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PEARLS OF TAX WISDOM

June 15, 2006

A bunch of current and former tax officials are convening at the 2006 IRS Research Conference Program at Georgetown University. After reading the Tax Analysts ($link) coverage, I almost wish I'd been there.

Mark Matthews, IRS deputy commissioner for services and enforecment, had a sharp observation on efforts to close the "tax gap," the difference between the amount of taxes imposed in theory and the amount collected:

Matthews acknowledged that the IRS will also have to get better at using the data it already has, but said that with significant help on the funding side and some legislative improvements, $50 billion to $100 billion could be shaved from the $345 billion tax gap.

"We'll never get it to zero. We'll never get close to zero," he said. "You wouldn't want to live in a country where it was close to zero".

On audit effectiveness:

A study released later in the day by three researchers, among them the IRS's Edward Emblom, asserted in its preliminary results that increased audits can have a significant effect on compliance for all taxpayers.

According to the study, doubling the audit rate from 1 percent to 2 percent on businesses with incomes between $25,000 and $100,000 reduces noncompliance by 7 percent, while doubling the audit rate for larger businesses had similar but less pronounced results.

Carrying out the math, if doubling the audit rate reduces noncompliance 7%, you'd have to increase audit coverage by over 14 times to eliminate non-compliance. Of course you would never do such a thing, but its worth noting how hard it is to close the tax gap. How much additional enforcement is worthwhile, and when do you see diminishing returns? Even if you increase the audit rate to 15% you would never eliminate non-compliance; at some point snuffing the last vestiges of non-compliance just costs too much.

On the stupidity of Section 199 and tax law drafting in general:

Later in the day, a panel of former Treasury officials agreed there is little hope lawmakers will take administrability into account in tax reform efforts or even in modest tax law changes.

"Unless it can be made into a sound bite, there are few lawmakers interested in simplicity and even fewer interested in administrability," said Pamela Olson, former Treasury assistant secretary for tax policy, now with Skadden, Arps, Slate, Meagher & Flom, Washington.

Olson said that President Bush called the section 199 deduction "ridiculous" while Congress was working on it, but lawmakers ignored the White House opposition. Section 199 was criticized by the panelists as an example of totally unadministrable tax law.

On our legislators' priorities:

Olson acknowledged that while some complexity is inherent in the code, she called "nonsensical" the lengths to which lawmakers have gone to funnel social, industrial, and energy policies through the tax code. Jane Gravelle of the Congressional Research Service said lawmakers seemed most concerned with raising the minimum amount of money necessary aided by budget gimmicks while still pandering to constituents.

Still, we must be sympathetic; it can be hard to pander while engaging in gimmickry without mussing your hair.

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