NEW YORK (CNNMoney.com) -- U.S. Treasury Secretary Henry Paulson told Senators on Wednesday that significantly narrowing the tax gap between federal taxes owed and taxes paid may not be possible "without adding draconian and painful requirements on all taxpayers," most of whom pay their taxes in full.
"I don't believe any of us really want to do that," he told members of the Senate Finance Committee, which had asked for a better sense of the administration's goals and timetable for reducing the estimated $300 billion annual gap.
Committee Chairman Max Baucus (D-Mont.) told Paulson he thinks the Treasury can and should do better. "It's the Treasury's job to fix [the gap], yet the administration doesn't seem to take this job seriously," Baucus said. "A few worthy ideas do not rise to the level of a plan."
Baucus has been sharply critical of the administration's 16 tax-gap proposals in President Bush's 2008 proposed budget since they would only recover an estimated one cent on every dollar of the annual gap.
Baucus told Paulson he wants him to return in three months with a better plan that has as its goal a 90 percent voluntary compliance rate by 2017. Currently, 84 percent of taxpayers voluntarily comply with the requirement to pay taxes. After the IRS attempts to recover taxes owed but not paid, that compliance rate is estimated to be 86 percent.
Paulson agreed more needs to be done but said he didn't think it was prudent to set a hard benchmark. "I don't want to put forth something that would mislead the American people. ... I value my credibility too much to promise something when I don't see the steps to get there," Paulson said.
Paulson said Treasury had developed a strategy for increasing compliance that focused on measures like determining why taxpayers underreported their income and targeting enforcement actions more efficiently.
He criticized some proposals that have been offered as "unnecessarily painful, expensive and time-consuming," like requiring individuals to file 1099 forms with the IRS to report their transactions with service providers like doctors, auto mechanics and dry cleaners who might not report the fees they charge.
"In theory, each of these measures could bring in some additional revenue, but the costs of compliance for individuals and businesses -- most of whom already pay what they owe -- would far outweigh the gains," he said.
Paulson said one way to boost compliance would be to make the tax code easier to understand. Simplification would help, he said, by "reducing the number of honest mistakes, removing incentives for cheating, and providing fewer places for tax cheats to hide."
He also urged lawmakers to approve the legislative proposals in the president's budget as "a strong, first step." Those proposals would, among other things:
- Require banks to report merchants' annual credit card reimbursements.
- Boost reporting on individuals' investments by brokerages and other third parties.
- Make willful failure to file a tax return repeatedly a felony instead of a misdemeanor.
Underreporting of income is estimated to account for 80 percent of the tax gap, of which half is due to underreporting of net business income by individuals. Another 18 percent of the gap is due to failure to file among other things.
-- Reuters contributed to this report 
