VIEWPOINTS : Reform Has Led to a Taxpayer’s Nightmare : In the Name of ‘Simplication,’ Tax Code Was Made Less Fair--and Far More Complicated

When Congress adopted its tax reform bill in 1986, our leaders in Washington told us that the new code was “simple, fair and equitable.”

Rarely has so much been promised and so little delivered. True, the rules of the game have been changed, but few who have studied the new code would have the temerity to suggest that the game is fairer or the rules easier to understand. That’s a sad fact that taxpayers will discover as they begin working on their tax returns in coming weeks.

God help taxpayers who do not bring in lawyers and accountants to help them prepare their returns because the new code is among the most cryptic documents ever written. It is a bulky 2,600 pages. The Joint Committee on Taxation has published another 1,400 pages of explanation in an attempt to clarify Congress’ intentions. The effort is patently futile.

There are so many mistakes in the final text of the law passed by Congress that a new law is planned to correct the deficiencies. What makes the 1986 act particularly frustrating to taxpayers is that it was the sixth important revision of the tax code in as many years. Tax planning is impossible with the Congress acting in such an erratic fashion, grinding a variety of political axes.

Tax bills attract lobbyists like honey draws bears. Every special interest needs favored treatment. In this regard, the 1986 Tax Reform Act is just like the other tax bills that Congress has passed in the past 30 years. It is filled with loopholes. Because it promised to restore fairness to tax policy, the failure of the 1986 act to deliver the goods brings added pain.

It is expected that Internal Revenue Service agents are receiving two to three days’ training to assist them in deciphering the extremely complex changes in the new law. This training clearly is inadequate to provide anything like an in-depth understanding of the law. Thus, expect a multitude of time-consuming disputes between IRS agents and taxpayers regarding what income should be declared and how, and what deductions should be allowed and when.

Many experts are saying that the courts, not the IRS or the Congress, will provide most of the fundamental interpretations of the 1986 act. This means that tens of millions of dollars of legal fees will be spent to clarify language in the law that was carelessly drafted.

The new complexity of the code is illustrated by the mortgage interest deduction that is still allowed. Ten million taxpayers will be required to fill out a special form to qualify for the deduction. The new Form 8598 is two pages long, with 16 line items of requested information. Accompanying the form are four pages of detailed instructions. The IRS assumes that it will take taxpayers a total of 14.3 million hours to fill out this form.

Compare this exhausting process to the rules that applied to the mortgage interest deduction previously. The financial institution holding the mortgage sent the taxpayer a notification of deductible interest paid during the year. It took no more than 10 seconds for a taxpayer to transfer the interest figure on the bank notification form to the appropriate entry on the tax return. There were no IRS instructions required and very little thinking on the part of the taxpayer.

Another example of added complication in the new code is the treatment of operating losses by a taxpayer who invests in an asset such as an apartment building. In the past, taxpayers could write those losses off against their income from other sources. Now they must write the losses off only against other passive investment income. The new form to be filled out by the taxpayer is one page long with an accompanying page of instructions.

The trouble here is that the IRS has not issued any regulations explaining what is meant by passive losses and income. New work sheets are being created by the IRS that will be an essential part of the filing process but they are, as yet, unavailable. The result is massive confusion, with taxpayers unable to plan an investment strategy.

Other noteworthy examples of the illogical approach that Congress has taken to tax equity and simplicity are:

- One-half of Social Security income is taxable if modified adjusted gross income exceeds $32,000 for married couples filing a joint return, and $25,000 for single taxpayers. This is true even though Social Security taxes originally were withheld from taxpayers’ income after income taxes already had been paid. To the extent that retirees are getting back in benefits the taxes that were withheld during their working years, the new tax is a double tax on the same income.

- Installment sales in certain types of property used in a trade or business in theory are allowed in the 1986 act, but such sales have been effectively eliminated by the more stringent definitions of profit from such deals and the alternative minimum tax.

- Miscellaneous deductions for entertainment, tax advice, dues, moving expenses and journals, among other things, are not deductible unless they exceed 2% of adjusted gross income. In other words, on $50,000 of income, the first $1,000 isn’t deductible regardless of how legitimate it is.

- New complexities have been added to determine the deductibility of money put into an individual retirement account. There is now a mandatory two-page form to fill out instead of last year’s one line. The IRS estimates that it will take taxpayers more than 2 million hours to comply with this added requirement.

The new tax code is so complex and imprecise that there is going to be massive, though unintended, noncompliance, exposing taxpayers to charges of fraud. If a political system is a reflection of its tax structure, then democracy in the United States is threatened by our existing tax code.

If you fail to comply fully with the new tax rules, you face substantial increases in all kinds of penalties. This includes the new requirement to accurately estimate within 20% of your tax liability and make the correct quarterly payments starting at the beginning of the year. If you make a mistake because you are confused, you pay the penalty.

Perhaps the best punishment for those legislators who have foisted the monstrosity of the 1986 tax code upon us is to make them fill out their own returns without legal or accounting advice. Maybe if those in Congress have a chance to experience what their sense of “simplicity, fairness and equity” has wrought, the next “tax reform” bill will produce a statute that a majority of Americans can understand and follow.