MauledAgain

Recently, in Carlebach v. Comr., 139 T.C. No. 1 (July 19, 2012), the Tax Court upheld the validity of a regulation dealing with the definition of a dependent that illustrates why tax statutes are long. Had the statute been even longer, there would have been no justification whatsoever to challenge the regulation because there would have been no need for the regulation.

The issue was simple. The taxpayers claimed dependency exemption deductions for their children. In some of the years in question, none of the children were citizens of the United States. In other years, some of the children were citizens but others were not. The Court first addressed the taxpayers’ argument that their children were citizens during the years in question but rejected the argument. The Court then turned to the core tax question.

Section 152(b)(3)(A) provides that a dependent “does not include an individual who is not a citizen or national of the United States . . .” Regulations section 1.152-2(a)(1) provides that “to qualify as a dependent an individual must be a citizen or resident of the United States . . . at some time during the calendar year in which the taxable year of the taxpayer begins.” The taxpayers argued that the requirement in the regulations that their children be citizens during the calendar year in which the taxable year of the taxpayer begins is invalid. They rested their contention on the argument that Congress enacted a statute that did not include the calendar year time requirement. The taxpayers argued that it was sufficient that their children were citizens by the time they filed their returns, though the Court pointed out that the logic of the taxpayer’s argument was equivalent to a claim that a person qualified so long as they became a citizen by some point before the return was filed.

The taxpayers argued that because Congress included “during the calendar year” language in other parts of section 152, and omitted it from section 152(b)(3)(A), Congress did not intend for the latter provision to be interpreted as provided in the regulations. The Court, however, noted that the language of the Code must be examined in context, and that the annual accounting system inherent in the federal income tax, as explained by the Supreme Court in Healy v. Comr., 345 U.S. 278 (1953) makes it clear that the requirements for status of a dependent must be determined with respect to an annual period. Even if the statute could be construed as ambigous, the Court explained, the regulation is a reasonable intepretation. Though not determinative, the Court noted that the interpretation in the regulation has been in place since 1944.

Certainly, it would be easier if section 152(b)(3)(A) provided that a dependent “does not include an individual who is not a citizen or national of the United States . . . during the calendar year in which the taxable year of the taxpayer begins.” Doing so would make the Code even longer, to the distress of those who think the Code is too long as it is. The problem is that a simple concept, specifically, the dependency exemption deduction, is transformed into an increasingly complex Code provision, interpreted by even longer and more complicated regulations, as a defense against mis-interpretation and gaming, and in response to mis-interpretation and gaming. Even if the Code were significantly shortened by removal of all special interest provisions and all credits, exclusions, and deductions substituting as spending programs belonging to other agencies, the tax law would continue to be more than a grouping of simple concepts. It’s in the application that concepts, no matter how simple, become complicated.

It is not difficult to find professionals who advise, whether in person, on web sites, or otherwise, that tax records should be retained for three years. Some advisors suggest that tax returns should be kept for longer periods or even indefinitely, but that receipts and other supporting evidence can be shredded or trashed after three years. Too infrequently does the advice include a warning that receipts connected with basis determinations need to be kept for at least as long as the property is owned.

A recent Tax Court decision, Roberts v. Comr., T.C. Memo 2012-197, demonstrates the pitfalls of not retaining basis-related records. The taxpayer purchased a property in 1980 and sold it in 2005. The taxpayer testified that he paid $63,500 for the property and the IRS accepted this claim. The taxpayer also testified that he expended $75,000 for improvements to the property but offered no evidence other than what the court characterized as “vague self-serving testimony.” It’s very possible that the taxpayer made improvements of some amount, but because of the failure to retain and produce evidence, the taxpayer was taxed on gain that perhaps did not exist.

One of the interesting aspects of this case is that the taxpayer was an appellate lawyer. Worse, the taxpayer failed to file federal income tax returns for 2004 through 2007. Presumably the taxpayer attended law school. Perhaps the taxpayer took a basic tax course. Somewhere along the line the taxpayer should have learned about record retention, not only for tax purposes, but for other purposes as well. I know I make the record keeping point to my students. I wonder, though, if it sticks. In some instances, I’m sure it does. In others, unfortunately, it’s tossed almost as quickly as the records that taxpayers ought to be retaining.

Several readers requested an index to the series of posts on the federal Ready Return proposal. Here it is.

Federal Ready Return, Part One: Introduction

Federal Ready Return, Part Two: The Value of Self-Compliance

Federal Ready Return, Part Three: Income Tax Return Accuracy

Federal Ready Return, Part Four: The Persistence of the Tax Gap

Federal Ready Return, Part Five: Efficiency

Federal Ready Return, Part Six: Security Risks

Federal Ready Return, Part Seven: Taxpayer Acquiescence

Federal Ready Return, Part Eight: Burden on Business

Federal Ready Return, Part Nine: Economic Impact

Federal Ready Return, Part Ten: IRS Capacity

Federal Ready Return, Part Eleven: Conflict of Interest

Federal Ready Return, Part Twelve: Taxpayer Acceptance

Federal Ready Return, Part Thirteen: IRS Authority

Federal Ready Return, Part Fourteen: Conclusion

In the current atmosphere of anti-taxation sentiment, opposition to tax increases, and efforts to curtail government, it was surprising but very telling that the coach of the University of Alabama football team proposed, according to this story, that “one option to address the Penn State tragedy might be a ticket tax on athletic events and giving the proceeds to child-abuse funds.” Saban’s precise words, “Maybe they ought to tax all the tickets that they sell on athletics” clarifies that his proposal did not reach beyond Penn State ticket transactions. He surely was not suggesting that University of Alabama tickets, nor those of other schools, be taxed. To his credit, Saban admitted that his comments “had to do more with philosophy than a real recommendation,” which probably is why he “didn’t go into details of how a tax would be implemented.”

Details aside, Saban’s proposal is unsound. If the tax is paid by the ticket purchasers, it puts an economic burden on people who did not commit the crimes in question, and did not engage in the behavior that contributed to the wrongdoing. If the tax is paid by the University, it would ultimately be paid by some combination of students through tuition, alumni through contributions, and taxpayers through state grants. Again, its incidence would fall on the wrong people.

The economic cost of the crimes in question ought to fall on the perpetrators. The practical problem is that the combined economic cost, taking into account not only penalties of the sort Saban suggests but also the damages that surely are going to be awarded in the civil suits that are pending, far exceeds the economic resources of the perpetrators and those who are guilty through dereliction of duty and failed oversight. When someone worth $100 causes $1 million of damages, who pays? This nation too often cannot bring itself to impose economic penalties on wrongdoers who have more than adequate resources to compensate the victims of their bad decisions, so it’s even less likely that its justice system would, even if it could, require the perpetrators to pay for the impact of their decisions.

The Penn State situation requires solutions, but a tax on people not responsible for the crimes is not one of the answers.

The nation is not ready for federal Ready Return. Nor will it ever be, until and unless the federal income tax law is overhauled. Ready Return rests on the idea of government-computed tax bills, which works for taxes such as the real property tax or the sales tax. Those taxes, though not simple by any stretch of the imagination, are child’s play compared to the federal income tax.

There are all sorts of reasons to reject Ready Return. In its 2011 Report, the Electronic Tax Administration Advisory Committee provided its list:

little relief for taxpayers with complicated returns or business income, or low-income filers in complicated living arrangements; lack of an IRS computing infrastructure; absence of timely third-party information reports needed to pre-fill a return; need for considerable investment in technology and manpower; potential that a pre-filled return that omitted income, or misstated the return in a taxpayer’s favor could reduce tax compliance and collections; difficulty or impossibility of adapting Simple Return to address all the special credits for low-income households; and, finally, even with technological improvements, the inability for many taxpayers to prepare returns as soon after the close of the year as they currently file their returns in order to obtain their tax refunds.

To that list, I add the loss of civic virtue nourished by the self-compliance aspect of the income tax, ineffectiveness in reducing the tax gap, expanded risk of privacy loss and identity theft, increased burden on businesses, adverse impact on the economy, creation of conflict of interest problems for the IRS, and taxpayer rejection of the idea.

Ready Return is a classic example of a theory that cannot survive in a practical world. Like most theories, it deserved an experiment. It had that chance, not in a small laboratory, but in the nation’s most populous state. It failed. How many times has someone said, “I have a good idea,” no one had the courage to offend the person by explaining it was not a good idea, and the implementation led to all sorts of problems for unsuspecting “beneficiaries” of the outcome? Though in many instances the worst effect is inconvenience, sometimes the results can be far more serious. Fooling around with the nation’s primary source of revenue in this manner is unwise, unwarranted, and dangerous.

Ready Return is something that the IRS has authority to implement. Section 2004 of the Internal Revenue Service Restructuring and Reform Act of 1998 provides:

The Secretary of the Treasury or the Secretary’s delegate shall develop procedures for the implementation of a return-free tax system under which appropriate individuals would be permitted to comply with the Internal Revenue Code of 1986 without making the return required under section 6012 of such Code for taxable years beginning after 2007.

Nonetheless, as the debate about Ready Return has heated up, one member of Congress decided it was necessary to introduce a bill, H.R. 1069, expressly permitting the IRS to implement a limited Ready Return system. Another member of Congress, joined by several dozen other legislators, introduced a competing bill, H.R. 2528, which prohibits the IRS from doing so and repeals section 2004 of the 1998 legislation.

Few people pay attention to Ready Return. The 1998 legislative provision received very little attention when it was enacted and not much since. Outside of a small circle of Ready Return advocates and opponents, the idea of government-prepared tax returns has a flickering moment in the spotlight on rare occasions. Even then, it’s a handful of survey respondents, a tiny fraction of California taxpayers, and several bloggers, journalists, and lobbyists who take notice. Of these, a still smaller subset pays close attention. If and when the IRS launches Ready Return, it will come as a surprise. All sorts of people will exclaim, “They can’t do this,” but under present law, “they” can.

Ready Return will not work if taxpayers do not accept it. All indications are that Ready Return will fall flat.

As I pointed out in First Ready Return, Next Ready Vote?, “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.”

According to New Poll Shows Voters Overwhelmingly Reject Proposal To Have IRS Prepare Individuals' Tax Returns, a Computer and Communications Industry Association poll discovered that 71 percent would not “trust the IRS to prepare their returns, determine their refund and/or how much they owe in taxes.” Of those polled, 73 percent agreed that Ready Return would create a conflict of interest. These results crossed party affiliation, with 80 percent of voters claiming to be “less likely to vote for a candidate who backed an IRS expansion that involved the agency taking over tax return preparation.”

Respondents to the poll expressed other positions consistent with those taken by opponents of Ready Return. Of those polled, 63 percent “said they did not trust the IRS to keep their personal information safe and secure from hackers and identity thieves.” And 75 percent “believe the IRS would be most concerned with getting the maximum tax revenue possible from individuals.”

Ready Return creates a conflict of interest, not, as some claim, because it gives the IRS the dual roles of tax return preparer and tax collector, but because it cause the IRS to function both as preparer and as auditor. As I explained in Ready Return Not a Ready Answer:

ReadyReturn removes third-party protection from taxpayer-revenue department relationships. Will one branch of the FTB audit the work of another branch? Isn't there a conflict of interest when the auditor is preparing the return to be audited? Absolutely. Has not a lesson been learned from Enron about the importance of independence? Apparently not.

In Policy Analysis of “Return-Free” Tax System, Robert A. Boisture, Albert G. Lauber, and Holly O. Paz reach the same conclusion:

A third possible source of increased tax collections under a tax agency reconciliation system could be over-reaching by tax-collection authorities. In a very real sense, this type of system would create a conflict of interest on the part of the IRS. On the one hand, the IRS has an obligation to maximize tax collections in order to protect the federal fisc. On the other hand, a tax agency reconciliation system would require the IRS to act in effect as a fiduciary for taxpayers – analogous to an accountant or return preparer – with an obligation to prepare tax returns accurately, but also in the taxpayer’s best interest. Such a system is inherently subject to abuse.

Similar concerns were expressed by Joseph Cordes and Arlene Holen in Should the Government Prepare Individual Income Tax Returns?.

Ready Return would impose significant demands on IRS resources. Imposing Ready Return on an IRS saddled with computer system problems is unwise. Launching a Ready Return program while the IRS core customer account database system is being implemented, a system still not ready despite several years of work, also is unwise.

Assuming Ready Return is operational, what happens if a taxpayer finds a discrepancy between what the IRS puts on the return and what the taxpayer knows is correct? Would the error be fixed in time for the taxpayer to have a final return in place by the due date? Would the taxpayer file a return inconsistent with the Ready Return, and would doing so increase the risk of a subsequent audit? What happens when the person or entity originally filing the W-2 or 1099 form amends it? Would the IRS have the resources to change the inaccurate data on information returns imbedded into the system? Under current procedures, the IRS sends notices after returns are filed if there are mismatches with information returns, and yet far too many of these automated notices do not match the information returns or otherwise contain erroneous information.

Ryan Young, in A Backdoor Tax on the Poor (Nov. 8, 2011), argues that if the IRS contracts out the software design for Ready Return, there is no guarantee that what the contractor provides will work correctly. He suggests that additional expenses will be incurred by the IRS to pay for software updates and corrections.

To these concerns, I add several more. What happens if a web-based Ready Return system goes down? What happens if mobile Ready Return apps fail to work because of overloads on phone networks? What is the likelihood that malevolent individuals or thrill-seeking youngsters initiate a denial of service attack against the Ready Return web site? What happens if they launch it on April 14 and succeed?

Ready Return proponents claim that it will save people several billion dollars in taxpayer return preparation fees. If that’s true, that puts a lot of preparers out of work. But it’s not true, and tax return preparers would continue to make money. As I noted in Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable:

Let’s face it, if the IRS adopts a federal Ready Return, tax return software companies would have a ready advertising opportunity, namely, offering its products as tools to check on the accuracy of returns prepared by an agency so long underfunded that it’s not surprising it makes so many errors processing returns. . . . 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.

On the other hand, if Ready Return puts preparers out of work, it is unlikely that the jobs created by contractors preparing the IRS software would make up for these losses. But where is funding acquired to pay for the development of Ready Return software? The IRS continues to be underfunded. Can the nation afford an expensive experiment that does not provide the claimed savings and requires infusions of cash? Should taxpayers be financing a government tax return preparation department in the IRS? I think not.

In order for Ready Return to work, even putting aside all of its other flaws, the IRS would need W-2 and 1099 2 forms to be submitted earlier. Advocates of Ready Return admit this, as I explained in Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable:

The current Administration, supporters during the campaign of pre-filled tax forms, discovered that the sound-bite didn’t fly when put to the test. Information doesn’t reach the IRS in time to get pre-filled or tentative returns out to taxpayers in time to give them ample opportunity to review the proposed return and then file by April 15. [Randall] Stross [in Why Can’t the I.R.S. Help Fill in the Blanks] deals with this issue by suggesting that the deadlines for filing information returns with the IRS be advanced to earlier in the year. I wonder how many employers, corporate payroll departments, and bookkeepers at small business operations were interviewed to determine if it is feasible to shut down for several weeks at the beginning of the year in order to process this information. Perhaps it is. But I doubt it.

My conjecture has been corroborated by business owners and by the Electronic Tax Administration Advisory Committee. In its 2011 Report, the Committee reported:

Shortening the processing period from three months to one month is a significant workload increase, especially for small businesses. ETAAC’s concerns about the practical business impact of such a change are heightened by Congress’ recent statutory repeal of expanded 1099 reporting by businesses, which had been enacted just last year as part of the healthcare legislation. The legislative reversal resulted from the substantial concerns expressed by the small business community about the additional associated costs and burdens, which the President described as “an undue barrier to small business growth.” Policy makers must avoid creating the same kind of costly business burden again, particularly on small business, without adequate study of its practical impact including a consideration of other potential opportunities.

Ryan Young, in A Backdoor Tax on the Poor (Nov. 8, 2011), estimates the cost of complying with the accelerated reporting schedules necessary for federal Ready Return as somewhere between $500 million and $5 billion. And that is to deal with W-2 and 1099 forms. It doesn’t even take into account forms such as the K-1.

Another danger of the Ready Return method is that it can induce taxpayers to accept IRS positions to which they would object if raised during an audit of a return initiated by the taxpayer. As I explained in First Ready Return, Next Ready Vote?:

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.

Ready Return makes it too easy for an erroneous IRS position to sneak by the taxpayer.

Ready Return poses serious security risks for taxpayers, particularly if the system is set up in a manner that requires taxpayers to access their Ready Returns by visiting a web site or using some equivalent electronic connection. The reason is simple. The world is overflowing with individuals who would delight in the opportunity to access someone else’s financial and personal information by hacking into their IRS account. A malevolent person who succeeds in breaking into a taxpayer’s IRS account obtains a free pass to identity theft. It’s one thing for the Treasury to operate an electronic funds payment system used by sophisticated business owners and holding limited amounts of data, but it’s another thing entirely to create a system used by almost the entire population and holding enormous amounts of data.

Daniel Horowitz, in The IRS as Tax Preparers? (Nov. 14, 2011) notes that the Government Accountability Office has cited “information security deficiencies” at the IRS that “increase the risk of inappropriate access, alteration, or abuse of proprietary IRS programs and electronic data and taxpayer information.” Lest anyone think that the specter of privacy breach and identity theft epidemics is an exaggerated concern, recall this flap, and the one about the IRS contracting taxpayer information out to a company whose databases had been compromised?

Ready Return can pose even greater risks to taxpayers. To deal with the inadequacy of returns based on the information currently available to the IRS, Ready Return’s advocates suggest that the IRS be given even more information. To do a better job with Ready Returns for taxpayers who sell their homes, marry, have children, enroll in educational programs justifying credits or deductions, or engage in any other activity that affects deductions and credits, the IRS would collect information that it currently does not collect, such as the details of taxpayers’ financial accounts, cleared checks, credit card statements, organization membership information, and all sorts of similar records. That information would be added to the database that the hackers are eager to attack and mine.

Though it is true that taxpayers’ tax returns currently reside in electronic databases, access is much more difficult than it would be if web-based and smart-phone-based gateways are opened by the IRS. In a world rampant with all sorts of digital security breaches, unnecessary additions to the data at risk must be avoided.

Advocates of Ready Return claim that it saves people time. After I shared my opinions about Ready Return on public radio, as described in First Ready Return, Next Ready Vote?, Professor Alice Abreu disagreed with my contention that Ready Return is not a time saver:

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.

I continue to disagree with the proposition that Ready Return reduces the amount of time that a taxpayer must invest. As I stated in First Ready Return, Next Ready Vote?:

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.

To use an example from teaching, it takes less time to write a paper about a tax topic than it is to work through a student’s draft of a paper about the same topic. Though it may appear that writing or typing comments takes less time than writing the paper, what needs to be taken into account is the time needed to analyze what the student has written, determine if it is correct, and if it is incorrect, to figure out why that is so.

The IRS Commissioner, echoes an argument made by Randall Stross in Why Can’t the I.R.S. Help Fill in the Blanks. As I explained in Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable:

Stross claims that the current system is the equivalent of credit card companies asking customers to fill out their own monthly invoices using receipts. He does not address the fact that checking a credit card invoice is very easy, because it requires only that the customer compare receipts to what’s on the invoice. Unlike the federal income tax system, the receipts aren’t separated into various categories, subject to varying floors and ceilings, discounted if a particular number of exceptions to exceptions to a general rule apply, and held up against an ever-changing set of rules. When the federal income tax system is converted into something as simple as adding up credit card receipts, then a federal Ready Return might deserve serious attention.

Trying to compare auditing a Ready Return prepared by the IRS with reviewing a simple credit card statement is careless at best.

The IRS claims that this system would eliminate the tax gap, estimated between an $300 and $400 billion annually. See Daniel Horowitz, The IRS as Tax Preparers? (Nov. 14, 2011). Yet most of the tax gap does not arise from the sorts of things that are reported on W-2 and 1099 forms. The proposed system does not close the tax gap when the tax liability is avoided through use of an off-shore entity whose existence is unknown to the IRS. Ready Return does not reduce the tax gap when the lost revenue occurs because an S corporation does not issue a W-2 to an employee-shareholder. It does not close the tax gap when tax liability is evaded by taxpayers claiming deductions or credits to which they are not entitled. Ready Return does nothing to solve the portion of the tax gap arising from unreported cash income.

The tax gap is attributable to two major causes. One is the deliberate attempt to evade tax liability and the other is unwitting noncompliance. The first cause is not resolved by Ready Return, because sophisticated tax cheaters aren’t going to be deterred or obstructed by an IRS ignorant of what the tax cheaters are doing. The second cause is not resolved by Ready Return, because very few of the unwitting errors made by taxpayers are within the scope of the information reporting currently in use. Trying to overcome that flaw by increasing information reporting to the IRS surely will meet resistance, because most citizens do not want to be sending notifications to the IRS each time they do something that might have an impact on their tax liability. Once again, it is necessary to point out that the solution is simplification of the tax law, by removing all of the elements not part of a simple revenue collection system.

Though Ready Return advocates praise their proposal as a generator of increased tax return accuracy, the reality is quite different. To assume that a government-prepared tax return is of a higher quality and has fewer errors is to overlook the deficiencies in systems that give the government the initiative. According to Ryan Young, A Backdoor Tax on the Poor (Nov. 8, 2011), a system similar to Ready Return is in place in the United Kingdom and the government’s error rate in its own favor is 15 percent. If the government makes an error in favor of the taxpayer, the taxpayer nonetheless is liable. The political fallout in Britain, which rose to the level of a major political scandal, demonstrates the dangers of relying on a tax system that is disconnected from taxpayers and that is one in which taxpayers are not engaged.

Ready Return not only fails to guarantee that preparation of the return will be any more accurate than it is when initiated by the private sector, it also opens up opportunities for errors that would not otherwise exist. Consider, for example, a taxpayer who, for several years in a row, looks at the return prepared by the IRS, decides it seems correct, and then decides it’s not worth checking what the IRS prepares. A few years later, the taxpayer sells her house, or perhaps has a child, or maybe gets divorced, or perhaps makes a significant donation to her church. What are the odds that the IRS will reflect these changes in the Ready Return that it prepares? Zero. What are the odds that the taxpayer will resume checking the Ready Return? Very low. What are the odds that the taxpayer’s return will be erroneous in favor of the government? Rather high.

Several advocates claim that the answer is to have the IRS mail the Ready Return to the taxpayer each year. There are all sorts of problems with this remedy. First, who pays for the cost of printing, of envelopes, of putting the return into the envelope, and for the delivery? Second, in an era when the IRS uses increasing less postal and other hard copy delivery, it is a step backwards to go this route, Third, what happens to taxpayers who move and thus do not receive their Ready Return? From time to time the IRS announces that it is looking for tens of thousands of taxpayers for whom it has a refund check. What more incentive can there be to step up than a refund check? Again, the theory breaks down.

In Hi, I'm from the Government and I'm Here to Help You ..... Do Your Tax Return, I described yet another opportunity for error to enter the system:

On the other side of the spectrum, what about taxpayers who deliberately or negligently accept the Ready Return even though it does not reflect additional income that the government does not know exists? After all, the government selects taxpayers for ReadyReturn because it assumes that a person with only wage and interest income in one year will be in the same position the following year. But certainly some not insignificant number of those taxpayers will start a business, or otherwise take in other types of income. Yes, instructions could be added to the ReadyReturn (as it inches closer to looking like the existing process), but will this matter to the folks who cannot read and who might be among those who are taking in cash income for which no W-2 or 1099 is issued? Of course, the underlying problem is not caused by Ready Return. But will Ready Return exacerbate it?

Of course it will.

Federal Ready Return will erode the value of the self-compliance principle of the federal income tax system. There is a very good reason that taxpayers have the obligation to step forward, file a return, report their income, and compute tax liability. As Tom Giovanetti points out in Trust Us: IRS Wants to File Your Taxes for You (Jan. 25, 2012), “Our voluntary tax compliance system is a feature, not a bug. It’s a key indicator of self-government, one of the hallmarks of American freedom.”

By taking ownership of their civic duty to pay taxes, citizens participate in the process of government. By focusing on the details of the return, they become aware of what the Congress has been doing with the tax law. As I explained in Hi, I'm from the Government and I'm Here to Help You ..... Do Your Tax Return:

[D]emocracy requires transparency in taxation. That is why I suggested that, instead, all taxpayers should be required to plow through, or pay someone to plow through for them while they watch, their tax return preparation, not as numbers being entered into a computer program, but with a running commentary from the preparer. For example, "The reason it is taking so long to put in all these numbers is that there are many, many steps to be computed. Notice that I am taking information from 12 different pieces of paper, and I asked you 25 questions." "OK, so why does the government need to know all of this?" "Because ......." This would permit them to see how dangerously convoluted the government revenue generator has become, and it is probably the only way that a strong chorus of cries for tax reform can be orchestrated. Yes, being required to watch a tax return being prepared may be cruel, but considering that taxpayers are among those who voted into office the people who created the mess, it's a deserved consequence. After all, we do too much "hide the problem" papering over in this country, be it energy shortages, military mistakes, international embarrassments, economic ignorance, or tax nonsense. Instead, it is better to remember that an educated citizenry is far more valuable to democracy than a pacified (or numbed) citizenry. Or perhaps it should be stated an educated electorate is far more valuable to democracy than a pacified electorate.

This approach also makes it more likely that taxpayers will become aware of what Congress does with the tax law. When sitting down to prepare their tax returns or sit down with a preparer to go over the tax return, the taxpayer might think or say, “What? No more deduction for that?” “Oh, a credit? I didn’t know about that.”

In other aspects of life, people are being encouraged to take ownership. We are advised to question our health care providers, read the labels on the food we purchase, learn how things work, and do research before entrusting our children to a school or our money to a financial institution. Citizens should do no less with their income tax responsibilities.

For quite some time, I have been an outspoken critic of the Ready Return concept, which was adopted in California but which has not taken off the way its advocates promised and hoped. In recent months there have been increasing signs that the IRS is moving forward with plans to implement a similar system, not in one fell swoop, but gradually, beginning with changes to when and how it matches information returns. Today I begin a series, in which I look more closely at the risks that a Federal Ready Return system, or its equivalent, poses to taxpayers and the nation.

The analysis begins with a history of my commentary on the California Ready Return experiment. When California adopted its version of Ready Return, I criticized it, in in Hi, I'm from the Government and I'm Here to Help You ..... Do Your Tax Return and in Ready Return Not a Ready Answer. Several months later, when California dropped the program, I reacted in Ready It Was Not: The Demise of California's Government-Prepared Tax Return Experiment, and subsequently I noted the persistence of Ready Return advocacy in As Halloween Looms, Making Sure Dead Tax Ideas Stay Dead. When California resurrected Ready Return shortly thereafter, I pointed out, in Oh, No! This Tax Idea Isn't Ready for Its Coffin, the disturbing decision of state administrators to restore the program even though the legislature had cut off funding and authorization.

When the New York Times advanced the idea of a federal Ready Return, I voiced my concerns in Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable. Later that year, I had an opportunity to share my thoughts on public radio, which I described in First Ready Return, Next Ready Vote?.

The IRS is planning to implement Real-Time Tax System (RTTS), ostensibly designed to permit it to match information returns with tax returns before returns are filed rather than during audits after the return has been filed. The proposal is a reaction to one of the major criticism of Ready Return, namely, as I explained in Federal Ready Return: Theoretically Attractive, Pragmatically Unworkable, “Information doesn’t reach the IRS in time to get pre-filled or tentative returns out to taxpayers in time to give them ample opportunity to review the proposed return and then file by April 15.” Advocates of the Ready Return system suggested that the deadlines for filing information returns with the IRS be advanced to earlier in the year. And that is precisely the point of adopting RTTS. Originally and still occasionally described as “Simple Return” and “Return Free,” the larger initiative is a plan to bring Ready Return, despite its California failure, to the entire nation.

As with so many ideas, this is not a new proposal. In How to Really Simplify the Tax Code (Apr. 10, 2012), Bruce Bartlett notes that the idea surfaced in 2003, when the Treasury Department floated a proposal for a return-free system. The proposal collected dust because it would require significant increases in the reporting of income and in withholding, and because it won’t work with an income tax system as complicated as what now exists. Making taxpayers’ lives easier during tax filing season is a matter of simplifying the tax law, not enabling the complexities by turning tax preparation over to the IRS.

Ultimately, the basic idea is that the IRS would prepare returns based on information submitted by employers and payors through W-2 and 1099 forms. Under one variation, what the IRS prepares would be the return unless the taxpayer went online to make changes. Under another variation, taxpayers would go online to retrieve what the IRS had prepared and use it as the starting point for preparing the return. The chief difference is that under the first variation, taxpayers would decide whether or not to check what the IRS had done, whereas under the second variation, taxpayers would be required to do so. See Michael Cohn, IRS Commissioner Proposes Tax Technology Overhaul (Apr. 6, 2011).

Despite the advantages cited by Ready Return advocates, there are so many disadvantages that this sort of approach will not work. Even though there are some benefits to the plan, the drawbacks are so pervasive that they overwhelmingly outweigh whatever advantages exist.

A recent Nebraska case, Bock v. Dalbey addressed the interesting question of whether a spouse can be forced to file a joint return. The court’s response was a resounding no. It rested its conclusion on the rationale that “a trial court can equitably adjust its division of the marital estate to account for a spouse’s unreasonable refusal to file a joint return.” The court noted that in the few instances other courts have considered the question, several have reached similar conclusions because of “the possible exposure to liability” for the other spouse’s unreported income or wrongly claimed deductions and credits. The court agreed with decisions of courts in the District of Columbia, Iowa, Florida, Oklahoma, New York, and Oregon. The court chose not to follow contrary decisions in Illinois, Minnesota, New Jersey, Ohio, and North Dakota. At least one of these courts, though refusing to deny the trial court discretion to compel the filing of a joint return, advises trial courts, where possible, to go the route of letting the spouses file separately and making adjustments in the equitable distribution.

The Nebraska court specified four reasons it considers its conclusion the better alternative. First, the return may end up not being treated as a joint return for federal income tax purposes if the compelled spouse demonstrates there was no intent to file a joint return and it was done under compulsion. Second, an order to compel the filing of a joint return is a mandatory injunction, something that is “an extreme or harsh remedy that should be exercised sparingly and cautiously.” Third, predicting the compelled spouse’s liability exposure is difficult to predict, and the compelled spouse could end up with more tax liability than predicted or expected. Fourth, if the spouses are compelled to file a joint return, they usually will have very little time to do so within the federal tax law deadlines and thus risk being held in contempt. Buried in this reason was a fifth one, namely, if the compelled spouse appeals but the joint return was filed, the joint return cannot be revoked, and if the compelled spouse waits until an appeal is processed, the deadline will be missed.

As I tell my students in the basic federal income tax class, there are few, if any, areas of law practice unaffected by tax. To practice domestic relations law without understanding all of the nuances, is more than simply risky. It’s not enough to understand the black letter law of alimony gross income and deductions and the rules dealing with allocating dependency exemption deductions. Domestic relations lawyers ought to read this case, and prepare themselves to help educate their clients who are negotiating divorce and separation terms.

Of course, the issue considered in this case presents yet another reason for the abolition of the joint return and the taxation of individuals as persons independent of their marital, living, relational, or other arrangements or status. But additional discussion of that topic must await another day.