IRS Scandal Highlights Need for Comprehensive Tax Reform

by James P. Pinkerton and Elaine Kamarck –

What can we learn from the recent IRS scandals? The alleged behavior is illegal and already steps are being taken to deal with those who appear to have broken the law. And no doubt, more will be done.

But what else, beyond the fact that some employees misbehaved in a partisan and inappropriate way, what other lessons about taxation should we take away from the scandal?

For the sake of jobs and economic growth, as well as good governance, we should be thinking about a simpler and more transparent tax system. The banes of complexity and opacity are the “gateway drugs” to abuse and corruption. By contrast, simplicity and transparency are the hallmarks of efficient and honest administration. The wisdom of Supreme Court Justice Louis Brandeis applies here: Sunlight is the best disinfectant.

The big lesson is that systems that are exceedingly complex inevitably lead to trouble. There are several reasons why complexity and mischief seem to go hand in hand. First, the more confusing the rules and regulations, the more power bureaucrats can exercise over less well informed citizens. In the case of the IRS agents and the Tea Party, as well as some Democratic-leaning, petitioners, it seems as if the agents used their discretion to tie the applicants up in a surfeit of red tape. Second, the more complex a legal system is, the more costly it is to comply. If you can afford armies of lawyers and accountants, you can get all sorts of breaks from the government. If you can’t, you pay higher tax rates than people who have more money than you do. And finally, the more complex a system is, the more people are tempted to cheat or to pay someone to help them cheat.

In fact, the behavioral troubles at the IRS are not the only factors being hidden by a complex bureaucracy. Right now, thanks to an overly complex tax code, riddled with special exceptions and loopholes, the U.S. is at a competitive disadvantage with the other countries of the industrialized world. These are the 34 nations of the Organization for Cooperation and Economic Development, the “club” of the industrialized countries. These countries, mostly clustered in Europe, are out-competing us and moving our jobs overseas.

In the wake of the IRS scandals we have to ask ourselves — have we reached a point of complexity that is both counterproductive and dangerous? The wild thicket of tax loopholes that has proliferated in the 25 years since we last had tax reform allows companies fortunate enough to be able to qualify for these loopholes to pay low or no taxes, while other companies pay the 35 percent corporate tax rate — the highest tax rate in the world. Ditto for wealthy individuals.

Lawmakers are aware of this problem. Rep. Dave Camp (R-Mich.), the chairman of the House Ways and Means Committee, said the tax system “is rotten at the core, and it must be ripped out so we can start fresh.” Sen. Max Baucus (D-Mont.), the chairman of the Senate Finance Committee, pointed to the IRS investigation as another reason we need tax reform. The simple fact of the matter is that complexity is not good for democracy.

While we would not hope for this scandal or the investigation, it has highlighted how much work is needed to fix the tax code. With all eyes on the tax code and bipartisan leadership in Congress and the White House supporting comprehensive tax reform, this is our best chance for needed meaningful changes in more than a quarter-century.

The lesson from the IRS scandal should be a comprehensive overhaul of the U.S. tax code with an eye towards simplification. Get rid of loopholes. Establish a fair rate for all corporations. Level the playing field.

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