Tax systems that heavily tax the rich are asking for trouble — or so the politicians who cater to the 1 percent incessantly argue. The higher the tax rate on high incomes, their argument goes, the greater the incentive the rich have to waste time and energy figuring out ways to pay less.

In 2001 and again in 2003, this convenient excuse helped the Bush White House chop away at the taxes the IRS expects rich people to pay. The government trimmed the tax rate on top tax-bracket income from 39.6 to 35 percent and slashed the rates on capital gains and dividends to 15 percent from 20 and 39.6 percent, respectively.


According to rich-people-friendly right-wing rhetoric, these cuts should have boosted tax compliance.

Instead, tax evasion actually increased, rising to $385 billion in 2006 from $290 billion five years earlier, according to a new IRS study.

Need some context for all these billions? The 2006 federal budget deficit clocked in at $248 billion. Without tax evasion, Washington would have had a hefty surplus that year.

Who’s doing all this tax cheating? Not average Americans.

Average Americans get most of their income from wages and salaries. Almost all of this income faces paycheck withholding. The result: Only 1 percent of the taxes due on wages and salary, the new IRS study reports, goes uncollected.

Rich Americans, by contrast, collect huge chunks of their annual income from capital gains, business ownership, and other sources of income that face neither rigorous reporting requirements nor withholding.

Tax evasion for the income category that includes capital gains and private equity partnerships, the IRS calculates, ran at an 11-percent rate in 2006, ten times the evasion rate for wages and salaries.

The new IRS report doesn’t break down the new tax evasion data by taxpayer income class. But five years ago, the last time the IRS released a major tax evasion analysis, two analysts — IRS economist Andrew Johns and the University of Michigan’s Joel Slemrod — went through the raw IRS data and did just that.

Americans who make between $500,000 and $1 million a year, the pair found, underreport their incomes by a whopping 21 percent, triple the 7-percent “misreport” rate of taxpayers making between $30,000 and $50,000, and more than 2.5 times the 8-percent cheating rate by taxpayers making $50,000 to $100,000.

The new IRS tax evasion numbers cover the 2006 federal fiscal year. Has the tax evasion story improved since then? Some signs certainly do seem positive.

Earlier this month, the IRS announced that audit rates on tax returns reporting over $1 million a year in income have doubled over recent years. In 2011, 12 percent of millionaires faced audits, up from only 6 percent in 2009.

And the IRS is toughening up elsewhere as well. The agency has created a “Global High Wealth” unit, an initiative designed “to better cope with the growing complexity of income and assets of the high-income, high-wealth population.”

IRS investigators are also going to court against Swiss and other foreign banks that have helped wealthy Americans hide their assets.

But this momentum may be difficult to sustain. Budget cuts have undermined the IRS enforcement capacity. The agency’s $11.8-billion budget for 2012 stands $300 million below last year’s budget — and $1.5 billion under what the Obama White House requested.

The IRS this year, enforcement chief Steven Miller acknowledges, will have about 3,000 fewer enforcement staff on the job than in 2010. The “imbalance” between the agency’s workload and resources, IRS national taxpayer advocate Nina Olson recently told Congress, “is becoming unmanageable.”

More budget resources would certainly help turn that situation around. Every $1 added to the IRS for enforcement, the data shows, yields over $4 in revenue.

Sam Pizzigati edits Too Much, the weekly Institute for Policy Studies newsletter on excess and inequality.Visit for a longer version of this essay
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