Tax Amnesty: A Short-Term Solution with Long-Term Problems
Nearly every state has at some point offered forgiveness to tax evaders. While it raises revenue quickly, it sends the wrong message to taxpayers.
Louisiana’s tax evaders got a special deal this fall, one the state hoped they couldn’t refuse. For a period of two months, ending on Nov. 22, they could pay up whatever they owed from past years while avoiding any legal penalties and skipping half the accumulated interest payments.
In making the offer, the state suggested that this tax amnesty was not something the scofflaws could expect to see again soon on such favorable terms. Meanwhile, the penalties for breaking the law would only grow more onerous. This was a rare chance for tax delinquents to wipe out a big chunk of their overdue tax bill.
Except that in Louisiana, it’s actually not that rare. Residents with even a short memory will recall that the state tried a similar tax holiday just four years ago, also warning that no opportunity like it would be forthcoming in the near future. And those looking to the future may notice in the fine print that tax amnesties are scheduled again in 2014 and 2015, albeit with terms that are not quite so generous.
Admittedly, Louisiana is an outlier—it can legitimately claim to be the tax amnesty capital of the United States. In the years since 1985, it has offered some form of amnesty six separate times. But it’s really only a question of degree. Virtually all the states do this sort of thing. In fact, since the early 1980s, according to records of the Federation of Tax Administrators, there have been 119 amnesties in 45 states, with 33 of them employing the tactic more than once.
The current year is actually a relatively quiet one on the tax forgiveness front. Aside from Louisiana, only Connecticut launched a revenue amnesty program in 2013. But nearly every state now has amnesty as a carrot in its basket of delinquency tricks. It has been used across the country 17 times since 2010 alone, and 51 times since the turn of this century.
Why the enthusiasm for giving scofflaws a break? Indiana University economists John L. Mikesell and Justin M. Ross pointed out last year in the National Tax Journal that the original idea behind tax amnesties was to use them as part of a broad scheme of revenue reform, in which the state would overhaul its collection processes in the direction of greater efficiency, and usually toughen up its enforcement system in the bargain.
That’s not what’s been going on lately, as Mikesell and Ross make clear. States declare tax amnesty periods now because they’re desperate for a one-time boost in revenue to balance their budgets. This is what was behind Louisiana’s decision to offer amnesty in 2013. The state needed $200 million to avoid deep cuts in its health-care programs, especially Medicaid. An amnesty offered the potential of bringing in roughly that much in quick dollars. So amnesty was swiftly put back on the table, even though it had only been four years since the last such effort.
What’s the problem here? After all, tax evaders get a chance to square their debts, the state gets a badly needed infusion of cash and Medicaid doesn’t have to slash its services to poor people. No general tax increase is necessary. Is there something wrong with that?
Actually, there’s quite a bit wrong with it. Amnesty, when you stop to think about it, rewards those who evade the law at the expense of those who meet their obligations on schedule. That’s true of almost any kind of legal amnesty, not just one dealing with tax compliance. In this particular case, people who refuse to pay at deadline time are in effect granted a loan between then and the amnesty period, to be paid off at a discount under the terms the state has established. As Mikesell and Ross point out, “Amnesty understandably strikes the public as a special deal for evaders and therefore arguably violates principles of general fairness.”
But it’s more than that. In the long run, amnesty discourages timely compliance. Why pay my full bill when it’s due if I can count on holding the money for three or four years and paying it off without penalty and at reduced interest down the road? I might as well hold on to the check. Every person who does that eats into the amount the state actually collects from its revenue system in the long run. Some studies even suggest that the mere discussion of an upcoming amnesty program discourages people from filing timely returns.
One of the most sensible critics of tax amnesty is a man who used to be in charge of it, former Louisiana Revenue Director John Kennedy, now the state treasurer. “If you do one every 20 years, you can clean up some accounts,” Kennedy says. “But we’re doing it too often. It seems like they do one every Thursday now. It’s a disincentive to people paying their taxes.”
If the primary goal of tax amnesty is to raise a pot of money quickly, then it generally meets the test. In real dollars, California raised $683 million from an amnesty program in 2005; New Jersey hauled in $661 million in 2009; and Louisiana’s 2009 amnesty pulled in $439 million in previously uncollected taxes. But the current one has been a more difficult sell, in large part because so little time has passed. Louisiana tax experts said that the state would be lucky to amass the $200 million it needs to meet its health expenditure shortfall. Other states have had the same experience: The more often you declare a tax amnesty, particularly after you have promised to hold them only rarely, the less money each one is likely to take in.
And states have gone to the well more and more frequently as time has gone by. As Mikesell and Ross document, nearly all states used to wait a minimum of 10 years between amnesties. In the past decade, barely a quarter have waited that long.
Connecticut tried something new with its amnesty program this year, hoping a little more stick and a little less carrot will lift its tax program closer to the goal of economic policy respectability. When it comes to overdoing the amnesty temptation, Connecticut is in about the same boat as Louisiana. It previously conducted amnesties in 1995, 2002 and 2009. To make this one a little more lucrative in the short run, Connecticut stipulated that those who signed up during the initial window of opportunity, between Sept. 16 and Nov. 15, could pay as little as 3 percent in interest on an unpaid balance that is a year or more old, a 75 percent reduction in the bill as it comes due. After that, the interest liability would go up by as much as 25 percent over and above the original amount. The hope was that those who were seriously behind in their tax bills, both private citizens and corporations, would be more encouraged to go for the early discount in order to avoid the hike that followed.
Like the amnesty in Louisiana and most states, the one in Connecticut won’t bring in a ton of money in relation to the state’s overall budget. In fact, it will bring in less than most states rake in during amnesties. According to one estimate, Connecticut can expect to realize about $35 million from its two-month window of reduced tax liability. More than that, some are projecting that it will have to deduct about $7 million from its revenue gain after subtracting the debt and interest it would have collected in 2013-2014 in the absence of any amnesty scheme at all.
I’ve never claimed to be an expert on tax policy, and I certainly have no special wisdom to offer on the technical questions that any amnesty is bound to generate. But I do have a few thoughts on the never-ending inclination of financially pressed states to come up with one-shot solutions to budgetary problems that are supposed to be dealt with on an orderly long-term basis.
Nobody is disputing that tax amnesties bring an immediate revenue boost that state budget writers find extremely helpful in meeting their constitutional responsibilities to come up with a balanced fiscal ledger sheet every year. But the evidence is overwhelming that they do nothing to enhance a state’s economic health in the long or medium term, and probably even end up as a net fiscal negative. “Almost everything that gets collected,” says Ross, “they would have gotten anyway. I would guess that it produces no revenue in the long run.”
In the past few years, including during the recent recession, most states have become a little more embarrassed about pulling some of their old short-term fiscal tricks, such as conducting a fire sale of state fiscal assets that more prudently ought to be retained. Where this is accompanied by a serious long-term effort to meet state structural imbalances, they deserve some credit. My fear is that the warnings of the economic policy specialists about one-shot savings have led only to more clever ways to pull these off, and that tax amnesties are becoming a perennially popular one-shot.
In the broadest sense, the problem isn’t budget gimmicks but short-term political thinking. And it’s no surprise that short-term thinking often prevails among legislatures and governmental administrations that are defined by two- and four-year political cycles. Plug an immediate hole now, the thinking goes, and worry about the long-term consequences later. Until a solution to that problem evolves, it’s unlikely we will see an end to tax amnesties or any of their even less reputable one-shot cousins.