The Senate Finance Committee didn’t get the answers it was hoping for during a hearing this week with Treasury Department representatives on how to reduce the tax gap.In testimony before the committee, Treasury Secretary Henry Paulson said that Congress should focus its efforts on reducing the complexity of the tax code, as well as approving the entire budget request from the Internal Revenue Service and enacting the Treasury’s February legislative proposals that are backed by President Bush. Paulson said that in developing more than a dozen proposals to minimize the gap, the Treasury focused on changes that would come with minimal additional burdens.

“I have come to the conclusion that there is a big part of the tax gap we simply won't be able to reach without adding draconian and painful requirements on all taxpayers,” said Paulson. “We must remember that the tax gap is simply not a pot of gold that we can dip into every time we want to pay for a new or expanded program,” he said. “Nor should it be viewed as an easy solution to existing challenges, such as the alternative minimum tax.”

Paulson, the former head of Goldman Sachs, said that he has spent a great amount of time studying the tax gap since joining the Treasury last summer. He said that the latest data -- which estimates the gap at $345 billion in 2001 -- indicates that the majority of the tax gap is due to underreporting of income, most of which is attributable to individuals with business income and self-employment tax liabilities.

Paulson also spoke against a number of other proposals that have been bandied about on Capitol Hill, describing them as “bad tax policy” and “unnecessarily painful, expensive and time-consuming for taxpayers.” He specifically pointed to calls that would require individuals to file 1099s reporting their transactions with service providers, such as their doctor, auto mechanic and dry cleaner; eliminating cash transactions in favor of electronic transactions, with card issuers and banks providing statements to the IRS so the payments can be matched with a business' reported income; or doubling or tripling the number of IRS agents and audits.

“In theory, each of these measures could bring in some additional revenue, but the cost of compliance for individuals and businesses -- most of whom already pay what they owe -- would far outweigh the gains,” Paulson said. “In many cases, such measures would also raise privacy concerns due to the government's heavier focus on the daily transactions in each of our lives.”

Nonetheless, Finance Committee Chairman Max Baucus, D-Mont., demanded that Paulson return in July with a strategy for increasing the voluntary compliance rate to 90 percent by 2017 from the current 84 percent. Baucus said that change would increase tax collections by $150 billion a year.

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