The U.S. Treasury put out a fact sheet this week that seeks to provide clarity on its proposed tax compliance reform initiative and its financial reporting requirements.
In it, the Treasury seeks to answer how the financial reporting proposal will work and clear up misinformation about it.
“Financial institutions and banks will add just two additional numbers to the information that they already supply to taxpayers and the IRS: the total amount of funds deposited into the account and the total amount withdrawn over the course of a year. The scope of this information sharing is extremely limited. Banks will not share with the IRS any information to track individual transactions under this proposal, and the IRS will have no ability to track individual transactions,” Treasury officials wrote.
Treasury officials say the rationale for this reform is so the IRS can use this additional aggregate information to focus its enforcement efforts on wealthy tax evaders, adding that it will improve their ability to identify tax evasion and decrease audits of compliant taxpayers.
Treasury officials said that rates of tax compliance are based largely on how taxpayers accrue income. Those who receive their income that is reported on by a third-party source, such as wage earners, exhibit near-perfect compliance rates. On the other hand, taxpayers who make money in hard-to-trace ways have far lower rates of compliance, as there is no third-party source that reports income to tax authorities.
“Instead, these taxpayers take advantage of the fact that certain income streams are hidden from the IRS, with no information that the IRS can use to detect noncompliance,” Treasury officials said.
This has led to a two-tiered system, Treasury said, where taxes are mandatory for wage earners and beneficiaries of federal programs — like Social Security recipients — while others have far more discretion over whether they pay their taxes. Ultimately, low- and middle-income taxpayers have higher rates of compliance, while upper-income taxpayers likely have higher rates of evasion.
The Treasury estimates that the cost of tax evasion among the top 1 percent of taxpayers exceeds $160 billion a year.
To close this gap, Treasury officials say the IRS needs the resources and information, which this new compliance proposal seeks to provide. Part of the investment involves hiring enforcement agents who are trained to pursue tax evasion by upper-income taxpayers. Audit rates will not rise for taxpayers making under $400,000 a year.
Congress reviewed this proposed tax compliance reform and had concerns about its scope, so it carved out an exemption for wage and salary earners and federal program beneficiaries from the reporting structure.
In the fact sheet, Treasury also addressed widespread mischaracterization” of the proposal. One misconception is that banks will have to report individual transactions to the IRS.
“To be clear: The financial reporting proposal does not include reporting on individual transactions of any amount. Instead, banks would add two additional data points to the information that is already supplied to tax the IRS: how much money went into the account over the course of the year, and how much came out,” Treasury stated.
A second misconception is that all Americans will be under greater IRS scrutiny. The reality is, stated Treasury officials, is that every bank account that earns at least $10 in interest is already reported on to the IRS. Further, much more detailed information reporting already exists on wage, salary, and investment income.
“There is nothing novel about the scope of the information reported to the IRS. The only difference is the group of taxpayers that it is extended to, as this reporting would serve to eliminate the existing disparity between American workers, whose income is already reported on the IRS; and disproportionately wealthy individuals who earn income in ways not visible to the IRS, and thus, are easily able to evade,” Treasury officials said.
Treasury added that under the current proposal, financial accounts with money flowing in and out that totals less than $10,000 annually are not subject to any additional reporting.
Another misconception is that this will create new burdens for taxpayers and financial institutions.
“All that will happen from a compliant taxpayer’s perspective is receiving two additional data points from their bank and a lower likelihood of a costly audit. And leading banking experts have stated publicly that the reporting regime under consideration would be simple to enact and virtually cost-free for banks,” Treasury officials said.