Calling the proposal for a "return-free" filing system "flawed" and "dangerous to taxpayers," 14 groups have written the President's Advisory Panel on Tax Reform to urge that it be taken off the table in any final report.While the timetable for a final report has been delayed by Hurricane Katrina relief efforts, with the final two scheduled meetings postponed, the return-free concept is one of the proposals under consideration by the panel.

There are two types of return-free systems, according to Eric J. Toder, senior fellow at the Urban Institute. Under the exact withholding system in use in the U.K., Germany and Japan, the correct tax liability is pre-paid by withholding.

In the tax agency reconciliation system, the tax agency computes final tax liability based on third-party data, such as W-2s and Form 1099s. The taxpayer receives a written determination and a bill from the government. If he chooses, he can accept the calculations and pay the bill, or wait for a refund. He may make minor adjustments, or he may disregard the determination and prepare a separate return.

Opponents of the system say that, far from being a convenience to the taxpayer, it creates a conflict of interest by making the tax collector the tax preparer, and is a step away from voluntary compliance.

"Return-free would make the same agency that collects taxes, writes tax regulations, collects revenues, performs audits and enforces compliance now also be the tax preparer," according to the group. "As a result, the tax collector's interest in maximizing revenue completely overrides the citizen's interest in minimizing his tax liability."

"Return-free is a tax increase," said Grover Norquist, president of Americans for Tax Reform, one of the groups opposed to the idea. "The true goal is to increase revenue. The government knows few taxpayers will challenge its findings."

Norquist, who testified at a May meeting of the Tax Reform Panel, noted that doing taxes keeps citizens aware of the tax burden imposed upon them by the government. "A return-free scheme would allow the government to raise revenues invisibly," he observed.

Other groups opposed to the proposal include the National Taxpayers Union, the Club for Growth, the American Conservative Union, the Reason Foundation, the American Shareholders Association, the Council for Citizens against Government Waste, and Freedom Works.

Taxpayers who are potential users of return-free systems are those in the lowest tax bracket, with wage income only, no itemized deductions and no credits except the Child Credit, according to Toder. Using Treasury Department data, he estimated that 17 percent of taxpayers in 1999 could have used exact withholding.

The number of potential users of return-free filing is raised to 50 percent when the system used is tax agency reconciliation, said Toder. This includes people whose income and deductions all come from sources reported by third parties, and everyone who can use exact withholding, plus two-earner couples, and those with matched sources of income and deductions.

The effects of tax simplification would facilitate having more taxpayers subject to a return-free system, although it would also reduce potential gains from such a system.

"It is not clear that the benefits of a return-free system exceed the costs, given the widespread use of preparers and software," he concluded.

Not so voluntary

Organizations opposed to return-free filing said that it takes a dangerous step away from voluntary compliance. "Involvement in preparing and submitting one's tax return is one way in which the public has awareness of, and accountability for, its own government. Willing citizen participation in the tax process is something absent from other economies, where government undertakes this role," they stated.

Moreover, they said, the program would result in more errors, as intimidated taxpayers either underpay or overpay.

"For many taxpayers targeted by return-free, getting an official 'bill' from the Internal Revenue Service can be extremely intimidating, particularly for seniors, low-income and non-English-speaking citizens," they charged. "In some cases, taxpayers who might have additional deductions not reflected on their return-free tax statement may feel compelled to pay the official government determination without question. In other cases, taxpayers who earned non-wage income may accept the government-prepared bill out of fear of challenging it, and mistakenly underpay and open themselves up to later investigation for tax evasion."

Additionally, the groups said that the return-free system could expose taxpayers to unknowing violations of the law because they believed that they were in compliance. "The return-free system saddles the taxpayer with responsibility for the accuracy of the government-prepared return, much like the current IRS 800-number hotlines may not be relied upon for accurate information and advice," they said. "In contrast, if a taxpayer receives assistance in the preparation of his or her taxes from a private sector tax preparer or tax software, it is commonly understood that the commercial service provider shares responsibility for the return's accuracy."

Moreover, the return-free detractors note that even with a return-free system, taxpayers must still take the time to prepare their taxes.

"While return-free will undoubtedly be advertised as a convenient timesaver, taxpayers will still have to independently determine and prepare their own taxes to verify that the return-free bill is correct and avoid being held liable for filing a false, inaccurate or incomplete tax return," they told the panel. "Because the sole responsibility and liability for accuracy and completeness is on the individual, return-free does not result in a reduction of burden or the substitution of government compliance work for that expected of the citizen."

The system would not work for any but the simplest tax returns, according to Chuck McCabe, chief executive officer of Richmond, Va.-based Peoples Income Tax.

"It wouldn't work for anything but the most basic returns," he said. "Even the low-end returns can get fairly complicated, with the Earned Income Tax Credit and the Child Credit. It would not be well received by most taxpayers - or their preparers."

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