PrintSeptember 29, 2009
Revenge of the Golden Goose
As taxes increase, and inflation brings bracket creep, expect tax avoidance and outright tax cheating to soar in America. President Obama's "soak-the-rich" economic populism grows increasingly obvious and the initial promise of no tax increases for those earning less than $250,000 is clearly history. Soon-to-arrive inflation guarantees tax bracket creep so today's "middle-class" $200,000 a year family will soon earn a quarter of a million with no jump in spending power while mandatory health insurance enrollment, cap and trade induced higher energy costs, increased regulatory burdens, among other Obama policies, will be new de facto tax increases.
Unfortunately, current debates over these hikes obscure a key fact for those uneasy with Obama's plans: the goose the lays the golden eggs will fight back, and though not a betting man, I'd bet on the goose. It is said that the only certainties in life are death and taxes but there is a third: tax avoidance -- and as Uncle Sam reaches deeper into our pockets, Americans will just say "no." Forget saving the whales; save the goose! And rest assured, it will be saved regardless of what White House cooks have in mind.
There is, of course, nothing new about fleeing taxation, but today's dodging is different, and matters foretell burgeoning avoidance. First, a willingness to pay reflects the government's aim. WW II taxes were crushing, far in excess of today's rates, and yet people paid, even buying low-interest war bonds. Few complain about gasoline taxes for highways or effective schools. But, if the extracted revenue's purpose is repugnant, temptations to cheat multiply.
Why should hard-pressed working folk be forced subsidize insurance for those addicted to unhealthy habits or in the country illegally? Why should taxpayers underwrite costly subsides to reduce America's carbon emissions when China and India only pay lip service to this anyway uncertain crusade? Widespread suspicion that Americans believe that something rotten transpires in Washington is hardly idle speculation. A September 15, 2009 Gallup Poll found that on average half of the respondents believed that the federal government wastes half of every tax dollar. No wonder writing the check on April 15 hurts and this will become even more difficult as Obama's extractive policies come into force.
Second, escaping the taxman is now easier, often almost undetectable, and today's Internet has "democratized" the flight. Tactics once reserved for the rich with their tax attorneys and clever accountants are now accessible to Joe Six-pack and as access expands, IRS enforcement suffers. The IRS can only target the most egregious cheats in the hope of making a few examples to scare the others. The parallel is speeding -- drivers speed when others similarly speed since this reduces the odds of personally being apprehended.
The democratization of tax reduction now even includes those unable to fill out the paperwork. Recall that the recent ACORN furor when "community activists" showed visitors how to manipulate the tax code to hide prostitution profits and treat child prostitutes as "dependents." Is this "help the poor by defrauding the government" mentality ubiquitous among the dozens of other "community activist" organizations? We have no way to know. Further add unscrupulous for-profit "tax consultants" who promise "free government money" for a fee. Though more common in poor neighborhoods, higher unpopular taxes may encourage branch offices in middle class localities (and middle-class taxpayers may reason that if the poor are doing it, why not me, too?).
At the risk of encouraging resistance to Washington's pickpockets, let me highlight a few accessible tactics that will grow as taxes soar to satisfy dubious goals. In a sense, tax cheating becomes a way of promoting limited government.
Most commonplace is the "cash economy." Consumers interested in saving money sometimes patronize businesses where the cash price is notably lower than if the merchandise is paid for by credit card or check. This just put-it-in-the-pocket economy operates at every level, from the initial producer, to the middleman to the final retail seller. Freelance professionals will often offer cash discounts and the Internet's bountiful marketplace is perfect for promoting the tax-free economy. The ancient practice of bartering is tailor-made for the Internet. Just go to Craig's List, Barterco.com, barterdepot.com or tradeaway.com and exchange a few flint spear points for a fur pelt, tax free.
Ironically, as giant corporations shed thousands of jobs, many former employees become self-employed, and absent tax withholding, opportunities for under-reporting income and exaggerating expenses may be irresistible (mandatory insurance coverage can only exacerbate this forced self-employment). Peggy Richardson, the IRS commissioner from 1993 to 1997, estimated that income lost to the government among the self-employed was in the billions and billions range.[1]
A recent MSN "how to" article almost invited upstanding folk to starve Uncle Sam.[2] The author noted that starting a business is a snap, and while the IRS requires profitability in three of five years to qualify as a bona fide business, the requirement can be readily finessed. As far as the courts are concerned, the emphasis is on "business-like" effort, for example, your expertise or time and energy invested (and you can have a full-time job elsewhere). Now, hobbies or sidelines can almost painlessly off-set regular income. So, a backyard hay burner becomes a "horse business" while a business-like passion for collecting baseball cards permits deducting travel and meals when attending card shows. Professors, often champions of big government, have long exploited this opportunity by writing textbooks and deducting home offices, computers, travel, books and whatever else that may, conceivably, help cut taxes.
When we move from the iffy to outright cheating, revenue losses soar. One study published in 2000 offer the minimum figure of $300 billion a year in total tax fraud, and this excludes potential tax revenue not forthcoming from drugs, prostitution and other overtly illegal industries. Calculations of the differences in what individuals report as income versus what businesses report as wages show a discrepancy in the hundreds of billions. Tellingly, the IRS is reluctant to publicize these estimates lest more citizens be emboldened by them. One might even be a conscientious objector in the war on poverty. In 2002 the IRS filed extensive documents in the Tampa Federal District Court claiming that at least 150,000 Americans had filed bogus tax returns the previous year, offering such "explanations" as "taxes are voluntary" or that a slavery reparations tax credit reduced taxes to zero.
According to one professional tax analyst, the Obama administration's infatuation with refundable tax credits further invites widespread tax cheating.[3] Interestingly, this abusive history is well known -- the Earned Income Tax Credit is a perennial problem for the IRS. Proposed tax credits for first-time home buyers, tax credits for child care and partially refundable education tax credits may only expand tax code driven larceny. To add insult to injury, at least for the Obama administration, those who want to save the planet with "green" energy devices may be able to pocket significant cash since these deductions attract scant IRS attention. Perhaps this explains America's new-found enthusiasm for "green" solutions -- it's the green in greenhouse effect.
For more affluent taxpayers there are tax shelters, complex business transaction whose purpose is, at least partially, to reduce taxes. Though legislation has eliminated the most egregious schemes, they still thrive and are perfectly legal.[4] In a nutshell, high income folk can cut their tax rates by more than half by converting regular income into capital gains (and trusts and gift-giving can yet further reduce taxes for the wealthy). What is important for our purposes is that a sudden surge in the unwelcome tax bite will encourage ordinary taxpayers to pursue financial strategies once limited to the wealthier. The model is how mutual funds opened up equities investing to the masses. And while some of these too-good-to-be-true ventures might seduce inexperienced investors, a stampede will inevitably reduce government revenue given the impracticality of widespread enforcement.
Finally, for those determined to keep it all, there is off-shore banking. Its popularity as a safe haven for assets is remarkable. According to the data assembled in Wikipedia, nations considered off-shore tax centers have 1.2% of the world's population but 26% of the world's wealth including 31% of the net profits from US multinational corporations. In 2000 it was estimated that one-third of "high net worth" individuals parked some $6 trillion in these accounts." The Cayman Islands alone is home to $1.9 trillion in US dollar deposits. Even a greatly expanded IRS on steroids could barely scrutinize these assets let alone convince foreign bankers to confess their secrets.
Though usually thought of as favored by dictators and shady billionaires, offshore accounts remarkably accessible to everyone. A simple Google search uncovers multiple sites happy to point potential customers to safe offshore accounts (see, for example, http://www.worldoffshorebanks.com/). And with some 26 nations offering these services, it is a tax dodger shopper's paradise. The nation of Belize is especially anxious to attract this capital (Belize.com) and its website makes shipping funds overseas a no-brainer. Just send the funds electronically and conveniently retrieve then at any ATM. Click, click, click and bye, bye Obama.
The do-it-yourself ease of the "Save the Goose" campaign offers some valuable lessons. First, and most obviously, Obama's extractive populism will founder. Expected tax revenues will fall short, the Treasury will be forced to borrow yet more, and America is will sink into Third World levels of debt.
Second and more serious in the long run, ubiquitous tax cheating may enter the political culture. Once dutiful Americans may soon resemble Italians who see taxes as a cat-and-mouse game where only "little people" pay.
Finally, time and energy formally spent on productive economic activity will be siphoned off into complicated but unproductive tax avoidance schemes. The honorable question -- "Is it profitable?" -- will be replaced by "How can I screw Uncle Sam?" This is change you really can believe in.
[1] Stephen Dubner, "Let's Talk About Tax Cheating: A Freakonomics Quorum," http://freakonomics.blogs.nytimes.com/2009/03/27/tax-quorum/.
[2] Jeff Schnepper, "The Ultimate Tax Shelter: Owning Your Own Business,"http:articles.moneycentral.msn.com/Taxes/TaxShelters/The Ultimate T...
[3] Mark A. Luscombe, "Let's Talk About Tax Cheating: A Freakonomics Quorum," http://freakonomics.blogs.nytimes.com/2009/03/27/tax-quorum/.
