Recently my bank sent me an "Important Notice." It said that, because of the 1982 tax act, it would be withholding a 10 percent federal income tax from my interest and dividends --beginning July 1, 1983. On my next year's income tax return, I can claim this amount as an offsetting credit or refund.
The bank also was good enough to enclose a certificate--Form W-6--telling me how I could be exempt from this withholding for any of the listed reasons. All I have to do is check a box, give my name, address and account number, and return the certificate in the enclosed envelope. Of course, there are penalties if the certificate is false.
I see this as a helpful letter, and I want to thank my banker. Actually, all of my adult life I have been declaring and paying taxes on my dividends and interest. So does the overwhelming bulk of my fellow Americans.
But there is a minority who cheats on dividends and interest. This minority costs the government billions in lost revenue each year. And when they don't pay their taxes, someone else does--you and me. (IRS Commissioner Egger puts this tax loss at $8.2 billion for 1981 alone.)
Regrettably misinformation is being circulated as part of a campaign to repeal the 1982 withholding law. It should first be absolutely clear that withholding is not another tax. Withholding merely changes the way the tax is collected--to ensure that all pay what they owe.
To avoid hardships for those not subject to tax, generous exemptions are given to senior citizens, lower income individuals and small savings accounts earning interest of $150 or less. The Treasury, in turn, is accommodating to almost every concern of banks and others.
The Treasury estimates that, with withholding, the yield on an individual account earning 9 percent is reduced by only 5/100ths of 1 percent-- from 9 percent to 8.95 percent. For example, on a $1,000 deposit earning 9 percent interest, the loss of yield due to withholding is about 50 cents a year. Not a bad price to pay for recapturing billions of dollars of lost revenue. The government projects that, over five years, it will regain at least $20 billion of these losses.
Underreporting of dividends and interest is a highly visible part of the tax gap. President Kennedy deplored this in his 1961 tax message, stating: "This is patently unfair to those who must as a result bear a larger share of the tax burden . . . ." (His proposed withholding legislation was passed by the House in 1962, but defeated in the Senate later that year.) President Reagan struck the same note when writing recently to Sen. Dole.
In a mass, nationwide income tax operation such as ours, withholding is crucial. It is the backbone of our self-assessment system, amounting to over 75 percent of all that the IRS collected from individuals in 1982--$267.5 billion out of $353 billion gross individual income tax collections.
Tax withholding on dividends and interest was first introduced over 100 years ago--in 1862 during the Civil War. It applied first at a 3 percent rate and then at 5 percent to interest and dividends paid by banks, trust companies, railroads and various insurance companies.
Also subject to withholding then were salaries of government employees only. In a non-computer age it evidently was too difficult to extend withholding to the salaries of nongovernment employees. Withholding on dividends and interest was practical and workable, but withholding on salaries of nongovernmental employees was not!
In 1943, when "pay-as-you-go" taxation--the Ruml plan--became a permanent part of our tax law, withholding on wages and quarterly payments of estimated taxes helped to finance World War II and to provide a basic framework for our present tax system.
Information reporting is no substitute. It merely identifies potential discrepancies; withholding actually collects the taxes due. While the IRS continues to improve its matching program, the task is monumental and extremely costly. In 1981, the IRS received some 660 million information documents. 4 As a whole, the corporate community seems to accept the new rules with good grace. Instead of distributing 100 percent of dividends to shareholders, corporations will distribute only 90 percent after July 1, with the balance going to the government. They will incur additional computer and bookkeeping costs, but from a cash-flow and asset standpoint corporations distributing dividends will remain substantially unaffected.
Banks, however, do face a change. They will now have to remit periodically 10 percent of the interest added to customers' accounts. In the past, most of this interest was credited to accounts but retained by the banks for use in making additional loans and investments. It is this practice that the 1982 legislation brings to an end.
Beginning July 1, as withholding payments are deposited with the Treasury, the funds available to banks will be reduced on a regular basis-- which is one of the underlying reasons for the current outcry. Not the burden on the depositors, but rather the loss in deposit base, is the real issue for many.
To help banks offset their costs in starting up withholding, the Treasury's recent regulations make a number of important concessions. For one thing, banks have the absolute right to elect to withhold annually, rather than monthly or quarterly, on a variety of savings and NOW checking accounts. Also, they may ask for a complete waiver up to six months if compliance with the new rules will cause them undue hardship. The Treasury recently issued guidelines on what is "undue hardship," and it is anticipated that relief will be granted on a very liberal basis.
Finally, the banks are being allowed to retain the withholding dollarssfor a much longer period than is allowed for wage withholding--roughly a 30-day "float," in contrast to about eight days for wage withholding. This will give them more time to use your withheld tax before having to turn it over to the government. Large banks will be given this 30-day grace period for one year; middle- sized, two years; and small, three.
Everyone surely wants economic recovery. To this end, collecting taxes owed but not paid is certainly better than piling new taxes on those who do pay. In adopting withholding in 1982, Congress made a major improvement in our tax collection system.
Americans must not be misled by a barrage of misinformation and misunderstanding inspired by some with a special axe to grind. The Senate will be showing its mettle if it stands fast this week and next against the intense lobbying for repeal of these much-needed withholding rules.