Tax evasion - why, and effect

Quite a long article, but some useful snippets - what reduces tax evasion? Religiosity and community spirit...

By Clark Merrefield

January 14, 2020

Every tax season people try to get out of paying the full share of what they owe the U.S. government in income taxes. The Internal Revenue service usually starts accepting tax returns in late January and returns typically need to be filed by April 15. Here are a few ins and outs of federal tax evasion — why it matters, why people do it and how they do it.

How big is the problem?

U.S. government reports describe the effects of tax evasion in terms of lost revenue. On the federal level, lost revenue from intentional evasion and unintentional errors comes to about $458 billion per year — $406 billion after the IRS pursues late payments and enforcement actions, according to a 2019 report from the Government Accountability Office. That report relies on data from the IRS covering 2008 to 2010, and it provides the most recent estimate of yearly federal revenue lost due to individual and corporate tax evasion.

Total taxable annual income is about $2.5 trillion, according to that report, and the $406 billion is what the IRS calls the “net tax gap.” How does the tax gap stack up to other items on the government ledger? It’s a couple drops in the bucket compared to the $23 trillion in total public debt. But it’s also 37% of the $1.1 trillion Department of Defense budget for 2019 and is far more than the annual budget for just about every other government agency.

All income is taxable at the federal level, no matter how it is earned. Remember, 1920s Chicago gangster Al Capone went to jail for 7 years — not because he brewed, distilled and distributed alcohol during the Prohibition era, but because he did not pay federal taxes on the millions of dollars he made from those then-illegal activities.

Even though tax evasion leads to hundreds of billions of dollars in lost federal revenue each year, Americans by and large think they’re an honest bunch when it comes to tax compliance. The IRS’s 2018 Comprehensive Taxpayer Attitude Survey, the most recent year available, found 85% of Americans say it’s never OK to cheat on taxes — though this was down from 88% in the 2017 survey.

What’s the difference between tax avoidance and tax evasion?

Tax avoidance refers to working within the law to legally lessen one’s tax burden. Write off interest paid on a home loan? That’s simple tax avoidance, which the IRS encourages.

Tax evasion involves breaking the law by not reporting earnings to the IRS. Pet sit for a neighbor for a week at $20 a day? If those earnings go unreported, that’s tax evasion.

Using tax havens to conceal income is another type of tax evasion. U.S. citizens and permanent residents have to pay taxes on all income made inside and outside the U.S. People who aren’t permanent U.S. residents are only taxed on income they earn in the U.S. — not on income earned in other countries, such as interest from holdings in non-U.S. banks. Non-permanent residents can legally avoid some U.S. taxes by parking their money overseas.

U.S. citizens and permanent residents also turn to offshore tax havens to conceal income from U.S. authorities. Two investigative series from the International Consortium of Investigative Journalists in the mid-2010s — the Panama Papers and Swiss Leaks — shone unprecedented light on tax haven arrangements through millions of leaked documents related to 214,000 offshore companies.

People who use offshore tax havens may be subject to civil and criminal penalties — if the IRS catches them. Overall, IRS criminal prosecution referral rates are at their lowest point in more than 30 years, according to data from Syracuse University’s Transactional Records Access Clearinghouse, an organization that gathers and analyzes data on a range of civil and criminal justice topics. A special team the IRS formed in the late 2000s to go after high-earning tax evaders “never had a chance” against innumerable (and expensive) lawyers and lobbyists, finds a ProPublica investigation from 2019.

Why and how do people evade taxes?

They do it because they don’t want to pay taxes, or because they make a mistake, or because they follow bad advice. Actor Wesley Snipes famously served time in prison in the early 2010s for evading income taxes. He had followed erroneous advice claiming that neither he nor anyone else had to legally pay income tax. Telecom investor Walter Anderson became the biggest personal tax evader in U.S. history after pleading guilty in 2006 to using a complicated offshore tax haven scheme to dodge more than $200 million in taxes owed to the federal and Washington, D.C. governments.

But most tax evasion cases aren’t so headline-grabbing. Taxes are usually evaded in one of three ways: underreporting, underpayment and non-filing. In most cases the IRS has three years after the yearly tax deadline — April 15 — to go after tax evaders.

Underreporting is the most common form of tax evasion and made up 84% of the tax gap from 2008 to 2010, according to the 2019 Government Accountability Office report. Say someone works part-time at a warehouse and also fixes lawnmowers on the side. If they report the warehouse income but not the lawnmower income, that’s underreporting. The other big sources of evasion are underpayment — when returns are timely and reflect all income earned but don’t include all taxes owed — and non-filing, when an income earner doesn’t file taxes at all.

Sometimes, people might evade taxes because they don’t like the politicians at the top. The authors of a July 2019 National Bureau of Economic Research working paper looked at IRS data before and after the 2000 and 2008 presidential elections across nearly 2,000 partisan counties — those that consistently vote Democratic or Republican. Their findings suggest that “individuals who disapprove of government tax and spending policies evade more, relative to comparable individuals who have a more positive outlook about the government.”

Similar results emerged from Canada in a 2003 paper in The Journal of Socio-Economics, which concludes that “strong evidence has been found that trust in government, pride, and religiosity have a systematic positive influence on tax morale.”

Who evades taxes?

The wealthiest people are among the biggest tax evaders, according to a June 2019 paper in the American Economic Review. The authors — Annette Alstadsæter, Niels Johannesen and Gabriel Zucman — analyzed 685 records from Norway, Sweden and Denmark exposed following the Panama Papers and Swiss Leaks investigations, along with tax amnesty data from 1,422 households in Norway and 6,811 in Sweden.

They find the wealthiest 0.01% of asset holders — who own half the wealth in the sample — evade 25% of their tax liability, compared with 5% across the entire sample. Some 35% of the top 0.5% richest households in the distribution engaged in tax evasion.

“The most important insight is that government policies have a critical role to play to reduce tax evasion,” the authors write. “Increasing penalties for tax evaders has not proved to be a very practical way to curb tax cheating so far.”

Tax evasion is also rampant among the self-employed, according to U.S. government analyses. As the authors of the AEA paper note, the likelihood of self-employment rises as wealth increases. In instances where there is no third-party reporting — like an employer submitting employee wage information to the federal government — the noncompliance rate is 63%, according to IRS research. Misreporting is only at 1% when income amounts are subject to substantial information reporting and withholding.

The IRS calls this “visibility.” Income that self-employed people earn is less “visible” than income earned by someone who works for a company or nonprofit, both of which would report wage information to the IRS every year. Business income made up the biggest chunk — $125 billion — of all underreported individual income, according to the Government Accountability Office report.

“This variation is, in my view, stark and compelling evidence for the primary importance of deterrence as an explanation of tax evasion,” writes Joel Slemrod, director of Office of Tax Policy Research at the University of Michigan, in a July 2018 NBER working paper.

The Earned Income Tax Credit, a tax break for households that earn below certain income thresholds set every year, is another source of tax misrepresentation. EITC over-claims — for example, claiming a non-existent dependent to net a larger tax credit — is more accurately described as tax fraud, not evasion. An IRS study of 2006-to-2008 tax data puts the total EITC over-claim amount at between $14 billion and $19.3 billion during that period. Even at the high end of the range, EITC over-claims would make up less than 2% of the federal tax gap over a three-year period.

Evaluating the Minimum Wage

Worth reading for EVALUATION - i.e. these are not your arguments; you should build the case for, but acknowledge it is not as simple as is thought:

Three Bad Arguments for the Minimum Wage

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206 COMMENTS

01/04/2020Gor Mkrtchian

The case for market wages is simple. If employers and employees voluntarily agree to a certain wage, then that exchange will necessarily be mutually beneficial, otherwise it wouldn’t have happened. Creating a minimum wage will simply disemploy the lowest-skilled among us, whose productivity is below the legal minimum wage. Why would a business hire a worker if the business has to pay the worker more than the worker can contribute to its revenue?

Supporters of the minimum wage respond that the minimum wage can actually raise wages while also increasing employment, because:

1. Higher wages will speed up the economy by putting money in the hands of workers who will spend it.

2. Higher wages boost worker morale and productivity.

3. Studies have shown that the minimum wage doesn’t always reduce employment in actuality.

All of these arguments are wrong. Let's look at each claim.

One: Stimulating Demand

The first argument for the minimum wage is that it will put more money in the hands of workers and that this will stimulate the economy, because low-income earners spend a greater proportion of their income than high-income earners.

The argument immediately hits a road bump, even on its own terms. If the minimum wage is raised, it’s true that the remaining workers will necessarily earn at least the new minimum wage, but all of the workers who are less productive than the minimum wage will have lost their jobs, so worker spending won’t necessarily increase.

Dr. Robert Murphy explains, “Now the employer is going to hire fewer workers, other things equal, so it’s not obvious that the total wage bill is going to be higher.” Shuffling wages from a larger pool of workers each earning less to a smaller pool of workers each earning more won’t necessarily increase the aggregate amount of spending money in the hands of workers.

One can counter that it takes time for employers to adjust to the minimum wage and fire workers, and that in the meantime there will be increased spending.

If it’s true that in the short term businesses can’t react to the minimum wage by firing workers, then in the face of these suddenly increased labor costs and with an inability to flexibly react, a portion of businesses will simply close, their workers will lose their jobs, the supply of goods and services will fall, and prices will rise.

And for those businesses that survive, the increased spending will be no boon. The extra money that workers get to spend in this scenario comes out of the pockets of the businesses themselves in the form of increased labor costs. If workers then go and spend all of this money, this will be a wash for the businesses collectively at best, because they’ll simply be recouping all of the money they lost in the form of increased labor costs.

Quickly circulating money is like a game of hot potato and does not create wealth.

In fact, if the minimum wage succeeds in redistributing money from those more likely to invest it (the businesses) to those more likely to consume it (the workers), this modifies the capital structure of the economy.

With more resources catering to present consumption, fewer resources will be geared toward the capital maintenance and accumulation that allow for future consumption. Other things equal, future productivity will be lower, prices will be higher, and the standard of living will decline.

Two: Increased Worker Productivity

The second argument is that raising the minimum wage will increase worker morale and productivity, decrease turnover, and so can benefit the businesses affected.

However, who has a greater incentive and better access to the relevant information to find the optimal balance between wages and worker productivity than the employer? It’s dubious that politicians have better information about the profit-maximizing wage for millions of businesses across the country than each business will have about their own particular enterprise.

But suppose bureaucrats have studied the business model of Machlup’s Pizzeria and have determined that Machlup can increase his profits by raising the wages he pays. If this is the case, no violently enforced minimum wage will be necessary.

As Dr. Murphy points outs, business owners can simply be informed that they’re missing out on additional profits. If Machlup is told that he can increase the profitability of his business with wage increases, he will gladly do so. No law is needed where an email will do.

Another practical issue is that when a government-enforced minimum wage is set, it’s not set at the level of an individual business. It’s set at the scale of entire cities, states, or even the entire country.

In such ham-handed applications, the minimum wage can’t possibly be tailored to the concrete data of each particular business to optimally balance morale and wages.

Three: "Studies Say So"

The third argument is that various observational studies conducted in areas where the minimum wage took effect showed positive results, such as little reduced employment or even increased employment, as well as higher wages.1

This appeal fails because in the social sciences observational studies can only establish correlations, not causal relationships. In order to establish causal relationships, a controlled experiment is necessary.

In a controlled experiment, a control group and a treatment group are created. The control group is the baseline for comparison. The treatment group holds all independent variables (inputs) constant except for one (the treatment), whose effect on the outputs (dependent variables) we want to learn about.

Controlled experiments are feasible when it comes to the natural sciences, such as chemistry, where the subjects are inanimate chemicals mechanically reacting to one another and the relevant factors of their environment can be precisely held constant in a laboratory setting. But the complex world in which human decisions are made can’t be replicated in a lab.

In the case of the minimum wage, a controlled experiment would mean creating a counterfactual universe where all factors other than the minimum wage change are held equal: other economic legislation, trends in consumer preferences, the weather, the geopolitical situation, and every other potentially confounding variable. Then, the counterfactual universe with the higher minimum wage would be compared to our universe with the older, lower minimum wage.

Clearly, constructing this controlled social experiment is impossible, but controlled experiments are the only empirical way to avoid the post hoc, ergo propter hoc fallacy, the only way to parse correlation from causation.

An observational study can show that a higher minimum wage was passed and then employment increased by 1 percent. But was this because of the minimum wage or because of changes in consumer preferences, or some other confounding variable? Did it occur thanks to or despite the minimum wage?

Controlled experiments are impossible in the social sciences, and observational studies can never prove the effects of an economic policy, because they can’t distinguish correlation from causation. Only the deductive logic of economic theory can do that.

Ultimately, the majority of people who support the minimum wage probably don’t think about the three arguments above, or about any argument at all. Their thought process is simply: if the government passes a law saying the minimum wage has to be higher, then people will be paid more. There’s no consideration of opportunity costs or unintended consequences.

Free marketeers must instill a few basic principles of economic thinking such as opportunity costs and unintended consequences into the public, so that people can reason clearly about the minimum wage, and economic issues generally.

• 1.Many observational studies also find that the minimum wage has deleterious effects.

Cost of living...

A decade of rising bills: how the cost of living has rocketed by £1,400

Ali Hussain

January 5 2020, 12:01am, The Sunday Times

• Economics
• Media
• Weather
• Australia

The average annual cost of food and drink has risen by 14% over the past decadeALAMY
Extreme weather has helped push up the annual cost of household bills by more than £1,400 over the past decade, according to analysis of official figures.

Money assessed the 13 most common household expenses, including insurance, broadband, water, energy and food, and average wage inflation since 2010.

Our research shows that the annual cost of living per person has risen by £1,443 to £10,969 over the past decade while the average salary has increased by just £884, from £25,220 to £26,104.

The biggest increase has been in the cost of home insurance, which has almost doubled from £159 to £307 for a typical buildings and contents policy.

The UK may not be having the same dramatic weather conditions as Australia, but events such as the 2018 heatwave are a key reason for the cost-of-living increase. Floods and hurricanes have caused a big rise in insurance claims, while the heatwave has led to a surge in building subsidence.

Malcolm Tarling of the Association of British Insurers said: “Extreme and bad weather can impact on the cost of home insurance. In 2018, the Beast from the East cold snap led to a spike in burst-pipe claims.”

Electricity bills showed the second-biggest increase in our research, soaring 43.7% compared with 17.8% for gas. The big difference between the two is down to government moves to tackle climate change by funding renewable electricity sources. Suppliers must foot the initial bill for the new measures, but the cost filters through to customers in the form of higher charges.

Ed Reed of the energy analyst Cornwall Insight said: “The part of the typical household electricity bill attributable to energy policy scheme costs has risen from about 10% at the start of the decade to just under a third.”

Council tax is the third fastest-growing expense, rising 23.8% to £1,750 for the average band D property. The cost of a broadband and phone package is up from £439 to £487, while food and non-alcoholic drinks total £3,151 a year today compared with £2,777 in 2010.

The only decrease is in the cost of car insurance, which is down 1.9%, partly because of an industry-wide campaign against fraudulent whiplash claims.

There is good news on the cost of borrowing. The Bank of England base rate is slightly higher at 0.75% rather than 0.5% in January 2010, but the average mortgage rate has plunged. The typical two-year fixed-rate deal with a 10% deposit came in at 6.6% in 2010; now it is 2.1%.

Savers, however, have seen rates plunge. For example, one-year fixed bonds now pay an average 1% compared with 2.4% a decade ago.

Stretch and challenge time...

Have a quick look at this; the basic premise is that what we see as FDI flows are actually [legal] tax avoidance schemes. You don't need to get into the detail of this, but it would fit nicely into an essay about tax/MNCs, or FDI/globalisation:

It is Time to Change How We View Foreign Direct Investment

FDI is increasingly driven by tax avoidance.

Blog Post by Brad W. Setser

December 17, 2019

    

A lot of financial globalization has been driven by tax avoidance.

40 percent of FDI globally comes from just seven countries, which collectively account for 3 percent of the world economy.

More on:

United States

International Economic Policy

Foreign Investment

That’s one striking result of a new IMF working paper.

It paints a picture of foreign direct investment that runs a bit against the common view of foreign direct investment as the virtuous, and low risk, form of financial integration.

Foreign direct investment is generally thought to be real investment in plant and equipment abroad—GE building gas turbines in France, GM building cars in China, Siemens building turbines in North Carolina, and BMW and Toyota building cars in South Carolina and Kentucky.

Statistically, though, FDI is often investment by one special purpose entity (generally located in a tax center) in another special purpose entity…so called phantom FDI.

That is why it is time to start viewing the direct investment data with a more jaundiced eye.

One of the biggest recent “direct” investments globally was Microsoft Ireland’s purchase of Microsoft Singapore. That transaction has a huge statistical impact on Ireland (and the euro area), but didn’t have much of an impact on the “real” Irish economy.

That same critical eye also needs to applied to the data on direct investment into and out of the United States, as it too is heavily influenced by transactions that are likely motivated primarily by tax considerations.

Consider the data on outward U.S. direct investment abroad.

That data historically has been dominated by “reinvested” earnings—the profits American firms earn abroad that they legally kept in their offshore subsidiaries.

   

This was the source of the supposedly offshore cash stash of U.S. firms (the funds were only legally offshore, as they legally were assets of say Apple Ireland or Microsoft Bermuda; in practice they were invested in U.S. financial assets—and firms that wanted to access their offshore cash to say buyback their shares could do so by borrowing against their offshore cash). The bulk of those reinvested earnings—if you looked closely in the data—weren’t being reinvested in physical assets, but rather were piling up in the offshore subsidiaries U.S. firms had established in low tax jurisdictions. From 2010 to 2018, 65 percent of all reinvested earnings were “reinvested” in jurisdictions like Ireland and Bermuda (which works out to about $200b a year of investment in those jurisdictions, or about half of all US FDI in the “pre-tax reform” data).

   

That clearly was a function of firms’ ability to defer paying U.S. tax on otherwise un-taxed global profits under the old tax law. Profits earned in high tax jurisdictions didn’t have any U.S. tax liability under the old law, as firms could deduct taxes actually paid abroad. Indefinite deferral effectively distorted the global data—raising the amount of U.S. direct investment abroad (the cash Apple held in Ireland was an asset of Apple USA, so reinvestment raised the stock of U.S. equity assets abroad even if technically the equity investment abroad was the accumulation of offshore cash) and the amount of foreign claims on the United States (U.S. treasuries purchases by Apple Ireland were counted as foreign holdings of U.S. government debt, that’s why Ireland was at one time the world’s third largest holder of U.S. Treasuries).

FULL ARTICLE HERE

Food banks - good article for evaluation in your current Micro topic

In his introduction to Labour’s election manifesto, Jeremy Corbyn pledged to end something he called “food bank Britain”, and when I read that my immediate thought was: “I hope he never does.” This is not because I take any delight in the idea that thousands of my fellow citizens regularly go to local food banks to get food to feed themselves and their families, but rather because of the deeper significance of food banks; what the fact of their existence actually tells us about this country and its people. Our network of food banks should be a cause for national pride, not shame; food bank Britain is not a symptom of decline or national hard-heartedness: it shows us as our best. Let me explain.

Ten years or so ago I got involved in setting up a food bank in Oxford. It was a bit different from most food banks because, rather than receive food donations from the public to give to families in need, it set out to be a “food recovery” operation. We asked supermarkets and wholesalers to give us their surplus fresh food (bread left over at the end of the day, wilting vegetables, that sort of thing) which we then gave to other charities operating in the city. The idea quickly took off and today the organisation is a well-established part of the city’s charity landscape. My involvement taught me many lessons: about the colossal (and shameful) amount of food that is wasted daily across the country but also that voluntary action, at a local level, is a good in and of itself. To paraphrase Shakespeare on mercy: the quality of food banks is twice blessed. It blesseth him that gives and him that takes.

In the Book of Revelation it is promised that eventually God will “wipe away every tear” and it is a long-standing fantasy of the British Left that our welfare state should emulate this feat. But there are practical reasons why this will never happen and what’s more, why it should not.

One of the surprising things I learnt from my food bank experience was the appetite there is for volunteering: it was never a problem to get volunteers to drive our vans and hump around sacks of potatoes. On the contrary we often had to put volunteers on a waiting list. It’s easy to sneer at ‘do-gooders’ (and some on the Left make a speciality of it) but the instinct that drives people to offer their labour free of charge is surely a good thing. It means that individuals make a personal investment in their local community — and these are the ties which bind. A well-stocked, well-run food bank is a sign of a healthy community.

SUGGESTED READING

Don't call it poverty porn

BY JENNY MCCARTNEY

I am pretty sure that when Mr Corbyn wrote about ending food bank Britain he was not aiming his guns at local volunteer groups; what he meant, I think, was that the benefits system should be generous enough to ensure that no one need access a food bank ever again. But there are good reasons to believe that, however munificent the social security payments were, we would never arrive at that happy destination. However hard we try there are always going to be some people in poverty; a combination of bad luck and bad individual choices will ensure it is so. Our benefits system is designed to provide a basic standard of living but despite its good intentions there are always going to be circumstances in which people don’t get what they need. It is an intractable failing of a huge bureaucratic mechanism.

Food banks are a relatively new phenomenon. They burst into the national consciousness in a major way some time in the noughties and the reason they did was largely through the efforts of a charity, The Trussell Trust, which now operates about 1,200 centres across the country.

Because the work of food banks is so practical — there is, after all, no charitable action more basic and fundamental than giving food to the poor — their appeal was immediate; kind and well-intentioned people saw food banks as a straightforward vehicle for their generosity. New food banks sprang up everywhere and because they were newcomers to the charity scene — the Trussell Trust only got going in 1997 — they attracted a lot of media attention.

SUGGESTED READING

How charities are corrupted by Whitehall

BY IAN BIRRELL

Much of that media coverage was misleading. The rise in the number of food banks was used to argue that ‘food poverty’ was on the rise, but that was faulty logic. Commentators and politicians said: “Look at the facts. Last year another x hundred food banks opened round the country. That proves our point.” Actually the rate at which new food banks were opening was unrelated to the underlying real rate of poverty. What the statistics demonstrated was that the food bank movement had caught the public imagination; people saw them as a way of helping others in the most practical way possible. The food banks were offering a new and useful service to people on very low incomes who flocked to them. Why wouldn’t they? If you are on a very tight budget a local food bank can ease the pressure. But, inevitably, food banks got dragooned into the political debate.

The food bank argument is now a permanent fixture in the Left’s political rhetoric. In the run-up to the election The Independent carried a story about a Tory candidate (and now MP), Darren Henry, who at a public meeting was incautious enough to offer the opinion that people who use food banks are often those who can’t manage their budgets properly. Predictably his comments were condemned by his opponents and, as the paper said, “drew gasps from the audience”.

He may well be right but he would have been better advised to keep his thoughts to himself; this is an argument the Right can never win. The Independent article, in typically tendentious fashion, observed: “The proliferation of food banks, which were rare before the 2008 financial crash, has increased hugely under the Conservative government, with many experts and campaigners blaming austerity and policies such as universal credit for driving the surge in need.” This is a perfect example of how the truth gets mangled in the poverty debate.

SUGGESTED READING

Why money won't fix the poverty problem

BY ANDY COOK

Yes, it is true that food banks were uncommon in the early years of the new millennium; that’s because the movement was only just getting going. And then came the financial crash and reporters had to find a way of illustrating their stories. What better way than to highlight the growing numbers of food banks? The coverage acted as promotional videos for the food bank movement; it touched the generous instincts of the country and lo! food banks sprang up everywhere. What gets overlooked is that, had food banks been operating 30, 40 or 50 years ago they would have been just as well patronised — but then no one had thought of them.

None of this debate should obscure a fundamental truth: it is good to feed the poor. The Church has always seen it as one of the “corporal works of mercy”, that is those actions which attend to basic human necessity. It’ll be a black day when Britain fails to rise to the challenge of poverty and, despite the wonders of our welfare state, there will always be the need for that to be supplemented by the efforts of individuals.

I would go further: it is neither possible, nor desirable, that the state should displace and render unnecessary all voluntary charitable action. Across the country millions of people volunteer their time and effort to help make life a little better for others. Both sides gain from this arrangement and government is well advised to let the volunteers get on with it.

While the state should never lose sight of its obligations to the poor food banks should make us proud, not ashamed.