Tax Compliance Costs for Corporations and Partnerships: A New Look

George Contos, John Guyton, Patrick Langetieg – Internal Revenue Service (RAS:OR: Taxpayer Analysis & Modeling)

Allen Lerman, Susan Nelson – U.S. Treasury Department (Office of Tax Analysis)

June 21, 2012

The views expressed are those of the authors and not the official positions of the U.S. Treasury Department or the Internal Revenue Service.

June 21, 2012 2

Overview

Background Previous Compliance Cost Estimates for

Corporations and Partnerships New Preliminary Compliance Cost Estimates

for Corporations and Partnerships Conclusions and Outlook

June 21, 2012 3

Objectives of Compliance Costs Research

Gain insight into determinants of compliance costs: Changes in the macro-economy, tax law, tax administration Support policymaking and tax administration through

“what-if” analysis

Better understand the role of compliance costs: Cost of information needed to support tax administration Compliance costs as a driver of taxpayer behavior Compliance costs as an indicator of taxpayer needs

IRS provides annual estimates for: Taxpayers on tax forms OMB for the Information Collection Budget to Congress

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Existing IRS Estimation Method for Business Taxpayers:A.D. Little Methodology

Average time burden estimates by tax form Estimates based on number of lines on each form

Limitations Outdated - Based on information collected in the early 1980s Average Time Burden only

Limited ability to convert to monetary costs Limited information for distributional analysis

Ignores technology - Estimates are independent of the preparation and submission methods used by taxpayer

Prior efforts to monetize ADL burden estimates have used a constant monetization rate

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New Compliance Costs Research Methodology

Surveys measure time and out-of-pocket costs taxpayers spend on pre-filing and filing activities

Controls for substitution of time and money by monetizing time and reporting total compliance burden

Establishes econometric relationships between total compliance burden and tax return characteristics

Uses econometric micro-simulation model for forecasting and what-if analysis

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Estimation Method

Simple model similar to Slemrod and Venkatesh (2002) Dependent variable: Logarithm of total monetized

compliance burden Controls include:

Log of total assets No total assets reported Organization form

Separate estimation for each asset size category: Less than $100K $100K to $1M $1M to $10M $10M or more

Eventual goal is to develop a more robust model along the lines of the previous small business model discussed in Contos et al (2009)

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Characteristics of Prior Research

Prior efforts to monetize ADL compliance costs: Used constant monetization rate Tended to ignore the fact that compliance costs are tax

deductible for businesses

Prior econometric studies: Showed comparable costs to current preliminary estimates Ignored tax deductibility of compliance costs for businesses

June 21, 2012 8

Corporate and Partnership Income Tax Compliance Costs, Literature Estimates

 Total Compliance

Costs

Small Businesses - IRS/Treasury: Tax Year 2004 (Small Business Survey)

$60B

Large & Medium Business - Slemrod (1996) Slemrod and Venkatesh (2002) (Medium and Large Business Surveys)

$24B

All Corporations and Partnerships $84B

June 21, 2012 9

Monetization of Time Burden

Constant hourly rate $47[1]

Variable hourly rate based on simple methodology Rate based on total assets and turnover, from $17.50 to $68 Limits:

If total assets and turnover zero then rate $17.50[2]

If total assets are over $30M and turnover over $10M, then rate $68[3]

All hourly rates reflect inclusion of fringe benefits

[1] Based on Tax Foundation methodology blending the mean Accountants and Lawyers rates from the May 2009 Occupational Employment Statistics (OES) Survey Estimates: BLS, Department of Labor.[2] The minimum rate is the 25th percentile wage of Bookkeeping clerks from May 2009, OES, BLS.[3] The maximum rate is the 90th percentile wage of Accountants from May 2009, OES, BLS.

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Total Assets C corporations S corporations Partnerships All

$0 to $100k 17.98 17.86 17.87 17.89

$100K to $1M 19.20 19.05 18.39 18.84

$1M to $10M 25.77 24.32 21.26 22.78

$10M to $500M 54.20 50.35 42.07 45.89

$500M or more 67.27 67.28 61.72 64.65

All 20.13 18.94 19.72 19.44

Average Monetization Rates, by Total Assets

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Total Assets C corporations S corporations Partnerships All

$0 to $100k 923,332

2,648,407

1,468,464

5,040,203

$100K to $1M 550,924

1,115,871

926,823

2,593,618

$1M to $10M 178,506

293,809

645,051

1,117,366

$10M to $500M 37,656

36,022

124,019

197,696

$500M or more 4,452

452

4,371

9,275

All

1,694,869

4,094,562

3,168,728

8,958,158

Source: IRS, Statistics of Income

Tax Year 2009 - Number of Returns

June 21, 2012 12

ADL Methodology – Constant Monetization RateTY 2009 Business Income Tax Compliance Costs, by Total Assets

Average Compliance Costs Total Compliance

Costs,

in BillionsTotal Assets C corporations S corporations Partnerships All

$0 to $100k $9,200 $8,900 $7,800 $8,600 $43.5

$100K to $1M$10,500 $9,600 $9,500 $9,800 $25.4

$1M to $10M$12,000 $10,400 $10,600 $10,800 $12.1

$10M to $500M$19,800 $13,300 $19,100 $18,700 $3.7

$500M or more$23,400 $18,800 $19,400 $21,300 $0.2

All $10,200 $9,300 $9,300 $9,500 $84.8

Hourly rate = $47

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ADL Methodology – Variable Monetization RateTY 2009 Business Income Tax Compliance Costs, by Total Assets

Average Compliance Costs Total Compliance

Costs,

in BillionsTotal Assets C corporations S corporations Partnerships All

$0 to $100k $3,500 $3,400 $3,000 $3,300 $16.6

$100K to $1M$4,300 $3,900 $3,700 $3,900 $10.2

$1M to $10M$6,800 $5,500 $4,900 $5,300 $6.0

$10M to $500M$23,300 $17,800 $17,200 $18,400 $3.6

$500M or more$33,600 $26,900 $25,600 $29,500 $0.3

All $4,600 $3,800 $4,200 $4,100 $36.7

Hourly rates from $17.50 to $68

June 21, 2012 14

Tax Year 2009 Survey – Variable Monetization RateTY 2009 Business Income Tax Compliance Costs, by Total Assets

Average Compliance Costs Total Compliance

Costs,

in BillionsTotal Assets C corporations S corporations Partnerships All

$0 to $100k $6,000 $5,200 $5,200 $5,300 $26.8

$100K to $1M$7,400 $6,800 $6,300 $6,800 $17.5

$1M to $10M$15,100 $13,200 $12,800 $13,300 $14.8

$10M to $500M$69,300 $37,900 $84,900 $73,300 $14.5

$500M or more$720,200 $271,300 $694,200 $686,100 $6.4

All $10,700 $6,500 $11,100 $8,900 $80.1

Hourly rates from $17.50 to $68

June 21, 2012 15

Total Business Income Tax Compliance Costs, by Size of Total Assets, TY 2009

$0.0

$5.0

$10.0

$15.0

$20.0

$25.0

$30.0

$35.0

$40.0

$45.0

$0 to $100k $100K to $1M $1M to $10M $10M to$500M

$500M or more

ADL constant ADL variable BTB Variable

Size of Total Assets

Tot

al C

ompl

ianc

e C

osts

($

bill

)

June 21, 2012 16

PRELIMINARY SUMMARY –Business Income Tax Compliance Costs in Billions

 Total Compliance

Costs

Prior Research $84

A.D. Little - Constant Rate $85

A.D. Little - Variable Rate $35 – $40

Tax Year 2009 Survey -Variable Rate

$75 - $100

June 21, 2012 17

Tax Deductibility of Compliance Costs

For businesses – unlike for most individuals – compliance costs may be deductible.

So far, compliance cost estimates have been gross and do not reflect any benefits from income tax deductibility.

Benefits of tax deductibility are not uniform. Benefits of deductibility depend on organizational form

and size. The impact of deductibility on the aggregate compliance

burden may be large.

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June 21, 2012 18

Conclusions and Outlook

Conclusions Total business income tax burden: $75-$100 billion Total burden close to earlier estimates Better reflects distribution of costs by size of

business

Outlook Expand estimation methodology Refine monetization methodology Explore implications of tax deductibility of

compliance costs