A legislative recommendation in the Advocate’s 2005 report to Congress calls for brokers to report basis prices and purchase dates for stock transactions to the IRS. This would effectively hold capital gains to the same tax rule as wages, which employers have had to report since 1943; under the Advocate’s plan, financial institutions would have to do the same for capital gains. Only the proceeds from sales are currently reported, and these tell the IRS next to nothing.
Few tax reforms could be fairer or make more fiscal sense.
It mocks tax equity that wages are reported by a third party to the IRS, but capital gains are not. What’s up with keeping a tighter tax rein on ordinary workers than on the high rollers?
And consider the hit the Treasury takes. Listen to the Advocate: “From the government’s perspective, the absence of information reporting enables underreporting by taxpayers who deliberately overstate their basis (thereby reducing their gain or even generating a loss), because they know the IRS generally cannot detect errors in basis reporting in the absence of an audit. One recent estimate puts the revenue loss...from such underreporting at $250 billion over the next 10 years.”
To which you can add the billions lost every year by states and cities that base their taxes on federally-reported amounts.
The Taxpayer Advocate is not alone in recognizing the merits of third-party capital gains reporting. Pamela Olson served as the Treasury’s acting assistant secretary for tax policy during George W. Bush’s first term. In May 2002, she answered my letter to Congressman Charles Rangel: “...Mr. Scorse believes that tax compliance would be improved if information reporting for capital gains included the amount of capital gains income that a taxpayer is required to show on his or her return. We couldn’t agree more! Information reporting is the most efficient, least intrusive way of helping taxpayers comply with their tax obligations to the federal government.”
Professors Joseph M. Dodge of Florida State and Jay Soled of Rutgers couldn’t agree more, either. Their paper in the tax policy journal Tax Notes called the potential for capital gains tax cheating “virtually unlimited,” particularly for stock transactions; in their opinion, it could virtually be eliminated with third-party reporting.
IRS Commissioner Mark Everson, speaking generally, told a Congressional hearing last April that “Average Americans pay their taxes honestly and accurately, and have every right to be confident that when they do, their neighbors...are doing the same.” It’s hard to have such confidence when capital gains are not reported to the IRS by third parties.
The Advocate’s recommendation takes note of financial institutions that do not keep track of basis prices, leaving clients the sometimes-daunting task of doing it on their own. Ms. Olson floats a remedy, a one-time tax credit to brokers for setting up a tracking system. Full speed ahead, and let the Congress work out the details. (In mid-March, Senator Evan Bayh (D-IN) introduced legislation that would do exactly what the Taxpayer Advocate recommends. Senators John Kerry (D-MA), Barack Obama (D-IL), Carl Levin (D-MI) and Tom Carper (D-DE) are co-sponsors of Senator Bayh’s bill, S. 2414.)
Look at the Advocate’s idea this way. It’s one tweak of the Tax Code, one large leap for tax fairness. Plus those billions for the Treasury.
This story was published on March 21, 2006.