A Solution for Tax Evasion

A solution for Tax Evasion Problems

Tax avoidance is an activity of reducing tax liabilities to maximize tax benefits using methods that are legally accepted by the U.S. tax laws. Tax evasion, on the other hand, is any activity engaged in reducing tax liabilities illegally, which is strictly prohibited by the U.S. tax laws, by individuals, corporations or trusts. According to recent IRS publication, "Tax Gap for Tax Year 2006", before update of new estimation, the latest tax gap estimates was published on 2006 with tax liabilities based on tax year 2001, and amount of estimated gross tax gap and estimated net tax gap in 2001 were approximately $345 billion and $290 billion respectively. Additionally, estimated total tax liabilities were approximately $2.1 trillion, (Internal Revenue Service, 2012)

According to the publication, the gross tax gap indicates that the amount of tax liabilities that are not paid in time by taxpayers, and the net tax gap indicates that the amount of tax liabilities that are not paid in time and never collected by taxpayers, (Internal Revenue Service, 2012) The difference between the gross tax gap and the net tax gap represents the amount the gross tax gap that might be collected in the future, (Internal Revenue Service, 2012) Additionally, when the IRS measured the net tax gap, they didn't include any payment of interests and penalties, (Internal Revenue Service, 2012) Therefore, of total estimated tax liabilities of $2.11 trillion, the amount of $345 was not paid in time, and of the gross tax gap of $345 billion, $290 billion was never paid. With percentages, 16.43% of total tax liabilities for 2001 were not collected in time, and only 15.94% of not collected tax liabilities were collected. Also, 13.81% of total tax liabilities for tax year 2001 were never collected.

The gross tax gap is composed of three parts, which are non-filing gap, underreporting gap and underpayment gap, (Internal Revenue Service, 2012) The IRS defines that the non-filing gap represents a portion of the gross tax gap associated with tax returns that were not filed after due date or never filed, (Internal Revenue Service, 2012) For example, if an individual doesn't file income tax return for any taxable year, the situation falls under the non-filing gap category. For tax year 2001, the non-filing gap accounted for $27 billion or 7.83% of the gross tax gap. Individual tax returns that never filed accounted for $25 billion of the non-filing gap, and estate taxes accounted for the rest, (Internal Revenue Service, 2012) The IRS defines that the underreporting gap represents a portion of the gross gap that is related to underreported taxable income by individuals, corporations and trusts. Also, the underreporting gap takes the largest share in the gross tax gap, (Internal Revenue Service, 2012) For example, if an individual files tax return with the amount less than the individual's actual income, this situation falls under the underreporting gap category. The underreporting gap accounted for $285 billion of the gross gap for tax year 2001, and of that $285 billion, individual income taxes, which includes non-business income, business income, adjustments and tax credits, and employment taxes such as self-employment tax and FICA tax accounted for $197 billion and $54 billion of the gross tax gap respectively. Corporation income taxes, which includes small corporations with assets under $10 million and large corporation with assets of $10 million or more, and estate taxes accounted for the rest of the underreporting gap, (Internal Revenue Service, 2012)

The IRS defines that the underpayment gap represents a portion of the gross gap that was not fully paid by taxpayers, and it is the second largest part of the gross tax gap, (Internal Revenue Service, 2012) For example, if a taxpayer filed income tax return with actual income, but failed to pay the full amount of the taxpayer's tax liabilities, the situation falls under the underpayment gap. The underpayment gap accounted for $33 billion of the gross tax gap for tax year 2001, and of that $33 billion, individual income taxes and employment taxes accounted for $23 billion and $5 billion of the underpayment gap. Besides individual income taxes and employment taxes, corporation income taxes, excise taxes and estate taxes accounted for the rest of the underpayment gap, (Internal Revenue Service, 2012)

There are two interesting things that I want to mention before moving on. Firstly, more than 10% of the United States' total tax liabilities for tax year 2001 were never collected. I looked at the United States budget for 2001 and found out that the amount of the gross tax gap exceeded total costs used for national defense, which was approximately $311 billion. Secondly, the amount of the underreporting gap from individual income taxes accounted $197 billion or 57.7% of the gross tax gap for 2001. As I mentioned before, the IRS estimated that the amount of total tax liabilities for tax year 2001 was $2.11 trillion, and surprisingly, the underreporting gap from individual income taxes accounted 9.4% of the total amount of tax liabilities for tax year 2001. Underreporting of income is considered as tax evasion and is strictly prohibited by tax laws. I will elaborate this part later in this paper.

According to the IRS, they have updated data about the tax gap with re-estimated data using more recent information, which is based on 2006 tax liabilities, and improved technics, (Internal Revenue Service, 2012) The updated IRS data tells that for tax year 2006, total estimated tax liabilities and the estimated gross tax gap were approximately $2.66 trillion and $450 billion respectively. While total tax liabilities grew by 26.07%, the gross gap grew by 30.43% from tax year 2001 to tax year 2006. Also, the net gap for tax year 2006 was $385 billion and had grown by 32.76%, (Internal Revenue Service, 2012) By representing percentages, for tax year 2006, 16.91% of total tax liabilities were not collected in time, and only 14.44% of not collected tax liabilities were collected later. Also, 14.47% of total tax liabilities for tax year 2006 were considered as not able to collect by the IRS.

As I mentioned before, the IRS separates the gross tax gap into three parts. For tax year 2006, the underreporting gap took the largest share in the gross tax gap as for tax year 2001. The underreporting gap accounted for $376 billion of the gross tax gap for tax year 2006. Of the $375 billion underreporting gap, individual income taxes and employment taxes accounted $235 billion and $72 billion respectively. Corporation taxes and estate taxes accounted for the rest of the underreporting gap. The second largest part of the gross tax gap for tax year 2006 was the underpayment gap, and it accounted $46 billion of the gross tax gap. Individual