With the close of the tax season, the complexities of our federal tax code have been the subject of much debate from tax rates to deductions and exemptions. Within the next year Congress will likely debate wholesale tax reform, regardless of the outcome of the elections this fall.
Most everyone can argue the deficiencies of our tax code, but these complaints are again being used to pursue a new system in which taxpayers would be supplied pre-filled forms and a bill every year, instead of preparing their own returns. Such a system would result in an unprecedented expansion of power by the Internal Revenue Service and lead to more complicated -- instead of streamlined -- tax preparation.
Ultimately, the tax collector becoming the tax preparer creates a huge conflict of interest. The job of the IRS is to maximize and collect revenue. So it would be incentivized to inform taxpayers of as few deductions and tax credits as possible, and taxpayers who receive their annual bill from the IRS would probably not notice what deductions or credits are missing.
In 2010, CCIA commissioned a study ("The Benefits and Costs of Implementing 'Return-Free' Tax Filing in the U.S.") on this issue, which found that eligibility and participation rates would be lower than what proponents had estimated, that implementation costs would be significant, and that there is no evidence it would reduce under-reporting or the tax gap.
The IRS would not be the first to engineer a system that prepares its own taxpayers' returns. The failures of similar models at the state level and internationally provide a warning about its pitfalls compared to our current voluntary compliance model. California attempted a pilot program in 2005, and with one week to go before this year's filing deadline, only 60,000 eligible taxpayers used it to file. Last year, only 83,000 taxpayers entrusted the state to fill out their taxes -- out of an estimated two million total eligible. This expensive experiment has only reinforced that Americans actually prefer to prepare their own taxes instead of relying on the tax collector to do it for them.
Great Britain has a similar system called "Pay As You Earn" (PAYE), which has been widely ridiculed for its many blunders and inefficiencies. In September 2010, it was reported that nearly six million British taxpayers had paid the incorrect amount of tax as a result of their government's miscalculations. The outcome: 1.4 million people had to pay back the Treasury an average of (US) $2,200 each, through no fault of their own. Those underpaid on their refund, which happened to include a huge elderly population, may never be reimbursed. Imagine this scenario in the U.S., where IRS errors are commonplace. The Government Accountability Office found that the IRS answers one out of every four tax questions incorrectly.
Additionally, the IRS -- like most government bureaucracies -- is not exactly known for using cutting-edge technology. This raises concerns for all Americans as to whether to trust the government to use all their personal information to prepare a tax return.
Even if the IRS could update their technology -- which would take years to migrate at a cost of tens if not hundreds of millions of dollars -- we may not want to entrust one agency with so much data. This applies especially to the IRS, whose privacy and security record is spotty. In a March 2012 report, the GAO said it did not believe the IRS was prepared to ensure taxpayer privacy.
If the IRS were to prepare tax returns, small businesses and people in lower income brackets would be the hardest hit. Under previous proposals, lower income brackets would first enter the new system as a pilot project. If these taxpayers are provided with wrong information, they would be the least equipped to fight back. According to a report from the Technology Policy Institute, Robert Greenstein of the Center on Budget and Policy Priorities found that, "low-income filers and those with English as a second language may be particularly intimidated by official IRS documents and thereby disadvantaged in a return-free system."
New mechanisms to more easily track taxpayers and their wages would also be needed. The IRS has proposed a "Real-Time Tax System" to address this issue, which would ultimately hit small businesses with onerous reporting requirements, shortening the processing period of W-2's and 1099's from three months to one month. Just last year, a bipartisan Congress repealed 1099 reporting requirements that were included in the Affordable Care Act, a move supported by the president and Small Business Administration, for this very same reason.
Contrary to the IRS' denials, the Real-Time Tax System is the first step in building the technology to prepare people's tax returns on IRS computers. Both of these proposals would be prohibitively expensive with a devastating impact on Americans that have grown accustomed to preparing their own taxes -- without government interference.
Reforming the tax code may be an inevitable undertaking, but in the process, we should not be handing even more power over to the IRS. It is our right as Americans to pay the least amount of taxes that is required by law. If the IRS starts preparing our taxes for us, that right will cease to exist. Even with its flaws, Americans would most certainly prefer our current tax filing system over putting their faith in the IRS to fairly do it for them.