Joe Biden has been honest about the reality of raising taxes to offset the reckless and economically disastrous 2017 cuts if he gets in office. “You all know in your gut what has to be done,” he told a group of fundraisers a year ago.
My CPA certificate is in retirement status but I still know how to count. The numbers on corporate stock buybacks and skyrocketing federal debt even before the current crisis should forever dispel the myth that big tax cuts will convince large investors and corporations to re-invest in industrial America. They will not dispel the myth, of course, because the myth runs deep, but they should.
This is the first of three posts with my suggestions for key elements to a Biden tax plan. This one will focus on things he can do right out of the chute, even if he fails to get a Senate majority. The second one focuses on guiding principles for making the tax code much simpler and objectively more fair, while at the same time picking up a few trillion dollars in much needed new revenue over his term. The third part looks at the issues of taxing business.
Hire a lot more tax auditors
Think of this as a very profitable jobs program. The number of IRS revenue agents declined by almost 40% from 2010 to 2019. Only five out of every ten thousand returns for filers earning between $1 million and $5 million were audited in 2018. And that drops to only three in 10,000 for incomes above that. In short, the rich just do not get audited anymore, and they know it.
In fact, the people most likely to get audited are the poorest filers who claim the Earned Income Tax Credit. I contend that the reason for this is that it is very easy to train a new body to audit EITC, and the government usually has more documentation on these people’s income than they do themselves, a condition with which we will deal shortly. It is not an audit problem. Rather it is a tax system design problem turned into a training ground for auditors. They could easily be moved to weightier stuff.
Back in 2016, the annual “tax gap” of uncollected U.S. taxes was estimated to be over $450 billion dollars. Every new auditor worth her salt and given proper resources quite easily becomes a “net win” for the government, bringing in revenue far more than her salary. A disclosure here: my spouse once had this job for one state’s taxing authority and pulled in several big “wins” worth far more than her salary. The tax auditors are themselves easily “auditable” to determine their worth.
There are some audit areas that are quite complex and may take years of expertise to build a case (cough, cough, The Trump Organization). But the key benefits of these “tough cases” are twofold. First of all, when the audit percentage gets higher, taxpayers and their accountants “playing the risk game” are more likely to comply without audits. Whop a few of the “big kids on the block” with a bigger stick and the smaller kids will often snap into line.
Second, fairness really demands more audits. When tax compliance its low, and audits are focused on the bottom of the money scale, this feeds more non-compliance and distrust of the system. “Honest” taxpayers pay the price here.
Pilot a pre-filled tax return option
More than once I have received one of those dreaded pre-audit letters from the IRS telling me that I underpaid my taxes. The usual culprit was a 1099 interest income form that they had record of but I did not, because of a move. This is a crazy game, and hits poorer people especially hard. The IRS has information on you that you yourself do not have, and if you don’t guess correctly as to what they have, then you pay a penalty. And you use up a lot of IRS agent time, as well as your own, unnecessarily.
It is an old story. We know the IRS does not pre-fill tax returns for filers mostly because Congress, in the pocket of H&R Block, TurboTax and the rest, does not want to hurt their gravy train. Tax preparation costs are, especially for many poorer Americans, an unnecessary additional “tax” that can certainly be reduced significantly.
There are several benefits to sending out basic pre-filled returns. Every person would now know “what the government knows” and can then start their tax return preparation from a position of good information. Computational errors are also still common; our math skills are simply not very good and the rules are often complicated. For millions of Americans, the numbers on a pre-filled form will be “good enough,” and they can send the computationally accurate form back in for an early refund.
The most common audit area, as noted above, is the Earned Income Tax Credit. It is simply very prone to mistaken calculation and missing data. Far too much auditor time is spent hounding these taxpayers when the same money could have been retrieved without an audit with a pre-calculated form.
For those taxpayers who dispute that calculation and have documentation that the government does not, there is always the option of taking that information into a tax preparer or software and massaging it with additional supporting data that could lower your taxes. Nobody loses except the tax preparer firms. And you do not owe them a business.
Publish the data on the worst special interest deductions and credits
The huge majority, by count, of tax deductions, credits, intricate calculations and special forms, are used to reduce taxes by fewer than one in 1000 taxpayers, or even fewer than one in a million. These are called “tax expenditures” and shift the tax burden back upon those “normal people” who just pay their taxes. How many times have you waded through a form’s complex calculation only to find at the end that you are not a “special interest”?
Pick your point at which the tax expenditures become “special interest.” Is it one in one thousand or 1 in one million people and businesses, or somewhere in-between? These rules almost all came about in closed Congressional committees where corporate lobbyists sometimes even write the exact language going into the bill. They have the lobbying money, and you don’t. I have estimated that there is at least $500 billion in annual tax revenue at stake here.
Not only that, but these “rich guy favors” are responsible for likely at least 90% of the tax code by word count. As my spouse would tell audited taxpayers, “Everything is taxable unless the government says that it is not.” The first part of that statement is by far the short part of the tax code; the rest fills many books and court case transcripts, often needlessly. It is far past time to “de-clutter” the code and start treating ordinary taxpayers the same as special interests.
The IRS likely already knows how many individual and corporate taxpayers get benefit from each line on each tax form. If not, statistical sampling can generate “good enough” numbers quickly. An industry I once worked for contracted with highly-paid K Street lobbyists working on just a few of these tax code lines, and they knew exactly what they were worth to their clients.
And so, a new Biden Administration could “prepare the field for plowing” by publicizing the “1 in xxx thousand” beneficiary numbers for hundreds of tax expenditures and bring them into the open. Every day a new number, perhaps, released from the Biden Treasury Department. These special deductions and credits become an important basis for effective tax reform and simplification, as will be discussed in Part Two.
Restore tax rate progressivity
Last year the New York Times produced a shocking animation of what has happened to tax rate progressivity over the past decades:
Many right-wing pundits continue to advocate for a “flat tax” as the best approach to tax fairness. Just from a practical point of view, this is unnecessary. Any tax code reform you create just needs a simple stepped calculation at the end to put in progressivity. But we have lost any semblance of that step function through the many “special favor” tax expenditures noted above that rich people get that you do not.
The primary argument for progressivity is that almost every other tax that people on the bottom half of the socioeconomic scale pay is regressive. In other words, it hits them much worse, percentage-wise. Take the payroll tax for social security, which is a flat rate charged on the first $132,900 (in 2020) in income that you make. Rich people, in effect, pay next to nothing into the social security system. Likewise, state and local sales taxes. These are flat rates on consumption, and poorer people consume nearly all of their income. The effective sales tax rate on Mark Zuckerberg is close to zero.
The tax code changes of 2017 squashed these brackets and rates even more. The good news is that, separated from any complex reform bill and passed through Congress by an emergency “budget reconciliation” process, the progressivity table could easily be re-calibrated to a much better level of effectiveness. And billions of dollars in new revenue could likely be picked up in the process.
Well, that’s my advice for “quick hits.” If you know anyone in a position to impact the (hopefully) new administration, please past this post on. The tax code needs much more work, and my longer-term principles for this are discussed in Part Two of this post, which is in the queue.
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