By Pete Sepp
To: The Honorable Steven Mnuchin Secretary, United States Department of the Treasury 1500 Pennsylvania Ave, NW Washington, DC 20220
From: Pete Sepp President National Taxpayers Union 25 Massachusetts Avenue, NW Suite 140 Washington, DC 20001
Re: Docket ID TREAS-DO-2017-0012
Dear Secretary Mnuchin:
On behalf of National Taxpayers Union’s (NTU’s) supporters across the nation, I am honored to submit the following comments in response to the Department’s Review of Regulations pursuant to Executive Orders 13771 and 13777. We commend you and your colleagues for seeking public input on “regulations that can be eliminated, modified, or streamlined in order to reduce burdens.” NTU was founded in 1969 to work for less burdensome taxes, more efficient, accountable government, and stronger rights for all taxpayers. One of NTU’s greatest privileges was having its then-Executive Vice President David Keating named to the National Commission on Restructuring the Internal Revenue Service (Commission) in 1997, a federal panel whose recommendations later became the basis for the most extensive Internal Revenue Service (IRS) overhaul in a generation – the IRS Restructuring and Reform Act of 1998 (RRA ’98). More about our work as a non-profit grassroots organization, and the thousands of members we represent, is available at www.ntu.org.
Although we advocate for many structural changes to the tax system, from the comprehensive to the incremental, one common aspect on which NTU often specifically focuses is the administrability of such proposals. As policymakers define the rates, bases, deductions, credits, and other features of a tax system, what will the practical impact be on taxpayers’ economic lives and their rights?
For more than 15 years, NTU’s research affiliate has explored this question through an annual study that attempts to track trends in tax system complexity and filing burdens. Unfortunately, the results of our latest analysis from April of this year provide a stark reminder that Treasury’s task of reducing the costs of regulations on the economy will require major effort. Even if Congress passes no additional laws, the annual paperwork burden imposed by Treasury is expected to climb in future years. According to the Office of Management and Budget’s Information collection budget from 2015, citizens spent 6.989 billion hours complying with Treasury forms and record-keeping requirements, most of it related to the Internal Revenue Service. The IRS’s approved collection inventory will push this figure past 8.148 billion hours. Using standard Bureau of Labor Statistics’ data for average hourly compensation, plus other data for out-of-pocket expenses, we estimate that the total cost associated with this massive burden would exceed $300 billion.
Reversing this drain on the economy will necessitate broad action across entire categories of rulemaking. The following recommendations start with specific regulations or proposals that commend immediate attention, followed by more general policies that can aid Treasury in this vital endeavor.
Regulatory Reform: Starting Points
Section 385 Earnings Stripping, IRS REG–108060–15
Just two days ago, Treasury and IRS wisely announced that the documentation regulations applying to the previous Administration’s Section 385 earnings stripping rule would be implemented for interests issued or deemed issued on or after January 1, 2019. This provides an additional 12 months of pause in setting the machinery of the underlying rule into motion.
NTU believes that the entire rule, aimed at curbing corporate inversions, should be withdrawn. The past Administration’s attempt, in the fall of 2016, to streamline the initial proposed regulations is in our opinion insufficient to address the uncertainty over massive compliance burdens associated with this edict. In comments submitted over a year ago to the IRS, we noted:
NTU is also concerned that compliance costs could far exceed initial estimates. The Office of Management and Budget [OMB] projected that aggregate compliance costs for all affected businesses would amount to $13 million. This estimate, however, omitted start-up costs [of $30 million] and relied on unrealistic assumptions about labor costs. The true impact will certainly be exponentially higher. Indeed, according to the Business Roundtable, complying with these regulations could require individual companies to expend millions of dollars apiece. In our experience with other tax-related rules, extensive requirements for contemporaneous documentation (as the current regulation envisions) often entail much greater overhead to a business than conventional estimation methodologies can capture.
It is likely that Treasury’s subsequently scaled-back rule would exert less of a strain on the private sector, but the underlying assumptions remain problematic. For example, the government apparently assumed that the compensation for employees who would need to advise companies on compliance with the 385 rule would amount to $18 per hour – an absurdly low figure.
Withdrawing this rule in its entirety now would send a helpful signal to the private sector that regulatory impositions – and their associated deadweight losses – are lightening.
Estate Tax Valuation Discounts, IRS-REG-163113-02, RIN 1545-BB71
As a matter of general policy, NTU supports elimination of the federal estate tax. Owing to the complex nature of this tax and its punitive design, family-owned businesses in particular are too often forced into unproductive estate-planning strategies or worse, tax liabilities whose payment force the business into untenable economic circumstances. However, this particular rulemaking, proposing significant changes in which valuation discounts are applied to family business shares when calculating death tax liability, is administratively onerous. It ignores the legitimate resale dynamics concerning lack of control and marketability due to restrictions or minority status. As with the earnings-stripping rules, NTU observed in comments to the IRS that this proposal received insufficient consideration of its real-world impact:
We therefore note with alarm that Treasury seems to believe that there will be no significant impacts on individuals or businesses owing to the new rule regarding Section 2704. Yet, the proposed changes to Section 2704, and the three year “look back,” would compound the uncertainty created by the death tax. Already, family business owners expend a large amount of time and financial resources in planning for the end-of-life transition of property in order to avoid unnecessary disruption and costs to both family members and employees. Further complicating these scenarios would necessitate an increased diversion of these resources to tax compliance, leaving fewer funds for the capital and personnel investments that benefit our broader economy. Those businesses and individuals left intact by the Section 2704 changes will be on shakier financial ground and less able to absorb or adapt to other losses.
An outpouring of opposition from numerous business owners, accounting professionals, taxpayer groups, and other stakeholders at a public hearing in December of last year appeared to dim the prospects of this rule taking full effect. Treasury should affirm this outcome by withdrawing the rule.
Outsourcing of Examinations, T.D. 9699/T.D. 9778
In 2014, a little-known temporary regulation (finalized last year) expanded the authority of the IRS to retain outside counsel in the course of tax examinations. To NTU, this practice is fraught with danger to the rights of taxpayers, whether as individuals or businesses. Allowing more entities access to confidential tax information only raises the likelihood of additional data security breaches in the future. We also agree with Senate Finance Committee Chairman Hatch’s remarks to IRS Commissioner Koskinen from 2015 that:
The IRS’s hiring of a private contractor to conduct examination of a taxpayer raises concerns because the action: 1) appears to violate federal law and the express will of the Congress; 2) removes taxpayer protections by allowing the performance of inherently government functions by private contractors; and 3) calls into question the IRS’s use of its limited resources.
Legislation has recently been introduced in Congress (HR 3220, the Preserving Taxpayers’ Rights Act) that would curtail this practice by statutory actions. We urge Treasury to clarify the situation by withdrawing the rule now.
Indexing Capital Asset Costs for Inflation
In a limited number of cases, revisions to existing Treasury regulations could lead to economic benefits that outweigh any transitory costs. One such example has a longstanding pedigree.
In 1992, National Taxpayers Union Foundation and the U.S. Chamber Foundation sponsored a lengthy, 90-page legal memorandum authored by Charles J. Cooper, Michael A. Carvin, and Vincent J. Colatriano that contended the Treasury could promulgate a regulation through Sections 1011 and 1012 of the Internal Revenue Code that would provide for indexation of capital gains to inflation for taxable purposes. The authors stated:
[W]e believe that the Treasury has administrative discretion to reinterpret ‘cost’ to take account of the economic reality that a ‘gain’ attributable solely to inflation adds nothing to the taxpayer’s real wealth or purchasing power. The term ‘cost’ is ambiguous and is readily amenable to a construction that takes account of inflation. And in neither the language nor the legislative history of the IRS has Congress clearly and directly addressed the ‘precise issue’ of ‘cost’ or otherwise evidenced an intent to limit its meaning to the original purchase price. … The legislative history of Congress’s consideration of such proposals reveals, if anything, that Congress favors the concept of indexing capital gains.
The authors also asserted that the Treasury’s administrative reinterpretation would likely be “entitled to substantial judicial deference.” Admittedly, Treasury’s assertion of its authority in this area would necessitate a new calculation procedure for taxpayers to follow in declaring asset sale values, considerably increasing some paperwork burdens. Nonetheless, on net the economic impact on tax savings and mobility of capital would be far greater – and more beneficial.
Regulatory Reform: Broad Recommendations
Focus on Key Areas of Complexity
In addition to the regulations identified above, NTU has previously made suggestions for reform in somewhat broader areas of tax law that would still serve Treasury’s current purposes. Many of these concern the small business sector, which tends to bear a disproportionate share of the tax compliance burden.
An examination by Donald DeLuca, et al., published in 2005 by the IRS’s Statistics of Income Division, provides some useful guidance, even though the tax laws have changed since then. In the study, “Measuring the Tax Compliance Burden of Small Business,” DeLuca and his colleagues identified “special characteristics” that increased the time and money small businesses spent in preparing income and employment tax documents. The following factors produced the most acute effects:
Used the accrual accounting method
Had foreign operations
Filed returns in multiple states
Kept records in case of Alternative Minimum Tax (AMT) liabilities
Completed an end-of-year inventory to comply with tax rules
Put depreciable assets into service
Maintained a business mileage log
Among these, having foreign operations presented the most headaches, by boosting time burdens an average of 739 percent and costs by an average of 1,132 percent above overall baselines. According to the 2011 “report card” on the IRS National Taxpayer Advocate’s recommendations to Congress, there are a total of 43 federal tax publications adding up to 1,212 pages pertaining to “U.S. businesses involved in economic activity abroad.” Incredibly, these documents in themselves “refer to other publications comprising 13,346 pages, 1,500 pages of forms, and another 5,018 pages of form instructions.”
Of course, Treasury cannot solve all of these problems on its own, but they provide useful clues for where a few of those solutions could have the most benefit to the economy.
Other areas of law ripe for exploration would include the Affordable Care Act (ACA). In 2015, when some of the health care law’s most cumbersome provisions had been implemented, NTU’s research arm visited the IRS’s special website section devoted to ACA, and determined that the online destination offered 3,322 pages of regulations, Treasury decisions, revenue procedures, and other guidance. While this information was designed for numerous constituencies, small businesspeople were likely left as confused as anyone over the direction that ACA will take in the future.
Provide Early IRS Input into Tax Proposals
The enormity of Treasury’s task in regulatory reform necessitates a longer-term perspective. Unless the Executive Branch consults more closely with Congress to consider administrative complexity closer to one of its primary sources – statutory acts – progress toward simpler, economically sensible rules will be impeded.
NTU can offer numerous perspectives in fostering this consultation, but two suggestions come foremost to mind. Section 4022 (a) of the IRS Restructuring and Reform Act of 1998 (PL 105-206) required the IRS to produce an annual report to Congress on sources of complexity in the administration of the federal tax laws.
According to the Conference Report on RRA ’98:
The IRS is to report to the House Ways and Means Committee and the Senate Finance Committee annually regarding sources of complexity in the administration of the Federal tax laws. Factors the IRS may take into account include: (1) frequently asked questions by taxpayers; (2) common errors made by taxpayers in filling out returns; (3) areas of the law that frequently result in disagreements between taxpayers and the IRS; (4) major areas in which there is no or incomplete published guidance or in which the law is uncertain; (5) areas in which revenue agents make frequent errors in interpreting or applying the law; (6) impact of recent legislation on complexity; (7) information regarding forms, including a listing of IRS forms, the time it takes for taxpayers to complete and review forms, the number of taxpayers who use each form, and how the time required changed as a result of recently enacted legislation; and (8) recommendations for reducing complexity in the administration of the Federal tax system.
The provision was also successful, even though IRS compliance with it was limited. According to the National Taxpayer Advocate of the Internal Revenue Service, the tax agency has issued just two annual reports compliant with the 1998 statute, but in both instances, “Congress adopted legislation to address each area of complexity referenced in the reports, and the IRS addressed the administrative problems they uncovered. Thus, the IRS’s decision to discontinue the reports has likely contributed to tax complexity. The last report was published in 2002.
IRS staff members told the Taxpayer Advocate’s office that since 2002, “resources gradually were transferred to focus on innovative analytics and away from the reports; and more and more of the statistics reported in the complexity report were made available in other ways. The Taxpayer Advocate disagrees with the implications of this statement, and NTU would disagree as well. The purpose of the annual report was to provide a single, working document that would serve as a basis of staff-level exchanges of views – perspectives that could inform tax policymaking going forward. Furthermore, the lack of an annual report deprives outside stakeholder organizations of a valuable reference tool they could use to discuss potential improvements in administration with elected and appointed officials.
In addition, Section 4021 in RRA ’98 contains an important, specific expression of intent: “that the tax-writing committees should hear from front-line technical experts at the IRS during the legislative process with respect to the administrability of pending amendments to the Internal Revenue Code. This is a direct result of the National Commission on Restructuring the IRS’s policy work. The Commission’s final report determined that:
1) Even though the Treasury Department closely follows “interactions and communications between the IRS and Congress” and clearly articulates policy, Congress does not receive “an uncensored view of the administrability of all tax legislative proposals.” 2) Despite being consulted by legislative tax-writers, the IRS “does not have an independent seat at the drafting table and its most knowledgeable technical experts are rarely brought into the process.” 3) Tax-writing committees should as a matter of practice require the IRS “to testify as to the administrability of each [legislative] proposal” when hearings are held.
Therefore, it is clear that much more thought was put into the pedigree of Section 4021 than its brevity would suggest. For this reason NTU remains concerned over a recent determination from the IRS National Taxpayer Advocate that the IRS’s approach toward fulfilling Section 4021 needs improvement. Agency officials told the Taxpayer Advocate that the IRS Office of Legislative Affairs “reaches out to the Legislative Liaisons (LLs) of the various business units when Congress asks for comments on pending legislation. In responding to these inquiries, the LLs solicit input from various levels of IRS, including technical experts. … Legislative Affairs reviews all comments received from the various business units and provides the response to Congress. This procedure, while convenient for coordination purposes, also has the effect of preventing the type of responsive, unfiltered opinions that the Commission and Section 4021 of RRA ’98 envisioned.
NTU concurs with the Taxpayer Advocate’s recommendation that “the IRS establish a process to automatically provide the tax writing committee staff with a list of specific front-line technical experts who can discuss the administrability of pending (or existing) legislation directly with the tax-writing committees, as provided by RRA 98.” The purpose of this directive would not be to interfere with Congress’s policymaking priorities, but rather to provide early guidance on the costs as well as the benefits of new tax policies. Nor would NTU suggest that all tax laws must be written for the convenience of those administering them; rather, given the onus of compliance in our tax system, a provision that is difficult for the IRS to administer is also likely to be doubly painful for taxpayers to comply with and understand. Had this procedure been in place since 1998, we believe that the administrative quality of tax laws would have improved, and the need for subsequent technical corrections would have diminished.
The most important results, however, would be in budgetary savings to the IRS and reduced private-sector compliance costs – a win-win situation for taxpayers.
Measure Tax Compliance Burdens More Accurately
While attempts to assess the impact of U.S. tax compliance burdens on the private sector date back at least 70 years, the estimates of these deadweight losses have varied widely. In a 1984 review of literature for National Tax Journal, economists Joel Slemrod and Nikki Sorum found that most of these studies, focusing narrowly on completing individual tax returns, put the burden at the equivalent of between 1 and 3 percent of total income tax collections. Other studies based on public survey-techniques and wider definitions of compliance (including one by Slemrod and Sorum) ranged from 7 to 11.5 percent.
For its part the IRS considered the only measurable tax compliance burden to be associated with filling out the tax form, until the Paperwork Reduction Act prompted the tax agency to commission a study by Arthur D. Little in 1983. This analysis utilized advanced questionnaires of actual business and individual taxpayers in the IRS’s database, and developed solid data on tax compliance, measured in hours. Subsequent models by Slemrod (with colleagues), the Tax Foundation, Donald DeLuca, and a study by Quantria Strategies for the Small Business Administration (SBA) have all improved upon the Little approach, by refining survey techniques, monetizing the value of time spent completing returns, and aggregating data for business structure, size, and industry.
Yet, the need to constantly refine these methodologies remains vital. For example, however sophisticated the techniques may be for surveying taxpayers in developing time-to-completion estimates for forms, inaccuracies in self-reporting are a constant challenge. In his book, Costly Returns: The Burdens of the U.S. Tax System (ICS Press, 1993), Professor James L. Payne explains the potential “tendency to overlook many types of tax compliance activities when they take place in small, undramatic ways” with the following illustration:
Take the case of the free-lance writer and his postage receipts. It is most unlikely that he will recall and report the time spent asking for a receipt, since it involves an almost negligible ten seconds, let us say. Nor would he recall [the] time it took to go to his filing cabinet, take out the receipt, and put it in the correct folder, which might be another ten seconds. But these small activities add up. If this writer asks for and files 100 receipts a year, he has spent over half an hour on just this activity.
Though such an analogy today would likely apply to activities such as hitting the “send” button on emails, or downloading and archiving receipts electronically, the basic point is the same.
Payne also noted how other discrepancies in the Little study (sometimes applicable to its successors) could lead to underestimated compliance burdens. Respondents were told to not report recordkeeping hours for financial profit and loss statements, though many small business owners told researchers that a primary reason for preparing such information was for tax compliance. Even the act of learning about tax-law requirements isn’t always confined to studying IRS instructions prior to filing a form; numerous additional hours are spent in classrooms, or in personal discussions among professionals and laypeople alike.
We recommend the Treasury work to ensure that the IRS, in cooperation with SBA and other relevant agencies and private-sector experts, routinely undertakes new research initiatives to measure the true burden of the current tax system on individuals and small businesses. This basic information is key to identifying problem areas and developing fitting solutions.
NTU and its supporters are grateful to you, Mr. Secretary, and your colleagues at Treasury in undertaking an examination of burdens associated with the tax system, among them rulemakings, forms, published guidance, and other directives with which taxpayers must contend. We urge you to not only identify near-term opportunities for relief, but also longer-term managerial and structural reforms that can prevent the unwarranted accumulation of compliance costs to the economy in the first place. Toward this end, we are eager to further assist you in your deliberations. Thank you for your consideration of our views.
Sincerely, Pete Sepp President