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The Biggest Tax Cut of All

Research & Commentary
January 09, 2012

by Salvatore Babones

Between the 1950s and the 2000s marginal taxes on the wealthiest Americans have fallen from 90% to 35%. As late as 1982 the top marginal tax rate was still 50%, a rate that seems unimaginable today.  What a difference 30 years can make.

But as large as these tax cuts have been, the real cuts have been even bigger.  Many wealthy Americans simply don’t bother to declare their full incomes.  They can do this safe in the knowledge that IRS audits these days are as rare as hens’ teeth.

The reason is that Congress has cut IRS staffing so much over the past two decades that there’s simply no one left to do the audits.  Claim what you want.  If your taxes are complicated enough, no one will bother to audit you.  No one will ever know.

Since 1990 IRS staffing has been cut by 1/3 in real terms, despite the increasing number of individuals and companies filing taxes and the increasing complexity of the tax code.

[pullquote]Since 1990 IRS staffing has been cut by 1/3 in real terms.[/pullquote]

For ordinary wage-earners down in the realonomy, this makes no difference.  Your wages are reported by your employer directly to the IRS on your W-2 forms, and it’s up to you to document why you should get any of it back as a refund.  It’s almost impossible for wage-earners in the Realonomy to cheat on their taxes.

For people with very high incomes, however, most of their income never gets reported on a W-2 form.  It comes in the form of stock options, deferred compensation, wages disguised as investment income, business profits, and the like.  Many of these forms of income are taxed at much less than the top 35% marginal tax rate.  Plus there are a myriad of targeted deductions that the wealthy can use to help minimize their tax bills.

The only way to make sure the truly wealthy pay the taxes they owe is through tax audits.  Since Congress has cut the IRS auditing budget down to almost nothing, very few tax returns are audited these days.  The IRS reports that it audits just 1.66% of the tax returns of high-income individuals.

In other words, the wealthy can report whatever they want with less than a 1 in 50 chance that anyone will even look at their returns.  Audit rates are even lower in the Realonomy, but most of us have little choice but to pay our taxes.  For the rich, taxes are increasingly optional.  No one knows how much income goes unreported, but the defunding of the IRS may just be the biggest tax cut of all.

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