Time For US Tax Code Sanity Check, Argues Olson

by Mike Godfrey, Tax-News.com, Washington

16 April 2009

As American taxpayers struggled to complete their tax returns for the April 15 filing deadline, National Taxpayer Advocate Nina Olson said it is high time that politicians stopped talking about tax reform and made a serious effort to trim the US tax code, which grows ever more complex by the day.

Like Hydra, the nine-headed beast of ancient Greek myth which sprouted two heads as soon as Heracles chopped one of them off, the US tax code has grown in size with a vengeance since its last major pruning, the Tax Reform Act of 1986. According to Olson, who represents the interests of US taxpayers in her role as Taxpayer Advocate, an independent office of the Internal Revenue Service, there have been more than 3,250 changes to the tax code since 2001 - an average of more than one a day. Last year, there were more than 500 changes alone. What’s more, nobody is quite sure quite how long the tax code is any more. Olson’s office turned up 3.7 million words during the course of preparing her last annual report to Congress. The Tax Foundation, the non-partisan tax policy think tank, has calculated that the tax code has tripled in length since 1975.

In a recent article for the Wall Street Journal, Olson also urged tax policy makers to consider the following statistics, which serve to emphasize the fact that the tax code no longer serves the taxpayer, but serves itself, as well as a huge tax preparation industry: about 7.6 billion hours a year are spent by individuals and businesses complying with the tax code; in 2006, individuals and businesses spent a combined USD193bn – equal to 14% of total US tax receipts – complying with the tax code; and 82% of individual tax filers have to pay for help to complete their tax returns, so complex and daunting do they find the task.

What is more, the sheer number of tax exemptions, deductions, credits and other incentives, many of which have complex sets of rules governing eligibility, income thresholds, phase-out ranges and inflation adjustments, add to the onerous task of complying with the code and can, observes Olson, lead to “perverse results” whereby honest taxpayers are punished for making innocent mistakes, while taxpayers with greater means can legally pay relatively little tax by exploiting a maze of legal loopholes.

“Every year taxpayers and elected officials complain about the tax law's complexity,” Olson wrote. “But despite the exasperation, no significant simplification has occurred since the landmark Tax Reform Act of 1986.”

This is not to say that there is any shortage of ideas as to how a reformed tax code may look. However, what is lacking is the political will to actually make the change. The last major attempt at tax reform took place under President George W. Bush, who launched a bipartisan tax reform panel in January 2005 led by former Senators Connie Mack and John Breaux.

"It seems like to me the tax code today discourages economic vitality and growth when you spend billions of hours filling out the forms,” Bush remarked at the time.

Later that year, the panel eventually published two broad recommendations: the ‘Simplified Income Tax Plan’; and the ‘Growth and Investment Tax Plan’. Both of these plans would have cut the number of tax brackets, reduced the tax burden on investment and abolished the alternative minimum tax, although it is debatable whether this would have achieved true simplification of the US tax code. Besides, we never found out since the panel’s report was quietly shelved in 2006 ahead of mid-term elections (which gave the Democrats a Congressional majority) and little was heard about it again.

In a similar vein, the present White House incumbent, Barack Obama, has pledged to rid the US tax code of “loopholes and special tax breaks that benefit Washington special interests” and simplify the tax filing process so that millions of Americans can do their taxes in less than 5 minutes. His election campaign tax plan also proposed to take seniors earning less than USD50,000 per year out of the income tax net altogether, while he has hinted at eliminating the alternative minimum tax. In echoes of the previous administration, Obama also recently announced that a high-level task force will be formed to examine how the tax code could be improved. This panel, to be chaired by former Federal Reserve Board chairman Paul Volcker, has been given a broad remit, and its only constraint is to ensure that taxes are not raised on families making less than USD250,000 per year during 2009 and 2010, when the US economy is expected to be in recession or showing the first signs of recovery. However, given that a major objective of the panel will be to recommend how to narrow the ‘tax gap’ between what is legally owed by taxpayers and what is actually paid, the thrust of this exercise seems as much about extracting revenues more efficiently from the tax code, rather than simplifying it for the benefit of all. Corporations, and particularly those doing a lot of businesses overseas, are expected to lose out the most.

For her part, Olson argues that any tax reform blueprint should contain six core principles: ensure the code remains free from “traps” for the unwary; allow taxpayers to compute their tax liabilities on a single form; anticipate and reduce areas of non-compliance; rationalize the number of choices in the tax laws; streamline the design of refundable tax credits; and last, but not least, incorporate a periodic review of the tax code - “a sanity check to guard against complexity creep” as Olson puts it. All that is needed now is the courage for Congress and the administration to push such a blueprint through.

“I am pleased to see that the Obama administration is forming a new task force to make recommendations later this year. Clearly, there is no absence of good ideas,” wrote Olson. “What we need now is the will to act.”

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