Paul L. Caron

Monday, April 11, 2011

Why Do People Cheat on Their Taxes?

CNBC, Why Do People Cheat on Their Taxes?, by Stuart P. Green (Rutgers-Newark):

Benjamin Franklin famously remarked that nothing in this world is certain but death and taxes. But what would Franklin have said about the tax gap, the difference between the amount of tax due to the federal government and the amount taxpayers actually pay?

This year it’s likely to approach $300 billion, or nearly 15% of federal revenues. All told, as many as 30% to 40% of Americans won’t pay all of the taxes they owe in 2011. ...

Much of the gap is the result of good faith mistakes by taxpayers — no surprise given the mind-numbing complexity of the tax code. But some significant part of the disparity is the result of intentional  evasion, non-payment, or underpayment. The question is why.  Why are so many Americans willfully and flagrantly violating our tax laws?

The issue is a complex one, but a few key factors can be identified. One is that the norms associated with the duty to pay taxes are surprisingly weak. ... In the case of paying taxes, lots of people apparently believe it’s not morally wrong to fail to pay what’s owed. Suspicion of taxes is deeply rooted in our national psyche, going back to the Boston Tea Party of 1773 and the Whiskey Rebellion of the early 1790s.

In the current political climate, taxes have been so demonized that many citizens regard taxation itself as wrongful. And if people believe that taxation itself is wrongful, then it would seem to follow that such people would also believe that the failure to pay taxes is not wrongful.

There is also a widespread belief among many citizens that others in the community — both their neighbors and their leaders — are failing to pay the taxes they owe. ... If people really believe that “everyone else is doing it” – that everyone else is failing to pay the taxes they owe — it’s no wonder they think it’s okay for them to do the same thing.

Many also believe that the tax code is unfair and that tax revenues are being used for unwise purposes. ... In such an environment, it’s not surprising that some people would believe that non- or under-payment of taxes is not only not wrongful, but is actually justified.

Perhaps the most significant factor that explains the yawning breadth of the tax gap, however, is that our system of enforcing the tax laws is inadequate and uneven. According to the IRS’s Citizen Oversight Board, the agency is so understaffed and underfunded that it simply can’t keep pace with increases in tax evasion. Less than 2% of all returns are ever audited, and only a tiny fraction of tax evaders are ever subject to criminal investigation or prosecution.

As we face yet another April 15 deadline, we should resolve to create a tax system that is fair enough both in its substance and in its enforcement that more citizens will feel an obligation to pay their taxes.

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People cheat on their taxes for the same reason that people cheat their creditors generally.

To appreciate this basic truth, consider the fact that over 90 percent of all litigated federal tax disputes get litigated in the bankruptcy courts. Think about that.

Posted by: Jake | Apr 12, 2011 4:07:01 PM

Congress cheats taxpayers routinely:

-child credit phase-out
-personal exemption phase-out
-itemized deduction phase-out
-education credit phase-out
-IRA deduction phase-out
-many other phase-outs
-tax liability based on gross income rather than so-called taxable income (most of the above are examples)

Sneaky laws promote sneaky responses.

Posted by: AMTbuff | Apr 12, 2011 10:10:04 AM

The arbitrary hit that caused me to consider "fudging" (but only to the extent of my loss) was my too-late realization that using a 401k to pay tuition directly causes a 10% penalty, whereas merely rolling it to an IRA first (even a day) would have avoided the penalty. I wouldn't have thought in a million years there would be any difference in the two. Another thing that really bugs me are temporary credits. I feel like I am always doing things like buying a house or paying tuition before the next guy down the line gets a handout for the same thing. It frustrates me more to think that the government sanctions the arbitrariness versus someone actually defrauding the govt. At least with the latter I can hope for justice to be served.

Posted by: Matt | Apr 12, 2011 9:41:59 AM

It would be interesting to see verified "tax cheats" categorized by income and/or wealth level.

Y'know, to find out if it's true or false that only the "little people" pay taxes....

Posted by: ColoComment | Apr 12, 2011 9:40:50 AM

John Kerry - no penalty

Daschle - no penalty

Turbotax Geitner - no penalty

and those were just off the top of my head.

Posted by: Sandy P | Apr 12, 2011 7:09:50 AM