CS-11-289 - Supporting Statement

OMB SUPPORTING STATEMENT TO MEASURE FACTORS INFLUENCING SMALL BUSINESSES’ COMPLIANCE WITH INCOME TAX LAWS

IRS SOLE PROPRIATOR TAXPAYERS

JULY 2011

A. Introduction

Background/Overview

A principal goal of the Internal Revenue Service (IRS) is to maximize the rate at which taxpayers pay their tax obligations voluntarily. To maximize voluntary compliance, the IRS needs to understand why taxpayers comply. Research shows that a broad variety of factors motivate taxpayers’ decisions to comply with income tax laws. For example, a survey of current research conducted for the Taxpayer Advocate Service (TAS) and published in Volume 2 of the TAS 2007 Annual Report to Congress identified numerous factors driving taxpayer compliance decisions in addition to the expected likelihood and cost of getting caught underreporting (called “economic deterrence”). These factors include compliance norms, trust in the government and the tax administration process, complexity and the convenience of complying, and the influence of preparers. More research needs to be done, however, to allow the IRS to understand the extent to which each of these factors motivates taxpayer compliance decisions and how their influence varies for different segments of the taxpaying population. The feedback received will not institute new policy, yet enable the Service to effectively meet taxpayer needs.

This research will focus on sole proprietors, i.e., those who file Form 1040 Schedule C, Profit or Loss from Business. This segment of the taxpaying population is responsible for the largest portion of the tax gap (i.e., the portion of total taxes due that are not voluntarily and timely paid). The IRS is least likely to be able to detect or deter noncompliance by this segment without expending significant enforcement resources because most sole proprietor income is not subject to third party information reporting. Relatively inexpensive measures, such as document matching and correspondence examinations, cannot reliably detect income that is not subject to information reporting. Thus, it is particularly important for policymakers to gain a better understanding of how to improve compliance among this group of taxpayers using levers other than economic deterrence.

Objectives of Data Collection

TAS has contracted with a vendor, Russell Research, to help design and conduct a telephone-based survey to two different groups. The survey objectives include identifying and quantifying the major factors that drive taxpayer compliance behavior. The survey will be administered to a representative national sample of taxpayers who are sole proprietors. It will explore the factors potentially influencing compliance behavior. The survey will also be administered to a sample of high and low compliance communities. This will enable TAS to better evaluate whether taxpayers’ affiliations within their communities appear to influence compliance behavior. TAS will analyze data collected through this survey research to study the relationship between taxpayer attitudes with respect to the above mentioned factors and taxpayer compliance behavior.

B. Methodology

Sample Design

In order to monitor taxpayer tax compliance, the IRS classifies tax returns into mutually exclusive groups called examination activity codes, and develops a separate compliance risk scoring algorithm (i.e., DIF algorithm) for each activity code. For sole proprietors (i.e., those who file tax returns that include a schedule C) the activity codes are defined in terms of the amount of gross receipts reported on the schedule C and the taxpayer's total positive income (which is essentially the taxpayer's income from all sources before adjusting for deductions and exemptions). The scores generated by the DIF algorithms are called DIF scores.

TAS Research will collect DIF scores from tax year 2009 returns for the population of taxpayers in the 6 activity codes included in the study. These activity codes include all sole proprietors residing in the United States, except low income taxpayers who claimed the earned income tax credit (EITC). The total population size is about 16 million taxpayers.

The DIF scores will be sorted in ascending order by deciles within each of the 6 activity codes. TAS will use the decile that each taxpayer’s DIF score falls within as the indicator of the taxpayers' compliance level, i.e., scores will range from 1 to 10 with 1 representing taxpayers in the first decile, etc. The likelihood of noncompliance increases as the DIF score increases. So, those in the first decile have the lowest DIF scores and most compliant behavior.

The survey will be administered to two different groups of sole proprietor taxpayers: a representative national sample with 3,200 respondents, and a “community” sample with 700 respondents. We estimate a 50% response rate based on previous data collection by Russell Research of the small business population.

The national sample of schedule C taxpayers will have 9 distinct strata. The two exam activity codes with the most taxpayers will be analyzed individually. Each of these activity codes will have one “low compliance” stratum and one “high compliance” stratum. The remaining four exam activity codes will be combined into two groups: a moderate income group (i.e., taxpayers with total positive income of less than $200,000) and a high income group (i.e., taxpayers with total positive income greater than $200,000). Each of these groups will also have a low compliance stratum and a high compliance stratum.

The four “low compliance” strata described above will have taxpayers with DIF scores in the two highest deciles (i.e., deciles 9 and 10). The four “high compliance” strata will have taxpayers from the two lowest deciles (i.e., deciles 1 and 2). The remaining stratum will have a representative sample of taxpayers with DIF scores in deciles 3 – 8. It will be drawn from all six activity codes. These strata are summarized in table 1 below.

Table 1 - National Sample of Sole Proprietors by Exam Activity Code (EAC)

Strata	Population	Sample	Estimated Response Rate	Estimated Sample Size
EAC 274 Deciles 1 - 2	2,053,331	350	50%	700
EAC 274 Deciles 9 - 10	2,053,331	350	50%	700
EAC 275 Deciles 1 - 2	571,075	350	50%	700
EAC 275 Deciles 9 - 10	571,075	350	50%	700
EACs 276, 277 Deciles 1 - 2	268,565	350	50%	700
EACs 276, 277 Deciles 9 - 10	268,565	350	50%	700
EACs 280, 281 Deciles 1 - 2	256,306	350	50%	700
EACs 280, 281 Deciles 9 - 10	256,306	350	50%	700
All EACs Deciles 3 - 8	9,447,830	400	50%	800
Total	15,745,384	3,200	50%	6,400

The “community” sample will have two strata. Each stratum will have 350 respondents. One stratum will be drawn from a “high compliance” community and the other stratum will be drawn from a “low compliance” community. Data collected from the community survey respondents will provide useful information, but the survey will not yield data that can be generalized to the overall population. This data will, however, enable TAS to better evaluate whether taxpayers’ affiliations within their communities appear to influence compliance behavior.

Communities will be defined as clusters of five digit ZIP Codes corresponding to legal entities (i.e., cities or towns with populations of less than 100,000 residents). A representative sample of 350 taxpayers will be drawn from all six exam activity codes for each of the two communities. The high compliance community will have a median DIF score in decile 3 or below. The low compliance community will have a median DIF score in decile 8 or above.

TAS Research will select a random sample of sole proprietors from IRS internal databases for each of the strata described below. The sample sizes will allow us to make statistically valid statements for each stratum and combination of strata.

Overall, our sampling plan will allow us to achieve a 95 percent confidence level with a precision level of at most plus or minus 5.25 percent. Results from the national sample will be projected to the national population of sole proprietors using weighting to combine strata. Results from the community survey can only be projected to the two communities from which the respondents were drawn.

Russell Research will conduct both the national survey and the community survey via telephone. Russell Research will use the TAS Research lists to further randomly select (on an nth selection basis) respondents for each stratum. All potential respondents initially contacted will be re-contacted up to 3 times in order to properly dispose of the contact (including re-contact by more senior interviewers on those who refuse to participate).

Data to be Collected

Previous Research identified numerous factors driving taxpayer compliance decisions in addition to the expected likelihood and cost of getting caught underreporting (called “economic deterrence”). These factors include compliance norms, trust in the government and the tax administration process, complexity and the convenience of complying, and the influence of preparers. More research needs to be done, however, to allow the IRS to understand the extent to which each of these factors motivates taxpayer compliance decisions and how their influence varies for different segments of the taxpaying population. This study will collect taxpayers’ opinions on filing federal income taxes.

How Data is Collected and Used

Russell Research will conduct both the national survey and the community survey via telephone. Russell Research will use the TAS Research lists to further randomly select (on an nth selection basis) respondents for each stratum.  All potential respondents initially contacted will be re-contacted up to 3 times in order to properly dispose of the contact (including re-contact by more senior interviewers on those who refuse to participate).

The information TAS seeks to collect under this request meets the following conditions:

• Information gathered will not be used for the purpose of substantially informing influential policy decisions ¹;

• The information collection process is voluntary;

• The collections are low-burden for respondents (based on considerations of total burden hours, total number of respondents, or burden-hours per respondent) and are low-cost for both the respondents and the Federal Government;

• The collections are non-controversial and do not raise issues of concern to other Federal agencies; and

• Personally identifiable information (PII) is collected only to the extent necessary and is not retained.

Russell Research will use basic and advanced statistical techniques to develop deliverables which include:

• Survey counts and overall response rates

• The frequencies and mean for all survey items

• The difference in responses across customer segments

• Analysis of the relationship between survey responses

• Other analyses as appropriate.

Russell Research will hold the identities of respondents private to the extent allowed by law, and will not provide the TAS with identifiable information on individual respondents. Upon completion of fielding, Russell Research will provide a summary report and anonymous survey data to the TAS, without any individually identifying information such as name, address, or taxpayer identification number.

Dates Collection Begin and End

Data collection is expected to take approximately six to eight weeks (actual time will be dependent on response rates). TAS anticipates that data collection will begin in late September 2011 (September 19) and end in mid November 2011 (November 18). The actual collection dates will be influenced by our OMB approval date. We anticipate data checks, analyses, and summaries will take about three months following the completion of data collection.

Who is Conducting the Research and Where

TAS Research will pull the sample participant pool and Russell Research will be responsible for administering the survey and conducting data analysis.

Cost of Study

The anticipated cost to the Federal Government is approximately $251,525. These costs include the contract with Russell Research to help develop the study, obtain telephone numbers for participants, administer the survey to a representative sample via telephone, summarize the findings, and provide finalized information on the effort to TAS. There will be no stipends paid to participants.

Recruitment Efforts

Sample will be provided by the TAS. Russell Research will contact potential respondents up to three times.

Location-Region/City and Facility

Data extract: IRS Individual Returns Transaction File Database, Martinsburg, WV

Sampling and analysis: Russell Research, East Rutherford, NJ

Survey Processing and Data Collection: Russell Research, East Rutherford, NJ

Expected Response Rate

The expected response rate is 50%.

Methods to Maximize Response Rate

Responses will be maximized through the standard market research industry practice of re-contact of non-responsive potential respondents up to 3 times, with these persons re-contacted by more senior interviewers on the contractor’s staff in an attempt to persuade them to participate and to assure that the survey response rate expectation (50% to 60%) is met.

Testing and Survey Structure/Design

The survey is attached and has been tested internally within IRS and Russell Research. The survey asks respondents about different affiliations and how they feel about various statements. The results should provide TAS with insight as to whether taxpayers’ affiliations with various groups impact their attitude about and compliance with income tax laws.

Efforts Not to Duplicate Research

There are no other studies being conducted by the IRS on this specific topic. .

Participants Criteria

The population frame consists of sole proprietor small businesses taxpayers in tax year 2009.

C. Privacy, Disclosure, and Security Issues

The security of the data used in this project and the privacy of taxpayers will be carefully safeguarded at all times.  Security requirements are based on the Computer Security Act of 1987 and Office of Management and Budget Circular A-130, Appendices A & B.  Physical security measures include a locked, secure office.  Notes are stored in locked cabinets or shredded.  Data security at the C-2 level is accomplished via the Windows NT operating system.  Systems are password protected, users profiled for authorized use, and individual audit trails generated and reviewed periodically. 

The IRS will apply and meet fair information and record-keeping practices to ensure privacy protection of all taxpayers.  This includes criteria for disclosure—laid out in the Privacy Act of 1974, the Freedom of Information Act, and Section 6103 of the Internal Revenue Code—all of which provide for the protection of taxpayer information as well as its release to authorized recipients.

The survey will not contain tax return or taxpayer information. Survey participants will not be identified in any of the documents or files used for this project.  We will limit and control the amount of information we collect to those items that are necessary to accomplish the research questions.  We will carefully safeguard the security of data utilized as well as the privacy of the survey respondents.  We will apply the fair information and record-keeping practices to ensure protection of all survey respondents. The criterion for disclosure laid out in the Privacy Act, the Freedom of Information Act, and section 6103 of the Internal Revenue Code provides for the protection of information as well as its releases to authorized recipients.

The survey data returned to TAS will have no identifying information relating specific records to individual taxpayers. Public and official access to the information will be tightly controlled. The computer files containing this tabulated information will remain password protected at all times. Data security approaching level C-2 will be accomplished using the Windows XP operating system.

PRA Statement and OMB Control Number

For this Survey, the OMB Control Number and required information will be provided on the survey itself and read to the participants.

D. Burden Hours

Small businesses are involved in this effort, but TAS will minimize the burden on them of the information collection approved under this clearance by sampling, using voluntary participants, asking for readily available information, and using a short, easy-to-complete information collection instrument.

A telephone based survey will be used to collect information from respondents. The annual burden hours requested (1,105 are based on the number of surveys we expect to conduct over the requested period for this clearance. The calculation includes screening time for participants and those who elect not to participate. The response rate for this study is expected to be in the range of 50% to 60%, based upon past Russell Marketing research among this audience. Our burden calculations use the more conservative estimate for response rates (50%).

Based on a sample of potential respondents of 7,800 and a response rate of 50%, we expect 3,900 survey participants leaving 3,900 non-participants. The contact time to determine non-participation could be up to 1 minute, with the resulting burden for non-participants being 3,900 x 1 = 3,900 minutes / 60 minutes = 65 burden hours. For participants, the time to complete the survey is 15 minutes. The time burden for this group being 3,900 x 16 minutes (screener + survey) = 62,400 total minutes / 60 minutes = 1040 burden hours. Thus, the total burden hours for the study would be (65+1040) 1,105 hours.

Estimated Annual Reporting Burden
Type of Collection	Number of Contacts	Annual Frequency per Response	Hours per Response	Total Hours
Screening	7,800	1	.016	130
Survey Participation	3,900	1	.25	975
Total	n/a	n/a	n/a	1,105

E. Statistical Contact

For questions regarding the study or questionnaire design or statistical methodology, contact:

Jeff Wilson

Director, TAS Research & Analysis

575 N Pennsylvania

Indianapolis, IN 46204

Phone 317-685-7673

[email protected]

Or

Larry Hooper, Partner

Russell Research, Inc.

One Meadowlands Plaza, Suite 1001

East Rutherford, NJ 07073

Phone: 201-528-0302

[email protected]

F. Attachments

Survey Materials

TAS Factors Influencing Compliance Survey

1 As defined in OMB and Agency Information Quality Guidelines, “influential” means that “an Agency can reasonably determine that dissemination of the information will have or does have a clear and substantial impact on important public policies or important private sector decisions.”