nation's 
economy.
    So with that, I will conclude my statement. Thank you.
    [The prepared statement of Mr. Samuel may be found in the 
Appendix on page 95.]
    Chairwoman Velazquez. Yes, Mr. Chabot.
    Mr. Chabot. Thank you very much, Chairwoman. And before I 
ask questions, just one comment that I would make, and I think 
this--personally, it has been very helpful having this hearing, 
and I want to, again, commend you for holding the hearing on 
this tax gap issue.
    I want to just make this comment, that I think that we need 
to be careful that we don't let kind of this concept of this 
sort of pot of gold at the end of the rainbow, that there is 
this $350 billion a year, maybe as much as Mr. Alexander 
indicated, maybe $500 billion a year that is there, and all we 
have to do is find a way to collect it. And it allows--because 
it pretty much matches up fairly closely with what the deficit 
has been on an annual year, and perhaps Congress doesn't need 
to be restrained in its spending. We just need to get those 
resources that are out there.
    And so I think it is incumbent upon Congress not to have 
that attitude, that it is just a matter of collecting it, and 
we can continue to spend with reckless abandon, as I am 
concerned that Congress has done under Republican control, and, 
unfortunately, may well do in the future. I hope not, but that 
is just a point that I wanted to get out there.
    Secondly, Mr. Hall, if I could go to you first. Relative to 
the groups that you represent, and it is self-employed people, 
you are a tax advisor to them, is that--
    Mr. Hall. That is correct.
    Mr. Chabot. Have you seen an increase as more and more 
people, for example, are falling into the AMT now that weren't 
involved in it perhaps over the years, and since it wasn't 
indexed and more people find that they have to figure it out--
are fewer people perhaps figuring out their own taxes and going 
to an advisor now because they--it is too complicated for them 
to figure it out? Is that an issue with some of your people at 
this point or--
    Mr. Hall. I think it is an issue. I think over the years 
technologically always is going to pull more people from a 
manual method to an automated method, whether there is some 
software package that they actually use, whether they use an 
online filing option. I think there are more people moving 
towards that.
    But that may be one key difference between small business 
in general and micro business owners is access to resources, 
whether that is a 30-person company who has one of those people 
allocated to maintaining compliance with these issues versus 
the micro business owner which may only have two people, and so 
one of those individuals now is having to stop one of their 
other jobs because they all wear multiple hats.
    So the cost to that micro business owner, even if they do 
have that automated software package, it is still taking them 
away from managing their business. I think they had talked 
about the average cost for keeping up with just employee 
reporting was $1,200 per employee.
    Well, I would contend for the micro business owner it is 
even more exaggerated than that, because the owner is not 
making a sales call, or he is not providing services because he 
is having to take away from the growth side of his business to 
meet the needs of compliance with the Tax Code.
    So I think automated process still is an assistance point 
there, but a big piece of micro business owners still fill out 
the return forms at their kitchen table on April 14.
    Mr. Chabot. Okay. Thank you.
    Mr. Hense, if I could go to you next. I think it was Mr. 
Hall that mentioned that small business folks, and individuals 
for that matter, are, you know, currently scared to death of 
the IRS. And not to offend any of the IRS folks here, but I 
think that is just kind of a fact, that most individuals are, 
no matter who they are. I am sure the President probably is as 
well, quite frankly.
    But do you think that the additional things that we have 
heard discussed here relative to tying to go after this so-
called tax gap there--let me put it this way. Are there any 
realistic things that you think we ought to be looking at that 
would make it--people more compliant without just attempting to 
frighten them more, for example?
    Mr. Hense. Well, I don't think there is anything wrong with 
frightening the real cheaters. Just scare them. I mean, I don't 
think anybody here--I don't and the National Small Business 
Association doesn't--I don't think anybody here wants to defend 
people who are truly cheating on their taxes. And if you catch 
them, in normal, if you do the crime, you will do the time. 
Well, if you do the cheating, you are going to pay the 
penalties, the interest, and maybe worse than that.
    The fear in an audit sometimes doesn't come from the fear 
of getting caught cheating, it is the fear of being asked a lot 
of questions about a lot of technical things that may or may 
not be correct--dealing with Section 125 plans, dealing with 
simple plans, dealing with accounting's contractors, with 
inventory issues, dealing with cash versus accrual.
    I asked an auditor one time, ``What is your favorite 
situation to walk into?'' He said, ``QuickBooks and non-
licensed accountant.'' He said they are just--you have an 
accounting system that anybody can pick up and put any amount 
of numbers in they want, and they may print an accrual, they 
may print a cash, and then you have a lot of tax practitioners 
out there now.
    My office spends a lot of money on training, and we--but 
there's a lot of people out there who aren't spending money on 
training. They are just doing this work, no training, no 
background. They just QuickBooks, they get a tax program, and 
they are a professional.
    So the fear in the audit isn't so much, God, they are going 
to find out I hid $100,00; it is that they are going to find 
out my Section 125 program is flawed, I didn't do something 
right on my pension plan, they are going to take that away from 
me.
    I don't have any problem with scaring cheaters, and I don't 
have any problem with prosecuting cheaters. But my concern is 
the fear of the IRS isn't in that area of really cheating, I 
don't think. A lot of it is just, oh, my God, what little thing 
are they going to find?
    Payroll--people on the payroll versus subcontract labor. 
Some companies use a lot of subcontract labor legitimately and 
under the right rules and doing it right. They are still scared 
to death they will get a zealot auditor who will come in and 
say, ``Those people are employees; they are not subcontract.'' 
And you can destroy a small business with that.
    So scare them--scare the bad ones, yes, and go get them. 
But the good people, treat them right and let them be.
    Mr. Chabot. Thank you. I am going to--I have questions for 
each one. I am going to--try to keep the answers, if you could, 
relatively brief.
    Mr. Hense. I am sorry, yes.
    Mr. Chabot. Just so we--that is okay. So we can get it 
done.
    Mr. Brennan, is there--could you discuss briefly how much 
time folks in your profession have to devote to retraining or 
continuing to keep up with the laws as Congress is changing 
them, or whatever the IRS interprets them, so that you are able 
to continue to provide service to the folks that you represent?
    Mr. Brennan. It is actually a very significant amount of 
time. Various states mandate, you know, various numbers of 
hours. I am with a large firm. I probably spend 150 hours a 
year on education. That is not mandated by the state, but that 
is what our firm requires. And then, there is always incidental 
absorption of education.
    Mr. Chabot. Okay. Thank you.
    Mr. Alexander--and, again, it is a real honor to have you 
here today. And you had mentioned that we have sort of been 
throwing out the figure that we think that the tax gap could 
be, say, $345-, $350 billion a year. And in your testimony you 
thought that it could be up to $500 billion a year perhaps. Is 
there any particular reason that you think that might be the 
case, or anything you would like to add to that comment that 
you made, which I thought was kind of interesting?
    Mr. Alexander. A good question, and there are several 
reasons. The first reason is that the tax gap does not measure 
all of the non-compliance with all of the taxes that we impose. 
We impose excise taxes. The biggest excise tax is, of course, 
the gasoline tax. The tax gap of $345- assumes 100 percent 
compliance with all excise taxes.
    It also ignores the illegal sector, because it is very hard 
to measure the illegal sector. If you can measure it, that 
means you have found it. If you have found it, you ought to do 
something about it. So the tax gap is--$345- is I think clearly 
lower than what the number is. I don't know what the number is.
    I would like to add one tiny comment to my distinguished 
colleague's mention of scare the bad guys. One of the problems 
the IRS has is that it doesn't know who the bad guys are. It 
knows that there is some cheating out there. Let us face it, 
there is some. But if it is going to scare only the bad guys, 
it has got to figure out who the bad guys are, like figuring 
out what the illegal sector is.
    So, regrettably, it scares some people that shouldn't be 
scared. But if didn't scare anybody at all, it would fail to 
scare some people that I think all of us at this table believe 
should be scared.
    Mr. Chabot. Thank you very much.
    And, finally, Mr. Samuel, you were in your discussion 
talking about the increased burdens that there might be on 
businesses if you had to report various transactions that 
aren't necessarily reported now. Are there any ways that you 
think it might make more sense than what they are talking about 
doing that? Or, a different question, if you--how burdensome 
would that be to some of these small businesses that might have 
this imposed on them?
    Mr. Samuel. Considerable. I mean, I am going to be very 
honest here. I mean, just for us, First Data is the largest 
payment processor in the world. It is a U.S.-based company here 
in Denver, Colorado. And so for us, we are talking millions of 
dollars, not even knowing the full scope of what the IRS wants 
to do.
    Those costs--we don't just absorb those costs, whether it 
is us or anybody else who is in this industry. We don't just 
absorb those costs, so it is going to flow down. Someone has 
got to pay for this. And if the government is not going to pay 
for this, who is left?
    And, frankly, it is going to hit the small business folks 
the hardest, and ultimately consumers, right? You and I are 
going to pay higher costs, right, for goods and services. But, 
frankly, it is the small businesses, the micro businesses, 
those who can least afford to pay these costs. And I think that 
is one of our biggest issues.
    And also, even at that, even if we could do this, because 
the payments infrastructure, how you make a payment--credit 
cards, debit cards, electronic checks, stored value cards--that 
infrastructure is completely different than a tax reporting 
infrastructure.
    And the IRS would make you believe that you can just flip a 
switch and, you know, combine these two. That is absolutely not 
the case. We don't have the same information, and so the 
concern is, again, the compliance costs of trying to match 
these two issues to provide the IRS what they are looking for. 
Those costs, building these systems, would be exorbitant, 
passing those on to businesses, particularly small businesses, 
and then, at the same time, Congressman, the data is still 
inaccurate. You are still going to get inaccurate data.
    Mr. Chabot. Thank you very much, Mr. Samuel.
    I yield back.
    Chairwoman Velazquez. Mr. Sestak.
    Mr. Sestak. Thank you. I just have one question to ask, if 
I might, I think of Mr. Paul Hense and Mr. Hall. And my 
question really does come from a concern for small businesses, 
since my district has lost 607 in the past three years. But at 
the end of the day--you know, I am trying to study this issue a 
bit. You know, at the end of the day, as much as I love the 
image of the juice, policy has to be made on facts.
    And the Commissioner stated that--and it appears as though, 
you know, out of the NRP study--and I know there is questions 
about that, but one fact that he brought forward is that it 
appears as though misreporting or, you know, compliance, that 
if you have a group that has to do reporting and withholding 
there is a non-compliance of 1 percent. And then, he walks 
through the facts that if it is just reporting it is 4 percent. 
And as partial reporting, it is 12 or 16 percent. But if it is 
neither, it is 64 percent non-compliance.
    If you accept that as somewhere in the ball of 
possibility--understand every study is off--what does that say 
to us about, as I also struggle on another committee, No Child 
Left Behind, where the challenge of gathering the data, which I 
think is correct--I think President Bush is right--has 
permitted people to then use that data in a certain way, what 
are these facts that I just said between withholding and 
reporting 1 percent--99 percent compliance to only 36 percent 
compliance if you don't have to report anything? And there is 
stuff in between. Sir?
    Mr. Hall. I think it is a good point, and I think at the 
bottom of the entire discussion is the validity of that data. 
And from a standpoint of micro business owners, I think the 
Commissioner had talked about his little formula. And I don't 
want to give anybody flashbacks to algebra, so don't have any 
nightmares, but he talks about compliance plus education--or, I 
am sorry, enforcement plus education equals compliance.
    There is only two variables in that formula that equals 
compliance. He indicated that a lot of that non-reporting, 
whether it is any of those percentages that you mentioned, were 
not a matter of education. His indication was people are not 
reporting by choice. It is not a matter of education.
    Well, consider the example of the guy who is--the plumber 
or the guy mowing the yard who gets $300 in cash for the 
services he provides. There is a requirement out there that 
1099 reporting, if that was provided to a business, is not 
required because it is under $600. Does that guy who is 
actually mowing the yards for that company know that the $300 
is still taxable income for him, or does he think it is not 
taxable income because it is not reportable on the 1099?
    At the end of the year, does he just add up all of the 
1099s he gets and that is his income, or does he have to add up 
all the cash? Clearly, he has to add up all of the cash. That 
is the requirement. But does he know that or not?
    Mr. Sestak. They always ask me in cash, not check.
    Mr. Hall. Well, the thing about the check, at least with 
the check--
    Mr. Sestak. They seem pretty educated out there.
    Mr. Hall. At least with the check he has to take that check 
somewhere to cash it. With the cash, he just puts it in his 
pocket and goes and spends that at Safeway for his groceries. 
That is never going to be traceable.
    The point I am making is I believe that the biggest impact 
in that algebra formula is on education, whether it is women's 
business centers or small business development centers.
    Mr. Sestak. Do you have any facts to show that? I mean, I 
have heard a lot of stories, very compelling stories--again, 
another man mowing a lawn--but I am searching for facts of what 
it is. For instance, the Commissioner--and, again, you know, I 
quizzed him on the other side why he was here, but he mentions 
the motor fuel excise tax example where there was the 
businessman who came forward and said, ``Look, we really do 
want more compliance. It makes our competition more fair.''
    And then, he also gave the example--and I don't remember 
it--of the five million dependents that all of a sudden were 
erased when something--with more compliance there. And so what 
I would be interested in is, in addition to the very compelling 
stories, is--and, you know, the examples of the lemon and all 
of that, what are the facts on this? Because this is a hard 
one. It is hard to believe, again, with such a deficit, but I 
do believe it is half a billion dollars, just based on 
inflation alone since 2001, you know, half a trillion dollars 
out there.
    And if we have a U.S. Government where people have claimed 
that we are accountable for our national treasure, and we are 
only getting $1 out of every $10 back, you know, in compliance 
or education, it seems we have to go another step. And the 
facts attendant to which is the best method--obviously, we have 
to redo the NRP study and all and go back and get the big 
business one, which hasn't been done since '98, but I would be 
interested on--if there were facts to show, you know, this. And 
I think that is what we probably lack here of making the 
story--I mean, making a wise decision.
    Mr. Hall. I will make a quick comment and then pass to 
Paul. But I think that is one of the issues we have is that we 
don't have the underlying facts. We are working on tax gap data 
from several years ago. The Commissioner even mentioned on 
several occasions, well, it will be several years before we 
know how that plays out. From the time somebody audits a 
return, it is two years after they file that return, and maybe 
another year by the time it is resolved.
    So I am not sure that those facts exist, but from my chair 
I have overwhelming fact, and that is every day I get questions 
from small business people who don't know what they are 
supposed to do with that $300. Now, that doesn't show up in the 
IRS statistics, but to me that is a fact that is undeniable. 
And I think that is where education always outweighs the 
opportunities for enforcement.
    Mr. Hense. I am a very strong backer of small business, and 
I believe in integrity, on and on and on and on, but I am not 
stupid. I know if somebody gets cash and there is no way to 
track it that there is a fairly good chance it is not going to 
get reported.
    The thing I am wrestling with, you are asking for 
statistics, we are not those kind of people. I mean, I am a 
businessman. I don't have access to that, couldn't generate it, 
don't have all that much interest in it. I am in the--I do 
things more on here it is in front of me as opposed to looking 
at a national statistic.
    Sometimes the cure is worse than the disease. If you had a 
cancer on your finger, would you cut off the finger, hand, arm? 
You can cure it, but how much are you going to take to do it? 
We have a problem, and none of us at this table know there is 
not a problem. If anybody here says there is not a problem, 
then they are not just not in touch with reality. I understand 
the problem. What we are talking about is methodology.
    If you say, ``There is this cheating going on, and here is 
what we are going to do. We are going to lay this whole thing 
on you where you are all going to file these forms. The 
government is going to take withholding, and you are going to 
be responsible for getting the ID number for that person. You 
make me responsible for his taxes.'' I have got enough 
problems. I don't need to be responsible for his taxes.
    So I absolutely understand that if the fear of punishment 
is not there we will have this problem. I believe the solution 
is smarter auditors, better trained auditors, more experienced 
auditors, who instead of over fooling around on the Section 125 
plan looking for some little mistake where they can snatch 
$4,000 from the owner or $2,000 from the owner, you go in, you 
look at the whole thing, get a feel for it, and if you are 
experienced and you have been trained right, you can get in and 
out pretty quick and know whether you have got a decent 
operation.
    If you have got somebody showing $25,000 a year in income, 
and they are living in a $400,000 house, then something is 
wrong. I mean, there is--I believe that rather than burden 
everybody with a greater problem, increased auditing--
obviously, I am not going to be particularly happy with that. 
But if you are going to increase the auditing, be smarter in 
the audits.
    And I may be getting off the subject. If I am, just tell me 
that I am going the wrong direction. 1120-S corporations, where 
the owner is showing dividends and wages and they are not 
paying Social Security on the dividends, and they are paying 
Social Security on the wages, how hard is it to look at the 
front page of an 1120-S and go--we have got to say a dentist 
making $400,000 a year, and that is an exaggeration by the way, 
and he has got $400,000 in dividends or distributions and 
nothing in wages, well, that is--probably you have got some 
non-compliance there.
    If he has got--if you pick up an 1120-S and they have got 
$80,000 in wages and $10,000 in distributions, they are 
probably doing it right. Some of this stuff is so simple and 
plain to find that I think that would be your first--the first 
thing to do would be smarter, better, more targeted audits, 
looking for underpayment--I am sorry, underreporting of income. 
And the second was take the information you have already got 
and use it better.
    Mr. Sestak. No, I appreciate--my time--I would just make 
one final comment, if I might, to you, sir. I honestly think 
your--some of your comments are spot on. I step back here, and 
even after looking at the three major proposals that have been 
mentioned, you know, the information reporting, payments to 
corporations, the merchant payment cards, and the certified 
TIN, even with those three that is only $1.6 billion a year 
against a half a trillion dollars of non-compliance.
    It comes back, obviously, to the Tax Code, as you say. 
Congress isn't going to address that. So somehow it has to be 
better at compliance than $1.6 billion out of half a trillion. 
That is peanuts.
    And I hear about education, but I doubt it is going to do 
much more. There has got--and it comes back to what you say, I 
mean, we are really dancing around a little bit of money here 
with all this effort.
    Yes, sir, I am sorry.
    Mr. Alexander. It is frustrating, because if you take all 
of the Treasury proposals, they add up to a very little bite in 
the tax gap that, as you point out, may well be understated for 
a whole host of reasons, one of which is simply time value of 
money. But it beats nothing.
    It would be wonderful to have smarter agents. It would save 
IRS, as well as taxpayers, a heavy burden that not infrequently 
results in a no change audit. No change audits are pleasant 
things at the end of the audit for the taxpayer, but it is a 
waste of the taxpayer's time and a waste of the agent's time, 
and sometimes the agents maybe miss things. The agents are 
going to continue to miss things, even under the direction of 
somebody as able as Commissioner Everson, who was with you 
earlier.
    Would that it were possible to simplify the law, a sensible 
law--and the last time we tried was in 1986, make the law more 
sensible than it had been the prior year, and we were halfway 
successful, only halfway because we left the alternative 
minimum tax in there unindexed to grow into the monster that it 
is today.
    And we did lose not just five million dependents, but 
actually seven million dependents by requiring--by imposing a 
burden on the taxpayer. The burden on the taxpayer--well, gee, 
you have got to get a taxpayer identification number for your 
dependent. Is the world going to come to an end if the taxpayer 
is required to do that? Some would so suggest, I believe, the 
world didn't come to an end. The seven million dependents that 
never existed came to an end, because they weren't claimed in 
following years on tax returns.
    Mr. Sestak. Thank you, ma'am.
    Chairwoman Velazquez. Mr. Alexander, you made reference to 
the 3 percent withholding for payment for government contracts. 
And in your testimony you said that it could have adverse 
impact on small businesses. As a former IRS Commissioner, I 
would like to ask you, can you speak to why this enforcement 
measure goes too far, and if you believe that this provision 
should be repealed?
    Mr. Alexander. Taking the last question first, I certainly 
believe that it should be repealed and should be replaced by 
information returns, not by nothing but by information return 
reporting. Information return reporting does, according to GAO, 
produce 96 percent of the revenue that should be reported, and 
withholding produces only an additional 3 percent.
    That is hardly worth it when you are depriving, by this 
provision--you didn't do it, but it was--Congress did it, and 
the President signed the law--when the taxpayers are being 
deprived by this provision of 3 percent of those gross 
revenues. Now, that is working capital, and that is really 
meaningful. That is not the burden of filing--of making an 
additional filing. That I think may be a little overstated 
here.
    But that is meaningful. That is highly adverse, and that 
does have or will have, in 2011, a very serious adverse impact 
upon small business that has any dealing, any contractual 
dealing with the government of the United States or the 
government of a state for that matter.
    Chairwoman Velazquez. Mr. Hall, I suspect that if these new 
withholding requirements are implemented that the self-
employed, particularly your members, will be impacted. Can you 
talk to us about the burden and costs of this requirement?
    Mr. Hall. Sure. Twofold--first, the cost is strictly cash 
flow. Withholding money up front, number one, treats all 
businesses, all taxpayers, the same. If there is a 3 percent 
requirement, or a 5 percent requirement, two small businesses 
could be totally different but their withholding requirement is 
going to be the same.
    And that particularly is cumbersome for a small business 
owner who is trying to grow, so they may have a number of 
employees out there doing the paint jobs for them--this is a 
painter. So their margin on a particular job may be low, 
because they are paying other independent contractors and/or 
other employees to do some of the work.
    And if their margins are low in that particular job, a 3 
percent withholding may be their entire margin. It could be 
half their margin. So if you talk about their personal cash 
flow, if they have got a 6 percent margin, just for an example, 
that is half of their personal money withheld up front.
    Compare that with an individual who does all the painting 
themselves, which I think may be the profile that initiated the 
plan to begin with, 3 percent may not be that much, because 
virtually all of the money is his personal money other than his 
supplies. But the big inequity there is that those two profiles 
of a business are treated exactly the same under that 
withholding concept.
    The second piece, of course, is they have to keep up with 
the activity. I think the National Association for the Self-
Employed has done surveys of its membership, and it still has 
about a fourth--about 24 percent of all its members still 
maintain some type of manual ledger, still keep track of their 
stuff with pencil and a piece of paper. And so now if they have 
got withholding on their contracts, that is going to be an 
additional burden for them to keep track of what exactly is 
their total revenue.
    And, again, that is just another hurdle and another 
allocation of resources they are going to have to keep up with.
    Chairwoman Velazquez. Thank you.
    Mr. Alexander, having served as the Commissioner of the IRS 
in the mid-'70s, do you believe that abusive tax shelters are a 
bigger problem today than it was back then?
    Mr. Alexander. No, they are a smaller problem today than 
they were back then. They were a bigger problem a few years ago 
before Commissioner Everson's activities brought an end, I 
believe, to the really abusive tax shelters and to the enormous 
leakage that we had from tax payments by the wealthiest 
individuals and by our largest corporations.
    We had tax shelters back when I was around IRS in those 
antediluvian days. They were simple shelters, dealing largely 
with fictitious cattle, like the 7,000 dependents that never 
existed but were being marketed heavily to people who were more 
interested in keeping their funds to themselves than they were 
in sharing their income with the country.
    Chairwoman Velazquez. Mr. Brennan, included in H.R. 46, a 
bill I introduced on the first day of Congress, is language 
giving most S corporations and partnership startups the 
flexibility to adopt any fiscal year end, from April through 
November. Do you believe this measure can in some way help to 
narrow the tax gap?
    Mr. Brennan. Well, we believe that having that 
flexibility--having that flexibility would enable small 
businesses, such as S corps and partnerships, to get better 
service from their outside service providers. I think the small 
businesses work hand in hand with your accountants, and this is 
as much of a benefit for the accountants as it is for the small 
businesses.
    I think in an obscure sense, when you have more time and 
the better time to work on something, you will get a better 
byproduct or a better result, and I think that would indirectly 
impact the tax gap.
    Chairwoman Velazquez. Mr. Hense, as I mentioned in my 
opening statement when the Commissioner was here, I am 
concerned that the administration proposal to require 
information reporting on payments to corporations, that it will 
have--impose a tremendous new paperwork burden on small 
businesses, while it is projected to narrow the tax gap by only 
a fraction of 1 percent.
    Could you please describe how this proposal will burden 
NSBA members?
    Mr. Hense. There is two parts to this. One, I am not sure I 
have totally got my arms around it. I understood originally 
that there would be a requirement for 1099s to be issued for 
services and for product. I am not sure now on that. I was told 
just before we got together here that it does not include a 
1099 for product.
    If it is for products and services, it is overwhelming. It 
is a you-can't-do-it kind of thing. So if it is just for 
services, that eliminates probably 80 percent of the filing. It 
is still a burden--one burden for products and services, it is 
overwhelming, and I don't believe it can be done. The other is 
if the requirement for issuing 1099s to corporations, when you 
keep the withholding issue out of it, that is a big thing to 
me. The withholding creates a whole other thing like payroll.
    We will have whole new companies blooming just to do or 
starting just to do the processing services for the withholding 
and the payment to the government. I am not happy with 1099s 
for corporations, but it wouldn't be as bad if it is just for 
services. More additional paperwork, more of a burden. I don't 
like it, but it wouldn't be the killer that the product would 
be.
    Chairwoman Velazquez. Thank you. Mr. Brennan, in a report 
issued last March, the General Accounting Office stated that 
the current IRS modernization effort, the business system 
modernization, did not have adequate policies and procedures in 
place to be consistent with proper management practices.
    In fact, as I understand it, the IRS still uses the master 
file system, which was designed during the Kennedy 
administration. You mentioned that modernization is a positive 
avenue for easing taxpayer burdens. What is your assessment of 
how the IRS modernization effort is going? And I would invite 
Mr. Alexander to make any comments, if he has any knowledge as 
to how the modernization process is going at the IRS.
    Mr. Brennan. Yes. I can't personally speak to how the 
modernization system is progressing. But I can attest to the 
fact that when a practitioner approaches the IRS, or a taxpayer 
approaches the IRS to get data, sometimes one might have to 
wait a month to get the data. You may make a payment to the 
IRS, and you want to see how it was posted to the IRS system, 
and if you made that deposit to your bank you could go on the 
next day and see that it is proper and it has been recorded.
    To do that with the IRS, you could be told by IRS, because 
of their system being so outdated, that they do things batch, 
they don't do it real-time, and you have to wait three weeks. 
So things of that nature need to be corrected, but I can't talk 
to how, you know, the progress is being made.
    Mr. Alexander. Nor can I, really, because I have been out 
of the tax collecting business now for 20 years. But I am sure 
that distinguished folks from IRS who are here will give you a 
response to that question shortly. Is that right?
    Chairwoman Velazquez. If there is anyone from the IRS? 
Would you identify yourself, ma'am?
    Ms. Petronchek. I am Kathy Petronchek. I am the 
Commissioner of Small Business Self-Employed. In terms of our 
modernization, we have had some stops and starts, but things 
are improving. I am a little bothered that it takes a month to 
get data, because we do have batch processing that is normally 
done each week. So there should be updates.
    And that was part of our modernization--to ensure that we 
could get information more timely, and that it was available to 
all of our employees across the country, because the old 
systems, they couldn't get information wherever they were 
located.
    So we have--I think the Commissioner has talked in some of 
his other venues about CADE, and that has come up, and how we 
processed more returns this year, not as many as we would have 
liked, but we are making improvements. So I think there are 
improvements, and we realize we have other things that we need 
to be doing as well.
    Chairwoman Velazquez. Thank you. Mr. Samuel, a report 
recently released by the Inspector General of the IRS raised 
concerns about the security of taxpayers' data at the agency. 
Could you please discuss First Data's concern with sharing this 
information with the government?
    Mr. Samuel. Yes, absolutely, Madam Chairwoman. What the 
IRS--as we see it, the IRS plan is really vague. But as we see 
it, the IRS plan would have us match taxpayer identification 
number, or, if you are small business you may not have a 
taxpayer identification number. If you are a sole proprietor, 
you may use your Social Security Number.
    Match that information with transaction data, and we think, 
you know, that could just be ripe for bad things to happen. So 
in order to help protect privacy, you know, on the one hand, 
for example, here in Congress, in this House of Congress, there 
will be a committee that will work here pretty soon to pass 
legislation restricting the use and access to Social Security 
Numbers.
    On the other hand, we have got a government agency that is 
saying, ``No, we want you to use more, take more.'' That is a 
concern to us, because what happens if there is a breach? Who 
is liable? This is not something that we do normally, but the 
IRS is asking us to do something like this. And so, you know, 
who would take on that liability and those responsibilities? I 
think that is a major concern, Madam Chairwoman.
    Chairwoman Velazquez. Thank you. Mr. Chabot, do you have 
any other questions?
    Mr. Chabot. Thank you, Madam Chair. Just let me conclude by 
saying I think this has been a very informative, very helpful 
hearing. I think we have had an excellent panel here today, and 
I just want to again reiterate things that I have said during 
the course of this and in the questioning.
    That I think what Congress can do, number one, is to 
simplify the Tax Code. I think we heard Mr. Jefferson indicate 
before that that's just not going to happen. I am not as 
pessimistic as perhaps Mr. Jefferson is about that. I think we 
should never give up on that effort, although thus far I 
haven't seen realistic evidence that it is going to happen in 
the near term. But I certainly--
    Chairwoman Velazquez. Maybe it will happen now under a 
Democratic-controlled Congress.
    [Laughter.]
    Mr. Chabot. Well, I hope so. If you can, I may switch 
parties and become a Democrat.
    [Laughter.]
    Not much chance of that happening, by the way.
    [Laughter.]
    Chairwoman Velazquez. Trying to convince yourself.
    [Laughter.]
    Mr. Chabot. We get along, but not that well. And I also 
would just encourage us not to use this quest for the so-called 
tax gap as a--you know, it is almost like going after the Holy 
Grail or this pot of gold at the end of the rainbow--we not use 
that as an excuse for the fiscal discipline that Congress 
should show under either Republican control or Democratic 
control. And, unfortunately, it too often fails to exercise 
that fiscal discipline, whichever party is in the majority.
    And, finally, I would just again reiterate that we not do 
what Mr. Bartlett had talked about before, and that is, you 
know, squeezing and squeezing and squeezing to try to get that 
juice. And, unfortunately, the people squeezed oftentimes is 
the small business folks who can least afford to be squeezed, 
because they are already burdened with and live in a very 
competitive environment.
    But, again, this has been an excellent hearing, and I 
commend you for holding it, and yield back the balance of my 
time.
    Chairwoman Velazquez. Thank you. I want to take this 
opportunity to thank all the witnesses. As Mr. Chabot 
expressed, it has been an excellent, excellent panel. It really 
helped us a lot.
    And let me just say that before, in previous Congresses, 
the Small Business Committee was limited in terms of 
jurisdiction. But since under the new Democratic leadership, 
our Committee's jurisdiction has been expanded, and it was 
included in the rules package that we passed. We intend to use 
this jurisdiction to make sure that we watch what Ways and 
Means and other committees are doing or will continue to do in 
terms of legislation that will have impact on small businesses.
    And I am proud to the fact that in my first day during this 
Congress I introduced legislation to simplify the Tax Code. So 
we are serious, and we want to make sure that we provide the 
tools for small businesses to continue to do what you do best, 
and that is creating meaningful jobs for our economy. So thank 
you all.
    And I ask unanimous consent that members have five 
legislative days to enter statements into the record. Without 
objection, so ordered.
    And this hearing is adjourned. Thank you.
    [Whereupon, at 2:33 p.m., the Committee was adjourned.]

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