Tax Planning

So what else are they (the IRS) lying about?

In the runup to April 15’s tax-filing deadline, the IRS has once again published a list of what it calls its “Dirty Dozen” tax scams.

Beginning on February 1, in what could be construed as a riff on David Letterman’s “Top 10 Lists,” the IRS sent out a daily press release highlighting one of its top dozen scams.

And among the expected scams, such as inflated refund claims and hiding income with fake documents, was one I expected but isn’t deserved: “hiding money or income offshore.” The “offshore” scam was #5 on the IRS hit list, the same position as it was in 2015 and up from #6 in 2014.

What I found most interesting, though, was the wording of the press release, which claimed US taxpayers are “avoiding taxes” by hiding money or assets offshore. That’s a very curious choice of words, and I can’t believe it was accidental.

Tax avoidance of any kind, whether offshore or domestic, is perfectly legal. Tax evasion, on the other hand, isn’t. That the IRS is combining the two, especially in terms of a list of tax “scams,” is unconscionable.

Every taxpayer has a right to try to avoid taxes. But when does completely legal tax avoidance turn into illegal tax evasion? The answer seems intuitive: Evasion is analogous to driving around a tollbooth to enter a toll road without paying. Avoidance is taking an alternate free route.

This fundamental difference couldn’t be clearer. As former Supreme Court Justice Felix Frankfurter wrote:

As to the astuteness of taxpayers in ordering their affairs as to minimize taxes, we have said that, ’The very meaning of a line in the law is that you intentionally may go as close to it as you can if you do not pass it.’ … This is so because ‘nobody owes any public duty to pay more than the law demands; taxes are enforced exactions, not voluntary contributions.’

Yet, despite this ringing legal affirmation of tax avoidance, the IRS now labels tax avoidance a scam. It makes you wonder: if the IRS is lying about something as fundamental as the difference between avoidance and evasion, what else is it lying about?

I’ll leave out the preeminent example of IRS fibbing: the “accidental” deletion of hundreds of thousands of emails relating to the agency’s deliberate reprisals against politically conservative groups. In the offshore context, the big lie is the IRS contention that US taxpayers are evading – or is it avoiding? – billions of dollars in taxes each year in their international investments.

This lie has taken on a life of its own. It began in 2000, with an affidavit filed by former congressional researcher Jack Blum. The affidavit was used to support an IRS summons for records from MasterCard and American Express. It claimed US taxpayers were evading (not avoiding) a whopping $70 billion in taxes offshore each year.

Mr. Blum never explained how he arrived at this number, but thanks to the credibility that comes with such things, along with the Internet, reporters started using that number in their own articles.

In 2008, the US Senate issued a report entitled Tax Haven Banks and US Tax Compliance. It estimated the annual loss to the US Treasury from offshore tax evasion at that time to be $100 billion. Yet, the only evidence presented to support this monumental figure was in a footnote citing five magazine articles, none of which provided any guidance as to how the $100 billion figure was calculated.

But that didn’t matter; the media had a feeding frenzy anyway.

Then in 2012, the estimate rose to $150 billion. By 2014, the figure had risen to $184 billion, although by then, the number apparently included the taxes legally deferred by US corporations operating internationally.

I remained curious, though, as to the origin of this number. Finally, a couple years ago, I got my answer.

One of my colleagues learned that the guy who came up with the original $70 billion number – Jack Blum – would be speaking at an upcoming conference. At my request, he asked Blum to give an on-the-record response on how he came up with his estimate. After dodging the question, Blum finally admitted, “I guessed.”

So there you have it. The foundation of the US Treasury’s war on offshore tax avoidance is based on someone’s guess!

And on the strength of this initial guess, the number has risen steadily from $70 billion to $150 billion to a mind-numbing total of $184 billion.

Is this astounding amount of so-called “tax evasion” (avoidance) believable? Let’s look at the numbers:

  • First, we can probably assume wealthy investors and multinational corporations are the source of most of the offshore tax evasion or avoidance supposedly taking place. Their avoided or evaded offshore income, if taxed, would likely be subject to the highest marginal tax rate of 39.6% (35% for corporations).
  • Second, wealthy investors generally aren’t interested in get-rich-quick schemes. After all, they’re already wealthy. They, along with the bean counters at multinational corporations, tend to be conservative. In today’s negative-interest-rate environment, it’s hard to imagine a portfolio of conservative investments growing much faster than 4% annually.

Given these assumptions, these offshore tax evaders or avoiders would need to generate around $525 billion in unreported annual income to ring up a $184 billion tax bill. (Divide $184 billion by 35%, the highest corporate tax rate.) The pool of capital required to generate this much income comes to $13.1 trillion. (Divide $525 billion by 4%.)

To get a sense of how large a number this is, the gross domestic product (GDP) of the US is around $18 trillion. This means an amount equal to nearly three-quarters of America’s GDP consists of money hidden away offshore from the IRS.

Further, the GDP of the entire world is around $78 trillion.

And assuming non-US taxpayers evade tax by moving capital offshore at the same rate as US taxpayers, that means $56 trillion is hidden away globally in illegal “offshore tax schemes.”

How likely do you think it is that $56 trillion (yes, with a ‘t’) is sloshing around in the global financial system, utterly invisible to the world’s tax authorities?

I don’t know about you, but I find it preposterous, as should anybody who knows how to do basic arithmetic.

While people definitely do avoid taxes, to think an amount equal to nearly three-fourths of the world’s economic output is squirreled away in offshore cubbyholes is simply unbelievable.

Let’s not forget, this all started with a guess. And let’s also not forget the IRS itself calls this practice tax avoidance, which is perfectly legal.

If you’ve ever thought the big, scary statistics trotted out by offshore critics had a shred of truth to them, I hope I’ve convinced you otherwise.

And I ask you again: what else is the government lying to you about?

I suspect it’s lying about a lot of things: the stability of the US banking system… the sustainability of Social Security and other government benefit programs… just for starters.

While the IRS is trotting out its Dirty Dozen tax schemes and singling out offshore tax avoidance as a burning issue, the fact is, there’s never been a more important time for an American to have some money stashed away outside the US.

Yes, you’ll need to pay tax on whatever earnings it generates. And depending on what you invest in, you could also have a pile of IRS reporting forms to complete. But there are still anonymous ways you can invest offshore, and do so completely legally.

The only question is: what are you waiting for?

Mark Nestmann
Nestmann.com

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