Uncollected Taxes: The Real California Budget Deficit

In addition to the LAO’s recommendations, we believe the state should consider an amnesty program that will bring in payments owed by taxpayers who want to avoid the brunt of new enforcement efforts. In 2004-05, The Voluntary Compliance Initiative brought in $1.4 billion from taxpayers seeking to avoid penalties by voluntarily paying taxes they had previously avoided through the use of abusive tax shelters. The Tax Amnesty Program brought in $4.8 billion from other taxpayers who used the opportunity to come into compliance with the provisions of tax law and thereby avoid penalties. Even though the revenue this program generated was from non-compliance over a few years, the size of the tax gap warrants reviewing this program again.

Consider these facts and sources:

BOE: 30% of problem is due to tax evasion

The BOE estimates that unpaid sales and use taxes are broken down as follows:

• 12% are businesses and individuals who underreport sales

• 30% are non-filers and tax evaders

• 58% are transactions with out-of-state retailers

FTB: Underreporting income is a serious problem
The FTB estimates that the tax gap is made up of three main segments:

• 80% is individual and corporate taxpayers that either over-deduct expenses or underreport income

• 10% is individuals that do not file tax returns

• 10% is taxpayers that have paid less than the reported taxes they owed

The FTB states that the top five industries for non-filers are: health services, business services, personal services, real estate and engineering/accounting.

At the national level, the IRS estimates that sole proprietors (who are often independent contractors) that underreport their income make up 20% of the federal tax gap. It is likely that this statistic is similar in California.

Percentage of Businesses, By Sector, That Underreport Income

The FTB states that, “sole proprietors make up the highest percentage rates of personal income tax underreporting.”

• 60% to 70% of Antique Dealers
• 55% to 65% of Restaurants
• 45% to 55% of Used Car Dealers
• 40% to 50% of Auto Repair Businesses
• 35% to 45% of Landscaping Businesses

Corporate Tax Underreporting By Industry

The FTB reports statistics on corporate underreporting; they estimate that the percentages of underreported income for the following industries are as follows:

32% for Services (doctors, lawyers, hotels, etc.)

25% for Retail Trades

23% for Finance

20% for Transportation, including communications and utilities

20% for Construction

Sources

Legislative Analyst’s Office. “Analysis of the 2007-08 Budget Bill: General Government: Franchise Tax Board.” (starting page F-52)

Board of Equalization. “Addressing the Tax Gap: Fiscal Years 2007-2008 through 2009-2010.” April 2007.

Reported in: Franchise Tax Board. “Tax Gap FAQs.” ; based on: GAO Report: IRS Can Better Pursue Noncompliant Sole Proprietors, Aug. 1994.

GAO. “Tax Gap: A Strategy for Reducing the Gap Should Include Options for Addressing Sole Proprietor Noncompliance.” Aug. 14, 2007.

Reported in: Franchise Tax Board. “Tax Gap FAQs.” ; based on: GAO Report: IRS Can Better Pursue Noncompliant Sole Proprietors, Aug. 1994.

Jim Hard is president of SEIU Local 1000, California’s largest union of state employees representing more than 92,000 workers including tax auditors, tax compliance representatives and other professionals.