The Number One Tax Reform
Joseph J. Thorndike is a contributing editor with Tax Analysts. E-mail: Joe_Thorndike@tax.org.
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Taxes should be uncomfortable. Not especially painful, mind you — just a bit irritating. Enough to make you pay attention. Modest discomfort is an element of citizenship, reminding voters of the price they pay (thank you, Justice Holmes) for civilized society.
But discomfort doesn't have to be scary. Or confusing. And the tax system we have today is both.
Enter John Edwards, former senator from North Carolina and current contender for the Democratic presidential nomination. Earlier this month, Edwards offered his "Form 1" proposal to revamp the tax return filing process. If Edwards gets his way, the IRS will calculate the tax liability of some 50 million Americans using information returns submitted by employers and financial institutions. The agency would then send each of those taxpayers a completed return that they could sign, amend, or ignore (the last option available for anyone preferring to slog it out for himself using software, a paid preparer, or good old paper and pencil). (For news coverage of Edwards's tax plan, see p. 215.)
It's a great idea, with two cardinal virtues. First, it ameliorates some of the most unpleasant qualities of the income tax, at least for many Americans. And second, it does so without sacrificing tax consciousness. In other words, it leaves people just a bit uncomfortable, but spares them a lot of unnecessary pain.
The Form 1 proposal would help only taxpayers with simple returns. Anyone looking to claim specific deductions or to report lots of nonwage income would be forced into the more traditional filing system. But even those folks would get the benefit of a consolidated information report.
Stanford Law Prof. Joe Bankman has championed a similar program — known as ReadyReturn — for state taxes in California. In making a presentation to President Bush's tax reform panel, he made an obvious but often overlooked point: "Economists measure costs as a function of time and money," he told the panel, "but can't measure anxiety, frustration, and anger." Yet those are the emotions that seem to dominate the annual filing ritual.
For many of us, April is the season of our insecurity. Bankman noted some of the questions that plague taxpayers as they sit down to fill out their returns: "What's a W-2? 1099? Should I hire a preparer? Which preparer? File myself? Which return? Have I saved all the records? Understood the form? Copied numbers correctly? Done the math right?" (For Bankman's presentation to the panel, see Doc 2005-10779 or 2005 TNT 95-50.)
Having the IRS prepare your return would make those questions obsolete. But it wouldn't require us to sacrifice the principle of tax consciousness. Every taxpayer would still face a moment of reckoning, even if he didn't do the reckoning himself.
IRS-prepared returns might even be able to enhance tax consciousness. The IRS could add important data not readily available to those filling out their own forms, such as marginal and average tax rates or the total amount of payroll taxes paid. They might even offer some aggregate statistical data, giving taxpayers a broader context for their own financial sacrifice.
Simplifying the filing process would have a third, indirect virtue: It would deflate some of the more specious arguments for alternatives to the income tax. Proponents of the flat tax and the national retail sales tax like to exaggerate the inherent complexity of the income tax. A system of agency-prepared returns would force advocates of tax replacement to make their case without using the income tax as a straw man. For many millions of Americans, the income tax could be plenty simple.
To be sure, there are aspects of the Edwards plan that won't sit well with many Americans. The conservative blogosphere is filled with complaints that Edwards's plan would deliver the keys to the henhouse into the hands of a greedy fox. But of course, the fox already has the keys — that's the whole point.
More telling, I think, is the possibility that this sort of filing system might actually encourage a certain amount of tax evasion. As a commentator for the National Review's election blog, "The Hillary Spot," observed, "[I]t would create another huge incentive to do things 'off the books.' Selling something? Don't report the income to the IRS, because you'll not only have to pay taxes on it, you'll lose your status as a free- preparation taxpayer."
Perhaps. But it might be worth the risk, at least for anyone eager to preserve the income tax from its worst enemies.
And those enemies, by the way, may include the IRS. One of the best things about Edwards's plan is the name: Form 1. Why on God's green earth is the basic individual income tax form called Form 1040? The number implies the existence of a lot of other forms, and all by itself it manages to make the tax system seem big, overpowering, and complex. Should I, the average taxpayer, be worried about 1,039 other forms?
The tax return has been saddled with that name since 1913. According to an IRS spokesperson, 1040 was "simply the next available number in a series of old bureau form numbers." That sounds a bit dubious to me, but in any case, the history doesn't matter (that's the last time I will ever make that statement in this magazine). What's amazing is that the IRS has clung to that name for almost a century.
Somebody needs to give those guys a lesson in marketing.