With most states feeling a budget pinch, many are beefing up penalties for late filing of tax returns and redoubling their efforts to catch non-filers and tax cheats.

Overall, many states have become much more sophisticated in their efforts to catch non-filers, said Jason Wilson, director of state and local tax for Iowa with RSM McGladrey.

“A lot of states have been getting the revenue of those who have been filing; now they’re going after who’s not filing,” he said.   From the firm’s clients, “the states we get contacted most often about are Michigan, New Jersey, Florida, Texas, California and Pennsylvania.”

New Jersey officials have actually gone so far as to pull over out-of-state trucks as they drive through the state and demand income tax filings, Wilson said.

Though Iowa hasn’t gone to that extreme, Wilson said he would put Iowa in the category of states that are cracking down on non-filers, because it’s using the same shared database.

Overall, “we share a lot of information with the Internal Revenue Service, and vice versa,” said Don Cooper, administrator of the Iowa Department of Revenue’s Compliance Division. “We spend a lot of time trying to find non-filers. One of the big areas we try to do is identify out-of-state companies that are doing business in Iowa but not filing Iowa tax returns or paying sales and use tax. Those are very productive areas for us.”

Out of the approximately 1.3 million income tax returns filed in Iowa last year, the division typically catches between 10,000 and 15,000 non-filers each year.

“It’s not a high percentage,” Cooper said. “We’re also trying to find out-of-state filers who had (undeclared) Iowa sources of income. An example is someone who owns Iowa farm land that didn’t report that income.”

The system works by looking for gaps in filing, in cases where a company has paid some types of taxes but not others that a business would normally pay, Wilson said. An automated system sends a letter to the company asking them to file; if they don’t, an audit is generated.

“They can go back as many years as you’ve had a physical presence in the state,” Wilson said. “Sometimes it’s questionable whether they have a physical presence in the state. With a growing company, they may not have done business in these states a few years ago.”

Through a voluntary disclosure agreement, a company can negotiate with the state to reduce the number of periods it’s required to file for, or reduce or eliminate any penalties or interest charges.

Though there will always be those taxpayers who will try to fudge on their taxes, Cooper said, he believes most people are basically honest.

“I think that’s our basic philosophy, especially here in the Midwest,” he said. “If I was a tax auditor in New York or California I’m not sure I could say that.

“We try to educate taxpayers; we’re not trying to beat up on them with audits.”

SMALLER AUDIT STAFF

Though some states have correspondingly increased their audit staffs and audit activity to bring in more revenue, the Iowa Legislature last year went in the opposite direction by reducing funding for the state’s Department of Revenue. As a result, the department had to let go 22 of its 55 field auditors last year.

This year, the department received enough funding to hire back 10 of those auditors.

“It doesn’t get us back to where we were in 2000, but it’s a start,” said Don Cooper, administrator of the department’s Compliance Division. The division’s 45-person in-office auditing staff, which who primarily reviews individual and corporate income tax returns, was not affected by the reductions.

With the field audits, “obviously, we try to do better audit selection,” Cooper said, and the numbers reflect that.

Last year, state field auditors, who primarily review sales tax filings, conducted 376 audits, compared with nearly 500 audits the year before. Despite that, the amount of taxes recovered from last fiscal year’s audits, $12.5 million, outpaced the $11.7 million collected in fiscal 2002.