Tax Law And Accounting

Tax Law and Accounting

In today's society income taxes are something in which almost everyone is familiar. However, the tax law and general purpose of income taxes is something in which the general society gives little thought. In addition, few tax preparers are aware that differences exist between the Generally Accepted Accounting Principles (GAAP) and tax accounting, not to mention the ramifications of avoiding or evading to proper complete the reporting of income taxes. This paper will discuss the objectives of modern tax law, the differences between Generally Accepted Accounting Principles (GAAP) and tax accounting as well as the differences between tax evasion and tax avoidance.

Objectives of Modern Tax Law

William Perez explains that income taxes are paid because the United States has to pay for such expenses as "schools, roads, hospitals, the military, government employees, national parks, and so forth" (2007, ¶ 2) and the process in which the United States pays for these expenses is through income taxes. The United States requires that the people and companies with earned income pay to the government a portion of the income earned. This portion of earned income paid to the government helps to pay for the many expenses needed by our society.

The process in which income taxes are paid is simple. Tax laws are written by the President and Congress of the United States. Enforcing the laws written by the President and Congress is the responsibility of the Internal Revenue Service (Perez, 2007), an organization that was once named the Bureau of Internal Revenue but was changed to the Internal Revenue Service (IRS) in the 1950s (IRS, Brief History of IRS, n.d., ¶ 4). The IRS is responsible for collecting taxes, issuing refunds, and giving the collected income taxes to the United States Treasury to pay for the various government expenses.

Throughout the history of the United States various Acts and Amendments have been enacted to help the government to constitutionally and effectively collect income taxes. The Sixteen Amendment to the Constitution gave Congress "the power to lay and collect taxes on income" (Pope, Anderson, & Kramer, 2007, page 1-2). In 1954, a codification of the tax laws went into effect and was known as the Internal Revenue Code of 1954. Throughout the years various amendments to the Code have taken place. However, the major structure of tax law has been consistent throughout the years. Tax law is structured to include the criteria of "equity, certainty, convenience, and economy" as well as a fifth criterion of simplicity (Pope et al., 2007, page 1-11).

All in all, the objective of modern income tax statutes is to provide a means for the United States to collect monies on income earned by the citizens and/or businesses of the country to help pay for the numerous expenses that the United States amasses.

GAAP and Tax Accounting Differences

George Plesko points out that Generally Accepted Accounting Principles (GAAP) were established by the Financial Accounting Standards Board (FASB) to help report the financial position of an organization through the use of financial statements. On the other hand, reporting taxes was intended as a means "to collect revenues in an equitable and efficient manner" (2002, page 1, ¶ 1). Plesko also suggests that while financial accounting rules based on GAAP may be applied in a discretionary manner, tax codes offer a clear set of rules that leave "little room for managerial judgment" (2002, page 1, ¶1).

One area in particular that differs greatly between GAAP and tax accounting is depreciation. GAAP allows for different depreciation methods "of the same assets" by companies, usually using the straight-line method, while tax accounting has a "lack of discretion in the tax code" that leads "to a more uniform application of the tax system" and requires the accelerated method of depreciation (Plesko, 2002, page 1, ¶ 6).

Another difference between GAAP and tax accounting is revenue recognition. Tax accounting requires revenue that is received within the tax year to be recognized and reported as income while GAAP requires "payments made in advance to be recognized as income during future periods" or when earned (Plesko, 2002, page 3, ¶ 2).

Obviously there are additional differences between GAAP and tax accounting. However, the main difference between the two reporting systems is that based on each of the individual reporting systems the total reportable income for an organization may be different.

Tax Evasion and Tax Avoidance

Vernon Jacobs jokingly explains that the difference between tax evasion and tax avoidance is five years in jail. However, Jacobs does continue to explain that the United States tax code section 7210 states that "any person who willingly attempts in any manner to evade or defeat any tax imposed" shall "be guilty of a felony" (2004, ¶ 2). In this manner, tax evasion and tax avoidance may end with the same result but the two are very different in their definitions.

Tax evasion involves a tax payer "deliberately misrepresenting or concealing the true state of their affairs" in order to "reduce tax liability." Some examples of tax evasion include "underdeclaring income, profits or gains; or overstating deductions" (Albinet Media & Business Services, 1996-2007, ¶ 2). Perhaps the most famous example of tax evasion is the conviction of Al Capone in 1931. Capone was indicted and convicted of tax evasion for not reporting his income from gambling and denying the government the benefit of the $215,080.48 of income taxes he owed (Chicago Historical Society, 1999). In more recent times, Richard Hatch, the winner of the first season of the television show Survivor, was convicted in 2006 of tax evasion for not reporting his winnings of $1 million from the TV show (AAP, 2006).

Tax avoidance, on the other hand, is considered to be "the legal exploitation of the tax regime to one's own advantage." In other words, tax avoidance is a means of reducing the amount of taxes to be paid by reducing the reported income through the use of tax law. "Using tax deductions, changing one's business