The White House has said that House Democrats have demonstrated no “legitimate legislative purpose” for their May 10 subpoena of President Donald Trump’s personal and business tax returns. The president’s lawyers are arguing that if the information being sought is not to inform the writing of new legislation, then Congress has no right to it. Ignoring the fact that Congress has broad investigatory powers that should cover this type of request, House Democrats on the Ways and Means Committee do have a legislative purpose for their subpoena, and it can be found in testimony the panel received at an oversight hearing the day before they issued their request.
On May 9, the committee listened to officials from the Treasury Department, the Internal Revenue Service (IRS) and the Government Accountability Office (GAO) describe the latest estimated $458 billion “tax gap,” which is the difference between the total estimated taxes owed each year and the taxes paid on time to the IRS.
The tax gap was described as an aggregated estimate by the IRS of underreporting on returns filed; underpayment by filers; and non-filing of required returns involving taxes of individual and corporate income, as well as employment, estate and excise taxes.
“The net ‘tax gap’ is the difference between the amount that is owed by taxpayers and what is paid after taking into consideration the amount that the IRS enforcement efforts bring in and is estimated to average $406 billion per year for Tax Years 2008-2010,” Treasury Inspector General for Tax Administration J. Russell George told the committee.
“In terms of what makes up the tax gap, the underreporting of business income by individual taxpayers – income of sole proprietors, farmers and those earning rental, royalty, partnership, and S Corporation income – is the largest contributor, accounting for $125 billion of the total $458 billion in the 2008-2010 period,” IRS Chief Research and Analytics Officer Benjamin Herndon told the panel.
“Business income reported on Form 1040s is a much lower-visibility income source because it is not often subject to the same information reporting and withholding requirements that exist for salary and wage income,” Herndon said.
A GAO report released May 9, showed estimated annual, unreported income from a category including partnerships and S corporations ran at $22 billion. Another unreported category included rents and royalties, which was put at $20 billion.
Much of Trump’s latest 92-page financial disclosure statement for 2017 listed his ownership of hundreds of partnerships, claiming various amounts of income from them, including rents and royalties.
The GAO found that misreporting of income in these areas was attributed in part to lack of reporting amounts paid to individuals or partnerships, or for rents and royalties being filed with the IRS. “When there is neither withholding nor information reporting, the IRS believes tax compliance is as low as 37 percent,” George said.
He told the committee that new legislation in this area was needed to clarify reporting requirements from those paying income to taxpayers.
The Audit Question
Trump has claimed for three years that he cannot release his tax returns because they are under audit, but Treasury Inspector General George said that “IRS’s audit rate has been decreasing, with 1.11 percent of all returns audited in 2010…and [only] .5 percent in 2016.”
Therefore, a second legislative purpose in seeking Trump’s returns is to see if, in fact, his returns going back to 2009 remain under audit, as he and his attorneys have claimed, and if true, why they remain so at a time when audits have been sharply reduced.
Beyond the question of Trump, the Ways and Means oversight hearing showed how the reduction of funds for the IRS over the past decade has sharply reduced tax-collection operations.
George pointed out that, “IRS examination personnel have decreased 38 percent from 13,138 examiners in FY 2010 to 8,205 examiners in FY 2017.” That caused audits decreasing “from 1.6 million in FY 2013, to 1.1 million in FY 2017.” In addition, “Proposed assessments have steadily declined over the last 10 years, from $44 billion in FY 2007, to $29 billion in FY 2017.”
He also described how costly, individual audits of very wealthy individuals with income from a variety of sources have been reduced, while there has been an increase in computer-driven audits via correspondence of underreported income by poorer taxpayers whose earnings have been provided by third parties to the IRS.
Several Democratic committee members cited, as an example, a ProPublica article that showed the IRS has audited earned income tax credit (EITC) recipients at higher rates than all but the richest Americans. The EITC was created for low- to moderate-income working individuals and couples, particularly those with children. George admitted that of roughly one million audits carried out in 2017, 36 percent were of EITC recipients.
George explained audit by correspondence “is not effective as it relates to people who have very complicated tax return, namely wealthy individuals. The IRS has to be able to provide resources [i.e. examiners] other than a letter to a taxpayer as it relates to higher income returns.”
George also showed that even when it came to auditing so-called high-income taxpayers, for an unknown reason, the IRS applies that label first to those with $200,000 to $399,999 of income, rather than $1 million or more. In fiscal 2013, auditing 62,159 of those taxpayers collected approximately $400 million, George said. In that same year, audits of 6,309 taxpayers with $5 million in income, yielded approximately $880 million in adjustments.
As a result, George said, “We recommended that the IRS revisit the income threshold for what income amounts qualify as high-income and the IRS agreed; however, subsequently, the IRS cited resource constraints as a basis for not increasing the high-income threshold.”
George also disclosed that the IRS back in 2013 decided not to pursue those high-income taxpayers who had applied for an extension to file their 2012 tax returns, but had never subsequently filed any returns. The reason, George said, was “due to resource issues,” meaning lack of funds.
A later study found the IRS failed to identify and address approximately 1.9 million non-filers with expired extensions for 2012 and 2013, who owed more than an estimated $7.4 billion, according to a 2016 report from George’s inspector general office. That foul-up was attributed to programming errors.
Lack of funding also reduced the initiation of criminal tax investigations by almost 50 percent between 2013 and 2018. They dropped from 5,234 in 2013 to 2,88 in 2018, according to George. During those five years, the number of special agents carrying out criminal tax investigations dropped 26 percent.
The Trump administration’s proposed funding increase for IRS in 2020 would do little to solve the problem created in the past five years, George noted.
For example, 2020 increases for full time examination personnel would add 943 people, but more than that number, 984, left in just two years, 2015 and 2016. Since 2012, the IRS has lost 716 criminal investigation special agents and its 2020 budget request proposes hiring only 144 special agents, which will just cover the 140 special agents who left in 2018.
IRS is preparing a new estimate of the tax gap due for release in June or July. That should help the Ways and Means Committee set a legislative agenda for this year and next. Trump’s past tax returns would also be of assistance.
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