Postcard Size Form 1040 for 2018 - What?

Front:

Back:

For many years, some lawmakers and others touted a postcard-size tax return as an indication that tax simplification had been achieved. Professors Hall and Rabushka had one on the cover of their flat tax book released in 1985 (flat tax first proposed in a Wall Street Journal op ed in 1981). Their brief return was truly simple because the flat tax only included a few items in income and only allowed a standard deduction and personal exemption. But you'll see that there was no place to sign. (Also, it's a consumption tax, not an income tax.)

Leading up to the Tax Cuts and Jobs Act (PL 115-97; 12/22/17), a postcard size return was touted by President Trump, Speaker Ryan and others.

Well, this past week, Treasury and IRS released a draft postcard-size Form 1040:

• IR-2018-146 (6/29/18)
• Treasury
• Draft 1040 - front and back  [and there will be no 1040EZ or 1040A!]

Observations:

• Unlike a postcard, the form will need to be sent in an envelope since it is 2-sided with tax information and there is no room for the sender's address. Also, you'll likely want to include your address and not want the world to see your Social Security Number on the form. There are several schedules that may need to be attached (all postcard size too). But some of the schedules, such as Schedule 1, refer to forms, such as for capital gains/losses, that also need to be attached and won't be postcard size.
• I asked my graduate students how many had ever sent or received a postcard - about 20% had.  Mailing postcards are really a thing of the 20th and 19th century. I think Gen Z expect one can file a return with a swipe on an app on their smartphone. Technologically, this is feasible.
• Today, about 90% of individuals e-file (IRS statement in Federal Register seeking comments on the draft forms (FR 34700 (7/20/18)).
• If not e-filed, you may need something larger than a standard letter-size envelope if you don't want to have to fold your "postcard". Query: Will/can Congress change the law to demand postcard postage rate on mailing your 2018 postcard-size return? (35 cents for a postcard versus 50 cents for standard letter or 71 cents for unusual size!) Seems appropriate.
• Most returns are filed via software where it really doesn't matter how many lines are on the return. In fact, software would make it possible to produce a return that only shows the lines you needed. Per the IRS, about 95% of individuals use a paid preparer or software to complete their return (FR 34700 (7/20/18))
• The postcard lists more than five schedules and there might also be one for the Section 199A Qualified Business Income Deduction. The schedules and attachments (with links to the draft if available):
• More than 2 dependents (return doesn't mention a schedule, but the taxpayer will have to state the names and SSN for these people somewhere on the return).
• Schedule 1 – add’l income and adjustments to income
• Schedule A if itemize
• Section 199A deduction – line on page 2; still waiting to learn if there is a form or worksheet for it
• Schedule 2 - Kiddie tax, AMT, payback any Premium Tax Credit, and likely the alternative tax calculation if have net capital gains
• Schedule 3 – Non-refundable credits (not required if only credits are child and dependent credits)
• Schedule 4 – other taxes, such as household taxes, NIIT, individual health insurance mandate (penalty)
• Schedule 5 – other payments or refundable credits
• Schedule 6 - foreign address and designee
• The IRS has also announced that due to these proposed changes to Form 1040, there will no longer be a form 1040EZ or 1040A! Per the IRS: "All filers will use the new Form 1040."
• Treasury expects that 25% of individuals will be able to file just the postcard-size 1040 without the need for any schedules or other attachments. They note that's better than the 16% of filers who used to use Form 1040EZ. (FR 34699 (7/20/18))  That sounds realistic although IRS should be careful should they share this projection with people who don't read the Federal Register because I suspect that many of these people will have worksheets to complete (such as for the EITC or taxable Social Security benefits measure) and many will look at schedules to see if they apply to them (such as Schedule 1 for other income and adjustments). Of course, what really helps is that 95% of filers use a preparer or software.
• Starting for 2019, there must be a Form 1040SR for seniors per legislation enacted in February 2018 (PL 115-123; 2/9/18). As this is required by law, looks like that form will still be needed (but 2019 filings are way off from now!).
• What about the paper waste from people printing the 1040 and new schedules on regular paper when they only take up the top half of the page? Perhaps the makers of tax prep software will include a feature to let you print 2 schedules per page.

Link to draft IRS 2018 tax forms - here.

What do you think?

Tax Reform Issues

Speaker Ryan explaining tax reform at 10/4/17 Facebook Event,
holding the postcard form (see my comment below though)

There are a lot of uncertainties in trying to fully understand tax reform with a few pages of ideas where lots of important information is missing. Don't get me wrong, tax reform is needed as our system is too complex, inequitable, inefficient and doesn't collect all of the tax owed (leaves about $385 billion uncollected annually).

On 10/10, Speaker Ryan noted 5 ways that tax reform will save people taxes in 2018. Each seems correct, but each has uncertainty connected with it because we don't have legislative language yet or hides that the framework, despite suggestions of modernization, doesn't fully modernize our tax system. Here are his five items:

1. Bigger standard deductions - He says it will be "nearly doubled." The framework indicates, for example, that the standard deduction for a single person will be $12,000. It is $6,300 today. What he doesn't say though is that the personal and dependency exemptions go away. Today, that's $4,050 per person. While the child credit is supposed to increase and apply to more families, today, it only applies to children under age 17 while the dependency exemption can cover some children up to age 23. So, not enough details yet to indicate that any individual paying income tax today will see lower income taxes in 2018, particularly if they have a few children and lose itemized deductions that would have been larger than the new standard deduction.

2. Lower individual rates - The framework suggests rates of 12%, 25% and 35% and perhaps a higher rate for high income individuals. Today, the lowest rate is 10%.  Actually, the lowest rate today and under the plan is 0%. If someone today has income too low to pay income taxes, that should continue under the framework. These folks - about 45% of individual filers, won't see bigger paychecks. There is no talk of lowering the 15.3% payroll tax. Some of these zero bracket filers might be getting a larger refundable child credit, but they won't see that until they file their tax return. Also, we don't know where the rate brackets start and end so we don't know for sure if everyone drops income into lower rates.

3. Capped rate on small business of 25% - Leading up to the release of the framework, there was talk that this would not apply to all businesses and perhaps some personal services, such as accounting, would not get the cap. Again, depending on where the individual rates start and end, most small business owners should not be in the 35% rate because they are not today. [TaxProToday, 9/13/17]

4. Immediate write-offs for business investments - The framework suggests allowing expensing of capital investments. Ideally, this would also include intangibles and both acquisition of new and used depreciable property.  Details are missing.

5. Increased child tax credit - Apparently, this is to adjust for repeal of the dependency exemption. The dependency exemption though can apply to more than your child. Also, the current child credit covers a narrower age range than the dependency exemption.

Speaker Ryan also notes that if compliance costs go down, that is also a tax cut. I'm not sure we'll see a significant drop in compliance costs. There are still complexities such as the child tax credit and hopefully, the Earned Income Tax Credit remains. Promotion of IRS VITA sites and other low-income tax preparation clinics would help keep compliance costs down for many.

Caution - A postcard size return doesn't say anything about the complexity level of a system. We could file on postcards today if the IRS would take less information on the components of our taxable income. The postcard in the Republican blueprint of June 2016 didn't have a place to sign or a penalty of perjury statement or information about the taxpayer or where to deposit any refund.  AND, why are we modernizing our tax system to fit on a postcard rather than to use today's technology to not even have to file for most people because the system already has enough information to just sent a bill or deposit the overpaid taxes in your account or send you a secure debit card?

There is a lot of good about tax reform and it would be good to hear more about that rather than claims that don't seem completely accurate or complete.  And there is a lot of information often missing such as the effect on the deficit and debt, distribution of the tax cuts among different income levels, transition, timing, and more. Speaker Ryan's 10/10 post includes a video of him explaining the tax system and notes many good ideas, we just need to be critical listeners and watch for missing pieces.

What do you think?

Note: These views are mine and not necessarily those of my employer or any organization I'm involved with.

Tax Reform Framework Observations

Press conference on release of tax reform framework on 9/27/17

On September 27, the "Big 6"* released their tax reform framework. It doesn't add much more than we have known for the past 16 months other than:

• Top corporate rate is 20% rather than President Trump's 15%. The 20% rate should help us be more competitive internationally, particularly along with a shift from a worldwide system to a territorial one (15% would be better, other than for the budget effect).
• The individual brackets will be 12%, 25% and 35% and perhaps something higher than 35%. In April, President Trump suggested 10%, 25% and 35% while last June the House Republicans suggested 12%, 25% and 33%. Today's lowest bracket (other than zero) is 10%. Seems odd to try to sell tax cuts with a higher lowest rate, but the effect also depends on where the brackets start and end and a few other provisions.

There are lots of cautions to exercise in dealing with this brief framework:

• There is a lot missing such as where individual tax brackets start and end, whether the head-of-household filing status will be repealed (it is not mentioned in the framework), what "additional tax relief" will be provided "during the committee process," the rate that applies to capital gains and other investment income, and whether interest expense of businesses operating as other than C corporations will be limited.
• While the standard deduction will be doubled, the personal exemptions and additional standard deduction (for age and blind) are removed. So, for example, today, a single person has a personal exemption of $4,050 and standard deduction of $6,300 for a total of $10,350. Doubling the standard deduction to $12,000 and removing the exemption means an increased deduction of $1,650 rather than $6,300.
• The dependency exemption is removed and replaced with a "significantly" larger child tax credit but it doesn't say how much higher.  Also, the child tax credit is for children under age 17 while the dependency exemption covers up to age 23 and perhaps even higher in some instances.
• A more accurate measure of inflation will be used to adjust brackets, the standard deduction and phase-outs. This makes sense but does mean that future adjustments will be less than we have today (this is a revenue raising provision).
• Will repeal of the estate tax also include repeal of the step-up (or down) in basis at date of death or similar measure to ensure that gains at death don't escape both the estate tax and the income tax which would be a tremendous benefit to wealthy individuals?

Another big caution - don't believe everything you hear. For example, when President Trump announced the framework while in Indiana, he noted that it would not help him, implying that it helps the middle class (see Washington Post article of 9/27/17).  Not true at all.  The rate cut helps him. Also, he likely holds his vast business operations in many different types of entities including partnerships and S corporations and will benefit from the top rate of 25% on such income even after paying himself reasonable compensation. Also, if he is still carrying forward a net operating loss, repeal of the AMT helps him. And repeal of the estate tax is a tremendous tax cut for him. The Tax Policy Center's analysis of the framework indicates that about 75% of the tax benefits of the framework go to the top 25% of income earners in 2018 and 87% by 2027, with the top 1% benefiting the most. Of course, due to missing details, they had to make some assumptions, such as where the individual brackets start and end.

Speaker Ryan says many individuals will have a postcard size tax return - unlikely but perhaps shorter. But why are we talking about fitting a 21st century tax system on a postcard return rather than having a just-in-time filing system?

And, we don't have a cost estimate - will the plan raise or lower revenue. Most likely it will lose revenue (the framework is almost all tax cuts rather than noting many revenue raisers). The Senate budget plan includes $1.5 trillion over the next ten years for tax reform - meaning that it is okay to lose $1.5 trillion. The Committee for a Responsible Federal Budget estimates that that framework might lose $2.2 trillion over ten years ($2.7 trillion when interest on the new borrowing is included). Also, how will any tax reductions for low and middle-income individuals compare to increased health insurance and health care costs due to weaknesses in the Affordable Care Act and the costly income exclusion for employer-provided health insurance that are not addressed?

And, when will we see details? Speaker Ryan has suggested we'll have a new tax system before 2018. Let's see. There is still a lot of work to figure out the details, draft the legislative language, hold hearings, and gain support of both parties (the framework indicates that bipartisan support and participation is encouraged). All possible, we'll see.

What do you think?

*Mnuchin, Cohn, Brady, Hatch, McConnell and Ryan

What's simple about a postcard size tax return?

The House Republican tax reform blueprint touts that the individual system would be so simplified that individuals would have a postcard-sized return. Speaker Paul Ryan's 5/19/17 op ed in the Kenosha News states: "Imagine being able to file your taxes on a postcard." 

This isn't a new suggestion. The Hall-Rabushka flat tax first introduced in 1982 touts that both individuals and businesses would file postcard-size returns (also see chapter 3 of their Flat Tax book).

My concerns with the postcard size return include:

• It sounds like something filled out by hand and mailed in. Why not instead say that it will be so simple that your tax adviser or if you chose, the IRS, can compute your taxes for you and securely text or email you the amount owed which you can use your bank app or Paypal or some type of debit card option to receive a refund or pay an amount owed.
• The size of the return is not tied to complexity. Even today, we can file on a postcard if the IRS would be fine just knowing our AGI, taxable income, total credits (including withholding), tax and amount owed or to be refunded.
• The House blueprint postcard is missing a lot of information such as the taxpayer's name and contact information, signature line, where you want your refund (if any) deposited, and the penalty of perjury statement.
• Gen Z filers might wonder what a postcard is.

What is a better / alternative message to sell simplification via tax reform to individuals?  Letting taxpayers know they can log into their secure online IRS account by February 1 to see their tax calculation based on all of the information returns the IRS has including W-4 information on filing status and number of dependents. If they have other transactions, they can easily add them in. If they prefer, they can set up with a tax return preparer or software provider to have this information show up on an account the taxpayer has created with them. This would also aid the filer with state tax obligations and more complicated aspects of income tax calculations such as dealing with partnership or other business income, retirement plan deductions or distributions, etc. 

Another part of the message that can help, perhaps is that the standard deduction is higher and personal and dependent allowances are in the form of a single tax credit (rather than having deductions and credits).

What do you think?

House Republican Blueprint and Postcard Size Tax Return

On June 24, 2016, the House Republicans released their tax reform blueprint, the last part of their "Better Way" plan. The plan includes reasons for tax reform and the basics of the plan. There is no legislative language so the details are not all there.  But, here are some highlights:

• Aims to be revenue and distributionally neutral. The revenue target is the baseline that assumes current temporary tax provisions will not expire. This allows the target to be $400 billion less than the CBO baseline which assumes that the temporary provisions expire on schedule. (page 16)
• Dynamic scoring will be used in measuring the revenue effect. (page 16)
• Both the corporate and individual AMT are repealed.
• The corporate tax rate is a flat 20%.
• Individual tax rate structure – 0, 12, 25 and 33%. The 0% rate is the effective rate if income is below the standard deduction threshold and child credit amounts. Capital gains are taxed at the same rate but only 50% of investment income is taxed.
• Active business income of an individual is taxed at no more than 25%.
• Standard deduction for MFJ is $24,000, $18,000 for HH and $12,000 for Single.
• Credits: EITC, modified child credit and some type of education benefit to be designed by House Ways & Means Committee.
• Repeal the estate and generation-skipping transfer taxes; no mention of gift taxes or treatment of gains and losses at date of death.
• Businesses - immediate expensing of assets other than land and inventory. LIFO remains.
• Section 199 deduction and most credits other than for research are repealed.
• Move to a territorial system and more of a consumption tax system with a goal of being allowed to tax imports and exempt exports from tax. Details missing.
• Businesses only deduct interest expense to extent of interest income with excess carrying forward (under a true consumption tax, no interest income or expense would be reported).
• NOLs carryforward forever adjusted by an interest factor. NOLs can't reduce taxable income by more than 90%.

There are 15 specific areas where the House Ways & Means Committee is instructed to create the rule including for consolidating retirement plan rules and creating transition rules.

A centerpiece of the individual change is a postcard size return! I view this as telling us little and mostly being misleading. Our current tax system could be filed on a postcard. The size of the return submitted to the IRS just depends on how much summary information can be tolerated. Today's postcard could have the taxpayer's identification information, taxable income, tax, aggregate credits, refund/payment, signatures. That says nothing about the complexity of calculating all of these figures.

Here is the proposed postcard from the Republican Blueprint:

There is a lot missing from the postcard:

• Taxpayer's name, address and Social Security number.
• Dependent information.
• Business, rental and partnership information (Schedules C, E, and F).
• Capital gains and loss and Schedule D.
• Schedules for computing the credits (today forms exist for the EITC and education credits).
• What to do with the refund (today's return has information for direct deposit of the refund).
• Penalty of perjury statement.
• Taxpayer and preparer signatures.

And of course, as most people file using software and file electronically, it is not so much the size of the final return which they might not even print out, but the number of questions required to get the return completed and the number of records to be gathered and maintained to prove income, deductions, credits and estimated tax payments.

I'll have more soon in an article I'll post.

There are many items in the plan worthy of discussion. A lot more details are also needed for that discussion.

What do you think?