I think we should simply replace withholding with a line on the paycheck indicating the amount that would have been withheld, recommending that that amount be saved for eventual payment to the IRS. Then, have people send a check to the IRS once a year. There’s nothing like the psychological impact of writing that huge check to the IRS to get people upset enough to keep taxes low. Automatic withholding has far less of an effect because people don’t miss money that was never really in their hands. This principle is great to exploit for retirement saving, but not for taxes.

Prof Bakija would be the expert on this, but I’ve seen a handful of explanations for why income is withheld in the literature.

The one I’ve seen most often is that the government makes money this way. Not everyone takes full advantage of the tax relief that they are due. In fact, it’s one of the de facto regressive features of the tax system. For instance, really poor people, grad students for instance, typically don’t have to file a tax return because their income is too low. Unfortunately, by not filing, they also forgo the Earned Income Tax Credit. By and large, wealthier Americans hire accountants who maximize their client’s refund potential, while poorer Americans do not get all to which they are entitled.

A more cynical individual might make the leap that if the government increases taxes across the board, but inserts loopholes that potentially more than offset the higher taxes, the payments made by wealthy Americans will actually go down, while the payments made by poor Americans will go up because it is precisely the poor Americans who will never find the loopholes.

But I’m not a cyncial individual.

Doesn’t withholding act as (basically) an interest-free loan to the government?

Yes. Which is why, when people are so happy when they get money back, they should not actually be happy because then they were free-loaning even more than they should.

Richard: it seems like my system would solve the problems you describe by essentially forcing everyone to file.

Ronit: yes.

Diana: exactly! The current system is perverse in that people actually celebrate having some of their own money returned to them. Owing less money than initial calculations would indicate should mean less pain when writing your annual check, not some strange sort of pleasure when you get back money you’ve already paid to the government when you didn’t really need to.