Tax-compliance rates in the United States are based, in large part, on how taxpayers accrue income. Those who receive income that's reported by a third-party source, such as wage earners, exhibit near-perfect compliance rates on their salaries. Since the payer of the income also reports that income as a deduction, such as an employer deducting wages as a business expense and reporting the wages on a W-2, a copy of which goes to the IRS.
By contrast, taxpayers who accrue income in hard-to-trace ways exhibit much lower compliance rates, as no third-party source reports the payment to tax authorities. Instead, some of these taxpayers take advantage of the fact that specific income streams are hidden from the IRS, with no information that the IRS can use to detect noncompliance.
The Biden administration's efforts to ferret out taxpayers who are not reporting all of their income originally included the idea of requiring all financial institutions to report consumers' accounts transactions totaling $600 or more annually. This would be done by having two new boxes on the applicable annual 1099 form: one would report deposits into the account, and the other would report the withdrawals.
This created a firestorm of opposition from the financial institutions whose job is to report consumers' transactions, which claimed this would be an added burden and expose consumers and businesses to possible data breaches and privacy intrusions.
On the other hand, supporters argue that the financial institutions' customers would not be exposed to any new privacy issues or obligations. Yet, the institutions would be providing the IRS with more information to track down tax cheats and help close the tax gap by an estimated $600 billion annually.
On October 19, 2021, the Biden administration has backed down in the face of widespread opposition. It is now proposing raising the reporting threshold to $10,000 in annual transactions while exempting income from which federal taxes are automatically deducted, along with federal benefits like unemployment and Social Security.
Keep in mind that this reporting requirement is part of the proposed $3.2 trillion package (Build Back Better Act) being negotiated in Congress, and there is no assurance it will be included in the final bill. However, if it is, it would not be effective until December 2022.
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