Use of New Technologies for Tax Administration

One of the trends I think really got underway in 2010 regarding the tax law was new and expanded uses of various technologies by the IRS and state tax agencies. These include:

• Going green or paperless - The IRS and California Franchise Tax Board both stopped mailing paper returns to people. Other states likely did as well. This also reduces costs for the tax agencies, but really reflects the fact that many tax returns can be prepared and filed without the need for paper.
• Interactive websites - The IRS had a webpage that allowed individuals to enter their name, birth date and social security number to get information on whether they received a Recovery Act Payment. The California FTB has a variety of online verification and payment features it is encouraging taxpayers and practitioners to use. It includes the ability to schedule an electronic payment of taxes (such as estimated taxes) up to one year in advance.
• Web-based guidance - The IRS made greater use of FAQs to get information to taxpayers and practitioners, especially when quick guidance was needed, such as for the payroll exemption enacted for employers in March 2010. While FAQs are a good way to get timely information released, it is not traditional guidance and some questions and safeguards are missing. For example, how long will the FAQs be posted? When an answer is changed, what happens to the original answer? I have a short article on this topic - “How Heavy is an IRS FAQ?” AICPA Tax Insider (11/11/10)
• Twittering - The IRS is releasing updates and making announcements on Twitter. Some state tax agencies are as well including California (more than one - see John, Steve, Marlene, and Steve/FTB Advocate), Minnesota, and Oregon. Again, while this seems to be a good use of available technology and perhaps is just duplicating other existing outlets for information, it raises a question of whether tax practitioners should be following these tweets. Is this the new level of professional conduct and expectations? And ...what about this? - I received an email on December 13 saying that the Franchise Tax Board was now following me on Twitter! That doesn't bother me, but perhaps some people don't want to be followed by a tax agency. What rules should exist for this or are none warranted - that is, you Tweet, you can be followed?
• Others - continued use of YouTube, offering of webinars, auditors getting information related to examinations from the Internet, and more.

Hopefully we'll see more uses of technology where it can improve compliance and administration. Yet, it seems we also need some additional guidance or actions such as:

1. The IRS elevating FAQs to the level of revenue rulings and notices so they can be relied upon as "authority."
2. Statements from tax agencies on whether practitioners are obligated to follow tax agency tweets. This would include some reference in rules of conduct.
3. When a practitioner is allowed to input client data into a tax agency's secure, interactive website without violating any rule of conduct or whether they must always ask a taxpayer first.

What do you think?

I hope you have a very happy, healthy, and tax error free 2011!

State lotteries as disguised taxes - and with high administrative costs

The Tax Foundation has an interesting blog post today (12/28/10) - "How Much Implicit Tax Revenue Did Lotteries Raise in FY2010?" by Alicia Hansen. She describes the lottery funds kept by the state to fund schools, parks or other programs as "implicit tax revenue."

The theory is that just as when someone buys something subject to an excise tax, money goes to the tax collector, the same is true with a lottery ticket. Except that the implicit tax is typically much higher for the lottery ticket than for most other items (52% implicit tax in California per Tax Foundation calculations).

I think this is an interesting perspective. The tax angle gets lost from public view, I think, because it is the state selling the lottery ticket while other items subject to excise tax, such as alcohol and gasoline, are sold by companies who collect and remit the excise taxes. And, the implicit tax rate is not noted on the receipt for the purchase of the ticket.

For lottery tickets, the state collects all of the revenue with it going to: (1) administrative costs, (2) winner payouts, and (3) general fund revenues. Looking at the lottery as an implicit tax, also indicates that the administrative costs are quite high. I'd include the winner payouts in that category. To collect the tax, the state has to pay out about two-thirds of what it collects from the ticket price (per information posted on the National Conference of State Legislatures (NCSL) website). It really is an odd way to bring in dollars to the government coffers! And, it is a regressive tax too.

And, there is the standard concern about why the government promotes gambling. Lotteries enable people to say they are buying the ticket to help schools. The California lottery page describes lottery players as "partners in our state's education." (Where, clearly, statistics isn't a school subject!) Schools would be better off if people just gave the lottery money directly to their local school.

Back to the tax angle. In California, taxes and regulatory fees can only be enacted or raised with a 2/3 vote of the state legislature (fees were added by Prop 26 that passed 11/2/10). Could the economic reality of the lottery as a tax carry over to require that certain changes be voted on by a supermajority? Interesting question.

So, I would add state lotteries to the discussions on state tax/spending/budget reform. What do you think?

Employment Trends and the Income Tax

Part of the rationale behind "21st Century Taxation" as the title for this blog is that I think any degree of tax reform should consider how the world is changing - how we live, do business and view the environment. So, one approach to tax reform is to consider trends and what they mean for tax law design (tax policy). (The other key rationale for the blog title is the hope that tax reform can consider principles of good tax policy!)

Here are three recent headlines that indicate some important trends for which our existing US income tax rules mostly run contrary to.

1. "Weighing Costs, Companies Favor Temporary Help," by Motoko Rich, New York Times, 12/19/10


2. "Does part-time work pay?" by Anne Saint-Martin and Danielle Venn, OECD Observer, July 2010 (July! - I must be a bit behind in my reading.)


3. "AXA Equitable Study Shows New Retirement Reality - People Will Work Longer" by AXA Equitable (12/16/10)

Our tax system tends to favor full-time, long-term work. Here are some reasons why I say this:

• For decades, the income tax has encouraged employer-provided health insurance via the employee exclusion for it. This is viewed as increasing health care coverage but also costs and inefficiencies (see, among various reports, (1) CRS report on the exclusion (Nov.2008) and (2) President Bush Tax Reform Advisory Board final report, Chapter 5, pages 78 - 82 (2005). High costs for employers tends to lead them to only make health care insurance to full-time workers and not part-time workers. The system, increases health care coverage which particularly hurts individuals buying insurance on their own.
• Greater use of defined contribution benefit plans over defined benefit plans. With workers uncertain as to how much retirement savings they need, this trend creates challenges. (Nellen, 401(k) Concerns and Ideas, AICPA Tax Insider, 11/13/08)
• Worker classification rules that make it difficult or impossible to hire most temporary workers as independent contractors which would be simpler for tax purposes. The classification scheme is premised partially on the notion that employee status is preferable to better ensure tax compliance. A tax system that allows for greater classification flexibility along with rules that provide greater assurance that appropriate taxes are paid would better reflect workforce realities. Basically, if we want to be sure income and payroll taxes are paid and some minimal "safety net" is available, why not rewrite the rules to reach this result?
• Rules for the exclusion for employer-provided health care, 401(k) and other retirement plan contributions, tend to benefit high income taxpayers more due to their higher tax bracket. Modifications to these rules, such as converting them to tax credits, would enable this "cost" to be spread out over more individuals.
• Unreimbursed work-related expenses are only deductible as miscellaneous itemized deductions to the extent they exceed 2% of AGI. This is a high threshold and most workers can't deduct work-related costs. Temporary workers are likely to have more expenses due to the nature of their work.

If tax reform factors in economic, societal and environmental trends, the tax system should then be able to work in support of such trends and not contrary to them which arguably should increase economic efficiency.

The Growing Deficit - Relevant?

The 2010 Tax Relief Act enacted December 17, 2010 (P.L. 111-312) which extends tax cuts from 2001/2003 and even later, has a projected budget effect of negative $858 billion! (Joint Committee on Taxation, JCX-54-10) And, this is only a two year extension for most of the provisions. That is, the $858 billion over 10 years isn't the cost of these provisions being in effect for each of 10 years, but mostly just for two years.

A tax system is supposed to generate funds for government operations. Given growing deficits and national debt, our tax system is not doing that. Of course, the federal government has been trying to stimulate the economy which can justify some negative spending, but when will it end? The tax cuts enacted in 2001 and 2003 were not for helping to get us out of a recession.

Deficit spending increases borrowing which further increases the deficit due to greater interest expense. At what point is the debt so large that people and other countries are unwilling to loan us money? What happens then?

Maya MacGuineas of the New America Foundation has a paper posted entitled - Creating a Fiscal Turnaround in the United States (12/13/10). It provides a clear explanation of the growing debt levels in relation to GDP and the problems that can ensue from too much national debt. She notes:

"The debt held by the public has averaged less than 40 percent of GDP over the past 50 years in the United States. It now stands at 62 percent, and is projected to reach close to 90 percent by the end of the decade, 100 percent by fiscal 2024, and 200 percent by the mid-2040s."

She also notes that greater debt leads to higher interest rates further increasing expenditures and the debt leading possibly to a recession and lower standards of living.

In my list of trends to linger after 2010, I include "deficit awareness." I think the President's Deficit Commission, talk of the need for a VAT to pay down the debt, and efforts by groups noted in MacGuineas' paper (including the New America Foundation's Committee for a Responsible Federal Budget directed by MacGuineas, and the Peterson Foundation) in raising awareness and developing solutions, are starting to get more attention than in prior years.

While the report did not get the required 14 out of 18 votes to head to Congress, the Deficit Commission has a "final report" with bipartisan support, and is likely to get attention in Congress. Whether action will be taken remains to be seen, but any discussion hopefully will continue to raise awareness by the public. But, I think until most of the public recognizes that this is everyone's problem to solve and that we'll all need to contribute in some way to address it, it will be slow going.

What do you think?

Payroll Tax Holiday Period and Other Recent Oddities

Despite some concern about the "cost" of extending the 2001/2003 tax cuts for everyone, Congress and President did so AND added some more tax breaks - all intended to be temporary. I'll comment on just two of the many provisions of Public Law 111-312 (12/17/10), otherwise known as ‘‘Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010" (H.R. 4853).

1. Mixed messages: Bonus depreciation is increased from 50% to 100% for assets placed in service before 2012. Reduced tax rates are only in place for 2011 and 2012. If rates will be going up by 2013 (unless, of course, extended again), why take 100% expensing. It will likely be better for many taxpayers to push some of this depreciation deduction to post 2012 years.
2. Temporary might mean permanent: While we have seen that many temporary provisions end up getting renewed including retroactively, I think this will also be the case with the Social Security rate decrease from 6.2% to 4.2% for the employee contribution enacted just for 2011 (and self-employment tax drops to 10.4%). Most young people today do not expect to get Social Security when they retire so are more than glad not to have to pay in as much. I think they will push for keeping the rate at 4.2%. It is puzzling why this decrease was even enacted. With extension of the 2001/2003 tax cuts, everyone already got a tax cut, why give them more when we have deficit and debt problems?

With all of the temporary provisions in the law (more so every year), what does the federal income tax law look like without any of them? How much revenue does it raise? The Social Security tax reduction for workers and self-employed costs $111 billion per the Joint Committee on Taxation (JCX-54-10)). Will tax reform (if it happens) also look at these questions?

What do you think?

Boston Tea Party Anniversary

The Boston Tea Party was 237 years ago today (December 16, 1773 - see Library of Congress picture). For years, I have thought this anniversary might be a good time to consider what tax rule we might want to "dump." Of course in recent years, the spirit of the Boston Tea Party has lead to the Tea Party movement (not entirely sure what this really is - Google searches bring up lots of divergent information).

But what about the anniversary as a day to think of something in the tax law that should be dumped? I'd suggest some odd provisions such as allowance of deduction of interest on debt on a second home, as well as home equity debt and the very large $1.1 million home mortgage debt limit (even the median home price in California is under $500K). These are some of the more "expensive" tax expenditures. Why not reduce them and use the additional taxes collected to help pay down the debt and reduce tax rates?

What might you want to dump and why?

Too Much Uncertainty in The Tax Law

In my last post, I listed 12 trends I discern from recent tax rulings and legislative activity with the number one trend being uncertainty. While we might think of uncertainty mostly existing at the federal level, it is at the state level as well. *

The Wall Street Journal has an article today also noting the problems of uncertainty in the tax law. In "'Temporary' Tax Code Puts Nation in a Lasting Bind" (12/14/10), the authors write:

"The level of uncertainty, unusual for developed nations, complicates planning and discourages hiring and investment, many economists and corporate executives say."

This is all really an odd way to design a tax system. It also makes people forget why we have a tax system (to raise revenue for government operations).

What do you think?

*An example of uncertainty in California where it is not yet known how Prop 26 affects 2010 legislation including the conformity bill passed in April 2010 (which likely causes at least one taxpayer to pay more tax).

2010 — Setting the Stage for a New Tax Era

I think there were either new or continuing activities in 2010 that indicate our federal and state tax systems will be shaped and how we will be affected by it. I've got a short article in the AICPA Tax Insider for December - "2010 - Setting the Stage for a New Tax Era." In it I identify and explain ten trends I've pulled out of 2010 tax developments. The list of ten:

1. Living with uncertainty
2. Greater information reporting
3. Use of penalties
4. Classifying workers
5. Greater attention on paid preparers
6. New examination strategies
7. Expanding role of the IRS
8. Using social media and new technologies
9. Deficit awareness
10. Troubled state tax systems

What do you think? What other trends do you see or examples that fit into the above list of ten?

Tax Considerations in Deficit Reform

Tax reform can be about more than base and rate changes and sometimes should be. For example, considerations can be given to administrative rules and who is the taxpayer (for example, an owner or the entity). Given the significant tax proposals in the Deficit Commission's final report, I gave some thought to what else should be considered in any discussion of the proposals.

I've got my ideas in a short article - Tax Considerations in Deficit Reform, in the AICPA Corporate Taxation Insider released today (12/9/10).

What do you think? Anything you'd add?

Year End Tax Dramas and the State of Tax Policy

The exchange of letters between the heads of the tax-writing committees and Commissioner Shulman illustrates the unfortunate state of our federal tax system. The delays in addressing items that expired at the end of 2009 - either to say definitively they won't be extended or to extend them much earlier, makes it impossible for the IRS to publish the 2010 tax forms and get its computers programmed to receive tax information for 2010.

On November 9, 2010, the chairs of the tax-writing committees sent a letter to IRS saying they would "do everything possible" to address 2010 AMT. Commissioner Shulman issued a letter to these folks later saying that as they had urged him to take all necessary steps, he had the IRS update the computers as if the AMT exemption amounts would be $47,450 for single and $72,450 for MFJ. He went on to say:

"I want to stress that it would be extremely detrimental to the entire tax filing season and to tens of millions of taxpayers if tax law changes affecting 2010 are deferred and then retroactively enacted in 2011. … it would be an unprecedented and daunting operational challenge to open the tax filing season under one set of tax laws with respect to AMT and extenders, begin accepting tax returns, and then have the law change.”

He also noted that this matter affects more than AMT taxpayers because IRS time spent dealing with that issue leaves less time for helping other taxpayers. Forbes describes this all as "IRS Commissioner Gives Congress an Ultimatum" (Ashlea Ebeling, 12/1/10).

What is the solution? When should the tax rules for a particular year be set? It would seem that the answer should be before the year begins. Shouldn't taxpayers know on the first day of their tax year what the law is? Given the growing number of temporary provisions in the law and the reality that "temporary" really means "something we someday get around to renewing" we operate in a lot of uncertainty. I think that is going to continue and is an unfortunate way to design a tax system, particularly one that represents a significant expenditure to many individuals and businesses.

Howard Gleckman of the Tax Policy Center describes the activity this week to extend all of the 2001/2003 tax cuts as follows (12/7/10 blog post):

"To summarize, this package would make nearly the entire individual revenue code permanently temporary, which is horrible tax policy."

It is not good for a tax system to have year end drama of what that year's AMT rules are. And with an increasing number of temporary provisions only means that the drama escalates every year.

What do you think?