CCH Federal TaxationComprehensive Topics

Chapter 1 Introduction to

Federal Taxation and Understanding the Federal

Tax Law©2006, CCH, a Wolters Kluwer business4025 W. Peterson Ave.Chicago, IL 60646-6085800 248 3248www.CCHGroup.com

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Chapter 1 Exhibits 1. Federal Taxes

2. Other Taxes

3. Tax Revenue Statistics

4. Tax Avoidance v. Tax Evasion

5. Audit Probabilities for Individuals

6. Sampling of TCMP Audit Probabilities

7. Statute of Limitations for IRS Assessments

8. Statute of Limitations for Taxpayer Refunds

9. Brief History of Federal Income Tax

10. Tax Legislative Process

11. Objectives of the Tax Law

Chapter 1, Exhibit Contents

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Federal Taxes Income taxes

Corporations, individuals, fiduciaries Employment taxes

Old age, survivors, disability, and hospital insurance (federal insurance contributions, self-employment insurance contributions), unemployment insurance, railroad retirement

Estate and gift taxes Estate, gift, and generation-skipping transfers

Excise and custom taxes Alcohol, tobacco, gasoline, other

Chapter 1, Exhibit 1

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Other Taxes

State and local taxes Value-added tax (VAT) Flat tax

Chapter 1, Exhibit 2

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Tax Revenue Statistics

Chapter 1, Exhibit 3a

Source % Total Revenue

Avg. Rev. per Return

Overall Audit

Probability

Tax Revenue ($’s in billions

# Returns (#’s in

millions)

Individual Income Tax 49.06% $ 7,540 0.77% $990 131.3

Corporate Income Tax 11.43% $38,500 0.71% $231 6.0

Excise and Customs Taxes 2.72% $91,667 1.49% $ 55 0.6

Estate and Gift Tax 1.27% $26,000 7.41% $ 26 0.1

Employment 35.53% $23,586 0.06% $717 30.4

Partnerships N/A N/A 0.26% N/A 2.5

Other (mostly Declarations of Estimated Tax)

0.0 - - -53.5

Totals 100.0% $2,019 224.4

Source: Compiled from Internal Revenue Service Data Books for 2004.

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The General Accounting Office has reported that U.S. taxpayer compliance is the highest in the world, approximately 83 to 85 percent.

Nevertheless, the IRS has acknowledged that the problem of tax evasion is a serious one. Each percentage point of noncompliance costs the government approximately $7 billion in lost revenue.

The IRS has decreased its audit coverage of individual returns since the mid-1990s. The increase is largely attributable to expanded applications of technology and upgraded IRS information systems.

Chapter 1, Exhibit 3b

Tax Revenue Statistics

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Tax Avoidance v. Tax Evasion

Tax avoidance—Saving tax dollars through specific actions to avoid the tax liability prior to the time it would have occurred according to the law.

Tax evasion—The taxpayer does not report income even though the taxpayer already has a tax liability and all actions are definitely complete.

Chapter 1, Exhibit 4a

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Tax Avoidance v. Tax EvasionWhat frequently distinguishes avoidance from evasion is the intent of the taxpayer. Some identifying “badges” of fraud are:

Understatement of incomeClaiming of fictitious or improper

deductionsAccounting irregularitiesAllocation of incomeActs and conduct of the taxpayer

Chapter 1, Exhibit 4b

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Audit Probabilities for Individuals

Chapter 1, Exhibit 5

National AverageYear

1.67 %19951.64 %19961.28 %19970.99 %19980.90 %1999

2000

2001

0.49 %

0.58 %2002 0.59 %

2003 0.65 %

2004 0.77 %

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Sampling of TCMP Audit Probabilities

Taxpayer Classification Probability

Self-employed taxpayers with Schedule C gross receipts over $25,000. 1 in 112

Small C corporations with assets under $10 million. 1 in 68

Lawyers, accountants, engineers, and architects: Schedule C gross receipts of $150,000 to $1 million Partnerships, 10 or few partners, receipts over $100,000 S corporations, assets under $200,000

1 in 51

1 in 115

1 in 239

Doctors, dentists, and other medical providers: Schedule C gross receipts of $150,000 to $1 million Partnerships, 10 or few partners, receipts over $100,000 S corporations, assets under $200,000

1 in 79

1 in 76

1 in 212

Taxpayers who do not itemize or file supporting schedules 1 in 6,616

Source: “When to Say No,” Laura Saunders and Janet Masters, Forbes, Oct. 9, 1995, p. 94.

Chapter 1, Exhibit 6

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Statute of Limitations for IRS Assessments

Time Limits Nature of IRS Claim

3 Years Omission of 25% income (nonfraudulent). Excess deductions (nonfraudulent).

6 Years Omission of > 25% income (nonfraudulent).

Unlimited Fraudulent return or failure to file.

The SOL “clock” starts “ticking” on the filing due date or the actual filing date, whichever is later.

Chapter 1, Exhibit 7

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Statute of Limitation for Taxpayer Refunds

1. 3 years from the date the return was filedor

2. 2 years from the date the tax was paid.

Taxpayers may file for refunds by the later of

(Returns filed early are deemed to have been filed on the filing due date.)

Chapter 1, Exhibit 8

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Brief History of Federal Income Tax Income Tax Law of 1894

2% on gains, profits, and income over $4,000 declared unconstitutional in Pollack case

Corporation Excise Tax of 1909 1% excise tax on corporations with net income over

$5,000 Sixteenth Amendment and the Revenue Act of 1913

Amendment allowed Congress to enact direct tax Act imposed tax on net income of individuals and

corporations Act repealed the Corporation Excise Tax of 1909

Chapter 1, Exhibit 9

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Tax Legislative Process1. Tax bill is screened by House Ways and Means

Committee

2. Consideration by the House of Representatives

3. Referred to Senate Finance Committee

4. Consideration by the Senate Bill may be sent to Joint Conference Committee if

the House and Senate differ. Bill would then be sent back to House and Senate for consideration.

5. Approval or veto by the President

6. Incorporation into the Code (if approved by President or if veto is overridden)

Chapter 1, Exhibit 10

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Objectives of the Tax Law

Economic—to stimulate or control the economy

Social—to encourage behavior (e.g., deduction for charitable contributions) or discourage behavior (e.g., illegal kickbacks are not deductible)

Political—to benefit one’s own constituents or to discourage certain activities

Chapter 1, Exhibit 11