If Congress gets its way, the IRS may soon be hiring private tax collectors to pursue public debts. Pending legislation to repeal the extraterritorial income exclusion would also encourage the IRS to farm out some collection chores. Key House and Senate lawmakers have embraced the idea, and Bush administration leaders have signed on too.
But before embarking on this brave new experiment in revenue outsourcing, Congress should consider an unhappy precedent. In 1874 a similar program ended in scandal, tarnishing the already well-sullied reputation of President Ulysses S. Grant. And Treasury Secretary John Snow might take special note: The uproar forced one of his predecessors into early retirement.
In 1872 lawmakers granted the Bureau of Internal Revenue (BIR) authority to employ "not more than three persons to assist the proper officers of the Government in discovering and collecting any money belonging to the United States." It was a modest experiment, small in scope and hastily enacted.
The BIR played no role in devising the plan for private collectors. Its vague origins, shrouded in the secrecy of a House- Senate conference committee, seemed to show the fingerprints of several influential Massachusetts politicians, most of them lately ensconced in key Washington positions. The group included Treasury Secretary George S. Boutwell; his successor, William A. Richardson; and Rep. Benjamin Franklin Butler, famed for his military occupation of New Orleans during the Civil War.
The experiment with private collection got off to a disappointing start. In fact, the Treasury had been unofficially testing the idea for several years, but private dunning had produced little revenue. The first two collectors hired under the explicit authorization of the 1872 contract continued the dismal tradition of their predecessors, raising just $5,000 over two years. But a third contractor, Massachusetts politico John D. Sanborn, did much better. Over a three-year stretch, he collected $427,000 in delinquent taxes. This was not a huge amount; total internal revenue collections in 1874 amounted to $102 million. But the haul easily bested all previous efforts at private collection.1
Sanborn began his efforts with a focus on whiskey taxes. The steep whiskey excise had long been plagued by evasion, and Treasury officials asked Sanborn to collect from 39 delinquent distillers and liquor retailers. He certainly had his work cut out for him. But Sanborn did a good job with this difficult task, and congressional investigators later concluded that he was instrumental in securing the indictment of numerous tax cheats, especially a small ring in New York City.2
That early success endeared Sanborn to the Treasury, and he soon persuaded Treasury supervisors to expand his mandate. In late 1872, the department added 760 taxpayers to Sanborn's list of targets, this time focusing on delinquent income and estate taxes. In early 1873, they appended another two thousand names, also reflecting income and estate tax liabilities. Finally, on July 1, 1873, officials added 592 railroad companies to Sanborn's list; each of those companies had supposedly failed to remit taxes withheld from dividend and interest payments. (For a brief period in the mid-19th century, railroad companies were required to withhold taxes from payments to shareholders and bondholders.)
Sanborn had a powerful incentive to add names to his contract. Under the terms of his agreement with the Treasury, he received 50 percent of any money collected from delinquent taxpayers named in his contract. In fact, it didn't matter whether he or federal officials did the actual collection; once the taxpayer's name was in the contract, Sanborn had a claim to half of any subsequent collection.
Sanborn eventually succumbed to temptation, padding his contract with dubious claims of delinquent taxes. By law and regulation, private collectors were required to furnish details about each delinquent taxpayer, including the nature of the debt and the evidence used to substantiate it. But Treasury officials proved flexible on that point. In fact, congressional investigators later determined that none of Sanborn's contracts had provided the requisite details about listed taxpayers.
As Sanborn expanded his operations, Treasury officials were happy to oblige him at almost every turn. They accepted his taxpayer lists uncritically. And while the 1872 law directed contractors to assist government officials in collecting taxes, Sanborn managed to reverse that relationship, enlisting full-time government employees in assisting him.
At the request of Treasury Secretary Boutwell, who had hired Sanborn in the first place, BIR officials were directed to render the contractor all necessary help and assistance. In one notable instance two BIR employees were assigned to help Sanborn examine the accounts of various railroad companies. Those officials soon delivered to Sanborn a list of 150 delinquent accounts. Sanborn, in turn, used that list as the basis for his contract extension in July 1873. Just to be on the safe side, though, Sanborn added a few extra names to the list. In fact, the 592 companies he persuaded Treasury to add constituted "substantially the entire list of railroads within the United States," according to outraged congressional investigators. Sanborn, it turned out, had compiled his list from a published guide to the U.S. railroad industry.
Sanborn's activity was starting to attract some unfriendly scrutiny. BIR officials were unhappy with his freelance operation, and the commissioner had lodged a formal complaint with the Treasury (which studiously ignored it). Meanwhile, BIR field staff were starting to complain that Sanborn was duplicating official efforts. On several occasions, they said, he was trying to collect taxes that BIR agents were already pursuing.
The Ways and Means Committee quickly concluded that the system of private collection was beyond redemption. In a report issued in May 1874, lawmakers determined that most, if not all, of the $427,000 collected from Sanborn's contractual targets would have ended up in the Treasury even absent his efforts. "These taxes should and would have been collected by the Internal Revenue Bureau [agents] in the ordinary discharge of their duty," the committee said. Many of the tax debts "discovered" by Sanborn were well known to the BIR and some, like legacy and succession taxes, were a matter of public record.
Outsourcing tax collection served no useful purpose, the lawmakers concluded. On the contrary, it undermined the existing apparatus of federal tax administration. "It is certain that a continuance of this system must work to a greater or lesser extent [as] a demoralization of the entire outside working force [field staff] engaged under this Bureau," the panel wrote.
Investigators singled out BIR officials for high praise, stressing their attention to duty and protection of the fisc. One Pennsylvania supervisor, a Mr. Sutton, proved especially courageous. "Owing to his energy and vigilance," the committee declared, "these contractors marauding upon the public treasury were unable to take these collections out of his hands, notwithstanding the fact that all of them attempted it."
Clearly, Treasury officials had failed to administer the outsourcing law as Congress had intended. But senior officials from Secretary Richardson on down consistently passed the buck (Boutwell had left the Treasury in 1873). "The disagreements and contradictions given respectively by these gentlemen," the Ways and Means members charged, "is a matter greatly deplored by the committee, as by it they are unable to fix upon any one, or anywhere, the responsibility for the maladministration of the law."
Ultimately, the committee recommended that private collection be halted immediately. "The committee are of the opinion that any system of farming the collection of any portion of the revenues of the Government is fundamentally wrong," they wrote. The government was fully capable of collecting all outstanding taxes; it had the knowledge, machinery, and personnel necessary for the task. Outsourcing tax collection simply encouraged fraud. "If there is anything on earth that seems to me apparent," declared Rep. James Burney Beck, D-Ky., on the floor of the House," it is that these contracts, from their inception to the present time, are reeking and buoyant with corruption."3
Private collection had its defenders, most notably Rep. Benjamin F. Butler, R-Mass., who insisted that people should be made to pay their taxes by any means necessary. With critics suggesting that Butler had helped steer contracts to his fellow Bay State politico Sanborn, Butler lost his cool during a heated House debate. Members of the House, he warned, should be careful with their criticism lest investigators look too closely at their own tax affairs.
But the Ways and Means report sealed the fate of private collection, as well as a few Treasury officials. The New York Times demanded accountability, calling for Secretary Richardson and his cronies to resign. "The report leaves but two judgments to be formed of the conduct of these gentlemen," the Times intoned, "that it was corrupt, or that it was inexpressibly negligent and careless."4
Within days, Richardson left his post for an exciting spot on the Court of Claims. And Congress abruptly terminated the experiment with private collection, repealing the 1872 authorizing language. Sanborn was indicted in New York for corruption associated with his collection activities, but the case petered out when officials determined he had done nothing technically illegal. Ultimately, it was the Treasury that took the fall for the Sanborn scandal.
In 1874 the scandal surrounding private collection also focused on the low-hanging fruit. In this instance, however, lawmakers questioned why federal tax collectors wouldn't do such easy pickin' on their own. If many taxes remained unpaid, why not simply ask the BIR to collect them? Collection, after all, was the agency's statutory responsibility. And if BIR officials had shirked that responsibility, why not simply replace them?
As Rep. Charles Eldredge, D-Wis., asked: "Would it not have been a much easier way, a better mode, more in consonance with republican institutions and republican administration, to have removed those officers who failed to do their duty, and to place in their stead good men and true men who would have assessed and collected those taxes, and not have allowed them to be in arrears for many years?"5
Now that's a good question.
The following document is available from Tax Analysts:
"Discovery and Collection of Monies Withheld From the Government." In Committee on Ways and Means. Washington, D.C.: U.S. House of Representatives, 1874.
"The President and the Sanborn Business." The New York Times, May 5, 1874, p. 4.
United States Bureau of the Census. Historical Statistics of the United States, Colonial Times to 1970. Bicentennial ed. Washington: U.S. Government Printing Office, 1975.
2 U.S. House of Representatives, Committee on Ways and Means, Discovery and Collection of Monies Withheld From the Government, Washington, D.C.: U.S. House of Representatives, 1874, 2.
3 Congressional Record, 43rd Congress, 1st Session, 1874, Vol. 2, pt. 3 (10 March 1874): 2118.
4 "The President and the Sanborn Business," The New York Times, May 5, 1874, p. 4.
5 Congressional Record, 43rd Congress, 1st Session, 1874, Vol. 2, pt. 3 (10 March 1874): 2118.