Focus on the Tax 'Avoidance' Gap

Reprinted with permission of Tax Analysts.

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Abstract

President Obama's tax reform task force has been asked to propose ways to close the $300 billion tax gap, which is the estimated difference between taxes owed and taxes paid either voluntarily or through enforcement. But the amount of money lost to legal tax avoidance - the difference between an income tax without special tax preferences and taxes under current law - at least double that lost to outright evasion. The perpetrators of this second, "avoidance" tax gap are legislators, not taxpayers. The panel's main focus should be on finding appropriate ways to close this second tax gap.

Introduction

President Obama's tax reform task force has been asked to propose ways to close the $300 billion per-year tax gap by simplifying the tax code, reducing evasion, closing loopholes, and reducing corporate tax breaks. That $300 billion figure is an IRS estimate of the "net tax gap" for tax year 2001. The IRS defines the net tax gap as the difference between the amount taxpayers owe for a given tax year and the amount they pay on time, less what the IRS expects to recover in the future from voluntary late payments and enforcement activities. The apparent focus on the IRS-defined tax gap is the wrong agenda for a tax reform panel. The United States faces two tax gaps: the IRS measure of tax evasion and a second gap that may be called the legal avoidance gap. This second gap - the difference between taxes under an income tax without special preferences and taxes under current law - is much larger than the evasion gap, and there are ways to reduce it substantially, if the political will exists.

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