For most of us April 15 marks the last day to perform the ceremonial task of filing one’s individual federal income tax return. For some, this is a moment of joy as the refund arrives. For others, it’s time to make the dreadful payment to the Treasury. But do we really need to a file tax return? Does it have to be this complicated? Can’t we just get a bill (or check) in the mail?
The U.S. employs a system of “self-assessment.” This means you (or your CPA) must assess (i.e., determine) your taxes and report the results to the IRS. If the Service disagrees with your assessment it will audit your return. And after some administrative process, the Service will assess its version of your taxes. In other circumstances, the Service may even “summarily assess” your taxes (i.e., without any administrative process) as in case with mathematical and clerical errors.
This process of self-assessment occurs each year by filing a tax return. The return comes in three flavors depending on the complexity of one’s situation: the form 1040EZ, 1040A and the full-blown 1040.
Does it have to be this complicated? Can’t we just get a bill (or check) in the mail?
The U.S. has a long history of self-assessment dating all the way back to the original tax return of 1913 -- after the ratification of the Sixteenth Amendment. The previous income tax was held unconstitutional.
In 1913 most Americans were not subject to any federal income tax because of the substantial exemption amounts provided to single and married filers. It was only the high-income filers that paid any income taxes. In fact, most Americans were not even required to file a return.
During the years leading up to World War II things changed radically. The exemption amounts were reduced and the tax base was broadened. The income tax system evolved into a “mass tax” on most of the population. And unlike the current system -- the majority paid taxes.
The most recently available IRS data (2010) evidences an entirely different story now. Approximately 41% of all tax filers paid no federal income tax (even their withholdings were returned). This accounts for 58 million filers contributing -- zilch -- nada -- to the federal government -- other than Social Security and Medicare.
Both of these extractions, however, represent future obligations of federal government -- all for the filer’s personal benefit. Making matters worse, when you include those not filing returns some studies suggest the “non-payers” exceed fifty percent.
The data further indicates tax filers claiming the standard deduction on their returns were also in the majority. Approximately 66% (or 94 million tax filers) claimed the standard deduction (i.e., rather than “itemizing” their deductions on Schedule A) -- 46 million taxpayers with tax liability and 48 million non-payers.
When a taxpayer claims the standard deduction there is no need to retain detailed records for expenses that would normally be itemized (e.g., charitable contributions, unreimbursed medical expenses, gambling losses, etc.).
Another advantage of the standard deduction is the taxpayer does not need any actual expenses. In other words, the deduction is free for the taking for most taxpayers. It can also be quite substantial and is adjusted annually for inflation. In many circumstances it exceeds a taxpayer’s itemized deductions.
For example, the standard deduction for 2012 is $11,900 for a married couple filing jointly. For most of us, the single largest personal expense on Schedule A involves homeownership (i.e., mortgage interest and real property taxes). State income taxes are also a large deduction on Schedule A. The remaining deductions are generally riddled with restrictive limitations disallowing their utility.
Many homeowners nevertheless claim the standard deduction when their mortgage interest, real property and state income taxes do not exceed it. This is particularly evident in low cost of living areas (i.e., states other than New York, California, etc.).
Conceptually, the wage employee’s federal income tax already is a “flat tax” for those paying when the standard deduction is claimed -- albeit determined with complexity. Once the standard deduction is claimed a taxpayer is generally not free to reduce his or her tax liability with a multitude of expenses like the itemizers and the self-employed (on Schedule C).
Sure there are the “above-the-line” deductions outside of Schedule A (e.g., retirement plan contributions, student loan interest, etc.) but those deductions are basic and generally known to the IRS. In fact, the Service knows just about everything about the wage employee with its elaborate system of information matching.
Why then self-assess?
Contrary to popular belief, the filing of a return also does not allow one to defer payment to the Service. Instead, the U.S. employs a “pay-as-you-go” system whereby taxes are withheld from one’s check throughout the year (the self-employed make estimated payments). For taxpayers that fail to remit sufficient withholdings (or correct estimated payments) the estimated tax penalty generally applies. There is also a dreaded penalty for those claiming too many allowances with their employer.
It's time to acknowledge this monstrosity for what it is -- a U.S. Treasury check (or zero sum game) for the many and an ugly flat tax for the payors claiming the standard deduction.
Let those with the greatest flexibility over their tax liability file a return (i.e., the itemizers and the self-employed) and leave the rest alone.
Rodney P. Mock is an associate professor of accounting at the Orfalea College of Business at California Polytechnic State University in San Luis Obispo, California.