Just the Basics: Tax Expenditures

April 10, 2014 at 3:00 pm

Tax expenditures — subsidies delivered through the tax code as deductions, exclusions, and other tax preferences — have been in the news as many policymakers have proposed cutting them to reduce the deficit, finance investments, reduce tax rates, or a combination of those goals.  As Tax Day approaches, we’ve updated several backgrounders that explain how the federal government and states collect and spend tax dollars.  Today, we review our revised tax expenditures backgrounder.

Tax expenditures reduce the amount of tax that households or corporations owe.  To benefit from a tax expenditure, a taxpayer must undertake certain actions or meet certain criteria.  For example, some households with a mortgage can reduce their taxes by claiming a tax deduction for their mortgage interest, and corporations can receive a tax subsidy for investing in machinery.

In fiscal year 2013, tax expenditures reduced federal income tax revenue by over $1.1 trillion, and they reduced payroll taxes and other revenues by an additional $120 billion.  For comparison, just the federal income tax expenditures together cost more than Social Security, or the combined cost of Medicare and Medicaid, or defense or non-defense discretionary spending (see chart).

Click here to read the full paper.  For more on how deductions and credits work, see our related Policy Basics:  Tax Exemptions, Deductions, and Credits.

Senate Witness Misrepresents IRS Certification and Training for Tax Preparers

April 10, 2014 at 2:35 pm

Legitimate disagreement in policy debates is part of what democracy is all about.  Gross misrepresentation is not.  And it’s particularly inappropriate when it comes before a congressional committee.

Yet that’s what occurred Tuesday when Dan Alban, a lawyer at a libertarian legal institute who brought the lawsuit that bars the IRS from attempting to rein in incompetent or unscrupulous tax preparers, testified before the Senate Finance Committee.  Alban repeated his falsehoods in a Washington Times column Wednesday morning.

Alban was trying to counter striking IRS data showing very high error rates on tax returns claiming the Earned Income Tax Credit (EITC) that were prepared by preparers who are neither certified (they’re not lawyers, CPAs, enrolled agents, or the like) nor affiliated with a national tax preparation chain.  Such preparers handle 43 percent of all commercially prepared tax returns claiming the EITC.  As the IRS National Taxpayer Advocate Nina Olson has reported, nearly half (49 percent) of the returns they prepared had errors that averaged 33 percent of the amount claimed.

The IRS has sought to require training and competency tests for commercial preparers, but Alban’s lawsuit convinced the courts to cripple the IRS initiative on the grounds that Congress hadn’t given the IRS the authority to do it.  The court ruling thus poses a question for Congress:  should it give the IRS this authority in order to protect the federal Treasury as well as tax filers?  At Tuesday’s hearing and in his Washington Times piece, Alban insisted it should not.

One of his prime arguments he advanced in his testimony is that “… licensing and IRS-mandated training are largely ineffective.  For example, IRS trained-and-certified preparers in the VITA volunteer program were found by the Treasury Inspector General for Tax Administration (TIGTA) to have a 61 percent error rate in 2011.”

But the 61 percent figure is a canard.  The best estimate in 2011 of the error rate for returns prepared at the tax preparation sites in question — Volunteer Income Tax Assistance (VITA) and Tax Counseling for the Elderly (TCE) sites, for which IRS trains the volunteers who provide tax preparation assistance — was 13 percent.

How did Alban derive his 61 percent error rate figure?  In 2011, the Treasury Inspector General picked a small number of VITA/TCE sites and tested how they would do with several complex, uncommon, challenging tax scenarios.  As the IRS has explained, they were “uncommon tax scenarios that affect a small fraction of the returns” that these sites handle.  The error rate on those particular uncommon scenarios was 61 percent.

As anyone with just the most basic understanding of taxes or statistics will recognize, a rate of error on uncommon, error-prone scenarios cannot be applied to all tax returns that these sites handle.  Moreover, the Inspector General review was a small one whose results were not statistically valid, as the IRS has also explained.

When the IRS conducted its Quality Statistical Review, a statistically valid review for the entire population of returns that these sites prepare, the accuracy rate was 87 percent in 2011.  A subsequent IRS review of VITA/TCE sites found a 91 percent accuracy rate in 2013.

These data aren’t obscure; they are contained in the TIGTA report itself.

Vigorous debate is essential in our democracy.  Misrepresenting data to Congress and the public is not.

Chairman Ryan’s Obfuscation: Part 2

April 10, 2014 at 2:10 pm

I explained earlier today the hollowness of House Budget Committee Chairman Paul Ryan’s attempt to deny that his budget cuts low-income programs deeply.  Ryan’s defense was that since total federal spending grows under his budget, how can we say it contains cuts, rather than merely slowing the rate of growth?  We disposed of this in my earlier post, but I want to dig deeper here to expose a budget trick Chairman Ryan is playing.

Sure, total federal spending grows under his budget in nominal dollars.  But that’s driven in large part by increases in Social Security and Medicare — whose costs rise with inflation and the aging of the population, among other factors — and interest payments on the debt.  Ryan cites trends for overall federal spending to mask the fact that his budget contains hefty cuts — even in nominal (non-inflation-adjusted) dollars — in key low-income programs like Medicaid and SNAP (formerly food stamps).

In his attempt to deflect our finding that 69 percent of his budget cuts come from programs targeted on Americans of limited means, Ryan says that Medicaid would receive over $3 trillion during the coming decade under his budget and that its costs would grow in all years after 2016.  Here’s what his too-clever-by-half response conceals:

  • Under the Ryan budget, expenditures for Medicaid, the Children’s Health Insurance Program (CHIP), and a few small related programs (i.e., expenditures for “budget function 550”) would fall — not grow — in nominal dollars between 2014 and 2016, from $357 billion to $311 billion.
  • While this figure would grow in nominal dollars after 2016, that would be from this shrunken starting point.
  • And it wouldn’t return to its 2014 level, even in nominal dollars, until 2022 — by which time health care costs will be substantially higher than in 2014, the population will be considerably larger, and the number of poor, elderly people in nursing homes will have risen considerably given the aging of the baby boomers.  That’s partly why, as my earlier post explained, tens of millions of less-fortunate Americans would lose health coverage and become uninsured under the Ryan budget.

A similar pattern marks the Ryan plan for the part of the budget that includes SNAP, Supplemental Security Income (SSI) for poor people who are elderly or have serious disabilities, the Earned Income Tax Credit, and other such programs.  In this part of the budget, as well, nominal spending wouldn’t return to its 2014 level until 2022.

Chairman Ryan has every right to propose severe cuts in any program he chooses.  But he should be straightforward about what he is proposing.

GAO: Give IRS Needed Authority to Oversee All Tax Preparers

April 10, 2014 at 12:15 pm

The Government Accountability Office (GAO) this week added its voice to those calling on Congress to give the IRS the needed authority to require all paid tax preparers to demonstrate basic competence.

While some paid preparers (such as attorneys and certified public accountants) are subject to Treasury Department regulation and must meet professional competency requirements, many others — known as “unenrolled preparers” — aren’t.  The GAO pointed out that “in most states, anyone can be an unenrolled preparer regardless of education, experience, or other standards.”

The IRS launched a major compliance initiative in 2010 to require a basic level of competency among paid tax preparers.  But, as we explained recently, courts have ruled that the IRS lacks the statutory authority to pursue the initiative.  The President has asked Congress to give it that authority.

At a Senate Finance Committee hearing Tuesday, the GAO — Congress’ own watchdog —added its voice to the call for Congress to act:

Providing IRS with the necessary authority for increased oversight of the paid preparer community will help promote high-quality services from paid preparers, will improve voluntary compliance, and will foster taxpayer confidence in the fairness of the tax system.

Committee Chairman Ron Wyden (D-OR) noted that the experience of his state, one of four that regulate paid preparers, underscores the importance of providing such authority:

I’m proud to say my home state gets this issue right.  Tax preparers in Oregon study, pass an exam and keep up with the changing landscape of the tax code in order to maintain their licenses, and those standards work.  The GAO took a look at the system a few years ago and found that tax returns from Oregon were 72 percent likelier to be accurate than returns from the rest of the country.  That puts fewer Oregonians at the mercy of unscrupulous preparers and reduces the risk of the dreaded audit.

These statements echoes similar recommendations from other experts.  Nina Olson, the IRS National Taxpayer Advocate, has explained that the IRS initiative can improve compliance in the Earned Income Tax Credit (EITC).

“Unenrolled preparers — those who are neither attorneys, certified public accountants, nor enrolled agents — account for more than three-fourths of EITC returns that are prepared by a paid preparer,” Olson testified in February.  Unenrolled preparers not affiliated with a national tax preparation firm “are most prone to error,” she noted:  49 percent of the EITC returns they prepare contain errors that average 33 percent of the amount claimed.

Congress should heed the calls of the President, the IRS, the Taxpayer Advocate, and now its own GAO.

SNAP Caseloads and Spending Continue to Fall

April 10, 2014 at 11:37 am

Participation in SNAP (formerly known as food stamps) has continued the downward trend that we described in our recent paper, new Agriculture Department data show.  About 240,000 fewer people received SNAP benefits in January 2014 than in December 2013, and about 1.2 million fewer people participated than in January 2013 (see chart).  This continued decline in participation shows that SNAP has functioned properly during the recession and the slow recovery:  it expanded to meet increased need, and it is gradually contracting as economic conditions improve.

SNAP caseloads grew dramatically during the recession and stayed high due largely to labor market weakness.  As the economy began to recover, caseload growth began to flatten and then fall, a pattern consistent with past recessions.  January 2014 was the fifth straight month that fewer people have participated in SNAP than in the same month the previous year, and the third straight month that the caseload declined from the previous month.  Most states’ SNAP caseloads are falling:  in January 2014, caseloads had fallen in 35 states compared with December 2013 and in 42 states compared with January 2013.

SNAP spending has also fallen, due to both declining participation and the November 2013 expiration of the 2009 Recovery Act’s temporary boost in SNAP benefits.  The Agriculture Department’s data show that as a result of these two factors, SNAP spending on benefits in January 2014 was about 9 percent lower than in January 2013.  SNAP spending fell slightly as a share of gross domestic product (GDP) in fiscal years 2012 and 2013, and is predicted to fall further in fiscal year 2014.  The Congressional Budget Office expects SNAP spending to return to 1995 levels as a share of GDP by 2019.