MauledAgain

On Saturday, April 10, several of my comments shared during an interview with reporter Julie Small were aired on National Public Radio’s Marketplace, in a discussion of California’s Ready Return program and the possibility of something very similar to it being adopted at the federal level. With April 15 just a few days away, attention turns, as it does every year, to the aggravation that filing income tax returns causes for so many people. The aggravation is rooted, of course, not in the concept of filing a return, but in the unjustifiably complicated maze of rules bestowed on the nation by a Congress more concerned with appeasing special interest groups than with crafting an income tax law that best suits the people.

The idea that the income tax would somehow become less aggravating if the government prepared returns for taxpayers is one of those “sounds good” proposals that has gathered support but that, after careful analysis, does nothing more than mask the underlying problems, making it less likely that public pressure would encourage legislatures to fix the tax law. It’s not surprising that California, which proudly or not so proudly owns the most complicated state income tax law in the country, jumped at the idea and presented the Ready Return program. Only three percent of taxpayers eligible to have the state of California prepare their return took advantage of the opportunity. Only 60,000 people out of 2,000,000 were willing to put their tax fortunes in the hands of an anonymous revenue department bureaucrat or its computer. That speaks volumes, even though Ready Return advocates dig up every excuse imaginable to explain what doesn’t really need to be explained. People often vote with their feet, or, in this case, with their pens and keyboards.

Ready Return has been the subject of more than a few MauledAgain posts. In the most recent, Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable, I summarized my previous analysis:

The idea of Ready Return is one of those dangerously great-sounding ideas that just won’t hold up when closely examined.

The notion of having the IRS take an approach similar to the California “Ready Return” experiment is alarming. When the California version was instituted, I criticized it, in in Hi, I'm from the Government and I'm Here to Help You ..... Do Your Tax Return and in ReadyReturn Not a Ready Answer. In those two justifiably long analyses of the defects of the program, I pointed out that conflict of interest permeates the arrangement, noted that the track record of government employees in these sorts of situations is too far from ideal, explained how the idea opens the door to fraud, poses logistical problems, tricks millions of taxpayers into thinking that complicated tax laws are not their problem even though they continue to pose a threat to the national well-being, and puts taxpayer privacy at risk. Joined by many other critics, I tried to explain to the advocates of Ready Return why it was the typical "good idea in theory" that falls apart in the real world of tax practice. Some months later, in Ready It Was Not: The Demise of California's Government-Prepared Tax Return Experiment, I commented on the decision by the California Franchise Tax Board to terminate the Ready Return program. Yet, its opponents continued to lobby against the program, which in As Halloween Looms, Making Sure Dead Tax Ideas Stay Dead, I suggested was the consequence of a fear that it would be resurrected. And, indeed, as I discussed in Oh, No! This Tax Idea Isn't Ready for Its Coffin, I reacted to the restoration of the program, warts and all. What was particularly disturbing was the fact that state administrators restored the program even though the legislature had cut off funding and authorization.

The advocates of Ready Return, both in California and at the federal level, point to the “high praise” received from taxpayers using the program. Stross joins this chorus. But, as I pointed out, few, if any, of those taxpayers knew or know if their returns are correct. In Getting Ready for More Tax Errors of the Ominous Kind, I discussed the revelations in The Report of the Treasury Inspector General for Tax Administration, Ensuring the Quality Assurance Processes Are Consistently Followed Remains a Significant Challenge for the Volunteer Program concerning the high level of errors made by the IRS in dealing with taxpayer’s returns, computing tax, and determining refunds.

I have previously asked who audits the returns prepared by the California Department of Revenue. The Department itself? Who would audit returns prepared by the IRS? Taxpayers would end up taking these “tentative” returns to tax return preparers or using software to see what results it generated, so the alleged efficiencies of a federal “Ready Return” is another theoretical construct that falls apart when put to the test in the practical world. Only the most trusting, and naïve, of taxpayers would do anything less but prepare their own return, or pay an independent third party to do so, even if the IRS had put a proposal on the table. It’s not as though eye-balling a proposed return from the IRS is as simple as determining if the sales tax on a store receipt makes sense. The federal income tax law is way too complicated, even for the taxpayers who supposedly have “simple” returns. There is no such thing as a simple federal income tax return.

The same can be said about California’s tax returns, which might qualify as even more complicated than federal income tax returns.

The opinions I shared during the NPR interview brought one comment, from Alice Abreu, who teaches tax a few miles away at Temple University. She claims:

Jim Maule is just flat wrong in saying that ReadyReturn doesn't save people time, and the taxpayers in CA who love it are proof of that. Even if the return wasn't completely done, just having the form filled in with all of the W-2 information the government already has would be a tremendous time saver. Indeed, that is where the attention on the federal level has moved. If that information was filled in, returns could be done more quickly, and that would be a time and moneysave. Think about it: checking the information against what you have on your W-2 has to be faster than typing it in and then checking it.

Unfortunately, I must disagree with Alice. Checking to see if someone else has done something properly is never a time saver. There's a reason "it's faster if I do it myself," "it would have been faster had I done it myself," or some variant is heard so often, not only in tax return preparation but in other areas of law and life. Banking on a state or federal computer system getting it right is risky, especially when one takes into account all the information that has been released concerning the antiquated state of most government tax computing systems, programming errors, data entry errors, data transfer errors, and a variety of other glitches. Think about the error rates in advice obtained from telephone calls to the IRS. Think about all the mistakes on the information return reporting letters, which are based on the same systems that would be generating these "government prepared" tax returns.

There’s a reason that a cash-strapped government like California is so eager to prepare tax returns for taxpayers. It certainly isn’t a case of doing penance for the state having inflicted taxpayers with a patchwork income tax system that begs for true reform. Nor is it a desire to have taxpayers save money, because the response of California and the advocates of Ready Return to concerns about errors is that taxpayers are free to consult with independent tax return preparers. In other words, taxpayers would still face expenses, and even though they would be called tax return review fees rather than tax return preparation fees they still would require the taxpayer to reach into his or her pocket. So if taxpayers would be going to independent professionals, why is the state bothering to divert resources into preparing Ready Returns? The answer must be that the state is banking on taxpayers who receive a Ready Return, consider it official because it came from the government, sign it, and do nothing more. Unfortunately, there are taxpayers who will react in that manner. Whether from ignorance, laziness, unjustified trust in government, fear, confusion, or some other distraction, if enough mistakes are made on their returns and go undiscovered, the revenue flow to the state increases. The people who profess that they “love” Ready Return are saving time only because they are putting themselves at the mercy of the California state government, blindly accepting whatever they’re being told, and exposing themselves to risk if California later decides that the returns filed by the state on behalf of these folks are, in fact, erroneous. I wonder when that love will become love lost.

If a government truly cared about the mental health of its citizens during tax return preparation season, it would do the right thing and simplify the tax. For most other taxes paid by individuals, it’s much easier to notice if something is wrong. Ready Return opens the door to making these other taxes more complicated. Too much chicanery can hide behind complicated tax systems. Changes can be made that would slip by taxpayers because they’re no longer working through, or having tax professionals guide them through, what’s going on with their tax returns.

It shocks me how much confidence people have in government when it comes to having the government do a person's taxes. According to this study, "The percentage of Americans who trust the government in Washington plunged from 76 percent in 1964 to 25 percent in 1996." A May 2006 poll indicates that 63% of the people do not trust government. In California itself, according to this recent survey, 29% of those polled "say they trust the government to do what is right just about always or most of the time." And somehow it’s acceptable to put one’s tax life into the hands of government?

In a nation where governance is built on a Constitutional system of checks and balances, there is much to be said about the checks and balances arising from citizens doing their own tax returns and seeing with their own eyes what the legislative and executive branches are doing. Surrendering what is, in effect, a citizen oversight function is too dangerous a step to surrender of control and participation in governance. What’s next, Ready Vote, where the government sends a filled-in ballot to voters?

The conflict between Philadelphia’s mayor and City Council, on the one hand, and the city’s Board of Revision of Taxes, on the other, continues to escalate. According to this Philadelphia Inquirer report, the mayor already has directed his administration to take control of the BRT’s funds other than those earmarked for payroll and a bill has been introduced in City Council to reduce the pay of the BRT members. In Friday’s post, Can Bad Tax Administration Doom the Tax?, I described how the attempt to remove political patronage influence from administration of the real property tax has become a battle between the reformers and those unwilling to step aside so that competence and efficiency can take over the process. Like most battles, the highest casualty rates will be among the bystanders, in this case the tax-paying property owners of Philadelphia. But at least they should get their chance at the ballot box next month, unless somehow the BRT persuades the courts to let the BRT members continue business as usual.

The primary flow in the BRT’s administration of the property tax is its inability to assess properties in a manner that complies with state law, that generates comparable values, that is timely, and that is free of political influence and favors. On Friday, in a letter to the editor of the Inquirer, Bernard J. Nearey suggested that the solution would be a real estate tax based on the size of the lot. He argues that it would be very easy to determine the tax base for each property, and that the only reason for a BRT would be “to send a person out with a tape measure to check the size of your lot if you disputed it.” He also argues that “[t]he idea that your property-tax assessment should turn on the condition of your brickwork, your windows, or how many bathrooms you have is absurd.”

In a comment to the letter, Joshua911, despite agreeing with the idea that “buildings should not be taxed,” noted that “taxing on the size of the lot is illegal in this state and any other state” and that “[t]axes must be assessed on the value.” He points out that similarly sized lots in Francisville – a section of the city that has deteriorated – and in Society Hill – a section that is very upscale – ought not be taxed at the same amount.

Joshua911 is correct, at least to the extent he refers to Pennsylvania. I don’t know what the law in all of the other states provides, and he very well may be correct, but that doesn’t matter all that much to Philadelphia’s problems, because Philadelphia is part of Pennsylvania. Yes, it would violate Pennsylvania law to base the real property tax on the size of the lots. Aside from the legal question, and that’s a big aside, Joshua911’s point about value not correlating to size is important. Basing value on size might make for easy computations but they would be computations irrelevant to the underlying law.

On the other hand, the notion that buildings should not be taxed is much more problematic. Buildings constitute real property, and thus a real property tax must include the value of buildings, and all other items of real property. One might Mr. Nearey’s idea a step further and argue that even if the tax cannot be limited to the land, when it comes to buildings, it should be calculated based on square footage. Yet again, though, the notion that size is all that matters runs into reality. One of the most notable examples of the BRT’s failures was the absurdly low assessment on Vincent Fumo’s residence, as discussed in How to Fix a Broken Tax System: Speed It Up?. It wasn’t just a matter of Fumo’s mansion being of large size in terms of square footage. It was also a matter of the high value features included in the property.

So long as there is a real property tax, limiting the tax to land degrades the tax, and that is one of many reasons I consistently object to real property tax breaks handed out by the city to corporations. Yet, there is a movement afoot to replace the real property tax with a land value tax, as described by the Henry George Foundation that supports the idea. Though there are good arguments for shifting to a land value tax, there also are good arguments for not doing so. Should a corporation that owns a 10,000 square foot parcel in the downtown business district pay only five times the tax paid by the owner of a 2,000 square foot residential property a few blocks away? Contending that the value of the 10,000 square foot parcel would be much more than five times the value of the 2,000 square foot lot isn’t the answer, because taking into account the value of the building that is or could be built on the parcel would be bringing the value of the building into the computation in violation of the principles of a land value tax.

The underlying problem is that taxes based on value lack the precision that characterizes taxes based on sales price, number of bags of trash put out for collection, or number of axles on a vehicle. Granted, there may be other reasons to reject a particular tax that happens to be precise, but lack of precision is not one of them. The income tax suffers from this imprecision when it comes to determining income based, for example, on the value of property received as compensation, but it avoids imprecision when it measures income based on cash wages or a deduction based on the amount paid. User fees, in contrast, when properly designed, are based on the cost of the service provided by the government, and thus rest on cost accounting concepts that are more precise.

In terms of precision, the real property transfer tax is orders of magnitude better than the real property tax. The transfer tax is simply a percentage of the sales price, though when the transfer is in exchange for something other than cash, valuation problems again complicate the matter. The problem with the real property transfer tax, especially if used as a replacement for the real property tax and thus requiring much higher rates, is that it comes at one time and cuts into the net sales proceeds. It also is avoidable by those who can afford sophisticated planning advice.

So I wonder if there is some sort of compromise that can compensate for the valuation errors inherent even in a well-administered real property tax. Consider this idea. Increase the real property transfer tax rate. Then allow a credit equal to a percentage of the real property taxes paid during the ownership period of the seller and any previous owners whose transfers were not taxed when the property was transferred to the seller or the seller’s transferor, and so on. If the real property tax was too high or too low, as measured by the sales price, the credit would compensate, at least in part, for that discrepancy. Consider two property owners who own similar properties but who, as often is the case in Philadelphia, pay varying amounts of real property taxes. Assume that over a five-year period of ownership, A pays $1,000 each year and over an eight-year period of ownership B pays $3,000 each year. A and B each sell their properties, each for a sales price of $100,000. For ease of computation, assume that the transfer tax is $5,000, an amount higher than current law to allow for the credit mechanism to be an adjustment device rather than a revenue loser. For argument’s sake, let’s set the credit equal to 5 percent of the real property taxes paid by the owners. A would be entitled to a credit of $250 against the $5,000 transfer tax, whereas B would be entitled to a credit of $1,200 against the $5,000 transfer tax. It’s not a precise equalizer but it dampens the effect of assessment errors. Whether, and how, the credit should be shared between seller and buyer is open to discussion, though the better position would be to limit the credit to the seller, because the buyer’s real property tax assessment presumably would be more accurate because of the sales price information and presumed re-assessment.

Had it not been for Mr. Neary’s letter and Joshua911’s comment, I very well could have ended up not thinking about the idea of a real property transfer tax credit. For sharing their thoughts, I thank them.

The tax world is interesting. Most of the people who are upset with the complexity of the federal income tax law, and who object to the loopholes and special interest provisions found in it, direct the bulk of their anger at the IRS. At the same time, there is a growing aggregation of individuals who object, not to the administrative agency, but to taxation itself. What harmonizes these seemingly discordant approaches is the tendency of people to lay blame in the wrong place. Congress, not the IRS, is responsible for the complexity and loophole corrosion of the federal income tax. In other instances, however, the governmental institution charged with administering a tax indeed deserves to be the object of taxpayer frustration, and yet too often the agencies deficiencies are conflated with analysis of the tax itself.

When it is time to hand out awards for Most Brazen Tax Administrative Agency, there will be more than a few people ready to nominate Philadelphia’s Board of Revision of Taxes. My commentaries on the flawed property tax assessment system go back almost ten years, beginning with An Unconstitutional Tax Assessment System, and followed by Property Tax Assessments: Really That Difficult?, Real Property Tax Assessment System: Broken and Begging for Repair, Philadelphia Real Property Taxes: Pay Up or Lose It, How to Fix a Broken Tax System: Speed It Up? , Revising the Board of Revision of Taxes, and How Can Asking Questions Improve Tax and Spending Policies?, This Just Taxes My Brain, Tax Bureaucrats Lose Work, Keep Pay, Testing Tax Bureaucrats Just Part of the Solution, A Citizen Vote on Taxes, Freezing Real Property Tax Reassessments: A Nice Idea, and The Tax Price of a Flawed Tax System. As I easily predicted in the last of those, my commentaries “momentarily” ended. The story continues.

The tale of the BRT has become one of a chess game. After City Council decided to put to the voters a proposal to replace the BRT with two separate agencies, and the Mayor persuaded the BRT to relinquish its property valuation duties and restrict itself to hearing assessment appeals, five members of the BRT sued the City, as reported in this Philadelphia Inquirer story from several weeks ago. This news broke while City Council, the Mayor, and others debate how best to deal with the city’s budget gap. Thus, I wrote:

five board members of the Bureau of Revision of Taxes have sued the City of Philadelphia in an effort to derail the reforms that are underway to give the city the opportunity to fix the real estate tax. The board is trying to remove from the May 18 primary ballot the referendum question that asks city voters to decide if the BRT should be replaced with two new entities. If the board succeeds, the current property tax inequities and inaccuracies will continue. In an atmosphere of political bickering and litigious self-interest disguised as, at best, questionable concerns, what are the chances that the city can fix its tax system so that mayors and city councils need not dabble in soda taxes?

Ideally, the city would fix its property tax system, and then adjust rates as part of the process of balancing a budget. However, so much time was lost with political nonsense while attempts were being made to fix the property tax system that the city has run out of time. Its choices are terrible. Either it magnifies the shortcomings of the real property tax system, or it turns to an unwise, administratively inefficient, and possibly legally flawed tax on sugared beverages. It faces this brutal choice thanks to decades of political patronage run amok. Ultimately, failure to design and properly maintain one tax system has opened the door to another that might be impossible to design and maintain, properly or otherwise. Other jurisdictions, including the federal government, ought to heed this lesson, because the tax price of a flawed tax system is orders of magnitude higher than the cost of fixing the flawed system before it fails.

It’s no wonder that objections to raising the real property tax rate as an alternative to other proposals, such as the soda tax, the trash pick-up fee, and changes in the business privilege tax, on which I commented a few days ago in Don’t Like This Tax? How About That Tax?. Why expand something that isn’t working well? The city is between a rock and a hard place, and in no small measure due to the antics of the BRT.

Not satisfied with suing the city to prevent the reform plans from moving forward, the BRT chose to let its agreement with the Mayor to relinquish its property valuation duties expire. According to this story, in what was described as a “surprise,” the BRT decided to take back control of the property assessment process, while continuing to hear assessment appeals. The Mayor’s office claims that there had been a “verbal agreement to extend the memorandum of understanding” that had been signed six months ago. From the Mayor’s perspective, the BRT members acted to preserve the $70,000 salaries they receive for their part-time jobs. This is where the chess game analogy provides some guidance. It has been suggested that if the BRT continued to acquiesce in letting Richard Negrin, a mayoral appointee, run the assessment process, it would weaken its position in the lawsuit, because entering into and continuing to abide by the memorandum of understanding would make it easier for the city to argue that the BRT should be estopped from arguing that its existence is essential to administration of the property tax system, and from arguing that the city has no power to interfere with the BRT. But even if the BRT loses its lawsuit, until the reforms are approved by voters and put into place, the BRT could cause all sorts of problems. For example, it could reverse the freeze on property assessments that Negrin had declared shortly after taking over supervision of the assessment process. The BRT, however, seems unfazed by the fact that the judge who is involved in appointing people to the board, and the City Council member who is leading the effort to increase property taxes in lieu of trash pick-up fees, both roundly criticized its decision. It also appears that, because Negrin chose not to continue supervising day-to-day operations considering the BRT’s action, the BRT has no one exercising managerial control over its employees. Negrin noted that the BRT’s action undercut the progress he had made in getting BRT employees to “embrace” the change he was trying to bring to the “culture and performance of the agency.” According to Negrin, the BRT is “paralyzed now.”

Of course, these antics by the BRT brought a response from the mayor. According to a Philadelphia Inquirer story two days ago, the mayor announced that “he and City Council would immediately attempt to slash their salaries and seize control of their budgeting authority.” That the mayor is angry is apparent from his choice of words. He called the BRT “a rogue board,” and likened them to “pirates.” Claiming that the BRT “appears to be out of control,” and that it is exhibiting “behavior [that ] is bizarre, … irresponsible, … irrational,” and that “undermines our reform efforts,” the mayor is requesting that those $70,000 salaries be reduced to the state law minimum of $18,000. The mayor has other plans, which he did not disclose, to try to convince the BRT to renew the memorandum of understanding. The member of City Council who sponsored the legislation that put the BRT’s future in the hands of the voters has promised to “assist the mayor in reminding [the BRT] that it is City Council and the mayor that make the rules, and the BRT that follows them.”

When a tax agency behaves as does the BRT, not only butchering its responsibilities to assess properties fairly and sensibly, but also plays all sorts of games trying to hang onto power that arises from political patronage, it is difficult for those who defend the existence of taxes to justify calls for compliance when the administrative agency performs and behaves so badly. This is an instance where, however one views the property tax in terms of where it fits on the spectrum of efficient and fair taxation, the flaws arise from the BRT’s inability and refusal to do what the law commands it to do. The backlash among voters against the BRT can too easily become a backlash against taxation. Though the mayor and City Council finally are dealing with the problem, it comes very late in the game, decades and decades after the seeds of inefficiency, irregularities, and incompetence were sown. Legislatures not only need to produce tax laws that are efficient and fair, they also need to set up tax administration that is efficient and fair. One without the other is a recipe for disaster. Just as a bad tax can doom administration of the tax, bad tax administration can doom a tax. Philadelphia has become an object lesson for this proposition.

Philadelphia’s struggles with finding the best way to raise revenue have become even more complicated as another possibility has been tossed onto the table. Several weeks ago, in Picking a Tax Not So Easy, I described the challenges raised by a City Council member’s proposal to raise property taxes rather than enact the so-called soda tax and the proposed trash pick-up fee. Now, according to this Philadelphia Inquirer report, two other City Council members floated a proposal to revamp the city’s business privilege tax. Details are scant, so it’s unclear precisely what the proponents plan to suggest.

The business privilege tax is a strange sort of tax, unfamiliar to most taxpayers other than those doing business in Philadelphia or any other location that has a similar or identical levy. One must wonder, with cities like Philadelphia trumpeting the need to encourage businesses to locate within their boundaries because they bring jobs, why a government would tax a business for the “privilege” of bringing to the government what the government wants and needs. The business privilege tax, at least in Philadelphia, is computed in a manner that suggest the business is being charged for the opportunity regardless of how it turns out. The Philadelphia business privilege tax equals the sum of two amounts. The first equals 0.14 percent of gross receipts. The second equals 6.45 percent of profits. Thus, a business that fails to make money nonetheless is taxed. A business with high gross receipts and high cost of goods sold, thus incurring a low gross profit percentage and profits that are a small fraction of sales, pays a disproportionately higher tax, when compared to profits, than does a business with a high profit margin. For example, a grocery store that has $100 of sales receipts, $95 of cost of goods sold, and $4 of operating expenses, thus making $1 of profit, would pay a business privilege tax of 20.45 cents (0.14 percent of $100 plus 6.45 percent of $1). A law firm with $100 of sales receipts and $60 of operating expenses, would pay a business privilege tax of $2.72 (0.14 percent of $100 plus 6.45 percent of $40). As a percentage of profits, the grocery store’s business privilege tax is 20.45 percent (20.45 cents out of the $1 profit). For the law firm, it is 6.8 percent ($2.72 out of $40). Something’s not quite right when the business with 40 times as much profit pays at a rate that is less than 1/3 the rate paid by the other business. Is it any wonder there are few grocery or similar stores in Philadelphia?

The proposal to change the business privilege tax is to repeal the net income component and to increase the gross receipts component. Though it’s unclear by how much the gross receipts percentage would need to be raised to offset the loss of the business profits component and to raise the additional revenue that the city needs, let’s take a wild guess and assume it would need to be raised to 1 percent. What does that do to the grocery store and the law firm? Both would face a tax of $1. For the law firm, this would reduce its business profits tax from $2.72 to $1, and reduce the tax as a percentage of its $40 profit from 6.8 percent to 2.5 percent. For the grocery store, it would increase its business profits tax from 14 cents to $1, and would increase the tax as a percentage of its $1 profit from 20.45 percent to 100 percent. The proposed change would drive every business with a low gross profit margin out of the city. I wonder what that would do to tax revenue.

Conventional wisdom, we are told, is that the gross receipts component of the business privilege tax curtails or eliminates job creation. Of course it does, because when those low-gross-profit-margin enterprises leave, they take their jobs with them. The City Council members advocating the change claim that their idea would “help small businesses, since the majority of their tax liability is on the net-income side.” If by small business, they mean those with low levels of sales, but high profit margins, they may be correct. I wonder, though, how many businesses with low levels of sales, particularly during this economic downturn, have high profit margins. I suspect that the businesses standing to gain from the proposal are those with very high net profit margins, many of which are unlikely to be found among small businesses.

All of this may be moot, because it would be a major challenge to rewrite the business privilege tax law in time for adoption of a budget. That obstacle, though, assumes a budget adopted in time. One must also wonder whether that will come to pass.

Every proposal that has been advanced has been criticized, opposed, and attacked by one or more constituencies, organizations, special interest groups, or commentators. The soda tax proposal has been ripped apart by almost everyone despite a few supporters hanging on to the idea. I joined in lambasting the idea, both on this blog, in Yes for The Proposed User Fee, No for the Proposed Tax, and in a Philadelphia Inquirer editorial. Administration of Philadelphia’s property tax, including property valuation, is in such disarray that even those who propose raising the property tax rate concede that it’s a far from ideal solution. The trash pick-up fee, which I endorsed in Yes for The Proposed User Fee, No for the Proposed Tax, has just about no support in City Council, even though a few people continue to explain the economic, environmental, and political benefits of a per-bag user fee.

If nothing else, perhaps Philadelphia could invite economists, college students, people living in other parts of the nation, members of Congress, tax lawyers, lobbyists, and anyone else interested in, or having a need to learn about, tax policy to come watch City Council debate the revenue issue. Perhaps City Council could charge an admission fee. At $10, it would be worth it for attendees, for it would provide an insight into tax policy development in a real world setting rather than in an isolated and theoretical think tank seminar room. To make it worthwhile for the city, the focus would need to be on high volume attendance, not unlike how those grocery stores and similar establishments try to make money when the gross profit percentage is so low. The odds of City Council going this route are lower than those low gross profit percentages. The odds of City Council coming up with a tax or fee, or some combination, that does not upset a majority of the city’s population, are even lower. Zero, perhaps.

The Washington Post ran another of its polls last week. Question 4 asked, “Do you approve or disapprove of the way the U.S. Congress is doing its job? Do you approve/disapprove strongly or somewhat?” Of those who responded, 54 percent strongly disapproved, and 18 percent somewhat disapproved, for a net total of 72 percent disapproving of the way the Congress is doing its job. Only 24 percent approved, but only 7 percent of respondents strongly approved. There was a small holdout of 4 percent who had no opinion. The disapproval rating is the highest since 1994, when Congress also earned a 72 percent disapproval rating. On several polls in 1992, disapproval ratings of how Congress was doing its job reached the upper 70s. Nothing in the poll suggests that voter approval of the job Congress does with taxes is any different from the overall rating; though a question about taxes was asked, it focused on perceived political party capability and not the Congress.

What is shocking to me isn’t the high disapproval rating, or the fact that it’s the highest in 16 years (or 18 years, depending on how one treats ties). What’s shocking is that a quarter of the respondents approve of the job Congress is doing. It would be much less shocking to me had the approval rating been in single digits. Whether it is tax policy, the implementation of health care reform, immigration laws, whatever it is that Congress handles ends up coming out far less polished and ready for implementation than it ought to be. Members of Congress are too busy being politicians to find time to be legislators. Could it be that the 24 percent who approve of the job Congress is doing admires its work as a body of collective politicians? I doubt it.

After some thought, it occurs to me that perhaps the poll results aren’t all that shocking. Approximately half of the population eligible to vote sits out, on average, most elections. Though there are many reasons for their non-participation, these folks are so unenthusiastic about the electoral process and so dismayed by the poor quality of politicians’ work product that they almost certainly do not approve of the job Congress is doing. So of the 72 percentage points racked up on the disapproval side, one can estimate that roughly 45 are attributable to this segment of the citizenry (after attributing the 4 percent with no opinion as most likely coming from this group). That leaves the half of the electorate that voted. On average, despite some landslides, slightly less than half of these people, give or take, voted for the winner. So perhaps another 20 percentage points in the disapproval column can be attributed to supporters of the candidate who lost and who are not about to check the approval box for a Congress in which sits someone who vanquished their candidate. The rest of the 72 percent probably comes from people who have come to realize that the person for whom they voted turned out not to be what they thought the person would be. What that tells me is that most, if not all or nearly all, of the 24 percent who give a positive approval rating to Congress, though most of them being rather lukewarm about it, are supporters of the successful candidate. Their loyalty, whether based on unbiased evaluation, on self-interest, or on gratitude for special interest accommodation, would explain how Congress manages to get an approval rating several times what I think it would be.

This sort of analysis also explains, I think, another phenomenon. Even though three-quarters of the electorate doesn’t approve of the job Congress is doing, voters keep sending the same people, or their clones, back to the Congress. Incumbents win re-election far more often than they should, considering the low quality of the legislative output that Congress bestows on the nation. The traditional explanation, that people dislike Congress but think their Senators and their representative are magnificent, might not be the answer. The answer might be that to be elected or re-elected, a candidate must obtain the votes of roughly 25.1 percent of the electorate. With roughly half the eligible voters sitting out, electoral choice boils down to a battle over a much smaller pool of voters. So we end up with a Congress that represents roughly one-fourth of the nation, the one-fourth that appears to be supportive no matter what sort of job Congress does. Perhaps treating abstentions as no votes, and requiring a majority of eligible voters to be elected, would solve that problem. Yet it would create another. Hardly anyone would get elected, and the growing fragmentation of the country would be highlighted if not accelerated.

There’s just something about hypocrisy that disgusts me. That’s a problem I’ve had all my life. I’ve lost count of the number of times I’ve offended, annoyed, or even angered someone by telling the truth rather than shoveling out some “spin” to make things seem better than or different from what they are. That’s not to say I’ll breach a confidence, because it’s no lie to tell someone that one has no comment or cannot discuss a matter. I suppose all of this is a reflection on having been raised under rules that set the penalty for lying about something several orders of magnitude above the punishment for the commission or omission under about which I was being questioned.

Hypocrisy isn’t just a matter of saying one thing to one person and the opposite to another, when only one can be true. Hypocrisy, like lies, can involve not only words but deeds. And what has annoyed me this time around are the small bits of information in a New York Times article about Tea Party activists. Keep in mind that the Tea Party membership stands for the proposition that government should be small, perhaps even so small as to disappear, and that taxes should be reduced, if not eliminated. Consistency, the virtue that negates hypocrisy, suggests that Tea Party activists would not clamor for nor accept government benefits financed with those taxes they so hate and sometimes don’t even pay.

Mentioned in the article is one Tea Party activist who did not hesitate to ask his Congressman for help in getting government health care when he lost his job. The article notes that “The Tea Party vehemently wants less [government involvement] though a number of its members acknowledge that they are relying on government programs for help.” In defense of their willingness to feed from the hand of the government that they want to stop providing benefits, members of the Tea Party claim that when they “receive government benefits like Medicare and Social Security,” they are “getting what they deserve” because “they paid into those programs.” Nonsense. Other than those who die prematurely leaving no one to take survivor benefits, most Social Security recipients receive far more than they put into the system. For decades, that has been possible because more money was being put into the system than was being paid out, with the surplus used to finance deficits in the federal budget. Similar analyses, though on a different time line, applies to Medicare. There’s something bogus about using the “what [we] deserve” argument while objecting to government programs that assist others who have paid their taxes, perhaps even quietly and without loud protest, over the years.

Whatever one might think of the person who withdraws from society, refuses to pay taxes, doesn’t apply for government benefits, and holes up in some remote cabin, at least that person isn’t campaigning against the very government and very tax system that the person is using to the person’s advantage. Granted, even the rebellious hermit benefits from the government to the extent the remote cabin is protected from attack by a foreign nation, and government-enforced clean water laws make it possible for the fish that the hermit catches to thrive and not sicken the hermit. But the audacity of those opposed to government benefit programs who eagerly take whatever they can get, even if it exceeds what they “paid in,” can be explained only by the unspoken underlying motivation. “Don’t tax you, don’t tax me, tax the man behind the tree” has evolved into “Don’t cut my dole, put it in my hand, cut off benefits to the folks we can’t stand.” As the writer of the New York Times article put it: “[This Tea Party member] and others do not see any contradictions in their arguments for smaller government even as they argue that it should do more to prevent job loss or cuts to Medicare. After a year of angry debate, emotion outweighs fact.“ Indeed, it is a matter of emotion pushing aside reason, overwhelming education and analysis, and fueling irrationality, all symptoms of a deeper hypocrisy.

Here’s the irony. One Tea Party activist was quoted as saying, “If you quit giving people that stuff, they would figure out how to do it on their own.” If that’s the case, why don’t the Tea Party activists who are collecting government benefits teach by example? Why don’t they refuse to apply for or collect these benefits and show the rest of us “how to do it on their own.”? The answer is simple. They can’t. It would expose the core flaw in their approach. So long as they can take on the one hand, and object to giving with the other, they can live the “take without giving” philosophy that has increasingly come to dominate society. Somewhere along the line they didn’t learn that nothing, individual or societal, survives if “take without giving” dominates.

What if they gave a tea party and no one brought any tea, sugar, cups or spoons?

It seems I’m not the only one wondering how the IRS is going to administer the additional responsibilities foisted on it under the health care legislation. In addition to my position that responsibility belongs elsewhere, as discussed in IRS Ought Not Be the Health Care Enforcement Administrator, there also is my concern about the impact on the IRS and the tax law of relying on the wrong agency to deal with the reporting and insurance purchase requirements, as discussed in Health Care: Enlarging the Code and Stressing the IRS. Now, from a long-time reader of MauledAgain, comes another practical problem.

According to this reader, the system put in place by the legislation to enforce the health care insurance purchase requirement is deeply flawed, for reasons that have little to do with the selection of the IRS as the administering agency. I agree with my reader. The problem is best illustrated by an example, and I’ll use the one my reader shared. X is a healthy, 25-year-old individual who does not have health insurance in year 1. Though my reader asks, “When is that reported to the IRS?,” it seems to me that it’s not. Instead, the IRS will need to figure out that X exists, and that no one has filed any information returns with the IRS indicating that X is covered by a health insurance plan. Those information returns are due early in year 2. So the question should be, “When does the IRS figure out that X does not have health insurance for year 1?” My reader suggested that the answer to his question is “Sometime late in Year 2 (or later)?” I think that the answer to the question as I formulate it is “Perhaps late in year 2, but more likely, during year 3.” The IRS notifies X, and demands payment. If X has an income tax refund in the works, the IRS can divert some or all of it to payment of X’s year 1 penalty for not having health insurance coverage. As an aside, I suspect this puts X on the “watch out for this person” list and might speed up the process when year 2 comes to a close, and during year 3 the IRS figures out who did not have health insurance coverage for year 2. But if X does not have an income tax refund in the works, what does the IRS do? As pointed out in Health Care: Enlarging the Code and Stressing the IRS, the IRS is not permitted to file a lien against X’s property or to pursue a levy on X’s wages or other income.

Now, continuing with the example, let’s turn to X’s perspective. At the beginning of year 1, or at some time before year 1, X faced a choice. Purchase health insurance or don’t purchase health insurance coverage. To purchase the health insurance, X would be required to pay something in the vicinity of $5,000, which is the average cost of coverage for an individual. The odds of X needing health care, in X’s mind, are surely very low. Actually, even though healthy, X does need preventative care, such as teeth cleaning, eye exams, and a general physical check-up. Those services won’t come close to costing $5,000. So, from X’s perspective, most of the $5,000 premium is the cost of getting coverage for some extraordinary health problem. X probably has some medical coverage on his auto insurance policy, which deals with the most likely cause of X needing serious medical attention during year 1. On the other hand, from X’s perspective, failure to purchase health insurance coverage poses two risks. One is that the IRS figures out that X does not have coverage, and if caught, X is subject to a penalty that starts at $95 and eventually reaches $750. Even if there is a 50 percent chance of X getting caught – there is, after all, a bit of an “audit lottery” at play here – it still is much less a price than the health insurance premium. The other risk to X is that if X does need medical care, X shows up at the hospital as an uninsured individual. Under existing law, which remains unchanged, X cannot be denied emergency care. And, at this point, X will purchase health insurance coverage, but because the law prohibits insurance companies from denying X on account of an pre-existing condition – whatever it is that brought X to the hospital – X can now obtain coverage without paying the premiums for earlier years.

So, as structured, the new legislation encourages healthy young people to continue on their pattern of not purchasing health insurance coverage. It might even encourage those who had been purchasing coverage to stop, because there is so little incentive to purchase the coverage. Even older people who seem, at least to themselves, to be healthy will find it tempting to play the health care coverage purchase lottery that they cannot lose but for one caveat. If someone playing this game also foregoes self-financed checkups, they may end up with a serious health problem, even death, from a condition or disease that could have been treated easily had it been caught sooner. But one can play the health care insurance coverage lottery without giving up on preventative check-ups. One supposes that free blood pressure, diabetes, eyesight, hearing, and other screenings will continue to be available.

In the meantime, Congress has concluded that by having the IRS determine who is not covered and billing them for some amount ranging from $95 to $750 will encourage everyone to acquire health insurance coverage. Congress needs to sit through a course in economics, a course in statistics and probability analysis, and a course in health care management, with an exemption only for members of Congress who can prove they have degrees in these areas. A sensible incentive is a penalty equal to some sort of average health care coverage premium, provided that the penalty is enforceable in ways that make it likely that it will be collected. The proceeds collected by enforcing the penalty should be transferred into a fund available to health care providers and insurers, including the Medicare and Medicaid systems, that are paying for the care of uninsured individuals. Otherwise, the entire enforcement structure set up under current law is, as my reader notes, “a fool’s errand.”

Here’s the irony. If the people protesting the health care legislation realized how toothless it is, they wouldn’t be investing so much energy into trying to kill a paper tiger. Of course, the health care legislation is nothing more for those folks than a surrogate for the true object of their intense anger. Purposeful anger would be better directed at a Congress that has enacted something other than what is advertised to be, namely, legislation that will reduce health care costs. To accomplish that goal, one does not vote for a bill that makes it so easy to continue decisional behavior that has contributed to the health care crisis. Americans deserve better, but asking Congress to get it right might be asking too much.

The ongoing battle in New Jersey with respect to taxes and state spending is heating up, providing lessons in tax policy not only for students in a tax course but also for citizens generally. In November, after a candidate promising tax cuts won the gubernatorial election, I noted in New Jersey to Follow in California’s Tax Footsteps? that in order to keep the tax-cut promise, the new governor would be compelled to cut back on state services. I also predicted that his election did not guarantee tax cuts because the legislature would have a say in what happened. Not surprisingly, the early stages of this highly-charged debate is playing out as expected.

The governor proposed a bundle of tax cuts, which drew my attention in Tying Tax Revenue to Voter Responsibility. I pointed out the inconsistency between the desire for reduction or elimination of taxes with the desire for maintained or expanded state services. This syndrome of wanting something for little or nothing had been the subject of a poll that I discussed in Poll on Tax and Spending Illustrates Voter Inconsistency. It was inevitable that the pressure for tax reduction would collide with the pressure for government services.

According to a Philadelphia Inquirer report, New Jersey’s legislature, controlled by Democrats, has told the Republican governor that it will not approve the proposed budget unless the state income tax continued to include three tax brackets applicable to taxable income exceeding $400,000. Those brackets were enacted last year, effective for 2009. The governor has promised a veto of any legislation that maintains the higher tax rates on incomes exceeding $400,000. The highest of the three brackets applies to taxable income exceeding $1 million.

The first lesson involves the semantics that get tossed about when dealing with taxes. Should failure to reduce a tax be called a tax hike? Should extension of an existing tax be called a tax hike? The answer depends on the baseline. Should a proposed tax rate for 2010 be compared to 2009? To 2010 as it would exist if 2009 had not existed? To 2008?

The second lesson involves the susceptibility of voters to campaign rhetoric. How many people in New Jersey are subject to the tax brackets applicable to incomes exceeding $400,000? Not very many. How many people oppose those tax brackets? Enough to have elected a tax-cut advocate as governor. Considering that failure to maintain those tax brackets means $800 million to $1 billion in cuts to education funding, assistance for the needy, and other public services, and that those programs benefit most people, why are people voting for a philosophy that benefits the wealthy and jeopardizes the poor and middle class? Some of the staunchest defenders of low taxes for the wealthy do not come from the ranks of the wealthy but from those who face increased burdens – in the form of higher taxes, increased government debt, or reduced government services – in order to pay the price of those low taxes for the wealthy. I suspect that most people see themselves as being wealthy some day and want to make certain that the tax-comfortable environment now in place remains in place when they arrive. Unfortunately, so few will attain that status that it’s the equivalent of using lottery-playing rationale to determine tax policy.

The third lesson involves the distributive nature of tax cuts. Is the governor’s objective simply the reduction of state revenue by $800 million to $1 billion? Or is the governor’s objective the reduction of taxes on the wealthy? If his objective is the first, why not reduce income taxes for the middle class? The argument that the wealthy pay a substantial portion of the income tax is the most frequently offered justification for cutting taxes on the wealthy. Using data from the federal income tax, which is a progressive tax not unlike the New Jersey income tax and because comparable information about the New Jersey income tax isn’t readily available, it is clear that the wealthy are not over-taxed. For example, although it is true that the share of income tax paid by the top 1 percent of income earners increased from 37.42 percent in 2000 to 39.89 percent in 2006 (the latest year in the information), it is important to note that the top 1 percent’s share of total adjusted gross income increased during the same period from 20.81 percent to 22.06 percent. What gets overlooked is the fact that the top 1 percent’s share of national income continues to increase. That means that the bottom 99 percent’s share has decreased. The same trends apply to the top 5 percent. Yet, a Tax Foundation blogger puts focus on the fact that the tax burden of the top 1 percent exceeds the tax burden of the bottom 95 percent, and points out that 20 years ago, the bottom 95 percent paid a larger share of total federal income taxes. According to the same federal income tax data, the bottom 95 percent’s share of adjusted gross income fell from 75.89 percent in 1986 to 63.34 percent in 2006. Of course the bottom 95 percent’s tax burden will decrease as a percentage of the whole if the bottom 95 percent earn a smaller share of national income. The logical corollary is that the top 1 percent’s share has increased at the expense of the bottom 95 percent, yet the top 1 percent, or more precisely, people not in the top 1 percent but advocating on behalf of that group though belonging for the most part to the bottom 95 percent, object to, or at least complain about, the increase in tax burden that goes along with increases in income. If the numbers can be ascertained, it is almost certain that the same phenomenon holds in states with nominally progressive income taxes, such as New Jersey. Interestingly, according to Ira Stoll, some prominent economic and tax policy experts and political advisors, characterized as “center-right” are “signaling openness to federal tax increases,” suggesting that at least some lessons are slowly being learned, unless the they are envisioning tax increases on the poor and middle-class.

The fourth lesson involves lessons. If people understood tax law and tax policy as it needs to be understood, there would be a lot less success by those who take advantage of the public’s ignorance about taxation. People need to learn about tax law and tax policy, but the opportunities to do so are limited. Though there are courses and other educational programs designed for tax professionals and those learning to be tax professionals, there’s almost nothing in place for those who do not want to be experts but need to know something. Where are the K-12 tax courses, particularly in publicly-funded schools, considering that one justification for a system of public education is to nurture an informed electorate? Is it ironic, accidental, or deliberate that when it is time to cut spending, many politicians and governments, joined by a chorus of badly informed taxpayers, call for reductions in education? Is it any wonder that students in many other nations out-perform American school children? Though calls for improvement in reading, arithmetic, history, and other typical subjects get attention, has anyone figured out that so long as the politicians keep Americans in the dark with respect to taxation that it is easier for them to manipulate the masses? As I pointed out in Tax Illiteracy as a Threat, a gleam of hope can be found in efforts such as Prof. Marjorie Kornhauser’s Tax Literacy Project, designed, as she puts it, to “use popular media to informally educate young adults about basic aspects of taxation.”

So, however the situation in New Jersey plays out, people throughout the country will have the opportunity to learn about tax law and tax policy. How many choose to take advantage of that opportunity remains to be seen.

Earlier this week, in IRS Ought Not Be the Health Care Enforcement Administrator, I criticized the Congress for dumping onto the IRS the responsibility for administering the requirement that all individuals, save for a few who area within very narrow exceptions, be covered by, or purchase, health insurance. Now that the bill has been signed into law, it’s worth exploring in more detail the scope of this responsibility.

Section 1502 of the Patient Protection and Affordable Care Act adds a new section to the Internal Revenue Code. Section 6055 requires every person “who provides minimum essential coverage to an individual during a calendar year” must file an information return. Ths return must contain the “name, address and TIN of the primary insured and the name and TIN of each other individual obtaining coverage under the policy,” the dates during which those individuals are covered, and if the minimum essential coverage includes health insurance coverage, information on its status as a qualified health plan offered through an exchange and the amount of any advance payment of any cost-sharing reduction or premium tax credit. The return must also include “such other information as [it] may require.” If the minimum essential coverage is provided through an employer, then the return must also include “the name, address, and employer identification number of the employer,” the portion of the premium paid by the employer, and information with respect to the plan’s status as a qualified health plan offered through an exchange, and whatever other information the IRS requires to deal with the new section 45R credit for employee health insurance expenses of small employers. Without getting into a detailed discussion of what terms such as “minimum essential coverage” and “qualified health plan” mean, it’s easy to see that not only must providers generate more reports, the IRS is going to be receiving many more mailbags or email arrivals once this requirement goes into effect. Who is going to sort through this? Who is going to figure out what to do with the information and how to match it up against some sort of list of the nation’s citizens to see who is and is not mentioned on one or more of these returns. The new section 6055 requires that any individual whose name must appear on one of these returns must be given a statement showing the information on the return that pertains to the individual, together with “the phone number of the information contact” for the person filing the information return.

Section 1502 also amends existing Code provisions. It amends section 6724(d)(1) and (d)(2) to include the required returns within the section 6721 penalty for failure to file correct information returns, and the section 6722 penalty for failure to furnish correct payee statements. The first penalty is $50 per return, capped at $250,000 for any one calendar year. The second penalty is $50 per statement, capped at $100,000 for any one calendar year. Both penalties are subject to a variety of exceptions, increases in the event of intentional disregard, and reductions if corrective action is taken within a specified time. Without getting into the details, the point is that the IRS will need resources to sift through returns, and through data that reveals that returns and statements were not filed, in order to determine whether an penalty applies, to assess the penalty, and to deal with the inevitable appeals and other dispute resolution procedures.

Section 1502 also requires the IRS to send a “notification to each individual who files an individual income tax return and who is not enrolled in minimum essential coverage.” That’s more work, and given the condition of the IRS computer system, the answer isn’t the glib “let the computer do it” response. IRS employees will need to invest substantial hours in designing programs and setting up database entry systems to deal with this task.

Section 1514 of the Act also adds a new section to the Code. Section 6056 requires every “applicable larger employer required to meet the requirements of section 4980H with respect to its full-time employees” to file an information return. This return must contain the “name, date [address?], and employer identification number of the employer,” along with “a certification as to whether the employer offered to its full-time employees (and their dependents) the opportunity to enroll in minimum essential coverage under an eligible employer-sponsored plan,” and information with respect to that opportunity and the plan. The return must also include information with respect to the employees, including the “number of full-time employees for each month” of the year, the “name, address, and TIN of each full-time employee,” and whatever other information the IRS might require. So hiring or finding employees to handle the information flowing in under section 6055 won’t be enough, because section 6056 will cause that inflow to increase significantly. Keep in mind that there will be individuals for some months are included on returns filed under section 6055 but who, after changing jobs, will end up on returns filed under section 6056. Following the same pattern as section 6055, section 6056 requires that any employee whose name must appear on one of these returns must be given a statement showing the information on the return that pertains to the employee, together with “the phone number of the information contact” for the person filing the information return.

Section 1514 also amends existing Code provisions. It amends section 6724(d)(1) and (d)(2) to include the required returns within the section 6721 penalty for failure to file correct information returns, and the section 6722 penalty for failure to furnish correct payee statements. The first penalty is $50 per return, capped at $250,000 for any one calendar year. The second penalty is $50 per statement, capped at $100,000 for any one calendar year. Both penalties are subject to a variety of exceptions, increases in the event of intentional disregard, and reductions if corrective action is taken within a specified time. Without getting into the details, the point is that the IRS will need resources to sift through returns, and through data that reveals that returns and statements were not filed, in order to determine whether an penalty applies, to assess the penalty, and to deal with the inevitable appeals and other dispute resolution procedures.

Section 1513 of the Act adds yet another new Internal Revenue Code provision. Section 4980H imposes “an assessable payment” on “any applicable large employer” that “fails to offer to its full-time employees (and their dependents) the opportunity to enroll in minimum essential coverage under an eligible employer-sponsored plan . . . and . . . at least one full-time employee of the applicable large employer has been certified to the employer . . . as having enrolled . . . in a qualified health plan with respect to which an applicable premium tax credit or cost-sharing reduction is allowed or paid with respect to the employee.” The assessable payment equals the applicable payment amount multiplied by the number of the employer’s employees. Another assessable payment is required if the employer has a waiting period exceeding 30 days, and this one is a fixed amount based on the length of the waiting period. Yet another assessable payment is imposed if the employer “offers to its full-time employees (and their dependents) the opportunity to enroll in minimum essential coverage under an eligible employer-sponsored plan . . . and . . . one or more full-time employee of the applicable large employer has been certified to the employer . . . as having enrolled . . . in a qualified health plan with respect to which an applicable premium tax credit or cost-sharing reduction is allowed or paid with respect to the employee.” This payment equals the applicable payment amount multiplied by the number of the employer’s employees, multiplied by 400 percent. Without getting into the definitions of applicable payment amount, applicable large employer, the exemptions for certain employers, the determination of whether an employee is full-time, and other issues, it is clear that the IRS will need yet more resources to determine if one or more of the assessable payments should be imposed. Section 4980H provides that the assessable payment “shall be paid upon notice and demand by the [IRS], and shall be assessed and collected in the same manner as an assessable penalty under subchapter B of chapter 68.” Subchapter B of section 68 includes sections 6671 through 6720C, which cover several dozen penalties. Section 6671 states that the “penalties and liabilities provided by this subchapter shall be paid upon notice and demand by the [IRS], and shall be assessed and collected in the same manner as taxes.” Once someone determines that assessable payments should be imposed, even more resources will be required to send the notice, demand payment, initiate collection procedures, deal with appeals, and litigate penalties that the taxpayers decide to challenge in court.

There’s more. Section 1501 of the Act adds a still another new Internal Revenue Code section. Section 5000A imposes a penalty on any “applicable individual” who, for any month, fails to ensure that the individual, and any dependent who is an applicable individual, is covered under minimum essential coverage for that month. The penalty “shall be included with the taxpayer’s [income tax] return . . . for the taxable year which includes such month.” The penalty for each month equals 1/12 of the applicable dollar amount for the calendar year. That amount phases in, starting at $95, until it reaches $750. There is a special rule for individuals under the age of 18. For taxpayers responsible for more than one individual, the penalty is capped at 300 percent of the applicable dollar amount. There are five categories of individuals who escape the penalty, including those who cannot afford coverage, taxpayers with income less than the poverty line, members of Indian tribes, individuals who fail to have coverage for short gaps, and those who can demonstrate hardship. The definition of applicable individual reaches all individuals other than those satisfying a religious exemption exception, those who are in the country illegally, and those who are incarcerated. Without getting into a detailed discussion of the scope of these various exceptions, and without getting into a closer look at the definition of minimum essential coverage, it is clear that the IRS will need even more resources to determine if an individual should be subject to the penalty. It will need to match information on the returns filed under section 6055 and section 6056 with returns that are filed, and somehow deal with matching information with respect to individuals not required to file returns to ascertain whether the penalty should apply. It is going to be a complicated endeavor.

Section 5000A also provides that the penalty “shall be paid upon notice and demand by the [IRS], and except as provided in paragraph (2), shall be assessed and collected in the same manner as an assessable penalty under subchapter B of chapter 68.” Subchapter B of section 68, as noted above, includes sections 6671 through 6720C, which cover several dozen penalties. Section 6671 states that the “penalties and liabilities provided by this subchapter shall be paid upon notice and demand by the [IRS], and shall be assessed and collected in the same manner as taxes.” It’s the exceptions in paragraph (2) that demand attention. The first exception states that “[i]n the case of any failure by a taxpayer to timely pay any penalty imposed by this section, such taxpayer shall not be subject to any criminal prosecution or penalty with respect to such failure.” Wow. So what happens when people come up with ways to make it appear that they have coverage when they don’t, such as having their names falsely included on information returns or through some other deceptive means? The second exception provides that the IRS shall not “file notice of lien with respect to any property of a taxpayer by reason of any failure to pay the penalty imposed by this section,“ and the third exception provides that the IRS shall not “levy on any such property with respect to such failure.” So when the IRS does get around to determining that someone is subject to the penalty, what does it do after it sends notice and demands payment if the taxpayer fails to pay? Presumably it can let the matter work itself out in the judicial system, but isn’t that inefficient? What’s the point of imposing a requirement, putting enforcement responsibility in the hands of a federal agency, and then restricting the agency’s ability to enforce the requirement?

These aren’t the only responsibilities imposed on the IRS by the Act, nor are they the only additions to the Code. They simply are some of the highlights of what Congress wants the IRS to do, enough to give some sense of the wide scope of the additional work that the IRS must undertake. It is essential to understand that unlike the enactment of a new credit that might apply to one percent, five percent, or even 15 percent of the taxpaying public, these are provisions that apply to all, or almost all, individuals, and to all, or almost all, employers. It’s equivalent in some respects to doubling the IRS workload.

Aside from the inappropriateness of dumping all of this responsibility on the IRS, rather than, for example, HHS, there is the more serious question of whether Congress will authorize the IRS to spend additional money to hire and train new employees, to train existing employees who are transferred from tax work to health insurance enforcement work, to hire and train replacements for those employees, to purchase or develop additional computer hardware and software, to obtain assistance in re-tooling systems to deal with the flood of information returns under sections 6055 and 6056, and to find space in which to house all of the additional employees, computer hardware, and other resources required to comply with the Congressional mandate that the IRS become the Health Insurance Enforcement Agency. Considering the IRS-as-enemy mentality among so many on Capitol Hill, who take that position because it can generate votes on election day, is it unreasonable to worry that the IRS will find itself trying to do more with the same, or even fewer, resources? Will it then cut back on tax compliance enforcement in order to handle health insurance enforcement? Will that not have an adverse effect on federal revenues? Does the Act contain within itself the seeds of its own failure? Only time will tell.

An interesting newspaper article from a few weeks ago, Ticking time bomb: Crisis looms in Pa.’s dwindling pension plans, provides a lesson in the dangers of irresponsibility in taxation policy and demonstrates how today’s tax cut, or rejected increase, becomes tomorrow’s tax increase of two or three times as much, perhaps even more. Though the article deals with the situation in Pennsylvania, it describes a situation challenging other states, and not just with respect to pension costs. Similar analyses can be developed at federal, state, and local levels for a variety of expenses.

In short, the problem for Pennsylvania is that it, and its local governments, have failed to fund pensions that they are contractually obligated to pay. The longer an employer waits to fund a pension plan, the more must be invested to obtain the same return on the investment. Toss in some negative investment experience, and the shortages compound themselves. The problem is one of scale, namely, more than 3,000 local plans and three-quarters of a million participants, who at the moment draw average pensions “of about $22,000.” Pension payments are funded in party by state and local contributions derived from tax revenues, in part by participant contributions, and in part by investment returns.

In 2001, in reaction to pension fund investment returns that had exceeded expectations during the 1990s, the legislature voted itself 50 percent increases in their pensions, while voting for 25 percent increases in pensions for government and school district employees. Those already retired, upset at not being covered by the increases, persuaded the legislature to increase their existing pensions by an unfunded cost-of-living adjustment. Because the investment returns had been doing so well, employer contributions were reduced. That did not last long, because downturns in the stock and other markets brought the robust investment experience to an end. During the same period, employee contributions, as a percentage of salary, increased. In turn, legislation reduced the number of years that an employee must work in order for the pension to vest, and increased the pension from twice the number of years worked to 2.5 times the number of years worked.

By 2003, with investment returns crashing, the actuarial computations determined that state and local governments, as employers, would need to increase significantly their contributions. To do so would require tax increases. To avoid those tax increases, the employer contributions were adjusted, through special legislation, to amounts lower than what were necessary to fund future pensions, and the increased contributions, if required, would be made ten years later. The hope was that in the meantime investment returns would exceed previous expectations and offset the need for increased employer contributions. That didn’t happen. So in about a year and a half, an even larger, much larger, state and local government employer contribution will be required. The dollars supposedly saved in 2003, and the tax increases avoided, pale in comparison to the hit that taxpayers will take in 2013. Employer contributions, according to some computations, will need to quadruple by that year. The following year they will need to be even higher.

One consultant compared the situation to a homeowner who owes money on a mortgage. The homeowner has a job, is saving money, and making payments. But when the homeowner loses her job, she can continue to make payments by dipping into savings. But when savings run out, she’s in trouble. Counting on increases in savings that outstrip the decrease caused by using savings to pay the mortgage is a risky move. But that’s what the Pennsylvania legislature did. So, too, did other legislatures.

The estimate is that the state faces a $4 billion pension funding obligation. Local governments face a similar amount in total. Individual school districts, for example, are looking at 600 percent increases. It means that services will be cut. The number of children in a classroom will increase to levels that impede education, and too many school districts cannot afford to have the children in their care suffer through reduced educational quality.

One must laugh when one of the proposed solutions is considered. In short, it’s a repeat of the stunt pulled off in 2003. State and local governments will be given a much longer time over which to fund the pensions. Though buying time, it will cost more. In 2023, the same problem will re-emerge, but with shortfalls not in the range of $8 billion, but perhaps $20 or $30 billion. Most experts doubt that the next ten years will bring investment returns similar to those of the 1990s. Another proposal is to direct federal stimulus payments into the funds, which means other state programs won’t get the funding that otherwise would be available. No matter what solution is discovered, some experts are predicting that the multiplier needs to return to 2, and the number of years for vesting must return to its pre-2003 level. Another possibility is to do what employers in the private sector have been doing for many years, that is, shifting from defined benefit pension plans to defined contribution plans. What that does, in effect, is to shift the risks and rewards of investment returns onto the employee. If the market does not perform well, the defined contributions do not purchases as much of a retirement annuity. All of these proposals have their advocates and distracters, with arguments being tossed about from every perspective. That’s not surprising.

As several experts have mentioned, there is no “silver bullet” to solve the problem. I certainly don’t have an answer. I unquestionably do not have an answer that would make people happy. However this turns out, there are two lessons to be learned. First, spending tomorrow’s anticipated income before it is received is too risky, particularly for governments. It was a bad decision to increase pensions, increase multipliers, and decrease vesting terms simply because it was assumed that investment earnings in the future would continue at 1990s rates. Anyone who studies market histories knows that these things run in cycles. Second, trying to avoid fixing the roof in order to save a few dollars today is foolish, because in the long term the cost of fixing the entire building and everything in it significantly exceeds the short-term savings. Assuming that the property will continue to increase in value is an unsound decision, yet it’s one that way too many people made during the past few years, one that contributed to the current economic mess. When the penny-wise, pound-foolish decision rests on a desire to avoid tax increases in order to placate the anti-tax and anti-tax-increase crowd, the consequences are far more extensive than they are for one building owner. Trying to avoid tax increases is no less foolish than trying to avoid increases in repair costs.

Yet one more lesson is that governments need to match actual revenues with expenses, rather than spending unpredictable future revenue before it materializes. Isn’t it especially galling that legislators gave themselves pension increases twice what it gave state and local government employees? That alone explains the root cause of the problem. Legislators need to learn to think more about the common good and less about vote acquisitions and campaign paybacks. There’s something about the word servant in civil servant that seems to be escaping legislatures. The cost of that shortcoming has caught up with them. And with us.

Congressman Charles Boustany, ranking member of the Ways and Means Committee’s Subcommittee on Oversight, questioned the wisdom of the provisions in the pending health care legislation that would require the IRS to administer enforcement of “numerous parts of the health insurance system.” In his remarks, he called this “one of the most troubling expansions of IRS power is the power to approve a taxpayer’s health insurance as sufficient to meet the definition of minimum coverage required to be purchased by law.” Elaborating, he explained:

This is the so-called “individual mandate.” Under the Senate’s individual mandate, the IRS would be in charge of verifying that every American taxpayer has obtained acceptable health coverage for every month of the year. If the IRS determines that a taxpayer lacks acceptable insurance for even a single month, then the IRS would have the power to impose a new tax on that taxpayer, even auditing the taxpayer and assessing interest and penalties on top of the tax. This is an unprecedented new role for the IRS – one that will inject the IRS even further into the personal lives of American families.

Apparently Boustany was speaking not only for himself, but also for other Republican members of the House, according to this report which describes some of their statements describing the same or similar concerns.

There seems to be little dispute over the impact on the IRS of requiring it to administer the requirement that everyone purchase health insurance. For an agency already overwhelmed with tax administration, enforcement, and collection, and woefully underfunded, having this burden added to its responsibilities could cripple it. The IRS cannot keep up with the mistakes and errors on the 236 million tax returns that it processes, let alone the tax evaders who don’t even file returns. The IRS computer system is so antiquated that it leaves the agency incapable of doing things that ought to be easily accomplished. The Congressional Budget Office estimates that if the health care legislation is enacted with this IRS responsibility in place, the agency will need $1 billion a year in additional funding to meet that responsibility. Some members of Congress have suggested that the funding would be forthcoming, but all spoke in terms of dealing with the issue after the health care legislation is enacted, rather than making it part of the package. Why? Could it be that adding the cost of administration to the legislation would make the legislation a bit more expensive than it otherwise appears to be?

I agree that the IRS ought not be administering a provision that deals with the obligation of individuals to obtain health insurance. The notion of mandatory insurance is not a new one. States require motorists to carry liability insurance. Are those requirements administered by the state’s department of revenue? No. It’s in the hands of their department of transportation, department of motor vehicles, or equivalent agency. So why does the Congress dump this responsibility on the IRS?

Dumping administration of the health insurance purchase obligation on the IRS would not be the first time that the Congress turns, not to the agency charged with the area in question, but to the IRS. Not too long ago, in Tax Talk at the Gym, I recounted a conversation I had with someone who had asked me about what was then my latest book and the one preceding it. I rattled off a partial list of the Internal Revenue Code provisions in question, such as the work opportunity credit, the Indian employment credit, the various disaster employee retention credits, the many tax incentives for energy production and conservation, and those dealing with family and household transactions. Then, as I reported in my previous post:

he stopped me and asked why the tax law was filled with so many provisions that weren't a matter of revenue collection but expenditures. The answer is an easy one, because it's asked every semester by students in the basic tax course. Why not have the Department of Energy write checks to companies and individuals who are doing things to develop or conserve energy instead of administering the grants through tax refunds? Why not have the Department of Labor reimburse employers who hire members of targeted groups? The answer rests in the Congress' confidence with those other agencies and with the supposed speed with which tax refunds can put money in the taxpayers' hands in contrast to check-writing programs.

Administration of the health purchase obligation does not involve putting money in taxpayers’ hands, and thus any supposed speed advantage of the tax system as compared to check-writing is irrelevant. Administration of the health purchase obligation involves reviewing whether a person has satisfied that obligation, and imposing a fee (erroneously called a “tax”) similar to a fine or penalty on those who do not comply. Many federal agencies impose fees, fines, penalties, and other charges. The IRS does not collect the annual entrance fee imposed by the National Park Service. It does not collect amounts charged by the FCC for licenses. The list of charges imposed and collected by other agencies is long. Why can’t this administrative and collection task with respect to health insurance be put into the hands of those at the Department of Health and Human Services? Why the IRS?

Four years ago, in the frighteningly-titled ”Professor Maule Goes to Washington”, I challenged Congress’s practice of relying on the IRS to do the work of other agencies:

I understand that the Congress, which consistently criticizes the IRS, has a habit of demonstrating its true thoughts about that particular federal agency by putting into the tax law provisions that deal with matters that are within the purview of other federal agencies because the IRS appears to be more capable of administering these programs, but it's time for Congress to demand of the other agencies the same sort of competence that it attributes to the IRS when it turns to the IRS to handle its pet project of the week.

If there is to be health care reform that curtails health costs, that makes delivery of health services more efficient, that rewards and encourages preventative care, that discourages short-term-attractive but long-term-foolish self-insurance, the purchase obligation needs to exist. Additionally, because free health care for all provided and managed by the government is an unwise choice and one not favored by most people, the system needs to be a sensible one, and thus must impose on individuals the same sort of personal responsibility for health care that states have brought to motor vehicle ownership. Just as questions about motor vehicle insurance, the name of the insurance company, the policy number, the serial numbers of the vehicles, the names and ages of those driving the vehicles, and similar information that, to paraphrase Boustany, “inject [state agencies] into the personal lives of American families,” so, too, making certain that every American has health insurance is going to require that a federal agency ask questions about health insurance, the names and ages of those covered by the insurance, the name of the insurance company, the policy number, and other information necessary to determine that a person is in compliance.

My objection is not that there ought not be a health insurance purchase obligation, nor is it with the fact that no such obligation has any teeth unless it is administered, nor with the fact that in order for it to be administered relevant information must be obtained from individuals. My objection is that the Congress, yet again, has picked the wrong agency. As I wrote, presciently, in Not to Its Credit, when addressing a pile of credits cluttering the Heartland, Habitat, Harvest, and Horticulture Act of 2008:

It's not that I object to the goals. I object to the Internal Revenue Service being turned into a institution that is focused more on the technical requirements of energy production activities than on administering revenue laws. I wonder why financial incentives to produce and conserve energy aren't administered by the Department of Energy. Well, I know the answer. The Congress, though every now and then publicly trashing the IRS and characterizing it as harmful, then turns to the same agency to administer its favorite incentives programs. Which should speak more loudly to America? What Congress says when it grandstands or what it does when it overburdens the tax law and the IRS because it apparently doesn't trust other agencies to administer laws relating to agriculture, energy, employment, or health? (emphasis added)

Perhaps some in Congress deliberately intended for the IRS to be given this responsibility, and others were too inattentive to realize that this happened. Why? Because the use of “anti-IRS” sound bites by certain politicians, not unlike the IRS-as-enemy overtones in the statements by Boustany’s and others sharing the same sentiments, gives the opponents of the legislation ammunition to persuade the public that they should rise up in opposition. How difficult would it be to amend the legislation to replace the IRS with HHS, and thus silence the IRS-as-enemy crowd?

Earlier this week, in The Tax Price of a Flawed Tax System, I commented on the a report that at least one member of Philadelphia’s City Council would suggest substituting an increase in the real property tax for the proposed trash pickup fee. On Wednesday, according to this Philadelphia Inquirer story, Council member Frank DiCicco confirmed that he plans to introduce legislation that would raise the property tax by 12 percent. The increase would terminate when economic conditions improved, with some sort of sunset provision yet to be determined. DiCicco mentioned the possibility of a termination provision that would kick in after anywhere from two to five years.

As can be expected, several other members of City Council agree with DiCicco. They consider it “more fair” than the trash pickup fee. Others disagree. They focus on the disarray that afflicts the real property tax assessment system, one that leaves property owners with assessments out of proportion, some higher, some lower, with property values. It will take at least two years to fix that system, and in the meantime a moratorium on reassessments has been put into effect.

The quandary in which Philadelphia finds itself is a good teaching moment, not only for those offering Tax Policy courses, but for citizens and voters in general. If compelled to choose between a real property tax increase or a trash pickup fee, under the circumstances in which Philadelphia finds itself, what sorts of advantages and disadvantages ought to be considered? How much weight should be given to those factors? Consider the trash pickup fee as proposed, rather than variations that could alter the various factors that are relevant.

An increase in the real property tax exacerbates the inequity that is built into the system as it now exists. Those whose properties are relatively over-assessed will be at a greater disadvantage, whereas those whose properties are relatively under-assessed will enjoy even more of an unjustifiable advantage.

An increase in the real property tax is easier to administer. Increasing the tax by 12 percent requires far much less effort than putting in place a separate billing system for those property owners that would be subject to the proposed trash pickup fee.

An increase in the real property tax would apply to all property owners. The proposed trash pickup fee would not apply to certain commercial and multi-unit residential properties, which already have arrangements in place to pay for trash removal.

The proposed trash pickup fee is regressive, because even despite a suggested reduction for low-income individuals, it is a fixed amount and does not vary according to income. Accordingly, the fee would be a relatively much smaller portion of a high-income individual’s income than it would be for a low-income person. An increase in the real property tax, at least theoretically, would be progressive, because generally the higher a person’s income, the higher the property’s value. However, the combination of warped assessments and the ownership of higher valued properties by fixed income owners who purchased those properties years ago dampens the strength of the argument that the real property tax is that much more progressive that the proposed trash pickup fee.

The proposed trash pickup fee does not take into account the quantity or weight of the trash left for collection by a particular resident. Unlike the property tax, where at least some sort of attempt is required to be made to relate the tax to the value of the property, the proposed trash pickup fee does not offer any incentive to cut down the trash removal and landfill burden because it does not shift costs to those generating a higher proportion of trash.

The proposed trash pickup fee does connect a user fee to a particular service, so that to some extent, albeit weakly, taxpayers can see the relationship between the payment to a government and the service being provided. In contrast, the real property tax is not specifically connected with any particular city service.

The amount paid on account of a real property tax increase is deductible for federal income tax purposes. In contrast, the proposed trash pickup fee would not be deductible.

An increase in the real property tax might bring court challenges on the grounds that the increase violates the tax uniformity clause of the state Constitution. On the other hand, there do not appear to be any plausible legal challenges to the proposed trash pickup fee.

So which one would you pick? Even though the trash pickup fee lacks a connection to quantity or weight, as I would prefer it have, it gets my vote. Admittedly, I favor user fees because I think it is important for taxpayers to see the connection between taxes that are paid and the benefits that are obtained in return. The mayor, when asked about the proposed trash pickup fee, appeared open to the possibility of adapting it to a quantity or weight measurement. Other jurisdictions take that approach, so it can be done. Yet even if it isn’t part of the fee at the outset, it ultimately makes less sense to rely on an increase in property taxes that are measured by flawed assessments and that would be vulnerable to challenge. My prediction is that City Council will end up going for the real property tax increase.

We will find out. Stay tuned.

In November of last year, in New Jersey to Follow in California’s Tax Footsteps?, I asked how the governor-elect of New Jersey, who prevailed in the election by promising to cut taxes, would deal with the inconsistency between public demand for state services and public demand for low or no taxes. This inconsistency was corroborated by a poll, on which I commented in Poll on Tax and Spending Illustrates Voter Inconsistency.

On Monday, the Philadelphia Inquirer published a report that New Jersey’s governor planned to ask the legislature to cap real property tax increases a 2.5 percent per year. This limitation requires an amendment to the state constitution. He also plans to cut state aid “to towns, schools, and colleges. Another trick is to replace the checks that are mailed on account of real property rebates with a credit that applies a year later. That’s a one-time gimmick.

Currently there is a 4 percent limit on property tax increases, to which there are exceptions that permit local property taxes to be raised by more than 4 percent. The governor plans to seek elimination of those exceptions. The exceptions were designed to accommodate extraordinary items, or items that are expenses imposed on localities but authorized by state legislators and thus not within the power of local officials to reduce or eliminate.

Here’s the problem with across-the-board tax increase limitations. There are expenses that will increase by more than the cap, and that officials are powerless to reduce. For example, state law guarantees public workers a defined pension benefit that cannot, at this point, be reduced to the extent it is vested on account of past services. Under the governor’s brain child, if a locality’s pension costs go up 20 percent, it must cut other services. By how much? That depends. For example, assume a locality’s total budget is 1000, and pension costs are 100, and other costs are 900. Assume that under state law, the pension costs for the following year increase to 150. Under the governor’s proposal, the budget is limited to 1025. That means the locality must cut 25 from other expenses. It cannot cut the pay of workers who have contracts. What does it cut? Snow removal? Trash collection? The point is simple. If the cost of the services that the residents want increase by 5 percent, taxes need to increase by 5 percent, unless there are cuts that can be made that represent expenses arising from fraud or inefficiency. When asked to identify specific instances of fraud or inefficiency that could provide the basis for savings, the anti-tax proponents revert back to theoretical commentary and strike out when faced with the practicalities of the details.

The key to balancing government budgets is not a simple matter of limiting tax revenue and triggering a free-for-all among the proponents of particular state services. The key is to price out and advertise the cost of each service that voters tell their representatives that they wish to receive. Pennsylvania has a similar property tax limitation in place, but it can be exceeded if the voters approve a budget that is based on an increase above the cap. By shifting responsibility onto voters, and making it clear that they must pay for what they want, particularly with respect to items that take the form of a user fee, governments can move away from spending decisions that are made by legislatures without any specific directive from voters. The cap ought not be an iron-clad revenue increase restriction that has no bearing to the actual costs of providing government services, but a cap on the spending decisions that are not specifically authorized by voters.

Ultimately, when complaints about high taxes circulate, the response, “You voted for it,” should either dampen the griping or inspire people to reconsider, and cut back, their government services wish list. The debate before each tax referendum, though probably loud, intense, and heated, will be educational, worthwhile, and productive. Imagine how cathartic it will be to listen to the proponents of a tax for a particular service debate those who do not want to pay taxes to provide that service. It will take the issues out of the back rooms and put them on the table Tying ownership of the expenditure process with ownership of the taxing process makes much better sense in the long-run than unworkable and impractical absolute revenue caps.