Small Businesses and Expanded 1099 Filing Obligations

On November 18, the Senate Committee on Small Business and Entrepreneurship held a hearing - Assessing the Regulatory and Administrative Burdens on America’s Small Businesses. The focus was on the upcoming expanded 1099 filing requirements added by the health care legislation of March 2010.

I don't want to overlook the buried question of what is a small business? Dr. Winslow Sargeant of the Small Business Administration noted in his testimony - "There are over 27 million small businesses in the U.S. which is 99.7 percent of all businesses in America." It seems that to count the number, there must be some idea of what it means. The SBA does have definitions but they are different from the varied ones used in the Internal Revenue Code. For more on that topic, see my recent article, "The Many Sizes of "Small"."

Dr. Sargeant also notes a troubling point - "The cost to small businesses of tax compliance is over 300 percent greater per employee than the cost to large companies." I've written about these types of problems before and I think there are ways we can make compliance simpler and to remove obligations that are not really needed or where the cost benefit ratio doesn't justify them. The expanded 1099 requirement falls into that category.

Another person who testified was Larry Nannis on behalf of the National Small Business Association. With respect to the expanded 1099 requirement that become effective in 2012, he stated:

"The new 1099 reporting requirements stand to increase the average number of firms for which small-businesses must file a 1099 report from an average of 10 to an average of 86. Furthermore, small businesses reported that, among those 86 companies with which they spend more than $600 annually, only 30 percent of those purchases are made with a credit card." (The relevance of credit card purchases is that they will likely be exempt from 1099 reporting due to other 1099 reporting already required for such payments by the companies who process the credit cards (IRC Section 6050W)).

Mr. Nannis also refers to a proposal - the Information Reporting Modernization Act of 2010, that would raise the filing threshold from $600 to $5,000 and adjust it for inflation. He notes though that for his own business, instead of 2 1099s to file, he would have 37 (apparently because of the expansion of the filing requirement to businesses to which you have purchased goods, rather than just services).

I think the increase to $5,000 will increase the tax gap as more service providers will intentionally or unintentionally not report all of their income when fewer 1099s are received by them.

The Information Reporting Modernization Act (S. 3783) also proposed a technological improvement that really should be have been required as part of the 1099 expansion. It would require - "Enhanced Technology- With respect to returns required to be made in calendar years beginning after December 31, 2011, the Secretary of the Treasury shall upgrade the scanning technology of the Internal Revenue Service to allow for the submission of generic 1099-MISC forms downloaded from the Internal Revenue Service website, and shall establish a free online entry and submission mechanism."

For more on 1099s:

• The Senate hearing of 11/18/10 with links to testimony - here
• Small Business Administration testimony and letter supporting repeal of the expanded 1099 filing requirement - here
• The AICPA letter calling for repeal of the expanded 1099 filing requirement as well as the one added for landlords by the Small Business Jobs Act of 2010 (9/27/10) - here

Will the new 1099 reporting be repealed? It would be a good idea given that it is not really designed to lower the tax gap. Congress should find alternatives that really do address the tax gap without requiring compliant businesses to incur great costs. A challenge of course will be Congress to find a revenue offset that people will tolerate.

What do you think?

1099s - The Good, the Bad and the Ugly

Well, need I say more than that title? Information reporting forms are certainly a useful compliance tool, but perhaps not for everything. Having a small business issue 1099s for these purchases starting in 2012 would be pointless:

• $852 of office supplies purchased from Staples
• $2,592 of airline tickets purchased directly from the airlines
• $1,300 of services from their CPA firm

Issuing a 1099 for $700 of services rendered by a web designer makes sense though and existing law already covers that.

Where is the line between an action that improves compliance without causing unnecessary costs and burdens to reporters?

What are better steps to take to reach the taxpayers with the poorest compliance?

I've got a short article in this week's AICPA Corporate Taxation Insider on 1099s noting the problems with recent changes to greater use and alternatives - 1099s - The Good, the Bad and the Ugly.

What do you think?

Balancing Compliance and Collection - The Expanded 1099 Filing Requirement

One of my favorite statements about reducing the tax gap is from a 1995 GAO report. The statement is a good reminder regarding ideal tax system design. Here it is (GAO/GGD-95-157, page 13):

any change that would extend the reach of the tax system also would increase the extent to which the tax system would intrude into the public’s affairs and would need to be carefully considered. Thus, the bottom-line decision on whether to broaden the reach of the tax system to recover additional revenues due the government under current law would involve determining the right balance between (1) the acceptable level of compliance for each type of taxpayer and (2) the acceptable level of tax system intrusiveness to promote compliance."

I included this GAO observation when explaining the tax principle of "minimum tax gap" in the AICPA's Tax Policy Concept Statement on Guiding Principles of Good Tax Policy (2001).

I'm reminded of the GAO statement because of a recently released survey from the National Association for the Self-Employed. The survey looks at the increased compliance effort and cost for self-employed individuals due to the newly expanded information reporting rule requiring that 1099s be issued to corporations starting in 2012.

NASE reports that small business owners expect a 1250% increase in compliance work moving from about 2 filed 1099s to about 27. NASE also notes the costs from collecting the corporation's tax id number and if it is not provided, withholding taxes from payments. NASE observes that the new measure will require some small businesses to have to hire someone to handle the work for them.

NASE also points out that a bill has been introduced to repeal the expanded reporting - H.R. 5141 - Small Business Paperwork Mandate Elimination Act. This bill includes no revenue offsets so is unlikely to pass. The Joint Committee on Taxation estimated that the expanded 1099 filing requirement would generate about $17 billion over 10 years (JCX-17-10). I'm not surprised to see a bill to repeal the provision (and it has 87 co-sponsors as of June 21, 2010). With some of the health care provisions coming into effect in later years, there is plenty of time to call for repeal of some, but under PAYGO, that shouldn't happen unless the sponsor finds some way to replace the lost revenue.

Well, back to the compliance perspective of this post ... Will $17 billion really be raised by issuing 1099s to corporations? Are they really that non-compliant? Is there another way? What are the compliance costs of issuing the 1099s and the IRS processing them? Also, the bigger part of the tax gap stems from non-reporting of sole proprietors? Why is Congress ignoring this group? While it will be more difficult to reduce this tax gap, that doesn't mean Congress should not try. I refer to this as the "slow pace" of closing the tax gap (see August 2008 article).

So, does the expanded 1099 reporting requirement meet the proper balance of (1) improved compliance and (2) intrusiveness and cost of compliance? I think more information is needed. For example, which corporations will generate the $17 billion of revenue expected from this change? I doubt it is coming from publicly traded corporations or perhaps even those with audited financial statements. So, why not reduce the reporting?

What do you think?