In TIGTA's Report on IRS' efforts to address the compliance risk of underreporting of S Corporation officers’ compensation indicated that the audit was initiated because some S corporation owners may be motivated to underpay or not pay themselves in order to avoid paying employment taxes.
What TIGTA Found was that the issue of S corporations not paying salaries to officers and avoiding employment taxes has been reported for many years. IRS revenue agents have the opportunity to assess the issue when examining Forms 1120-S, U.S. Income Tax Return for an S corporation, in the field; addressing the issue more directly by examining it in the IRS’s Employment Tax function; or through Compliance Initiative Projects.
The IRS is selecting less than 1 percent of all S corporations for examination. When the IRS does examine S corporations, nearly half of the revenue agents do not evaluate officer’s compensation during the examination even when single-shareholder owners may not have reported officer’s compensation and may have taken tax-free distributions in lieu of compensation.
TIGTA’s analysis of all S corporation returns received between Processing Years 2016 through 2018 identified 266,095 returns with profits greater than $100,000, a single shareholder, and no officer’s compensation claimed that were not selected for a field examination.
The Analysis Found That The Single-Shareholder Owners Had Profits Of $108 Billion And Took $69 Billion In The Form of
A Distribution, Without Reporting They Received
Officer’s Compensation For Which They Would
Have To Pay Social Security And Medicare Tax.
TIGTA estimated 266,095 returns may not have reported nearly $25 billion in compensation and may have avoided paying approximately $3.3 billion in Federal Insurance Contributions Act tax.
Finally, TIGTA identified 151 S corporations with nonresident alien shareholders. S corporations are not permitted to have nonresident aliens as shareholders. If the IRS had identified these 151 S corporations and their 424 returns, it may have converted them to C corporations and assessed $5 million in corporate income taxes.
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Read more at: Tax Times blog