WASHINGTON -- The Internal Revenue Service (IRS) should continue to improve the quality

of its audits of small corporations, according to a new report released publicly today by the

Treasury Inspector General for Tax Administration (TIGTA).

TIGTA reviewed whether IRS examiners followed proper procedures and guidelines when

auditing the returns of small corporations. The IRS defines small corporations as corporations

with assets of less than $10 million.

Many corporations in the United States are considered closely held because they are owned by

one shareholder or a closely knit group of shareholders. As such, these shareholders typically

have a significant amount of control over managing and directing the day-to-day operations of

the corporation. This, in turn, provides opportunities to improperly structure transactions that

reduce the amount of income taxes owed by the small corporation or its shareholders.

TIGTA found that the IRS established many key procedures and guidelines for auditing these

returns, which may have contributed to an upward trend in the amount of recommended

additional taxes the audits generate.

TIGTA reviewed a nonstatistical sample of 51 closed corporate audits and found potential

quality concerns in 19 of them. For example, IRS examiners did not always document the steps

taken to investigate significant differences between the labor costs deducted in the corporate

return and the amounts reflected on employment tax returns filed with the IRS.

"Corporations and shareholders that understate their tax liabilities can create an unfair burden on

honest taxpayers and diminish the public's respect for the tax system," said J. Russell George,

Treasury Inspector General for Tax Administration.

TIGTA recommended that the IRS provide additional guidance to first-line managers to improve

the feedback provided to field examiners on using the IRS's automated information systems to

enhance the quality of their required filing checks for audits of small corporations.

IRS officials agreed with the recommendation and plan to issue a memorandum to first-line

managers concerning the use of automated information systems to enhance required filing checks

and address feedback provided to field examiners.