The voices of Tax Policy Center's researchers and staff
Alas, it takes a potential scandal to bring attention to a government program in need of reform. In this case, it’s the intense individual income tax audits conducted by IRS under the National Research Program (NRP).
NRP research relies upon comprehensive audits of a very small sample of tax returns to assess the extent and nature of evasion and other errors. The program recently came into the spotlight because the IRS happened to audit two former high-ranking FBI officials who often faced President Trump’s verbal wrath. This most likely and hopefully will turn out to be nothing but a tempest in a teapot.
But as long as the NRP is getting attention, we might try to determine how its goals can be better accomplished. Here are only three important reforms: 1) engaging in more intense audits of particular income and deduction items; 2) simultaneous audits of partnerships and other pass-through entities and their owners; and 3) more detailed reporting on what IRS auditors can’t detect. This could be better for the IRS budget and better for taxpayers (especially compliant taxpayers) by focusing more time and attention on the main sources of noncompliance.
By way of background, the NRP represents the latest of IRS efforts to get some handle on the size of the so-called tax gap, or the difference between what the agency collects and what taxpayers actually owe. If the IRS knows where evasion is most prevalent, it would be better able to allocate limited audit and examination resources.
The IRS mainly examines returns by matching documents it receives from employers, banks, and other intermediaries with what individuals report on their tax returns. Some administrative reforms can be considered there as well, but that’s not the focus here. The IRS doesn’t have documents to match many sources of income and deductions, such as self-employment income, where evasion is higher and more difficult to detect.
A supplemental approach would entail studies of particular items on tax returns rather than all line items for a small subset of returns. A related effort would provide audits of partnerships and other pass-through sources with what individuals report from those sources. In all cases, the researchers could tell policymakers a lot more about what is difficult to administer by quantifying not just errors for which they find evidence, but the breakdown of the residual by amounts they can and cannot verify. If the research indicates that an intense audit could determine misreporting of 5 percent of a particular deduction, it would be nice to know that, say, 80 percent could be verified as accurate but that the validity of the other 15 percent is uncertain.
Let’s use charitable contributions as an example.
Charitable contributions are not reported to the IRS by charitable organizations, but they are required to send receipts to taxpayers for gifts of more than $250. For contributions of stock, land, and other noncash gifts, the taxpayer, not the charity, has the obligation to have available an accurate assessment of value. Beneficiaries of the gift, including both charities and sometimes state governments, have incentives to turn a blind eye to excessive claims, since the federal government bears the burden of any error.
As one example for an item currently in the news, for an IRS agent to contest just one assessment of one conversation easement (right to use of land by some government entity or charity), it could require hiring of experts in land management, local property values, zoning restrictions, finance, and law. Years ago Adam Looney documented questionable practices and allocations of these deductions. One wonders whether better IRS information might have led to quicker Senate Finance Committee efforts to constrain the growth in syndicated tax shelters composed of easements. Only legislation, not IRS enforcement efforts, are adequate to this task.
Well-conducted statistical examinations of specific types of noncash contributions could help the IRS, Treasury and Congress to know just how big these types of problem are. These studies should provide data not only on amounts overstated and understated, but for amounts that cannot be validated at all—for example, the cash contributions that the taxpayer claims to have thrown into a church collection box. That would give IRS and policymakers a handle on what is and is not enforceable.
Though seldom loved, the IRS tries to reduce the share of the tax burden owed by honest taxpayers. The agency also plays a role in making sure the government collects the funds necessary to fund various programs.
Congress, meanwhile, goes through regular cycles of complaining about IRS’ interactions with taxpayers, adding complex provisions to the tax code, and then asking IRS to better enforce the law. By detailing the extent of detectable or unknown levels of error and evasion on specific deductions and sources of income, the IRS can better direct its resources to protect compliant taxpayers and inform Congress on where it can improve compliance through expanded reporting requirements and tax simplification.
Posts and comments are solely the opinion of the author and not that of the Tax Policy Center, Urban Institute, or Brookings Institution.