More bank data can fight tax evasion

The IRS chief believes that more rigorous disclosures from the country’s banks could help close a yawning tax gap and claw back billions of revenue owed.

In a letter viewed by CNBC, IRS Commissioner Charles Rettig told Senator Elizabeth Warren, D-Mass., That relying on banks to communicate basic information about deposits and withdrawals of their clients could significantly reduce annual tax evasion.

A source has provided CNBC with access to the letter, which is expected to be released on Thursday. The source disclosed its content on condition of anonymity.

The IRS chief told Warren in Friday’s letter that years of budget cuts have prevented the agency from prosecuting those who do not pay their fair share of federal taxes.

“Every measure important to effective tax administration has suffered tremendously,” Rettig wrote, referring to years of budget cuts.

However, President Joe Biden’s U.S. Plan for Families and the bipartisan infrastructure deal “would result in significant volumes of new data regarding financial transactions,” said Rettig, a holdover from the Trump administration. “The new data will provide the IRS with a perspective on otherwise opaque revenue streams with historically lower levels of reporting accuracy.”

Specifically, Rettig touted a provision in the U.S. Plan for Families that seeks to narrow the tax gap by forcing banks to report their customers’ withdrawals and deposits instead of relying on the taxpayers themselves. The tax gap is the difference between taxes paid and taxes owed by law.

Rettig noted that for every 1% improvement in tax compliance, annual federal revenues are expected to increase by about $ 30 billion per year. Overall tax compliance – defined as voluntary, precise, and on-time – is estimated by the IRS to be between 82% and 84%.

The senses. Bernie Sanders, I-Vt., And Sheldon Whitehouse, DR.I., joined Warren last month to demand that the IRS and its commissioner present a detailed report on how a better app could help generate billions for the federal government in taxes owed.

“This new information from the IRS makes it clear that unless there is a significant increase in IRS funding, wealthy tax evaders and large corporations will be able to continue to avoid paying their fair share to the tune of billions of dollars a year. while everyone is suffering from it, ”Warren said. said of Rettig’s response letter. “This is why the leadership of Congress must include in the budget reconciliation package significant multi-year funding for the IRS to strengthen enforcement and generate billions in additional revenue each year.”

IRS analysis “makes it clear that we need new reporting requirements to improve tax compliance among wealthier Americans and reduce the burden on honest taxpayers,” she added. .

At the heart of Rettig’s argument is a simple behavioral problem: few people like to pay income taxes.

This statement is probably even more relevant to Americans with annual incomes over $ 1 million. These high-income earners are required to remit a higher percentage of their income to the IRS and therefore have a greater incentive to find ways to bypass the IRS.

The banking industry, which would bear the burden of sending more data to the U.S. government, protested the provision in May.

In their spring letter, the American Bankers Association, Bank Policy Institute, Consumer Bankers Association and others argued that “the new reporting requirements for financial institutions would impose unnecessary costs and complexity. by the potential benefits and very uncertain. “

“In addition,” added the trade groups, “we believe that additional reporting requirements guided by subjective criteria have confidentiality and fairness implications and may put financial institutions in an untenable position with their holders. account”.

The collective suggested that financial institutions’ reports are “already strong” and that providing more funding for audits would be a more efficient and fairer approach.

To complicate matters for the budget-strapped IRS is the fact that wealthy earners tend to have access to a variety of ways to obscure the true value of their income or to have more complicated tax returns. A business owner’s tax return, for example, is much more complicated than that of an employee whose hourly or annual salary can be verified by third-party reports.

While specific disclosure requirements would ultimately be developed by the Treasury Department, they could inform the IRS of the size and frequency of deposits and withdrawals from these accounts.

On the bright side, if the tax gap is caused by human error – honest or intentional error – more communication between U.S. banks and the IRS could alleviate the problem.

Right now, anyone who earns $ 10 or more in interest on an account at a U.S. bank, brokerage firm, or mutual fund is required by law to notify the IRS of those earnings. This document is called a 1099-INT form.

If the banks themselves are required to provide the IRS with information about their customers’ deposits and withdrawals, those customers may be more likely to complete their returns accurately. And, if not, the IRS would now be armed with information to prosecute those who are not honest.

That, Rettig says, could mean a big win for the tax collector.

“Taxpayers are more likely to be compliant when they know the IRS has the information it needs to prosecute them if they don’t meet their tax obligations,” the IRS chief told Warren. “Our research shows that compliance is as low as 45% when income is subject to little or no reporting or withholding tax. When there is a substantial information statement, compliance exceeds 95%.

Using banks to crack down on unreported income would likely be just one step in closing the gap. Just knowing how much money is flowing in an account doesn’t necessarily alert the IRS to unreported income. People can receive tax-free gifts or spend on deductible business expenses, which the collector should take into account.

Nonetheless, the benefits of going ahead with the provision may outweigh the hurdles.

This fact is not lost on some of the country’s most prestigious economic authorities. Former Treasury Secretaries Tim Geithner, Jacob Lew, Henry Paulson Jr., Robert Rubin, and Lawrence Summers all defended President Joe Biden’s efforts in a recent New York Times op-ed.

“Relying on financial institutions to relay some basic information about account holders is a smart move,” they wrote in June, after the White House released the US plan for families. “With better information for the IRS, voluntary compliance will increase through deterrence, as potential tax evaders will realize that there is a risk of evasion.”

The IRS letter also noted that the wealthiest taxpayers are also the most likely to have accounts at international banks that may not provide U.S. regulators with regular access or adhere to the same standards.

“Increased technology funding is essential to tie offshore assets to their beneficial owners and to detect possible non-compliance,” Rettig wrote. Additional resources will allow the IRS to create “analytical systems that use reporting to detect unreported income and identify when account holders or foreign financial institutions may engage in non-compliant or fraudulent behavior.” .

Advocating for additional funds, Rettig reiterated the need to modernize IRS technology not only to fend off “increasingly sophisticated cybersecurity attacks” but to increase agency speed, reduce errors and enable operations. to continue throughout the day instead of relying on staff availability.

Years of budget and staffing cuts have left the IRS with about 74,000 full-time employees, a level not seen since 1973. But the challenges the agency faces, especially in the past 16 months, haven’t have only grown, Rettig said.

There may be no better way to document the request for IRS services than the number of customer service phone calls. In 2021 alone, the IRS received more than 199 million calls, about 400% more than what the agency receives in an average calendar year.

The agency responded to nearly 50 million such calls between live “assistants” and automated providers. The IRS received 42 million calls in 2018, 40 million calls in 2019 and 55 million calls in 2020, according to Rettig’s letter.

In total, such corrections could over time generate hundreds of billions of owed revenue.

The Treasury Department’s own analysis shows that efforts to close the tax gap will generate $ 700 billion in additional tax revenue in the first 10 years of budget relief and an additional $ 1.6 trillion in the second decade. .