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June 2017 Brief: Volume 24, Number 17

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A Guide to Simplifying the Tax Code

 

by Amy K. Frantz

 

 

The federal government as well as the state government here in Iowa are each considering options for income-tax reform. Most taxpayers would agree that a simpler tax system would be preferable. The question is this: What are we willing to give up to get a simpler tax system, and how trusting are we that the government will leave such a system alone in the future?

 

The 1986 federal income-tax reform is a model of the trade-off of giving up some of our deductions and credits to see lower tax rates. It is also a cautionary tale of watching those rates soon rise back to the previous rate levels — or above — when the cry goes out from big spenders in government for more revenue. But once a deduction is taken away, it rarely returns.

 

Prior to the Tax Reform Act of 1986, taxpayers faced a top rate of 50 percent, with 15 tax brackets for single filers and 14 brackets for those filing as married or head of household.[1] Following the passage of that tax-reform bill, taxpayers gave up a number of tax credits and deductions. The number of tax brackets was reduced to two for the 1988 tax year, with a top rate of 28 percent.

 

Unfortunately, the promise of lower rates in exchange for the elimination of certain deductions only lasted for three years. For the 1991 tax year, an additional bracket was added, bringing the total number of brackets to three. The top tax rate was raised to 31 percent, but taxpayers did not regain the tax credits and deductions they gave up.

 

The promise was further eroded when, with the passage of the Omnibus Budget Reconciliation Act of 1993, the number of tax brackets increased to five, with a top tax rate of 39.6 percent.

 

Many years and many tax changes later, American taxpayers now have a federal income-tax system with seven tax brackets and a top rate of 39.6 percent. In addition, there is currently a “3.8 percent tax on net investment income for taxpayers with ‘modified’ adjusted gross income above $250,000.”[2]

 

It’s not just the income-tax rates that have changed. The entire federal income-tax system has grown even more complex than it was before the 1986 reforms. National Taxpayer Advocate Nina E. Olson is head of the Taxpayer Advocate Service, an independent unit within the Internal Revenue Service (IRS) charged with helping taxpayers navigate the system and resolve problems they have with the IRS. In Olson’s most recent annual report to Congress, she writes:

 

It has now been more than 30 years since Congress enacted the Tax Reform Act of 1986 to substantially simplify the tax code, and since that time, the code has grown more complex by the year, as evidenced by the fact that Congress has made more than 5,900 changes to the code — an average of more than one a day — just since 2001. The compliance burdens the tax code imposes on taxpayers and the IRS alike are overwhelming.[3]

 

Reforming the tax code on the federal or state level will not be easy, but Olson does make some recommendations to guide the process on the federal level that could also apply to state tax reform. Olson writes:

 

We believe the protection of taxpayer rights and minimization of taxpayer burden should be emphasized, along with the IRS’s ability to administer the law. Toward these ends, we have suggested six core principles that should help guide the development of tax-reform legislation:

 

1. The tax system should not “entrap” taxpayers.
2. The tax laws should be simple enough so that most taxpayers can prepare their own returns without professional help, simple enough so that taxpayers can compute their tax liabilities on a single form, and simple enough so that IRS telephone assistors can fully and accurately answer taxpayers’ questions.
3. The tax laws should anticipate the largest areas of noncompliance and minimize the opportunities for such noncompliance.
4. The tax laws should provide some choices, but not too many.
5. Where the tax laws provide for refundable credits, they should be designed in a manner that the IRS can effectively administer.
6. The tax system should incorporate a periodic review of the tax code — in short, a “sanity check.”[4]

 

Lawmakers at all levels should consider these principles as they work on income-tax reform. Taxpayers will be watching to see what we are asked to give up, what promises are made in return, and whether we can trust that the best interests of the taxpayers will be upheld in the future.

 

Endnotes:
[1] Federal tax bracket and rate information can be found at: “Table 23. U.S. Individual Income Tax: Personal Exemptions and Lowest and Highest Bracket Tax Rates, and Tax Base for Regular Tax, Tax Years 1913-2015,” Internal Revenue Service, May 17, 2016, <https://www.irs.gov/uac/soi-tax-stats-historical-table-23> accessed on March 13, 2017; and “Federal Individual Income Tax Rates History, Income Years 1913-2013,” Tax Foundation, October 17, 2013, <https://www.scribd.com/doc/190499803/Fed-U-S-Federal-Individual-Income-Tax-Rates-History-1862-2013> accessed on March 13, 2017.
[2] Table 23.
[3] Nina E. Olson, “Tax Reform: Simplify the Internal Revenue Code Now,” National Taxpayer Advocate Annual Report to Congress 2016, <https://taxpayeradvocate.irs.gov/reports/2016-annual-report-to-congress/tax-reform-simplify-the-internal-revenue-code-now> accessed on May 22, 2017.
[4] Ibid.

 

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