Wednesday, March 07, 2007

Unpaid taxes in the billions

This AP article from Sunday reports:

An IRS study last year concluded that the tax gap in 2001 was $345 billion. Of that, $197 billion came from underreporting on individual income tax returns and $88 billion from underreporting by corporations and the self-employed. The rest came from those not filing or not paying the proper amount.

That gap narrowed to $290 billion after enforcement efforts and late payments were factored in. Still, that left the government collecting only 86 percent of the more than $2 trillion it was owed in 2001.

That translated into a "surtax" of about $2,680 per household in 2001, the national taxpayer advocate said at a recent hearing of the House Budget Committee. "That is an extraordinary burden to ask our nation's compliant taxpayers to bear every year," Nina E. Olson said.

Who are these non-compliant taxpayers and how are they avoiding paying taxes? Well, that question has many answers. Let's examine what's said in the article first.

The IRS does claim some progress in cracking down on cheaters. The agency's commissioner, Mark Everson, said enforcement revenue has climbed from $34 billion in the 2002 budget year to $49 billion in 2006. The audit rate for individual returns has gone from a little over one in 200 in 2001, to about one in 100 in 2006, with the returns of millionaires getting closer looks, Everson said.

This claim is misleading, if not untrue. From TRAC:

According to new data from the Internal Revenue Service only 30 of the nation's thousands of millionaires were subject to a face-to-face IRS audit in 2005. The very small number selected for the traditional and sometimes intensive audits were drawn from 184,054 individual tax returns reporting a total positive income of $1 million or more.

Restricting the comparison to the agency's comprehensive face-to-face audits, taxpayers reporting less than $25,000 in total positive income were six times more likely to be audited than those reporting $200,000 or more in income.

When the simpler and far more common correspondence audits are combined with the face-to-face audits, the poor taxpayers were still almost twice as likely to be audited as the wealthy.

Low income taxpayers also had higher audit rates than middle income taxpayers. See Table 1.

If they've raised the audit rates to that degree, it's been by looking at more of the lowest earners than the highest. If that's the case, that massive tax shortfall is not coming from the poorest households which for one wouldn't owe that much in taxes, and for two, they're getting audited at a higher rate which means more of them are paying what they owe. The other options are of course the middle-earners and higher earners. Most of the people I know actually get taxes back at the end of the year, thus the only way they could be not paying taxes is if they were getting paid cash or something illegally by employers. I would say though, that that is much more likely at the lower end of the spectrum than the middle, and most middle classers get paid legally and pay sufficient taxes throughout the year to earn a return. As a matter of fact, it's all but certain that that shortfall is coming from the highest earners and corporations. By the way, that article by TRAC has a lot more damning information, so I highly recommend reading it.

In another report by the NY Times:

Top officials at the Internal Revenue Service are pushing agents to prematurely close audits of big companies with agreements to have them pay only a fraction of the additional taxes that could be collected, according to dozens of I.R.S. employees who say that the policy is costing the government billions of dollars a year.

“It’s catch and release,” said Douglas R. Johnson, an I.R.S. auditor in Colorado for three decades who said he grew so frustrated at how large corporations were allowed to pay far less than what he thought they owed that he transferred to the agency’s small-business division.

With one exception, other working agents would talk about the issue only on condition they not be identified because they feared being fired. They said a policy intended to avoid delays in auditing corporations was being pushed so rigidly that it prevented them from pursuing numerous examples of questionable corporate tax deductions.

Whoa, that's a big shot of confidence in the IRS for me! I'm just all ready to believe them now! Back to the WP article:

But Chris Edwards, director of tax policy studies at the libertarian Cato Institute, said the taxpayer compliance rate is one of the highest in the West, well above some European countries with thriving underground economies. The U.S. rate has held steady in the mid-80 percent level the past three decades.

He compared it to seat belt use, about 81 percent despite years of efforts to educate drivers.

Edwards, in an interview, predicted there would not be any real inroads in shrinking the gap until the tax laws were simpler; that is not expected to happen soon.

"Every new loophole adds additional incentives and ability for people to cheat," he said.

Everson agreed. "We will never be able to audit our way out of the tax gap," he said. Simplification would help, he said, but reducing the gap dramatically "will take some draconian steps" that "risk imposing unacceptable burdens on compliant taxpayers."

Well guys, it's just not fair to say the system is broke when you don't enforce the law! Now, going back to the NYT article, I wouldn't call this vigorous enforcement:

[...]Auditors said they were told to limit questioning only to those specific issues that the I.R.S. and the companies had agreed in advance to examine. When other questionable deductions emerged in the course of the audit, they said, additional taxes were ignored.

Rank-and-file auditors said that the sharp rise in tax dollars collected per hour of audit was not a sign of an improved auditing system but simply reflected the fact that abusive and illegal tax shelters had become so common that it was easy to find additional taxes due.

Now that's just sad. Is this directly linked to the Bush administration's favoritism towars the rich and corporate?

Ron McGinley said it was clear when the new policies went into effect in 2003, shortly before he retired as an I.R.S. economist in Southern California, that tax law enforcement was being weakened.

Well there you have it. A $345 billion tax shortfall which can be blamed partially or mostly on the deliberate actions of the IRS under the Bush administration. So this year if you're one of those poor or middle-class people the IRS audits, you'd be justified if you filed a complaint!


adam said...

Goob job analyzing this.

Xanthippas said...

You know, it's just not good enough to lower the tax burden on the wealthy. Instead, the onus is now shifted to poorer taxpayers to try and show how they can dare take minor and insignificant deductions, instead of on corporatios that want to play fast and loose with the rules. As everything with this Bush administration, we see that they do one thing in public, and quite another behind-the-scenes when they think no one will notice, because it's just not enough to get what they want in the formal political system.

Nat-Wu said...

And of course we hear that the tax code is "too complex" and it needs to be simplified (with a flat tax, usually). As if the reason corporations don't pay their taxes is that they can't understand the tax laws!