Answer By law4u team
Under-reporting of income is a common form of tax evasion, where individuals or businesses intentionally report less income to reduce their tax liability. The government uses various tools and methods to detect such practices, ensuring tax compliance and preventing financial crimes like money laundering.
Methods Used by the Government to Detect Under-Reporting of Income
Cross-Verification of Tax Returns:
The government cross-verifies the income reported in tax returns with various third-party sources, such as banks, employers, and other financial institutions. If there is a mismatch between the reported income and the data obtained from these sources, it raises red flags.
Data Matching through the Tax Information Network (TIN):
The Tax Information Network (TIN), managed by the Income Tax Department, compiles data from various sources. It matches details like TDS (Tax Deducted at Source) payments, bank deposits, and other financial records with the income tax returns filed by individuals and businesses. Discrepancies in this data can lead to further investigation.
Third-Party Reports:
The government receives reports from third parties, including employers, banks, and financial institutions, regarding a taxpayer’s financial transactions. For instance, banks report large cash deposits or transfers to the Income Tax Department. If the reported income doesn’t align with the financial transactions, it could indicate under-reporting.
Audit and Scrutiny:
The Income Tax Department can select tax returns for scrutiny or audit based on various risk factors, such as large discrepancies between income and expenditure, or suspicious patterns of financial transactions. During an audit, the taxpayer must provide detailed documents, and if income is under-reported, they can be penalized.
Use of Artificial Intelligence and Data Analytics:
The government is increasingly using artificial intelligence (AI) and data analytics to detect patterns in tax returns and financial data. These tools can identify anomalies or inconsistencies in a taxpayer’s reported income compared to their financial activities. Machine learning models also help in spotting trends of under-reporting.
Whistleblower Reports:
Sometimes, the government may receive tips or complaints from employees, competitors, or insiders who suspect that income is being under-reported. These whistleblower reports are investigated, and if found valid, they can lead to legal action against the violators.
Surveys and Investigations:
Government authorities may conduct surveys or investigations in specific sectors or businesses that are known for frequent tax evasion. These investigations often involve analyzing financial records and transaction details, helping to uncover hidden income or unreported earnings.
International Cooperation:
With the globalization of financial markets, the government collaborates with foreign tax authorities to detect under-reporting. Information-sharing agreements, such as the Common Reporting Standard (CRS), allow tax authorities to access international financial data, which can reveal undisclosed foreign income and assets.
Example:
Suppose a business owner reports an income of ₹30 lakh on their tax return, but the bank records show large deposits of ₹50 lakh during the same year. Additionally, the TDS deducted from payments to suppliers shows higher income than declared by the business owner. The government uses these discrepancies to initiate a detailed audit. Upon further investigation, the business owner is found to have under-reported income to evade taxes, leading to penalties and the payment of back taxes.
Conclusion:
The government employs a multi-layered approach to detect under-reporting of income, including data matching, auditing, and third-party reports. These strategies ensure that businesses and individuals comply with tax laws, helping the government identify and address tax evasion effectively. By leveraging advanced technology, international cooperation, and traditional methods, authorities can detect discrepancies and take necessary actions to uphold tax integrity.
