SMALL BUSINESSES

IRS Considers 

Compliance Burden in Tax 

Administration, but Needs 

a Plan to Evaluate Its 

Payment Card Information 

Pilot

Statement of J. Christopher Mihm, Managing Director, 

Strategic Issues

Testimony 

Before the Committee on Small 

Business, House of Representatives

For Release on Delivery 

Expected at 11:00 a.m., ET

Wednesday, July 22, 2015

GAO-15-754T

United States Government Accountability Office
Letter

Page 1 GAO-15-754T 

Chairman Chabot, Ranking Member Velázquez, and Members of the 

Committee:

I am pleased to be here to discuss our report on small business tax 

compliance burden, which is being released today.1

One way IRS is seeking to achieve this balance is by piloting a payment 

card matching program. Under a 2008 law, payment settlement entities—

such as credit card companies and third-party network payers like 

PayPal—began reporting to IRS the gross payments they process for 

each participating merchant on IRS Form 1099-K, Merchant Card and 

Third Party Network Payments.

Given the important 

role small businesses play in the U.S. economy, reducing the cost of 

compliance with the tax code may free up resources to expand, hire new 

employees, and further contribute to economic growth. At the same time, 

we have previously reported that small businesses are a significant 

contributor to the annual tax gap—the difference between taxes owed 

and taxes paid on time. Therefore, a key challenge the Internal Revenue 

Service (IRS) faces is balancing efforts to minimize taxpayer burden with 

efforts to encourage voluntary compliance with the tax code.

2

My remarks today highlight the key findings of our report on small 

business tax compliance burden and IRS’s payment card pilot.

In 2012, IRS began the payment card 

pilot to research and test ways to use Form 1099-K data to most 

effectively and efficiently improve voluntary compliance, detect 

noncompliance, and minimize burden on small business taxpayers.

To conduct this work, we analyzed Treasury and IRS data, research, and 

other documentation and interviewed agency officials. We used our 

guidance on program design evaluation to assess IRS’s payment card 

pilot evaluation plan. More detailed information on our objectives, scope, 

and methodology can be found in our report. We conducted the work on 

 1

GAO, Small Businesses: IRS Considers Taxpayer Burden in Tax Administration, but 

Needs a Plan to Evaluate the Use of Payment Card Information for Compliance Efforts, 

GAO-15-513 (Washington, D.C.: June 30, 2015). 

2

26 U.S.C. § 6050W; 26 C.F.R. §§ 1.6050W-1, 1.6050W-2.

All of a merchant’s payment card transactions are reportable on Form 1099-K. However, 

third-party network transactions are only reportable if a merchant’s aggregate amount of 

such payments for the year exceeds $20,000 and if the aggregate number of transactions 

exceeds 200.

Letter
Page 2 GAO-15-754T 

which this statement is based in accordance with generally accepted 

government auditing standards.

Small businesses make up 99 percent of all businesses, according to 

estimates produced by Treasury’s Office of Tax Analysis using 2010 

taxpayer data.3 For these estimates, small businesses are defined as 

individuals or entities with substantive business activity but with less than 

$10 million in total income and deductions. Approximately 69 percent of 

small businesses (about 16 million) are individuals who report business 

income and the remaining 31 percent (or roughly 7.3 million) are 

partnerships or corporations. Individuals generated only 23 percent (or 

$1.4 trillion) of the total income of all small businesses, whereas small 

business partnerships, S corporations, and C corporations accounted for 

the majority—77 percent (or about $4.5 trillion)—of total small business 

income. Overall, small businesses with at least one employee (not 

including owners)—a group that only makes up about 20 percent of the 

small business population—produce about 71 percent of total small 

business income.

Small businesses are required to undertake a number of tax compliancerelated activities that create burden. The tax compliance burden 

associated with these activities varies by characteristics of the small 

business. Some of these characteristics include the business’s size as 

measured by its assets, entity type, number of employees, and industry. 

These activities can be grouped into general categories:

• Income tax activities. Every year, small businesses need to maintain 

tax-related records and file income tax returns. Some small 

businesses are required to pay estimated income taxes quarterly. The 

type of small business dictates the income tax returns and related 

schedules that need to be filed. Some of the returns include a set of 

schedules embedded in the form—found within the income tax 

return—while some small businesses and individuals with business 

income must attach a mandatory schedule to their return.

 3

See GAO-15-513, appendix II, for detailed information on the scope, methodology, and

research analyzed for these estimates.

Most Small 

Businesses Are 

Individuals, but Most 

Small Business 

Income Is Generated 

by Partnerships and 

Corporations

Tax Compliance 

Burdens Vary 

Depending on a 

Small Business’s 

Size, Number of 

Employees, Entity 

Type, Industry, and 

Other Characteristics
Page 3 GAO-15-754T 

• Employer-related tax activities. Small businesses with employees 

are responsible for reporting, withholding, and depositing employment 

and unemployment taxes. The number of employment tax reports and 

deposits required depends on the number of employees and the 

resulting employment tax liability owed at a particular time. Small 

businesses also report health care and retirement information. The 

information reported for these areas depends on a business’s number 

of employees.

• Third-party information reporting and industry-specific tax 

activities. Small businesses are required to report on certain 

transactions they enter into with other entities. For example, using 

Form 1099-MISC, small businesses report items such as rent 

payments and payments to nonemployees. IRS uses this information 

to verify compliance by comparing the income or expenses reported 

by third parties to the income or expenses reported by small 

businesses on tax returns. Some small businesses may have 

industry-specific requirements to pay excise taxes, including 

environmental, communications, and fuel taxes.

IRS has developed several models to provide information for assessing 

the impact of the tax code and IRS programs on taxpayers. Estimates 

produced by these models indicate that burden increases with the size of 

businesses, whether measured in terms of assets, receipts, or 

employment; however, burden per dollar of assets or receipts or per 

employee declines with size because of economies of scale. For 

example, according to IRS, corporations and partnerships with 1 to 5 

employees have an estimated tax compliance burden of $4,308 to $4,736 

per employee, but corporations and partnerships with more than 50 

employees have a much lower estimated per employee burden—$182 to 

$191.

IRS’s strategic plan identifies reducing taxpayer burden as a strategic 

goal. Additionally, the Internal Revenue Manual lists guiding principles to 

help employees consider how a policy could affect compliance burden. 

For example, under the guiding principle “leverage existing data,” the 

manual directs employees to consider if there are opportunities to 

leverage data that is already collected by IRS or by accessible third 

parties.

IRS provided examples of how it works with internal and external 

stakeholders to reduce taxpayer burden on small businesses. For 

example, IRS collaborated with Treasury and external stakeholders to 

IRS’s DecisionMaking Framework 

Includes 

Consideration of 

Small Business 

Compliance Burden
Page 4 GAO-15-754T 

develop a simplified method for some small businesses to calculate a 

home office deduction, which was introduced in January 2013. 

Previously, businesses had to complete a complex property depreciation 

calculation.

We interviewed small business representatives who acknowledged IRS’s 

external stakeholder outreach efforts and how they have been effective in 

identifying opportunities to reduce compliance burden. However, they 

also described a number of areas where small business compliance 

burden could be further reduced. These areas include issues related to 

IRS customer service, filing requirements, lack of or delayed official 

guidance, and compliance contacts. While IRS is aware of many of these 

concerns and, through various initiatives, has made efforts to address 

these issues, continued attention to these areas will be key to effectively 

reducing compliance burden. In many cases we have made 

recommendations that, if implemented, could help to reduce these 

burdens.4

In an effort to improve tax compliance among small businesses while 

minimizing the burden on compliant taxpayers, IRS began piloting a 

program in 2012 that compares payment data from payment settlement 

entities (such as credit card companies) with income reported by small 

businesses. IRS is testing ways to use the payment data to detect 

underreporting of taxable income while minimizing small business 

taxpayer burden. IRS’s evaluation plan for pilot activities integrated many 

characteristics of a well-designed evaluation. As a result, IRS has been 

able to make rapid, ongoing assessments of pilot activities and 

continually incorporate changes based on what has been learned. This 

approach has allowed IRS to test many hypotheses simultaneously while 

limiting the number of small business taxpayers affected by the pilot.

However, the overall evaluation plan for the pilot lacks characteristics of 

each element that are necessary to ensure a quality evaluation. For 

example, IRS has not clearly defined the stages of the pilot or 

measurable goals that it can use to determine when the pilot has moved 

from one stage to the next, or if it should move. Without defining the 

stages and establishing related metrics, IRS will not be able to articulate 

 4

See GAO-15-513, appendix IV, for a list of selected open recommendations. 

IRS’s Overall 

Evaluation of Its 

Payment Card Pilot 

Has Several 

Strengths, but Does 

Not Fully Address All 

Elements Necessary 

to Effectively Assess 

Results
Page 5 GAO-15-754T 

the pilot’s status at critical points in time. Further, it will not be able to 

justify the investment of additional resources if it cannot demonstrate 

progress toward those goals. In addition, IRS has not developed a full 

evaluation plan for the pilot. Among other missing elements of a quality 

evaluation, IRS has not developed evaluation questions, identified 

evidence-based evaluative criteria, or documented limitations. We 

recommended that IRS clearly define the stages of the payment card pilot 

and establish measurable goals for determining when the pilot advances 

from one stage to the next. We also recommended that IRS develop an 

evaluation plan that addresses the missing elements. IRS agreed to 

incorporate an evidence-based assessment of the payment card pilot that 

includes identifying clearly defined pilot stages and implementing an 

evaluation plan with measurable goals. IRS stated it will provide a more 

detailed response to our recommendations after our report is released.

In conclusion, the tax compliance burden faced by small businesses can 

vary considerably depending upon a number of factors. Through its 

research and outreach activities, IRS is cognizant of the compliance cost 

to taxpayers and explicitly considers this burden in administering the tax 

code. IRS’s new payment card matching program has the potential to 

enhance the agency’s ability to identify noncompliant small business 

taxpayers while minimizing taxpayer burden. However, IRS has a long 

road ahead in determining whether, and how, the payment card pilot 

program and its many activities can be fully implemented.

Chairman Chabot, Ranking Member Velázquez, and Members of the

Committee, this completes my prepared statement. I would be pleased to 

respond to any questions that you may have at this time.

If you or your staff have any questions about this testimony, please 

contact James McTigue, Jr., Director, Strategic Issues at (202) 512-9110 

or mctiguej@gao.gov. Contact points for our Offices of Congressional 

Relations and Public Affairs may be found on the last page of this 

statement. GAO staff who made key contributions to this testimony are 

Brian James, Assistant Director; Sonya Phillips, Analyst-in-Charge; 

Courtney Liesener, Robert MacKay, James R. White, Nell Williams, 

Robert Gebhart, Kirsten Lauber, Donna Miller, Edward Nannenhorn, 

Karen O’Conor, Andrew Stephens, and James Wozny.

GAO Contact and 

Staff 

Acknowledgments

(451162)
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