Part of the pitch for "comprehensive immigration reform" is that it would bring many illegal aliens into the tax system.
The newly legalized would be forced to pay their back taxes, according to S.744 supporters.
The truth, as my colleague, Jon Feere, pointed out recently is that the Senate bill is written in such a way that only a tiny percentage of the newly legalized would have to actually pay back taxes — those who were already known to the IRS and, among that population, only the ones who have already been audited and found wanting. For the most part IRS ignores non-filing illegals and it would be able to send out only a handful of additional dunning statements should S.744 become law.
I want to bring up a related and never discussed subject: would it be helpful to the U.S. Treasury to bring millions of low-income aliens into the tax system? The subject, more narrowly, deals with payments made into, and through, the federal income tax system.
The assumption of many of us is that if a new wage-receiving population were to be taxed, when it had avoided taxes in the past, that would produce substantial new revenues. People making that assumption are probably relating to their own middle-class tax bills and believe, without thinking much about it, that new taxpayers will be like themselves — actual net taxpayers.
That's not the way it would work with most of the newly legalized, for two reasons.
First, the nation's biggest income redistribution system is that of the federal income tax, not the welfare programs. The tax system — I think appropriately — is designed to augment the incomes of the working poor by two techniques: the Earned Income Tax Credit (EITC) and the Additional Child Tax Credit.
Billions and billions of dollars go to low-income Americans every year because of these programs; these are not just refunds of taxes withheld, these are often, if you will, bonuses distributed according to complex formulae. Do we want the newly legalized — until recently illegal aliens — to start collecting these payments? There would be immense new flows of moneys to the aliens even if every single return from the newly legalized is totally honest.
The second problem is that by pushing the newly legalized into the income tax system, we will, unwittingly, create millions of opportunities for more fraud, opportunities that would not exist if the currently illegal alien population simply does not have any contact with federal income taxes.
The Internal Revenue Service is not the sharpest tool in the box when it comes to the kind of massive, small-scale fraud that already accompanies EITC and additional child tax credits. Were an amnesty to be enacted, there would be millions of additional returns for IRS to scrutinize.
Let me pause to make a distinction between regular and additional child tax credits. The former are refunds of taxes paid by parents; the latter are payments made by the government to working families, usually above and beyond the return of withholdings. You might call it a government funded bonus, of up to $1,000 each, from IRS for each child in a low-income family.
Clearly pushing the newly legalized into the income tax system will produce some additional funds for the Treasury, probably into the tens of billions a year, but equally clearly the outflow to new EITC and child tax credit beneficiaries will be very substantial, particularly because of the characteristics of the illegal alien population.
This group of people is badly paid (and legalization will not do much for the individuals' wages) but it does have some earned income; and, it has many small children. And this profile is exactly what is rewarded in the two tax programs of interest. If you do not earn much money — but earn some — and you have many children, then your EITC and child tax credits will bloom.
My assumption, by the way, is that if Congress, in fact, votes for amnesty, it will also see to it that all the newly legalized will have the same rights and burdens as the rest of the taxpayers. There is nothing in S.744 that suggests otherwise.
So would the newly legalized pay more to the Treasury than they would withdraw in these income-tax related benefits? That's an excellent question and I doubt if anyone is working on it — certainly not in this administration. At the moment, at least, I am not going to engage in speculation about this balance, particularly that part that involves figuring out how much additional fraud would be encouraged.
What we do know — and this is almost never discussed — is that tens of billions of dollars would flow both ways. Bringing the former illegals into the tax system is not a win-win situation for America.
To shed a little light on the possibilities here, I created three scenarios and played them out on my TurboTax program. All three of these imaginary aliens are presumed to be currently illegal, and all three will have moved to provisional legal status via S.744. All three are assumed to be playing totally straight with the financial facts in their lives, and with their filings.
It is further assumed that they will be paying taxes like citizens and green card holders, and thus using the form 1040, as opposed to the somewhat less friendly 1040NR for non-resident aliens. (I work with both forms extensively each spring in my volunteer stint helping graduate students at a major DC-area university, both foreign and domestic, with their income tax filings.)
Here are the three scenarios:
Jose is 19, and has a 30-hour-a-week job at a fast-food place, that does not want him to work full-time because the employer would then have to furnish medical insurance. He is paid the minimum wage of $7.25 an hour. During the tax year he had no other work. Jose is unmarried and has no children and lives with family members but is not dependent on them financially. Jose makes $11,310 a year and will pay $156 a year in federal income taxes. (He also pays some Social Security and state taxes). Jose is thus a minor contributor to the Treasury.
Pablo is 26, works alongside Jose, is paid the same, and is also single and a non-parent. He also makes $11,310 a year, but on a net basis, he will pay no federal income tax at all. This is because he has passed his 25th birthday and is eligible for EITC. So he will get $47 back from the system. He is a minor dependent on the Treasury.
Pedro is also 26, but he is paid a little better as a cement finisher for a reasonably successful subcontractor. He gets $10 an hour and works 40 hours a week, on average for 40 weeks. Pedro's wife, Sylvia, earns about $4,000 a year from a part-time job. Their total gross income is $20,000. Pedro and Sylvia have two little kids, and they all live together in the United States. Filing jointly, they draw both $1,247 in additional tax credits for the children and $4,618 in EITC. They will pay nothing in income tax, so after their tax filing they will get a check for $5,865, which is more than one-fifth of their total income. They are, for individuals, rather large Treasury dependents.
These three workers are not meant to be a random sample of anything, but their stories show three ways that these income tax programs can interact with low income people; further, while these three have played fair with IRS, in my scenarios, the examples provide some clues as to how these programs could be gamed to produce even larger refunds, illegitimate ones.
Jose, for instance, if he is filing for the first time, can move his birth date back in time so that instead of 19 he presents himself as 26, making him eligible for EITC and thus $207 better off.
Pablo could dream up an elderly, dependent relative and lower his tax payment further while keeping his EITC at the same level, thus increasing his IRS check by $156.
Pedro and Sylvia, however, because of the children, could do much better in cheating the system than the single guys. They could, for instance, think up two addresses, not one, and each claim to be the head of household and the sole supporting parent to the children. They would need to get an additional set of SSNs for the kids.
Then with each claiming $10,000 in income, Pedro and Sylvia could file separate returns and using the EITC and additional child tax credit breaks they could each receive $5,060 in refunds; thus increasing their mutual take from the system by $4,255!
There are many other potential shenanigans, but none would be available to any of the three aliens unless they become involved in the federal income tax system.
So, adding the current illegals to the tax rolls is not necessarily a plus for the Treasury, and thus should not be used to support what is otherwise a totally bad idea — a widespread amnesty for illegal aliens.