Will Congressional Support for Minimum IRS Audit Levels Grow? For Now, Additional Areas of IRS Focus Continue To Emerge

House Representatives have introduced two bills to tackle the tax gap. The bills increase funding for IRS enforcement and technology upgrades, and set minimum IRS audit thresholds for high-income taxpayers and large corporations. According to the IRS Data Book, for 2018, the IRS audited only .03% of individual taxpayers with income over $10M, and only 3.6% of corporations with more than $20B in assets. The two new House bills mandate sizeable jumps to IRS audit activity in the near future.

Representative Ro Khanna (D-CA) proposes a $70M increase in IRS funding over ten years and includes the following minimum yearly audit levels by 2025:

• 50% of individual tax returns with total income of $10M or more
• 33% of individual tax returns with total income of $5M but not more than $10M
• 20% of individual tax returns with total income of $1M but not more than $5M
• 95% of corporations with more than $20B in assets
• 40% of returns reflecting taxes related to estates larger than $10M

Representative Peter DeFazio (D-OR) has reintroduced a bill to help the IRS collect billions in outstanding taxes over the next 10 years. The bill similarly provides additional funding toward IRS enforcement and technology infrastructure, and requires the IRS to meet minimum audit levels, including 50% of individuals with gross income of $100M or more and 90% of corporations with gross income of $20B or more.

Regardless of whether the House can successfully push minimum audit levels forward, the IRS continues to initiate new areas of focused enforcement. Amongst those are high-income taxpayers, the emerging asset class of virtual currency, business reporting of taxable asset transactions, and tax benefits claimed by those who have relocated to Puerto Rico. See also New Audit Campaigns Announced by the IRS Large Business and International Division.

Focus on High-Income Taxpayers

In May of 2020, the Treasury Inspector General of Tax Administration (“TIGTA”) issued a report criticizing the IRS in its efforts to audit and collect taxes from certain high income taxpayers. In June of 2020, IRS Large Business & International Commissioner Doug O’Donnell announced a high-income taxpayer initiative, focused on individuals with incomes of $100,000 or more who own a pass-through entity. Soon after, the IRS issued exam notifications to hundreds of high-income taxpayers and related entities. The high-income taxpayer initiative is in addition to the IRS’ existing global high wealth exam initiative. The global high wealth program focuses on high wealth individuals and the business enterprises they control, based on assets or earnings of over $10M.

Virtual Currency

One area where individual taxpayers should anticipate expanded attention is virtual currency. For 2020, the IRS emphasizes virtual currency as an emerging asset class by asking, at the top of the 2020 Form 1040, whether at any time during 2020 the individual receives, sells, sends, exchanges or otherwise acquires any financial interest in virtual currency. The 2020 instructions to Form 1040 clarify that a virtual currency transaction does not include the holding of virtual currency in a wallet or account, or the transfer of virtual currency from one wallet or account you own or control to another that you own or control. Similarly, Form 433 Collection Information Statements used by taxpayers to request payment plans from the IRS require a disclosure of any virtual currency assets. In addition, in Chief Counsel Advice 202035011, the IRS concluded that a taxpayer who receives convertible virtual currency in exchange for performing a microtask through a crowdsourcing platform has received consideration in exchange for performing a service. As a result, the CCA states that convertible virtual currency is reported on a taxpayer’s income tax return as ordinary income. The IRS has also developed a dedicated Virtual Currencies webpage to provide further education on the tax treatment of virtual currency transactions and to keep the public informed about related guidance in this area.

A challenge in this area is that information reporting requirements under IRC Secs. 6045 and 6050W do not specifically address virtual currency transactions. The lack of clear guidance for brokers and virtual currency exchanges has made it tougher for the IRS to identify virtual currency transactions and related non-compliance. The IRS continues to scrutinize this emerging asset class and lists information reporting guidance for taxable virtual currency transactions in its current Priority Guidance Plan.

With a strong push toward increased IRS audit activity for high-income taxpayers and corporations, documentation to support tax return positions and audit-readiness is key. Please reach out to your tax advisor to discuss recent IRS audit trends and to take steps to being effectively prepared to manage a review by the IRS.