Studies of Welfare Populations: Data Collection and Research Issues. Weaknesses

06/01/2002

Several potential weaknesses are associated with using tax returns data to measure income and employment. We summarize several: Note that some of these weaknesses apply to the general population, while others are more relevant for low-income populations. First, the access by researchers to tax returns data is extremely limited and constrained because of Section 6103 of the Internal Revenue Code. Section 6103 explicitly states that tax data cannot be released, except to organizations specifically designated in Section 6103(j). The exceptions are the Department of Commerce, but only as it relates to the Census and National Income Accounts, the Federal Trade Commission, the Department of the Treasury, and the Department of Agriculture (for conducting the Census of Agriculture). Penalties for unauthorized disclosure are severe, including jail terms of up to 5 years.

Second, tax return data also contain only limited information on demographic characteristics of taxpayers. For example, the tax system does not collect information on the race or education of tax filers.

Third, tax-filing units differ from both families and individuals. Married couples can file either a joint return or separate returns (as "married filing separate"). Cohabiting couples, even if fully sharing resources, will file separate returns as individuals or head of household (generally meaning the filer is a single parent with dependents). In general we believe families pool resources so families are the best unit of analysis for assessing economic well-being. Hence, case units probably are the most useful unit of analysis.

Fourth, there also are differences between tax return data and other data sources in the frequency of reporting. Unemployment insurance wages are reported quarterly. Transfer program information is reported monthly. Tax returns are filed annually. Because shorter periods can be aggregated into longer ones and there can be major changes in family composition over time, the annual frequency of tax reporting is less appealing than monthly or quarterly reporting in other data sets. To the extent that family structure changes over these intervals, problems may arise when trying to link different data sets to assess well-being.

A fifth concern relates to the incidence and accuracy of tax filing by individuals and households, especially among low-income populations. This concern takes two forms: (1) whether people file any tax return, and (2) if they file, whether they report all sources of income to the IRS (or state taxing authorities).(26) We consider each in turn.

If large fractions of low-income taxpayers do not file tax returns, then tax return data have very limited value. Unfortunately, there is not a lot of information on the filing propensities of people with low income. Information from the early 1990s (Scholz, 1994) suggests that 14 to 20 percent of those entitled to the earned income tax credit at the time failed to receive it, meaning that they failed to file tax returns.(27) Later, we discuss one recent study on the tax filing propensities of a low-income population that sheds some preliminary light on this issue.

Among filing units, it is also possible that their members do not report all of their sources of income on their tax returns. For example, individuals may fail to file income received as independent contractors. Although firms or individuals who use independent contractors are obligated to report payments to such contractors to the IRS, failures to do this generally are difficult to detect. Again, we know little about the incidence of underreporting of various income sources for low-income populations.

To summarize, using tax return data to measure income and employment has several potential weaknesses. These are the following:

  • Gaining access to tax returns is difficult.
  • The data provide limited information on demographic and other characteristics.
  • Some low-income workers may not file, despite being eligible for the earned income tax credit, or may not report all their income.

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