It’s bad enough being dunned by Uncle on every dollar you earn. But how about being made to pay taxes on income you haven’t earned?
Or at least, which hasn’t been paid to you yet.
As crazy as it sounds, that’s exactly what is being considered by Congress. It’s called “accrual accounting” – a bureaucratic beauty that means you pay tax on what you’ve billed clients before they’ve actually paid you.
Yes, really.
It is the apotheosis of government greed — taking what you’ve got before you even get it.
The measure was folded into – of all things – tax reform legislation first proposed back in 2014. Republicans sought to lower both the individual and corporate tax rates, as well as do away with the Alternative Minimum Tax (ATM), which is another way the government gets you coming or going. But Democrats — averse to tax cuts almost as an article of faith — objected that the proposals would not be “revenue neutral,” meaning the Feds might get less.Republicans argued that lowering tax rates would increase the overall haul because total tax revenues would increase along with increased economic activity. Take less of people’s money, the idea goes, and people tend to be more interested in working. But Democrats, being Democrats, insisted on “revenue neutral” reform and someone came up with the idea of taxing future earnings as a way to pay it backward.
Even though Republicans now control both houses and the presidency, that idea is still floating around the Hill and could become law as part of ongoing efforts to cut the currently confiscatory top federal tax on individuals (39.6 percent) and the maximum corporate rate (35 percent). In both instances, the government demands nearly half of every dollar earned. Now, it wants a slice of every dollar not yet earned.
Accrual accounting would hit small and medium-sized businesses such as medical and law practices, S corporations and so on particularly hard. These businesses often have billing cycles that don’t coincide with the tax year. An invoice is sent out in November, but the payment isn’t received until January of the following year.
Under normal – current – accounting practices, the income received in January is considered taxable that calendar year. Under accrual accounting, it would be considered taxable the previous year – based solely on the invoice and prior to receipt of the payment.You can imagine the accounting debacle this will create – leaving aside the morally dubious business about demanding taxes be paid on money not first received. What happens, for instance, if an invoice isn’t honored? The tax has been paid – but the income it was based on never materialized. This happens not infrequently. Will the IRS give the afflicted business a credit for the income it didn’t receive – and a refund of the tax it didn’t owe? Who is going to keep track of this? How? If it seems bizarre and unfair, it is.
But it was deemed politically necessary back in 2014 when the idea was first floated to lower corporate and individual taxes. At that time, Barack Obama, not Donald Trump, was president and any talk of lowering tax rates was sure to raise a fuss among Democrats, who objected to the “lost revenue” that would attend lowering tax rates.So someone came up with this nasty business of taxing future income as a way to placate Democrats and “make up” for the “lost” revenue. The reduced corporate and individual tax rates could be touted as “revenue neutral,” in the language of Inside the Beltway.
But it’s not neutral. In fact, it’s like putting the transmission of a car in reverse while the car is moving forward at 65 MPH.
It would also establish a potentially very dangerous principle – that the government can make businesses and individuals pay taxes prior to their having received the income on which those taxes are based.
Democrats who support accrual accounting insist it only affects – here it comes – “the rich.” But like the income tax itself – which was also sold to a short-sighted public as something that would only affect “the rich,” once a principle is established in law, it can and usually does affect everyone.It wasn’t long after the enactment of the income tax in 1913 that ordinary Americans found themselves filing 1099s and W2s. And if the Congress imposes accrual accounting on small and medium-sized businesses, what is to prevent the IRS – which will enforce what Congress passes – from applying the same doctrine to individual proprietors, the self-employed and every other person who will receive income at some future point?
Even if it’s not received.
Remember: Accrual accounting taxes phantom income. Money you hope you’ll get but haven’t got yet. And may never get.
The taxes applied, however, will be very real indeed.
The new Republican chairman of the Ways and Means Committee, Kevin Brady, is aware of the danger – and opposes the inherent unfairness of taxing money people (and businesses) haven’t received.
He and other like-minded Republicans, including Speaker Ryan, authored a Tax Reform Blueprint last summer that would simplify the tax code (currently some 70,000 pages long vs. some 26,000 pages in 1986) reduce the maximum individual tax rate to 33 percent, lower the corporate tax rate to 20 percent, get rid of the Alternative Minimum Tax and – most of all – disallow the use of accrual accounting as a basis for computing taxes owed.
It’s enough that Uncle is already snatching almost 40 cents of every dollar. He could at least have the decency to wait until we actually have the dollar in our hands before he starts trying to lay his hands on it.
Eric Peters is an automotive journalist and author.
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