Sadness on Multiple Levels: Financial Literacy, Factual Understanding, Legal Comprehension

This commentary isn’t about tax law, legal education, the First Amendment, religion, genealogy, theology, music, model trains, or chocolate chip cookies. It’s about that “and law generally,” mentioned in this blog’s subtitle.

It’s about a sad example of financial illiteracy and the sort of incomprehension that generates disagreements and unnecessary litigation. It comes from a television court show. I’ve written about television court shows many times, in posts such as Judge Judy and Tax Law, Judge Judy and Tax Law Part II, TV Judge Gets Tax Observation Correct, The (Tax) Fraud Epidemic, Tax Re-Visits Judge Judy, Foolish Tax Filing Decisions Disclosed to Judge Judy, So Does Anyone Pay Taxes?, Learning About Tax from the Judge. Judy, That Is, Tax Fraud in the People’s Court, More Tax Fraud, This Time in Judge Judy’s Court, You Mean That Tax Refund Isn’t for Me? Really?, Law and Genealogy Meeting In An Interesting Way, How Is This Not Tax Fraud?, A Court Case in Which All of Them Miss The Tax Point, Judge Judy Almost Eliminates the National Debt, Judge Judy Tells Litigant to Contact the IRS, People’s Court: So Who Did the Tax Cheating?, “I’ll Pay You (Back) When I Get My Tax Refund”, Be Careful When Paying Another Person’s Tax Preparation Fee, Gross Income from Dating?, Preparing Someone’s Tax Return Without Permission, When Someone Else Claims You as a Dependent on Their Tax Return and You Disagree, Does Refusal to Provide a Receipt Suggest Tax Fraud Underway?, When Tax Scammers Sue Each Other, One of the Reasons Tax Law Is Complicated, An Easy Tax Issue for Judge Judy, Another Easy Tax Issue for Judge Judy, Yet Another Easy Tax Issue for Judge Judy, Be Careful When Selecting and Dealing with a Tax Return Preparer, Fighting Over a Tax Refund, Another Tax Return Preparer Meets Judge Judy, Judge Judy Identifies Breach of a Tax Return Contract, When Tax Return Preparation Just Isn’t Enough, Fighting Over Tax Dependents When There Is No Evidence, If It’s Not Your Tax Refund, You Cannot Keep the Money, Contracts With Respect to Tax Refunds Should Be In Writing, Admitting to Tax Fraud When Litigating Something Else, When the Tax Software Goes Awry. How Not to Handle a Tax Refund, Car Purchase Case Delivers Surprise Tax Stunt, Wider Consequences of a Cash Only Tax Technique, Was Tax Avoidance the Reason for This Bizarre Transaction?, Was It Tax Fraud?, Need Money to Pay Taxes? How Not To Get It, When Needing Tax Advice, Don’t Just “Google It”, Re-examining Damages When Tax Software Goes Awry, How Is Tax Relevant in This Contract Case?, Does Failure to Pay Real Property Taxes Make the Owner a Squatter?, Beware of the Partner’s Tax Lien, Trying to Make Sense of a “Conspiracy to Commit Tax Fraud”, Tax Payment Failure Exposes Auto Registration and Identity Fraud, A Taxing WhatAboutIsm Attempt, and When Establishing A Business Relationship, Be Consistent, as the Alternative Can Be Unpleasant Litigation.

In this Judge Judy episode – Season 21, Episode 245 – the plaintiff sued the defendant to compel the defendant to put a headstone on the grave of the plaintiff’s grandson. The grandson and the defendant were engaged and had lived together for at least a year. The story begins when the plaintiff took out life insurances policies on the lives of her four grandsons. When asked by Judge Judy why she did that, the plaintiff explained that she and her husband were getting older and if something happened to them they wanted their grandchildren to have some money. It was evident that Judge Judy was as puzzled as I was, because protecting the grandsons from something happening to their grandparents would be accomplished by life insurance on the lives of the grandparents, not the grandchildren.

Then, when the one grandson and the defendant became engaged, the plaintiff changed the beneficiary on the life insurance policy on that grandson to the defendant. Sadly, that grandson then took his own life. The insurance company paid proceeds to the defendant. The defendant paid the cost of the funeral, though it wasn’t clear whether the defendant offered to do so or did so at the request of the plaintiff. The plaintiff took the position that she had the right to dictate how the defendant used the proceeds but Judge Judy pointed out that there was no contractual obligation giving the plaintiff that right.

The plaintiff was upset that the defendant had not purchased a headstone. The defendant explained that a headstone was already in place, paid for by the grandson’s father and his wife, who was the grandson’s stepmother. The plaintiff complained that her grandson’s name on the headstone was incorrectly spelled. The defendant provided a photograph of the headstone, with the name correctly spelled, and Judge Judy pointed out that the plaintiff’s father and stepmother apparently had caused the headstone to be corrected.

At that point, Judge Judy asked the plaintiff, “Are you satisfied?” but the plaintiff said, “No.” Judge Judy asked, “So why are you here?” The plaintiff responded, “I want a headstone on my grandson’s grave.” Judge Judy replied, “There is a headstone.” The plaintiff came back with a claim that the name was misspelled. Judge Judy rejected that assertion, asking the bailiff to show to the plaintiff the photograph of the headstone with the name correctly spelled. Judge Judy asked, “So what do you want?” The plaintiff stated, “I want a headstone with my grandson’s full name.” Judge Judy read the name from the headstone and asked, “Did he have more names than those?” The plaintiff replied, “We wanted the stone to include ‘loving grandson, . . . ‘” and at that point Judge Judy cut her off and dismissed her case.

I wonder who convinced the plaintiff and her husband to purchase life insurance on the lives of her grandsons, when there was no indication that she and her husband were dependent on the grandsons for financial support. Parents sometimes purchase term insurance on their children to cover the cost of funerals and burials, but because the chances of a child dying are very low, those policies are very inexpensive and usually expire when the child attains majority or can be turned over to the child at that point. I wonder if some salesperson saw an opportunity to sell four insurance policies by convincing the plaintiff and her husband that they needed to do so. Sad.

The plaintiff’s inability to understand that someone other than the defendant had paid for a headstone and her insistence that the defendant purchase one is bewildering. It is sad. The plaintiff’s misunderstanding of the facts and their significance, even after the judge explained it several times, is troubling. It’s sad.

Who Should Be Sued, and Where, If Employer Fails to Issue Form W-2?

A recent Southern District of New York decision, the text of which is presently behind a paywall, involved an employee suing his employer because the employer failed to issue a Form W-2 or even a Form 1099 to the employee. The plaintiff was hired by a parking garage company in 1980 to work as a porter. Decades later, he was fired, and filed an age discrimination complaint against the employer. The case was settled in 2014. The plaintiff’s attorney in that case took one-third of the settlement. The attorney sent the plaintiff a Form 1099 rather than a Form W-2. The plaintiff alleged he “did not sign any papers” nor give anyone permission to sign on his behalf. He alleged that he “cannot get a 1099 form without someone don’t sign my name so then I am asking this court to have my employer give me my” Form W-2.

The court held the plaintiff’s complaint did not comply with federal pleading rules because “his allegations do not suggest that he is entitled to relief from” the former employer. The court explained that if the employer had failed to issue a Form W-2 when required to do so, it would be the IRS that had a right to proceed against the employer by assessing penalties. According to the court, “[i]n other words, an individual citizen has no right to sue over an employer's failure to provide a W-2,” citing previous cases similarly holding. The court pointed out that it could find “no authority suggesting that money received in connection with a settlement qualifies as ‘remuneration . . . for services performed by an employee,’ such that a W-2 would issue.” And, according to the court, even if the former employer should have issued a Form W-2, the plaintiff “does not have a private right of action against his former employer for failing to provide one.” The court also noted that the plaintiff did not allege any damages or harm caused by the non-issuance of a Form W-2 by the former employer, and that the IRS provides Form 4598, “Form W-2, or 1099 Not Received or Incorrect,” to be filed if an employer fails to issue a Form W-2.

Should the plaintiff have sued in state court for breach of contract? That path would be possible only if the contract imposed on the employer an obligation to reimburse the employee for the cost of paying a professional to assist in filing a Form 4598 if the employer failed to issue a Form W-2. I doubt that the plaintiff’s contract contained any provision of that sort. I doubt that sort of provision has been included in any employment contract. If the failure to issue the Form W-2 is the fault of the employer’s tax professional or the developer of the payroll software used by the employer, can the employee sue that person or company? There are privity of contract issues standing in the way, and also the simple matter that the cost of litigation almost certainly exceeds the cost of paying a professional to assist with Form 4598.

Fear Mongering, Tax Style

What happens when someone wants to stop an activity, a proposal, or the consequences of a decision that adversely affects that person? One approach is to present arguments, based on actual facts, that convince enough people to oppose the activity, reject the proposal, or seek reversal of the decision. But too many people are unable to do that. They cannot accept actual facts or they lack the ability or training to argue well based on facts, or they suffer from both afflictions. This often is the case when the persons affected by the activity, proposal, or decision are few in number compared to those who are unaffected.

So what do these people do? They turn to another tactic. They try to convince the vast numbers of unaffected people that they are affected. To do this, they need to distort reality, twist the facts, and lie. They manipulate information not to present arguments about the value or worthlessness of the activity, proposal, or decision, but to instill fear in the hearts and minds of those who in reality have nothing to fear.

The latest stunt consists of two parallel scare tactics. One is to claim that the IRS is going to go after people with incomes under $400,000 and small businesses. The other is to claim that the IRS plans to hire 87,000 additional agents. Both claims are false, but they are finding fertile ground in the hearts and minds of those who react quickly to emotions and fail for one reason or another to think critically and dissect the absurdity of the claims.

The recently enacted Inflation Adjustment Act specifically provides that the funding it provides for improved IRS audit rates is not to be used to increase audits on taxpayers with taxable income under $400,000. As a practical matter, the bulk of the tax gap that the legislation is designed to reduce isn’t generated by these taxpayers. Many taxpayers receive income as employees, reported on Forms W-2, which makes it almost impossible to underreport income. IRS computer systems engage in matching what employers report with what employees report, and because that matching program includes all Forms W-2, there isn’t much, if any, opportunity for increased audits in those situations. The same can be said for income reported on various Forms 1099. Similarly, many of these taxpayers claim the standard deduction. Even though some taxpayers with incomes under $400,000 overstate some deductions and credits, the revenue increases attainable by increasing audits of these taxpayers is a drop in the bucket. It’s not worth it to the IRS to invest in additional audits that bring in several hundred dollars. The bulk of the missing tax revenue is elsewhere.

The Department of the Treasury has denied claims that the IRS plans to hire 87,000 additional agents. The funding provided to the IRS to increase audit rates will be used to bring its employment from the current 78,000 employees back up to the 94,000 it had in 2010, and to offset the 20 percent reduction in funding that it has incurred since 2010, which led to a 30 percent reduction in tax enforcement.

Let’s do some arithmetic. The legislation increases IRS funding by $80 billion, spread over 9 fiscal years. That’s an average of roughly $9 billion a year. Some of that funding is dedicated to improvements in IRS computing facilities, to taxpayer services, and to operations support. Of the $80 billion, $45 billion is dedicated to bring enforcement back to 2010 levels. That’s an average of $5 billion per fiscal year. IRS agents earn salaries between roughly $32,000 and roughly $96,000, with a median of roughly $51,000. Of course, the cost of employing an agent includes not only the salary but also contributions to retirement plans, health care premiums, and other fringe benefits. Fringe benefits cost employers roughly 30 percent. So the median annual cost of hiring an agent is roughly $66,300. That makes the cost of hiring 87,000 agents almost $5.8 billion, and that doesn’t take into account the cost of hiring people to do the hiring, hiring people to do the initial training, and hiring people to supervise the agents. When taking those costs into account, there’s barely enough funding to make up for the employees lost since 2010. And that computation doesn’t take into account inflation, causing those costs to increase while the funding remains the same.

So should people who are complying with the tax laws be worried? Absolutely not. Who should be worried? The people whose noncompliance will be uncovered by the application of additional resources to ferret out the tax avoidance schemes in which noncompliant taxpayers engage. And those people have every reason to have tried, unsuccessfully, to block the legislation and now to whip compliant taxpayers into a frenzy to derail the plans to increase compliance among the noncompliant. Because these noncompliant taxpayers have the monetary resources to hire politicians, lobbyists, public relations spokespersons, and others to spread fear among those with no reason to be afraid, they continue to use the manipulation playbook and scare tactics.

The intensity with which these noncompliant taxpayers and their hired hands are spreading these false claims tells us quite a bit about what concerns them. Of course there is fear, and there should be, among the noncompliant taxpayers. Compliant taxpayers should ignore these howls of horror.

It’s Not Just Law Enforcement That Confronts Misbehaving Tax Return Preparers

During the past many years, I have written about some of the tax return preparers who have gotten into trouble because of their misdeeds, in posts such as Tax Fraud Is Not Sacred, More Tax Return Preparation Gone Bad, Another Tax Return Preparation Enterprise Gone Bad, Are They Turning Up the Heat on Tax Return Preparers?, Surely There Is More to This Tax Fraud Indictment, Need a Tax Return Preparer? Don’t Use a Current IRS Employee, Is This How Tax Return Preparation Fraud Can Proliferate?, When Tax Return Preparers Go Bad, Their Customers Can Pay the Price, Tax Return Preparer Fails to Evade the IRS, Fraudulent Tax Return Preparation for Clients and the Preparer, Prison for Tax Return Preparer Who Does Almost Everything Wrong, Tax Return Preparation Indictment: From 44 To Three, When Fraudulent Tax Return Filing Is Part of A Bigger Fraudulent Scheme, Preparers Preparing Fraudulent Returns Need Prepare Not Only for Fines and Prison But Also Injunctions, Sins of the Tax Return Preparer Father Passed on to the Tax Return Preparer Son, Tax Return Preparer Fraud Extends Beyond Tax Returns, When A Tax Return Preparer’s Bad Behavior Extends Beyond Fraud, More Thoughts About Avoiding Tax Return Preparers Gone Bad, Another Tax Return Preparer Fraudulent Loan Application Indictment, Yet Another Way Tax Return Preparers Can Harm Their Clients (and Employees), When Unscrupulous Tax Return Preparers Make It Easy for theblo IRS and DOJ to Find Them, Tax Return Preparers Putting Red Flags on Clients’ Returns, When Language Describing the Impact of Tax Fraud Matters, Injunctions Against Fraudulent Tax Return Preparers Help, But Taxpayers Still Need to Be Vigilant, Will the Re-Introduced Legislation Permitting Tax Return Preparer Regulation Be Enacted, and If So, Would It Make a Difference?, Can Fraudulent Tax Return Preparation Become An Addiction?, Tax Return Preparers Who Fail to File Their Own Returns Beg For IRS Attention, Using a Tax Return Preparer? Take Steps to Verify What Is Filed on Your Behalf, When Dishonest Tax Return Preparers Are Married, There Was Nothing Magical About This Tax Return Preparation Business, Don’t Get Burned By a Tax Return Preparer, Tax Fraud School: When It’s Not Enough to Be a Fraudulent Tax Return Preparer, It’s Not Just Tax Return Preparers Assisting in the Preparation of Fraudulent Tax Returns, and Overused Fraudulent Tax Return Preparation Ploys. I don’t write about all the tax return preparers whose ill-advised actions put them in the news because I would not have time to do anything else. But when a different sort of situation arises and comes to my attention, I try to find time to do some writing.

What caught my eye about the case of JTH TAX, LLC d/b/a Liberty Tax Service v. Stephen A. Gilbert and G-QTS, Inc. was the identity of the party proceeding against the tax return preparer. It was the franchisor, Liberty Tax Service, that sued its franchisee tax return preparer because of actions taken by the franchisee that violated both the franchise agreement and federal law. The principal transgression was the allegation that the franchisee permitted one of his employees to use the franchisee’s PTIN, a violation of federal law and thus by the terms of the franchise agreement a violation of that agreement. The franchisee did not deny allegation. The franchisor accordingly terminated the franchise agreement. The franchisor also sought to enforce a non-compete agreement that barred the franchisee from directly or indirectly preparing or filing income tax returns within the territory of the franchise or within 25 miles of the territory for two years following the termination of the franchise, and an agreement that barred the franchisee from directly or indirectly soliciting any person or entity served in any of the franchisee’s prior offices in the last twelve months of holding the franchise, for the purpose of offering that person or entity income tax preparation or filing or financial services, within the territory or within 25 miles of the territory for two years following the termination of the franchise.

Under the terms of the franchise agreement, the termination of the franchise required the franchisee to surrender to the franchisor the leases on the locations where the franchisee operated the tax return business. The franchisee refused to sign the documents required for the surrender, and changed the locks on the premises. The franchisee notified the franchisor that he intended to continue offering tax preparation services at those locations. The franchisor alleged that the franchisee removed two printers belonging to the franchisor, removed the franchisor’s “Liberty Tax” sign and replaced it with the sign of a competitor, Fast Tax, and operated a competing tax preparation at those locations. The franchisor also alleged that the franchisee took client files and other confidential information.

The franchisor sued the franchisee, claiming breach of the franchise agreements, common-law conversion, and violation of the Defend Trade Secrets Act. The franchisor requested a preliminary injunction stopping the franchisee from operating a tax return preparation service at the former franchise locations until March 5, 2024, from operating competing tax return preparation businesses within 25 miles of the franchise territories until March 5, 2024, requiring the franchisee to assign to the franchisor the leases for the former franchise locations, to refrain from interfering with the franchisor’s right to act as the lawful agency and attorney-in-fact for the franchisee for the purpose of taking necessary action to complete assignment of the leases, stopping the franchisee from causing, or attempting to cause, the changing of locks at any franchise location, stopping the franchisee from removing property from any franchise location, stopping the franchisee from using any of the franchisor’s confidential information, stopping the franchisee from entering onto or otherwise interfering with the operation of the franchisor’s franchise locations, ordering the franchisee to return all franchisor confidential information, including client files, ordering the franchisee to return the franchisor’s equipment, including printers and computers, and other property that was removed from Liberty’s franchise locations, and ordering the franchisee to provide the franchisor with a key for any new locks installed at the former franchise locations.

Put simply, the franchisor prevailed. The franchisee lost.

The lesson is simple. A tax return preparer who fails to comply with applicable law, regulations, and other requirements faces not only action by law enforcement but also by private parties, including not only client taxpayers but franchisors if the preparer is doing business under a franchise.

Insufficient Explanation of Estimated Tax Legislation Impacts

I must admit I was surprised when I saw the headlines claiming that the pending Inflation Reduction Act of 2022 will increase taxes on all or most taxpayers. The claims are based on a Joint Committee on Taxation Distribution Table of the pending act. Indeed, that table shows increased taxes on taxpayers in every income category, though the total increase on taxpayers with modified adjusted gross income under $400,000 is much less than what some of the headlines claim. Squaring that Table with the Senate Finance Committee’s estimated budget effects” doesn’t seem possible.

The Joint Committee on Taxation Distribution Table does not explain how it computed these estimated increases. It clearly states that it “[d]oes not include indirect effects.” So which tax provisions in the pending legislation cause these increases? Most of the tax provisions increase credits, extend credits, expand credits, or establish new credits. So it can’t be those provisions. Of the five revenue-raising provisions, one clearly does not apply to individuals. That’s the proposed 15 percent alternative tax on corporations with net profits exceeding $1 billion. The second is increased funding for the IRS to improve audit rates, but that provision contains an exception for taxpayer with taxable income under $400,000. The third is denial of low long-term capital gain rates on partnership carried interests. That provision, however, contains an exception that permits partners with modified adjusted gross income under $400,000 to avoid the restriction by holding the interest for three years rather than the five-year period applicable to other taxpayers. How many taxpayers with modified adjusted gross income under $400,000 own partnership carried interests? Some, but not enough to justify claiming that all or most taxpayers with income under $400,000 will be hit with tax increases. The fourth, reinstatement of the Superfund, if it affects low and middle income taxpayers at all, surely affects very few of them. The fifth, extension of the Black Lung Disability Trust Fund tax rate, is another provision that affects few, if any, taxpayers in the lower brackets.

So I’m at a loss trying to identify the provisions in the legislation that increase tax liabilities for taxpayers in the excepted categories, let alone increased by the claimed many tens of billions of dollars that some opponents of the legislation claim. I have not found anything that tags any specific provision or provisions as the cause of the increases that the Joint Committee identifies.

It’s unfortunate that the Joint Committee doesn’t share how it arrived at these numbers. It is important for Americans to know, because it would permit taxpayers, or their advisors, to determine if they are affected. I suspect that very few taxpayers in the low and middle income brackets would be among those facing tax increases. If the increases are caused by the carried interest changes, would it not be helpful to know that, so that the vast majority of low and middle income taxpayers who do not own carried interests can breathe a sigh of relief and realize that their taxes are not going to increase under the legislation?

What does this lack of information do? One consequence is that it permits opponents of the legislation to make all or most Americans think that they will be adversely affected by the legislation, because that helps the opponents drum up support for opposition even if it is based on misplaced apprehension and fear.

Perhaps the information will be forthcoming? But will it arrive in time to dispel the fear and anxiety currently being marketed?

But perhaps I am missing something. Is there a sixth revenue raising provisions? Do increased and expanded credits cause tax increases? So I invite anyone who has the answer to how taxes on low and middle income taxpayers are increased by the legislation to let me know.