As policymakers work to offset $3.5 trillion or more of new spending and tax breaks, everything must be on the table: tax increases, spending cuts, shrinking the size of the bill — everything.
But there is one obvious way to help fund the package that won’t raise anyone’s taxes, won’t shrink any spending programs and has an at least 40-year history of bipartisan support. It’s called closing the tax gap.
The tax gap is the difference between the taxes people and businesses owe and how much they actually pay. That amount is massive — about 15 percent of all taxes paid, which comes to $7 trillion over the next decade. A lot of this gap results from honest mistakes due to an overly complicated tax code. But some is egregious tax cheating and outright fraud.
To put that in context, $7 trillion is enough to pay for the whole reconciliation bill and stabilize our national debt at its current level relative to the size of the economy. It’s more than the federal government spends on Medicaid and the Affordable Care Act. And it’s more than all the taxes we’ll raise from corporations, estates, excise taxes and tariffs combined.
The 2019 gap of $554 billion is more than the total gross revenue of Walmart, Amazon, Apple or Exxon-Mobil, and more than the entire 2019 GDP of Sweden, Thailand, New Zealand or Argentina.
To be clear, there is no way to eliminate the tax gap in full or raise anywhere close to $7 trillion. Realistically, we can probably reduce the tax gap by a fraction of the whole.
But it’s still worth it. Shrinking the tax gap by enforcing tax laws already on the books is not a tax increase; it’s a way to improve efficiency and fairness of our tax system and raises revenue by getting people to pay the taxes they already owe. It is the most sensible starting point in collecting more revenue.
The first step is appropriately funding the Internal Revenue Service (IRS) so it can hire more agents, modernize IT systems, improve customer service and better target audits and enforcement activities to those most likely underpaying their taxes. The reconciliation bill in the House includes about $80 billion of IRS funding over the next decade — enough to generate $200 billion or more of revenue. This is one spending increase that actually does pay for itself.
The next step is to improve reporting rules. Roughly 98 percent of taxes owed on income subject to substantial reporting requirements gets paid, including 99 percent of taxes that are withheld, according to the IRS. But the compliance rate falls to 83 percent for income subject to only some reporting, and 45 percent for income subject to no reporting requirements.
The bipartisan infrastructure bill already takes some important steps in this direction by applying current reporting rules to cryptocurrency. But policymakers should go further by considering President Biden’s proposal to require better reporting of financial holdings.
Additional reforms to improve withholding rules, give the IRS new authorities, increase oversight of tax preparers, clarify various provisions of the tax code, increase penalties for fraud and close egregious tax loopholes can help further.
While many of these ideas were included in Biden’s budget, narrowing the tax gap has a long history of bipartisan support.
Every president from Ronald Reagan to Donald Trump has proposed policies to reduce the tax gap, and most have included increased IRS funding in those proposals. Meanwhile, former Treasury secretaries and IRS commissioners from both parties continue to push for these efforts.
American taxpayers are supportive of these efforts by a wide margin as well. In its annual Data Book, the IRS recently reported that 94 percent of people agreed that it is every American’s civic duty to pay their taxes. Further, 87 percent say it is unacceptable for anyone to cheat on their taxes. A recent poll from the University of Maryland found that two-thirds of voters supports increasing the IRS budget to better enforce tax compliance.
With the national debt headed towards a new record, policymakers are going to be forced to make increasingly tough choices in terms of what spending to cut and which taxes to increase. Closing the tax gap is not one of those hard choices, but rather one of the few, true no-brainers left. Honest, hardworking Americans who play by the rules should not be made to carry water for those who don’t.
Maya MacGuineas is president of the bipartisan Committee for a Responsible Federal Budget.