Should we think of the IRS like a business when thinking about how to fund it? The New York Times recently ran an article arguing for greater investment in the IRS. The IRS has been tasked with a lot lately, from enforcing the ACA, distributing COVID relief checks (and likely a second round of them), to just enforcing the tax law as usual. And, they could certainly stand to be better funded. Staffing levels are shrinking, systems are increasingly outdated, and the financial situation is, indeed, not great. As the IRS noted in a recent budget request, “Every taxpayer service and enforcement statistic has declined considerably since 2010.” But, several parts of the New York Times article talk about funding the IRS like a business investment—as long as you get back more than you invest, you should keep investing (if the project is positive NPV, for all you MBA-types out there). Should we think about funding the IRS like investing in a business?
The short answer is “No”. The longer answer is “Nooooo”. The IRS does, indeed, require money to operate, and, it does, indeed, fund our government, so, it feels like you are investing in a money-producing entity. But, the IRS does not “produce” income. The decision of how to fund a government agency is one that should be done taking in what is best for society, and, from a societal perspective, the IRS just reshuffles who has what money—it does not create anything. It is an incredibly valuable and important institution, which, in my opinion (backed by a fair amount of evidence), is the best tax authority on earth. But, because the IRS merely redistributes, you can’t think about funding the IRS like investing in a business, where you want to keep investing as long as you get out more than you put in (after adjusting for risk, etc.). It is not correct to think about it that why if what you are doing is taking money from some people and giving it to others (whether as direct transfers, providing social services, or paying for our military, etc.), which is what the IRS, like every tax authority, does.
This insight comes from the academic literature on the optimal size of the tax authority, specifically, from a paper by Joel Slemrod and Shlomo Yitzhaki, note, “The tax collection agency, as any other government agency, uses real resources to operate, and its size should be expanded to the point where its marginal cost equals its properly defined marginal social benefit, and no further,” where the marginal social benefit is not necessarily the marginal tax revenue. As the social benefit of the IRS is not objectively measured, you simply can’t think about funding the IRS like funding a business.
