My friend owns a business that employs 1099 contractors. He’s never once filed taxes personally or on the business. He gives his contractors a 1099 but he never files them with the IRS on his end. How is he getting away with this?
ON THE ISSUE OF 1099's HE PROVIDESA copy of 1099's don't actually get filed with the recipient's return, so the IRS never sees the documents if the person who created the documents doesn't send them in. The only time the IRS would ask for a 1099 from the recipient is if the recipient is claiming there was withholding on the 1099. In such cases, if the IRS doesn't have a record of the withholding, they may ask for a copy of the 1099 that shows the withholding so they can investigate why they don't see the withholding on their end. But this guy wouldn't show withholding on a 1099. He's probably doing 1099's because people expect them, and would get annoyed if they got nothing to show how much they made.Even if a recipient did send in the 1099 (which would only happen if they were filing by mail, anyway), the IRS isn't looking for it and likely won't verify it under normal conditions.ON THE ISSUE OF NOT FILING TAX RETURNSIf most of his income comes from individuals and he gets paid with cash or checks, there is little the IRS would know about. If he has businesses for clients, they would likely issue him a 1099. If he gives them bogus SSN or EIN info, then he could stay off the radar, but the IRS will notify the payer if the number doesn't match the name. And some businesses will stop hiring you if they keep getting those letters from the IRS. If he accepts credit cards, they will send him a 1099 showing how much money he generated from CC sales. So the IRS would get wind of it eventually.If his income is low, I doubt he will ever get caught. The IRS doesn't have time to dig around in every potential fraud, and they have limits to how far they can go back in time. The IRS will focus on the biggest cracks in the dam, which right now is primarily refundable credits, extraordinary deductions (usually with mileage or medical expenses), and corporations. Why do they focus there? Simply because it's the low-hanging fruit - small investment for large payoff. I will say that States with tight budgets are more likely to dig. If he's going to get caught in the short term, it would probably be at the State level.WHERE'S THE KARMA?So what is likely to happen to him? Where's the karma? Well, it comes in a few ways. * 1 - he can't get a bank loan. Almost all banks will require a tax return to prove income. Proof of income is required to verify to the loan decision-makers that you have the means to pay back the loan. Even if someone has lots of large assets, being able to prove you can pay a loan back is critical to a bank. (STORY) I know a guy who had a small disability check, but had inherited several acres of land worth maybe $100k. He wanted to borrow $20k against the land so he could buy a mobile home. The bank said no. They said he didn't have enough income to pay back the loan, and they didn't want to own his land or home -ever. Collateral is a backup plan for a bank, not an incentive.* 2 - he has no Social Security benefits paid in. For those of us who think it may be bankrupt before we get old enough to draw on it, that may be a non-issue. But it is a safety net that won't exist at all for him.* 3 - he can't prove his income when he has a need to. What difference does that make? If he becomes disabled, part of disability benefit evaluation is what you've earned over your lifetime. And that is based on tax returns. If you have disability insurance, you also have to prove what you were making in order to get benefits. And if you are involved in a lawsuit where you are claiming damages - like lost earnings in the past or in the future, you will be hard-pressed to prove prior income if you've gone to great lengths to hide it.* 4 - he can't grow his business. You can get pretty good and hiding income, but you have to stay off the grid to do it for the long haul. The IRS requires so much reporting from various sources, you can only make so much money in a limited number of ways without making a mis-step. Even large cash deposits are monitored by the IRS via the banks. He can do it, but if he has a successful business model, it's going to get harder and harder to hide.* Five - he risks exposure. The IRS accepts whistle-blower reports. If he makes someone mad enough, he may get reported. That's no guarantee the IRS will investigate, but if he has lots of assets bought with cash and they believe there is a chance they can get something for their trouble, they may very well pursue it. Even if he goes back and 'catches up' for the last few years, there are lots of tax benefits that don't apply if you file late. So he'll lose those tax benefits and will be on the hook with the IRS for tons of money. They will seize his cash assets if he doesn't pay, and may seize other assets - which could affect his ability to make money. He'd likely have to hire a lawyer and an accountant to deal with it, and whatever benefits he got from not filing will be soon lost in professional fees, taxes, multiple layers of penalties, interest and STRESS. That kind of stress ends marriages and causes heart attacks. And even if he files bankruptcy to protect his assets, bankruptcy does not eliminate or reduce IRS debt. And then, of course, the State will get involved and pile it on even higher.The longer it goes on and the more money he makes, the more likely it will not end well.