In the end, this story proves what I've said all along: the income tax code in the USA based on Title 26, the Internal Revenue Code, plus all its subsequent rulings are a terrible idea.
Think about what's wrong with the US tax code:
1. 30,000 tax lobbyists--HALF the lobbyists in Washington, DC--fighting for every scrap of a tax loophole. And you get political corruption on a huge scale over this.
2. The result is a tax code so complex that it makes James Joyce's Ulysses easy to read in comparison. Even the IRS can't figure out much of the tax code!
3. The sheer complexity means exorbitant yearly compliance costs, estimated by some economists to be approaching US$430 BILLION per year (and climbing fast in each subsequent year).
4. It also encourages the outsourcing of millions of jobs, thousands of factories, and hundreds of corporate headquarters for tax avoidance reasons. Care to explain why so many companies incorporate in the states of Nevada and Delware in the USA or use highly complex accounting schemes like the infamous Double Irish with Dutch sandwich scheme used by Google?
5. It results in (by some estimates) around US$15 TRILLION on American-owned liquid assets sitting in offshore financial centers and other foreign banks for tax avoidance reasons (care to explain all those "banks" in the Cayman Islands, Bahamas, British Virgin Islands, and so on?).
6. Government uses the tax code as a political instrument to favor or punish political constituencies as little as ONE taxpaying entity.
7. Because the IRS needs to know intimate details of personal and business financial records in tax return filings, there are potentially serious issues with invasion of privacy.
8. The IRS assumes you're guilty of tax evasion, and you end up having less rights than most common criminals!
In short, utter economic and political insanity. We need to seriously look at unprecedented income tax reforms such as the no-loophole flat tax originally proposed by Steve Forbes in 1996 or the FairTax replacement for the entire income tax code (H.R. 25--yes, it's a real bill in Congress). Such unprecedented reforms would end most, if not all, the issues I mentioned above, tremendously boost economic activity (because the tax code is no longer an impediment to economic growth), and also means with higher economic growth we have WAY more revenue to the government in the first place.