Voluntary compliance is an assumption under which the U.S. tax system operates. It is the principle for which all the taxpayers will cooperate with the tax system, filing an honest and accurate annual return autonomously.
Voluntary compliance does not mean that there are no tax-related laws or rules. It means that every worker and company is expected to file his taxes correctly without government intervention.
How It Works
The Internal Revenue Service (IRS) plays a major role in the U.S. tax system. It is the federal agency in charge of enforcing tax-related laws. One of the agency’s main tasks is to implement income tax law for both individuals and corporations.
Every entity with an income (individuals and companies) must prepare and file a tax return every year, which declares his gross income in the past year. Based on this declaration, the entity will incur a debit or a credit with the government. It means that two situations can arise at the end of the income declaration:
The entity has a credit with the government, and it is entitled to get a refund of taxes paid back; or
The entity has a debit with the government, and it needs to pay more taxes.
Calculating taxes for all the taxpayers would be onerous work for the IRS to do by itself. Checking that every taxpayer is truthfully disclosing everything accurately also is an unachievable burden. In this context, voluntary compliance is introduced.
Not being able to control every taxpayer’s declaration, the U.S. tax system is working on the assumption that taxpayers will behave honestly, declaring the truth about their income, paying the right amount of taxes.
The key point to understand is that voluntary compliance does not refer to the act of filling the tax return, but it lies in the belief that the taxpayer will do it properly.
To file the tax return honestly and correctly, taxpayers must follow the rules and laws presented and explained in the tax code. As often happens, the tax code’s principles are many, and they can be misleading or very hard to understand. For this reason, the IRS provides taxpayers with information and guidance and tries to simplify forms and filing procedures as much as possible.
When the time of tax return filling comes, the taxpayers can follow the guidelines and fill in the provided forms. Yet, it is up to each taxpayer to honestly declare their true income and claim deductions just if they are entitled to receive it.
To better understand how voluntary compliance works, let’s use an example. Suppose that Bill works for a large company. He will receive from the company a W-2, which is a document that says how much income he received from that company in the past year.
Bill, however, earns income from other sources. In addition to his regular job, he sells his photos and teaches English to foreign kids. From both activities, Bill earns additional income but does not receive a W-2 form for this additional income.
At this point, it is up to Bill voluntarily to include the extra income in his final tax return. If he decides not to report the extra income, it may or may not be caught by the IRS. Trusting that Bill will file a complete tax return is what we call voluntary compliance.
As individual taxpayers, companies must declare their income, too. They must follow the regulations and obey the laws, and, as for individuals, it is very hard and time-consuming for the government to check all of them.
An alternative is to let all tax filings be based on voluntary compliance. It is in the interest of the company itself to provide an honest tax return. It will help build a good reputation for the business and will increase its credibility.
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