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The Orgy Of Nontaxation

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8 months ago

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Sometime during the next two years — we don’t yet know when — the House of Representatives will be hosting a public orgy. House Speaker Kevin McCarthy, R-Calif., has promised to hold a floor vote on the FairTax Act of 2023 (H.R. 25).

The promise was one of multiple concessions McCarthy made to the Freedom Caucus to become speaker. As we shall see, the FairTax is nothing if not an exuberant orgy of nontaxation.

Now, you may find yourself tempted by this fiscal seduction. There’s a visceral titillation at the thought of not paying income tax and never again dealing with the bureaucracy of the IRS. But caution is well advised. On close inspection, the FairTax is one apple that you don’t want to bite into.

In case you missed it, the main feature of the FairTax is that it would eliminate all federal income taxes, for both individuals and corporations. They’d be replaced with a 23 percent national sales tax, which would apply broadly to goods and services. The FairTax would also dissolve the IRS.

The proposal would eliminate all federal payroll taxes, as well — which are technically separate from income taxes, although they’re imposed on your wage earnings. That includes the payroll taxes that fund Social Security and Medicare. The proposal would also eliminate withholding taxes, estimated taxes, self-employment taxes, the estate and gift tax, and the alternative minimum tax. That’s a mother lode of repealing things.

The congressional debate over the FairTax will center on whether we want our federal government to be funded primarily by revenue mechanisms based on a person’s ability to pay. The salient point about an income tax is that it allows for a progressive rate structure, in which those of us with higher annual incomes pay more than folks with lower annual incomes. And by “more” I mean both in gross terms and proportionally. That’s what it means for a tax framework to be based on the ability to pay.

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By contrast, a consumption tax is conceptually divorced from a person’s ability to pay. These taxes are inherently blind to the consumer’s economic status or income level. The amount of sales tax a billionaire pays when buying a six-pack of Coca-Cola is identical to the sales tax a homeless person pays on the same purchase. You might regard that outcome as fair, or you might regard it as a perversion of economic justice. Either way, that’s how all sales taxes operate.

Here are two other things to note about the FairTax.

First, it claims to be revenue neutral. That is, it intends to neither expand nor reduce the overall volume of tax receipts collected by the federal government each year. This point is highly disputable. Mathematically, there’s some rate at which a national sales tax would produce receipts equivalent to what we collect under current law. Nobody knows exactly what that rate is, and it might be a lot higher than the proposed figure of 23 percent.

On the matter of revenue, I suspect that proponents of the FairTax might derive pleasure if the resulting yield were less than that of all the taxes it would replace.

People in this camp have a track record of regarding diminished taxation as an effective constraint on government spending. You often hear advocates of small government comment on the need to “starve the beast.” Realistically, the FairTax is a platform for doing just that.

Second, the FairTax promises price stability. That is, the introduction of a national sales tax would not increase retail prices. The claim seems dubious, but here’s what they are getting at. Tucked away within every current retail price is an economic component that corresponds to the embedded costs of each party in the supply chain, from providers of raw materials to manufacturers to wholesalers and retailers. Some of those embedded costs are attributable to the current system of income and payroll taxes — both the taxes themselves and the accompanying compliance costs.

The theory goes that once Congress repeals all income and payroll taxes, the related embedded costs would simply disappear. They would vanish into the ether, by force of the invisible hand of the marketplace. Conveniently, their elimination almost perfectly offsets the effect of the new sales tax. Et voila, price stability.

For some sectors of the economy, removal of embedded costs is projected to more than compensate for the introduction of the new tax — such that prices of those goods and services will actually decline. Imagine that — a 23 percent retail sales tax that makes prices go down. It’s almost too good to be true. Hint, hint . . . It is.

As a self-professed tax policy nerd, I’ll admit that I retain a measure of fondness for the idea of a consumption tax. The concept has some intellectual merit. Compared with the income tax, consumption taxes are pro-growth because they functionally exempt savings, which fosters capital formation.

Despite the known growth effects, no country in the world funds itself exclusively through a national consumption tax. There’s a good reason for that. Growth potential, while important, isn’t the only objective.

Most nations couple their progressive income tax with a broad-based consumption tax (namely, a VAT). This is a classic pattern. It acknowledges that consumption taxes are regressive, but justifies their presence because the resulting tax receipts can enable a wide variety of federal spending — which would be difficult to support solely through other revenue resources.

The key point is that these consumption taxes supplement the income; they do not replace it.

The dominant trend in international taxation over the last 25 years has been for countries to reduce their corporate tax rates as they increase VAT rates. This is usually done for the sake of global competitiveness. In effect, these governments are incrementally trading away the taxation of capital income for the taxation of consumption.

The United States can’t participate in this global trend because we don’t have a VAT, or some other national consumption tax, to make up for the lost revenue. In effect, the FairTax is saying we can bypass the trade-off by dispensing with income taxation altogether. That’s a high-risk proposition. It swaps a progressive revenue source for a regressive one.

Despite my fondness for the consumption tax, I can’t jump on the FairTax bandwagon. If it’s enacted, the fiscal implications would be severe, as would be the cultural implications. Stripped naked of all distractions — spurious claims of deprived liberty — the FairTax is revealed to be more about those lusty cultural changes than it is about the dry and academic business of tax reform.

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Bonds See 2023 Recession, Stocks Aren’t So Sure

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6 months ago

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April 6, 2023

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The yield curve is one of the most robust recession predictors and has signaled a recession may be coming since mid 2022. In contrast, U.S. stocks as measured by the S&P 500 are up materially from the lows of last October and only just below year-to-date highs, seemingly rejecting recession fears. Yet, fixed income markets see the Fed potentially cutting rates by the summer, perhaps reacting to a U.S. recession.

The Evidence From The Bond Markets

The recessionary evidence, at least from fixed income markets, is mounting. The 10 yield Treasury yield has been below the 2 year yield consistently since last July. That is is called an inverted yield curve and has signaled a recession fairly reliably when compared to other leading indicators.

Building on that, fixed income markets see almost a nine in ten chance that the Federal Reserve cuts rates by September of this year. That’s something the Fed has repeatedly said they won’t do on their current forecasts. Yet, a recession could cause it to happen.

The Stock Market

In contrast, the stock market shows some optimism. The S&P 500 is up 7% year-to-date as the market has shrugged off fears of contagion from recent banking issues. In particular, tech stocks have rallied.

In contrast, more defensive sectors such as healthcare, utilities and consumer goods have lagged in 2023. This suggests that the stock market is taking more of a ‘risk on’ position and is perhaps less worried about the economy.

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That said the stock market is a leading indicator of the business cycle, it may be that stocks see a recession, but are now looking past it to growth ahead and are factoring in the lower discount rates that a recession might bring as interest rates decline. Also, the U.S. stock market is relatively global, so the fate of the U.S. economy is a key factor in driving profits, but not the only one.

What’s Next?

Monitoring unemployment data will be key. Though the yield curve is a good long-term forecaster of recessions it is less precise in signaling when a recession starts. Unemployment rates can offer more accurate recession timing. Unemployment edged up in February, suggesting a recession may be near, but we’ve also seen monthly noise unemployment. Two similar monthly unemployment spikes during 2022 both proved false alarms.

However, if we see a sustained move up in unemployment from the low levels of 2022 that may be a relatively clear sign that a recession is here. Economist Claudia Sahm estimates that a sustained 0.5% increase in unemployment rate from 12-month lows is sufficient to trigger a recession. Unemployment rose 0.2% from January to February 2023, so maybe we’re on the way there. Of course, the jobs market performed better than expected in 2022 and it could do so again. Still, fixed income markets do suggest a 2023 recession is coming. Stock markets don’t necessarily share that view.

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Which States Have The Highest And Lowest Life Expectancies?

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6 months ago

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April 5, 2023

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There’s a wide variance of life expectancies among the 50 states in the U.S., according to a recent report prepared by Assurance, an insurance technology platform that helps consumers with decisions related to insurance and financial well-being.

Figure 1 below shows the 10 states with the highest life expectancy, starting with Hawaii, the state with the highest life expectancy.

Figure 2 below shows the 10 states with the lowest life expectancy, starting with Mississippi, the state with the lowest life expectancy.

Assurance scoured life expectancy data prepared in January 2023 by the U.S. Centers for Disease Control and Prevention (CDC). With this data, Assurance created several easy-to-understand graphics that offer information about life expectancies.

Life expectancies are a basic measure of well-being

As measured by the CDC, life expectancies are a basic measurement of well-being in a broad population and not a prediction of how long an individual might live. The CDC measures the expected lifespan for a person born in the year of measurement. This measurement is calculated based on the assumption that the individual will live and die according to the rates of death that are prevalent in the measurement year for each age. There’s no assumed improvement or backsliding in the assumed mortality rates in future years for each age in the life expectancy calculation.

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By contrast, an estimated lifespan for an individual would consider their current age, their gender, and some basic lifestyle information. It might also attempt to project future improvements or backsliding in mortality rates based on key factors.

Significant influences on life expectancy calculations

Leading causes of death in the U.S. are heart disease, cancer, and accidents in that order. These immediate causes are significantly influenced by factors in the population such as poverty rates, educational attainment, rates of obesity and smoking, access to healthcare, prevalence of violent crime, and the support people receive from federal, state, and local governments. All these factors can vary widely among different states, which can be a key reason why life expectancies vary by state.

When you think about it, all these factors also have the potential to influence a person’s quality of life. The measured life expectancy rate rolls up all these factors into one objective measurement of well-being that’s based on population data.

In addition to the factors listed above, mortality rates increased and life expectancies decreased in the past few years due to the Covid-19 pandemic. A recent article titled “Live Free And Die” summarized recent research results that show that life expectancies in most countries around the world rebounded after the Covid-19 pandemic but that they continued to decline in the United States. Many of the reasons cited in the article for the continued decline in U.S. life expectancies are the same or similar to the factors listed above.

NPR‘Live free and die?’ The sad state of U.S. life expectancy

Why should retirees care about the life expectancies reported here if these measures don’t predict your own lifespan? Life expectancy calculations indicate the general well-being of the entire population in your area. While the living conditions in your area can influence your own lifespan and quality of life, retirees should focus on their remaining life expectancy given their age. They should also consider how the factors listed above that influence life expectancies in the population might apply to them.

You can obtain customized estimates of your remaining life expectancy at the Actuaries Longevity Illustrator. Part of your planning for retirement is understanding how long you an an individual might live, instead of relying on generalized information about larger populations you see in the media.

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IRS Dirty Dozen Campaign Warns Taxpayers To Avoid Offer In Compromise ‘Mills’

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6 months ago

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April 4, 2023

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Owing taxes can be stressful. Unfortunately, the actions of some companies can make it worse. As part of its “Dirty Dozen” campaign, the IRS has renewed a warning about so-called Offer in Compromise “mills” that often mislead taxpayers into believing they can settle a tax debt for pennies on the dollar—while the companies collective excessive fees.

Dirty Dozen

The “Dirty Dozen” is an annual list of common scams taxpayers may encounter. Many of these schemes peak during tax filing season as people prepare their returns or hire someone to help with their taxes. The schemes put taxpayers and tax professionals at risk of losing money, personal information, data, and more.

(You can read about other schemes on the list this year—including aggressive ERC grabs here, phishing/smishing scams here and charitable ploys here.)

Tax Debt Resolution Schemes

“Too often, we see some unscrupulous promoters mislead taxpayers into thinking they can magically get rid of a tax debt,” said IRS Commissioner Danny Werfel.

“This is a legitimate IRS program, but there are specific requirements for people to qualify. People desperate for help can make a costly mistake if they clearly don’t qualify for the program. Before using an aggressive promoter, we encourage people to review readily available IRS resources to help resolve a tax debt on their own without facing hefty fees.”

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Offers In Compromise

Legitimate is a key word. Offers in Compromise are an important program to help people who can’t pay to settle their federal tax debts. But, as the IRS notes, these “mills” can aggressively promote Offers in Compromise—OIC—in misleading ways to people who don’t meet the qualifications, frequently costing taxpayers thousands of dollars.

An OIC allows you to resolve your tax obligations for less than the total amount you owe. You generally submit an OIC because you don’t believe you owe the tax, you can’t pay the tax, or
 exceptional circumstances exist.

Because of the nature of the OIC—and the dollars involved—the process can be time-consuming. It can also be confusing for taxpayers who may not have a complete grasp on their finances.

First, you must complete a detailed application, Form 656, Offer in Compromise. You must also submit Form 433-A, Collection Information Statement for Wage Earners and Self-Employed Individuals, or Form 433-B, Collection Information Statement for Businesses, with supporting documentation (generally, bank and brokerage statements and proof of expenses).

You’ll also need to submit a non-refundable fee of $205 and payment made in good faith. The payment is typically 20% of the offer amount for a lump sum cash offer or the first month’s payment for those made over time. Generally, initial payments will not be returned but will be applied to your tax debt if your offer is not accepted. Payments and fees may be waived if the OIC is submitted based solely on the premise that you do not owe the tax or if your total monthly income falls at or below income levels based on the Department of Health and Human Services (DHSS) poverty guidelines.

The IRS will examine your application and decide whether to accept it based on many things, including the total amount due and the time remaining to collect under the statute of limitations. The IRS will also review your income—including future earnings and accounts receivables—and your reasonable expenses, as determined by their formula. The IRS will also consider the amount of equity you have in assets that you own—this would include real property, personal property (like automobiles), and bank accounts.

Criteria

Before your offer can be considered, you must be compliant. That means you must have filed all your tax returns and paid off any liabilities not subject to the OIC. After you submit your offer, you must continue to timely file your tax returns, and pay all required tax, including estimated tax payments. If you don’t, the IRS will return your offer.

Additionally, you cannot currently be in an open bankruptcy proceeding, and you must resolve any open audit or outstanding innocent spouse claim issues before you submit an offer.

Representation

You can probably tell—it’s a lot to consider. You may want representation. A tax professional can help marshal you through the process and offer practical guidance, while communicating what fees could look like.

By contrast, according to the IRS, an OIC “mill” will usually make outlandish claims, frequently in radio and TV ads, about how they can settle a person’s tax debt for cheap. Also telling: the fees tend to be significant in exchange for very little work.

Those mills also knowingly advise indebted taxpayers to file an OIC application even though the promoters know the person will not qualify, costing taxpayers money and time. You can check your eligibility for free using the IRS’s Offer in Compromise Pre-Qualifier tool.

“Pennies On A Dollar”

What about those promises that taxpayers can routinely settle for pennies on a dollar? Not true. Generally, the IRS will not accept an offer if they believe you can pay your tax debt in full through an installment agreement or equity in assets, including your home. That’s why the IRS tends to reject a majority of OICs that are submitted. The acceptance rate is less than 1 in 3, according to the 2021 Data Book.

The IRS will generally approve an OIC when the amount offered represents the best opportunity for the IRS to collect the debt. It’s true that there’s a formula that the IRS uses to figure out how much they think they can collect from you. But there is some wiggle room to account for special circumstances, including a loss of income or a medical condition. It’s worth noting those are the exceptions, not the rule.

Collections

While submitting an OIC may keep the IRS from calling you, it doesn’t stop all collections activities—don’t believe companies that suggest that submitting an OIC will make your tax debt disappear. Penalties and interest will continue to accrue on your outstanding tax liability. Additionally, the IRS may keep your tax refund, including interest, through the date the IRS accepts your OIC.

You may also be liened. In most cases, the IRS will file a Notice of Federal Tax Lien to protect their interests, and the lien will generally stay in place until your tax obligation is satisfied.

Be Skeptical

An OIC is a serious effort to resolve tax debt and shouldn’t be taken lightly. Be skeptical—if it sounds too good to be true, it likely is. If you’re considering an OIC, hire a competent tax professional who understands the rules and is willing to level with you about your chances of being successful—including other options. Don’t fall into a trap that can make your situation worse.

MORE FROM FORBESIRS Urges Those Hoping To Help To Beware Of Scammers Using Fake CharitiesBy Kelly Phillips Erb

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