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Tuesday, June 1, 2021

How IRS Incompetence Is Raising Americans’ Taxes this Year

After a tough year, Americans need their incomes more than ever. But the IRS is holding onto their money longer than usual because they are unable to keep up.

Image Credit: Creative Commons

The IRS is late on issuing refunds for millions of Americans this year. In April, the IRS moved 29 million returns to manual processing with 6 million returns “in suspension.” Millions of Americans are waiting for their tax refunds. This continues a trend started last year when the IRS shut down their offices during the COVID-19 pandemic.

Before COVID hit, the IRS had processed all but 4 percent and 3 percent of returns in May of 2018 and 2019, respectively. However, in 2020 and 2021, that number has jumped up to 10% and 9% of returns being unprocessed, respectively. The IRS can’t keep up.

In other words, when Americans need their incomes most, the IRS is holding onto more of it than usual because they are unable to keep up.

But it gets worse.

The IRS has released information about whose returns they’re having trouble processing, and it’s exactly what you wouldn’t want to hear.

One set of taxpayers more likely to be stuck in processing includes individuals who filed the Recovery Rebate Credit. This rebate was meant as a way to compensate Americans who didn’t receive the correct amount from the COVID stimulus. This includes, for example, Americans who had children in 2020 who weren’t paid for those children due to the IRS basing stimulus payments on outdated information.

A Treasury Inspector General document reports one third of all Recovery Rebate Credit filers have been flagged for review. Now on top of receiving less stimulus payments than they were promised, those taxpayers’ entire refunds are being held by the IRS while they make sure the requested credits are correct.

This isn’t the only group being negatively affected. CBS reports that, “Returns are getting flagged due to the Earned Income Tax Credit and the Child Tax Credit, partly because the government stimulus package signed into law in December came too late for the IRS to adjust its forms and computer systems.”

The Earned Income Tax Credit (EITC) is specifically designed for, “low- to moderate-income workers and families get a tax break” according to the IRS.

The Child Tax Credit, in line with its name, is a credit designed to help families reduce their tax burden on a per-child basis.

All of this adds up to a clear picture. The inability of the IRS to adjust to COVID-19, combined with the complications of the stimulus payments, have harmed mostly low income people, families, and those the COVID-19 stimulus were designed to help.

When people most need their tax refund, they can’t get it, and the IRS offers no recourse for the millions waiting for their money.

How Delaying Tax Refunds Raises Taxes

Delaying tax refunds to low income individuals and families denies them the ability to use money when they desperately need it. It also acts as a form of taxation on those individuals. To understand why, ask yourself a simple question: would I rather have $100 today or a month from now?

The answer is pretty straightforward. If you have $100 today you could use it for some sort of emergency, or you could decide to buy something you like today.

In fact, even if you don’t want to buy something today, you could always decide to put that money in a safe and take it out a month later. Taking the $100 today seems like an all-around better option.

This is what economists call the time value of money. A sum of money today is worth more than that same amount of money some time in the future. In fact, you can see more evidence of this by thinking about borrowing money.

When you (or a business) borrows money, you are accepting to receive a sum of money today (the loan) in exchange for paying back a larger sum of money in the future (the loan repayment plus interest). When individuals pay interest, they are agreeing that $100 today is worth more than $100 a month from now.

So, when the IRS refuses to release tax refunds, they are forcing taxpayers to provide the government an interest-free loan. The government keeps the taxpayer’s money, and, in doing so, the government can lend it out and earn interest on it.

The interest the government earns is interest that the taxpayer could have earned if they had received their refund on time by putting it in a savings account, for example.

Regressive Incompetence

Delayed tax refunds, then, ultimately rob taxpayers of the time value of their money. Individuals can’t use that money to buy something today, to handle an emergency, or to earn interest.

The failure of the IRS to deal with COVID-19 and the complications caused by the stimulus payments is a regressive tax— or a tax for which the burden falls mostly on the poor. Low income families who rely on receiving their tax refund who qualify for the EITC, the Child Tax Credit, or who were underpaid for in their stimulus payments are now loaning money to the government and receiving nothing in return.

Unfortunately, this failure adds to the long list of examples which show good intentions are not enough with government policies. In order to help the poor, bureaucratic incompetence thwarts ostensibly good intentions and transforms them into bad results.

  • Peter Jacobsen is a Writing Fellow at the Foundation for Economic Education.