IRS TURNS BLIND EYE TO MORE BIG EARNERS EXPERTS FEAR LACK OF AUDITING INVITES ABUSES.

Byline: David Cay Johnston The New York Times

Tax returns from Americans earning more than $100,000 a year and from the biggest corporations are increasingly escaping the scrutiny of the Internal Revenue Service, new agency figures show.

Just one of every 60 high-income tax returns was audited last year, compared with a rate of one in nine in 1988, according to IRS data analyzed by Syracuse University researchers. Among the country's 8,500 largest companies, slightly more than one in three were audited last year, down from two out of three in 1988.

While audit rates overall have fallen substantially since 1986, some tax experts and former IRS officials are worried that the decline in high-income and corporate audits may mean that reporting by many of the richest taxpayers is now effectively on an honor system, inviting abuses.

Many of the investments and deductions used by such taxpayers, these critics note, are not subject to the kinds of reporting required of employers, banks, mortgage lenders and others, which must pass along information on income and potential deductions to the IRS. And for the less affluent, of course, the bulk of income taxes are withheld from paychecks.

``The fewer traffic policemen you have, the more chances people are going to take,'' said Donald C. Alexander, a Washington tax lawyer who was IRS commissioner in the Nixon administration. ``And as people find that their neighbors are not paying their fair share, they are encouraged to not pay their share, either.''

The IRS contends that sufficient audits were conducted last year. The assistant commissioner for audits, Tom Smith, said that increased financial reporting requirements by employers and others, combined with changes in tax law, had reduced the need to audit wage earners, while other strategies, such as tip-reporting agreements with restaurant owners, lower the need for audits, too.

The decline in audit rates began in 1968 but accelerated in 1995, after Congress, by then controlled by Republicans, cut IRS spending sharply and required the agency to devote more resources to customer service. Republicans characterized the IRS as an agency that was out of control and that was intruding far too deeply into the lives of Americans.

Since 1992, the IRS has reduced the hours it spends auditing tax returns by 27 percent for individuals and 12 percent for corporations, according to the new data.

As a result, overall audit rates fell to record lows last year. Of the 120 million individual tax returns, only one in 217 was audited, down 36 percent from 1994. During the same period, the number of returns reflecting incomes of $100,000 and up grew 62 percent, to 6 million.

The audit data also show the reversal of a trend that emerged a few years ago in which audits rose for the lowest-income Americans, those making less than $25,000. Last year, one in 370 such returns was audited, down from one in 178 in 1994.

Pamela F. Olson, a tax lawyer with the law firm of Weil, Gotshal & Manges in Washington who is a former chairwoman of the American Bar Association's tax section, said she was neither surprised nor troubled by the drop in overall audit rates, given the increased reporting required of employers, lenders and others. She said that large, publicly traded companies also get sufficient scrutiny, not only from the IRS but from independent auditors and the Securities and Exchange Commission.

But like a number of other tax experts, Olson said the IRS was paying too little attention to privately owned businesses. ``They have not gotten much in the way of audit coverage, and this is where there is lots of room to play games,'' she said, largely by owners charging personal expenses to the company.

The IRS has long audited sole proprietors closely, but critics say that small and medium-size corporations and their owners and executives get less scrutiny. Some IRS officials have also acknowledged privately that opportunities remain for underreporting capital gains, which are subject to fewer formal checks than are salaries.

Several tax experts said the new data raised troubling questions about the equity of the tax system.

``What will the impact of this shift in audit policy have on people's long-term faith in our tax system, on people feeling that others are paying their fair share and I should pay my fair share?'' asked Susan Long, co-director of Syracuse University's Transactional Records Access Clearinghouse, which obtained the IRS data.

An audit is begun for many different reasons. In many cases, an IRS scoring system has identified deductions or other factors on a return as being far outside statistical norms. Increasingly, the IRS is picking specific occupations for audits to gather data about taxpaying patterns. The agency is also selecting more returns for auditing because of suspicions about the tax preparer whose name is on the return or because of referrals from other agencies.

Audits about simple issues are often handled through the mail, with taxpayers being asked to justify or explain a line on their tax return. For more serious questions, taxpayers are asked to come to the IRS, or an examiner visits their home or business to inspect records and ask questions.

The new IRS audit data cover the period through Sept. 30. In the past, publicly disclosed data on IRS enforcement efforts were typically at least 2 years old. The fresh data were turned over to the clearinghouse by Charles O. Rossotti, the computer industry executive who became IRS commissioner last year.

Some of this data, including details on incomes by state and county, are available on the Internet at trac.syr.edu/ without charge. The clearinghouse also maintains a World Wide Web site with more detailed information that it sells by subscription.

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Chart: Falling scrutiny