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Where Does the Wealth Squad Go From Here?

Your eyes may glaze over as you peruse the headlines whenever there are new or proposed changes to tax law. In the meantime, the wealth defence industry — with its legions of accountants, financial counsellors, and lawyers — is discreetly mobilising.

Last year, the Biden administration proposed a revamped IRS, with a tougher “wealth squad” to combat tax evasion by the ultra-rich, or those with tens of millions of dollars in assets. Soon after, the wealth defence sector revealed preparation techniques for wealth advisors.

The Global High Wealth Industry Group, as the wealth squad is formally known, was founded in 2009. The next year, however, marked a watershed moment in American politics, and the IRS has subsequently suffered financial cuts as a result of conservative backlash.

When budget constraints are combined with the ability of billionaires and multimillionaires to hire apparently limitless teams of lawyers and accountants, it’s easy to see why the wealth squad hasn’t always been a useful tool.

A new report from the Government Accountability Office (GAO) indicates how audit rates have dramatically fallen over the past decade, highlighting both the squad’s unfulfilled objective and the hope that enforcement will strengthen.

This is especially true for high-income families. Households earning more than $5 million per year had their audit rates plummet by 86 per cent between 2010 and 2019, from more than 16 per cent to just over 2 per cent.

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The decrease in rich audits is troubling, not only because of the significant money lost due to tax cheating but also because of the rise of wealth — and wealth concealing — during the last decade.

Consider the fortune of the top ten billionaires according to Forbes’ list of billionaires in 2010. Mexican billionaire Carlos Slim led the list that year; Jeff Bezos had yet to crack the top 40, and Elon Musk’s Tesla had only recently gone public. The world’s 10 wealthiest people had a combined fortune of $342.2 billion.

Fast forward nearly a decade to 2019, when Bezos was ranked first. The total fortune of the world’s top 10 billionaires had more than doubled to $744 billion at that time.

The beginning of the pandemic the next year was also extremely profitable. According to the Institute for Policy Studies, billionaire wealth in the United States has increased by more than half – $1.7 trillion — since the pandemic began.

As the wealthy become wealthier, they will need a place to put their billions aside from traditional financial markets. That’s why the ultra-rich use a wide range of tangible assets as wealth storage vessels, including real estate, yachts, and valuable art. They also set up complicated trusts to hold their riches, employing talented lawyers to exploit loopholes and manipulate laws to safeguard their fortune from the worst possible outcome: taxation.

In last year’s Pandora Papers, the International Consortium of Investigative Journalists uncovered how the world’s wealthy utilise trusts to escape taxes and responsibility. States like South Dakota, Nevada, Alaska, and Delaware are among the top trust destinations around the globe.

These states have enacted legislation to entice the wealthy to set up trusts in their jurisdictions; both international and domestic ultra-high-net-worth individuals are increasingly establishing trusts in these jurisdictions.

IRS

For example, South Dakota now has over $500 billion in trust assets, up from $57 billion in 2010. According to Gabriel Zucman, Thomas Piketty, and Emmanuel Saez’s calculations, the United States had at least $5.6 trillion in trust assets in 2021, more than double the $2.3 trillion it had in 2010.

In sum, more than ever, rigorous IRS control is required. That, however, is not what we’ve seen, according to the GAO report.

Unfortunately, the IRS lacks the resources necessary to pursue tax evasion and avoidance aggressively. IRS deputy commissioner Douglas O’Donnell stated in a comment on a draught of the GAO report that budget limitations had impeded the agency’s capacity to adequately carry out its mandate.

Reduced revenues, he added, have resulted in a manpower shortage, which “has posed challenges to overall tax administration, including our capacity to provide proper customer service, audit coverage, collect on taxes owed, close the tax gap, fund the government, and IT modernization.”

Since 2010, IRS funding has decreased by about 21% in inflation-adjusted dollars. Between 2010 and 2020, more than 13,000 law enforcement employees were lost to attrition, with the number of agents handling complicated cases falling by more than a third.

Those who claim the Earned Income Tax Credit (EITC) — low- and middle-income households — are audited at higher-than-average rates, even though higher-income persons are more likely to misreport their taxes. This, according to the IRS, is because EITC audits can be automated, whereas high-income audits necessitate significantly more work by teams with specific expertise — abilities that the IRS is rapidly losing.

Between 2011 and 2013, the IRS estimates that underreporting and underpayment resulted in a $441 billion annual shortfall between taxes owing and taxes paid, with only $60 billion of that being recovered.

In recent years, underpayment by individuals in the top 5% of income has accounted for more than half of the so-called “tax gap,” with the top 1% accounting for more than a quarter of the total.

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The tax shortfall is expected to grow to $7 trillion over the next ten years.

The Biden administration intends to give the IRS a boost by injecting $80 billion over the next ten years into enforcement activities and better technology to combat tax evasion. The money was set aside in the lengthy Build Back Better programme.

Even though it is a revenue-generating investment, it is unclear whether the finance plan will pass.

“When you have fewer staff conducting compliance work, you end up leaving tax income on the table,” then-IRS commissioner John Koskinen remarked in 2015 at the National Tax Conference of the American Institute of Certified Public Accountants.

“By slashing the IRS budget, the government is sacrificing billions to save a few hundred million dollars.”

Due to greater tax enforcement, the Treasury Department estimates that the $80 billion investment in the IRS will yield $480 billion in revenue over the following decade. This is in line with IRS data, which shows that every dollar spent on enforcement generates a $5 return.

Long if the IRS obtains more funding, the wealth defence business will be ready – it started planning even before there were rumours of a better-funded wealth squad. Clients should expect a “holistic” and “intrusive” auditing process and should begin preparing immediately, according to a WealthManagement.com webinar from spring 2021 – a perfect approach to sell wealth adviser services.

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Multimillionaires and billionaires have vast resources to protect their money from creditors and taxation. If the IRS continues to struggle and the IRS wealth squad’s capabilities dwindle, those resources will only rise — and inequality will continue to widen.

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