Unreported wages, sales take toll on governments' budgets.

AFTER three years of chasing down payroll tax dodgers as head of the state Employment Development Department's underground economy operations, Jerry Hicks knows there are plenty of tax dollars lost by the state because of the underground economy.

Trouble is, he has no idea how many.

"It's like finding out how much cocaine comes into the country," said Hicks, now an audit director with the state controller's office. "Any figure you get is just the tip of the iceberg."

The state's Franchise Tax Board estimates that underground participants cost the state at least $3 billion annually in income taxes--L.A.'s underground economy accounting for nearly a third of that. But those numbers are based on the assumption that the underground economy is equal to as much as 40 percent of the mainstream one, a lot higher than the 15 percent assumed by some economists.

Underground firms in Los Angeles may be skipping out on as much as $60 million in gross receipts taxes, according to Rex Olliff, a finance specialist for the city's Chief Administrative Officer. Gross receipts taxes are a business tax based on sales volume. But he admits there is room for skepticism. "All we know is that we collected $18 million from our last tax amnesty," said Olliff.

The non-profit Economic Roundtable estimated last year that L.A.'s informal businesses skip out on $1.2 billion a year in payroll taxes and state-mandated insurance benefits. But that's based on a calculation of 811,000 workers in the underground economy with average annual incomes of $7,200; some believe the size of the informal workforce is almost twice that.

Even if all the players could be identified, it would still be hard to figure out tax losses. Record keeping among these businesses is sparse, and besides, they pay their expenses--including payroll--in cash. The EDD is currently investigating 1,000 cases of off-the-books employees statewide, according to the EDD's acting chief of underground economy operations, Richard Bristow. But cases don't surface until anonymous tips are received or when a worker tries to apply for unemployment benefits.

Of course some transactions, such as the narcotics trade, prostitution and the sale of counterfeit goods, are clearly illegal. But what if they were taxed?

Prostitution, for example, would be subject to a business license fee and gross receipts taxes (one player in the sex trade, massage parlors, already is supposed to pay such fees).

Cocaine and marijuana sales would be subject to the 7.25 percent sales tax rate, as well as a likely excise tax similar to that for alcohol and cigarettes. Based on the wholesale value of drugs seized by the U.S. Drug Enforcement Administration, the state loses approximately $165 million in tax receipts annually.

But if the drugs were legal, their value would be lower, as would the taxes theoretically generated. So the short answer is, nobody knows.

"We've never studied that, but it would be interesting to find out," said Joe Fitz, chief economist for the state Board of Equalization, which collects sales taxes.

At times, local officials have tried to increase their collection rates. To offset the proliferation of illegal sidewalk vendors, the city created a vending district in the Pico Rivera neighborhood four years ago. But just 21 vendors operate in the zone.

Many in the underground economy pay some taxes anyway, through purchases at legitimate retail outlets. And a study by Urban Institute researcher Jeffrey Passel determined that illegal immigrants paid at least $25 billion more in taxes in the United States than they received in public services. German economist Friedrich Schneider, who studied the issue internationally, noted that at least two-thirds of underground revenues end up spent in the mainstream.

Underground Facts

* An estimated 1.2 million people were working "off-the-books" in the five-county L.A. region this summer, 20 percent more than the year earlier.

* Non-payroll workers make up about 14 percent of the L.A. region's total employment, up from 12 percent three years ago.

* Industries where non-payroll, informal workers are most common are manufacturing, agriculture, construction, private household services, miscellaneous retail and restaurants.

* Average tips for a bartender on the Sunset Strip range from $300 to $500 on a Saturday night.

* Bars are required to report 8 percent of bar sales as tips and the bartender is required to report any additional amount earned.

* In Los Angeles County, an estimated $1.2 billion in annual payroll taxes and insurance owed goes unpaid due to off-the-books workers.

* The Los Angeles Police Department's asset forfeiture unit has seized $7 million in cash this year, through November.

* The Federal Reserve Los Angeles branch processed 2.4 billion bank notes of all dominations through October, second only to New York's 3.9 billion.

* The underground economy in both the U.S. and California is estimated to be anywhere from 3 percent to 40 percent of the legitimate economy.

* Day laborers and household help are typically paid from $7 to $12 an hour in cash, depending on the type of work done.

* In 2002, the state's Employment Development Department uncovered $245 million in unreported wages and 16,140 unreported employees statewide.

* An estimated $25 billion in cash was sent to Latin America alone in 2002, a figure expected to reach $30 billion this year.

--Nicole Taylor

Sources: UCLA Andersen Forecast, Economic Roundtable Report, Federal Reserve Los Angeles Branch, Employment Development Department Underground Economy Operations, Muitilateral Investment Fund and the Pew Hispanic Center, ABC Bartending School, Los Angeles Police Department