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, Overview  Background  Previous Compliance Cost Estimates for Corporations and Partnerships  New Preliminary Compliance Cost Estimates for Corporations and Partnerships  Conclusions and Outlook

June 21, 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

June 21, 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 Average time burden estimates by tax form  Estimates based on number of lines on each form  Limitations  Outdated - Based on information collected in the early 1980s  Average Time Burden only  Limited ability to convert to monetary costs  Limited information for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

June 21, 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

June 21, 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)

June 21, 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, 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, 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 25 th percentile wage of Bookkeeping clerks from May 2009, OES, BLS. [3] The maximum rate is the 90 th percentile wage of Accountants from May 2009, OES, BLS.

June 21, Total AssetsC corporationsS corporationsPartnerships All $0 to $100k $100K to $1M $1M to $10M $10M to $500M $500M or more All Average Monetization Rates, by Total Assets

June 21, Total Assets C corporationsS corporationsPartnerships All $0 to $100k 923,332 2,648,407 1,468,464 5,040,203 $100K to $1M 550,924 1,115, ,823 2,593,618 $1M to $10M 178, , ,051 1,117,366 $10M to $500M 37,656 36, , ,696 $500M or more 4, ,371 9,275 All 1,694,869 4,094,562 3,168,728 8,958,158 Source: IRS, Statistics of Income Tax Year Number of Returns

June 21, ADL Methodology – Constant Monetization Rate TY 2009 Business Income Tax Compliance Costs, by Total Assets Average Compliance Costs Total Compliance Costs, in Billions Total Assets C corporationsS corporationsPartnershipsAll $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 $9,500$84.8 Hourly rate = $47

June 21, ADL Methodology – Variable Monetization Rate TY 2009 Business Income Tax Compliance Costs, by Total Assets Average Compliance Costs Total Compliance Costs, in Billions Total Assets C corporationsS corporationsPartnershipsAll $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, Tax Year 2009 Survey – Variable Monetization Rate TY 2009 Business Income Tax Compliance Costs, by Total Assets Average Compliance Costs Total Compliance Costs, in Billions Total Assets C corporationsS corporationsPartnershipsAll $0 to $100k $6,000$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, Total Business Income Tax Compliance Costs, by Size of Total Assets, TY 2009 Size of Total Assets Total Compliance Costs ($ bill)

June 21, 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, 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. June 21,

June 21, 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