Tax VOX

A view of the U.S. Capitol building during sunset from Pennsylvania Avenue in Washington in this February 2012 file photo 2012. Gleckman argues that a delay in the statutory debt limit could have serious political consequences. (Jose Luis Magana/Reuters/File)

How the debt limit delay will affect US fiscal policy

By Howard Gleckman, Guest blogger / 05.27.12

By now, you know the great taxmageddon story: At the end of the year, a lame duck Congress and a new or newly re-elected president will face the confluence of three extraordinary challenges—the 2001/2003/2010 tax cuts expire, the automatic spending cuts adopted in 2010 begin to bite, and the Treasury loses its ability to borrow new money.

But what if that schedule is wrong? What if that third forcing issue—hitting the statutory debt limit—does not happen until sometime in the first quarter of 2013? That is increasingly likely, say the folks who watch this sort of thing. And it would completely change the politics of the coming train wreck.

Here’s what might happen:

Assume President Obama is re-elected. Separating the debt limit from those other fiscal issues strengthens his hand enormously in 2012.

It makes it much easier for him to push Congress to extend the 2001/2003 tax cuts for all but those making $200,000 or more. Without the threat of a government shutdown, congressional Republicans lose their strongest leverage. And they’d have to explain why they forced a tax increase for nearly all Americans in order to preserve tax cuts for a handful of the wealthiest. Worse, they’d look like petulant losers.

The GOP hand will be weakened even more by the Congressional Budget Office’s new estimate that falling off the fiscal cliff would likely throw the nation back into recession.  

Obama could, in that environment, come off as the voice of reason—the role he loves to play more than any other. He could sweeten the pot by offering a deal to delay the automatic spending cuts (which almost no-one supports) and set a date in 2013 by which Congress would enact tax reform and, perhaps, additional spending reductions. He’d try to work a debt limit extension into the mix too. But worse case, he could put it off until say, March of 2013.

The more interesting speculation, however, is about what happens if Mitt Romney is elected President. If he wins in November, there will be no living human in America more anxious to have the debt limit resolved in 2012 than Romney. He would, I suspect, give up almost anything to avoid having to face the debt limit shortly after he is sworn in. I can hardly think of a less auspicious start to his presidency than a knock-down drag-out brawl over increasing government borrowing.

Just think about it. If he asks for a debt limit increase as one of his first acts in office, already-skeptical tea partiers would abandon him in droves. If he didn’t, and allowed the nation’s borrowing authority to expire….Well, no self-respecting ex-Wall Street guy is going to do that.

As a result, a newly-elected Romney would put enormous pressure on congressional Republicans to make the debt limit issue go away. In 2012. That would mean convincing the lame duck Congress to quietly pass a one or two year increase.

Just defeated Democrats, who have spent the past year ripping Republicans for irresponsibly holding the debt limit hostage would, of course, switch roles and hold the debt limit hostage. Their price for dealing: Tax increases. Big. Fat. In-your-face-Grover-Norquist tax increases.

So watch what happens to that debt limit deadline. It could change everything.

A 2011 1040 tax form along with other income tax forms are seen at the entrance of the Illinois Department of Revenue in Springfield, Ill. in this April 2012 file photo. (Seth Perlman/AP/File)

A path forward on tax reform: 4 steps

By Howard Gleckman, Guest blogger / 05.24.12

At the National Tax Association’s spring conference last week, former Congressional Budget Office Director Doug Holtz-Eakin laid out a path to tax reform in four simple, clear steps. Doug, who was also a top policy aide to the 2008 McCain for President campaign, was absolutely on point. And his analysis was both evidence of how hard reform will be and a possible roadmap to getting there.

His four steps were:

1. Recognize that the U.S. will have a progressive tax code (the flat tax, he said, is, “naïve”).

2. Agree on a top rate.

3. Agree on how much revenue you want to raise.

4. Eliminate or scale back the tax preferences you need to accomplish the first three.

Easy-peezy, as they say.

We should be able to get agreement on the first. With the exception of a handful of dead-enders, as Dick Cheney said in another context, there is a broad consensus in the U.S. that the tax code should be progressive. How progressive, of course, is matter of debate. But for the most part that argument will happen within some fairly narrow parameters. And it is not irreconcilable.

Similarly, with leadership from both parties, we could reach consensus on the top rate and scale other rates down from there. We did it in 1986, though there was some slippage from where that debate started. The fiscal commission chaired by Alan Simpson and Erskine Bowles used the same technique.   

The third step may be the key to the whole enterprise–and the toughest to achieve. Without agreement on a revenue number, there is zero chance of a successful tax reform. But to get there, Congress has got to find a way to reframe the current unproductive battle over this issue.  

That’s why Doug may be on to something when he talks about setting a revenue goal.

This not the same as arguing about how much we want to raise or lower revenues. Going down that road leads only to re-litigating the 2001/2003/2010 tax cuts and leaves Congress trapped in the toxic vortex of budget baselines. While this makes a small group of budget wonks very excited, it is a road to policy oblivion.

What if, instead, Congress and the President agreed that the new reformed tax code should raise xx percent of Gross Domestic Product in revenue in 2022? No baselines, no snarling argument over whether this would be a tax cut or a tax increase. Just…a number.

I’m not saying that getting there will be easy in today’s political environment. It will, in fact, be extraordinarily difficult. But the prospects for consensus are much higher than if the debate never gets past what to do about decade-old tax cuts.

The last step in Doug’s roadmap is figuring out how to pay for reform. And, oddly perhaps, that might be the easiest bit of all. As Ronald Reagan, Dan Rostenkowski, and Bob Packwood learned in 1986, once the leadership agrees on a rate and a revenue number, it is very hard for the lobbying class to fully protect its clients’ interests.

Sure, there will be some nips and tucks. But the basic outlines of that first draft are always very hard to budge. 

Will Doug’s roadmap get us to reform? It’s still very hard to see. But it is at least a plausible path.

This 2011 file photo shows California Gov. Jerry Brown during a news conference in Los Angeles. Over the weekend, Brown announced that the state could face a $4 billion deficit by the end of the current fiscal year. (Damian Dovarganes/AP/File)

It's summer. Time for a California budget crisis.

By Tracy Gordon, Guest blogger / 05.22.12

Summer is here and that can mean only one thing – the start of movie season.  Well, that and California’s annual budget mess.  Like a tired franchise that keeps coming back, it’s the same story year after year, sometimes gussied up with computer generated effects or a surprise cameo appearance.

On Saturday, Governor Jerry Brown kicked things off by announcing that tax collections were coming in below projections, and so the state would face a $4 billion deficit by the end of the current fiscal year (June 30^th ) if lawmakers failed to take corrective action.  Left unchecked, by the end of next fiscal year, the deficit would grow to $16 billion.

If this all sounds familiar, it’s because in every budget cycle since the last recession, the state has started with a projected gap between inflows and outflows.  The problem has certainly grown worse lately, as California and nearly all states, have struggled mightily with falling revenues and rising service demands in the Great Recession.  But it’s inescapable that lawmakers could have fixed the roof when it wasn’t raining.  They didn’t.

This is what’s known in the business as a “structural deficit.”  It means that there is an ongoing mismatch between revenues and public spending, regardless of how the economy is performing.  Some would attribute this mismatch to a disconnect between what voters want from government and what they are willing to pay for it.  Others would call it a failure in government’s ability to provide services efficiently and live within its means.

The problem is that the debate about right sizing government – in California and Washington, DC – typically happens in a fact free zone.  No one is talking about the business of government, what it provides, to whom, and at what cost.  The truth is we have very little data to underlie this kind of conversation.  Budgets are rife with information, and California’s non-partisan Legislative Analyst’s Office does a Herculean job putting out its own materials.  What’s missing someone to put it all together.  Some nonprofits and advocacy groups are providing a good start.

Also, voters and politicians alike could be more engaged.  Instead, California’s budget season usually follows the same plot line:  January budget release, May revision, and then a summer of gridlock punctuated by a few high profile protests and maybe a cash crisis necessitating state IOUs.  All is resolved in late summer or early fall (well beyond the state’s June 15^th constitutional deadline and into the July 1^st fiscal year).  Or is it?  The villain always comes back, and the process begins again.

Maybe this year will be different.  The governor is proposing some harsh cuts to health and social services on top of those that have already happened since 2009 as well as converting state employees to a four-day work week (at 5 percent less pay).  If voters do not approve his November ballot initiative for a temporary income tax surcharge on high-income residents and a quarter cent sales tax boost, public schools, colleges, and universities are next on the chopping block.  Those kinds of cuts, as well as closing 70 state parks, may get people’s attention.

Or, as one LA observer noted, “…we are about to head into the summer, when people are not spending a lot of time paying attention to what is happening in government.” Alas.

Originally posted at the Brookings Institution Up Front Blog on May 17, 2012.

Hillsborough Sheriff deputy patrols outside the gate of JPMorgan Chase annual stockholders meeting held Tuesday, May 15, 2012, in Tampa, Fla. Gleckman argues that a tax on security investments may stop the type of bad behavior that led to the JPMorgan $2 billion loss, but it might have terrible unintended consequences. (Scott Iskowitz/AP)

JPMorgan and the London Whale: Should we tax securities investments?

By Howard Gleckman, Guest blogger / 05.15.12

Now that a once-obscure J.P. Morgan Chase derivatives trader named Bruno Iksil has become infamous as the London Whale, I suppose it is time to ask whether what he does should be subject to new taxes.

The question predated Mr. Iksil’s misadventures, of course. Ever since the U.S. financial crash of 2008 and the beginnings of the pending Euro-zone financial collapse, governments have been debating whether securities transactions should be subject to a new tax.

Such a levy could, in theory, accomplish at least three goals: It could raise revenue for countries under great fiscal stress, assure that the financial sector (which often avoids tax) pays a “fair and substantial” share of taxes, and discourage bad behavior and thus stabilize markets.

These last two aims are especially important since the cost to governments of bailing out stupid (at least) financial institutions has run into hundreds of billions of dollars over the past four years.

Of course, such a tax could also have damaging unintended consequences that would damage financial markets.  

If they should be taxed, the really interesting question is: How? There are at least three major alternatives—and lots of variations on the theme.

The first option is a financial transactions tax (FTT) that imposes a levy on each trade without regard to profits or losses.  Thus, if I buy a share of stock for $10 and then sell the same share for $10, I’d be taxed on the value of both transactions even though I made no money. The European Commission recently proposed such a tax for the EU, and Sen. Tom Harkin (D-IA) and Rep. Peter DeFazio (D-OR) proposed one in the U.S.

The second option is a financial activities tax (known, sadly, as a FAT). This tax, which has been proposed by the International Monetary Fund staff, is levied only on net proceeds of securities transactions. You could think of it as a Value-Added Tax on financial transactions—which are normally exempt from the VAT.

Just to make things even more interesting, some versions of the FAT would not tax all profits, only those that are very high. They might, for instance, have taxed some of the big derivatives bets that Wall Street placed in the early 2000s.

The third idea, which has been proposed by the Obama Administration, is a direct tax on the balance sheets of large, financial institutions. The idea is that a firm should pay a tax that reflects its contribution to systemic risk—and, thus, its likelihood of needing a taxpayer bailout.

The differences between even the FAT and FTT can be pretty arcane. As New York University law professor Dan Shaviro, who has written a terrific paper for Tax Notes on the subject, says, “It is difficult to imagine a question that initially sounds as tedious as whether we should tax financial transactions or activities.”

But this choice is a very big deal. For instance, taxing every transaction could generate an enormous amount of money, even with a very low rate. A 0.01 percent tax would collect $16 billion Euros annually and the Harkin-DeFazio 0.03 percent tax could raise $350 billion over 9 years. Because the FAT taxes only profits, it would take a much higher rate to generate as much revenue.

And there are other questions: What is a financial transaction? How, in fact, would those derivatives that created so much unpleasantness for J.P Morgan in recent days, be taxed?

Then, there is tax competition. Even if all the world’s major developed countries adopted the levy, what would prevent financial markets from decamping to some warm Caribbean island to avoid the tax?   

If you’d like some answers to these timely questions, the Tax Policy Center is sponsoring a panel on the subject on Friday.  Panelists include Dan Shaviro, IMF Deputy Director for Fiscal Affairs Michael Keen, Tax Notes contributing editor Lee Sheppard, and AFL-CIO special counsel Damon Silvers. TPC visiting fellow Steve Rosenthal will moderate.

In this photo released by The White House, President Barack Obama participates in an interview with Robin Roberts of ABC's Good Morning America, in the Cabinet Room of the White House, Wednesday, May 9, 2012, in Washington. (Pete Souza/AP/The White House/File)

Will Obama's views on tax reform 'evolve' too?

By Howard Gleckman, Guest blogger / 05.10.12

Robin, thanks for asking me back on Good Morning America to talk about my views on tax reform. After we spoke about gay marriage, I got to thinking about another deeply-held emotional issue that affects every American family.

Well– you know, I have to tell you, as I’ve said, I’ve– I’ve been going through an evolution on this issue. I’ve always been adamant that Americans should be treated fairly and equally. I do believe we ought to have a revenue code that raises enough money to fund the government we want. And we should do it in a way that interferes as little as possible in the market economy.  

I’ve stood on the side of tax reform. But I had hesitated– in part, because I thought tinkering around the edges would be sufficient–something that would close a few loopholes and raise taxes on the rich. And– I was sensitive to the fact that– for a lot of people, you know, the– the phrase tax reform is something that evokes very powerful reactions, brings out the lobbyists, and so forth.

But I have to tell you that over the course of several years, as I talk to friends and family and neighbors. When I think about members of my own staff who pay very high tax rates, who are raising kids together but are thrown into the Alternative Minimum Tax…. When I think about new businesses that are unable to take advantage of the same tax subsidies that their bigger, more established competitors can and cannot commit themselves to expanding their business….

You know, Malia and Sasha, they’ve got friends whose parents make the same income and even do the same kind of work, but who pay very different effective tax rates.  And I– you know, there have been times where Michelle and I have been sittin’ around the dinner table. And we’ve been talkin’ and– about their friends and their parents. And Malia and Sasha would– it wouldn’t dawn on them that somehow their friends’ parents would be treated differently. It doesn’t make sense to them.

And– and frankly– that’s the kind of thing that prompts– a change of perspective. You know, not wanting to somehow explain to your child why somebody should be treated– differently, when it comes to– the eyes of the law.

At a certain point, I’ve just concluded that– for me personally, it is important for me to go ahead and affirm that– I think the tax code needs a major reform. Now– I have to tell you that part of my hesitation on this has also been I didn’t want to politicize the issue. There’s a tendency when I weigh in to think suddenly it becomes political and it becomes polarized.

And what you’re seeing is, I think, Members of Congress working through this issue– in fits and starts. Different policymakers are arriving at different conclusions, at different times. And I think that’s a healthy process and a healthy debate. But this is an issue upon which the President must lead, and that is what I will do.

That is why I have asked Treasury Secretary Tim Geithner to develop a detailed, specific tax reform plan in consultation with congressional leaders of both parties, business leaders, and others. I will present this plan to the American people next January and will strongly urge Congress to complete action on the bill by the end of 2013.

Thank you Robin, for letting me get this off my chest.  

Flags of France and the European Union hang on the facade of the Bank of France headquarters in Paris May 9, 2012. Recent elections in France and Greece are calling into question the future of austerity in Europe. Gleckman analyzes the impact that may have on the austerity debate within the United States. (Charles Platiau/Reuters)

With European elections, is austerity in the US doomed?

By Howard Gleckman, Guest blogger / 05.09.12

Europe is undergoing a massive political upheaval. You may have noticed.

Caught in the wake of deep recession, painfully high unemployment, bank failures, and growing demands for fiscal austerity by the bond markets, governments across the continent are collapsing.

In November, voters in Spain dumped a Socialist government for the conservatives. Last weekend in France, voters replaced conservative President Nicolas Sarkozy with a Socialist. In the past year, governments have fallen in Portugal, Italy, and Denmark, just to name a few. In Greece, voters tossed out just about everyone and at the moment the nation has no government at all. In Britain, PM David Cameron’s ruling conservatives are polling at about 32 percent.

It is easy to look at all this and see a massive rejection of fiscal austerity. Certainly, many Democrats in the U.S. take that message even as they fret over a multinational “throw the bums out” tidal wave (There are some exceptions such as Russia, where the bums enjoy the unfettered ability to rig elections).

But is the left in the U.S. right, er, correct? Is the lesson from Europe that deficit reduction is a loser and the key to political success is short-term economic growth? If it is, Republicans may find themselves on the wrong side of history in the coming election.

I suspect, however, that the story is more complicated than that. In Europe, economy is in worse shape than here, spending cuts are deeper, and tax increases steeper.  We are not Europe, at least not yet.

For instance, overall unemployment in the European Union averages 10.1 percent, two full percentage points higher than here. In Spain it is a staggering 23 percent. In Greece, nearly 21 percent.

It is the same story with taxes. Ireland has raised its Value Added Tax rate to 23 percent. Spain has raised its VAT to 18 percent. In the U.S., GOP rhetoric notwithstanding, we have been cutting taxes throughout the Obama years, not raising them.

And spending cuts? The sort of budget cutting going on in Europe is far more draconian than what the U.S. has seen. In Greece, for instance, government spending as a share of the economy is projected to drop by nearly 6 percentage points from 2009 to 2012. By contrast federal outlays in the U.S. are expected to fall by about 2 percent of GDP over the same period, nearly all from the expiration of one-time spending programs such as the TARP and other stimulus.

Even the 2012 House Republican budget would have made relatively modest cuts. For example, it would have reduced all discretionary spending by about $40 billion from 2011 levels—a cut of about 0.4 percent of GDP.

Am I suggesting that austerity could be a winning campaign platform in the U.S.? Hardly. Even in the best of times, Americans oppose most spending cuts (with the exception of foreign aid and “earmarks”) and favor raising taxes on only rich people (of whom there are, conveniently, relatively few).

But the parameters of the fiscal debate are far narrower here than in Europe, and the economy is much healthier. Oddly, the only true short-term austerity budget on the table is the end-of-the-year do-nothing option. That’s where congressional gridlock lets the 2001/2003/2010 tax cuts expire, the automatic spending cuts Congress approved in 2010 kick in, and Congress fails to increase the debt limit.

But short of that, there is only real lesson for us to learn from the recent European experience:  The U.S. needs to fix its long-term budget problem as soon as it can, and on its own terms. Because you never, ever, want to find yourself at the mercy of the bond vigilantes. If you don’t believe me, just ask the Greeks.

Warren Buffett breaks out a giant paddle while playing against Olympian Ariel Hsing during several rounds of ping pong at Regency Court in Omaha, Neb., on Sunday, May 6, 2012, during Berkshire Hathaway's annual shareholders meeting. Williams argues that instituting some version of the 'Buffett rule' would generate $62 billion in revenues for the US government over 10 years. (Alyssa Schukar/AP/Omaha World-Herald/File)

Buffett rule revenue would be huge

By Roberton Williams, Guest blogger / 05.07.12

Critics of the Buffett Rule often argue that the idea is hardly worth the trouble since it would raise taxes on less than a tenth of one percent of Americans and generate less than $5 billion a year. With annual deficits projected at 100 times that amount over the next decade, the additional revenue is little more than rounding error, they say.

But that $5 billion revenue estimate assumes a reality that most critics of the Buffett tax reject. If you think the 2001/2003/2010 tax cuts should be extended—an idea most opponents of the millionaire tax support—revenues would increase by a much more significant $162 billion over the decade. And that’s hardly the chump change they imply.

As usual, it is all about the baseline. The Joint Committee on Taxation (JCT) says that the Buffett Rule as proposed by Senator Sheldon Whitehouse (D-CT) would increase revenues by $47 billion over the coming decade, assuming that the 2001-2010 tax cuts expire as scheduled. Why? If those tax cuts disappeared, more millionaires would pay higher taxes and thus be exempt from the Buffett Rule’s minimum tax.

But those who oppose the Buffett Rule also demand that Congress make permanent most, if not all, of the expiring tax cuts. The resulting lower tax bills would make more millionaires subject to the Buffett Rule, boosting the revenue gain to $162 billion over the decade according to JCT, more than three times the increase under the expiration scenario. The problem is that extending the tax cuts pumps up the deficit too—more than tripling its size in 2022, according to the Congressional Budget Office. In effect, the Buffett tax would make a very bad fiscal situation slightly less awful.

Politicians can argue all they want about how and how quickly we should close the deficit. That’s their job. But they should be consistent in the bases for their arguments. Using different assumptions depending on the point they want to make weakens everything they say.

Examples of 'Understanding Taxes' graphic design posters hang in the halls of the US Internal Revenue Service building in Washington, DC, in this file photo. At an Urban Institute panel discussion this week economists debated whether the US tax code is, or can be, fair. (Ann Hermes/The Christian Science Monitor/File )

Can the US tax system be fair?

By Howard Gleckman, Guest blogger / 05.04.12

These days, some people want to impose a new Buffett tax on millionaires while others are outraged that low income people pay no income taxes at all and still others want to cut taxes on “job creators.” All in the name of fairness.

Is the tax code fair? Should it be?

It all depends on what you mean by fair, of course, but at an Urban Institute panel this week, two economists, a tax historian, and a philosopher agreed that in many important ways, it very likely is not.

Fairness is one of those concepts that makes economists really nervous. Because it is so subjective and impossible to measure, they usually avoid the idea entirely, preferring to stick with what they can count.

Still, my Tax Policy Center colleague Gene Steuerle, Brookings Institution economist Belle Sawhill, Tax Analysts historian Joe Thorndike, and Howard University philosophy professor Charles Verharen joined moderator Greg Ip, The Economist’s U.S. economics editor, in tackling the issue. The result was a fascinating look at a complicated issue from some very different perspectives.  It is well worth watching.

Gene divided fairness into three categories:  The first, which he calls the king of principles, is equal justice (what economists define as horizontal equity). Are people with equal ability to pay taxed equally?

The second is progressivity (vertical equity in econo-speak). Do the better off pay more tax than those who are less well off?  

The third is individual equity. Are we entitled to keep the rewards of our own work? Is it unfair if we cannot?

To that, one could add a fourth, which Gene and TPCs Rudy Penner have written about extensively. And that is generational equity. For instance, is it fair to burden those not yet born with the bill for the cost of maintaining our standard of living?

Verharen argued that fairness, which he defined as love for those most in need  (others may say individual sacrifice for the greater good), is hard-wired in family relationships and in much religious thought—to say nothing of Karl Marx. But, he noted, the concept of fairness has changed dramatically over the centuries. Once, and still in some cultures, killing a sick child to preserve the rest of a family is considered “fair.”

In a much less profound way, our concept of tax fairness has also evolved over the past two centuries. Joe Thorndike reminded the audience that for much of U.S. history, people were taxed on what they consumed (mostly through tariffs and excise taxes). But from the Civil War though the late 19^th century, tax fairness was redefined as ability to pay. The result: the rise of the progressive income tax.

But, Joe says, the idea was to distribute the tax burden, not to redistribute wealth. And that raises the question about whether today’s tax laws are an effective way to address income inequality. Assuming, of course, that you think it is even a problem.  

Much of the current political debate is over Gene’s concept of equal justice. With a tax code larded with $1 trillion in tax preferences aimed at rewarding some taxpayers and punishing others, we are far from a system where people with equal incomes are taxed equally. As Greg asked, if this concept is so important, why do we do it so badly?

And that raises yet another interesting question: Fair relative to what? Why do we presume that the current distribution of taxes is the right one, and thus judge proposals not on their own merits but compared to what we do today?  

Finally, Belle and other panelists warned that it is dangerous to think about the tax code in isolation. Shouldn’t a measure of fairness also consider who benefits from direct government spending, as well as that $1 trillion in tax preferences?

It probably should. That is, once we decide what we mean by fairness in the first place.

IRS employees exit the US Internal Revenue Service building at the end of the day in Washington, DC, in this file photo. Rosenthal raises five challenges the IRS faces in implementing new rules for reporting capital gains. (Ann Hermes/The Christian Science Monitor/File )

Five challenges for the IRS's new capital gains reporting rules

By Steven Rosenthal, Guest blogger / 05.02.12

Sellers of stocks and other assets have always had to calculate their cost basis (generally, what they paid for the investment) in order to figure their taxable capital gains. In the past, this was often a hit-or-miss experience that required lots of tedious research (occasionally with help from brokers) and more than a bit of guesswork. This year, for the first time, Congress required stock brokers to report cost basis to both the IRS and taxpayers.  Next year, mutual funds must report.  The reporting will apply only to newly-purchased stock, so there will be a long transition to the new system.

The goal is to make things easier for taxpayers and improve compliance (that is, reduce mistakes, deliberate or not).

This is a laudable aim, but the IRS faces a number of challenges to make this initiative work. Here are five, excerpted from a new article I wrote for Tax Notes, Basis Reporting:  Lessons Learned and Direction Forward.   

1. Congress standardized the information that brokers and mutual funds must report.  It also required taxpayers to either select a basis method (e.g., first-in-first-out (FIFO), average basis, or identification of the specific securities sold) in advance or accept the default choices made by their brokers or mutual funds.  These steps improve the quality and consistency of the information, which in turn will facilitate information matching by the IRS, but they greatly confuse taxpayers, at least in the near term.
2. Taxpayers are permitted too many choices to calculate their gains and losses, which greatly complicates reporting.  So, for mutual fund shares, taxpayers must now decide whether to provide standing instructions to determine the order in which their shares should be sold (e.g., highest basis first), whether to identify specific lots of shares to be sold at the time of sale, whether to elect average basis for their shares (separately for each of their accounts), and whether to revoke or change their average basis elections.   And the mutual funds must capture, maintain, transfer, and report these basis choices.
3. By law, taxpayers are responsible for reporting their gains and losses correctly on their tax returns, regardless of the numbers they received from their brokers.  So, for example, the IRS expects taxpayers to adjust cost basis to reflect tax rules, such as wash sales, which the brokers might not have reflected.   In practice, however, most taxpayers will simply transfer the numbers reported to them by their brokers to their income tax returns, and hope for the best.
4. The IRS expects to match the new information reports to taxpayer returns to identify misreporting.  Whether the IRS can distinguish taxpayer misreporting from system errors in matching is unclear.  However, the mere threat of information matching is likely to improve taxpayer compliance.
5. Technology advances, such as information reporting and tax preparation software (like Turbo Tax), shield taxpayers from the tax determination process, which is both helpful and harmful.  It’s helpful if taxpayers can save time and effort by using the information provided, but harmful if taxpayers cannot confirm or understand the information they have received.

With all of these problems, is basis reporting worth it?  I believe the answer is yes, but the transition will be painful.

(Full disclosure:  I advise Wolters Kluwer Financial Services–the publisher of GainsKeeper tax software.  The views I express are my own and not those of Wolters Kluwer Financial Services.)