Tax Expenditures: IRS Data Available for Evaluations Are Limited
Released: 2013-05-30T00:00:00

Letter

Background

Tax expenditures are provisions of the tax code that are viewed as exceptions to the “normal structure” of the individual and corporate income tax (i.e., exceptions to taxing income). They take the form of exemptions, exclusions, deductions, credits, deferrals, and preferential tax rates; however, not all such provisions are tax expenditures. For example, some provisions that determine tax liability, such as business expense deductions, are not considered to be tax expenditures because costs of earning income are usually deducted in calculating taxable income for businesses. Generally, tax expenditures grant special tax relief for certain kinds of behavior by taxpayers or for taxpayers in special circumstances. Holding tax rates constant, tax expenditures result in forgone tax revenue the government incurs by granting the relief. Many of these provisions may, in effect, be viewed as spending programs channeled through the tax system.

Congress updated the statutory framework for performance management in the federal government, the Government Performance and Results Act of 1993 (GPRA), with the GPRA Modernization Act of 2010 (GPRAMA). Both acts require agencies to set goals and measure and report the performance of their programs. GPRAMA introduced a more integrated and crosscutting approach to performance measurement that cuts across organizational boundaries. The act requires that OMB, in coordination with agencies, develop long-term crosscutting priority goals to improve performance and management of the government. OMB is to coordinate annually with agencies to develop a federal government performance plan which establishes performance indicators for achieving these goals. Moreover, GPRAMA requires that this plan identify the tax expenditures that contribute to each crosscutting priority goal. As we noted in a recent report, sporadic progress has been made along these lines. OMB Circular A-11 guidance directs agencies to list tax expenditures among the various programs and activities that contribute to the subset of performance goals that are designated as agency priority goals.

A performance evaluation of a tax expenditure program would use largely the same concepts, methods, and types of data as an evaluation of an outlay program. In prior reports, we have described in some detail how such program evaluations would be conducted to measure progress toward achieving the program’s intended purpose. Even if a tax expenditure is meeting its intended purpose, broader questions can be asked about its effects beyond that purpose. Specifically, the long standing criteria of fairness, economic efficiency, transparency, simplicity, and administrability can be used to evaluate whether a tax expenditure is good tax policy.

Some agencies may be better positioned to collect tax expenditure information and make it available for analysis than others. As we said in our Guide for Evaluating Tax Expenditures, for a tax expenditure that is part of a crosscutting agency priority goal, the responsible agencies identified in the related performance plan may be the logical agencies responsible for evaluating the tax expenditure. Although IRS is the federal agency responsible for administering tax expenditures, it is not responsible for the program areas targeted by many tax expenditures. The information available at IRS is generally limited by the Paperwork Reduction Act to data used for tax administration, not for performance evaluation.

Information for Almost $500 Billion of Tax Expenditures Is Not Collected on Tax Forms

Of the 163 tax expenditures identified by Treasury for tax year 2011, 102, or 63 percent, were not on a tax return, information return, or other tax form; or they were on these tax forms but did not have their own line item, as shown in table 1. For these tax expenditures, the tax forms do not capture information on who claimed the tax expenditures and how much they claimed. An example of a tax expenditure not on a tax form is the exclusion of interest on life insurance savings where the taxpayer is not asked to report the amount of the exclusion anywhere on a tax form, while an example of a tax expenditure without its own line item is the credit for holding clean renewable energy bonds where the credit is aggregated with other credits on a single line item. Nearly all deferrals or exclusions were either not on a tax form or did not have their own line item. For information on our classification by specific tax expenditure, see appendix II.

If a tax expenditure has its own line item on a tax form, the IRS can identify the claimant and amount of the claim. These account for about half of the total tax expenditures. As shown in figure 1, these accounted for $501 billion of the almost $1 trillion of revenue estimated by Treasury in 2011 for the tax expenditures that we analyzed. The remaining $492 billion were not on tax forms or did not have their own line items. Having such basic information about tax expenditures can facilitate certain kinds of analysis. Specifically, when a tax expenditure has its own line item, the claimant can be matched to his or her income which is also reported on the tax return. This linkage facilitates analyses of the distributional effects of a tax expenditure by showing tax expenditure use by income category.

The sum of tax expenditure revenue loss estimates that appear in figure 1 approximates the total revenue forgone through tax expenditure provisions. While sufficiently reliable as a gauge of general magnitude, the sum of the individual revenue loss estimates has important limitations in that any interactions between tax expenditures will not be reflected in the sum.

Data necessary to assess how often a tax expenditure is used and by whom generally would not be collected on tax returns unless IRS needs the information to know the correct amount of taxes owed or is legislatively mandated to collect or report the information. IRS is obligated under the Paperwork Reduction Act to keep the administrative burden on taxpayers as low as possible, while still fulfilling its mission.

Data for Evaluating Tax Expenditures May Not Be Available from Other Sources

In prior reports, we identified tax expenditures that could not be evaluated because appropriate data were not available from any source, including sources other than IRS. One example is Indian reservation depreciation (IRD), where IRS did not collect information on the identity of claimants, amounts claimed, or the location of the qualified investment. In addition, we could not find reliable data at other agencies on which taxpayers use IRD, how much IRD investment was made, or whether the provision was having a positive effect on economic development.

For some tax expenditures, IRS data limitations can be remedied to some extent by information available from other federal agencies. For example, for Empowerment Zone (EZ) employment tax credits, IRS cannot separate the total credits claimed to show how much was claimed for specific EZ communities. This limitation is partially remedied by the Department of Housing and Urban Development (HUD), which collects community level information for some EZ-related tax expenditures. However, as we have previously reported, HUD was unable to validate the information on the use of some of these tax expenditures and it tracks only a portion of the EZ employment credits. HUD and IRS have begun collaborating to produce better data on the use of EZ tax credits.

For some tax expenditures, it may be possible to estimate missing IRS information using other sources such as public records, state agency records, and surveys. However, in general, such estimates cannot be expected to be as precise as data from tax returns. For example, in the case of an evaluation of the Research Tax Credit, a measure of spending that qualifies for the credit derived from research spending as reported on corporate annual reports will not be as accurate as a measure derived from corporate tax returns because of differences in the tax and accounting rules for reporting the spending. The less accurate data can lead to less reliable conclusions from the evaluation.

Case Studies of Comparable Outlay and Tax Expenditure Programs Show Differences in Data Available for Measuring Performance

After reviewing the GPRAMA-mandated cross-agency priority (CAP) goals established by OMB and federal agencies, we chose four outlay programs—three addressing energy efficiency and one addressing job training—that we considered to be comparable to certain tax expenditures based on their similar purposes. Table 2 provides descriptions of these tax expenditures and comparable outlay programs.

As shown in table 3, the four comparable outlay programs and tax expenditures associated with DOE and DOL had broadly similar purposes in the areas of energy conservation and employment.

As shown in table 4, DOE and DOL produced performance measures and goals for outlay programs in their annual reports but did not do so for the comparable tax expenditures. Agencies were not required by GPRAMA to produce these measures for the tax expenditures. Also, IRS collects the basic information about claimants and the amounts claimed for the four tax expenditures in our case studies. (See appendix II table 5). But, since IRS is not tasked with evaluating tax expenditures, it has not formulated performance measures or goals for these tax expenditures.

The performance measures shown in table 4 can track the progress of the outlay programs, on an ongoing basis, toward specific goals (stated in terms of number of gallons produced, number of turbines installed, etc.). However, additional data may be needed for an assessment of broader purposes and the impact of the programs. For example, for the vehicle technologies program, the purpose of reducing petroleum consumption can be measured by the performance measure in table 4 (gallons of petroleum saved) but additional data are needed to measure the outlay program’s broader purpose of reducing environmental impacts.

Concluding Observations

With so much spending going through the tax code in the form of tax expenditures, the need to determine whether this spending is achieving its purpose becomes more pressing. This report identifies gaps in the data required to evaluate tax expenditures but makes no recommendations on how to fill these gaps. A key step in collecting the data is first determining who should undertake this task. As we said in our guide for evaluating tax expenditures, the agency or agencies responsible for the program ought to determine what data should be collected to evaluate tax expenditures relevant to their goals. We recommended in our 2005 report that the Director of OMB, in consultation with the Secretary of the Treasury, determine which agencies will have leadership responsibilities to review tax expenditures and how to address the lack of credible performance information on tax expenditures. However, these agencies have not yet been identified. GPRAMA may make a start on answering the question of who should evaluate tax expenditures by requiring that the responsible agencies identify the various program activities that contribute to their goals, which we believe should include tax expenditures.

Agency Comments and Our Evaluation

The IRS provided technical comments after viewing a draft of this report, which we incorporated as appropriate.

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If you have any questions on this report, please contact me at (202) 512- 9110 or whitej@gao.gov. Contact points for our offices of Congressional Relations and Public Affairs may be found on the last page of this report. Key contributors to this report are listed in appendix III.

Appendix I: Scope and Methodology

To determine what Internal Revenue Service (IRS) data are available for evaluating tax expenditures, we used 173 tax expenditures for fiscal year 2011 that were developed by the Department of the Treasury (Treasury) and reported by the Office of Management and Budget (OMB) in Analytical Perspectives, Budget of the United States Government, Fiscal Year 2012. We reviewed IRS tax returns, tax forms, information returns, and publications for tax year 2011 and categorized the tax expenditures based on whether they were (1) not listed on tax forms, (2) listed on tax forms but did not have their own line item, or (3) listed on tax forms and had their own line item so the claimants and the amount claimed could be identified. The tax returns we reviewed were primarily Form 1040 for individual taxpayers, Form 1120 for corporate taxpayers, and Form 990 for tax-exempt organizations. Although the tax expenditure concept can also be applied to other kinds of taxes, such as excise taxes, this report covers only tax expenditures for the federal income tax system.

We sent a list of the tax expenditures that we initially identified as not appearing on a tax form to IRS for verification of our assignment of these tax expenditures to this category. (IRS was not able to verify our assignment of all of the tax expenditures to their categories due to time constraints encountered as the agency readied for the tax filing season.) In addition, when IRS verified those not listed on a tax form, it generally used information from tax returns but not from information returns.

Our assignment of the tax expenditures to the three categories sometimes required that we make judgments about the adequacy of the information on the tax forms. For example, according to IRS, the amount of deferred income from installment sales can be obtained from Form 6252 (Installment Sale Income) by subtracting the installment sale income line item from the gross profit line item. However, according to OMB, this difference does not represent the amount of the tax expenditure. The tax expenditure is the deferred amount less than $5 million for which non- dealers are not required to pay interest on their deferred taxes. Therefore, since we could not identify the deferral amount for non-dealers, and the amount of the tax expenditure deferral does not have its own line item, we classified it as a tax expenditure that is on a tax form but does not have its own line item.

During our matching, we identified 10 tax expenditures that we did not include in our analysis because (1) they were not available in tax year 2011, such as the Hope Tax Credit which was temporarily replaced by the American Opportunity Tax Credit; (2) some but not all parts of the tax expenditure were on a tax form, such as the Exclusion of Benefits and Allowances to Armed Forces Personnel where only the combat pay portion was reported on a tax form—Form W-2 (Wage and Tax Statement); and (3) where reporting of the tax expenditure was optional, such as Employer Plans on Form W-2. Some tax expenditures use multiple tax forms, multiple line items, or both on the forms to account for all parts of the tax expenditure. When multiple forms or line items were used, we considered the tax expenditure as having its own line item when all parts of the tax expenditure were on tax forms and had their own line items. For example, the Adoption Credit and Exclusion tax expenditure lists the credit and exclusion on different line items of the Form 8839 (Qualified Adoption Expenses). Therefore, we considered this tax expenditure as having its own line item.

We used the fiscal year 2013 budget, for fiscal year 2011 revised estimates, to identify the tax expenditure amounts. We chose the tax expenditure estimates reported in the budget for our analysis because Treasury develops revised estimates based on changes in tax policy and economic activity for the year prior to the reported fiscal budget year (i.e., retrospective estimates). Even though Treasury’s estimates are retrospective, the final reported numbers are still estimates and may not reflect additional policy changes. In addition, tax expenditure revenue loss estimates for specific provisions do not take into account potential behavioral responses to changes in these provisions on the part of taxpayers. These revenue loss estimates do not represent the amount of revenue that would be gained if certain tax expenditures were repealed since repeal would probably change taxpayer behavior in some way that would affect revenue.

For tax expenditures that were listed on tax forms, we reviewed IRS’s Statistics of Income (SOI) Proposed Tax Year 2010 Forms and Schedules to determine whether SOI collected data for tax year 2010, the latest year available. We also reviewed SOI publications to identify the types of available information and whether they included tax expenditures. We reviewed our prior reports to identify instances where IRS data available for evaluating tax expenditures were limited and the limitations were not remedied by data from other sources.

To analyze examples of data that agencies used to evaluate outlay programs that are comparable to tax expenditures, we visited the performance.gov web site on October 19, 2012. We reviewed the Government Performance and Results Act Modernization Act of 2010- mandated crosscutting, or what OMB calls cross-agency priority (CAP), goals for contributing agencies and programs that explicitly included tax expenditures among their policy initiatives. As examples of tax expenditures, we chose five tax credits from the sixteen tax expenditures listed under the CAP goal of energy efficiency and the one tax credit listed under the CAP goal of job training. As examples of what we considered to be comparable outlay programs, we chose three energy efficiency and renewable energy outlay programs, Weatherization, Vehicle Technologies, and Renewable Energy, and one Department of Labor-based outlay program, the Workforce Investment Act as it pertained to dislocated workers. We then reviewed the 2011 annual performance reports from the Department of Energy and the Department of Labor. We used fiscal year 2011 performance reports so the performance data would be comparable to the tax expenditure data we analyzed for tax year 2011. These performance reports were not available for fiscal year 2012. We identified their performance measures and goals, as well as the data they used to evaluate and assess these outlay programs. Lastly, we used our own criteria for performance measures and examples of data used to construct them. Table 2 provides a more detailed description of the tax expenditures and comparable outlay programs.

Appendix II: Tax Expenditures and Their Inclusion on Tax Forms

To determine whether tax expenditures were included on tax forms and had their own line items, we matched the Department of Treasury’s list of tax expenditures for fiscal year 2011 to Internal Revenue Service tax forms for tax year 2011. The relationships of the tax expenditures to tax forms are shown in table 5.

Appendix III: GAO Contact and Staff Acknowledgments

GAO Contact

Staff Acknowledgments

In addition to the contact name above, Kevin Daly, (Assistant Director), Laurie King (Analyst-in-Charge), Jeff Arkin, Elizabeth Curda, Robert Gebhart, Lois Hanshaw, Benjamin Licht, Ed Nannenhorn, Karen O’Conor, Michael O’Neill, Robert Robinson, Alan Rozzi, MaryLynn Sergent, Stephanie Shipman, and Anne Stevens all made contributions to this report.