Tax Reform: Hope Springs Eternal This Fall
by National Taxpayer Advocate Nina E. Olson
The next few weeks and months are shaping up to be an exciting time for advocates of tax reform. To be sure, the details of a tax reform bill have been shifting almost daily. But that is hardly surprising. If tax reform is to pass, a lot of key players with differing priorities and goals ultimately will have to agree on a unified approach. And if an agreement is eventually reached, the daily gyrations will be quickly forgotten.
There are, of course, many goals of tax reform. On a policy level, these include achieving greater economic efficiency, fairness, and international competitiveness. As an IRS official, I generally don’t take a position on these broad policy issues.
Instead, my focus has been — and remains — on advocating for a simpler tax code to reduce taxpayer burden. I certainly hope policymakers will take steps to simplify the code and reduce burden as part of their efforts.
From where I sit, tax code simplification is critical. I recently wrote that if I had to distill everything I’ve learned as the National Taxpayer Advocate into one sentence, it would be this: “The root of all evil in the tax system is the complexity of the Internal Revenue Code.” In fact, since 2001, I have four times designated the complexity of the tax code as the #1 most serious problem facing taxpayers and three times made tax simplification my #1 legislative recommendation in my Annual Reports to Congress.
If my concerns about code complexity sound hyperbolic, you should see what I see. Code complexity is terrible for taxpayers, terrible for the IRS, and terrible for tax compliance. Honest taxpayers regularly get tripped up by complicated rules and IRS procedures. The IRS has to deal with so many unique, nearly “one off” cases that it makes more than its fair share of mistakes — which, of course, harm taxpayers. Taxpayers trying to game the system can often do so by hiding behind complex provisions that are very difficult to audit. And complexity obscures how the tax laws operate, making them appear arbitrary and capricious, which increases taxpayers’ distrust and undermines compliance.
Consider the following:
- According to my office’s analysis of 2015 IRS data, individuals and businesses spend about six billion hours a year complying with the filing requirements of the tax code. And that figure doesn’t include the millions of additional hours that taxpayers must spend when they are required to respond to IRS notices or audits.
- If tax compliance were an industry, it would be one of the largest in the United States. To consume six billion hours, the “tax industry” requires the equivalent of some three million full-time workers.
- Compliance costs are huge both in absolute terms and relative to the amount of tax revenue collected. Based on Bureau of Labor Statistics data on the hourly cost of an employee, my office estimates that the costs of complying with the individual and corporate income tax requirements for 2015 amounted to $195 billion — or more than 10 percent of aggregate income tax receipts.
- According to a tally compiled by a leading publisher of tax information, there have been almost 5,900 changes to the tax code since 2001 — an average of more than one a day.
- Individual taxpayers find return preparation so overwhelming that the majority (54 percent at last count) pay preparers to do it for them. Among unincorporated business taxpayers, the figure rises to about 68 percent. Depending on the complexity of the return and other factors, return preparation fees typically range from several hundred dollars to several thousand dollars, and much more for complex businesses.
- The federal government “spends” more money through the tax code each year than it spends to fund the entire federal government, including the military, through the appropriations process. In FY 2016, the Treasury Department estimated “tax expenditures” amounted to about $1.4 trillion. By comparison, discretionary appropriations totaled about $1.2 trillion.
- The number of tax expenditures in the tax code exceeds 200. That gives the well advised a leg up over other taxpayers, who often overlook tax breaks to which they are entitled.
I have long believed, and continue to believe, that comprehensive tax simplification is achievable by following the model of the landmark Tax Reform Act of 1986. It’s true that asking taxpayers to give up tax breaks from which they currently benefit will prompt resistance. But if policymakers pair substantial reductions in tax expenditures with substantial reductions in tax rates, and maintain current tax-burden levels by income decile, U.S. taxpayers may well appreciate that their tax burden on average won’t change much — and they will actually end up better off because they will save time and money on compliance costs. That approach prevailed 30 years ago, and despite some significant differences, it could prevail again today.
But even if policymakers decide comprehensive simplification is too heavy of a lift, there are many steps that can be taken to simplify the tax code in smaller bites. For example, Congress could:
- Consolidate and simplify the six “family status” provisions in the tax code. These include filing status, personal and dependency exemptions, the child tax credit, the earned income tax credit (EITC), the child and dependent care credit, and the separated spouse rule. Note that every individual taxpayer is affected by at least two of these provisions, and many taxpayers are affected by five. I have proposed a Family Credit and a Worker Credit to replace them, which would have the secondary benefit of reducing EITC improper payments.
- Simplify other provisions that govern taxation of the family unit, including “joint and several liability” (page 39) and the “kiddie tax” (page 76).
- Consolidate the incentives that encourage savings for education (page 413). There are now at least 12 — far too many for most parents and students to analyze and choose among.
- Consolidate the incentives that encourage savings for retirement (page 433). There are now at least 15 — again, far too many.
- Reduce procedural incentives to use tax “sunsets” (page 61). More than 70 provisions currently in the tax code are temporary and require periodic renewal. Not only do expiring and renewed tax provisions foster taxpayer uncertainty, but they also wreak havoc on IRS planning for a smooth filing season.
- Minimize income phase-outs (page 48), which affect roughly half of all returns each year, introduce inflated marginal “rate bubbles,” and add considerable complexity to tax computations. In general, if we want taxpayers at higher income levels to pay more taxes, we should be straightforward about it and set a higher marginal tax rate rather than masking it behind income phase-outs.
- Streamline the penalty regime for tax violations (page 9). In 1955, there were 14 civil penalties in the tax code. Today, there are more than 170, many of which are rarely assessed. (We set forth an approach to penalty reform in our 2008 Annual Report to Congress, complete with a chart showing the number of times each civil penalty was assessed in fiscal year 2007.)
These proposals are intended to address some of the most significant taxpayer challenges we see, but there are many other proposals for policymakers to consider. The Bush and Obama administrations both produced reports with many good simplification proposals, as have the House Ways and Means and Senate Finance committees and others. In my 2010 Annual Report to Congress, I announced that TAS was establishing an electronic mailbox to which taxpayers could submit suggestions regarding tax reform. In particular, I asked taxpayers to address two questions: (i) what tax breaks would you be willing to give up if you knew other taxpayers would also be giving up their tax breaks and the end result would be a simpler tax system and (ii) what provisions of the current tax code are especially burdensome or seem particularly unfair? We have received more than 5,500 suggestions. You can submit suggestions and read many of the tax reform suggestions we have already received here.
U.S. taxpayers have been struggling under the weight of the current tax code for far too long. There is no shortage of good ideas. Now is the time for the administration and Congress to seize the moment and finally, this year, deliver much-needed relief to our nation’s taxpayers. I continue to be hopeful that we will achieve simplification, if for no other reason than that we must.
Additional blogs from the National Taxpayer Advocate can be found at www.taxpayeradvocate.irs.gov/blog.
The views expressed in this blog are solely those of the National Taxpayer Advocate. The National Taxpayer Advocate is appointed by the Secretary of the Treasury and reports to the Commissioner of Internal Revenue. However, the National Taxpayer Advocate presents an independent taxpayer perspective that does not necessarily reflect the position of the IRS, the Treasury Department, or the Office of Management and Budget.