DEPARTMENT OF THE TREASURY WASHINGTON, D.C. 20220
INSPECTOR GENERAL for TAX ADMINISTRATION
April 30, 2001
The Honorable Paul H. O'Neill Secretary of the Treasury Washington, D.C. 20220
Dear Mr. Secretary:
I am forwarding to you the Treasury Inspector General for Tax Administration's (TIGTA) Semiannual Report to the Congress for the six-month period ending March 31, 2001. We issued 60 audit reports that identified over $410 million in financial accomplishments. Most of the financial accomplishments involved issues that would increase tax assessments and collections, or protect revenue from erroneous claims or refunds.
TIGTA closed over 2,250 investigations and investigative recoveries totaled just over $8.3 million during this reporting period. The Office of Investigations has focused on the emerging problem of domestic terrorism, as well as threats and assaults against Internal Revenue Service (IRS) employees as they carry out their tax administration responsibilities.
The Office of Audit dedicates resources to helping the IRS address its major challenges, i.e., technology modernization, customer service, filing season, and tax compliance, to include the challenges presented by a global economy. The annual audit requirements involving taxpayer rights imposed by the IRS Restructuring and Reform Act of 1998 are underway and will be reported in our next semiannual report.
TIGTA special agents conducted integrity awareness presentations for over 15,500 individuals, of which 89 percent were IRS employees. Our goal is to reach one third of IRS employees with our integrity briefings by the end of the fiscal year. We believe these presentations heighten integrity awareness and have a potential deterrent effect on fraud and misconduct.
I look forward to working with you in helping the IRS become a highly effective and respected government agency for the American public.
Sincerely,
Enclosure
Semiannual Report to the Congress
Table of Contents
Office of the Inspector General
for Tax Administration ...............................................1
Authorities .........................................................................................................................1
Major Issues Facing the IRS............................................................................................1
Office of Audit....................................................................................................................9
Office of Investigations ..................................................................................................29
Appendix I
Statistical Reports for the
Office of
Audit...................................................................... 43
Questioned Costs, Funds Put to Better Use, Additional Quantifiable
Impact on Tax
Administration
Appendix II
Statistical Reports for the
Office of
Investigations........................................................ 47
Investigative Results, Complaints/Allegations Received by TIGTA, Status of Complaints/Allegations Received by TIGTA, Complaints/Allegations Received by the IRS, Disposition of Complaints/Allegations Received by the IRS
Appendix III
Statistical Reports—Other ...........................................................................................53
Audit Reports With Significant Unimplemented Corrective Actions,
Access to Information,
Audit Reports Issued in Prior Reporting Period With No Management Response,
Revised Management Decisions, Disputed Audit Recommendations,
Review of Legislation and Regulations
Appendix IV
TIGTA Audit Report Listing ..........................................................................................69
Appendix V
Section 1203 Standards...............................................................................................75
Appendix VI
Statutory TIGTA Reporting Requirements
..................................................................77
Appendix VII
Government Performance and Results Act
Audits .....................................................81
Appendix VIII
Acronyms .....................................................................................................................83
Appendix IX
OrganizationChart .......................................................................................................85
Treasury Inspector General for Tax Administration March 31, 2001
Semiannual Report to the Congress
Office of Treasury Inspector General for Tax Administration
INFORMATION ABOUT THE TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION
The Office of the Treasury Inspector General for Tax Administration (TIGTA) provides independent oversight of the Internal Revenue Service (IRS) activities, the IRS Oversight Board, and the IRS Office of Chief Counsel. TIGTA is organizationally placed within the Department of the Treasury, but is independent of the Department and all other Treasury offices. TIGTA’s focus is devoted to all aspects of work related to tax administration.
TIGTA’s audit and investigative activities are designed to:
• Promote economy, efficiency, and effectiveness in the administration of the nation’s tax system.
• Detect and deter fraud and abuse in IRS programs and operations.
• Protect the IRS against external attempts to corrupt or threaten its employees.
Other responsibilities include:
• Investigating allegations of misconduct by IRS employees.
• Reviewing and making recommendations regarding existing and proposed legislation and regulations relating to the programs and operations of the IRS and TIGTA.
• Recommending actions to resolve fraud, abuses, and deficiencies in IRS programs and operations.
• Informing the Secretary of the Treasury and the Congress of problems and the progress made in resolving them.
The Offices of Audit and Investigations carry out these duties and are supported in their efforts by the Offices of Chief Counsel, Information Technology, and Management Services.
AUTHORITIES
TIGTA has all the authorities granted under the Inspector General Act of 19781. TIGTA also has access to tax information in the performance of its responsibilities and the authority to report criminal violations directly to the Department of Justice. The Inspector General (IG) and the Commissioner of Internal Revenue have established policies and procedures delineating responsibilities to investigate offenses under the internal revenue laws.
In addition, the IRS Restructuring and Reform Act of 19982 (RRA 98) amended the Inspector General Act of 1978 to give TIGTA statutory authority to carry firearms and execute the provisions of the Internal Revenue Code (I.R.C.) Section 7608(b)(2). These provisions include law enforcement authority to execute and serve search warrants, serve subpoenas, and make arrests.
MAJOR ISSUES FACING THE IRS
As the nation’s tax administrator, the IRS collects 95 percent of federal tax revenues. For Fiscal Year (FY) 2001, the IRS is projected to collect $2.1 trillion. The IRS processes approximately 233 million tax returns and provides assistance to more than 128 million taxpayers annually. The IRS also
1
Pub. L. No.
95-452 Stat. 1101, as amended, at 5
U.S.C. app. 3 (1994
& Supp. II 1996)
2 Pub. L. No. 105-206, 112 Stat. 685
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implements tax law changes and manages over 700 office locations. This formidable task is carried out in an environment where providing quality customer service and enforcing tax laws go hand in hand.
In December 2000, TIGTA advised Congress of the following major challenges facing the IRS in FY 2001:
•Modernizing the IRS:
Organizational Restructuring
Technology Modernization
• Providing Security Over Information Systems
• Processing Returns and Implementing Tax Law Changes
• Providing Customer Service and Ensuring Tax Compliance
• Providing Quality Customer Service Operations
• Protecting Revenue and Minimizing Tax Filing Fraud
•Protecting Taxpayer Rights
• Implementing the Government Performance and Results Act of 1993 (GPRA)3
•Managing Finances
• Addressing the Impact of the Global Economy on Tax Administration
These major challenges have been the focus of TIGTA’s audit and investigative activities during this six-month reporting period. The following sections provide a summary of the issues and TIGTA’s activities to help the IRS address these issues. Details of some of the more significant audit and investigative activities, as well as information on statutory requirements, can be found on pages
3 Pub. L. No. 103-62, 107 Stat. 285
9 through 27, 29 through 42, and in Appendix VI, respectively.
MODERNIZING THE IRS
Creating a modernized IRS is a top priority of the Commissioner, as well as a principal focus of Congressional oversight. Modernization is the most significant challenge the IRS faces over the next few years. Modernization includes both organizational restructuring and implementation of new computer systems and technology. The ability to achieve the IRS’ modernization concept is largely dependent on restructuring to better meet taxpayer needs and developing new technology to replace deficient and obsolete systems.
Organizational Restructuring
On October 1, 2000, the IRS achieved its first milestone toward modernization by implementing its new organizational structure. The four major components of the new IRS are the Wage and Investment Income (W&I), Small Business/ Self-Employed (SB/SE), Large and Mid-Size Business (LMSB), and Tax Exempt and Government Entities (TE/GE) Divisions.
The stand up of the new business unit structure was an important first step in the IRS’ restructuring, though far from the last of this long-term endeavor.
TIGTA audits found that the four new business units had substantially completed the critical elements needed for standing up. Specifically, most key management positions were filled, most employees had been realigned, finance offices and budgets were established, many delegations of authority were revised, and detailed plans of workarounds 4 were developed. However,
4 A “workaround” is a temporary solution to a problem that allows a new organization to be operational until a final solution can be developed and implemented.
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additional actions were needed in the area of staffing unfilled positions in the W&I Division and minimizing the risks of implementing the TE/GE Division’s modernization vision.
With the new business structure in place, the IRS must focus on important issues such as taxpayer access to “walk-in” and “toll-free” services; defining new customer bases and determining customer needs; accuracy of responses to taxpayers; the ability to hire and train a qualified workforce; and, reversing the decline in enforcement results.
Technology Modernization
Almost $400 million has been spent on technology modernization in the past two years. While significant progress has been made, including development of the modernization blueprint and establishment of program management processes, most of the ongoing systems modernization projects have taken longer and cost more than originally planned. This is attributed, in part, to the IRS learning to manage its complex systems modernization effort, and the roles and responsibilities of the IRS and the PRIME contractor being inadequately defined during the early phases of the modernization.
While growing pains are not uncommon for major systems development projects, the reality is that a restructured IRS may take longer to realize than initially anticipated.
Assessing the IRS’ modernization efforts continues to be a top priority for TIGTA. TIGTA has identified the following areas that could seriously impact the success of technology modernization:
• Delays and cost overruns in delivering tangible benefits to taxpayers.
•Potential funding problems.
• Inconsistencies in implementing key systems development processes.
• Business needs not always being well defined.
In addition, the Office of Audit recently reported that while the IRS has established a framework for meeting its electronic filing goals, it is questionable whether these goals can be met. The ability to achieve 80 percent electronically filed returns by 2007 will require aggressive and sustained efforts. For example, 23 percent of all individual returns were filed electronically in FY 1999. While the percentage of individual returns filed electronically increased five percent in FY 2000, even more substantial increases are needed to achieve the goal of 80 percent by 2007.
PROVIDING SECURITY OVER INFORMATION SYSTEMS
The IRS maintains large volumes of sensitive taxpayer information. The Commissioner has stated that protecting this information and the systems used to deliver taxpayer services is key to a customer-focused IRS.
As the primary revenue collector for the United States (U.S.), the IRS is a potential target of external terrorists and hackers. Additionally, disgruntled employees pose a threat, particularly during the IRS reorganization process. Whether external or internal threats, the IRS is increasingly more vulnerable as its systems become more interconnected.
Recent TIGTA audits have identified significant security weaknesses in the following areas:
•Intrusion detection.
•Disaster recovery.
•Physical security of facilities and systems.
• Certification of security controls for sensitive systems.
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TIGTA is working closely with the IRS to develop a group of dedicated computer specialists and special agents who can rapidly respond to computer intrusions, investigate IRS network problems when indicators of intentional disruption are present, and conduct recurring systems penetration tests to detect new vulnerabilities.
Unauthorized accesses (UNAX) to taxpayer information by IRS employees remain a concern. The IRS conducts annual awareness programs to reinforce its policy of “zero tolerance” for unauthorized access of taxpayer records. All employees are required to acknowledge in writing that they attended and understood these presentations, yet abuses continue.
The Office of Investigations uses detection criteria to search the IRS’ tax files to identify potential unauthorized accesses. During this reporting period, 358 potential leads were identified and 163 were referred to field offices for investigation. In addition, the Office of Audit has recommended improved computer controls to better protect confidential taxpayer information from unauthorized accesses.
PROCESSING RETURNS AND IMPLEMENTING TAX LAW CHANGES
The filing season impacts every American taxpayer and is, therefore, always a highly critical program for the IRS. Programs, activities, and resources have to be planned and managed effectively each filing season. For example, more than 250 computer programming changes were required for the 2000 filing season. This is further complicated by the modernization efforts that are updating and replacing the very core tax processing systems needed to deliver a successful filing season. In addition, the IRS must ensure telecommunications and system capacity will accommodate the new electronic
filing requirements and the accuracy and utility of information received and processed.
The Office of Audit reported the IRS needs procedural and organizational changes to further simplify tax forms, and thereby reduce taxpayer burden. For example, the IRS does not have a toll-free telephone number for taxpayers to conveniently provide comments on improving tax forms. In addition, the IRS needs to ensure the tax form development process complies with federal internal control standards.
PROVIDING CUSTOMER SERVICE AND ENSURING TAX COMPLIANCE
The IRS has begun to re-engineer its business processes and technology to focus on providing vastly improved service to taxpayers. The belief is that voluntary compliance with the tax laws will increase if the IRS provides the right mix of education and support to taxpayers. The task is a daunting one.
Revenue receipts processed by the IRS increased from $1.5 trillion in FY 1996 to $1.9 trillion in FY 2000. However, revenue collected as a result of compliance activity decreased by $5 billion and gross accounts receivable increased by $41 billion during the same period. IRS management and stakeholders have concerns about the reduced resources allocated to compliance activities and the related decrease in business results. In February 2001, Congress approved approximately $140 million for IRS to hire over 2,800 employees to improve both customer service and compliance coverage.
Decreased enforcement has also been attributed to IRS employees’ concerns over the mandatory employment termination provision in Section 1203 of RRA 98. To help address these concerns, TIGTA has briefed the IRS staff on Section 1203 investigations. In addition, TIGTA
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participates in an IRS task force focusing on Section 1203 processes.
PROVIDING QUALITY CUSTOMER SERVICE OPERATIONS
Providing top quality service to every taxpayer in every transaction is integral to the IRS’ modernization plans. There are many ways in which the IRS provides customer service; the most direct include toll-free telephone service, electronic customer service, written communications to taxpayers, walk-in service, and accurate and timely tax refunds. Each of these services affects a taxpayer’s ability and desire to voluntarily comply with the tax laws.
Telephone and Internet technology afford the IRS many opportunities to dramatically improve customer service. The IRS has made strides in using these technologies. However, inadequate systems design and planning has hindered some of these efforts, and put them at risk of not being completed timely.
For example, planning for an Internet-based refund status application began in 1996. This application is currently scheduled to be available by the 2002 filing season. While general planning and analysis work has been accomplished, detailed design and development are still needed. To be postured for the 2002 filing season, the IRS must define and complete critical design requirements and development work, to include: analyzing and defining the business and functional requirements of the refund application; ensuring the application meets security and privacy requirements; and, integrating/interfacing the web application with the appropriate computer systems.
In addition, the IRS has developed a web site that provides taxpayers with convenient access to tax forms and information. This filing season alone, the web site received over one billion accesses.
The accuracy of responses at call sites and Taxpayer Assistance Centers needs to be increased. Improvements are heavily dependent on the success of the IRS’ systems modernization initiative. The Customer Communications Project is to be the IRS’ first major modernization effort. This Project is designed to route taxpayer calls to a customer service representative, anywhere in the U.S., who is best qualified to answer the question. It will also provide expanded self-service telephone and Internet services.
PROTECTING REVENUE AND MINIMIZING TAX FILING FRAUD
The IRS must continually seek opportunities to protect revenue and minimize tax filing fraud in its programs and operations. The Earned Income Credit (EIC) Program continues to be a highly visible area of potential fraud. An August 2000 IRS EIC compliance study reported that the amount of overclaims submitted was approximately $9.3 billion, or 31 percent of the amount claimed.
To combat potential EIC fraud, the IRS launched promising new compliance initiatives. For example, partnerships with the Department of Health and Human Services and the Social Security Administration will permit the IRS to cross-check information regarding how the child is related to the taxpayer, the age of the child, and whether the taxpayer is the child’s custodial parent. For the 2000 filing season, the IRS began checking all secondary Social Security Numbers (S-SSNs) in addition to primary and qualifying child SSNs on EIC returns. The IRS rejects returns if the names and numbers do not match Social Security records.
Despite the IRS programs and efforts to detect and stop fraudulent EIC claims, relatively little effort has been made to systemically identify refund schemes involving business returns and associated credits. A few business
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schemes have been identified but generally, it has required labor-intensive manual procedures. The IRS is concerned that fraudulent refund claims may be expanding to include business returns and that scheme perpetrators continue to develop new methods to defraud the system.
PROTECTING TAXPAYER RIGHTS
The IRS has made progress in implementing some RRA 98 taxpayer rights provisions. For example, the IRS was fully or substantially compliant with the provisions involving seizures and notification requirements for levies. The IRS is continuing to take corrective actions to increase compliance with the following RRA 98 provisions:
• Providing innocent spouse relief.
• Notifying taxpayers of third party contacts and summonses.
• Not designating taxpayers as illegal tax protesters.
• Providing proper and timely notice that a federal tax lien has been filed.
• Not withholding information in response to taxpayers’ written requests for information under the Freedom of Information Act of 19985 (FOIA) or the Privacy Act of 19746.
RRA 98 also placed restrictions on the IRS’ use of enforcement statistics to evaluate employees or suggest production quotas and goals. In September 2000, TIGTA reported that most employee evaluations and management documents did not contain tax enforcement results and did not impose production quotas or goals; however, there were some instances in which these types of enforcement statistics were used.
5 U.S.C. § 552 (1996) 6 U.S.C. § 552a (1996)
The IRS should continue to monitor compliance with these taxpayer rights provisions, particularly since enforcement activities are likely to increase. The IRS has restructured and placed increased emphasis on the importance of appropriate enforcement action to ensure compliance with tax laws.
The Office of Investigations protects taxpayers and their rights by investigating allegations of misconduct by IRS employees. Since the passage of RRA 98, over 1,150 complaints alleging Section 1203 violations have been received by TIGTA. TIGTA is noticing a decline in the number of complaints it receives. From a high of 95 allegations in October 1999, TIGTA has received 55 or fewer allegations per month since January 2000. TIGTA received only 19 allegations of Section 1203 violations in March 2001.
The vast majority of these Section 1203 complaints have alleged an IRS employee violated a provision of the IRS Manual or I.R.C. to retaliate against or harass someone. The second largest category concerns constitutional and civil rights/Equal Employment Opportunity violations.
During this reporting period, TIGTA initiated 108 investigations, of which 40 were closed.
IMPLEMENTING GPRA
GPRA requires government agencies to set goals, measure performance, and report on accomplishments. During the past two years, the IRS developed its Strategic Plan and provided budget justifications that included Annual Performance Plans. Collectively, these documents satisfy major GPRA requirements by identifying the IRS’ mission, strategic objectives, goals, and strategies. The documents also describe the IRS’ priorities for a six-year period and the key performance measures used in assessing achievement of its goals.
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The Commissioner has indicated that it will take years to develop a complete set of balanced measures that can be used at all levels of the IRS. As the new operating divisions concentrate on implementing its new organizational structures, performance measures may not receive high priority. TIGTA believes the IRS can improve its measures, the quality of the performance data, and reporting of annual accomplishments.
MANAGING FINANCES
The IRS received an unqualified or clean opinion on its FY 2000 financial statements. However, the General Accounting Office (GAO) reported internal controls are not effective, and financial management systems lack substantial compliance with the Federal Financial Management Improvement Act7.
Obtaining the unqualified opinion required compensating processes to work around IRS’ systems and control weaknesses to derive year-end balances. IRS’ approach relied heavily on costly, time-consuming processes; statistical projections; external contractors; substantial adjustments; and, extensive human effort. The level of effort behind these processes cannot be sustained to produce timely financial information for decision making on a regular basis.
ADDRESSING THE IMPACT OF THE GLOBAL ECONOMY ON TAX ADMINISTRATION
TIGTA and the GAO have previously reported serious internal control and systemic weaknesses in IRS’ administration of international programs. A recent TIGTA audit concluded that the IRS is in no better position today to determine taxpayers’ compliance levels in reporting foreign sourced income than it was in 1997. Despite the foreign sourced income information provided by tax treaty partners, IRS is unable to measure compliance or identify non-compliance effectively. While the IRS has indicated that it has undertaken several international compliance programs, increased focus on nonfiling, transfers of assets by U.S. citizens to foreign trusts, foreign tax credit claims, and foreign sourced income is needed.
TIGTA is in the process of reviewing three areas of foreign-related transactions. These areas include withholding on partnerships by foreign partners; compliance programs for U.S. residents with foreign sourced income; and, compliance programs for non-resident aliens.
7 Pub. L. No. 104-208, 110 Stat. 3008-314, 3009-389 (1996)
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Treasury Inspector General for Tax Administration Office of Audit
INTRODUCTION
The Office of Audit identifies opportunities to improve administration of the nation’s tax laws by conducting comprehensive, independent performance and financial audits of IRS programs and operations to:
• Assess efficiency, economy, effectiveness, and program accomplishments.
• Ensure compliance with applicable laws and regulations.
• Prevent, detect, and deter fraud, waste, and abuse.
THE AUDIT PROGRAM
To assist the IRS in meeting the challenges it faces in FY 2001, the Office of Audit developed a comprehensive audit program. The program helps the IRS assure that tax administration programs are efficient and effective, and minimize fraud, waste, and abuse.
The audit program is presented in the Annual Audit Plan, which communicates audit priorities for the current fiscal year. Many of the activities described in the Audit Plan address the fundamental goals related to administering programs effectively and efficiently. Major management issues, as well as specific areas of concern to the Congress and the IRS Commissioner, are also addressed. As such, audit work is organized around the IRS’ core business activities with emphasis on the statutory coverage imposed by RRA 98. Audit work also focuses on other statutory authorities and standards involving computer systems and financial management.
SIGNIFICANT AUDIT RESULTS
During this reporting period, the Office of Audit issued 60 audit reports, which are listed in Appendix IV.
The results of the most significant reviews are discussed in the following sections.
Modernizing the IRS
Additional Management
Actions Are
Needed to Ensure the Timely and
Successful Modernization of the Tax
Exempt and Government Entities
Division
(Reference No. 2001-10-026)
The mission of the new TE/GE Division is to focus on providing customers top quality service and protecting the public interest by applying the tax laws with integrity and fairness to all. The IRS has taken positive steps toward ensuring the successful migration to the new TE/GE Division. Nonetheless, additional actions are needed to minimize the inherent risks associated with such a major endeavor. Timely addressing these risks is critical to ensure the successful implementation of the TE/GE Division’s modernization initiatives.
The Office of Audit determined that the TE/GE Division has not incorporated the concept of a single executive or senior-level person with end-to-end accountability into its implementation governance structure to manage its modernization initiatives. Also, additional actions should be taken to better control, evaluate, and report internal and external stakeholder concerns and comments. TE/GE Division management would then be in a better position to readily identify and resolve critical issues facing transition from the old to the new organization.
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The TE/GE Division does not have an effective process to identify and monitor the status of workarounds. The inability to adequately capture and monitor workarounds may prevent the TE/GE Division from effectively tracking its efforts to timely replace vital processes with permanent solutions. Workarounds that are not timely replaced with permanent solutions could result in work stoppages and prevent the TE/GE Division from achieving its modernization vision.
Now that the TE/GE Division has become an independent entity within the IRS, it must rely on other business units to assist its managers in meeting the modernization vision. Without establishing effective working relationships with these other business units, the TE/GE Division could be at risk of not accomplishing its mission, goals, and objectives.
The Office of Audit recommended that a senior-level official be selected to oversee future modernization activities and establish ownership and oversight responsibility for addressing stakeholder concerns and comments. Also, management should establish formal agreements and processes to better plan, control and oversee the work performed by internal and external support organizations. In addition, the risks that core processes could result in disruptions to customer service should be identified and monitored.
IRS management agreed with the audit recommendations.
Controls Over the Development of the Practitioner Secure Messaging System Prototype Should Be Improved (Reference No. 2001-20-022)
The IRS’ Electronic Tax Administration (ETA) management developed the Practitioner Secure Messaging System (PSMS) Prototype to support the design of a full-scale system that will provide a secure Internet environment for tax practitioners and the IRS to exchange tax information. The purpose of the Prototype is to provide information (such as lessons learned) to the related Business Systems Modernization Program project that is building the full-scale secure messaging system.
The PSMS Prototype is the IRS’ first system that uses the Internet to directly interact with the public to exchange taxpayer information. The Prototype identified significant lessons concerning the implementation of an Internet-based messaging process. However, IRS management should move the PSMS Prototype and similar ETA systems development initiatives to the Chief Information Officer’s (CIO) organization to be consistent with the IRS’ response to prior audit recommendations as well as the IRS Organization Blueprint 2000, which consolidates all systems development activities under the CIO. Also, the IRS should strengthen the PSMS Prototype project management and spending controls.
IRS management agreed with the project management and spending control issues and has initiated corrective actions. However, IRS management did not agree with the recommendation to move the PSMS Prototype and similar ETA systems development initiatives to the CIO organization. The Office of Audit continues to believe that managing systems development initiatives outside the CIO organization increases the risk of inconsistent and ineffective project management processes and of fragmented systems modernization initiatives, which could lead to delays, cost overruns and rework.
Electronic Signature Initiatives Could Be Better Defined and Evaluated (Reference No. 2001-20-043)
The IRS’ goal is to have at least 80 percent of all tax returns filed electronically by 2007. To increase the number of electronically filed returns, the IRS has implemented Personal Identification Numbers (PIN) as an alternative
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to
handwritten signatures. As of
September 24, 2000, the IRS had
electronically received approximately
35 million (28 percent) of the 126 million
individual income tax returns filed. Of the
35 million electronically filed individual
returns, nearly 12 million were signed with a
PIN.
Source: IRS Service Center Processing and Production Reports
The Office of Audit reported that the IRS has not finalized requirements defining the minimum acceptable controls for the use of PINs as alternative signatures. In addition, the IRS lacks detailed cost benefit analyses for the operational alternative signature initiatives and comprehensive assessments of program performance. Therefore, the cost effectiveness of decisions to expand or terminate specific alternative signature initiatives, and the anticipated effect on the number of electronic returns filed by taxpayers, are not readily available.
The Office of Audit recommended that the IRS finalize requirements for the use of PINs and ensure that all operational alternative signature initiatives comply with the requirements. In addition, the IRS should prepare detailed program evaluations for operational PIN alternative signature initiatives and conduct comprehensive cost benefit analyses for future initiatives.
IRS management agreed to finalize the signature authentication requirements and review the operational alternative signature initiatives for compliance. However, IRS management did not agree to revise the program evaluation process. Instead, the IRS believes that existing program evaluation measures and cost related documents are sufficient to evaluate the program, identify areas for improvement, and select the most feasible approach.
The Office of Audit continues to believe that improvements are needed to ensure that the cost effectiveness of decisions to expand or terminate specific alternative signature initiatives, and the anticipated effect on the number of electronic returns filed by taxpayers, are readily available. Although management indicated program evaluations were done for each alternative, the Office of Audit was unable to obtain documentation of the evaluations for several of the alternatives.
Management Advisory Report:
The
Probability of Meeting Electronic Tax
Administration Goals Remains
Questionable
(Reference No. 2001-40-047)
The IRS processes over 200 million returns while collecting tax revenues totaling $1.7 trillion each year. However, efforts to modernize its processing systems remain constrained since most tax returns are filed on paper rather than electronically. Increasing electronic filing improves tax return processing by significantly reducing errors and labor costs and is essential for modernization to be effective.
The IRS has established a framework for accomplishing its electronic filing goals in the ETA Strategic Plan, but the probability of meeting these goals remains questionable. From 1998 to 1999, the IRS increased the number of electronically filed returns by over 19 percent for individual returns and 56 percent for information returns. During 2000, it also experienced an increase in electronic filing. For example, electronically
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filed individual returns increased from 23.4 percent in 1999 to 28 percent in 2000.
While the IRS increased the number of electronically filed returns in both 1999 and 2000, achieving the 2003 interim goal of having all computer-prepared paper returns filed electronically is not probable. It is also questionable whether the IRS can accomplish the 2007 goal of having 80 percent of all federal tax and information returns filed electronically. Success will require a sustained and substantial effort by the IRS to increase the number of electronically filed returns over the next seven years.
Source: 1999 A Strategy for Growth and the Electronic Tax Administration Advisory Committee Report to Congress dated June 30, 2000
Source: Statistics of Income Projections of Information and Withholding Documents in the United States for Paper and
Non-Paper Totals for Filing Seasons 2000-2008 and Combined Total of Electronically Transmitted Magnetic Tape and Paper
|
|
Total |
E-File |
Percent of Total |
|
Individual Returns |
125.1 |
29.3 |
23.4 |
|
Business Returns |
69.8 |
5.7 |
8.2 |
|
Information Returns |
1,240.0 |
121.5 |
9.8 |
|
Total |
1,434.9 |
156.5 |
10.9 |
Percentage of 1999 Returns Filed Electronically (In Millions)
Source: ETA Strategy for Growth, Information Return Volumes for 1999 from the Executive Officer of Service Center
Operations, and Statistics of Income Projections for Returns to be Filed
The Office of Audit recommended that the IRS improve its strategic planning process to include incremental project milestones or sufficient performance measures to evaluate each initiative’s progress and its ultimate impact on electronic filing. The ETA Strategic Plan should also clearly define the impact of information returns filed on magnetic media. These returns will significantly affect the IRS’ ability to achieve its electronic filing goals because banks and employers will need to convert over one billion returns from magnetic tape to electronic filing within the next seven years. The plan did not adequately distinguish between those returns filed electronically versus those received on magnetic tape.
In January 2000, the IRS reviewed the ETA strategy and identified the need to focus its efforts on the most critical issues. In addition, an outside advisory council emphasized that the past increases in the electronic filing rate must be sustained and suggested establishing new initiatives to help achieve the necessary growth rate. By addressing these concerns and implementing enhancements in the strategic planning process, the IRS should increase the likelihood that its vision for electronic filing becomes a reality.
This report was issued for information use only and did not require a response.
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Management Advisory Report:
Additional Management Actions Are
Needed for Placing Small
Business/Self Employed Division
Transition Employees
(Reference No. 2001-30-054)
The Office of Audit determined that management of the new SB/SE Division generally took effective steps to ensure transition employees were placed in temporary assignments after the stand up of the division. However, information provided to transition employees regarding their temporary assignments was sometimes incomplete. In addition, a long-term coordinated strategy is needed for placing the remaining transition employees in permanent positions.
IRS records indicate that, of the over 800 transition employees located in the SB/SE Division at stand-up, there were 394 transition employees still remaining as of February 10, 2001. Approximately 28 percent of these 394 employees are IRS analysts (job series 343), and 38 percent of the remaining employees are grade 13 or higher. Based upon the current transition process, it could be several months or even years before all transition employees have resigned, retired, or been placed in permanent positions.
This report was issued for information use only and did not require a management response.
Providing Security Over Information Systems
Employees’ Extensive Personal Use of the Internet Should Be Controlled (Reference No. 2001-20-016)
Use of the Internet offers tremendous research capabilities to IRS employees. About 16,000 IRS employees currently use the Internet, and use could expand to the remaining 97,800 employees. One risk associated with providing Internet access is that employees may browse web sites for personal reasons. Treasury guidelines require employees to use the Internet for official duties only.
The Office of Audit reported that over half of the time spent on the Internet by IRS employees was for personal reasons. The following chart presents the percentage breakdown of the types of non-business web sites accessed by IRS employees.
The Non-Business Miscellaneous category consists of accesses to all other web sites that appeared to be for non-business purposes, including sports, sexually explicit, and gambling sites.
While Internet accesses to sexually explicit web sites were relatively low (0.4 percent) in the seven-day sample, they are significant because the web site contents may be offensive and could foster a hostile work environment. The Office of Audit referred the most egregious instances of misuse to TIGTA’s Office of Investigations. These referrals were evaluated for potential legal violations. The IRS also lost productivity and its telecommunications lines were impacted.
The Office of Audit recommended that IRS management use software to block the use of inappropriate sites and begin monitoring the use of the Internet.
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IRS management generally agreed with the findings. IRS management agreed to focus on using commercially available blocking software, educating employees and managers on employee productivity issues, and performing random checks on usage. However, IRS management’s response was incomplete because it did not identify the specific corrective actions to be taken, the responsible officials, and the implementation dates. The Office of Audit is continuing to follow up to obtain this information.
Processing Returns and Implementing Tax Law Changes
Letter Report: More Small
Corporate
Taxpayers Can Benefit from the
Alternative Minimum Tax Exemption
Provision
(Reference No. 2001-30-019)
The
Taxpayer Relief Act of 19978 provided
an exemption from the alternative minimum
tax for qualified small business corporations
for tax years beginning after
December 31, 1997. Once a corporation
qualifies as a small corporation, it will not be
liable for the alternative minimum tax so long
as it remains a small corporation.
The
Office of Audit identified over 2,000
businesses that paid the alternative minimum
tax as part of their calendar year 1998 taxes,
yet appeared to meet the gross receipts criteria
to qualify as small corporations. In a
statistical sample of these businesses,
93 percent qualified for the exemption but had
self-assessed an average of $11,638 in
alternative minimum tax. The Office of Audit
estimated that these corporations paid over
$25 million in alternative minimum tax that
the Act specifically exempted.
The
Office of Audit concluded that many
taxpayers and their tax professionals may
have overlooked their qualification for the
8 Pub. L. No. 105-34, 111 Stat. 788
small corporation exemption from the alternative minimum tax. Without significant manual effort, the IRS could not identify these errors. As a result, these taxpayers were not informed of their errors and, accordingly, are likely to repeat them.
The Office of Audit recommended that the IRS publicize the alternative minimum tax exemption by issuing a public announcement to taxpayers and by enhancing taxpayer education materials.
By the beginning of the 2001 filing season, the IRS agreed to incorporate the alternative minimum tax issue into various outreach programs, workshops, and practitioner institutes. The IRS also plans to design a strategy to identify the taxpayers affected by this issue and determine corrective actions for these taxpayers. Finally, the IRS plans to explore ways to enhance taxpayer instructions in publications and on tax forms to emphasize the alternative minimum tax exemption for qualifying small corporations.
The Internal Revenue Service
Had a
Successful 2000 Filing Season;
However, Opportunities Exist to More
Effectively Implement Tax Law
Changes
(Reference No. 2001-40-041)
The IRS effectively processed individual paper tax returns filed during the 2000 filing season. As of April 28, 2000, the IRS had processed over 54 million paper individual tax returns. Although there were some isolated problems, opportunities do exist for the IRS to more effectively implement three tax law changes that were in effect during the 2000 filing season. These laws related to the Child Tax Credit (CTC), the Additional Child Tax Credit (ACTC), and to S-SSNs.
The IRS postponed programming changes designed to validate the date of birth related to the CTC and the ACTC. As a result, it did not identify potentially unqualified or erroneous CTC and ACTC claims. The
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Office of Audit identified over 750,000 1998 and 1999 tax returns with over $339 million of potentially unqualified CTCs that could not be supported by IRS date of birth information. The Office of Audit also identified 33,000 tax returns that had over $12 million in potentially unqualified ACTC claims.
The IRS Assistant Chief Counsel (Income Tax and Accounting) concluded in 1999 that the IRS may not recover through assessment an erroneous ACTC refund due to legal limitations. However, collection actions can be initiated on the potentially erroneous refunds resulting from the unqualified CTC claims.
In addition, during the 2000 filing season, the IRS modified its computer programming designed to verify S-SSNs. This action was taken due to storage limitations on the computer systems it uses to correct errors on tax returns. As a result, the IRS could not ensure that taxpayers were compliant with these tax laws. According to the IRS’ own estimates, approximately 2.7 to 3 million taxpayers have invalid S-SSNs.
The Office of Audit recommended that the IRS should implement computer programming changes to ensure that taxpayers comply with tax laws relating to the CTC, the ACTC, and S-SSNs and initiate actions to recover the potential lost revenue due to the postponed programming for these issues. The IRS should also ensure that its computer system has the capacity to correctly process tax returns and should send notices to taxpayers with invalid S-SSNs in sufficient time to allow for corrections.
IRS management agreed with three of the five recommendations. IRS management believes that the current capacity of the computer system used to store errors found on returns is sufficient. They also stated that additional legal guidance would be needed to attempt recovery of the CTC mentioned in the report, and that the collection costs would likely exceed the amount of overpayments.
The Office of Audit plans to address the issue of system capacity during the audit of the FY 2001 filing season. The Office of Audit continues to encourage the IRS to focus on recovering the refunds resulting from the unqualified CTC claims.
Electronic Returns Were
Processed
Effectively
(Reference No. 2001-40-008)
E-filed returns improve service for taxpayers and boost production by reducing errors, speeding refunds, and reducing labor costs. As of June 15, 2000, the IRS had processed 35.2 million individual electronic returns, 105 percent of the 33.6 million projected for the 2000 filing season.
Overall, the IRS’ system for accepting and processing individual electronic returns was effective. For example, the controls for ensuring that individual electronic returns are accepted only from Authorized IRS E-file Providers were working properly, and the IRS properly notified unauthorized E-file Providers when their transmissions were rejected. While some problems occurred early in the filing season, they were quickly identified and corrected. In addition, the IRS effectively implemented the enhancements added to the individual E-file Program for the 2000 filing season.
The Office of Audit identified an opportunity for the IRS to improve the service it provides to Authorized Providers through its Help Desk. The Office of Audit reviewed the Help Desk operations at three of the five processing sites. One site servicing over 37,000 Authorized Providers delivered ineffective customer service.
When Authorized Providers do not receive timely help in resolving their processing problems, the IRS is at risk of damaging relations with, and increasing the burden on both the Authorized Providers and the taxpayers they represent. In addition, the Providers may have to make additional
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contacts with the IRS to resolve inquiries, and may ultimately call another processing site’s Help Desk, causing workload imbalances among the processing sites.
The auditors recommended the IRS carry out its plans to develop and implement National Headquarters standards and guidance to correct the operational weaknesses identified.
IRS management acknowledged the need to improve the customer service provided to Authorized IRS E-file Providers and identified several steps to address this need.
Providing Customer Service and Ensuring Tax Compliance
Progress in Developing the
Customer
Communications Project Has Been
Made, But Risks to Timely Deployment
in 2001 Still Exist
(Reference No. 2001-20-055)
The Customer Communications Project (CCP) is intended to increase telephone and communication service levels to taxpayers comparable to those of similar customer service operations in the private sector.
While the IRS has demonstrated progress in developing project management capabilities, it acknowledged that it would not be able to provide taxpayers all of the enhancements and benefits that it originally proposed for the 2001 filing season. For example, the telephone and Internet self-service applications were postponed until 2002, and the remaining capabilities were rescheduled for deployment during the latter part of the 2001 filing season.
The Office of Audit reported that the CCP fell behind schedule, in part, because some key Enterprise Life Cycle (ELC) work products were not timely completed and identified barriers to project deployment had not yet been overcome. Delays in delivering CCP benefits will hamper the IRS’ expectations of answering an additional 9.6 million taxpayer calls in 2001, and postpones plans to free up telephone assistors for other work.
The Office of Audit recommended that project managers timely complete all ELC recommended work products and not allow projects to exit ELC milestone requirements when significant work products are incomplete. Further, project managers need to develop and communicate realistic project schedules, timely incorporate necessary security considerations, and ensure that risk tracking and reporting are timely, complete and accurate.
IRS management agreed with some of the recommendations and has either taken or initiated corrective actions for these recommendations. However, they did not agree that all critical work products be completed before moving to the next ELC milestone. The Office of Audit believes that failure to do so increases the risk of unexpected project glitches, delays, and cost overruns. Since the IRS is in the early stages of its systems modernization effort, the Office of Audit believes it is important to completely follow the ELC methodology in order to apply lessons learned to other projects. As the IRS matures, more flexible program management can and should be considered.
The Internal Revenue Service
Does Not
Effectively Use the Trust Fund
Recovery Penalty as a Collection
Enforcement Tool
(Reference No. 2001-30-014)
The Trust Fund Recovery Penalty (TFRP) is an IRS enforcement tool established both to encourage the prompt payment of taxes that employers withhold or otherwise collect, and to provide the IRS with a secondary source of collection in the event these taxes are not paid. When assessments are not made timely against responsible company officers, the financial ability of the officers could deteriorate, thereby decreasing the IRS’ chances to collect taxes due.
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Based on a sample review of 82 trust fund cases, the Office of Audit reported that the Collection Field function (CFf) did not properly use the TFRP to enforce collection of trust fund taxes and, when utilized, it was used ineffectively, incorrectly or too late in the collection process.
In 58 instances, the CFf did not properly complete the investigative process or assess the penalty when appropriate. In 17 other cases, the CFf assessed the penalty but did not make the decision within the required time frame.
The CFf also accepted installment agreements on repeater taxpayers and delayed the TFRP process. A “repeater” is defined as a taxpayer who owes taxes for multiple periods, over a specified amount. IRS guidelines state that installment agreements are not to be granted to a “repeater” except under the most stringent conditions.
Finally, the CFf did not always assess the TFRP against all responsible company officers. All individuals identified as responsible officers are to be assessed the TFRP, when it is applicable. The CFf did not always consider unfiled returns when determining whether to assess the TFRP. The TFRP is to be assessed when the total amount of tax liability exceeds a specific dollar amount. Part of the CFf’s compliance check is to secure delinquent returns or prepare substitutes when originals are not filed.
The Office of Audit recommended that management reassess the time frames for making the TFRP decision and provide clear instructions on using the TFRP and installment agreement procedures on repeater trust fund cases. Use of the TFRP as an effective collection tool needs to be emphasized at all management levels, and management reviews need to be conducted on these priority cases.
IRS management agreed to implement all audit recommendations.
More Consideration Is Needed
During
Examinations to Identify Potential
Fraud Issues and Refer Cases to
Criminal Investigation
(Reference No. 2001-30-063)
When Examination function employees identify potential fraudulent issues, such as significant amounts of unreported income, they are to refer the cases to the Criminal Investigation (CI) Office to determine whether taxpayers criminally violated federal tax laws. Over the past few years, IRS executives have attempted to identify ways to increase the number of quality fraud referrals. Despite these efforts, the number of investigations has declined from a high of 1,223 in FY 1996 to only 256 in FY 2000, as shown in the following chart:
Source: Criminal Investigation
Examination function managers and employees were not always recognizing and developing potential fraud issues and, therefore, were not referring cases to CI when appropriate. The Office of Audit’s review of 100 closed Examination cases identified 11 cases that met the criteria for a criminal fraud referral; however, they were not referred to CI. In addition, in 82 of the 100 cases, the examiners did not document in the case file, as required, whether potential fraud was recognized and considered. The majority of these cases involved understated income.
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Semiannual Report to the Congress
Finally, required management involvement in the cases related to documenting whether fraud was considered was not sufficient in 64 of the 80 cases in which the return had understated income over $10,000.
Based on the sample results, the Office of Audit estimated that 381 additional cases nationwide may have had potential fraud issues for referral to CI during the 16-month sample period. Also, the Office of Audit estimated approximately $21.8 million additional revenue from civil fraud could have been assessed during the sample period.
Examination employees gave three overall reasons for not making referrals: RRA 98 has made employees reluctant to refer cases; CI rejects a high percentage of cases referred; and, they are no longer working the types of cases that yield referrals.
The Office of Audit recommended that IRS management enhance the processes that identify open cases with potential fraud issues through various methods including, for example, requiring certain cases be discussed with fraud specialists. IRS management should also adjust the mix of cases being examined to include more returns that have historically yielded fraud potential. In addition, IRS management should show front-line employees their commitment to the fraud referral program by regularly emphasizing its priority and setting clearer guidelines on what constitutes a successful fraud referral.
SB/SE Division management agreed with the findings and recommendations and is initiating corrective actions. However, they did not concur fully with the financial accomplishment discussed in the report.
Providing Quality Customer Service Operations
Management Advisory Report: Strategic Planning for Toll-Free Telephone Operations Has Made Significant Progress, But Further Improvements Are Needed (Reference No. 2001-30-006)
The toll-free telephone system is a cornerstone of IRS’ customer service operations. During FY 1999, taxpayers attempted nearly 108 million calls to the IRS’ three main toll-free telephone lines. The GPRA requires all federal agencies to prepare strategic plans for how they will deliver high quality products and services to the American public.
Past efforts by IRS management to strategically plan and implement improvements to the toll-free telephone operations, while extensive, have not resulted in the delivery of a high level of quality service to taxpayers. Although the level of service provided to taxpayers on the three main toll-free lines increased from 50 percent in FY 1999 to 59 percent in FY 2000 (through July 1, 2000), it remained well below the 68 percent level achieved in FY 1998.
The IRS is in the process of implementing an agency-wide strategic planning process that provides a more structured approach than its prior planning efforts. The effectiveness of this process can be enhanced by implementing a “customer-driven” planning system to better understand customer needs and by developing a monitoring system that enables management to respond more quickly to problems.
IRS management agreed with the facts and recommendations. However, their response did not provide specific details on planned corrective actions.
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Protecting Revenue and Minimizing Tax Filing Fraud
The Program for Ensuring Compliance With Anti-Money Laundering Reporting Requirements Should Be Improved (Reference No. 2001-40-024)
Since 1970, the Treasury Department has delegated to the IRS Commissioner the responsibility for assuring that businesses which routinely exchange or handle money, but are not banks, comply with Title 31 of the
Bank Secrecy Act (BSA)9. This section requires that certain financial institutions keep records of, and provide reports to the government, about large dollar and suspicious financial transactions.
A 1997 study by Coopers & Lybrand LLP estimated there were about 158,000 of these non-banks, such as money remitters and check cashers, handling financial transactions totaling $200 billion annually. The IRS’ Examination function is responsible for assuring that these non-banks comply with the BSA financial transaction reporting and record-keeping requirements, as part of the Examination Anti-Money Laundering (AML) Program.
The Office of Audit reported that the IRS needs to improve its program for ensuring compliance with AML reporting requirements and to improve controls over the program to reasonably ensure objectives are achieved. Without changes there is a significant risk of undetected noncompliance and increasingly inconsistent program delivery nationwide. There is also increased risk of not being able to evaluate the success of the program as provided by GPRA. In addition, the absence of effective controls makes it difficult for the IRS to identify and correct program weaknesses or deficiencies.
The Office of Audit recommended that the IRS: 1) establish oversight responsibility for
9 Pub. L. No. 91-508, 31 U.S.C. Chapter 53
the AML Program in the new IRS business units and strengthen that oversight capability;
2) develop and deliver an educational/ information package to a much larger number of covered businesses; 3) improve field manager accountability for AML Program objectives; 4) establish measurable performance indicators; 5) improve the tracking of results; 6)ensure more full-time employees are assigned in local offices: and,
7) ensure AML Program examiners nationwide receive sufficient training. The Treasury Department’s Financial Crimes Enforcement Network (FinCEN) managers advised us that they are already in the process of working with the IRS to strengthen the program.
IRS management agreed with the audit recommendations and has initiated corrective action.
Improvements Are Needed in the Earned Income Credit Recertification Program (Reference No. 2001-40-030)
Historically, the EIC has been subject to abuse by taxpayers claiming credits they are not entitled to receive. As a result, Congress passed legislation in 1997 requiring taxpayers whose EIC was denied during audits to prove their eligibility for the credit before they can receive the EIC again. In response to this legislation, the IRS implemented the EIC Recertification Program in January 1999.
The EIC Recertification Program should reduce the amount of incorrect EIC allowed by the IRS. The Office of Audit estimates that, as of September 30, 1999, the IRS properly placed recertification indicators on 336,000 taxpayer accounts while denying, during audits, an estimated $620 million in EIC claims.
The Office of Audit identified the following conditions that adversely affected the IRS’ ability to safeguard revenue and ensure taxpayer rights with the least amount of burden to taxpayers: recertification indicators
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were not always removed accurately; some suspended refunds were not released timely; recertification audits were not always timely processed; not all recertification determinations were accurate; and, taxpayer correspondence could be improved.
The Office of Audit recommended that IRS management should ensure that employees process recertification cases accurately and timely. In addition, IRS management should ensure its quality review process accurately assesses the Program’s performance and should consider modifying the Program to ensure that taxpayers are recertified for the reasons for which their EIC was originally denied.
IRS management agreed with 10 of 12 recommendations. It did not agree with the recommendation to improve its quality review process, and IRS Counsel will address the recommendation to increase revenue protection in a separate report.
Duplicate Dependent and Qualifying Child Overclaims Result in Substantial Losses of Tax Revenue Each Year (Reference No. 2001-40-059)
Each year the IRS identifies an average of 1.6 million taxpayers who incorrectly claim dependents that are also claimed on someone else’s tax return (commonly called “duplicate dependent overclaims”). Approximately $700 million in tax revenue is lost each year due to these overclaims. However, the IRS does not identify these duplicate dependent overclaims until several months after the erroneous refunds are issued.
For Tax Years 1995 through 1998, taxes owed were reduced and erroneous refunds were processed totaling approximately $2.8 billion relating to 4.4 million overclaims. The IRS has attempted to recover (through correspondence examinations and voluntary amended tax return filings) only $630 million (23 percent) of the tax benefits erroneously provided to individuals. The funds actually recovered, though, fall significantly short of the $630 million because the vast majority of attempts to recover overclaims come several months after the taxpayers have received the related tax benefits. Many of the assessments, including most associated with the EIC, may never be recovered. Conversely, the current process causes some entitled taxp