Why Congress Shouldn't Tax 1099s

Harold Pollack waxes indignant over a Senate proposal to fix the terrible provision that somehow made it into the health care bill, forcing companies to issue 1099s for every goods provider with which they do a non-trivial amount of business.  Harold Pollack thinks it's horrifying that anyone would want to slightly pare back health care provision in order to eliminate the billion or so that the tax will raise every year.

Or should we zero out these funds in order to repeal a small health reform provision that clamps down on rampant tax evasion?

That's the choice Congress is likely to face next week. Some prominent Republicans want it to choose the latter, although you likely won't hear about it--at least, not in those terms.

Instead, you will hear about how Republicans are trying to undo some of the damage health care reform supposedly inflicts upon small business.

Here is the basic issue, as described by the essential folks at the Center for Budget and Policy Priorities and in Sunday's New York Times. In theory, all businesses must file 1099 tax forms with the IRS for any payments of more than $600 that go to unincorporated contractors. But the rules have been loose: Firms did not have to report any payments to corporations. They also did not have to report payments for goods and property, as opposed to services. This made it easy for them to under-report income and, as a result, avoid paying taxes on that income.

The Affordable Care Act tightened existing tax law to address both of these problems, by tightening the rules and forcing businesses to report more of those payments. But this effort to enforce what was, after all, existing law has not gone over well with groups like the National Federation of Independent Business, which has been decrying this "1099 collation calamity."

Truth be told, I have some sympathy for small business people here. On a practical level, paperwork is a genuine hassle, one that demands time and resources. As always, the circumstances of some small firms might merit specific adjustments to the new rules. As always, there is another, unmentioned issue that is more psychic. Taxes seem especially burdensome when they are easy to evade. Somehow, it seems extra unfair when you actually pay the money and you still have to fill out the paperwork.

Still, more than half of sole proprietor business income goes unreported. And the dollars add up. The 1099 provisions in the Affordable Care Act will, according to government projections, raise an estimated $17.1 billion over the next ten years. That's $17.1 billion of money rightfully owed to the United States Treasury that is left unpaid.

As you may already have gathered from the tone of this post, Harold Pollack and I are in substantial disagreement here.  In fact, I think that posts like this highlight the reason that so many small business owners vote Republican--and complain that the current health care law is the work of out-of-touch elitists who have never held a real job.

I think that health care wonkery is, in fact, a real job, and a very important one.  But so is running a small business, and the amount of hassle that this new law imposes on taxpayers is all out of proportion to the benefit derived.  Even the IRS in-house watchdog thinks so.  And it's not just going to produce a lot of administrative hassle for the businesses, but for the IRS itself, which will suddenly be inundated by new tax reporting.

For starters, no one is suggesting that this law will do much of anything to close America's "tax gap" (the gap between what the IRS thinks taxpayers should pay, and what they actually do).  The tax gap is almost $300 billion; the new law would reduce that by perhaps a half a percent.  While it's true that the IRS believes that over half of sole-proprietor income is underreported, Pollack seems to think that this means that over half of sole-proprietor income is undeclared--i.e. that businesses are deliberately failing to report taxable transactions.

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Megan McArdle is a columnist at Bloomberg View and a former senior editor at The Atlantic. Her new book is The Up Side of Down.

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