In July 1998, Congress passed the Internal Revenue Service Restructuring and Reform Act of 1998 (RRA 98), which created ...

Message from the IG

This year we are proud to join in the observance of the� 25^th anniversary of the Inspector General (IG) Act.� We will describe

the evolution of the Treasury Inspector General for Tax Administration (TIGTA), one of the newer IGs established in 1999, and our continued contribution to the IG community and the public-at-large (see page 5).

In looking over the past six months, we have continued to operate successfully during a period of transition and critical developments.� We began 2003 by welcoming a new Secretary of the Treasury, John W. Snow.� Additionally, the divestiture of a significant portion of Treasury resources to the Department of Homeland Security has had a major impact throughout the Department.

We are eagerly anticipating working with a new Commissioner of Internal Revenue, as well as a new Internal Revenue Service (IRS) executive leadership team.� During IRS� transition period, it is vital for TIGTA�s work to provide useful, balanced information to decision-makers. We are doing this by supporting IRS in achieving its strategic goals, identifying and addressing IRS� material weaknesses, and by ferreting out and neutralizing threats posed to tax administration by corruption, fraud, and terrorism. Our accomplishments during this reporting period helped improve tax administration and subsequently aided taxpayers nationwide.� With the issuance of 89 audit reports, we identified more than $43 million in cost savings, and an additional $12.8 million in increased revenue or revenue protected. Our audits assessed such IRS operational and programmatic issues as business systems modernization, tax compliance initiatives, computer and physical security, performance and financial management, customer service, returns processing, and the filing season.

To combat fraud, waste and abuse, our investigative work centered on IRS employee integrity, IRS employee and infrastructure security, and external attempts to corrupt federal tax administration.� During this reporting period, we received 3,997 complaints of alleged criminal wrongdoing or administrative misconduct. We opened 2,487 investigations and closed 2,489. Additionally, Counsel reviewed 85 proposed regulations and legislative requests.� Highlights of our work are included in this Semiannual Report to Congress.

As we approach the second half of the fiscal year, we look forward to working with the new Treasury and IRS executives and with Congress to establish a productive relationship that benefits the public through improved tax administration.

Sincerely,

Pamela J. Gardiner March 31, 2003

Table of Contents

�Page

Message from the IG ................................................................ 1

25^th Anniversary of the IG Act................................................. 5

TIGTA�s Organizational Structure............................................ 8

TIGTA Strategic Goal: Improving the Economy,��
Efficiency and Effectiveness of Tax Administration .............� 11

�IRS Systems Modernization .................................................� 12

�Tax Compliance Initiatives ..................................................� 13

�IRS Security .......................................................................� 14

�Integrating Performance and Financial Management ............� 16

�Customer Service, Returns Processing and the Filing�
Season ............................................................................ 18

�Taxpayer Protection and Rights ...........................................� 21

TIGTA Strategic Goal: Detecting and Deterring Fraud in� IRS Programs and Operations .............................................. 25

�IRS Employee Integrity .......................................................� 26

�IRS Employee and Infrastructure Security ............................� 27

�External Ate
tmpts to Corrupt Tax Administration ..................� 30

Congressional Testimony ......................................................� 32

Kudos...................................................................................... 32

Appendices Appendix I� Audit Statistical Reports

t
Audit Repors With Questioned Costs ...................................� 33

�tRepors With Recommendations That Funds BePut to
t
� Beter Use ....................................................................... 34

�tRepors With Additional Quantifiable Impact on Tax
� Administration ..................................................................� 35

�t
Prior Period Repors ..........................................................� 37

�t
Financial Accomplishments .................................................. 39

�Status of Closed Criminal Investigations ..............................� 40

�Criminal Dispositions ..........................................................� 40

�Administrative Disposition on ClosedTIGTA
Investigations ..................................................................� 41

�Complaints/Allegations Received by TIGTA ..........................� 42

�I
Status of Complaints/Allegations Received by TGTA ............� 42

�Allegations of Misconduct Against IRS Employees .................� 43

Appendix III� Statistical Reports � Others

tAudit Repors With Significant Unimplemented Corrective�
Actions ............................................................................ 47

�Statistical Reports - Others .................................................� 58

Appendix IV Audit Products
� (October 1, 2002 � March 31, 2003)� ....................................� 59

Appendix V Statutory TIGTA Reporting Requirements ................. 67

Appendix VI Section 1203 Standards .........................................� 73

Hotline Information ...............................................................� 75

Page

Appendix II Investigations Statistical Reports

Invesigations Opened and Closed....................................... 39

25^thAnniversary of theIG Act

his marks the 25^th year of the IG Act,¹which was enacted on� October 12, 1978.� Today, it remains the cornerstone for

centralized, independent audits and investigations that foster accountability and integrity in government programs and operations. Currently, there are 57 statutory IGs who view themselves as �agents of positive change,� providing a significant, positive force in the federal government for improving economy, efficiency, and effectiveness; strengthening accountability and transparency; and detecting and deterring fraud, waste, and abuse.�

IRS� Office of Chief Inspector (also known as the Inspection Service) was created in October 1951 in response to reports of widespread corruption in IRS.� The Chief Inspector reported directly to the Commissioner and Deputy Commissioner and derived specific and general authority by delegation from them.

In 1998, after comprehensive consideration of the operations and

organization of the IRS, Congress ordered sweeping changes. As part of its IRS reorganization, Congress concluded that the Inspection Service lacked sufficient structural and actual autonomy to provide the needed oversight to IRS. Further, the relationship between the Treasury IG and the IRS� Office of Chief Inspector did not foster appropriate IRS oversight.

Congress decided to establish an independent IG within the Department of Treasury.� Its primary focus and responsibility would be to audit, investigate, and evaluate IRS programs to improve the quality and credibility of IRS oversight.� As a result, the Internal Revenue Service

¹ Inspector General Act of 1978, 5 U.S.C.A. app. 3 (West Supp.2003).

25^thAnniversary of the IG Act

Page 5

Restructuring and Reform Act of 1998 (RRA 98) ²created TIGTA, and it became an operational IG in 1999.

Early on, TIGTA concentrated on becoming compliant with numerous laws and IG regulations and assuring that it operated in a manner compatible and conforming with Treasury policies.� Simultaneously, TIGTA addressed the need to significantly increase productivity levels.� TIGTA immediately abolished the regional structure of its predecessor organization, which eliminated an unnecessary and remote layer of management.� TIGTA organized the Office of Investigations into direct report field offices and the Office of Audit reorganized into specialized issue areas that parallel IRS� business unit structure.� TIGTA was able to provide internal support services more efficiently and eliminated two layers of management through its streamlining efforts.� TIGTA also identified ways in which audits and investigations could be completed faster and more efficiently.

Ahead of the curve, TIGTA integrated its budget and performance functions before this became one of the top issues of the President�s Management Agenda.³ TIGTA fully embraced the idea of telecommuting by instituting a program, entitled the Virtual Resource Solution.� Currently, 98% of TIGTA employees are eligible to telecommute and, of these, 37% actually do so two or more days per week.

� �� FINANCIAL ACCOMPLISHMENTS �TIGTA has significantly increased its productivity levels despite having reduced historic full-time equivalent (FTE) staffing.� For FY 2002, TIGTA had financial accomplishments resulting from proposed cost savings and increased revenue/revenue protected of $800.5 million.� TIGTA continues to be a good investment for the American public. For FY 2002, we returned $6 for every budget dollar invested in TIGTA.� For every FTE, we returned $862,000.�

� �� PCIE SUPPORT Between 1999 and 2003, TIGTA managed the Inspector General Training Academy, which was partially staffed by TIGTA personnel.� Additionally, TIGTA�s Inspector General served as editor-in-chief of the President�s Council on Integrity and Efficiency (PCIE) Journal of Public Inquiry from 1999 through 2002.

² Internal Revenue Service Restructuring and Reform Act of 1998 (RRA 98) Pub. L.105-206, 112 Stat. 685. (codified as amended in scattered sections of 2 U.S.C., 5 U.S.C., 5 No. app., 16 U.S.C., 19 U.S.C., 22 U.S.C., 23 U.S.C., 26 U.S.C., 31 U.S.C., 38 U.S.C., and 49 U.S.C.)

Page 6

� �� COUNTER-TERRORISM VIGILANCE After the terrorist attacks of September 11, 2001, TIGTA faced great challenges in combating terrorism targeted at the IRS.� In response to heightened security concerns and TIGTA�s responsibility for investigating threats against the IRS and its employees, TIGTA established a Counter-Terrorism Section (CTS).� The CTS coordinates investigative efforts and is the centralized repository and dissemination point of threat information to the IRS.� The CTS proactively identifies domestic and international threats made to the IRS by participating on nationwide Federal Bureau of Investigation (FBI) Joint Terrorism Task Forces (JTTFs); evaluating information developed by JTTFs and other sources; initiating investigations; and issuing intelligence reports and advisories notifying TIGTA and IRS management of potential threats.

In noting this 25^th anniversary, TIGTA continues to support the IG community and serve the American public by successfully carrying out the intent and statutory requirements of the IG Act.

Page 7

TIGTA�s Organizational Structure

TA provides independent oversight of IRS activities, the IRS

Oversight Board, and the IRS Office of Chief Counsel.� TIGTA is

organizationally placed within the Department of Treasury, but it 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 primary organizational functions are the Office of Audit (OA) and the Office of Investigations (OI).� TIGTA�s Offices of Chief Counsel, Information Technology, and Management Services support OA�s and OI�s efforts.��

TIGTA is structured to conduct audits and investigations designed to:

� �� Promote economy, efficiency, and effectiveness in administering the nation�s tax system.

� �� Detect and deter waste, fraud and abuse in IRS programs and operations.

� �� Protect IRS against external attempts to corrupt or threaten its employees.

AUTHORITIES�� TIGTA has all the authorities granted under the Inspector General Act of 1978, as amended. TIGTA also has access to tax information in the performance of its tax administration responsibilities and has the obligation to report potential criminal violations directly to the Department of Justice.� The IG and the Commissioner of Internal Revenue have established policies and procedures delineating responsibilities to investigate potential criminal offenses under the internal revenue laws.

In addition, 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.)�7608(b)(2).� These provisions include law enforcement authority to execute and serve search warrants, serve subpoenas, and make arrests.

The following two report sections highlight TIGTA�s significant audit and investigative activities for this semiannual period.

Page 10

TIGTA Strategic Goal:

Improving the Economy, Efficiency
and Effectiveness of Tax
Administration

�IGTA provides an independent oversight function to IRS, which collects more than $2.1 trillion annually to fund the nation�s

government. TIGTA ensures that it meets the strategic goal of improving the economy, efficiency and effectiveness of tax administration by focusing resources on fundamental goals related to IRS� programs. Emphasis is also placed on statutory coverage imposed by RRA 98, as well as areas of concern to the Commissioner of Internal Revenue.

Each year, TIGTA identifies the major management challenges facing IRS. The MAJOR MANAGEMENT CHALLENGES in FY 2003, in order of priority, are:

This section highlights the significant contributions TIGTA has made to IRS programs and operations through its audits in seven of the ten major management challenge areas.

Dramatic improvements in service to taxpayers are heavily dependent on modernizing IRS� core computer systems, which has been an ongoing challenge. IRS� major modernization projects continue to experience delays, cost increases, management difficulties, and reductions in deliverables.��

BUSINESS SYSTEMS Beginning in 2001, the Business Systems Modernization (BSM) program MODERNIZATION: has been deploying projects and learning valuable lessons that should COSTS, SCHEDULES, help improve future projects. Deployed projects have increased the AND FUNCTIONALITY capacity of IRS� telephone system; improved the ability to receive, route,

and respond to taxpayer telephone calls; and provided refund information via the Internet. However, as reported in previous TIGTA and General Accounting Office reports, the BSM program has experienced difficulties meeting the original cost, schedule, and functionality estimates included in the BSM Spending Plans submitted to Congress.

So far, the eight BSM projects that are currently being developed and deployed have experienced cost increases of 26% and delays averaging 13 months over initial estimates, most occurring during the planning and design phases of these projects.� The BSM Office forecasts that future project costs and schedules will be much closer to the estimates.� Since the purpose of this review was to identify and analyze the cost, schedule, and functionality performance compared to the original project estimates, TIGTA made an assessment but did not make any recommendations.� IRS management agreed with TIGTA�s assessment.�� Report Reference No. 2003-20-007

CUSTOMER ACCOUNT The Customer Account Data Engine (CADE) will replace IRS� current DATA ENGINE � THE Master File of taxpayer accounts, and is the foundation for managing MASTER FILE these accounts in IRS� modernization plan.� The individual tax accounts REPLACEMENT portion of the CADE will be deployed in five segments (releases) over

several years.

The following report presents the results of TIGTA�s review of Release 1. IRS and its contractor have made progress in delivering the CADE project by building a substantial portion of Release 1 and creating a comprehensive foundation for all five releases. However, the development of the CADE project by the contractor has experienced significant delays, with the Release 1 deployment date now estimated to be June 2003 (about 18 months behind its planned delivery date). The development has also experienced cost increases, with the original estimate for Release 1of approximately $51.9 million being revised� six months later to $64.6 million.� IRS had actually spent $54.5 million on� Release 1 through September 2002. Project delays can be attributed to difficulties in identifying and managing the project requirements,�

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 12

specifically in developing the balancing, control, and reconciliation process; comprehensive documentation for the CADE Computer Operations Handbook; and computer system naming standards.

To help meet the Release 1 deployment expectations, TIGTA recommended IRS� BSM Office work with the contractor to ensure that the business system design is completed, and establish a detailed schedule of the remaining work.� IRS management agreed with the recommendations and is taking corrective action.�� Report Reference No. 2003-20-089

TAX COMPLIANCE INITIATIVES

IRS� goal of providing world-class service to taxpayers hinges on the theory that if IRS provides the right mix of education, support, and up-front problem solving to taxpayers, the overall rate of voluntary compliance with the tax laws will increase.� The challenge to IRS management is to establish a tax compliance program (examining tax returns and collecting tax liabilities) that identifies those citizens who do not meet their tax obligations - either by not paying the correct amount of tax or not filing proper tax returns - and that effectively brings them into compliance.� As part of its 2000 reorganization, IRS has begun to revamp its business processes to stabilize the traditional compliance activities.

LEGAL ADVICE IRS� Large and Mid-Size Business (LMSB) Division has been working to PROVIDED TO improve the timeliness of providing legal advice in LMSB Division EXAMINERS examinations. It has made positive organizational changes and

implemented new initiatives that show promise in reducing the length of LMSB Division examinations.� However, the length of time it takes to provide legal advice to examiners is substantial because of issues in both the requesting and delivering of legal services.� This may hamper the Division�s ability to meet its FY 2003 goal for timely completing examinations.

TIGTA recommended that IRS attorneys be required to assist in the risk analysis process to better ensure the need for legal advice is identified and requested earlier in examinations.� In addition, management should ensure that the data in the Office of Chief Counsel�s management information system is complete so delays and other problems in the delivery of legal advice can be quickly identified and addressed.� IRS management agreed with the recommendations and is taking corrective action.�� Report Reference No. 2003-30-021

CONTRACTING OUT COLLECTION ACTIVITY

COMPUTER SECURITY

PHYSICAL SECURITY

TIGTA reviewed IRS� plan to contract out some collection activity to private contractors. IRS� preliminary planning related to the use of Collection Contract Support (CCS) companies was extensive and included a detailed evaluation of similar existing programs at other federal and state government entities. IRS also prepared a draft Request for Quotation (RFQ) for the CCS initiative, which it planned to issue during the second quarter of FY 2003.

Although IRS� preliminary planning efforts have been good, overall effectiveness could be enhanced by providing greater specificity in the draft RFQ regarding the management information IRS will require from contractors, such as weekly telephone reports; providing more detailed requirements in the draft RFQ regarding the protection of taxpayer rights; and reexamining IRS� preliminary projections regarding the volume of cases to be initially released to CCS companies. IRS management agreed to the recommendations and has implemented corrective actions. Report Reference No. 2003-30-075

IRS SECURITY

The terrorist attacks on September 11, 2001 and the subsequent anthrax incident highlighted vulnerabilities in many businesses and government agencies.� Like other organizations, IRS must remain vigilant to all opportunities to enhance employee safety and the security of its information systems and taxpayer data.

IRS is responsible for maintaining the privacy of tax information for about 130 million taxpayers.� To enhance security, TIGTA believes it is critical that IRS understand the techniques used by those who could benefit from unlawfully accessing taxpayer information.� Consequently, TIGTA asked a contractor to test the security access to IRS� systems, by attempting to �hack� into IRS systems both from the Internet and when given internal access.� The contractor found no security vulnerabilities that could be exploited at the Internet gateways; but, when the contractor had access to the internal computers, it found numerous security weaknesses that needed corrections.� Recommendations were made to correct the specific weaknesses identified with which IRS management agreed.� Report Reference No. 2003-20-082

IRS requires both its employees and its contractors to have background investigations to ensure their honesty and integrity.� A TIGTA audit showed that IRS had assured that 93% of the employee background investigations and 96% of the re-investigations were completed or in-process at the time of TIGTA�s review.

However, contractor employee background investigations were not properly controlled, and not all background investigations were requested when required. Similarly, identification badges were issued without required background investigation documentation, allowing more than 500 contractor employees to have access to IRS� New Carrollton, Maryland building without background checks.�

TIGTA recommended that follow-up actions should be taken to initiate or complete background investigations on the employees without current, completed investigations; management reports should be properly used to monitor timely completion of future background investigations; database information should be complete and accurate; and a consolidated or integrated computer system that meets the needs of all stakeholders should be implemented.� IRS management agreed with the recommendations presented in this report and is planning corrective actions. �Report Reference No. 2003-20-049

In other physical security work, TIGTA auditors and investigators reviewed IRS� Guard Service Contract as a joint initiative because of heightened security concerns after the events of September 11, 2001.� Validations completed through October 2002 did not identify any issues related to the current employment of security guards with criminal convictions or immigration violations, but TIGTA is continuing to perform additional verifications and follow-up with the appropriate government agencies.

However, increased oversight is needed to ensure the contractor�s compliance with all contract terms and conditions, particularly those concerning licensing.� The contractor operated for periods of time in� two Washington, D.C. metropolitan area offices without all company and individual security guard licensing and certifications required by the contract and by law. IRS paid approximately $4.7 million during the time the contractor was in violation of the contract. Also, security guards at one location were in effect carrying weapons without legal authority to do so. TIGTA auditors recommended that additional monitoring should be performed to ensure the contractor complies with all contract terms and conditions; and, all remedies regarding appropriate legal action should be coordinated with the United States Attorney�s Office and with TIGTA�s investigative function.� In addition, TIGTA recommended changes should be considered to the award fee plan to make compliance with all contract terms and conditions a prerequisite for award fee eligibility.� IRS management agreed with the recommendations and is taking corrective actions. �Report Reference No. 2003-10-076

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 15

Improving government performance is an overall goal of the current Administration.� In particular, a clean financial audit is a basic prescription for any well-managed organization.� Without accurate and timely financial information, it is not possible to accomplish the President�s Management Agendato secure the best performance and highest measure of accountability for the American people.�

PERFORMANCE � In May 2002, IRS completed a competitive sourcing feasibility study of

MANAGEMENT � the print operation and computer support function, which recommended an Office of Management and Budget Circular A-76 competition.� As part of the 1997 Service Center Mainframe Consolidation (SCMC) Business Case, IRS standardized the organizational structure of the Information Systems Division, which includes the print operation and computer support function at the IRS� 10 campuses;⁴ standardized mission statements, roles, and responsibilities; and proposed significant staffing reductions.� Since then, management has frequently evaluated and modified the organizational structure to accomplish program objectives.

However, TIGTA recommended further management actions to increase electronic dissemination of internal reports and improve performance measures, which could result in additional cost savings and increased productivity.� IRS management agreed with the recommendations and is taking corrective action. Report Reference No. 2003-20-035

FINANCIAL �� IRS is authorized to collect a federal employer tax to fund the

MANAGEMENT�� Unemployment Trust Fund (UTF). The Secretary of Treasury pays from the UTF the amount estimated to be expended by the Department of the Treasury, including IRS (which accounts for approximately 99% of the expenses), for this collection service. TIGTA�s review of IRS� UTF reporting for FY 1999 through the third quarter of FY 2002 showed that reported administrative expenses could not be supported or replicated, and that required reports were not always properly prepared or timely submitted. As a result, TIGTA was not able to substantiate the reported expenses or make any assurances that they were accurate, complete, or consistent.�

In addition, IRS� recently adopted method of reporting the expenses, based on a ratio of revenue collected, might not be appropriate.��

⁴ IRS� 10 campuses process paper and electronic submissions, correct errors, and forward data to the computing centers for analysis and posting to taxpayer accounts.

IRS applied a complexity adjustment to compensate for the significant increase (from $240 million to over $2.8 billion) in the charges to the� Federal Old Age and Survivors Insurance (FOASI) Trust Fund, and thus brought the reportable FOASI amount back to what had been historically reported.� This complexity adjustment did not have any supporting analysis or an accounting of the true costs to IRS to administer the trust fund taxes. Instead, TIGTA believes that data may exist that could be used to more accurately estimate these expenses.

TIGTA recommended that written procedures be developed to ensure the most reasonable and timely means of identifying and reporting all expenses, and that controls be established to ensure that any amounts are reviewed and approved by a senior level IRS executive.� Also, IRS needs to ensure that the ability to record and report these expenses is properly implemented as envisioned in the Integrated Financial System development plan.� IRS management agreed with the recommendations and is taking corrective action. �Report Reference No. 2003-10-054

FEDERALFINANCIAL The Federal Financial Management Improvemen Act of 1996 (FFMIA)

t⁵MANAGEMENT requires agencies to maintain financial management systems that comply IMPROVEMENTACT substantially with federal requirements. If a determination is made that OF1996 an agency does not comply with these requirements, a remediation plan

should be established with resources, remedies, and intermediate target

dates to bring the agency into substantial compliance.� FFMIA further

mandates that IGs report to Congress instances and reasons when an

agency has not met intermediate target dates.�

TIGTA reviewed IRS� remediation plan and did not identify any instances where the IRS did not meet established target dates.� However, 18 intermediate target dates were extended with acceptable reasons for actions scheduled for completion in Calendar Year (CY) 2002.� The IRS properly obtained Office of Management and Budget concurrence for remedial actions with target dates that extend longer than three years from the initial reporting of the financial weakness.� In addition, the IRS adequately addressed General Accounting Office recommendations meeting FFMIA criteria in the remediation plan.

TIGTA did identify, however, that some resources included in the remediation plan were not verifiable to supporting documentation and that functional areas were not consistently reporting resources shown in the remediation plan.� Accordingly, TIGTA recommended that procedures be established that include a process for verifying the resources included

⁵ Federal Financial Management Improvement Act of 1996, 31 U.S.C. � 3512.

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 17

in the IRS� FFMIA remediation plan and that provide for consistent reporting of such resources by the responsible functions.� IRS management agreed with the recommendation and has taken corrective action. �Report Reference No. 2003-10-079

CUSTOMER SERVICE, RETURNS PROCESSING AND THE FILING SEASON

Providing top quality service to every taxpayer in every transaction is integral to IRS� modernization plans.� There are many ways in which IRS provides customer service. The most direct include walk-in service, toll-free telephone service, access through the IRS� Internet (Digital Daily), written communications to taxpayers, and accurate and timely tax refunds. Each of these services affects a taxpayer�s ability and desire to voluntarily comply with the tax laws.� The tax return filing season also impacts every American taxpayer and is, therefore, always a highly critical program for IRS. In addition to providing customer service to American taxpayers, IRS must coordinate tax law changes, programs, activities, and resources to effectively plan and manage each filing season.

TAXPAYER Throughout the past year, TIGTA has been reviewing the performance of ASSISTANCE the Taxpayer Assistance Centers (TAC) in providing answers to taxpayers� CENTERS questions via walk-in service, based on concerns expressed by

Senator Byron Dorgan (D-North Dakota), then Chairman of the

Subcommittee on Treasury and General Government. While IRS has

made some progress in improving the quality of service at TACs,

additional improvements are needed.� During July through December

2002, auditors asked 332 tax law questions in 83 TACs.� TIGTA reported

that IRS employees incorrectly answered 92 questions (28%) and

referred the auditor to IRS publications to conduct his or her own

research for 40 questions (12%).� TIGTA has not made any

recommendations thus far, but will be issuing a roll-up report that will

include recommendations to help improve the accuracy rate. Also, in

October 2002, IRS began its own internal quality review visits to TACs to

anonymously ask tax law questions.

TIGTA auditors generally had positive experiences when they visited TACs and found that the employees were both professional and courteous, providing service within an hour.� However, TIGTA auditors found in many instances that the TAC office hours and addresses obtained from IRS toll-free telephones and its internet site did not always match the information posted at the TAC.� �Report Reference Numbers 2003-40-023 ; �2003-40-024 ; 2003-40-040 ; and 2003-40-072

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 18 TOLL-FREE TELEPHONE SYSTEM

TAX RELIEF REFUNDS FOR VICTIMS OF TERRORIST ATTACKS

During the 2002 Filing Season,⁶taxpayers called IRS almost 76.5 million times.� While IRS answered 1.6 million more total calls during the� 2002 Filing Season than in the prior year, the additional calls answered were through automated services.� During the 2002 Filing Season, the Customer Service Representatives (CSR) actually handled 1.73 million fewer calls than in the comparable 2001 period, and the number of calls answered by CSRs was 2.6 million less than IRS planned, thereby increasing the average cost per call answered, in salary alone, by� $0.57. This occurred even though IRS received 9 million more calls than in 2001. IRS cited its reallocation of resources to work paper inventory, an increase in transferred calls, and high CSR availability rates as the reasons why the �CSR calls answered� goal was not met.� Finally, IRS� toll-free system is designed to provide callers with automated assistance or, when desired, access to a CSR.� IRS� critical measure for this access is based on the percentage of callers who reach a CSR after selecting that option.� However, the measure omits calls where the taxpayer hung up before choosing to enter the call queue to speak with a CSR or before completing an automated service.

IRS needs to identify methods to reduce the number of transfers by determining whether there are problems in the routing scripts and whether the CSR call specialization approach needs some modification; identify ways to further refine the forecast accuracy by consulting call center industry experts; achieve greater flexibility to move CSRs from applications with low demand to applications with higher demand; and, for the current CSR Level of Service measure, develop criteria to distinguish between those taxpayers who call and hang up because they clearly did not want a service and those who disconnect for other reasons. IRS management generally agreed with the recommendations and has planned or taken corrective actions.�� Report Reference No. 2003-30-001

TIGTA reported that IRS had implemented special procedures to process tax relief refunds for tax returns filed for deceased victims of the� September 11, 2001 anthrax and Oklahoma City terrorist attacks.� The program for processing these returns was referred to as the Killed in Terrorist Action (KITA) Program. IRS expected the processing of these highly sensitive KITA returns to be expedited at all times.

⁶The Filing Season is the period from January through mid-April each year during which most individual income tax returns are filed.

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 19 ELECTRONIC RETURN ORIGINATORS

The KITA Project Office identified approximately 2,900 KITA victims.� As of October 31, 2002, IRS had received approximately 4,500 returns for 2,400 victims to be processed in the KITA program.� Based on information submitted by victims� families, IRS employees correctly computed tax relief amounts for these returns and issued manual refunds to speed relief to victims� families. However, IRS did not issue 40% of the tax relief refunds in TIGTA�s sample within the time period set as a goal by KITA program management, or within a time period that TIGTA would consider to be expedited. Also, IRS did not always notify victims� families of the processing results for their tax relief requests. Based on TIGTA�s concerns about processing delays and its suggestions to both clarify expected processing time periods and notify victims� families of processing results, KITA program management took actions to improve KITA processing during this review.

In addition, IRS did not always identify victims� accounts as KITA accounts on its computer system, and did not always process victims� returns through the KITA program. TIGTA recommended that the KITA project office compare its list of victims to its list of KITA-processed returns and research the accounts with no KITA-processed returns. For the accounts researched, the KITA indicator should be input to those accounts identified as needing it.� In addition, for those accounts researched, any returns filed where tax relief was not granted should be corrected. IRS management agreed with the recommendations and is taking corrective action. Report Reference No. 2003-40-080

Congress has mandated that IRS significantly increase the number of taxpayers who file their returns electronically, with a goal of having at least 80% of all such returns filed electronically by CY 2007.� At present, the majority of tax returns filed in IRS� electronic filing (e-file) program are through Authorized IRS e-fileproviders. An Electronic Return Originator (ERO) is the authorized IRS e-fileprovider who originates the electronic submission of a return to IRS. More than 119,000 EROs are authorized to participate in IRS� e-i

fleprogram.

TIGTA reported that IRS� ERO monitoring program could better evaluate, document, and ensure the compliance of EROs.� Specifically, IRS has neither established a performance measure to determine the program�s impact on ERO compliance, implemented a planning process that provides for timely training and use of effective case building information, nor developed a risk-based methodology for selecting monitoring visits. Further, program coordinators and monitors have difficulty determining the level of infractions and are not ensuring case documentation is complete.

SAFEGUARDING TAXPAYER INFORMATION

TIGTA recommended that a meaningful performance goal and measurement for the ERO monitoring program be established; ensure follow-up visitations are made; establish a planning process to ensure timely training and case preparation; and enhance the use of the database of EROs.� Also, IRS needs to better determine the mix of random and mandatory ERO visits; develop more detailed guidance on sanctions; and improve monitoring case documentation.� IRS management agreed with the majority of the recommendations and has taken full or partial corrective actions, but disagreed with the recommendation to establish a goal and method of measuring program effectiveness.� Management stated that while the results on specific cases, types of cases or trends could be tracked and measured, it would be impossible to measure the effect on voluntary compliance for all authorized IRS e-fileproviders. TIGTA is concerned about IRS� decision not to establish a goal and method for measuring program effectiveness in improving ERO compliance. The President�s Managemen Agenda

t includes a requirement to link performance with the budgeting process. Further, the Government Performance and Results Act, the General Accounting Office�s Sandards for Internal Control in the Federal

t Government, and the Office of Management and Budget�s Circular A123,

-Management Accountability and Control, ⁷all discuss the need to set performance goals and report annually on actual performance compared to goals.� TIGTA recognizes that indicators may be difficult to develop, but believes the benefits will far outweigh the costs in linking performance with the budget process, and in allocating resources where �they will have the most impact. Report Reference No. 2003-30-039

TAXPAYER PROTECTION AND RIGHTS

Implementation of the changes mandated by RRA 98is intended, among other things, to enhance taxpayer protection and rights.� TIGTA is mandated to conduct annual reviews of specific provisions listed in RRA 98 and also conduct reviews of other taxpayer rights issues.� Results of mandated reviews completed by TIGTA during this reporting period are listed in Appendix V.� Highlights of other significant reviews follow.

The Chairman of the House Ways and Means Subcommittee on Social Security requested a government-wide review of how federal agencies distribute and control Social Security Numbers (SSN).� TIGTA conducted its review and, in summary, reported that IRS provided information required by the Privacy Act and established procedures to help ensure third parties, such as federal government agencies and private�

⁷Federal Register, Vol. 60, No. 125, June 29, 1995, p.33876 � 33882.

Strategic Goal: Improving the Economy, Efficiency
�� and Effectiveness of Tax Administration

Page 21

contractors, safeguard taxpayer information. In addition, IRS conducts on-site safeguard reviews of the agencies receiving taxpayer information every three years, as required.

However, in TIGTA�s opinion, IRS needs to make improvements to safeguard its processes and procedures, which are designed to prevent the potential disclosure of taxpayer information protected by I.R.C. � 6103.� In addition, federal and state agency safeguard activity reports and IRS safeguard review reports were not always timely, and procedures for disclosing federal tax information to private contractors were not always effective.

TIGTA recommended that the safeguard procedures be evaluated to ensure they address the specific tax data, as well as the security of information shared under I.RC. � 6103 with regard to federal and state

. agencies and private contractors. Also, IRS should provide clear guidance to private contractors on the safeguard requirements and their responsibilities.� IRS management agreed with the recommendations and is taking corrective action. Report Reference No. 2003-40-022

FRAUDULENT �� TIGTA also reported that Fraud Detection Center (FDC) personnel

REFUNDS �� generally provided proper justification for controlling fraudulent or potentially fraudulent refund returns.� However, in evaluating IRS� controls placed on certain taxpayer accounts where refund fraud has been suspected, FDC personnel were not always reviewing and reconciling the quarterly control reports and taking timely actions to resolve tax return filings that lacked criminal prosecution potential. As a result, there were unnecessary delays in refunding monies to taxpayers who had legitimate refunds due, and revenue recovery efforts were jeopardized because statutory limitation periods for making civil assessments of tax had expired. Also, although the Director, Refund Crimes had issued several guidance documents pertaining to reviews of the quarterly control reports and procedures for resolving certain types of fraudulent returns, there were no reviews performed to ensure the FDCs were complying with established procedures.� In TIGTA�s opinion, these reviews are an important management tool for ensuring program effectiveness and compliance with procedures.

TIGTA estimated that more than 10,000 tax return filings with credits totaling more than $26 million have been subjected to year-long delays by IRS.� Although most of the $26 million probably resulted from fraudulent refund claims, it is still important that the FDCs take timely action to resolve the accounts to enforce IRS� commitment to promptly apply the tax law with integrity and fairness to all.� TIGTA also identified more than $1.5 million in refunds that were erroneously issued for 24 tax return filings where the statutory period for making civil assessments of tax had expired, thereby preventing recovery of these erroneously refunded monies. To improve the process for monitoring Criminal Investigation (CI) refund controls, TIGTA recommended that IRS consider providing future control report listings to the FDCs electronically, and change the frequency of these listings to twice a year during non-peak processing periods. TIGTA also recommended that CI conduct regular oversight reviews of the process.� IRS management agreed with the recommendations and is taking corrective action. Report Reference No. 2003-10-094

Page 24

TIGTA Strategic Goal:

Detecting and Deterring Fraud in IRS
Programs and Operations

TIGTA protects the Department of Treasury�s ability to collect revenue owed to the federal government.� TIGTA accomplishes this goal by providing comprehensive investigative services focused on three programs:� IRS employee integrity; IRS employee and infrastructure security; and external attempts to corrupt federal tax administration.� Additionally, TIGTA pursues a variety of proactive initiatives to detect and deter waste, fraud, and abuse relating to federal tax administration.� As part of its statutory mission, TIGTA also responds to threats and attacks against IRS personnel, property and IRS data infrastructure.

In order to focus investigative resources on its primary program areas, TIGTA developed and implemented a performance model to help it achieve the most return-on-investment for IRS, the Treasury Department, and the American taxpayer.

TIGTA Investigative Performance Model

TIGTA administers its investigative programs through 11 field divisions supported by a Headquarters Operations Division; a Technical and Forensic Support Division; and the Strategic Enforcement Division, a specialized computer investigative operation.� TIGTA operates a Special Inquiries and Intelligence Division to conduct certain high profile investigations, procurement fraud investigations and to manage a centralized criminal intelligence (counter-terrorism) program.

IRS EMPLOYEE INTEGRITY

IRS employee integrity is the crux of effective and efficient federal tax administration. IRS employee misconduct weakens the public�s trust in the agency and, as a result, impedes effective implementation of the tax laws. Lapses in employee integrity include:� bribery; extortion; theft; unauthorized access to and disclosure of confidential taxpayer data; misuse of IRS computer systems; taxpayer abuses; and financial fraud.� Additionally, TIGTA promotes employee integrity by conducting proactive and reactive investigations and by administering a program of Integrity/Fraud Awareness presentations to IRS employees and the general public.� These presentations educate IRS employees and taxpayers on the ways they can help prevent waste, fraud, and abuse in IRS operations and programs.� During the current reporting period, TIGTA made 440 Integrity/Fraud Awaeness presentations to more than

r 15,000 IRS employees. Since October 1, 2002, TIGTA received 2,271 complaints involving IRS employees.�

Examples of IRS Employee Integrity cases ae:

IRS REVENUE AGENT Recently, an IRS revenue officer was prosecuted for unauthorized access PLED GUILTY TO to taxpayer records contained in the agency�s computer system.� TIGTA�s UNAUTHORIZED investigation revealed that the officer made improper accesses to the tax ACCESS TO TAXPAYER accounts of a friend and a family member.� The employee resigned and RECORDS pled guilty to the violations in January 2003.

In January 2003, an IRS revenue agent pled guilty to soliciting a ^{IRS R}^EVENUE^A^GENT$200,000 cash bribe from a corporate attorney to reduce the company�s ^C^{ONVICTED OF}tax liability.� The attorney, in cooperation with TIGTA agents, met with the ^S^{OLICITING A}IRS revenue agent who stated he could reduce the company�s tax liability ^{$200,000 B}^RIBEfrom as high as $4 million to $15,000 in exchange for the bribe. TIGTA�s

Technical Forensic Support Division provided electronic surveillance in

support of the case.� The revenue agent resigned following arrest.

TWO IRS In December 2002, two IRS employees were indicted for their role in the EMPLOYEES attempted destruction of IRS records. This investigation began with a DESTROY RECORDS citizen contacting IRS to advise that numerous tax returns and other�

Strategic Goal:� Detecting and Deterring
�� Fraud in IRS Programs and Operations

Page 26 $132,000 RECOVERED FROM FORMER IRS EMPLOYEE

IRS SPECIAL AGENT SENTENCED FOR BRIBERY

INVESTIGATOR PLEADS GUILTY TO POSSESSING CHILD PORNOGRAPHY ON IRS COMPUTER

confidential documents were strewn on a city street.� TIGTA agents secured several trash bags filled with current tax returns and taxpayer correspondence that had been removed from an IRS processing center by one of the employees.� The other employee placed the bags filled with the documents on the curb to be collected as trash.� Both employees were terminated from employment.� IRS reviewed over 300 taxpayer accounts and determined the total impact to the applicable taxpayers and the agency was approximately $1.2 million.�

In January 2003, a former IRS employee signed an agreement to make restitution to the government in the amount of $132,000 for wages fraudulently received while working at a business he owned rather than at the federal agency.� The employee, who falsified his IRS timesheets by failing to take leave for the time spent working at his business, later resigned from IRS.

An IRS criminal investigator was sentenced to 30 months imprisonment and a $50,000 fine for accepting a bribe of $6,000 to help a taxpayer defeat IRS� criminal investigation against that taxpayer.� In exchange for the bribe, the special agent improperly disclosed grand jury information and tax return information on the target of the investigation.� In November 2002, the employee was terminated.

In January 2003, a former IRS criminal investigator pled guilty to possessing child pornography on an office computer. The employee�s computer had approximately 9,000 digitized photographic still images and approximately 35 digitized photographic movies of child pornography. The employee resigned from IRS in October 2002.

IRS EMPLOYEE AND INFRASTRUCTURE SECURITY

Employee and Infrastructure Security is a critical element in protecting the Treasury Department�s ability to administer the I.R.C. The IRS remains the cornerstone of the federal budget, processing more than 228 million tax returns and collecting more than $2.1 trillion annually to fund the government.

Threats and assaults against IRS employees, facilities and data infrastructure impede Treasury from effective tax administration.� Historically, IRS is a target of those who advocate violence against the federal government.� There have been numerous attempts to destroy its buildings by various means.� Since TIGTA has the statutory responsibility to investigate activities involving threats to IRS personnel and facilities, TIGTA dedicates significant resources to deterring, detecting and� investigating any threats from both foreign and domestic sources.� In an October 2002 case, TIGTA arrested a taxpayer who mailed a letter threatening an IRS employee with deadly force if a tax lien placed on the taxpayer�s property was not released.� This individual was convicted for mailing a threatening communication to IRS.

This commitment against threats and assaults includes the operation of a nationwide criminal intelligence program.� This Headquarters-directed initiative is designed to coordinate the agency�s investigation of threats, assaults and terrorist acts targeted at IRS.� The criminal intelligence unit also coordinates TIGTA�s participation in 57 FBI Joint Terrorism Task Force operations.� Through the criminal intelligence program, TIGTA also assists IRS in developing and enhancing security protocol at all IRS facilities in an effort to deter and prevent terrorist attacks and ensure IRS employee safety and infrastructure integrity.

In the past six months, TIGTA has completed 400 investigations of verbal or written threats and assaults directed at the IRS and its employees. Over the last few years, the types of threats to which IRS employees are exposed have expanded to include incidents such as the receipt of alleged chemical and biological threats in the mail. Since the terrorist attacks of September 11, 2001, TIGTA has investigated a total of 70 cases involving suspected biological or chemical material received or identified at IRS facilities.� TIGTA vigorously investigates hoax mailings. To date, none of these incidents have involved life-threatening substances, although each caused significant and costly disruption to IRS operations.

Increasingly, anti-government groups are attempting to undermine the tax system by exploiting cyber-tools as weapons.� Through the operation of its Strategic Enforcement Division (SED), TIGTA works with IRS to utilize a cadre of dedicated computer specialists and criminal investigators who rapidly respond to computer intrusion incidents, investigate IRS network problems when indicators of intentional disruption are present, and conduct recurring systems penetration tests to detect new vulnerabilities. Since October 1, 2002, TIGTA SED special agents and computer specialists have conducted 9 computer security reviews/tests and 18 criminal investigations in areas where security potentially could be compromised.

Examples of Employee and Infrastructure Securiy cases are:

TRIAL DEFENDANT ASSAULTS IRS AGENT AND DOJ PROSECUTOR

TAXPAYER SENTENCED FOR THREATENING A GUNFIGHT

TIGTA ASSESSES VULNERABILITY TO �MS-SQL SLAMMER� WORM

TIGTA PROTECTS IRS NETWORK FROM �W32 BUGBEAR� VIRUS

In January 2003, a defendant on trial for tax evasion and conspiracy to defraud the U.S. government was sentenced to 14 months imprisonment. An IRS Criminal Investigation special agent reported that the defendant assaulted him and a Department of Justice prosecutor in the courtroom. On the basis of TIGTA�s investigation of the two assaults, following the trial and conviction, a judge revoked the assaulting defendant�s supervised release.

In October 2002, a taxpayer was sentenced to 30 days custody as a condition of a two-year term of probation for making threats against IRS. In April 2002, an IRS revenue officer reported to TIGTA the receipt of a tax form from a taxpayer containing threats of a gunfight if anybody tried to seize his property.� The taxpayer was subsequently indicted and found guilty of corrupt interference of a government official. Special probation conditions include compliance with the money owed to IRS, filing of all back tax returns to IRS, no possession of firearms, and 200 hours of community service.

On January 25, 2003, numerous sources reported on the Internet a dramatic increase in hostile network traffic.� Within hours the traffic caused a significant slowing throughout the Internet.� The cause was identified as a self-replicating worm dubbed �MS-SQL Slammer,� which took advantage of a known vulnerability in Microsoft SQL servers. Within five hours, TIGTA SED agents initiated a vulnerability assessment of� IRS� network to identify Microsoft SQL servers vulnerable to the virus. Several systems were identified and the results were provided to IRS Office of Cyber Security (CSIRC) for immediate action. Subsequently, CSIRC identified numerous vulnerable unpatched servers, and system owners were instructed to apply the appropriate patches to their servers. This coordinated effort resulted in protection of IRS systems as the Slammer worm did not enter the agency�s enterprise network.

On October 7, 2002, TIGTA SED agents completed a network scan of� IRS� enterprise network to determine if it was compromised by the� �W32 Bugbear� virus, a Microsoft Outlook mass-mailing worm that had the capability of creating a backdoor vulnerability to the infected computer. Additionally, it had the insidious capability of terminating or disabling the detection and containment processes of various anti-virus programs.� The SED scan identified several computer systems potentially vulnerable to the �W32 Bugbear� virus.� A list of the potentially vulnerable systems was provided to CSIRC so that IRS computer systems could be protected from this external attack.� CSIRC subsequently confirmed that this virus infected no IRS systems.

EXTERNAL ATTEMPTS TO CORRUPT TAX ADMINISTRATION

TIGTA is dedicated to investigating external attempts to corrupt or interfere with the administration of Internal Revenue laws. External attempts to corrupt tax administration include bribes offered by taxpayers to compromise IRS employees; the manipulation of IRS systems and programs through the use of bogus liens and IRS financial reporting instruments; identity theft; tax refund theft; and other crimes that use IRS as a means to perpetrate criminal activity. External attempts to corrupt tax administration inhibit the Treasury�s ability to collect revenue and undermine the public�s confidence in fair and effective tax administration. TIGTA conducted investigations of schemes involving Employer Identification Numbers (EIN); bribery of IRS officials; the use of fraudulent IRS documentation; impersonation of IRS officials; and theft of taxpayer refunds during this reporting period.

With IRS increasing its effort to collect taxes from delinquent taxpayers, as well as taxpayers with offshore bank accounts, the environment is ripe for increased attempts to bribe IRS employees involved in those collection activities. Since October 1, 2002, TIGTA has initiated 31 investigations into bribery by non-IRS employees. In addition, TIGTA conducted 232 investigations of attempts to manipulate or corrupt IRS systems and operations, and 600 investigations into fraud and other related activities.

To further its ability to investigate criminal acts designed to corrupt tax administration, TIGTA operates a Technical and Forensic Support Division composed of the Technical Services Section and a Forensic Science Laboratory. Both Technical Services and the Laboratory provide technical expertise throughout the development and adjudication process of investigations. During this reporting period, the Forensic Science Laboratory conducted 183 forensic examinations while the Technical Services Section provided electronic and surveillance support in 147 investigations.

Examples ofExternal A emptsto Corrupt Tax Administrationcases are:

INDIVIDUAL In January 2003, an identity theft scheme promoter was sentenced to SENTENCED IN 32 months in prison and ordered to pay approximately $306,000 in EIN SCHEME restitution for conspiracy, identity theft and social security fraud. The

promoter assisted individuals with unfavorable credit ratings in obtaining

IRS issued Employer Identification Numbers (EIN), and in applying for

government-insured home mortgage loans using the EINs as SSNs. The

promoter also prepared fictitious federal income tax returns for

submission with the loan applications. Twenty-three other individuals

Strategic Goal: Detecting and Deterring
�Fraud in IRS Programs and Operations

Page 30 IDENTITY THEFT RING NETS $7 MILLION IN FRAUDULENT TAX REFUNDS

PAIR GUILTY IN FICTITIOUS OBLIGATIONS SCHEME

were charged for their roles in the scheme, including a realtor who was involved in the fraudulent home purchases.

In February 2003, a criminal complaint charged 19 individuals with conspiracy to file false claims against the United States.� The investigation began when bank officials notified TIGTA that tax refund checks were deposited in a tax preparer�s bank account.� TIGTA agents subsequently arrested the tax preparer for the theft and negotiation of stolen IRS income tax refund checks.� Further investigation disclosed the tax preparer, with co-conspirators, engaged in the filing of numerous fraudulent income tax returns using stolen SSNs, resulting in millions of dollars in IRS refunds. In October 2002, the tax preparer pled guilty to conspiracy to file false claims against the United States.

In December 2002, two individuals were found guilty of conspiring to negotiate fictitious �Notes� as payment for tax liabilities.� This investigation began when an IRS employee contacted TIGTA agents after being approached by two taxpayers presenting $150,000 in purported "Notes" to pay off a tax liability. One taxpayer, an insurance salesman, acknowledged printing these notes on a personal computer, and the other taxpayer claimed to be a "commercial attorney" involved in the production of the documents. IRS Criminal Investigation was conducting an investigation relating to numerous similar fictitious obligations being mailed to IRS Service Centers as payment for taxes.� In June 2001, the insurance salesman returned to the IRS office and attempted to pay a different taxpayer's $20,000 tax liability using the �Notes.� He admitted receiving $5,000 from the taxpayer in exchange for the $20,000 in �Notes.�� In September 2002, a federal grand jury issued indictments charging the insurance salesman with 21 counts of conspiracy, unlawful manufacture and passing of fictitious obligations, and mail fraud.� The �commercial attorney� was charged with 15 counts of conspiracy and unlawful manufacture and passing of fictitious obligations. A federal grand jury found the pair guilty in December 2002.

Fictitious Note

Reports With Questioned Costs (10/1/02 � 3/31/03)	Number of	Questioned Costs2	Unsupported Costs
Report Category	Reports	(In Thousands)	(In Thousands)