Bruce Bartlett on Enforcing the Tax Code

It has become a rare day that the smart and honest conservative known as Bruce Bartlett agrees to write something for the National Review. Some of this is informative:

According to the Internal Revenue Service, in 2001 the gross tax gap was $345 billion, which fell to $290 billion following enforcement efforts. This suggests that about 14 percent of all taxes that are owed annually are not paid – a figure that is no higher today than it was in the 1980s. These numbers are primarily for individual income and payroll taxes; the IRS has not updated its research on corporate-tax compliance for decades. One reason for this is that the line between tax evasion and legal tax avoidance in the corporate sector is very, very murky. For many corporations, it’s not worth the bother to evade taxes when there are so many legal tax-avoidance opportunities available.

I hope Bruce is not counting the abuse of non-arm’s length pricing as being Perfectly Legal and consistent with section 482. Such abuses are where the real money lies and it is shame that the IRS goes after the pennies from the working poor while allowing multinationals the right to shift profits to places like Switzerland.

Bruce continues:

In practice, the IRS has to concentrate its resources on areas where there is the greatest potential revenue yield, which may not be where the greatest amount of evasion exists. For example, a high percentage of alimony income goes unreported, but the total amount of alimony paid is so small that the aggregate dollar amount of evasion is tiny. The same is true of unreported state tax refunds and unemployment compensation. Indeed, the relatively high level of non-reporting from these income sources may be due largely to taxpayer ignorance that such income is in fact taxable. The point here is that closing the tax gap in ways that will yield significant revenue to the government is much harder than generally believed. Most people think the IRS just needs to audit more people. But unless it has good reason in advance to believe that fairly substantial revenues will result from an audit, the practice could easily be counterproductive. The increased deterrent effect could be more than offset by taxpayer complaints that will result in efforts by Congress to tie the IRS’s hands and cut its budget.

But if the IRS does not enforce the tax code, there would be no deterrence. So the bean counting of how much we could collect understates the value of enforcement. But I agree with Bruce’s “concentrate its resources on areas where there is the greatest potential revenue yield”. Might I suggest that the IRS should follow this advice in terms of enforcing the transfer pricing rules? Linda Johnson of Forbes gives us one example:

Merck & Co., mired in multibillion litigation over its withdrawn painkiller Vioxx, has eliminated another legal headache, resolving several tax disputes with the Internal Revenue Service by agreeing to a $2.3 billion settlement … Tax and accounting analyst Robert Willens of Lehman Brothers said in such cases drugmakers generally sell medicines at low cost to subsidiaries in countries with lower tax rates, which can then mark up the price and keep more profit after taxes. “This is a constant tug-of-war between the IRS” and companies, Willens said. He said Merck paid a very high percentage of the amount of taxes in dispute – about 60 percent – far higher than the one-third or so that is typical. “That would suggest Merck must have felt it had a fairly weak case,” Willens said.

In the Glaxo litigation, the IRS argued that the drug importer overcharged its U.S. subsidiary. In a recent settlement, the government collected $3.4 billion. This precisely why we should be listening to folks like David Cay Johnston. And yes I realize that had Bruce said that, Rich Lowry and Jonah Goldberg would not have allowed him to publish his piece at the National Review. But isn’t that why Bruce should be allowed alternative places to publish his thinking?