AP Journal Online. American Accounts Payable Association.

In a 71-page report prepared for the Senate Finance Committee on “Costs and Uses of Third-Party Information Returns” [GAO-08-266, 11-20-07] the Government Accountability Office (GAO) examined the effect of expanding third-party information reporting requirements as proposed by the Bush Administration fiscal 2008 budget—to require reporting on:

• reimbursements by banks to merchants for the merchants’ payment card receipts; and,
• payments by businesses to corporations for services the corporations provided.

In this series of articles, Anne Lewis, Esq., reviews the report and findings that were largely based on nine case-study analyses, structured interviews, and additional research.

The objectives of the GAO report are to:

• identify the compliance costs of existing information reporting;
• determine the kinds of third-party compliance costs that may result from the two budget proposals (and options for mitigating those costs); and
• determine the IRS’s ability to process and use additional information returns.

Background: How Information Reporting Works and Why It Is Important

Information reporting involves third-party payers, such as employers or banks, filing returns with the IRS and taxpayers that provide information on a variety of the taxpayer’s transactions and payments, such as wages and miscellaneous income.

The IRS validates the accuracy of the names and taxpayer identification numbers (TINs) on the information returns. If accurate TINs are not provided—these are either a social security number (SSN), IRS individual taxpayer identification number (ITIN), or employer identification number (EIN)—the IRS can require third parties to withhold taxes from payments to the taxpayer (backup withholding). The IRS tries to match information from information returns filed by third parties against taxpayers’ income tax returns to see if taxpayers have filed returns and reported all their income.

It is not surprising that voluntary taxpayer reporting compliance is substantially higher for income subject to withholding or information reporting than for other income. The IRS estimates that taxpayers have consistently misreported only about 1% of their income for wages and salaries, which are subject to withholding and substantial information reporting. On the other hand, for income with little or no information reporting, the estimated percentage for tax year 2001 was about 54%.

Source: U.S. Government Accountability Office, Report to Committee on Finance, U.S. Senate,
Tax Administration, Costs and Uses of Third-Party Information Returns, November 2007.

Current Information Reporting Costs

Third parties incur costs internally, and may pay external parties to comply with IRS information reporting requirements. In-house compliance costs may include the cost of getting TINs, buying software, tracking reportable payments, filing returns with the IRS, and mailing copies to taxpayers. If the third parties seek external help, they incur out-of-pocket costs to buy software or pay for others to prepare and file their returns.

In the case studies undertaken for its report, the GAO said existing information return costs for filers of information returns, both in-house and for external payments, were relatively low. See Table 1.

Table 1. Accounts Payable Operations

Comparable Costs to Prepare and File Forms 1099

	# of Employees	Current costs/time
#1	Low thousands	A minimal addition to normal business costs.
#2	5 times number of employees as #1	Less than .005% of yearly staff time.
#3	< 5           employees	3-5 hours per year; filing manually, using accounting software to gather information.
#4	Small business employing about 20-25 people	1-2 hours per year to re-type and file Forms 1099 generated by accounting software.

For services provided by outside organizations, the report revealed that unit prices decreased as the number of forms handled increased.

• For one outside organization, prices for printing, filing with the IRS, and mailing decreased from between
  $3-$4 per form for five forms, subject to an overall fixed minimum of under $100, to well under $1 per form for doing 100,000 forms. (Prices for just filing with the IRS fell to $0.01 each after the first few thousand Forms 1099.)
• Prices from one vendor for off-the-shelf software for organizations to do their own preparation, filing, and mailing were in the low hundreds of dollars the first year and less afterwards for yearly updates.
• Prices from two other companies for preparing and filing Forms 1099 ranged from about $10 per form for five forms to about $2 per form for 100 forms, with one of them charging about $0.80 per form for 100,000 forms.

A number of proposals were offered in the GAO report to increase the percentage of information returns and increase revenue to the IRS. These proposals are summarized as follows:

Proposal: Payment Card Reimbursement

Banks and organizations that process credit and debit card payments for merchants would report the gross reimbursement payments made to merchants in a calendar year to the IRS. The IRS would compare reported amounts to the gross receipts that merchants reported on their tax returns and use information about discrepancies in selecting and conducting audits.

The GAO report considered the following compliance costs and mitigations in connection with this proposal:

Merging Information

Merging separately stored TINs and other merchant information would add compliance costs, especially in the case of multiple locations or franchises. For example, different hotels in the same chain may have the same TIN but different merchant identification numbers for payment card purposes.

The proposal could be made flexible so that parties reporting to the IRS could be banks or an unknown number of other entities, such as parent corporations, that are as close as possible to the merchant in the payment or reporting chain and, thus, knowledgeable about the merchant. Regulations could assure that the party actually
1) paying the merchant, or 2) preparing the report on which the payment is based, is the one reporting to the IRS.

Certified TINs

Costs would be incurred if the reporting requires that banks and others have their current merchants get TINs certified on an IRS form, such as Form W-9.

Current merchant accounts that have already supplied uncertified TINs could be grandfathered, although this may mean that many could be grandfathered for many years or even indefinitely. Or certified TINs could be required at a specific future date, but TINs could change and need to be monitored over time.

Backup Withholding

Costs would be incurred if procedures and systems are established to insert backup withholding into ongoing, complicated relationships to increase the probability of getting accurate TINs.

Legislation could be passed without a backup withholding provision, but this mitigation would limit the potential effectiveness of the proposal and risk losing revenue due to invalid TINs.

Tax and Accounting Years

Banks and others may need to field questions when cash versus accrual and calendar year versus fiscal year information reporting do not match merchants’ accounting systems and uncertainty is created.

The IRS could let banks and others know that it would work from the knowledge that years can differ for tax and accounting purposes. In any event:

• it is not planning an exact match but only a trigger for questions;
• almost all entities are on the calendar year basis;
• large percentages are on the cash basis; and,
• accrual taxpayers might be more sophisticated than others.

Reimbursements and Receipts

Because transactions involve cash backs, returns, tips, fees, gift cards, and other items, payment reimbursements may not match merchant receipts, creating costs for banks and others to the extent they have to address these discrepancies.

Since the IRS is not planning an exact match anyway, it could work to develop industry norms of net-to-gross ratios to evaluate information, although norms may not be foolproof or always possible. In addition, the IRS could deal with part of the compliance cost by modeling the reporting form after Form 1099-B for brokers and giving the information return preparer a choice on the form of gross or net information—but this mitigation could create insistencies across payers. Finally, to the extent that gross and net amounts might even out over time, concern could center on any that do not.

Security Breaches

Information on TINs in addition to merchant identification numbers flowing through the payment card system would increase the amount of confidential information that could be disclosed if a security breach occurred, creating clean-up and customer relations costs.

The number of links in banks’ and others’ systems between TINs, merchant identification numbers, and merchant payment card receipts could be minimized.

Legal Liabilities

Legal liabilities related to payment card operating rules may change. Various parties could be involved in considering legislative and regulatory details.

Software, etc.

Overall, software, hardware, systems, processes, and training would need to be developed, involving an uncertain amount of time and cost; banks and others would need to add service people to handle questions and inadvertent errors.

To limit overall compliance costs, banks and others could extend systems and procedures already in place that, for instance, might already generate and report related data used for other purposes. In addition, Congress or the IRS could provide lead time to allow banks and others to develop any needed software, etc.

Continue to read Part Two

About the Author

Anne S. Lewis, Esq.

Managing Editor, Payroll Information Resources
American Payroll Association

As Managing Editor of Payroll Information Resources for the American Payroll Association, Anne Lewis researches and writes Payroll Currently, the APA's biweekly payroll compliance newsletter, contributes regular columns to PAYTECH, the APA's membership magazine, manages the content of the “Forms, Pubs, Info” page on the APA website, and edits the handouts for APA conferences and audio seminars.

Prior to joining the APA in 2000, Anne spent 17 years as a legal editor working for Banks-Baldwin Law Publishing Co. (Cleveland, OH) and Warren, Gorham & Lamont, Inc. (New York, NY).

Anne holds a B.A. from the University of Michigan and a J.D. from the Fordham University School of Law. She is a member of the New York and Ohio bars.

The tax-year 2001 gross tax gap — the difference between what taxpayers should have paid and what they actually paid — was an estimated $345 billion.

Source: U.S. Government Accountability Office, Report to Committee on Finance, U.S. Senate, Tax Administration, Costs and Uses of Third-Party Information Returns, November 2007.

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Sign Up for a FREE Automated T&E Webinar on Sept. 4

The AAPA and CyberShift are teaming up to present “Ensuring Your Automated Travel & Expense Reimbursements Meet the IRS’ Requirements,” a free webinar. The webinar will also focus on finding ways to combat quickly rising business travel costs. The webinar is scheduled for Thursday, September 4 at 2 p.m. ET. Click here to register and reserve your seat for this informative event.

The one-hour webinar, taking place during National Payroll Week, will be presented by Jim Medlock, CPP, Director of Education and Training for the APA and Craig Fearon, Senior Product Director, Expense, for CyberShift. Medlock and Fearon will interweave their respective presentations, and will also set aside time for a question and answer session.

“The topic of travel and entertainment expenses is definitely of interest,” said Laura Hills, Vice President of Marketing for CyberShift. “Managing travel and entertainment expense from a legislative or compliance perspective as well as improving cost control is top of mind for many organizations today.”

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