Employers have reported the income all Americans earn from regular jobs to the Internal Revenue Service since World War II. Starting this year, U.S. taxpayers and their brokers finally have to do the same thing with the income earned from capital gains.
This smart move closes a loophole that had cost the Treasury billions every year. It takes a big burden off taxpayers. And it never would have happened without a man the Left loved to hate.
Evan Bayh is a conservative Indiana Democrat who retired from the Senate last year. His Blue Dog politics rankled liberals, and he was trashed for giving up a seat that would flip to the GOP. All the same, Bayh made tax reporting fairer than it’s ever been in America.
He did it with a bill that requires brokers to report basis prices to the IRS. Basis prices are the initial costs of investments, and brokers previously didn’t have to turn over these numbers. They had to report proceeds, but not basis prices.
The only way to figure capital gains is to have both numbers and do the arithmetic. Since the beginning of income taxes in 1916, capital gains income has been reported on the honor system. Now the IRS will get basis prices along with proceeds. Lobbyists for brokers won a gradual phasing in of the new requirements: new stock purchases will be reported this year, mutual funds in 2012, bonds and options in 2013. The law doesn’t affect pre-2011 holdings.
National Taxpayer Advocate Nina Olson recommended basis reporting to Congress, and it was her proposal that prompted Bayh to draft his bill. The Treasury was losing up to $25 billion a year through capital gains misreporting, and states were being stiffed additional billions. The reasons were no mystery. As Olson told The Wall Street Journal, “It seemed that people who wanted to comply with the law were finding it too hard, while those who wanted to skirt the law were finding it too easy.”
Faking numbers on tax returns was easy. Keeping records year after year, adjusting them for distributions and stock splits, even remembering where they were, that was hard. Computers erased the problems. Brokers are now required to maintain basis records and forward the final results.
Tax compliance for income that’s reported to the IRS far exceeds compliance for self-reported income, because wage earners essentially report all their wages. The reason is written on the W-2 forms they get every year: “THIS INFORMATION IS BEING FURNISHED TO THE INTERNAL REVENUE SERVICE.” But compliance figures slump for every kind of self-reported income, including stock market capital gains.
When Bayh re-introduced his bill in 2007, he cited a study that found misreporting by more than a third of taxpayers with capital gains or losses. The Congressional Record for that day shows one other senator making the case for basis reporting. He said:
“It is estimated that $345 billion of federal taxes goes uncollected each year. This bill doesn’t solve that full problem, but it is a step in the right direction. It reduces the federal deficit without raising taxes or cutting spending. It simplifies the tax filing process and reduces the chance of error or fraud. It applies what we know about the clear benefits of automatic reporting to the IRS–which is required now for wage income–to capital gains income as well.
“This bill makes sense. It’s good policy. And I urge my colleagues to join me in supporting it and in helping to improve our tax code.”
That was the junior senator from Illinois, Barack Obama. Now, as president, his budgets (and U.S. taxpayers) will benefit from the extra billions that fairer tax reporting of capital gains will add to the Treasury every year.