Tax Gap and Budget Solutions

In California, SB 1185, the Centralized Intelligence Partnership Act, calls for information sharing and a partnership among various state agencies to reduce the tax gap. The goal is for the agencies "to collaborate in combating illegal underground operations by, among other activities, providing a central intake process and organizational structure, with an administrator and support staff, to document, review, and evaluate data and complaints."

Per the bill, California's underground economy is between $60 and $140 billion each year causing an $8 billion annual tax gap! The bill defines the "underground economy" as:

the activities of individuals, businesses, or other entities that knowingly and intentionally use practices designed to conceal illegal or fraudulent activities that negatively impact legitimate businesses, workers, and consumers, as well as deprive the state and local governments of vital resources."

Governor Brown expects that his November ballot initiative tax increase will generate $8.5 billion in for 2011-12 and 2012-13 (see page 6 of the LAO report on May 2012 budget revision).

And much of that $8.5 billion will come from compliant taxpayers. His initiative includes a 1/4 cent sales tax hike, which unlike a personal income tax hike, is harder for tax evaders to evade (they will pay it when they purchase something, although there are ways people evade the sales tax such as using tax exemption certificates inappropriately or buying out-of-state and not paying the use tax). His initiative also includes an income tax increase for individuals with more than $250,000 of income.

Will SB 1185 bring in that lost tax revenue?  Not all of it, but better efforts are needed to collect at least some of this amount as that is obviously a lot of money. The tax gap results in higher taxes for compliant taxpayers.  

The Revenue and Taxation Committee's analysis (6/29/12) includes a comment from the Franchise Tax Board noting that SB 1185 needs to include funds for the program (!) so as not to delay work. The report includes some helpful information on California's underground economy and the problems it creates for the state. 

At the federal level where we have $1 trillion deficits, we have an annual tax gap of $450 billion!   

I think any tax increase bill to address the deficit needs to include some realistic measures for reducing the tax gap.  Continuing to balance a budget from only compliant taxpayers is neither fair nor sufficient.

What do you think?