Investing more in tax compliance, including regulating preparers, beefing up cryptocurrency reporting, and modernizing old IRS technology, would yield $700 billion in tax revenue over the next decade, according to a new report.
The report, released Thursday by the Treasury Department, details the tax compliance measures that President Biden has proposed to raise revenue for his American Families Plan, which would expand the Child Tax Credit beyond the end of the year and provide funding for childcare, pre-school education, community colleges and more. The tax compliance measures include regulating unlicensed tax preparers, sanctioning so-called “ghost preparers” who don’t sign their clients’ tax returns, and increasing the penalties on preparers who help their clients evade taxes.
Other measures include providing the IRS with more resources to deal with sophisticated tax evasion, giving the IRS more information from financial institutions about total account outflows and inflows in addition to their existing reporting on bank accounts, overhauling the outdated technology at the IRS to help the agency identify tax evasion and serve customers, and requiring reporting of cryptocurrency transactions of $10,000 or more.
The Treasury estimates that the tax gap between taxes collected and taxes owed totaled nearly $600 billion in 2019 and will rise to about $7 trillion over the course of the next decade if it’s left unaddressed, which is approximately equal to 15% of taxes owed. IRS Commissioner Charles Rettig recently testified in Congress that the current tax gap could be $1 trillion or more. The Biden administration hopes to use the extra tax revenue it would earn from closing the tax gap, along with increases in the capital gains and corporate tax rates, an end to the carried interest and step-up in basis tax breaks, plus greater IRS enforcement, to help fund both its American Families Plan and American Jobs Plan for infrastructure improvements. The Treasury’s Office of Tax Analysis estimates the extra tax compliance proposals could yield $700 billion in additional tax revenue over the next decade and as much as $1.6 trillion in the following decade.
Part of that could come from regulating tax preparers who currently aren’t licensed as CPAs, Enrolled Agents or tax attorneys, as the IRS tried to do with its Registered Tax Return Preparer program in 2012 before it was invalidated by the federal courts in 2013 because it went beyond the IRS’s statutory authority. The Biden proposals would write into law the regulation of tax preparers and increase the penalties for preparers who commit tax evasion or help abet it for their clients (see story).
“Taxpayers often make use of unregulated preparers who lack the training to provide accurate tax assistance,” said the report. “These preparers submit more returns than all other preparers combined, and taxpayers rely on their guidance, in part because of challenges in reaching the IRS in a timely manner when questions arise. In addition to the regulation of paid preparers and service improvements that would simplify tax filing, the President’s proposal includes additional sanctions for so-called ‘ghost preparers’ who fail to identify themselves on the tax returns which they prepare.”
The Biden proposal would also require banks to provide more information reporting on account inflows and outflows of their customers. “When the IRS can verify taxpayer filings with third-party information reports, such as the W-2 forms submitted by employers to report wages, compliance rates exceed 95%,” said the report. “Without third-party reporting, compliance rates fall below 50% and thus lead to an inequitable asymmetry in tax collections depending on the form in which income is accrued.”
The administration predicts the IRS would be able to use the new information to better target its enforcement activities, increasing scrutiny of wealthy evaders and decreasing the likelihood that fully compliant taxpayers will be subject to costly audits. “As a result, voluntary compliance will rise through deterrence as would-be tax evaders realize that the IRS has an additional lens into previously unreported income streams,” said the report.
Some observers are skeptical that the IRS would be able to process all the information from the banks without significant technology upgrades. “Is the government prepared to analyze the data they would receive?” asked Brian Fox, founder of digital confirmation platform Confirmation, a division of Thomson Reuters. “It’s a massive amount of data that they would be collecting. The questions would be how long would they be allowed to hold that data. Is it an indefinite period of time? Is it until the taxpayers no longer need to keep data associated with those tax returns, which I think is like seven years? Is it just one year? Clearly there is not the staffing in place to analyze the transactional flows. Are there systems that have already been built or that need to be built to be able to analyze those transactional inflows and outflows? If we don’t have the technology in place at the highest level to catch multiple refund checks going to the same mailing address in the U.S., much less multiple refund checks going outside the U.S., we certainly don’t have the technology in place to do an adequate job of analyzing the data from these inflows and outflows from these transactional level details.”
The Treasury believes that providing funds for modernizing the IRS’s outdated technology, some of which dates back to the 1960s, would improve tax compliance and yield billions of dollars, while enabling the administration to deliver expanded refundable tax credits and improving cybersecurity and providing faster tax guidance.
“These resources would also support efforts to meet threats to the security of the tax system, like the 1.4 billion cyberattacks the IRS experiences annually,” said the report. “With a revitalized IRS, taxpayers would also be able to communicate with and receive guidance from the IRS in a clear, timely manner when questions arise. Further, modernized IT would help improve taxpayer service and ensure that the IRS is able to effectively and efficiently deliver tax credits to eligible families and workers, including recent expansions to the Child Tax Credit, the Earned Income Tax Credit, and the Child and Dependent Care Tax Credit proposed in the American Families Plan.”
Crypto crackdown
The IRS could use the technology improvements to crack down on the use of cryptocurrency for tax evasion, with the Treasury pointing out that “the IRS operates outdated systems and lacks the ability to fully take advantage of the benefits of more modern technology due to its resource constraints. Further, noncompliance has been exacerb ated by enhanced opportunities to shield income from tax liability, and even from audits. These opportunities are particularly available for those in the top end of the income distribution who can avoid taxes through sophisticated strategies such as offshoring, creating complex partnership structures, or moving taxable assets into the crypto economy.”
Under the information reporting changes that the Treasury is proposing, crypto transactions of $10,000 or more would be reported to the IRS. “Within the context of the new financial account reporting regime, cryptocurrencies and cryptoasset exchange accounts and payment service accounts that accept cryptocurrencies would be covered,” said the report. “Further, as with cash transactions, businesses that receive cryptoassets with a fair market value of more than $10,000 would also be reported on. Although cryptocurrency is a small share of current business transactions, such comprehensive reporting is necessary to minimize the incentives and opportunity to shift income out of the new information reporting regime.”