Thursday, February 22, 2018
Katherine Pratt (Loyola-L.A.) presents Learning to Live Without Form 1040 at UCLA today as part of its Tax Policy and Public Finance Colloquium Series hosted by Jason Oh and Kirk Stark:
This Article explores the functions served by the annual mass filing of individual income tax returns on Form 1040 and considers the institutional design opportunities presented by the proposed conversion of the “mass” income tax into a “class” income tax. Focusing on Michael Graetz’s Competitive Tax Plan, Part I briefly summarizes proposals that would narrow the scope of the income tax and significantly reduce the number of Form 1040 tax returns filed annually. The prospect of eliminating so many income tax returns raises the question of whether a reduction in Form 1040 filings could have unexpected consequences.
Part II asks: aside from raising revenue, what functions does the mass filing of Form 1040 serve? Larry Zelenak posits certain functions served by the mass filing of Form 1040, including the “warm glow” “fiscal citizenship” function. This Article addresses additional functions that the mass filing of Form 1040 serves.
Taxpayers use the Form 1040 as a de facto income statement to credibly verify their income to third parties. The contexts within which tax returns are used as income statements are ubiquitous and include applications for loans, student financial aid, and leases. Also, income reported on the Form 1040 is used to establish eligibility for means-tested non-tax benefit programs. This Article concludes that third-party information reporting should be retained, even if the mass filing of Form 1040 is eliminated. In addition, using Form 1040 as a de facto income statement is fundamentally flawed. This Article suggests a better approach, the public or private development of a simple, consumer-friendly version of the three basic financial statements: (1) the income statement; (2) the statement of cash flows; and (3) the balance sheet. Substituting these financial statements for Form 1040 would improve the accuracy of financial information provided to third-parties, including commercial entities and administrators of non-tax government benefit programs.
The filing of Form 1040 also serves as the taxpayer’s application for various tax subsidies (Tax Expenditures) administered by the IRS, including the Earned Income Tax Credit. Part III explores the institutional design implications of partial replacement VAT proposals, in particular for existing Tax Expenditures. Mass filing of Form 1040 returns is assumed in the Tax Expenditure literature, including the literature on the institutional design of subsidies. The elimination of 120 million Form 1040s upends this background assumption and prompts reconsideration of the institutional design question regarding Tax Expenditures. This Article concludes that elimination of the mass filing of Form 1040 could provide the catalyst for overhauling Tax Expenditures. This Tax Expenditure overhaul would include repeal, replacement, or reform of ineffective Tax Expenditures. Also, Tax Expenditure reform would take into account the ongoing need to collect data and measure performance of Tax Expenditures and to integrate Tax Expenditure Budget information into the overall presentation of federal budget information. New framework legislation also would be required to restrain Congress from enacting new ineffective Tax Expenditures. Tax Expenditure reform also should include reform and redesign of effective Tax Expenditures, to reduce their taxpayer and administrative costs and improve their performance. For example, reform of the Earned Income Tax Credit presents an opportunity to improve the Earned Income Tax Credit as a wage subsidy and antipoverty program ─ by simplifying eligibility requirements, testing for eligibility ex ante, encouraging savings, and increasing liquidity for Earned Income Tax Credit recipients. A redesigned Earned Income Tax Credit would be structured to create liquid savings (not solely an incremental wage supplement in the form of reduced payroll tax withholding) and better insulate low-income taxpayers from common liquidity shocks that often spiral down into pernicious poverty traps. Part III also discusses Leonard Burman’s proposed Universal Work Credit, which would expand the Earned Income Tax Credit significantly, as well as proposals to replace the Earned Income Tax Credit with a Universal Basic Income subsidy. Part IV concludes.