top of page
Penny Ledger
Income Tax Evasion
Failing to report all taxable income to the IRS
Tax evasion, often perceived as a major criminal offense that large corporations violate, actually permeates daily lives more frequently than many realize. The majority of everyday instances of tax evasions occur when individuals don't report cash income as income, therefore underreport their net income. Businesses such as restaurants, beauty salons, barbershops, or independent trades are more likely to commit tax evasion due to their high number of cash transactions.
Why is it so popular?
Businesses often engage in tax evasion by underreporting cash income to gain immediate financial benefits and to simplify the record. Also, its low detection risk and its perception of having a low risk of punishment are other reasons why businesses often commit tax evasion.
Immediate financial benefits: By not reporting cash incomes, businesses can immediately experience an increase in their revenue with the reduced amount of tax. This allows more financial freedom for investment or personal use.
Simplify the record: By dealing in cash, businesses can keep simpler, less transparent records. This reduces the burden of detailed auditing, which make it effective at concealing the actual debits and credits.
Low risk of detection: It is much more difficult to track cash transactions than electronic transactions, making cash a medium for tax evasion.
Low risk of punishment: Many small businesses believe that it is unlikely to get caught and penalized for underreporting cash income. This is partly due to the IRS' needs to focus on larger scale cases, instead of manually investigating thousands of small businesses.
What are its downsides?
Businesses that engage in tax evasion often are ignorant about its consequences. Because tax evasion is considered a felony, when caught, it has many consequences. Some legal issues include penalties and fines. Other issues at the personal level include lack of financial support from banks and a difficult time selling the business.
Penalties/fines: Some of the major legal consequences of committing tax evasion are penalties and fines. If caught, businesses will be charged interest on unpaid taxes, which can accumulate to substantial amounts over time. This interested fine may be difficult for small businesses to pay off. Additionally, owners of the businesses may potentially may face jail time since tax evasion is a felony.
Financial support: Showing a lower revenue can be penalizable when attempting to secure bank financing. Banks are looking for significant income or profits from lenders to gain trust that their money will be paid back.
Selling the business: It is important to present a high income or profits when selling or transitioning out of a business. This is because most businesses are valued on a multiple of income or profits. A dollar saved from underreported income can cost up to 7 times that amount when attempting to transition out.
Why does the IRS not attempt to stop it?
The IRS is limited in its resources to stop tax evasion in every business. With finite resources, the agency prioritizes its efforts into larger cases with significant revenue potential. Investigating small businesses may be detrimental, as it may cost more to investigate thousands of small businesses than if those businesses were to pay the missing taxes. Also, cash transactions are inheritably harder to track than electronical transaction, casuing the IRS additional challenges.
How can you prevent it?
Although individuals may have limited ability to combat tax evasion, for those who aspire to become business owners or hold significant responsibilities in business, it is important to promote ethical business practices.
Reasons: It is important to follow ethics in business due to the reasons mentioned above. If reported and proven guilty, there is a series of legal consequences that will follow, and personal consequences regarding the termination of the business. Also, following ethics can foster trust with investors (stakeholders), enhance the company's reputation. Additionally, operating this way allows sustainable growth to occur. In essence, avoiding tax evasion is not just a legal obligation. It is also a crucial part of building a successful business.
bottom of page