A new hurdle for Biden’s Build Back Better legislation

The Congressional Budget Office will soon publish its analysis of the financial impact of the Build Back Better legislation Democrats in Congress hope to pass by the end of the year. This official “score” will determine if the social-welfare and green-energy bill garners enough votes to become law.

There are already signs of an impasse. The CBO has questioned a key assumption of the legislation—the amount of additional tax revenue tougher IRS enforcement would bring in. President Biden’s summary of the legislation estimates that an extra $80 billion to beef up the IRS over a decade would bring in $480 billion in foregone tax revenue, for a net of $400 billion. But the CBO believes the same amount of extra funding would net just $125 billion.

That $275 billion gap means the means the bill could add to the national debt, violating a requirement of some moderate Democrats who insist the bill must be “fiscally responsible.” Passing the BBB legislation would require nearly every Democratic vote in Congress, so the CBO’s finding on tax enforcement could end up being a major barrier to passage.

CBO Director Phil Swagel explained the differing estimates in a Nov. 15 webinar sponsored by Yahoo Finance and the Bipartisan Policy Center. “One key aspect of our estimate is the idea of deterrence,” Swagel said. “There’s other analysis that puts a lot of weight on the idea of deterrence, that if the IRS is doing more auditing, people pay more of their taxes. The research literature on this is very mixed for high-net-worth individuals and for large companies. When a company understands that other companies similarly situated are being audited or examined, sometimes they actually take a more aggressive position. We ended up coming down in the middle of the literature of the effects of deterrence. Others take a more optimistic position.”

[Read more: This element of Biden’s agenda ‘has led to higher inflation’: Congress’s Budget Chief]

WASHINGTON, DC - APRIL 27: The Internal Revenue Service headquarters building appeared to be mostly empty April 27, 2020 in the Federal Triangle section of Washington, DC. The IRS called about 10,000 volunteer employees back to work Monday at 10 of its mission critical locations to work on taxpayer correspondence, handling tax documents, taking telephone calls and other actions related to the tax filing season. (Photo by Chip Somodevilla/Getty Images)

The Internal Revenue Service headquarters building in Washington, DC. (Photo by Chip Somodevilla/Getty Images)

[Click here to get Rick Newman’s stories by email.]

The basic idea behind strengthening the IRS is to compensate for a decade of declining funding and provide money for new auditors, updated technology and better customer service. Americans avoid paying as much as $1 trillion in taxes they owe each year, according to IRS Commissioner Charles Rettig. That’s a gigantic sum that would boost total U.S. government revenue by 20% if the IRS were able to collect all of it. Most of the “tax gap” stems from businesses and financial assets wealthy people own, which provide income that’s easier to hide than labor income reported directly to the government.

Tougher tax enforcement uncertainties

Narrowing the tax gap is a crucial source of funding for the BBB bill, which entails about $2 trillion in new spending on social-welfare programs and green-energy investments over a decade. According to the White House estimate, tougher tax enforcement would be the third largest source of funding for those programs, after an income-tax surcharge on millionaires (which the White House says would raise $640 billion over a decade) and a new minimum tax on big companies ($443 billion). President Biden has said repeatedly that his BBB plan would “pay for itself,” which means there would be enough new taxes to cover all the new spending. But that can’t be true if tougher tax enforcement falls short.

The CBO says it will publish its full analysis of the BBB bill by Friday, Nov. 19. That will most likely incorporate an estimate of the tax enforcement provision the CBO published in September, which cited several uncertainties in forecasting how much revenue tougher tax enforcement would raise. One question is whether taxpayers would report their income more honestly if the risk of an audit was higher. The CBO thinks this type of compliance would improve “only modestly.” The IRS also might not be able to hire all the experienced auditors it wants. And while the agency desperately needs better computer systems, it’s not clear how much that would improve tax collection.

WASHINGTON, DC - JUNE 08: Internal Revenue Service (IRS) Commissioner Charles Rettig testifies during a Senate Finance Committee hearing June 8, 2021 on Capitol Hill in Washington, D.C. The committee is hearing testimony on the IRS budget request for 2022. (Photo by Evelyn Hockstein-Pool/Getty Images)

WASHINGTON, DC – JUNE 08: Internal Revenue Service (IRS) Commissioner Charles Rettig testifies during a Senate Finance Committee hearing June 8, 2021 on Capitol Hill in Washington, D.C. The committee is hearing testimony on the IRS budget request for 2022. (Photo by Evelyn Hockstein-Pool/Getty Images)

The CBO isn’t the only group that thinks the White House tax enforcement estimate is far too high. The Penn Wharton Budget Model, which does independent analysis of prominent legislation, thinks $80 billion in extra IRS funding will net $190 billion in new revenue—less than half the White House estimate.

House Speaker Nancy Pelosi says she wants a House vote on the BBB bill as soon as the CBO publishes its score. But if the math doesn’t work and the funding comes up short, the House may have to modify the bill, either coming up with new revenue or cutting spending. Even if the House passes the bill by Thanksgiving, it will almost certainly be modified in the Senate, where moderate Democrats Joe Manchin of West Virginia and Kyrsten Sinema of Arizona have their own concerns about excess spending, higher taxes and additional debt. Rebuilding a depleted IRS would probably be beneficial no matter what, but it may not be the silver bullet Democrats are hoping for.

Rick Newman is the author of four books, including “Rebounders: How Winners Pivot from Setback to Success.” Follow him on Twitter: @rickjnewman. You can also send confidential tips.

Read more:

Get the latest financial and business news from Yahoo Finance