The IRS is sending letters to small retailers warning about "possible income under-reporting"—and the targeting is based on the assumption that the stores don't take that many credit and debit cards, CNN Money reported.
The tax agency has sent out 20,000 letters to small businesses over the past year—a tiny percentage of the 6 million U.S. small employers—based on information reported by payment processors. Since 2011, processors have been required to file 1099-K forms, reporting all card transactions for their customers. The IRS reportedly compares those numbers with the total income the retailers report. If the percentage of processed payments is too much above industry averages, the IRS apparently suspects some cash transactions aren't being reported.
But the fact that both the IRS and processors are new at this particular approach is clearly showing. In one case, a restaurant in Harrisburg, Penn., ended up targeted because the payment processor misreported the information (the restaurant owner had changed his federal tax ID number in the middle of the year) and because the IRS assumes small restaurants have a smaller percentage of payments by card than they actually do. "But everybody nowadays charges on their credit card," the restaurant's accountant told CNN.
In May, the owner of a baking equipment supply company got an IRS letter saying that 80 percent of her sales were reported as coming through payment cards. "A larger amount of noncard revenue would be expected," the letter said.
But while those expectations might have been realistic even a decade ago, that's just not the case for many small retailers now. Especially with shifts over the past few years of a sluggish economy, industry averages for payment card use have jumped as customers have looked for ways to stretch the time before they actually have to pay.
The IRS insists its letters are "measured and equitable in several ways, including giving taxpayers the opportunity to explain and fix errors," and some small-business accountants say IRS letters are nothing new and fairly innocuous. And in practice, once the IRS gets a few years of experience with payment processors and a few years of actual small-business data under its belt, it should be able to develop its own averages for small retailers.
- See this CNN Money story
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