At the House Ways and Means Committee hearing on "Understanding the Tax Gap and Taxpayer Noncompliance" on May 9, 2019, witnesses expressed concerns about the role in the tax gap played by the gig economy and multinational corporations taking aggressive tax positions contrary to transfer pricing rules and shifting income abroad. There was also partisan disagreement over the role of the IRS budget, with Republicans defending cuts and Democrats asserting that it must be raised to narrow the tax gap, and which taxpayers the IRS targets for audit.

In an opening statement, Chairman Richard Neal (D-MA) said high-income taxpayers have the most opportunity to engage in tax avoidance planning, but the IRS is not focusing on them; instead, the agency is targeting low-income taxpayers that receive an Earned Income Tax Credit. Neal also said IRS examination personnel have decreased by nearly 5,000 employees over seven years and IRS revenue officers have decreased by over 1,600 employees, and with fewer officers, Treasury fails to collect billions of dollars each year.

Ranking Member Kevin Brady (R-TX) defended cuts to the IRS budget in recent years and said Republicans are committed to ensuring that the agency administers the tax code, cognizant of the fact that the IRS cannot audit its way out of the tax gap. "Solving the tax gap requires multiple solutions across different types of taxes," he said.

Witnesses at the hearing were:

• J. Russell George, Treasury Inspector General for Tax Administration (TIGTA), US Department of the Treasury
• James R. McTigue, Director, Tax Issues, Strategic Issues, GAO
• Benjamin Herndon, Chief Research and Analytics Officer, IRS
• Kenneth Wood, Former IRS Deputy Associate Chief Counsel, Office of Chief Counsel (International), IRS

George — who has been in the post since 2004 with the tax gap an issue of interest in Congress for that entire time — said the gross tax gap is estimated to be $458 billion annually, and the net tax gap of $406 billion reflecting the amount that is owed by taxpayers and what is paid after taking into consideration the amount that the IRS enforcement efforts bring in. (The IRS is preparing a new tax gap estimate to be released in June or July, according to Chairman Neal and others.)

George said the IRS lacks a strategy for dealing with the gig economy, which has grown rapidly and creates a more complicated tax situation for individuals who may not understand their tax obligations, including the possible obligation to pay self-employment tax. Many taxpayers who earn income in the gig economy do not receive a Form 1099-K, and many cases involving those taxpayers are not being examined because of the large volume of discrepancies that were identified and resource constraints, he said.

Wood focused on transfer pricing, which he said over the last 30-plus years has been the area that has posed the greatest threat to the tax base. He said the IRS has the task of auditing the pricing of trillions of dollars of transactions "as budgets shrink and senior personnel with substantial transfer pricing experience retire and cannot be replaced." They are no match for "large, well-advised multinational corporations that control the facts but resist responding to legitimate IRS inquiries in a timely manner in the hope that they can run out the clock before the IRS has fully developed its case," he said. An economic analysis from 2010 estimated that inappropriate transfer pricing was draining more than $28 billion annually from the Treasury, he said, adding that there are no easy answers to the problem.

McTigue said given that the tax gap has been a persistent issue, reducing it will also require targeted legislative actions, including:

• Expanding third-party information reporting to the IRS, such as requiring reporting for certain payments that rental real estate owners make to service providers, such as contractors who perform repairs on their rental properties, and for payments that businesses make to corporations for services
• Requiring additional taxpayers to electronically file tax and information returns and
• Providing the IRS with the authority to regulate paid tax return preparers to improve the accuracy of the tax returns they prepare

Herndon said the tax gap can be attributed to non-filing, underpayment and underreporting, with the latter being the largest component, representing $387 billion of the $458 billion gross gap.

Rep. Lloyd Doggett (D-TX) said the IRS has been cast by Republicans as a failure and a harm to the American economy, and the Committee has assured that the IRS lacked resources. In light of Wood's testimony, he also highlighted his legislation to repeal the global intangible low-tax income (GILTI) deduction, intended to prevent outsourcing, and asked whether that legislation would reduce the incentive to seek transfer pricing gains. Wood said it is an open question whether the 2017 tax law has deterred base erosion through transfer pricing by currently taxing some offshore profits and reducing the rate on foreign-derived intangible income (FDII).

Given George's testimony about the gig economy, Tom Rice (R-SC) highlighted his New Economy Works to Guarantee Independence and Growth (NEW GIG) Act that would clarify provisions in the tax code that classify workers as either independent contractors or employees.

Under questioning from Rep. Jimmy Panetta (D-CA), George said there is no doubt that conducting audits is the most effective way of addressing underpayment of taxes. Like Neal, Panetta lamented that low-income taxpayers are more likely to be audited than taxpayers making over $1 million.

Opening statements are attached. Testimony from the hearing is here.

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ATTACHMENTS

Brady Statement

Neal Statement