HEARING BEFORE THE
COMMITTEE ON WAYS AND MEANS
SUBCOMMITTEE ON OVERSIGHT
J. Russell George
Treasury Inspector General
for Tax Administration
STATEMENT FOR THE RECORD OF
THE HONORABLE J. RUSSELL
GEORGE
TREASURY INSPECTOR GENERAL
FOR TAX ADMINISTRATION
before the
COMMITTEE
ON WAYS AND MEANS
SUBCOMMITTEE ON OVERSIGHT
“The 2007 Filing Season”
Chairman
Lewis, Ranking Member Ramstad, and Members of the Subcommittee, I thank you for
the opportunity to provide written comments on the 2007 Filing Season. My comments focus on the processing of tax
returns, customer service, telephone excise tax refunds, the Customer Account
Data Engine, and the Electronic Fraud Detection System. Each of these areas is important to a
successful 2007 Filing Season.
Processing
Tax Returns
As
of March 3, 2007, the Internal Revenue Service (IRS) reported that it had
received 54 million individual tax returns.
Of the 54 million, 41.2 million (76.3 percent) were filed
electronically. The number of
electronically filed tax returns is 4.3 percent higher than at the same time
last year. The IRS has issued 45.4
million refunds for a total of $117.1 billion.
While
the IRS has seen a growth in the number of electronically filed tax returns so
far this filing season, the number of
Free File returns is down slightly. As
of March 3, 2007, the IRS received approximately 2.3 million tax returns
through the Free File Program, compared to approximately 2.4 million returns at
the same time last year.
The
Free File Program provides taxpayers with access to free online tax preparation
and e-filing services made possible through a partnership agreement between the
IRS and the tax software industry. The IRS Restructuring and Reform Act of 1998 (RRA 98)[1] required the IRS to work with private industry to increase
electronic filing. In response to this
requirement, in 2003 the Department of the Treasury (Treasury), OMB and the IRS
launched the Free File Program featuring private-sector partners that allow
qualifying taxpayers to prepare and file their taxes online for free. The Treasury, OMB and IRS made this possible
through a public-private partnership with a consortium of tax software
companies, the Free File Alliance, LLC (
The RRA 98 established a goal for the IRS to have 80 percent of Federal
tax and information returns filed electronically by 2007. Recognizing that the IRS will not meet this
goal, the IRS Oversight Board recommended an extension of the goal to 2012. The IRS Oversight Board has consistently
stated that the 80 percent e-file goal has been a major contributing factor to
the growth of electronic filing. Based
on existing trends through 2006, it is indeed unlikely that a sufficient number
of taxpayers will shift to e-file in 2007 to overcome the IRS’ 26 percent
shortfall. Nevertheless, because the
goal has had such a positive effect, the IRS Oversight Board recommended that Congress
extend it to 2012 and expand its scope.
According to IRS Oversight Board Chairman Paul B. Jones, “While it is clear that the IRS will not
achieve the ambitious 80 percent goal this year, we do not view this as a failure.
Rather, the IRS and its private sector
partners have achieved continuous and significant progress in all parts of
electronic tax administration very much in keeping with RRA 98’s intent.”
Providing Quality Customer Service
While the IRS
continues to face longstanding challenges, it deserves recognition for making
progress in an area that will always be a challenge: providing quality customer service to the
American taxpayer. Quality customer
service is the first component of Commissioner Everson’s principle for the IRS:
Service + Enforcement = Compliance. Over the past few years, TIGTA audits have
shown that the IRS has improved customer assistance in its face-to-face,
toll-free telephone, tax return processing, and electronic services, including
the IRS public Internet site (www.IRS.gov).
IRS.gov
IRS.gov continues to be one of the most visited Web sites in the world, especially during filing seasons. The IRS now provides practitioners with online tools to provide better service to their customers such as electronic account resolution, transcript delivery, and disclosure authorization.
Toll-Free Operations
As of
Taxpayer
Assistance Centers
Taxpayer Assistance
Centers (TAC) are walk-in sites where taxpayers can receive answers to both
account and tax law questions, as well as receive assistance in preparing their
returns. TIGTA is currently in the
process of making anonymous visits to TACs to determine if taxpayers are
receiving quality service, including correct answers to their questions. As of March 3, 2007, there were 1.5
percent fewer walk-in contacts than for the same period last year.
Volunteer Income Tax Assistance
(VITA) Program
The VITA Program plays an increasingly important role in IRS’ efforts to improve taxpayer service and facilitate participation in the tax system. The VITA Program provides no-cost Federal tax return preparation and electronic filing to underserved taxpayer segments, including low-income, elderly, disabled, and limited-English-proficient taxpayers. These taxpayers are frequently involved in complex family situations that make it difficult to correctly understand and apply tax law.
According to the IRS, as of March 3, 2007, volunteer tax return preparation is 8.6 percent above last year’s performance, and volunteer e-file is slightly down by approximately 0.7 percent compared to this time last year. However, as of January 31, 2007, outreach contacts had significantly increased by over 90 percent compared to the same time last year. This increase is due to special emphasis on telephone excise tax refunds and unplanned outreach activities occurring during the month of January.
TIGTA is currently in the process of visiting VITA sites to determine if taxpayers are receiving quality service, including the accurate preparation of their individual income tax returns. TIGTA developed scenarios that are designed to present volunteers with a wide range of tax law topics and include the characteristics (e.g., income level, credits claimed, etc.) of tax returns typically prepared by the VITA Program volunteers.
Telephone Excise Tax Refunds
The
telephone excise tax refund is the most wide-reaching refund in the history of
the IRS. It is a one-time refund that
the IRS estimated would affect between 151 million and 189 million people,
including many without a filing requirement.
The IRS developed a process to refund these monies on a timely basis and
made the refund request process relatively easy for most taxpayers. At the same time, the IRS wanted to minimize
refunds in excess of taxes collected and discourage overstated refund requests.
To
minimize the number of overstated refund requests and the administrative burden
on individual taxpayers, the IRS decided to offer individuals a standard refund
amount. Use of the standard amounts should
significantly reduce taxpayer burden since no records are needed to support
taxpayers’ requests. Individuals do not
have to assemble 41 months of telephone bills to determine their refund amounts. Requesting the standard amount requires the
completion of only one additional line on the tax return.
However,
taxpayers are not required to request the standard amount. If taxpayers do not choose to claim the
standard amount, they must file Form 8913, Credit for Federal Telephone Excise
Tax Paid, with their U.S. Individual Income Tax Return (Form 1040 series). Taxpayers must attach Forms 8913 to their Forms
1040 to support any claims for more than the standard amount.
The
IRS also developed a compliance strategy to address egregious claims. The strategy includes identifying tax returns
with claims for telephone excise tax refunds exceeding certain dollar
thresholds and freezing the telephone excise tax portion of the refunds
associated with those returns until the claims could be audited.
The
standard amount developed by the IRS has proved to be very effective. Through the week ending
TIGTA has raised
the following concerns to the IRS regarding the processing of returns claiming
telephone excise tax refunds for non-standard amounts:
- Thresholds
were set too high for the IRS to take action when taxpayers claimed
refunds for more than the standard amounts but did not provide the
required Form 8913 to substantiate their claims.
- Thresholds were also set too high
for the IRS to take action when taxpayers’ entries on their tax returns
(Form 1040 series) did not correspond with amounts on Form 8913, i.e.,
taxpayers claimed one amount on their tax return and a different amount on
their Form 8913.
When
TIGTA reported these issues, the IRS took immediate steps to address the
problems.
TIGTA has also raised concerns with the
IRS’ implementation of its compliance strategy related to these claims. In TIGTA’s opinion, the dollar threshold used
to identify potentially egregious claims is again set too high. TIGTA first raised this concern to the IRS on
- The amount
of telephone excise tax refunds on these claims totaled more than $21
million.
- Taxpayers
making most of these claims (68 percent) would have had to pay long
distance or bundled telephone service charges equal to more than 25
percent of their total annual income to justify their claims.
- Taxpayers making 11 percent of these
claims would have had to pay more for long distance or bundled telephone
services in a year than their annual income to justify their claims.
TIGTA reviewed a sample of 30 of these
claims and found the following among the cases in the sample:
- A
taxpayer was claimed as a dependent on another taxpayer’s return and filed
a claim for an amount that could only be supported if the taxpayer’s long
distance charges were nearly seven times more than his/her total
income.
- A
taxpayer filed a claim that indicated long distance charges amounting to
45 percent of his/her income. This taxpayer also claimed two nieces as dependents, and claimed Earned Income Credit, Child Tax Credit, and Additional Child Tax Credit. As of February 24, 2007, the paid preparer who filed this taxpayer’s return had filed over 900 other returns with telephone excise tax refund claims exceeding the standard amounts (72 percent of the claims filed by this preparer). The percentage of claims filed by this preparer for more than the standard amount has steadily increased through most of the filing season, but most claims fell under the IRS threshold amount. During the week ending March 3, 2007, the IRS processed another 143 claims filed by this preparer for more than the standard amount. Not one of these claims exceeded the IRS’ threshold. This preparer appears to have learned what will be accepted as filed by the IRS. The IRS’ Criminal Investigation function has no active investigation of this preparer.
The IRS set its threshold high because
its examination resources are limited and because it believes that examinations
of Earned Income Tax Credit cases and other discretionary examination cases
will result in higher assessment rates than examinations of the telephone
excise tax refund claims. However,
others factors may need to be considered.
For example:
- Many taxpayers filing large claims appear to be
entering the total amount billed for long distance and bundled service
rather than the Federal excise tax associated with those amounts. This may be due to taxpayers
misunderstanding the instructions on Form 8913. Taxpayers making legitimate mistakes may
very well be willing to self-correct their returns if the IRS informed them
that they appeared to have claimed their entire phone bill or long
distance bill rather than only the Federal excise tax associated with their
bill. Addressing many of these
cases may not require examination resources.
- Because the telephone excise tax
refund claims are not subject to the regular assessment process, most of
these claims should be worked before refunds are issued. Discretionary examination programs can
be worked after refunds are issued if necessary.
- If worked prior to the refunds being
issued, these cases represent dollars that can be immediately recognized
by the government as improper refunds not issued. In contrast, other examination cases
represent assessments that may or may not be collected. A recent TIGTA report found that in FY
2004, the IRS assessed more than $2.1 billion in additional taxes on
high-income taxpayers through its examination program. The report estimated that approximately
$1.2 billion (57 percent) of that amount was either abated or not
collected after an average of 608 days from the date of assessment.[3]
- The telephone excise tax refund
issue has become a very high profile issue. For example, such inappropriate claims
are now the number one item in the IRS’ “Dirty Dozen” list of tax scams. In a news release issued early in the
filing season, Commissioner Everson stated, "People requesting an inflated amount will likely see their refund
frozen, may have their entire tax return audited and even face criminal prosecution
where warranted. We won't stand
idly by while some people try to cheat their neighbors and make off with
money they don't deserve."
If the IRS allows fraud to go unchecked in an area that it has
declared as a major priority, it may have a very negative effect on
taxpayer compliance in the future.
Taking into consideration the
factors listed above, TIGTA recommended that the IRS re-examine all options at
its disposal to address significantly more inappropriate telephone excise tax
refund claims, including offering taxpayers the opportunity to self-correct
their returns, postponing some examination work, and having non-examination
employees work (or partially work) some of the simpler cases.
The IRS responded to TIGTA’s
concerns, stating that it does not plan to make adjustments to the threshold
amounts. The IRS’ written response did
not address TIGTA’s recommendation to allow taxpayers to self-correct their
returns; however, in discussions IRS officials stated that they had no plans to
issue notices to taxpayers and allow them to self-correct their errors because IRS
officials believe that such notices would be ineffective, the IRS has limited
resources to work the responses, and there would be many “no response” cases,
which they would be required to work.
Customer Account Data
Engine
The Customer Account Data Engine (CADE)
project will provide the foundation for managing taxpayer accounts to achieve
the IRS’ modernization vision. The CADE
consists of databases and related applications that will replace the IRS’
existing Master File processing systems, which are the IRS’ official repository
of taxpayer information.
Congress authorized $54 million in Fiscal
Year (FY) 2005 and $60 million in
FY 2006 for the CADE. Additionally, the
IRS requested $85 million in FY 2007 for the CADE, but this amount has been
reduced to about $58 million. Through FY
2007, CADE project release costs total about $233.9 million. The IRS initiated the CADE project in
September 1999 and began delivering releases in August 2004.
During Calendar Year (CY) 2006, the CADE
processed over 7.3 million tax returns and generated more than $3.4 billon in
refunds. This is a significant increase
over the 1.4 million tax returns processed in CY 2005 that generated refunds
totaling more than $427 million. The
CADE is now in the process of completing delivery of Release 2.2. Release 2.2 will process 2007 Filing Season tax
law revisions (Tax Year 2006) and additional tax forms.
On February 27, 2007, the IRS and the PRIME
contractor put Release 2.2 into production, but because computer reports on the
number of returns received did not match the number of returns processed, the
CADE was turned off and tax returns were sent back to the current IRS
processing system. The IRS reports that
a major portion of Release 2.2 was successfully put into production on March 6,
2007,
(seven weeks late). On the first day, it
processed over 571,000 tax returns of which 566,332 contained refunds. Because of the late start into production, the
IRS goal of using the CADE to process 33 million tax returns will not be met. According to IRS officials, the latest
estimate is that the IRS will complete the deployment of Release 2.2 in April
2007, and it will process between 15 million to 20 million returns.
Electronic
Fraud Detection System
The Electronic
Fraud Detection System (EFDS) is the primary information system used to support
the Criminal Investigation Division’s Questionable Refund Program, which is a
nationwide program established in January 1997 to detect and stop fraudulent
and fictitious claims for refunds on income tax returns. During Processing Year (PY) 2006, the EFDS
was not operational because the IRS and its contractors were unable to launch a
Web-based version of the EFDS application (Web EFDS), resulting in an estimated
$318.3 million in fraudulent refunds being issued as of May 19, 2006.
On April 19,
2006, all system development activities for the Web EFDS were stopped, and all
efforts were focused on restoring the client-server EFDS for use on January 16,
2007. The restoration effort required
the contractors to prepare the EFDS and the related databases for PY 2007 by
starting with the PY 2005 EFDS and updating it with the 2006 and 2007 tax law
changes.
In October
2006, TIGTA initiated an audit to determine whether the IRS was adequately
monitoring the contractor’s development efforts in 2006 to ensure that a system
was delivered in time for the 2007 Filing Season. TIGTA found that the
IRS improved controls over the EFDS restoration activities including executive
governance and project management. As a
result, project risks were being identified and mitigation actions were being
taken to ensure that the EFDS was implemented and fraudulent refunds stopped
during PY 2007.
On
January 16, 2007, the IRS and its contractors put the EFDS into
production. The IRS reported the telephone
excise tax refund, split refund, and extender legislation requirements were
implemented as scheduled on January 29, 2007.
The IRS also reported that the EFDS continues to operate without
critical problems.
Conclusions
While the 2007 Filing Season appears to be progressing without major problems, I am concerned that changes in the Free File Agreement as well as the elimination of Telefile Program in 2005 may contribute to a significant slowing of the growth in electronic filing this year. This slowed growth comes at a time when the IRS is still far from reaching Congress’ goal of 80 percent electronic filing by 2007. Slower growth in electronic filing will defer the efficiency gains for the IRS that result from electronic filing.
Additionally, I am concerned
about the IRS’ telephone excise tax refund program. While the IRS took corrective actions to
address concerns about processing thresholds, the IRS declined to re-examine
all options at its disposal to address significantly more inappropriate
telephone excise tax refund claims, including offering taxpayers the
opportunity to self-correct their returns, the postponement of some examination
work, and the working (or partial working) of some of the simpler cases by non-examination
employees.
I hope my discussion of some of the 2007
Filing Season issues will assist you with your oversight of the IRS’ filing
season operations. Mr. Chairman and
Members of the Subcommittee, thank you for the opportunity to share my views.