Scrap Immigrant Taxes, Go For Amnesty Fee
The bipartisan immigration proposal from Republican and Democratic senators known as the Gang of Eight, likely to be released in legislative form next month, contains a core principle that undocumented immigrants pay back taxes and a fine before they receive probationary visas. But surprisingly little attention has been given to calculations of taxes owed, and how they would be paid.
Under the Bipartisan Framework for Comprehensive Immigration Reform, undocumented immigrants would be required to register with the government. According to the Framework, "This will include passing a background check and settling their debt to society by paying a fine and back taxes, in order to earn probationary legal status, which will allow them to live and work legally in the United States."
But calculation of back taxes and enforcement of payment is likely to be so complex and onerous that Congress would be better off setting a flat fee, potentially payable out of future earnings.
The issue of payment of back taxes matters not only because clear and workable tax rules are important, but also because undocumented workers' payment of these back taxes is meant to settle their debt to society for violating the law.
Payment of back taxes is not simple. It's difficult for the Internal Revenue Service to compute back taxes for law-abiding Americans and resident aliens. It is even harder to calculate tax obligations for undocumented workers who have no W2s, no 1099s, and no records. The longer someone has stayed, the more complex the problem becomes, because that individual is likely to have had multiple employers.
After the IRS calculates how much tax is owed, immigrants, some with low incomes, need to come up with potentially large sums of money. How much in back taxes, penalties, and fees would an individual owe, and how would the calculated amount be paid? What administrative burden would be placed on the IRS, which will be overworked by enforcing the tax penalties in the Affordable Care Act?
The Comprehensive Immigration Reform Act of 2007, co-sponsored by Senators Edward Kennedy (D-MA) and Arlen Specter R-PA), required payment of a fine of $1,000, plus processing fees up to $3,000, as well as $500 per applicant for state impact, to earn legalization. Permanent residency applicants would pay an additional fine of $4,000, for a potential total of $8,500. The bill required that back taxes have to be paid for three of the past five years, but it was silent about exactly how to calculate back taxes.
It is unrealistic that people would reveal all their job history with wages and salaries. Those applying to stay in the United States might reasonably believe that disclosing such information would cause more, not fewer, problems. Even people determined to be entirely honest are unlikely to have kept documentation of all employers and earnings. Should people lacking employment records be expected to guess about such matters, and risk lying to the IRS?
Many employers have paid payroll taxes on undocumented immigrants and withheld federal tax. According to Stephen Goss, chief actuary of the Social Security Administration, the SSA assumes that about three-quarters of undocumented workers pay payroll taxes. Some immigrants give employers their Individual Taxpayer Identification Numbers, numbers issued by the IRS in lieu of Social Security numbers. Payroll taxes paid through these accounts are recorded by the Social Security Administration. For these individuals, a calculation of income taxes owed might be relatively straightforward.
In addition, every year the Social Security Administration collects employer reports of individuals with false Social Security numbers. Uncredited payroll taxes from these reports are put into the Social Security Administration's Earnings Suspense File. Between 2001 and 2010, the fund accumulated $719 billion in uncredited earnings.
Since 2003, the Social Security Administration has recorded between 7 and 11 million accounts without a valid social security number for which Social Security taxes have been withheld. Some individuals might have more than one account, if they had more than one job. Some may have inadvertently written their social security numbers incorrectly on employment forms. Others may be undocumented immigrants.
A new law that would require complete back tax payments as a condition of legalization would create a disincentive for many immigrants to participate. The longer someone has been in America, the higher would be the back tax liability, and the more difficulty immigrants would have in paying it.
People who have been here longer and who are better-integrated into American society would find it harder to comply. Such individuals would have little incentive to apply for visas. Some immigrants who have been in the United States for a long period of time might try to remain in the shadows of the underground economy. In contrast, more recent immigrants would owe less, and find it easier to qualify.
In addition, the disclosure of prior employment by undocumented immigrants may place employers in a difficult position by causing them to reveal that they have hired immigrants illegally. Some may have used the online electronic verification system, E-Verify, and others may have not. Employers may be liable for penalties if it is proved that they hired undocumented workers, so they may deny it.
Even if the IRS could receive employment documentation and earnings for an applicant, calculating exact tax liability can be a complicated matter.
Consider the nontrivial problems of a U.S. citizen who is subject to an IRS audit for tax payments within the past five years. Now try the calculation for 11 million undocumented immigrants, each with different factual circumstances. Neither the IRS nor any other agency is set up to handle tax filings from millions of individuals with incomplete documentation.
Once tax liability has been calculated, the question arises as how to pay it. Potential amounts could be substantial. Someone who owes $10,000 in back taxes, a $5,000 fine, and a processing fee of $1,500 would owe $16,500. A family could incur a higher cost. An individual who has been undocumented in the United States for 30 years could have tax liability of $100,000 or more.
Some who cannot come up with back taxes and fines could be given an option to pay out of their future earnings, say with a half percentage point tax collected by the IRS or the Department of Homeland Security, suggested Columbia Business School professor Charles Calomiris in an email. This would provide a way for undocumented immigrants to pay the fine going forward, out of future earnings, rather than a large sum at the beginning.
An additional half percent income tax would result in a steady stream of revenues flowing into the government. If 7 million immigrants were employed at an average annual salary of $30,000, a half percent tax would bring in $1.05 billion a year to the federal government.
Even if back taxes could be calculated and collected, at great expense and delay, the system would lead to predictable bickering about its fairness. Similarly situated individuals could wind up paying dramatically different amounts for the privilege of a probationary visa based on how well each individual could game the system of documentation of past income and tax deductions.
Rather than calculate back taxes, University of Chicago Nobel laureate Gary Becker and Stanford University professor Edward Lazear, in a Wall Street Journal op ed on March 1, suggested payment of a flat fee of $50,000 for current undocumented workers and new immigrants. This approach has many attractive features, particularly simplicity and administrative ease. The economic efficiency of a flat fee is elegant and persuasive, and would treat everyone equally. The fee could be collected as a percent of future earnings for those who could not pay up front.
Payment of back taxes and a fine in exchange for legal status makes a fine sound-bite, but it would be a nightmare to administer. Instead, go for a flat fee.