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Tax Issues

Paper Session

Saturday, Jan. 6, 2024 10:15 AM - 12:15 PM (CST)

Marriott Rivercenter, Conference Room 5
Hosted By: Society of Government Economists
  • Chair: Scott Wentland, U.S. Bureau of Economic Analysis

Underreporting of Business Income on Individual Tax Returns

Gerald Auten
,
U.S. Department of the Treasury
Patrick Langetieg
,
Internal Revenue Service

Abstract

The Inflation Reduction Act provided an additional $80 billion to the IRS intended to help offset the effects of budget reductions of over 20 percent in real terms since 2010. Among the goals of the new IRS Strategic Operating Plan are dramatically improving taxpayer services, increasing the number of audits of wealthy taxpayers and updating outdated IRS computer systems and databases. Audit rates of high-income taxpayers have been declining for many years. As a result, increasing these audits is expected to raise hundreds of billions of dollars to help reduce Federal deficits over time. Since wage, interest and dividend income is subject to information reporting, underreporting rates are quite low. In contrast, underreporting rates are much higher for business income from sole proprietorships, partnerships, S corporations and rental income with much less information reporting. As a result, underreported business income represents a large share of total underreporting on individual tax returns.
This paper presents new information about what can be learned about underreporting of business income as reported on individual income tax returns. Our analysis is based primarily on the detailed audit studies conducted by the IRS, including the 2001 and 2006 through 2013 studies under the NRP program. Among our findings is that while most taxpayers seem to be properly reporting their business income, a small percentage have substantially understated their true income. We also find that underreporting is especially concentrated among taxpayers overstating business losses to reduce their tax liability. We also examine the extent to which underreporting is due to understating revenues or overstating expenses and how underreporting rates vary by industry and by income level. We will also provide a general overview of IRS enforcement efforts that SGE members would likely find informative.

Personal Tax Changes and Household Finances: Evidence from the Tax Cuts and Jobs Act

Mike Zabek
,
Federal Reserve Board
Christine Dobridge
,
Federal Reserve Board
Joanne Hsu
,
University of Michigan

Abstract

We estimate effects of individual income tax cuts on subjective financial well-being and consumer credit outcomes. A plausibly causal design shows that tax cuts in the Tax Cuts and Jobs Act made survey respondents more likely to be ``living comfortably,'' with null effects at lower levels of financial well-being. Respondents were also more likely to own their homes and less likely to have student debt after the tax cuts. Estimates from a similar design using credit bureau data show that people who had larger tax cuts were more likely to open new accounts, more likely to have higher consumer credit balances, and less likely to have a delinquency. Tax cuts had precisely estimated effects on credit scores that are indistinguishable from zero. Results suggest that tax cuts improve financial well-being in ways not fully proxied by expenditures.

Married... with Children?: Assessing Alignment between Tax Units and Survey Households

Matthew Unrath
,
U.S. Census Bureau

Abstract

To produce its official post-tax income and Supplemental Poverty Measure (SPM) statistics, the Census Bureau uses an in-house tax model to estimate households’ tax liabilities. This paper assesses the accuracy of the first stage of this tax model: the construction of likely tax units from the person-level Current Population Survey Annual Social and Economic Supplement (CPS ASEC) file. I compare the composition of those tax units to actual 1040 rosters. I document non-trivial disagreement between CPS ASEC tax units and 1040 rosters. Less than 60 percent of CPS ASEC tax units are exactly reflected on their counterpart 1040 return. Among CPS ASEC tax units in which the tax unit head can be matched to a 1040, over 30 percent were assigned a different filing status than what’s listed on their 1040, and more than 20 percent were assigned a different number of dependents than the number claimed on the tax unit head’s actual return. Among CPS ASEC children who can be matched to a 1040, 13 percent were claimed by someone other than whom the CPS ASEC tax model predicted would claim them. Non-claiming and misassignment are more common among lower-income households. I also identify the impact of dependent misassignment on Census’s estimates of after-tax income and poverty statistics.

This project promises to make several important contributions. First, this paper contributes to a growing body of work that uses administrative records to assess the accuracy of survey-based income and poverty estimates. Second, I document how outputs from tax models are sensitive to how researchers construct tax units from household surveys or other sources, a common step in much applied work. Third, this paper provides nuance to oft-cited estimates of tax credit non-compliance and non-participation.

The Distributional Implications of Growing Electrical Vehicle Use

Kalee E. Burns
,
U.S. Census Bureau
Julie L. Hotchkiss
,
Federal Reserve Bank of Atlanta

Abstract

This paper examines the distribution of the gasoline tax burden in the presence of increased electric vehicle (EV) adoption. Automobile manufacturers and some states have ambitious goals to phase out gas-powered cars. In spite of these plans, the primary source of automobile infrastructure funding in the U.S. continues to be through gasoline taxes. Less demand for gasoline threatens this source of revenue for maintaining roads and further shifts the burden of the tax toward consumers who can't afford the still relatively expensive EVs. The analysis illustrates the fundamental regressivity of the gasoline tax, then simulates the distributional impact of replacing the current gas tax with a lump-sum/income tax with different assessment rules designed to replace revenue generated by the gasoline tax. For example, many states are considering switching from a gas tax to a tax based on miles driven to shore up infrastructure funding. The degree of regressivity of replacing the gasoline tax depends on how the tax is assessed across the income distribution.

The empirical analysis primarily uses the Consumer Expenditure Survey to estimate expenditure share equations derived from a linear Almost Ideal Demand System to obtain price elasticities of demand for gasoline by family income quartile. The elasticities are then used to estimate changes in consumer surplus from various strategies designed to raise enough revenue to account for infrastructure externalities. These simulations are performed under the current consumption of gasoline and then in an environment of increased EV adoption.

We find, like others, that the gasoline tax is highly regressive, with lower-income households bearing a greater burden, as a share of their income, than wealthier households. The regressivity is even greater in a world where some families in each quartile adopt an EV, largely because the share of families owning EVs is expected to increase in income. Among

Discussant(s)
Marina Gindelsky
,
Bureau of Economic Analysis
Adrienne DiTommaso
,
U.S. Census Bureau
Derek Wu
,
University of Virginia
Jeremy Moulton
,
University of North Carolina-Chapel Hill
JEL Classifications
  • H2 - Taxation, Subsidies, and Revenue
  • I3 - Welfare, Well-Being, and Poverty