GAO Issues Report on S Corporation Compliance Problems

The U.S Government Accountability Office issued a report on S Corporation compliance and its impact on the tax gap.  The report, GAO-10-195, contains both findings and recommendations to increase compliance.  

In a report to the Senate Finance Committee, the GAO discussed the results of the IRS’s National Research Project (NRP) on S Corporations.  The GAO found that, per the NRP, 68 percent of S corporation returns filed for tax years 2003 and 2004 had at least one item misreported that affected net income, resulting in a net underreporting of income of $85 billion.  The GAO also found that returns prepared by paid preparers actually had a higher error rate of 71 percent.

The GAO also noted significant problems for taxpayers in the computation of basis in their S corporation shares, resulting in taxpayers claiming losses beyond those allowed under the law.  The GAO suggests that S Corporations be required to prepare a computation of basis to be given to each shareholder.

The largest median adjustment was for shareholder compensation, amounting to $20,127.  The GAO noted that the largest adjustments in total for compensation took place on S corporations with a single shareholder, decreasing as the number of shareholders increased—and for S corporations with 4 or more shareholder there was actually a negative adjustment.

The GAO also recommended the IRS take action to improve preparer compliance in this area.  The recommendations include licensing of paid preparers, including consideration of special licensing for S corporation preparers and increased penalties imposed on paid preparers.

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