Does the U.S. Tax Code Encourage ‘Tax Avoidance’?

April 15 has passed and you know what that means:  Somewhere around 140 million taxpayers are hoping they don’t get audited.

Not because they cheated, but because they have no idea if they cheated.

The U.S. tax code is 73,954 pages long, and every single one of them is subject to interpretation. It’s a system that encourages, almost demands, that you be creative. No one – not TurboTax, not H&R Block, not your brother Tim the CPA – even pretends they understand 74,000 pages of gobbledygook, and the IRS knows that.

Nina Olson is the National Taxpayer Advocate for the IRS. She delivers an annual report to Congress outlining problems Americans have with the tax code. This year’s letter essentially said that filing taxes is so difficult, so time consuming and so complex that if taxpayers didn’t cheat, it’s only because they don’t understand the rules well enough to cheat.

Those are my words.

How is Tax Bill Computed?

Here are her words to Congress: “The existing tax code makes compliance difficult, requiring taxpayers to devote excessive time to preparing and filing their returns. It obscures comprehension, leaving many taxpayers unaware how their taxes are computed and what rate of tax they pay.”

I love the “obscures comprehension” part of that statement. But wait, there’s more.

Olson’s report said that the current tax code “facilitates tax avoidance … and provides criminals with opportunities to commit tax fraud … thereby reducing the incentives that honest taxpayers feel to comply.”

I think the English translation for “facilitates tax avoidance” would be that we cheat. The second part is an admission that some people do cheat. The third part says the honest folks have no real incentive not to join the cheaters.

Olson still wasn’t done there.

Her report went on to say that an analysis of IRS data by the Taxpayer Advocate Service (TAS) shows that individuals and businesses spend about 6.1 billion hours a year complying with tax-filing requirements.

“To consume 6.1 billion hours, the ‘tax industry’ requires the equivalent of more than three million full-time workers,” the TAS report says.

So America is spending 6.1 billion hours – the equivalent of 3 million full-time jobs – just to figure out how much we owe Uncle Sam every year.

Is it really any surprise then that so many of us cheat, er, get creative?

Who’s Going to Help?

There is no way around this, at the moment. President Obama and leaders of both parties talk about reforming the tax code all the time. Whenever the subject of federal spending/revenues comes up, there is sure to be a phrase in there that says something about reforming the tax code.

So far, their definition of “reform” has been to add a few thousand more pages. Congress has added about 14,000 pages in the last decade and 34,000 pages over the last 20 years.

So maybe reform is a way out-of-bounds idea that’s never going to happen. Maybe it’s easier to turn to the private sector and seek some kind of reform there. We could ask one of the tax preparation companies to come up with software that examines last year’s tax return and asks each taxpayer where the same information can be found online to do next year’s taxes.

Things like W-2s, 1099s, investment returns, mortgage payments, property taxes, etc. … should be available online. You give the tax software permission to access your account at all these places, they search out the numbers, insert them in the right places and send you a printed return. You examine the numbers and, if you agree they’re accurate, sign it and send it to the IRS.

If some aspects of your situation changes during the year – you sell a house, start a business, go back to school – you could send the information to the tax software company, it updates your permanent file and the game goes on.

You could even hope that if the tax software company gets quarterly updates on your income, it could project what your taxes would be next year so there is no surprise at how much you owe or get as a refund every April.

The wrench in all this would be Congress and the president coming up with a few more “reforms” that add a few pages to the tax code. You might have to get a little more creative before signing off on your next tax statement.

Just don’t get audited.