Friday, April 30, 2021
For federal income tax purposes, the cash, gift cards, gift certificates, and bonuses are gross income. They are gross income because they are income, and thus included in gross income unless an exclusion applies. The only possible exclusion is the employee de minimis fringe benefit exclusion under section 132. But under the Regulations, specifically section 1.132-6(c), the provision of cash, gift certificates, and the use of credit cards are not excluded as a de minimis fringe benefit. The other fringe benefit exclusions are, by definition, inapplicable.
What about paid leave? Under those circumstances the employee continues to be paid the employee’s compensation, which is included in gross income. The same result applies to increases in vacation time. The employee’s compensation remains unchanged and continues to be included in gross income. Of course, the employer offering paid leave might be entitled to the tax credit under section 45S, but that does not bear on the question of the employee’s gross income.
As for state income taxes, it depends on the income tax law in each state that has an income tax. I am unaware of any state having enacted an exclusion for vaccination incentives, though perhaps one has. It would not surprise me if in one or another state legislation has been proposed for such an exclusion.
Should there be an exclusion? That’s a different question. What would happen if there were such an exclusion? Would employers reduce the amount of the incentive to match what the employee would be pocketing from a taxed incentive?
Are employers properly reporting these payments as wages? That, too, is a different question, and I simply do not know.
Wednesday, April 28, 2021
A few days ago, according to this Department of Justice press release, a tax return preparer in Suwanee, Georgia, has been permanently enjoined from preparing tax returns for other taxpayers. The preparer had been doing what many unscrupulous preparers do. She had been understating tax liabilities and overstating refunds by “understating business income by fabricating or inflating reported business losses; fabricating or overstating itemized deductions; and claiming unsupported education credits.” The court that granted the injunction determined that the preparer had “knowingly prepared and filed hundreds of false tax returns,” and that “she did so despite two separate attempts by the IRS to bring her into compliance, both of which resulted in penalties assessed against her.”
What caught my eye was the blatant foolishness of one of the preparer’s “techniques” to lower clients’ tax liabilities to less than what they should have been. The press release explains that “on over 100 returns, [she] falsely claimed that taxpayers attended school at a particular institution despite knowing that they had not done so.” Duh. What did she think would happen when the IRS computers or IRS personnel cross-checked the school listed on the tax return with information about students matriculated at that school? Or perhaps a client, after returning home, looks at the return, decides enough is enough, and rather than confronting the preparer, contacts the IRS directly or through another professional in order to amend the return out of fear that the client would be held accountable for fraud.
Some unscrupulous tax return preparers might be difficult for the IRS to spot, or perhaps avoid detection for long periods of time. But others seem to be raising red flags so obvious that they might was well post “Fraudulent Tax Returns Prepared Here” signs in their storefront windows or on their websites. Lack of ethics combined with lack of knowledge about how tax returns are examined and audited is a recipe for a much shorter time as a preparer.
Monday, April 26, 2021
Recently, I have noticed a similar misattribution showing up in headlines and news stories about tax matters. For example, in this CNBC report, the headline claimed that “Biden announces tax credit for businesses giving paid leave for Covid vaccinations and recovery.” In its report, Reuters put it this way: “Biden offers tax credits for COVID-19 vaccination paid time off.” The Philadelphia Inquirer proclaimed that the “White House offers a tax credit to spur COVID-19 vaccinations as Biden nears his 200 million goal.” From The State we get this characterization: “Paid time off for COVID vaccinations encouraged under Biden tax credit.” Dozens, if not hundreds, of other newspapers, web sites, and other commentaries are publishing similar, if not identical, headlines.
Why do I tag these claims as misattributions? I do so because the credit in question was not enacted by the White House or the president. It is the product of the Congress, which enacted, and thus announced and offered, the credit in question when, in section 9641 of the American Rescue Plan Act of 2021, it added section 3131 to the Internal Revenue Code. None of the stories I read make any mention of the legislative origin of the credit.
Fortunately, some news outlets use more precise, and thus more appropriate, language. For example, this Bloomberg story comes with this more accurate headline: “Biden Touts Tax Credit to Prod Businesses on Workers’ Shots.” From Medpage Today we get this title: “Biden Pushes Tax Credit to Spur More COVID Shots.” Another characterization comes from the Huffington Post: “Biden Hopes Tax Credit Will Encourage Vaccine-Hesitant Americans To Get One Anyway.” Unlike the headlines and stories noted in two paragraphs above, these writers avoid attributing the source of the credit to the Administration.
When politicians, writers, and others attributed tax laws to the IRS, they are focusing on rules unliked by taxpayers and are shifting the blame away from the Congress. There is no question that members of Congress, even if not individually responsible for these misleading claims, benefit from the spotlight shift. Apparently someone figured out that if a tax law provision is one that taxpayers do or will like, it’s just as easy for some other part of the government that is not the Congress to take credit for that provision. This just makes things worse. In a nation few of whose citizens understand how federal, state, and local governments function, and even fewer of whom have sat through a high school Civics course, the lack of knowledge makes it much easier for the foundations of democracy to erode to the point they are easily knocked down.
Friday, April 23, 2021
The tax gap is the difference between what taxpayers should be paying if they were in full compliance with the tax law and successful in avoiding mistakes and what taxpayers actually pay in taxes. Note that the tax gap in question is the federal income tax gap, and surely states, especially those whose tax liability computations start with federal gross, adjusted gross, or taxable income, have their own income tax gaps.
I was not surprised by the Commissioner’s testimony. In , Tax Gap Becoming a Tax Chasm, I noted that “The tax gap for calendar year 2003, the latest year for which sufficient statistical information is currently available, is $1.0417 trillion.” My guess is that the tax gap in 2018, 2019, and 2020 probably exceeds not only $1 trillion but $1.5 trillion. What does surprise me is the willingness with which authorities accept the low figures reported by the IRS. For example, in Closing the Federal Tax Gap , I noted that in 2006, three years after the Bureau of Economic Analysis had computed the $1 trillion figure, the National Taxpayer Advocate issued a report pegging the annual tax gap as “somewhere between $250 to $300 billion.” I suppose the IRS is caught between a rock and a hard place. It could report the higher number in an effort to encourage Congress to stop cutting its budget and restore its ability to ramp up audits and foster compliance. But reporting that higher number poses the risk that Congress and others would judge the IRS as unworthy of any funding by treating it as the cause of the tax gap.
Much paper, ink, and digital bytes have been dedicated to discussion of the tax gap and proposals for dealing with it. I have no intention of trying to write a treatise about the tax gap. I simply will review some of the things I have written about it over the years. In Tax Gap Becoming a Tax Chasm, I noted:
One must wonder what motivates noncompliance. Perhaps some psychologists will conduct surveys to determine if it simply greed, or a growing rebellion in which people are "voting with their feet" by appropriating unto themselves their own special tax break that they cannot get through the Congress because they lack the clout of the lobbyists who have managed to reduce the tax on capital gains to extremely low levels. How much of the noncompliance is simple ignorance, stupidity, carelessness, or confusion? How much of the gap arises from people trying to hide information about the activities generating the income?In Closing the Federal Tax Gap, I shared these thoughts:
Some people may not realize they are contributing to the tax gap, because they are making good faith efforts to comply with an absurdly and unjustifiably complex income tax system. Others know full well what they are doing when they engage in "pay cash, pay less" schemes, launder money, or simply fail to file. I suppose this reflects our culture, for surely it resembles what one finds on our highways: drivers who try to comply and succeed, drivers who are ignorant, stupid, careless and confused, and drivers who think they are so much more important than or better than everyone else that they flaunt whatever rules get in the way of their own self-centered approach to life.
A fun calculation is to determine how much tax has not been paid on the tax gaps for 2002, 2001, 2000, and earlier years, add interest and penalties, and imagine what happens if Treasury had the ability to collect the total amount due. The shock to the world economy might be staggering. We'll never know, because Treasury lacks the ability to collect even a minute fraction of this amount. Why? Because Congress has not implemented a system that ensures all taxpayers pay their fair shares.
Until Congress does two things, the tax gap will continue to grow, and the ultimate outcome might be far worse than the impact of quadrupled prices for oil and gas, shortages of concrete, or devastating hurricanes. Congress must reform the income tax system so that it is easy to understand, inviting of compliance, and difficult to evade. Congress must also put in place safeguards that prevent noncompliance and punish tax evaders. Ideally, a well-designed system that prevents tax evasion will reduce the number of tax evaders and thus reduce the need for prosecution of tax evaders. Law enforcement could then redirect more resources to the prevention of, and prosecution of, other crimes.
The tax gap fascinates me and frustrates me. * * * I'm both fascinated and frustrated by the willingness of people to avoid their legal responsibilities. Of course, that fascination and frustration is not limited to tax avoidance devotees but also the behavior of those who violate a variety of rules and regulations.A year later, in Closing the Tax Gap Requires Congressional Introspection, I described a GAO report, "TAX COMPLIANCE Multiple Approaches Are Needed to Reduce the Tax Gap." I described the report thusly:
* * * * *
[The National Taxpayer Advocate’s] report points out that when taxable transactions are properly reported to the IRS, the rate of tax collection exceeds 90 percent, but when payments are not reported compliance drops to a range of 20 to 68 percent, depending on the type of transaction. Sometimes reporting does not occur because people are noncompliant. Sometimes reporting does not occur because it is not required. * * *
[The National Taxpayer Advocate] recommends expanding the list of transactions that must be reported. This is the sort of suggestion that makes one wonder why it wasn't done decades ago. The answer is easy. As [the National Taxpayer Advocate] points out, tax revenues would climb if every taxable transaction was subject to reporting requirements. That, however, would be an onerous burden. * * *
I add that compliance is enhanced when withholding takes place, because withholding shifts the tax payment and not just information to the Treasury.
The report concludes that the tax gap "has multiple causes and spans different types of taxes and taxpayers." Accordingly, "Multiple approaches are needed to reduce the tax gap. No single approach is likely to fully and cost-effectively address noncompliance since, for example, it has multiple causes and spans different types of taxes and taxpayers."I criticized the report because it presupposed Congress as a whole does not even know what is in the tax law though some individual members are aware of whatever provision they championed. I also questioned why members of Congress caved in to the lobbyists whose clients oppose the expansion of reporting and withholding and who misrepresented attempts to increase withholding by falsely describing the effort as a “new tax.” I then explained:
Three major approaches are considered:
1. Simplifying or reforming the tax code.
2. Providing the IRS with more enforcement tools.
3. Devoting additional resources to enforcement. Minor approaches include "periodically measuring noncompliance and its causes, setting tax gap reduction goals, evaluating the results of any initiatives to reduce the tax gap, optimizing the allocation of IRS’s resources, and leveraging technology to enhance IRS’s efficiency."
The report points out that billions of dollars of the tax gap could be avoided if the tax law were simplified or fundamentally reformed. It explains, for example, that the IRS "has estimated that errors in claiming tax credits and deductions for tax year 2001 contributed $32 billion to the tax gap."
Unfortunately, the report then concludes that "these provisions serve purposes Congress has judged to be important and eliminating or consolidating them could be complicated." Even fundamental reform, in which tax preferences are limited and "taxable transactions are transparent to tax administrators," is "difficult to achieve." The report provides an almost irrefutable axiom, that "any tax system could be subject to noncompliance." Finally, it provides another difficult-to-rebut observation: "Withholding and information reporting are particularly powerful tools."
Left to instinct, most people would prefer to pay no taxes, and exist as beneficiaries of others. History teaches that most of those who can grab have done so, and that many who could not exerted themselves to find ways to do so. The tax gap is a reflection of some unintentional errors and lots of intentional evasion. Careful intellectual reasoning, though, teaches us that civilization requires taxation, economic principles tell us that taxation should be efficient, common sense tells us it should be simple, and ethical principles tell us that it should be fair. It takes leadership to persuade the civilized world why it makes no sense, in the long-run, to behave in ways that generate tax gaps. Fraudulent behavior by taxpayers contributes to the tax gap. So, too, does the way in which Congress does business. Ought not the Congress take the first step in leading by example? Until the Congress understands that the way it does business encourages the non-filers, the protesters, the illegal tax shelter promoters, and the rest of the noncompliant population to act in ways that undermine the tax law and fuel the rapid growth in the tax gap, talking about closing the tax gap is not much more than rhetoric. Yes, I talk and write about it, but I've not undertaken the responsibility that members of Congress have sought and accepted. If they don't think they can or want to fix the problem, no one will stop them from returning home.Shortly after I wrote those words, I received a letter from Senator Max Baucus, chairman of the Senate Finance Committee, and Senator Charles E. Grassley, ranking member of that committee, in which they asked for "suggestions on ways to improve compliance with our tax laws, including specific recommendations to reduce the tax gap." I described my response in Congress Invites My Ideas for Improving Tax Compliance and Of Course I Respond, and I included in that posting a copy of the letter I sent to the Congress. I do not republish it today because a quick click on the preceding link should suffice. In summary, I pointed out that a six-prong approach is required, namely, making tax education a part of high school curricula, simplifying the tax law, increasing reporting, expanding withholding, funding increased and improved audits, and strengthening the ability of the Department of Justice to prosecute tax crimes. I closed that day’s post by telling readers “I will let you know if I receive a response.” I did not. I did not receive a direct response. Nor have I seen the Congress respond by taking steps to deal with a rapidly ballooning tax gap.
Almost a decade later, in Tax Compliance and Non-Compliance: Identifying the Factors, I reacted to yet another report from the Taxpayer Advocate. The report focused on characteristics of so-called high-compliance and low-compliance taxpayers. I noted:
Some of the findings are not surprising. According to the survey underlying the report, high-compliance taxpayers are more trustful of government, appear to be more intent on minimizing mistakes on their tax returns, viewed government positively, are more likely to rely on tax return preparers, and were motivated by moral concerns and deterrence. Low-compliance taxpayers are less trustful of preparers, are less likely to follow a preparer’s advice when using a preparer, tend to think that other taxpayers have negative views of law and the IRS, are suspicious of the tax system, and are more likely to consider the tax system unfair. All taxpayers viewed the tax law as complicated.And then, again almost a decade later, I drew attention to a major cause of the tax gap. In Tax Noncompliance: Greed on Steroids, I described the news revealed in a report by the Treasury Inspector General for Tax Administration issued a report, High-Income Nonfilers Owing Billions of Dollars Are Not Being Worked by the Internal Revenue Service:
Other findings struck me as unexpected. Low-compliance taxpayers are “more likely to participate in local organizations.” They also asserted that they had a moral duty to report income accurately. Non-compliance is higher among sole proprietors of construction companies and real estate rental firms than sole proprietors of other types of businesses.
Though the IRS explains that geographic location is not a factor in selecting returns for audit, the survey results revealed that low-compliance taxpayers were clustered in specific areas. Towns and neighborhoods near San Francisco, Houston, Atlanta, and the District of Columbia, including Beverly Hills, California, Newport Beach, California, New Carrollton, Maryland, and College Park, Georgia, were among 350 communities in which low compliance taxpayers were clustered. In contrast, very few of the 350 communities were in the Midwest or Northeast. What about high-compliance taxpayers? The top of the list consisted of the Aleutian Islands, West Somerville, Massachusetts, Portersville, Indiana, and Mott Haven, a neighborhood in the Bronx.
It did not take long for stories about the Taxpayer Advocate’s report to focus on the nature of the identified communities. For example, an MSN report noted that the low-compliance clusters were in very wealthy neighborhoods. A Yahoo news story put the conclusion in its headline, “IRS Report Shows Many of Biggest Tax Cheaters Live in Wealthy Areas.”
The Taxpayer Advocate report does not disclose whether the low-compliance taxpayers in these clusters were high-income individuals, but it is safe to assume that at least a significant number of them were. Yet what sort of conclusions can be drawn? Is it possible that most low-income taxpayers are not low-compliance taxpayers because they don’t have much income to begin with, and thus no income to hide? Is it possible that because most low and middle income taxpayers realize most of their income from wages subject to tax withholding they have far fewer opportunities to cheat on their taxes? It would not surprise me to discover that someone will argue that the wealthy do cheat more, but would reduce their cheating if their tax rates were lowered. As logical as that proposition might sound, to the extent that greed and money addiction energize every sort of tax reduction attempt, whether lobbying for special breaks and low rates or taking the cheater’s route, it is unlikely that anything other than a zero percent tax rate will satisfy these folks, and even that probably is not enough.
The news is bad.We are at a tax system breaking point. We are here because the worst offenders have persuaded the non-offenders and the minor offenders that any effort to put an end to the shenanigans of the worst offenders will produce the most harm for the non-offenders and the minor offenders. Here is a helpful analogy. Underfunded highway troopers driving vehicles that are too slow to catch the “rocket ship” drivers instead focus on the speeders who are 5, 10, or 15 miles per hour over the limit. When a proposal is made to purchase high-end chase cars for the troopers so that they can catch, ticket, and even arrest the worst speeders, the lobbyists for those “entitled to speed without restriction because of freedom, freedom, freedom” characters persuade the majority of drivers, who are either not speeding or speeding just somewhat, that the proposal will cause the authorities to arrest the compliant drivers and confiscate their vehicles. What’s evil is the lobbying message. What’s sad is the fact that it works way too often. It is time to stop worrying about the specks and to start dealing with the logs.
After pointing out that the tax gap – the shortfall between what the law requires taxpayers to pay and what taxpayers are in fact paying – is estimated to be $441 billion for 2011, 2012, and 2013, the report reveals that $39 billion is due from taxpayers who fail to file tax returns. Most of this shortfall is attributable to “high-income nonfilers.” The Inspector General determined that although the IRS is developing a new approach to dealing with nonfilers, it has not yet implemented that approach, and when implemented, it will be “spread across multiple functions with no one area being primarily responsible for oversight.”
Worse, the Inspector General determined that for taxable years 2014 through 2016, 879,415 high-income nonfilers failed to pay roughly $45.7 billion in taxes. Of those 879,415 high-income nonfilers, the IRS did not pursue 369,180 of them, accounting for an estimated $20.8 billion in unpaid taxes. Of the 369,180 were not put into the queue for pursuit of the unpaid taxes and the cases for 42,601 were closed without further action. The other 510,235 of the 879,415 high-income nonfilers “are sitting in one of the Collection function’s inventory streams and will likely not be pursued as resources decline.”
Even worse, because the IRS works on each tax year separately rather than combining cases when a taxpayer fails to file for more than one year, it “is missing out on opportunities to bring repeat high-income nonfilers back into compliance.” Of these high-income nonfilers for 2014 through 2016 that the IRS failed to address or resolved, the top 100 owed an estimated $10 billion in unpaid taxes. The Inspector General has proposed seven changes to deal with these problems, but the IRS agreed in full only to two of them, partially agreed with four, and disagreed with one. The IRS objected to putting the nonfiler program under its own management structure.
Here and there a failure to file arises from an understandable problem, such as a taxpayer falling ill without anyone realizing it in time, or developing dementia or similar mental impairments. Sometimes the failure to file arises from financial setbacks for taxpayers who don’t realize that in those situations it is best to file and indicate the inability to pay. Some instances of failure to file are expressions of principled protest against specific government policies. A significant portion reflect a deep greed rooted in a taxpayer’s perception that they have no obligation to contribute to society, with the failure to file and pay almost always defended as a justified expression of the taxpayer’s anti-tax philosopy.
Is it any wonder that so many people are enraged? Though there are many ingredients fueling social unrest, an important one is the growing sense among Americans that they are fools for complying with tax laws when “high income nonfilers” are “getting away with it.” Would it be a surprise if more taxpayers choose not to file, knowing that the IRS lacks the resources to chase them down? This sort of mob mentality is no less likely to spread among taxpayers as it can spread among crowds encouraged to break other laws.
Though it is easy to suggest that Congress needs to wake up and provide sufficient funding to the IRS, especially because every dollar invested returns roughly seven, but the Congress is incapable of doing this. Enough of It is controlled by the anti-tax, anti-government crowd that it lacks the ability to do what needs to be done. Until the makeup of the Congress changes, the tax gap will persist and even increase, adding to the growing deficit that threatens to cause havoc more catastrophic than what currently afflicts the nation. The greed that is fueling the income and wealth inequality contributing to so many of the nation’s problems is growing as though on steroids, and needs to be neutralized expeditiously.
Wednesday, April 21, 2021
My last post, So Who’s the Worse Tax Collector?, was a response to a question from reader Morris. He had asked if Samuel Adams was a “possibly a worse tax collector than Joel Greenburg [the former Seminole County tax collector]?” My answer was no, for the reasons described in that post. Little did I know that reader Morris had foreshadowed the question that captions this MauledAgain blog post.
So why am I asking if there is now a “worst tax collector” contest? That thought occurred to me when I read this Philadelphia Inquirer report. According to the story, a former tax collector and treasurer in Ridley Township, in the southern part of the county in which I live outside Philadelphia, was charged with filing false federal income tax returns for taxable years 2014 through 2018. According to a Delco Times report, the former tax collector allegedly maintained three Wells Fargo bank accounts used to deposit township tax payments, including tax payments, tax certification fees, and duplicate bill fees. She transferred the tax payments to the township but was authorized to keep, and did keep, the tax certification and duplicate bill fees. However, she did not include those amounts on her federal income tax returns. The information in which she was charged lists the amounts she did report as gross income but did not provide the amounts that were omitted, simply stating that she knew the amounts that she did report were false and that she knew that her actual gross income was more than what she reported.
A spokesperson for the U.S. Attorney’s Office, when asked, replied that the dollar amount of the unreported income was not available. There certainly are additional questions that will be asked. Did the former tax collector think that deposits put into a bank account used for tax payments and fees would not be traced to her when she made use of the fees? Did anyone have the responsibility to issue, and did anyone issue, a Form 1099 to the former tax collector? Did she report these fees for state income tax purposes?
Sadly, if she is sentenced to serve any prison time, she has some idea of what that experience would be. According to a Delco Times report from 12 years ago, she participated in the 2009 Annual Muscular Dystrophy Association “lock-up,” a fund-raising event in which “local business and community people agree to be ‘arrested’ and have to raise ‘bail’ to get out of jail. Of the many people participating, the former tax collector, at that time serving as tax collector, was the only participant named aside from the writer, who also participated, because the former tax collector ended up as the writer’s ‘cellmate.’ But I suspect that aside from the ‘arrest, the ‘paddy wagon’ ride, and the taking of mug shots, the rest of the experience was much different than prison. According to the story, the ‘jail’ was a restaurant, and the participants were fed and given a cell phone to use in soliciting contributions for the charitable cause. Perhaps her participation in this worthy cause will be taken into account if she is convicted or pleads guilty.
But I still wonder why she did this, if indeed this is what she did. When there is a record of payments, as there would be with the collection of fees dropped into a bank account maintained for government purposes, is there not a realization that any gross income cannot be hidden? Most gross income evasion involves difficult-to-trace transactions, principally cash and below-radar barter transactions. So perhaps there are additional facts that explain what happened. In the meantime, tax collectors, the job is challenging enough without making things even more difficult. It’s not a contest.
Monday, April 19, 2021
Most of those commentaries dealt with tax return preparers charged with some sort of tax fraud. One dealt with a tax return preparer charged with assault and gun offenses. Now comes news from the Department of Labor that OSHA has imposed fines of $136,632 on a tax return preparer in Lynn, Massachusetts. Why? According to the press release, after receiving a referral from the Division of Labor Standards of the Commonwealth of Massachusetts Executive Office of Labor and Workforce Development, OSHA investigated and concluded that the tax return preparer and her company prohibited employees and customers from wearing face coverings in the workplace despite a statewide mask order that mandated the business to require employees and customers to wear masks, required employees to work within 6 feet of each other and customers for multiple hours while not wearing face coverings, failed to provide adequate means of ventilation at the workplace, and failed to implement controls such as physical barriers, pre-shift screening of employees, enhanced cleaning and other methods to reduce the potential for person-to-person transmission of the coronavirus.
The preparer and the company have 15 business days from when it receives the notice of the fines to comply, request an informal conference with OSHA’s area director, or contest the findings before the independent Occupational Safety and Health Review Commission. OSHA’s Regional Administrator in Boston summed it up this way, “This employer’s willful refusal to implement basic safeguards places her employees at an increased risk of contracting and spreading the coronavirus. Stopping the spread of this virus requires business’ support in implementing COVID-19 Prevention Programs, and ensuring that staff and customers wear face coverings and maintain physical distance from each other.”
Perhaps there are reasons for some of the noncompliance, such as insufficient space to permit proper distancing while still keeping capacity to service all of the clients. Perhaps attempts to upgrade ventilation ran into supply shortages, contractor issues, or financial impediments. Perhaps efforts to find cleaning services were futile. But I doubt it. My guess is that the preparer either negligently ignored the requirements, just as some restaurants fail to enforce rules requiring employees to wash their hands, or deliberately defied the regulations because of adherence to the cult of anti-masking or because of a more general anti-regulation attitude. According to this report, the preparer “claims the masks actually spread the disease and OSHA should mind its own damn business and stop pandering to what she says are fear-mongering state officials.” My question for the preparer is whether she is willing to undergo, or have family members or friends undergo, surgery by a physician and an anesthesiologist who do not wash their hands or wear masks in an operating room that is not disinfected before the operation. Is it simply another case of “rules for others but not for me” that pervades the world of the anti-regulation movement? I also wonder if her attitude toward taxes reflects the same uninformed approach to law. A clue might be found in the facts underlying this case.
As for the customers, perhaps they didn’t care that they were walking into a coronavirus incubator. Perhaps they think the coronavirus is a hoax, or “no worse than the flu or common cold.” Perhaps they think they are special and healthy enough to escape what has happened to other people, including healthy ones. As for the retort that perhaps the customers did not know, though it is difficult when walking into an inside space to know when and if surfaces have been cleaned or if the ventilation system is properly filtered and oriented, surely the sight of a bunch of maskless people sitting and standing within 2 or 3 feet of each other is a red flag that cannot escape detection.
What we don’t know is how many people intending to have their tax returns prepared by this preparer walked up to the door, saw what was happening, and walked away. My guess is that at least one person did so, and probably is the reason the situation was brought to the attention of the Massachusetts Division of Labor Standards. It would not surprise me if it turns out multiple potential customers did the same thing. What a way to lose customers and revenue. Did the preparer think that catering to customers who share the same attitudes about the coronavirus as the preparer appears to hold outnumbered the customers being lost, or at least generated more revenue than the customers being lost? We may never know.
Tax return preparers who do not follow rules can harm their clients by filing false tax returns on their behalf. They can cause instant death by pulling out a gun and shooting. They can cause death, serious illness, and long-term, lifelong agony for customers who are infected because of gross negligence, defiance, and foolishness. Though I have stated many times that taxpayers should do research before retaining a tax return preparer, in this case even those taxpayers who did not do a background check had ample warning when they approached the storefront. Hopefully, even though OSHA observed customers in the office, most of the potential clients walked away.
Friday, April 16, 2021
The difficulty was the generality of the question. It did not specify the state, which matters, though presumably because it was posted to a web site focused on New Jersey that was the state in question. The question did not specify the nature of the refund, state or federal, but the context of the question suggested it was a reference to a federal income tax refund. We live in a sound bite, buzz phrase, tweet world, where everything, even complex situations, are reduced to oversimplified generalities that confuse people and erode the niceties of the exceptions and parameters that provide the necessary information and guidance.
There actually are four questions embedded within that one question.
First, “Are federal income tax refunds included in gross income for federal income tax purposes?” The answer is no. The reason is that there was no federal income tax deduction for the payment of the federal income tax, so a refund of some or all of that payment does not generate gross income.
Second, “Are federal income tax refunds included in gross income for state income tax purposes?” The answer is, “it depends.” When I last looked, six states allow a deduction for federal income taxes paid, so a refund must be taken into account, either as gross income or as a reduction in the deduction for federal income taxes paid in the year the refund is received. In the majority of states not allowing a deduction for federal income taxes, the federal income tax refund is not included in gross income for state income tax purposes.
Third, “Are state income tax refunds included in gross income for federal income tax purposes?” The answer is, “it depends.” To the extent that the state income tax deduction provided a tax benefit, determination of which requires a multiple-step computation, the refund is included in gross income for federal income tax purposes. Thus for example, a refund of a state income tax for which no deduction was claimed because the taxpayer took the standard deduction would not be included in gross income for federal income tax purposes.
Fourth, “Are state income tax refunds included in gross income for state income tax purposes?” The answer is no. The reason is that there was no state income tax deduction for the payment of the state income tax, so a refund of some or all of that payment does not generate gross income.
Fitting the previous four paragraphs into a sound bite, a buzz phrase, or a tweet is impossible. The concern isn’t the question and answer posted on the web site. The answer provided was correct given the assumptions about the state in question and the refund in question. The danger is that someone not closely examining the entire context might conclude that the answer suggests that federal income tax refunds are never included in gross income for state income tax purposes, which is not true.
Wednesday, April 14, 2021
Though tax evasion and tax avoidance cut across economic, social, cultural, and geographic boundaries, a substantial portion of the tax gap is attributable to evasion among large corporations and wealthy individuals. As I explained in Tax Noncompliance: Greed on Steroids, summarizing a report by the Treasury Inspector General for Tax Administration, the IRS failed to pursue 369,180 of 879,414 high-income nonfilers who failed to pay almost $46 billion in taxes. The other 510,235 were “sitting in one of the Collection function’s inventory streams and will likely not be pursued as resources decline.” The “success” of these high-income taxpayers who fail to file certainly encourages other taxpayers to ignore their responsibilities, and their “success” in turn will cause non-compliance to spiral into a revenue collapse.
Several years ago, in Taxing High-Income Individuals, I advocated, among other things, a way to reduce the federal deficit without raising tax rates. I explained what Congress needed, and still needs, to do: “Increase funding for the IRS so that it can track down and deal with tax shelter promoters, offshore schemes, fraudulent returns, and other gimmicks used to make a person with high income pay taxes at rates lower than those imposed on the middle and lower income echelons.”
In Another Way to Cut Taxes: Hamstring the IRS, I wrote:
Though it is easy to suggest that Congress needs to wake up and provide sufficient funding to the IRS, especially because every dollar invested returns roughly seven, but the Congress is incapable of doing this. Enough of It is controlled by the anti-tax, anti-government crowd that it lacks the ability to do what needs to be done. Until the makeup of the Congress changes, the tax gap will persist and even increase, adding to the growing deficit that threatens to cause havoc more catastrophic than what currently afflicts the nation. The greed that is fueling the income and wealth inequality contributing to so many of the nation’s problems is growing as though on steroids, and needs to be neutralized expeditiously.Well, the makeup of the Congress has changed, though not quite to the symmetrical opposite of what it has been during the most recent anti-tax, anti-government period. So it is no surprise that according to this report, among others, the current Administration is proposing a 10 percent, or $1.2 billion, increase in IRS funding, with most of it dedicated to “increasing resources for oversight of corporate and wealthy Americans' tax returns and ensure compliance.” The funding would help the IRS replace the 21,000 employees lost since 2010, which hampered its ability to deal with tax evasion by the wealthy, who now fail to report more than one-fifth of their income according to a recent National Bureau of Economic Research study.
As I wrote in 2011, in Another Way to Cut Taxes: Hamstring the IRS, when a previous Administration sought to increase IRS funding:
The Administration wants to increase IRS funding. Why? Aside from the creation of jobs, it would cut the deficit and restore moral balance to the revenue system. Think of it. Every dollar brings back ten. What advocate of the free market would walk away from such a deal? One dollar brings back ten. The private sector wouldn’t toss that opportunity aside, and neither should the fiduciaries of the public trust. America deserves no less.It remains to be seen whether the current Congress is better at investing that the Congresses of the past decade.
Monday, April 12, 2021
Though most of the indictments and criminal informations arise from tax fraud, several of the indictments involve other types of fraud and even assault and gun charges. Last week, the Department of Justice issued a press release describing the indictment of yet another tax return preparer. In this instance the preparer has been charged with four counts of wire fraud.
According to the indictment, the preparer owned and operated a tax and investment consulting business in Bridgeview, Ill. The indictment alleges that from April to October of 2020, he submitted Paycheck Protection Program and Economic Injury Disaster Loan Program applications on behalf of hundreds of the company’s customers. The applications that the preparer submitted allegedly contained “materially false statements and misrepresentations about the customers’ businesses, such as gross revenues, expenses, and number of employees.” Because of the preparer’s alleged false statements and misrepresentations, millions of dollars in PPP and EIDL funds were disbursed to those customers.
If that’s not bad enough, the preparer charged customers an upfront fee of “approximately several hundred dollars” before submitting the applications. If the application was approved and the customer received funds under either program, the preparer charged the customer “an additional fee of approximately $1,000.”
What’s unclear from the press release is whether the customers knew that the applications contained false information. If they did know, the Department of Justice might still be working on indictments, or perhaps has decided not to indict them in exchange for the customers serving as witnesses. If the customers did not know, it’s yet another situation in which a tax return preparer uses confidential customer information to get money by filing fraudulent loan applications. In When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, I wrote about the adverse consequences to the customers of tax return preparers who file false income tax returns. The advice that I gave, essentially suggesting doing background checks on tax return preparers, is important not just because of the need to avoid being audited for a false return, but to avoid being caught up in prosecutions for fraudulently obtained loans. Of course, if the customers aren’t so innocent and participated in scheme, then the customers probably will end up reaping the consequences of their own bad behavior.
Friday, April 09, 2021
Reader Morris pointed out that I had written, “The American Rescue Plan Act of 2021 amended Internal Revenue Code section 85 to provide that the first $10,200 of unemployment compensation is excluded from federal gross income if the taxpayer’s adjusted gross income is less than $150,000.” He directed my attention to a revised IRS instruction and explanation publication that begins, “If your modified adjusted gross income (AGI) is less than $150,000, the American Rescue Plan enacted on March 11, 2021, excludes from income up to $10,200 of unemployment compensation paid in 2020, . . .” His implicit question was why the difference between the phrase I used, “adjusted gross income,” and the phrase the IRS used, “modified adjusted gross income.”
In my reply to reader Morris, I first shared the text of the amendment to section 85 made by section 9042 of the American Rescue Plan Act of 2021:
SEC. 9042. SUSPENSION OF TAX ON PORTION OF UNEMPLOYMENT COMPENSATION.I noted to reader Morris that the statute does not use the term “modified adjusted gross income.” Instead, it defines adjusted gross income by reference to certain other Internal Revenue Code sections. I invited reader Morris to compare section 86, which deals with taxation of social security benefits:
(a) In General.—Section 85 of the Internal Revenue Code of 1986 is amended by adding at the end the following new subsection:
“(c) Special Rule For 2020.—
“(1) IN GENERAL.—In the case of any taxable year beginning in 2020, if the adjusted gross income of the taxpayer for such taxable year is less than $150,000, the gross income of such taxpayer shall not include so much of the unemployment compensation received by such taxpayer (or, in the case of a joint return, received by each spouse) as does not exceed $10,200.
“(2) APPLICATION.—For purposes of paragraph (1), the adjusted gross income of the taxpayer shall be determined—
“(A) after application of sections 86, 135, 137, 219, 221, 222, and 469, and
“(B) without regard to this section.”.
SEC. 86. Social security and tier 1 railroad retirement benefitsProbably thinking it would simplify things, the IRS decided to “rewrite” the statute by using the term “modified adjusted gross income” to describe the result of using the different definition for adjusted gross income provided in section 85(c)(2). Though this “rewrite” or this different way of describing the computation rules might be an improvement, It also poses a danger. Someone looking at the term “modified adjusted gross income” might think that the term refers to one computational concept, when in fact that is not the case. A close look at the definition of the term in section 86 and the definition of recomputed adjusted gross income in section 85 reveals differences.
* * * * *
(b) Taxpayers to whom subsection (a) applies
(1) In general. A taxpayer is described in this subsection if—
(A) the sum of—
(i) the modified adjusted gross income of the taxpayer for the taxable year, plus
(ii) one-half of the social security benefits received during the taxable year, exceeds
(B) the base amount.
(2) Modified adjusted gross income. For purposes of this subsection, the term “modified adjusted gross income” means adjusted gross income—
(A) determined without regard to this section and sections 135, 137, 221, 222, 911, 931, and 933, and
(B) increased by the amount of interest received or accrued by the taxpayer during the taxable year which is exempt from tax.
Does it need to be this complicated? Not necessarily. The reason that there is a need for recomputing or modifying adjusted gross income is to get a measurement of a taxpayer’s income that is closer to economic income than is adjusted gross income. Adjusted gross income reflects a long list of exclusions, so that a taxpayer with substantial economic income might have an adjusted gross income that is much lower. Because Congress uses adjusted gross income as a benchmark to determine whether a taxpayer’s economic situation is “low enough” to warrant access to gross income exclusions intended to assist those with “low income,” it can bring within the exclusion taxpayers with high economic income. To block those taxpayers from taking advantage of the exclusion, Congress creates another benchmark.
The complexity could be reduced by eliminating many of the exclusions, particularly those subject to some sort of adjusted gross income limit, and in turn lowering tax rates for taxpayers with lower incomes. Not only would that reduce complexity by removing the words and efforts required to determine if an exclusion applies, it would also simplify the need to play with adjusted gross income definitions because there would be fewer exclusions requiring a redefined adjusted gross income and fewer adjustments needed to reflect exclusions in the process of redefining adjusted gross income for purposes of computing the exclusion.
Wednesday, April 07, 2021
Reader Morris posed these questions: “Was the man accused of stabbing a fake tax preparer, a ghost preparer, an unlicensed tax preparer, a licensed tax preparer, etc.? How would you describe the stabber? Do we have enough facts to describe the accused stabber? Does it matter what you call the stabber?” My response included the following points. First, we don’t know if the perpetrator held himself out as a tax return preparer and was engaged in the business of preparing taxes or if he simply helped in some minor way. We don’t know if there was an agreement in place for payment or whether the expectation of payment arose from some internalized sense of expectation. We don’t know if the perpetrator was licensed as a tax return preparer. No, we don’t have enough facts. Nor does it matter what terms are used to describe the perpetrator.
But if we assume the perpetrator was a tax return preparer, that is, he did enough to assist the victim to be treated has having contributed to the filling out of the return, the story brings up the flip side of the situation described in my previous post. Yes, it’s shocking to learn that a tax return preparer assaulted a client. It’s shocking in part because it is rare. Yet the flip side, unfortunately, is not so rare. Clients attack tax return preparers, for a variety of reasons, particularly unhappy with the bad news received from the preparer. Clients expecting a large refund don’t want to learn that their refund is small or non-existent. Clients expecting a refund don’t want to learn that they need to pay additional taxes.
Curious, I did a bit of research. I looked for instances of tax return preparers attacked by their clients. I found two, but did not try to create an exhaustive list of all such events. The point can be made with these two stories. According to this story, an H&R Block customer assaulted an H&R Block employee because he was “so upset about his taxes.” He “pushed his tax man to the ground and tried to choke him.“ The customer was charged with third degree assault. According to this report, a tax return preparer’s client and the client’s brother asked the preparer to meet with them at LA Fitness “to discuss the progress of client’s tax returns.” The report continues, “During (the meeting), the client and his brother attacked the victim, then burglarized his vehicle of $700 cash.”
Reader Morris quoted my statement in my earlier post, in which I wrote, “If people who wanted to be tax return preparers were required to obtain a license, would a background check on the gun-toting preparer have turned up the previous conviction? Would it have led to a denial of the license?” and then asked, referring to the truck stop story, “Would any regulation, law, or licensing requirement have prevented the stabbing?” My answer is no. Though perhaps licensing tax return preparers would push out unskilled preparers and thus reduce the number of instances in which a client is upset, licensing preparers does not regulate nor significantly affect the attitudes and behavior of their clients. Licensing is not designed to prevent crimes, as that is the role of criminal law statutes. There already are laws prohibiting stabbing.
Reader Morris observed, “Sometimes money, emotions, or being in the wrong place will override any licensing scheme.” That is very true. Yet the fact that licensing tax return preparers won’t identify violence-prone clients, it should identify, and keep out of the return preparation business those who want to be preparers but who bring a history of previous violent behavior.
Of course, a point that I often make on social media is that the underlying problem of violence reflects the sorry state of American mental health care. Identification, treatment, and prevention are insufficiently funded, inadequate in terms of outcome, and too often ignored. Dealing with these problems is not a matter of licensing. We know that because where licensing of a profession or occupation is required, it does not have any impact on whether or not a client or customer commits violence against the person who is licensed.
Monday, April 05, 2021
In a news release, the Department of Justice announced that it has filed a complain in federal court requesting that two tax return preparers in the Miami, Florida, area, and their business, be enjoined from preparing federal income tax returns for other people. In the complaint, the Department alleged that the preparers “significantly understated their customers’ tax liabilities, . . . that in reporting their customers’ itemized deductions, [the preparers] fabricated or inflated charitable deductions, medical expenses, and employee business expenses,” and that they reported “false or inflated business losses” on their clients’ returns. The two preparers allegedly prepared more than 1,900 returns during 2018 and 2019, and on average understated tax liability by thousands of dollars.
Until and unless an injunction is issued, what is to prevent an unwitting customer from walking into the preparers’ business and having a return prepared? Yes, the IRS maintains a web site where someone can get information on tax return preparers, but as the site warns, “All tax return preparers are not in this directory. This directory contains only those with a PTIN who hold a professional credential or have obtained an Annual Filing Season Program Record of Completion from the IRS.” I looked up the names of the two preparers mentioned in the Department of Justice new release and, not surprisingly, the searches came up empty.
In past commentaries I have offered some advice. In Are They Turning Up the Heat on Tax Return Preparers?, I wrote, “I will simply repeat what I have written several times in the past: ‘The lesson at the moment? Choose a tax return preparer as carefully as choosing a surgeon or child care provider. In other words, do research, talk to friends and neighbors, look at online reviews, and interview the preparer.’” I had shared that advice earlier in More Tax Return Preparation Gone Bad and Another Tax Return Preparation Enterprise Gone Bad. In Need a Tax Return Preparer? Don’t Use a Current IRS Employee, I noted, “[I]t is best to do some background checks and research just as one would do when looking for a physician or roofer.” In When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, I elaborated:
What’s a taxpayer to do? Talk with relatives, friends, and business associates. Ask them to describe their experiences with the tax return preparer that they use. Seek out a tax return preparer who has been preparing the other person’s returns for many years free of problems. Beware of the advice to use a tax return preparer who has been used only once, or even not at all. Look at reviews on various web sites. Google the name of the tax return preparer. If the preparer is a company, ask for the names of its owners and managers, and google those names. If the return that is prepared is “too good to be true,” don’t agree to its being filed, but ask for a copy and take it to another preparer for a second opinion. If it’s good to go, return to the original preparer and approve the filing. If it’s not good to go, file a complaint about the preparer with the IRS, and seek a fee refund from the original preparer.Because it is unlikely that tax return preparers under indictment and waiting for trial put “under indictment” signs in their windows or “under indictment” tags on their web sites, it is essential that clients exercise due diligence not only when seeking a new preparer but even when returning to a preparer in an earlier year.
Yet while I was thinking about these situations, I wondered about the taxpayer who neglects to look for warning signs or sees them but ignores them. Why would a taxpayer do that? Because the “deal” offered by the preparer resonates with the taxpayer’s need or desire for a bigger refund. In other words, though I have sympathy for the many victims of tax preparer fraud, who don’t realize what preparers are doing to their returns, I am concerned that taxpayers who use law-breaking preparers but who are aware or should be aware of the fraudulent return items are enabling and thus helping perpetuate the scourge of tax return preparer fraud that is contributing to the shakiness of the tax system.
Put another way, if the first thing that turns up on a google search is “This tax return preparer is great, saved me thousands, got me a huge refund,” don’t stop. Keep looking. That first discovery could have been posted by a friend or associate of the preparer, or even by the preparer. If doing research on a physician can include the name and the word “malpractice,” a search to check on a preparer can include the name and the words “indictment,” “charged,” “alleged,” and “pleaded.” Be careful out there in tax return preparation land.
Friday, April 02, 2021
Yet as complex as a particular income tax system might be, things get even more complicated when multiple tax systems are in play. In the United States, not only must taxpayers deal with a federal income tax system, they also must face state income tax systems in most states. Some taxpayers are subject to more than one state income tax system if they live in one state and work in another. Add to that local tax systems and taxpayers’ heads understandably spin, even if a tax return preparer is doing the heavy lifting.
An example of this complexity can be found in the recent changes to the tax treatment of unemployment compensation. Until this year, the basic rule was simple. Unemployment compensation was included in gross income for federal income tax purposes. Some states also included unemployment compensation in state gross income though others did not tax unemployment compensation. Though the existence of two different rules, taxed and not taxed, creates complexity, it’s nothing like the complexity that has shown up for tax year 2020.
The American Rescue Plan Act of 2021 amended Internal Revenue Code section 85 to provide that the first $10,200 of unemployment compensation is excluded from federal gross income if the taxpayer’s adjusted gross income is less than $150,000. States that automatically conform to the federal tax law automatically adopt this change though a state legislature can choose to amend state income tax law to ignore the exclusion or to cause it to apply to more or less than $10,200. States that already did not include unemployment compensation in gross income are unaffected by the federal change. States that do not conform to federal tax law and states that conform to the Internal Revenue Code as of a particular date earlier than March 11, 2021, and that tax unemployment compensation will continue to do so. It appears that the $150,000 adjusted gross income limit applies in states that adopt the exclusion by conformity, but if a state legislature adopts the exclusion, not only might the amount of the exclusion be different but there may or may not be an adjusted gross income limit and if there is one it might be different from the federal limit. At least one state that does not conform to the federal tax law is administratively permitting an exclusion matching the federal revision. And on top of this, the IRS changed the instructions for computing the limit, causing taxpayers and tax return preparers to learn new rules in the middle of tax season.
So, for example, for 2020, the first $10,200 of unemployment compensation is excluded from gross income in Iowa. In Rhode Island, unemployment compensation will continue to be taxed. Because state rules are changing and some states have not yet finalized their positions on the issue, I am not providing a state-by-state listing, and will leave that to the various commercial publishers that are doing so.
In an increasingly mobile society, the existence of separate rules in 50 states, the District of Columbia, and territories imposes friction on business and commerce. When the nation’s population was relatively isolated, and people’s employment and businesses generally confined to one state, it did not matter much that different states had different rules. Times have changed. Though it is understandable that states would want to impose different rates of taxation, to define income differently makes it difficult for taxpayers to find any sort of consistency in the concept of gross income or taxable income. All states agree with the federal income tax principle that the receipt of loan proceeds does not constitute gross income because the recipient is not wealthier. But unemployment either is income, and ought not income either be taxed or excluded from taxation on a consistent basis? Differences in the answer to that question creates complexity. That complexity is made worse when the rules change, and change with respect to amount that can be excluded, and change with respect to the adjusted gross income limit on the exclusion.
The major point is that the existence of multiple applicable tax systems compounds complexity orders of magnitude beyond the complexity created by any one tax system alone. Though most tax professionals understand this problem, most taxpayers tend to focus their complaints about tax complexity on the federal system even though some state tax systems alone are at least as complex as the federal system. States that conform to the federal system without date limitation minimize this complexity but do so in the face of criticism that they are “giving up independence” or “relinquishing sovereignty to Washington, D.C.” States that do not conform to the federal system or that do so subject to a date limitation impose additional compliance costs on their taxpayers for the sake of some abstract sense of “independence.” Though the voters in such a state can support or reject that approach when they go to the polls, the nonresident taxpayers do not have representation in the legislature in such a state.
Tax complexity is undesirable, much of it is unnecessary, too much of it arises from political rather than public benefit pressures, and a good bit of it could be reduced or eliminated through careful consideration and review of federal and state income tax laws. To paraphrase what I wrote in Tax Filing Deadlines: Theory and Practice in the connection with the extension of the federal filing deadline, “Though advocates of states’ rights champion the notion that states can serve as ‘living laboratories’ for experimenting with various public policy initiatives, the reality of modern life is that the interconnection among states is so tightly wound that” having a half dozen or more approaches to the taxation of a particular transaction does more harm to taxpayers than the cost to of conforming to the federal system.