The 'softer' side of IRS collections
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Tax Gap closure suggestions

The IRS is trying a new "soft notice" approach (blogged here) to get more people to voluntarily correct underreported income. But some folks say more needs to be done to close the tax gap.

Irs_shakedown That's the money the IRS says it is owed but which hasn't been paid.

The IRS' last estimate of the tax gap was back in 2001. The figures then set the unpaid amount at $345 billion, or $290 billion after subtracting enforcement efforts and late payments. It's a safe bet that in the last seven years, the gap has widened.

A group of tax experts convened this week to explore ways to collect owed taxes. The tax gap forum was organized by Sen. Thomas R. Carper (D-Del.), chair of the Senate Homeland Security and Governmental Affairs Subcommittee on Federal Financial Management, Government Information, Federal Services, and International Security. The Homeland Security panel, while having no official tax oversight, has gotten more involved lately in tax matters, such as the offshore account issue blogged about here.

This time, Carper wanted to hear what Treasury Department and IRS officials thought could be done to close the tax gap.

Third-party reporting favored: A favorite way to close the tax gap is increased third-party reporting of income. A 2006 study on the tax gap concluded that $197 billion of the owed money was due to underreporting on individual income tax returns; another $88 billion was from underreporting by corporations and self-employed individuals.

Earlier this year, the Housing and Economic Recovery Act of 2008 was signed into law and it contains a provision requiring merchants to report information on credit and debit card and third-party network transactions. This is estimated to raise $9.5 billion over 10 years.

Under the just-enacted Emergency Economic Stabilization Act (aka the bailout bill), securities brokers now must report cost basis information for stock and other securities transactions. It's estimated that this will produce around $6.7 billion over 10 years.

James White, director of tax issues at the Government Accountability Office's Strategic Issues Team, acknowledged that third-party reporting has a lot of potential, but cautioned that "the trick is finding third-party segments we have not tapped."

Lots of ideas: Some other tax gap revenue raising suggestions raised at the forum include:

  • Withhold payments to federal contractors who don't pay their taxes.
  • Require financial institutions to report information about non-interest-bearing accounts.
  • Match federal and state tax data.
  • Clarify tip reporting requirements by the restaurant industry and employees.
  • Better regulate paid tax preparers.

The need for more efficient and effective tax collections was underscored by the recent financial services bailout bill and tax breaks that were added to the package.

"We're going to have to be smart and look at different ways to close this gap because no single approach will work," said Carper, who added that he will work closely with the Senate Finance Committee to find solutions.

You can read more on the forum in this Associated Press story and this statement from Sen. Carper.


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How can we trust them to accurately report the size of the tax gap? I don't mean that they're lying, just that their estimates are never going to include really clever (and legal) tax dodges. I would assume that at least some of the most creative tax thinkers are working for the private sector rather than the IRS, so I would be that there would be a tax gap even with nearly perfect enforcement.

Of course, you can't estimate the size of this tax-gap-gap (for the same reason that the original estimate is suspect). But I bet it's going to make it hard for the IRS to collect on a large fraction of the money owed. The Federal contractor and tip-reporting ideas are good, though!

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