When tax avoidance crosses the line

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Don’t get me wrong. It is a tax lawyer’s job to legally minimize what a client must pay in taxes. But the legitimate act of tax avoidance has increasingly given way to the more questionable art of tax evasion – even among some of the industry’s most respected organizations.

Earlier this month, Ernst & Young agreed to pay the federal government $123 million to settle a case in which it was forced to admit wrongful conduct by partners and employees who helped some 200 clients use tax shelters to defer, reduce, or eliminate more than $2 billion in tax liabilities. Ernst &Young is the latest, but not the only, firm involved in the tax shelter mess.

 An attorney with the now defunct law firm of Jenkins & Gilchrist was recently sentenced to eight years in prison for her involvement in designing, marketing, and implementing various abusive tax shelters.
 
In fact, federal prosecutors are currently embroiled in more than 100 criminal investigations against suspected large-scale tax evaders, pressuring banks to reveal clients who have stashed money in secret overseas accounts.


Lawyers are the stewards of the tax code, and they should protect it. To avoid crossing the line, however, lawyers need to know where that line is. Today’s increasingly byzantine and complex tax code makes that job harder and harder every day.
 
When ratification of the 16th Amendment launched the income tax in 1913, the tax code was a scant 400 pages long. Today’s tax code tops the chart at nearly 74,000 pages (in fact, experts don’t even agree on precisely how many words it includes.)

Tax code complexity has proven not just confusing but  costly to consumers as well. The National Taxpayers Union estimates that individual taxpayers pay $115.4 billion a year on software, preparer fees, and other materials. Corporations, which spend an estimated 7.64 billion hours a year, spend $227.1 billion.

In her annual report to Congress, the National Taxpayer Advocate highlighted the impact of the tax code’s complexity on taxpayers’ ability and willingness to comply with tax laws. She cited a survey finding that respondents who had less trust in the tax system were also less likely to comply fully with the tax laws. Political bickering and brinksmanship over the fiscal cliff, the debt limit, and federal deficits and debt have led to last-minute, back-door deals on tax changes that have only fostered distrust and cynicism among taxpayers about the current tax system, and about government in general. They “confirm taxpayers’ suspicions that the tax laws are designed to entrap them and obscure what is and is not being taxed,” the taxpayer advocate wrote in her report.

With the economy showing signs of recovery, it’s high time that our federal lawmakers move beyond these self-induced crises and begin to talk about tax reform that can help taxpayers move forward with a clear understanding of how the tax code works and how much they owe.

That means a system where individuals have confidence that paying their fair share means competing on a level playing field, where the same rules apply to all.  Most of all, it means that winners and losers are not based on who can afford the highest priced tax attorney.

Bergin is president and publisher of Tax Analysts and an expert on federal tax policy.