[House Hearing, 105 Congress]
[From the U.S. Government Publishing Office]




 
 IRS BUDGET FOR FISCAL YEAR 1998 AND THE 1997 TAX RETURN FILING SEASON

=======================================================================

                                HEARING

                               before the

                       SUBCOMMITTEE ON OVERSIGHT

                                 of the

                      COMMITTEE ON WAYS AND MEANS
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED FIFTH CONGRESS

                             FIRST SESSION

                               __________

                             MARCH 18, 1997

                               __________

                             Serial 105-36

                               __________

         Printed for the use of the Committee on Ways and Means

                               ----------

                      U.S. GOVERNMENT PRINTING OFFICE
                              WASHINGTON : 1998





                      COMMITTEE ON WAYS AND MEANS

                      BILL ARCHER, Texas, Chairman

PHILIP M. CRANE, Illinois            CHARLES B. RANGEL, New York
BILL THOMAS, California              FORTNEY PETE STARK, California
E. CLAY SHAW, Jr., Florida           ROBERT T. MATSUI, California
NANCY L. JOHNSON, Connecticut        BARBARA B. KENNELLY, Connecticut
JIM BUNNING, Kentucky                WILLIAM J. COYNE, Pennsylvania
AMO HOUGHTON, New York               SANDER M. LEVIN, Michigan
WALLY HERGER, California             BENJAMIN L. CARDIN, Maryland
JIM McCRERY, Louisiana               JIM McDERMOTT, Washington
DAVE CAMP, Michigan                  GERALD D. KLECZKA, Wisconsin
JIM RAMSTAD, Minnesota               JOHN LEWIS, Georgia
JIM NUSSLE, Iowa                     RICHARD E. NEAL, Massachusetts
SAM JOHNSON, Texas                   MICHAEL R. McNULTY, New York
JENNIFER DUNN, Washington            WILLIAM J. JEFFERSON, Louisiana
MAC COLLINS, Georgia                 JOHN S. TANNER, Tennessee
ROB PORTMAN, Ohio                    XAVIER BECERRA, California
PHILIP S. ENGLISH, Pennsylvania      KAREN L. THURMAN, Florida
JOHN ENSIGN, Nevada
JON CHRISTENSEN, Nebraska
WES WATKINS, Oklahoma
J.D. HAYWORTH, Arizona
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri

                     A.L. Singleton, Chief of Staff

                  Janice Mays, Minority Chief Counsel

                                 ______

                       Subcommittee on Oversight

                NANCY L. JOHNSON, Connecticut, Chairman

ROB PORTMAN, Ohio                    WILLIAM J. COYNE, Pennsylvania
JIM RAMSTAD, Minnesota               GERALD D. KLECZKA, Wisconsin
JENNIFER DUNN, Washington            MICHAEL R. McNULTY, New York
PHILIP S. ENGLISH, Pennsylvania      JOHN S. TANNER, Tennessee
WES WATKINS, Oklahoma                KAREN L. THURMAN, Florida
JERRY WELLER, Illinois
KENNY HULSHOF, Missouri


Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public 
hearing records of the Committee on Ways and Means are also published 
in electronic form. The printed hearing record remains the official 
version. Because electronic submissions are used to prepare both 
printed and electronic versions of the hearing record, the process of 
converting between various electronic formats may introduce 
unintentional errors or omissions. Such occurrences are inherent in the 
current publication process and should diminish as the process is 
further refined.


                            C O N T E N T S

                               __________

                                                                   Page

Advisory of March 10, 1997, announcing the hearing...............     2

                               WITNESSES

Internal Revenue Service, Hon. Michael P. Dolan, Deputy 
  Commissioner; accompanied by Tony Musick, Chief Financial 
  Officer; Dave Mader, Chief, Management and Administration; 
  Arthur Gross, Associate Commissioner and Chief Information 
  Officer; and Jim Donelson, Chief, Taxpayer Service, and Acting 
  Chief, Compliance..............................................    15
U.S. General Accounting Office, Lynda D. Willis, Director, Tax 
  Policy and Administration Issues, General Government Division; 
  accompanied by Rona Stillman, Ph.D., Chief Scientist, 
  Accounting and Information Management Division.................    77

                                 ______

American Institute of Certified Public Accountants, Michael E. 
  Mares..........................................................   102
Archer, Hon. Bill, a Representative in Congress from the State of 
  Texas, and Chairman, Committee on Ways and Means...............     5
National Association of Enrolled Agents, Beanna J. Whitlock......    94


 IRS BUDGET FOR FISCAL YEAR 1998 AND THE 1997 TAX RETURN FILING SEASON

                              ----------                              


                        TUESDAY, MARCH, 18, 1997

                  House of Representatives,
                       Committee on Ways and Means,
                                 Subcommittee on Oversight,
                                                    Washington, DC.
    The Subcommittee met, pursuant to notice, at 10:04 a.m., in 
room B-318, Rayburn House Office Building, Hon. Nancy L. 
Johnson (Chairman of the Subcommittee) presiding.
    [The advisory announcing the hearing follows:]

ADVISORY

FROM THE 
COMMITTEE
 ON WAYS 
AND 
MEANS

                       SUBCOMMITTEE ON OVERSIGHT

                                                CONTACT: (202) 225-7601
FOR IMMEDIATE RELEASE

March 10, 1997

No. OV-3

                      Johnson Announces Hearing on

                IRS Budget for Fiscal Year 1998 and the

                     1997 Tax Return Filing Season

    Congresswoman Nancy L. Johnson (R-CT), Chairman, Subcommittee on 
Oversight of the Committee on Ways and Means, today announced that the 
Subcommittee will hold a hearing on the Administration's budget request 
for the Internal Revenue Service (IRS) for fiscal year (FY) 1998, and 
the 1997 tax return filing season. The hearing will take place on 
Tuesday, March 18, 1997, in room B-318 Rayburn House Office Building, 
beginning at 11:00 a.m.
      
     In view of the limited time available to hear witnesses, oral 
testimony at this hearing will come from invited witnesses only. 
Witnesses will include officials from the IRS, the U.S. General 
Accounting Office, and representatives from several professional tax 
practitioner groups. Any individual or organization not scheduled for 
an oral appearance may submit a written statement for consideration by 
the Committee and for inclusion in the printed record of the hearing.
      

BACKGROUND

      
     The Administration's budget requests $7.37 billion to fund the IRS 
for FY 1998, plus an additional $500 million to establish a new account 
to fund future computer modernization. This level of funding will 
support about 102,000 employees who will collect an estimated $1.7 
trillion in taxes, according to Administration estimates.
      
     The 1997 tax return filing season refers to that period of time 
between January 1st and April 15th when Americans will file 200 million 
individual and business tax returns. During this period, the IRS is 
expected to issue over 85 million tax refunds and answer 111 million 
telephone calls from taxpayers asking for assistance. Beyond the 
traditional activities of the filing season, the FY 1998 budget will 
also fund, among other things: IRS examination activities, criminal tax 
law investigations, efforts to collect delinquent taxes, employee 
salaries, and maintenance of the operational status of the IRS's aging 
computer systems.
      
     In announcing the hearing, Chairman Johnson stated: ``Although the 
IRS has made progress in recent years to streamline its organizational 
structure and improve its financial accountability, clearly more 
remains to be accomplished in terms of downsizing, redirecting 
resources to front-line operations, eliminating unnecessary layers of 
management, reducing waste, and correcting deficiencies in its 
multibillion dollar Tax Systems Modernization program. The Subcommittee 
will examine the IRS's progress in these areas. At the same time, we 
must also make sure that the IRS is carrying out its responsibilities 
in a fair and courteous manner. American taxpayers must sacrifice a 
great deal to support the cost of operating the Federal Government. 
They deserve to receive quality service and fair treatment by the 
IRS.''
      

FOCUS OF THE HEARING

      
     The Subcommittee will explore how the IRS intends to allocate its 
FY 1998 budget resources, and what effect its funding level will have 
on the IRS's ability to fulfill its mission ``to collect the proper 
amount of tax revenue at the least cost, and serve the public by 
continually improving the quality of its products and services . . . 
.'' In particular, the Subcommittee will examine: what effect will the 
budget request have on the quality of IRS taxpayer services, the level 
of effort in the examination program, the level of effort in collecting 
delinquent taxes, and what the implications are of the FY 1998 budget 
request for the remaining five years of the budgeting window.
      
     With respect to the current filing season, the Subcommittee will 
explore how effectively the IRS is responding to taxpayers requests for 
assistance, how efficiently it is processing taxpayers' refunds, and 
the effectiveness of IRS's actions to deter refund fraud.
      

DETAILS FOR SUBMISSION OF WRITTEN COMMENTS

      
     Any person or organization wishing to submit a written statement 
for the printed record of the hearing should submit at least six (6) 
copies of their statement and a 3.5-inch diskette in WordPerfect or 
ASCII format, with their address and date of hearing noted, by the 
close of business, Tuesday, April 1, 1997, to A.L. Singleton, Chief of 
Staff, Committee on Ways and Means, U.S. House of Representatives, 1102 
Longworth House Office Building, Washington, D.C. 20515. If those 
filing written statements wish to have their statements distributed to 
the press and interested public at the hearing, they may deliver 200 
additional copies for this purpose to the Subcommittee on Oversight 
office, room 1136 Longworth House Office Building, at least one hour 
before the hearing begins.
      

FORMATTING REQUIREMENTS

      
     Each statement presented for printing to the Committee by a 
witness, any written statement or exhibit submitted for the printed 
record or any written comments in response to a request for written 
comments must conform to the guidelines listed below. Any statement or 
exhibit not in compliance with these guidelines will not be printed, 
but will be maintained in the Committee files for review and use by the 
Committee.
      
    1. All statements and any accompanying exhibits for printing must 
be typed in single space on legal-size paper and may not exceed a total 
of 10 pages including attachments. At the same time written statements 
are submitted to the Committee, witnesses are now requested to submit 
their statements on a 3.5-inch diskette in WordPerfect or ASCII format.
      
    2. Copies of whole documents submitted as exhibit material will not 
be accepted for printing. Instead, exhibit material should be 
referenced and quoted or paraphrased. All exhibit material not meeting 
these specifications will be maintained in the Committee files for 
review and use by the Committee.
      
    3. A witness appearing at a public hearing, or submitting a 
statement for the record of a public hearing, or submitting written 
comments in response to a published request for comments by the 
Committee, must include on his statement or submission a list of all 
clients, persons, or organizations on whose behalf the witness appears.
      
    4. A supplemental sheet must accompany each statement listing the 
name, full address, a telephone number where the witness or the 
designated representative may be reached and a topical outline or 
summary of the comments and recommendations in the full statement. This 
supplemental sheet will not be included in the printed record.
      
    The above restrictions and limitations apply only to material being 
submitted for printing. Statements and exhibits or supplementary 
material submitted solely for distribution to the Members, the press 
and the public during the course of a public hearing may be submitted 
in other forms.
      

    Note: All Committee advisories and news releases are available on 
the World Wide Web at `HTTP://WWW.HOUSE.GOV/WAYS__MEANS/'.
      

     The Committee seeks to make its facilities accessible to persons 
with disabilities. If you are in need of special accommodations, please 
call 202-225-1721 or 202-225-1904 TTD/TTY in advance of the event (four 
business days notice is requested). Questions with regard to special 
accommodation needs in general (including availability of Committee 
materials in alternative formats) may be directed to the Committee as 
noted above.

                                

    Chairman Johnson. I'd like to call the hearing to order, 
and welcome the Chairman. I'm going to keep my opening comment 
very brief, Mr. Chairman, in recognition of your schedule.
    But this is an important hearing to hear the 
administration's proposal for the budgets of not only next 
year, but the 4 or 5 years following, and we hope they will 
give us greater insight during this hearing as to how they 
expect the IRS to become, as Deputy Secretary Summers said, a 
different IRS in the future under both their budget scenario 
and under their plans.
    So it's a pleasure to welcome you, Chairman Archer, to this 
Subcommittee hearing. I appreciate your willingness to testify 
on the important matter of the structure of the IRS, and the 
problems that we face at this time. And without further ado, 
unless my Ranking Member has comments----
    Mr. Coyne. Well, thank you, Madam Chair, and I welcome the 
Chairman here to testify today. Today's hearing will focus on 
two of the most important issues currently facing the Internal 
Revenue Service: The 1998 tax return filing season, and the 
proposed fiscal year 1998 budget for the IRS.
    The Oversight Subcommittee holds a hearing each year in the 
early spring to evaluate the IRS' efforts to assist taxpayers 
in filing their tax returns, and to review the administration's 
proposal for funding the various functions of the IRS.
    It is important that the Congress have a full understanding 
of where the IRS stands in administering our voluntary tax 
system, assisting taxpayers in their filing of tax returns, and 
planning for the coming year.
    Fortunately, the IRS will report to us that the agency has 
made great strides in improving taxpayers' ability to reach the 
IRS by telephone.
    Also the GAO will report that by and large the 1997 filing 
season is going very well. We all should thank IRS employees 
nationwide for their hard work and a job well done.
    Of concern to all of us, of course, continues to be the 
impact the IRS' downsizing and reorganization will have on our 
constituents, particularly their ability to comply with the tax 
laws and to obtain assistance from the IRS.
    Clearly, the Congress must continue to evaluate the effect 
IRS restructuring efforts will have on taxpayers and 
particularly on IRS customer service offices and problem 
resolution cases.
    The fiscal year 1997 appropriations bill requires the IRS 
to report to the Congress on these matters after March 1, 1997, 
before proceeding with its planned field reorganization.
    I would hope that the Oversight Subcommittee would review 
the IRS' report upon its release, and allow us to provide 
comment before reductions in force are implemented.
    Finally I want to welcome GAO and the panel of tax 
professionals for providing their insights into the operations 
of the IRS, and thank you, Madam Chair.
    [The opening statement of Mr. Ramstad follows:]

Statement of Hon. Jim Ramstad, a Representative in Congress from the 
State of Minnesota

    Madame Chairman, thank you for holding this important 
hearing on the IRS budget for FY 1998 and the 1997 tax return 
filing season.
    Just as we have asked every area of government to do more 
with less and eliminate waste, the IRS must continue to 
streamline its operations and improve its financial 
accountability. At the same time, this agency has a long way to 
go in delivering fair and courteous service to American 
taxpayers, who foot the bill for our government.
    I look forward to exploring IRS customer service and 
management issues in the context of our hearing today, 
especially in light of yesterday's statements by Deputy 
Treasury Secretary Larry Summers that the Treasury Department 
plans to increase its role and overhaul the IRS to focus on 
management.
    Again, Madame Chairman, thank you for your leadership in 
convening this hearing.
      

                                

    Chairman Johnson. Mr. Chairman.

  STATEMENT OF HON. BILL ARCHER, A REPRESENTATIVE IN CONGRESS 
FROM THE STATE OF TEXAS; AND CHAIRMAN, WAYS AND MEANS COMMITTEE

    Chairman Archer. Thank you, Madam Chair. I agree with you 
that this hearing is exceedingly important. The IRS has such an 
impact on each of our lives, often only psychologically, but at 
other times in an administrative way that encumbers us to a 
degree beyond what many of us would like to be encumbered.
    And I join you this morning to say a few words about the 
tax system and the Internal Revenue Service and the role that 
it plays in the lives of American citizens. I'm sure that most 
would agree with me that our Nation's Federal income tax laws 
have grown extraordinarily complex in recent decades.
    In some ways this is a natural outgrowth of the increasing 
complexity of the American economy. The financial affairs of 
American families are far more complicated today than in 
previous generations.
    Ownership of both financial and nonfinancial assets is more 
widespread and varied. Families have a greater variety of 
income sources. Business transactions are more complicated.
    In response, Congress has continually tried to refine the 
tax laws to match the rapid changes in our economy. The Tax 
Reform Act of 1986 added tremendous complexity to the Tax Code, 
while flying under the banner of simplicity, fairness and 
growth.
    The Internal Revenue Service is the agency tasked by 
Congress with the responsibility of enforcing the tax laws and 
collecting the taxes that are legally owed. And that is an 
important responsibility to our society, because the very 
functioning of the Federal Government depends on the American 
people's willingness to voluntarily pay the taxes that they 
owe.
    Now, that voluntary nature, of course, is enforced by some 
very tough rigid and potentially harsh sanctions.
    However, it is very difficult for the IRS to discharge its 
responsibility, because the complicated structure of our 
current income tax system necessarily interjects the IRS into 
our private lives. There is no question that the IRS has grown 
too powerful and too intrusive in recent years.
    However, this has come in direct response to the complexity 
of our current income tax system, and the pressure that 
Congress annually places on the IRS to collect taxes. And we 
should never forget that.
    The individual elements of the administration's five-point 
plan to restructure the IRS announced yesterday by Deputy 
Treasury Secretary Lawrence Summers are all sensible: Better 
customer service, less paperwork, greater oversight. Who could 
be against that?
    We heard that in 1986. We hear it over and over again all 
the time. But it really is a figleaf on the problem. Yet a 
figleaf is better than no clothes at all, and we should 
consider it in that way.
    But the plan's main shortcoming is it doesn't go far 
enough. Increased oversight by the Treasury Department of the 
IRS is only a part of the problem. The crux of the problem is 
the tax system itself. The IRS management failures which 
prompted the administration's five-point plan have to be viewed 
in the context of a Tax Code which has grown so horribly 
complex that a majority of Americans today must utilize the 
services of paid tax preparers to complete their tax returns.
    Madam Chair, I am happy to tell you that I continue to do 
my own personal income tax, and it is because of that that my 
awareness of the complexity of this Code has been heightened. I 
have always been of the view that if all of the Members of 
Congress had to do their own tax returns, we'd have a very 
different Tax Code.
    The Internal Revenue Code and regulations now come in at 1 
million words, and 9,000 pages. On average, the Code is 
``reformed'' once every 1.3 years. Just since the Tax Reform 
Act of 1986, several thousand sections have been added.
    According to 1995 IRS estimates, businesses will spend 
about 3.4 billion hours, and individuals will spend about 1.7 
billion hours embroiled in tax-related paperwork. That means 
nearly 3 million people--more than all those serving in the 
U.S. Armed Forces, work full time all year just to comply with 
the tax laws at a cost of some $200 billion a year. And I 
frankly believe that $200 billion is a conservative estimate.
    This translates into a tremendous productivity loss for our 
Nation. I talked to the chief executive officer of one of our 
major corporations 2 weeks ago, and he said in their most 
recent audit that the paperwork stacked 200 feet high. For 1 
year's audit, for one corporation.
    The answer isn't just another IRS oversight organization. 
What we need is a tax system that is fundamentally fairer than 
the current income tax, that contains no loopholes or special 
treatment for favored interests, a tax system that is vastly 
simpler, a tax system that is capable of enforcement in a far 
less intrusive manner, both in terms of reducing the burdens 
placed on the American citizens to comply with the system, and 
eliminating the need for an intrusive agency to administer it.
    A tax system that enhances, rather than impedes, savings 
and investment, economic growth, and advances U.S. living 
standards. A tax system which can respond more flexibly to 
rapid changes in information technology. And a tax system that 
gets at the underground economy.
    I'm convinced that there is no single, more important 
action that President Clinton can take in his second term to 
build a strong bridge into the 21st century than to join me in 
seeking a new tax system that is fairer, simpler, less 
intrusive and more conducive to economic growth.
    I am committed to working with the administration on a 
bipartisan basis to achieve this goal.
    Let me make one last point, and this is very important: As 
long as we have an income tax, we must have an IRS that has the 
resources and the tools to perform the mission that it has been 
given by the Congress. That means that the IRS must receive 
adequate funding.
    I am glad that the administration has stepped up to the 
plate and indicated its commitment to bring discipline and 
accountability to the IRS and its Tax Systems Modernization 
effort.
    As we all know, recently the IRS admitted that it had spent 
over $4 billion on a computer system that doesn't work.
    In the short run, there is no more important action we can 
take in terms of improving the quality of the IRS' services to 
the Nation's taxpayers than a successful completion of the 
computer modernization system.
    And I say successful, and it is going to be a daunting task 
to try to deal with administering this exceedingly arcane Tax 
Code.
    I also agree in concept with the information technology 
investment account proposed in the IRS' fiscal year 1998 
request to fund future computer projects.
    However, I agree with my colleague, Jim Kolbe, the Chairman 
of the Appropriations Subcommittee, Treasury, Postal Service, 
and General Government, that Congress should not commit to 
spend any more funds on computer modernization until a plan for 
completing this effort has been approved and specific and 
viable projects have been identified.
    Once those pieces are in place, capital budgeting for the 
IRS' long-term investments is a concept we should adopt. Again, 
however, the answer in the long run is not just better IRS 
oversight; we must fundamentally reform our tax laws to 
eliminate the incredible complexity which necessarily injects 
the IRS into each of our individual lives.
    And I thank you for listening.
    [The prepared statement follows:]

Statement of Hon. Bill Archer, a Representative in Congress from the 
State of Texas; and Chairman, Ways and Means Committee

    I wanted to join you this morning to say a few words about 
our tax system and the Internal Revenue Service and the role it 
plays in the lives of American citizens. I'm sure all of you 
agree with me that our nation's federal income tax laws have 
grown extraordinarily complex in recent decades. In some ways, 
this is a natural outgrowth of the increasing complexity of the 
American economy.
    The financial affairs of American families are far more 
complicated today than in previous generations. Ownership of 
both financial and nonfinancial assets is more widespread and 
varied. Families have a greater variety of income sources. 
Business transactions are much more complicated. In response, 
Congress has continually tried to refine the tax laws to match 
the rapid changes in our economy. The Tax Reform Act of 1986, 
in particular, added tremendous complexity to the tax code.
    The Internal Revenue Service is the agency tasked by 
Congress with the responsibility of enforcing the tax laws and 
collecting the taxes that are legally owed. This is an 
important responsibility, because the very functioning of the 
federal government depends on the American people's willingness 
to voluntarily pay the taxes they owe. However, it is also a 
very difficult responsibility, because the complicated 
structure of our current income tax system necessarily 
interjects the IRS into our private lives.
    There's no question that the IRS has grown too powerful and 
too intrusive in recent years. However, this has come in direct 
response to the complexity of our current income tax system and 
the pressure that Congress annually places on the IRS to 
collect revenues.
    The ultimate answer to this problem is not increased 
oversight by the Treasury Department over the IRS. The 
individual elements of the Administration's five-point plan to 
restructure the IRS announced yesterday by Deputy Treasury 
Secretary Lawrence Summers are all sensible--better customer 
service, less paperwork, greater oversight--who could be 
against that? The plan's main shortcoming is that it does not 
go far enough.
    The problem is the tax system itself. The IRS' management 
failures which prompted the Administration's five-point plan 
have to be viewed in the context of a tax code which has grown 
so horribly complex that a majority of Americans today must 
utilize the services of a paid tax preparer to complete their 
tax returns.
    The Internal Revenue Code and regulations now come in at 
one million words and 9000 pages. On average, the code is 
``reformed'' once every 1.3 years. Just since the Tax Reform 
Act of 1986, several thousand sections have been added. 
According to 1995 IRS estimates, businesses will spend about 
3.4 billion hours and individuals will spend about 1.7 billion 
hours embroiled in tax-related paperwork. That means nearly 
three million people more than all those serving in the U.S. 
armed forces work full time all year just to comply with the 
tax laws, at a cost of some $200 billion a year. This 
translates into a tremendous productivity loss for our nation.
    The answer isn't another IRS oversight organization. What 
we need is:
     a tax system that is fundamentally fairer than the 
current income tax, that contains no loopholes or special 
treatment for favored interests;
     a tax system that is vastly simpler;
     a tax system that is capable of enforcement in a 
far less intrusive manner, both in terms of the reducing the 
burdens placed on American citizens to comply with the system, 
and eliminating the need for an intrusive agency to administer 
it;
     a tax system that enhances, rather than impedes, 
savings and investment, economic growth and advances U.S. 
living standards;
     a tax system which can respond more flexibly to 
rapid changes in information technology.
    I am convinced that there is no single more important 
action that President Clinton can take in his second term to 
build a strong bridge into the 21st Century that to join with 
me in seeking a new tax system that is fairer, simpler, less 
instrusive and more conducive to economic growth. I am 
committed to working with the Administration on a bipartisan 
basis to achieve this vital goal.
    Let me make one last point and this is very important as 
long as we have an income tax, we must have an IRS that has the 
resources and the tools to perform the mission it has been 
given by Congress. That means that the IRS must receive 
adequate funding.
    I'm glad that the Administration has stepped up to the 
plate and indicated its commitment to bring discipline and 
accountability to the IRS and its Tax Systems Modernization 
effort. In the short run, there's no more important action we 
can take in terms of improving the quality of the IRS's 
services to the nation's taxpayers than a successful completion 
of computer modernization.
    I also agree in concept with the Information Technology 
Investment Account proposed in the IRS's FY 1998 to fund future 
computer projects. However, I agree with my colleague, Jim 
Kolbe, the chairman of the Treasury, Postal Appropriations 
Subcommittee, that Congress should not commit to spend any more 
funds on computer modernization until the plan for completing 
this effort has been approved and specific and viable projects 
have been identified. Once those pieces are in place, capital 
budgeting for IRS's long-term investments is a concept we 
should adopt.
    Again, however, the answer in the long run is not better 
IRS oversight. We must fundamentally reform our tax laws to 
eliminate the incredible complexity which necessarily injects 
the IRS into our private lives.
      

                                

    Chairman Johnson. Mr. Chairman, I thank you for your 
testimony. I agree with it wholeheartedly. As you are aware, we 
have been holding hearings to follow up on the provisions of 
the Taxpayer Bill of Rights 2. And one of those provisions was 
to have the taxpayer advocates bring to this Subcommittee the 
problems they see on the frontline there with the ordinary 
person with an ordinary problem trying to get timely and 
accurate assistance from the IRS.
    And while generically the hearing was a failure, because 
the leadership provided a list that we have seen since 1993, 
functionally it was a success, because for the first time we 
had advocates from around the country sitting at this table. 
And one of the things in spontaneous conversation that was 
brought up was the impossibility of implementing some of the 
complex proposals that we have passed here in the Congress 
recently, and changed repeatedly, like the EITC.
    And to hear a taxpayer advocate sit there and say, Look, 
just take the money, and put it out through a program that's 
used to dealing with means testing, but don't try to ask us to 
implement this tax law that we can't do without a high level of 
fraud.
    It was very revealing, and it puts face and voice behind 
what you're saying. And I hope that the Treasury will be far 
more forthcoming, and I appreciate your offer to work with 
them. But I hope they will be far more forthcoming with us and 
with the public in terms of their vision.
    Because Deputy Secretary Summers did note in recent 
testimony before the Treasury, Postal Service, and General 
Government, Appropriations Subcommittee that it should be clear 
that a smaller IRS will not be able to do the work that needs 
to be done unless it is also a different IRS, and it could only 
be a different IRS if it is also a different Code.
    And while I appreciate Secretary Summers' comments 
yesterday on reorganization, I'd have to say Where's the beef? 
I was truly disappointed that at this juncture, when we have a 
Restructuring Commission, when through the Taxpayer Bill of 
Rights we have asked for a lot of information that will help us 
really deal with restructuring issues, and when the 
administration did acknowledge the complete collapse and 
failure of the modernization systems, the Tax Systems 
Modernization Project, that they didn't come forward with a 
plan that had, frankly, more to it.
    What they did do was to acknowledge the many changes that 
the current Commissioner, Commissioner Richardson, has put in 
place as a response to her very deep concern with the ability 
of the IRS to serve the people and to carry out its function. 
And she has done some very good things, and they are all 
important, and they are all steps, and they need to be 
recognized.
    But they don't constitute a vision of a slimmer, trimmer, 
more efficient, more effective, more responsible to the 
ordinary person taxpayer IRS. And that's really where we are 
and where we have to start moving aggressively and 
deliberately.
    And I thank you for your testimony because without that 
kind of insight we cannot do the job the Congress is called 
upon to do with the IRS and preserve not only our voluntary 
system of revenue collection that funds our great and free 
society, but to do it in a way that is increasingly fairer and 
simpler and more intelligible so that all of us on the Ways and 
Means Committee can do our own taxes, never mind the ordinary 
American citizen out there.
    I thank you for your comments.
    Chairman Archer. It's a pleasure to be with you. Let me 
just cite one very, very small part of the Tax Code as 
evidence, anecdotally, of the tremendous complexities. Whether 
or not you are the head of a household is a pretty basic thing 
to many, many people in this country, because if you're the 
head of a household then you get a different tax treatment.
    To determine whether you are the head of a household, an 
IRS agent must ask you 42 questions and get the answers to 42 
questions before that agent can definitively tell you that you 
are the head of a household.
    That's just one minor part of the Code to evidence the 
complexities. And so we're going to run aground if simply all 
we try to do is get a more efficient IRS until we get rid of 
this Tax Code.
    And, of course, as you know, I want to abolish the income 
tax completely and totally, not simply try to make it better, 
because I think inherently income taxes are flawed.
    Everybody's got a different definition of income. You talk 
from one economist to another and they don't agree on what 
income is. And you are forever trying to define income, and as 
you try to define it you inevitably get to the complexities 
that we have in the current Code today.
    Chairman Johnson. Well, Mr. Chairman, it's a privilege for 
this Subcommittee to have you testify before us. We are the 
Oversight Subcommittee. I don't know how far we have to go back 
in history to find another Chairman of the Ways and Means 
Committee who does his own taxes. And your knowledge of the 
Code at this particular juncture in history is going to be of 
enormous importance, not only to the Ways and Means Committee, 
but to the American people. And I thank you for being with us 
here today.
    Chairman Archer. Thank you, Madam Chair.
    Chairman Johnson. Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chair. I, too, want to welcome 
the Chairman here today and welcome your spirit of 
bipartisanship in saying that you're committed to working with 
the administration on a bipartisan basis to achieve a fairer, 
simpler and less intrusive Tax Code, and also that you 
recognize the necessity to have a fully funded or an adequately 
funded IRS to do the job that needs to be done with the present 
Code as we know it.
    And, of course, we all have concerns about the 
modernization problem. And I know that you're willing to work 
to achieve computer modernization and to get it done in the 
right way. Thank you.
    Chairman Archer. Thank you, Mr. Coyne.
    Chairman Johnson. Mr. Portman.
    Mr. Portman. Thank you, Madam Chair. And, Mr. Chairman, 
thank you for being here and for all you are doing to promote 
simplification and new thinking in our tax system. You've been 
a tireless advocate for it, and I want to personally thank you 
for the support you've given this Commission to Restructure the 
IRS.
    I know it's not advocating the kind of consumption tax that 
you think is so necessary to pull the IRS out by its roots and 
truly transform our system into the next century. But 
nonetheless, you've been supportive of the effort and 
understand that short of fundamental tax reform that you 
advocate, and that I happen to support as well, we do need to 
make changes in the IRS.
    And I want to thank you again for this morning extending 
your hand to work with us to come up with changes that really 
make sense, even in this imperfect world, to make the IRS work 
better.
    I agree with many of your statements with regard to 
Treasury's proposal yesterday. Among other things, it was said 
in the proposal that fundamental tax reform would not 
necessarily simplify the Code, and would not necessarily make 
the IRS' job easier. I think that is difficult to defend.
    I think it is absolutely true that we need fundamental tax 
reform in order to move the system in a more aggressive way to 
make it easier on the taxpayer.
    But short of that, I do think there are things we can do, 
and really look forward to working with you on that. You and I 
have discussed several times the issue of simplification, even 
within our existing Code.
    No one knows the Tax Code better than you in Congress in my 
view. I wonder if you would have any thoughts on whether short 
of, again, structural tax reform this year we might be able to 
move something forward to simplify our tax system.
    Because, as you say, we are not going to be able to make 
the kind of progress we would all like to see at the Internal 
Revenue Service, I think, until we give the people lined up 
behind you better tools.
    Do you have any thoughts on that?
    Chairman Archer. Well, I think we should pursue trying to 
simplify the Code that we currently have, as we await that 
halcyon day of structural tax reform where we can throw out the 
income tax completely.
    We have that responsibility to try to improve it, 
constructively. And with the work that you've been doing, and 
the analysis that you and others have been doing, our 
Subcommittee should consider that. We have the question of 
revenue loss, of course, and what becomes very, very difficult 
is that when you begin to simplify, generally you are looking 
at revenue losses.
    But to the degree that we don't have any significant 
revenue loss, I would hope that we could pursue some type of 
effective simplification this year.
    Mr. Portman. We'd love to work with you on that through the 
Commission, through the Full Committee and this Subcommittee. 
Let me just make one final comment, and that is that after the 
last 9 months of analyzing the various challenges the IRS faces 
and problems at the IRS, I think it is fair to say that all 17 
Commissioners, many of whom came at it, frankly, from a 
different perspective, now believe that if we do not address 
simplification, we will not have done our job.
    Certainly there are other problems at the IRS that need 
addressing, some of which were discussed yesterday by the 
Deputy Secretary of the Treasury. We believe that some of those 
solutions make sense. Some of them don't go far enough.
    But I think it's fair to say that all 17 members, and this 
includes a former Commissioner, as you know, a representative 
of taxpayer advocate groups, the head of the union for the 
Treasury Department, and a lot of experts from around the 
country, now truly are committed to the notion of 
simplification--really following along the lines of what you've 
been talking about for years.
    And again, short of major structural tax reform, I would 
hope that we could move in that direction. Thank you, Mr. 
Chairman.
    Chairman Archer. Thank you, Mr. Portman. Thank you for the 
good work that you've been doing in trying to lead us down the 
path toward a simpler income tax.
    Chairman Johnson. Mr. Ramstad.
    Mr. Ramstad. Thank you, Madam Chair. Mr. Chairman, I, too, 
want to applaud your strong, outspoken and effective leadership 
in this area. It's accurate to say that no one in this Congress 
or this town has done more to highlight the need for major tax 
reform than you, and we all appreciate that.
    And I also appreciate the comments of Mr. Coyne. We do need 
to work together in a bipartisan, pragmatic way to get this 
done. I saw this headline this morning, after running my 3 
miles, and it set me back.
    This is not about heading off the GOP. The headline reads, 
Clinton IRS Plan Seeks to Head Off GOP. This is not about 
politics as usual. It's not about us trying to preempt them or 
trying to outdo them politically. This is something that there 
is strong unanimity, certainly, among the American people that 
we do need major, structural tax reform, that the present 
system is neither simple nor fair--two requisite elements, as 
we all know, for any legitimate tax system.
    So I truly hope that those at the other end of Pennsylvania 
Avenue understand, as well as those on this Subcommittee and in 
this Congress, that we do truly need to work together, because 
that's what the American people want, and that's what they 
deserve.
    And I was encouraged. My question was the same as Mr. 
Portman's. I think most recognize that we probably will fall 
short of major structural reform this year--of a complete, 
sweeping, comprehensive overhaul of the system--but that we 
should enact simplification.
    I was very encouraged by your response, as well as your 
testimony. So thank you, again, Mr. Chairman. Madam Chair, this 
is an important area. I don't think anything is more important 
to the American taxpayers than what we're talking about today. 
Thank you.
    Chairman Johnson. Thank you very much, Mr. Ramstad, and I 
agree with you absolutely. It's not about one party beating 
another. It's about service to the American people, and whether 
or not a great and free Nation like America can keep in place a 
voluntary tax system. And we are really there now. We have to 
deal with this, and your comments are right on, as is the 
Chairman's testimony.
    Mr. Watkins.
    Mr. Watkins. Madam Chair, with all respect, I just walked 
in. May I yield to my colleague from Missouri, and then I'll 
take the last shot?
    Chairman Johnson. All right. I'll recognize Mr. Hulshof.
    Mr. Hulshof. Thank you, Madam Chair. Mr. Chairman, it's 
good to be here. I just learned that you and I have something 
else in common. I, too, do my own taxes. I took every tax law 
course that the University of Mississippi had to offer.
    I noticed that during your testimony that some of the 
representatives from the IRS that are here in the room began to 
shake their heads in disagreement with some of the things you 
had to say. And my only comment would be when I'm chewing my 
pencil trying to muddle through the tax forms as I do my taxes, 
I'm very violently shaking my head in disagreement, and 
certainly applaud all your efforts, as we move toward a simpler 
tax system.
    I also applaud, Madam Chair, that this is a dialog that I 
think the people of this country need to participate in. Any 
time we have some major reforms--and I look at certain reforms 
that have been attempted in the past, regarding health care, 
Medicare, when we don't bring in the American people it's 
difficult to make our case.
    So I certainly appreciate, Mr. Chairman, your testimony as 
we begin to bring the American people into this dialog as to 
what sort of tax system they would prefer. And again, I 
appreciate your testimony here today.
    Chairman Johnson. Thank you. Mr. Watkins.
    Mr. Watkins. Thank you, Madam Chair. Mr. Chairman, I think 
like all Americans I would like to have more simple tax--I 
don't do mine. I have to get a CPA to do it.
    But my concern is something I think we share, and that's 
whatever changes we make, we try to make this an economic 
growth package, a package with changing tax structure that 
would allow us to see more economic growth.
    And I keep pushing this, and I wanted to just make a little 
more record on it again, that it seems like the administration 
has settled for a low economic growth policy. And I think it 
shouldn't be dismissed by the Congress or the American people 
that with this type of policy, it's not meeting our present-day 
needs, and puts tremendous burden on trying to find the revenue 
to try to carry out the functions of government today.
    But also it's selling the future of our children and our 
grandchildren down the drain here in America. I think we have 
got to try to change the tax structure that will enhance our 
economic growth in the United States. Because we're in a 
global, competitive world. We're not going to go back to an 
isolated country and we're going to lose our leadership in the 
economic world in the next decade or so if we don't make some 
changes today or in the days and months ahead.
    So with whatever structure changes we make, if it's tax 
simplification, if it's a flat tax, a modified consumption tax, 
whatever, I think we've got to--I keep emphasizing, every group 
that comes into my office, I talk about it, every group back 
home I talk about it, that if we continue to settle for a low 
economic growth policy, we are selling the future down the 
drain for our children and our grandchildren.
    And I think it behooves, and I want to be there trying to 
do everything I can during my tenure here in Congress to try to 
change our tax structure to the extent that will allow us and 
enhance that opportunity.
    And so as we go about trying to simplify, I hope we will 
always continue to try to put the economic growth out front, 
because we're going to need it. So I thank you.
    Chairman Archer. Mr. Watkins, thank you for your comments, 
and although the focus, I know, of this hearing is primarily 
simplification and perhaps fairness, the gentleman from 
Oklahoma is absolutely correct.
    We need a Tax Code that will give us an advantage, 
competitively, in the world marketplace, not a disadvantage.
    And the current Income Tax Code disadvantages us in our 
ability to compete with our foreign competitors, and as a 
result of that, impact negatively on our ability to grow and 
create jobs for export, which are the best kind of jobs.
    And the gentleman is absolutely correct. That should be a 
major factor in our consideration, when we do start talking 
about restructuring our entire tax system.
    Chairman Johnson. Mr. Chairman, we thank you for your 
testimony and we look forward as a Subcommittee to working with 
the Full Committee on these issues. We are, as you know, 
represented on the Restructuring Commission, the Commission 
that will propose how we restructure the IRS to better 
accomplish its goals, by both Mr. Coyne and Mr. Portman.
    And we will be coming to you with proposals. We will be 
holding hearings on those. But it is appropriate that at this 
budget hearing we find ourselves talking about restructuring as 
well as Tax Code reform.
    In the current budget, the administration proposes putting 
more money into telephones and telephone access for customers. 
Well, that's, of course, important. It's one of the big 
problems that they have.
    But they take the money from document matching and 
examination activities, which is the way we collect money that 
isn't voluntarily paid. And they anticipate that because of 
this diversion of resources we will collect $35 billion instead 
of $38 billion next year. So we're going to lose $3 billion in 
revenue because of the place from which we're going to take 
resources to be more responsive to the ordinary citizen who has 
an ordinary problem with the IRS.
    Surely we can do better than robbing Peter to pay Paul. 
Surely it is time now to look at the budget, look at the Code, 
look at the agency structure and act. And I think your comments 
today have given us a very clear indication of what the 
principles are that ought to underlie our Tax Code and 
therefore direct our action, both as we look at Tax Code 
reform, and as we look at the agency structure that we need to 
have in place to implement that Tax Code.
    So I thank you for your testimony here today. This is a 
moment in history of great importance.
    Chairman Archer. Well, I welcome, and I will look forward 
to the recommendations of your Oversight Subcommittee, and 
again I applaud all of you in a bipartisan basis for what 
you're doing. Thank you.
    Chairman Johnson. Thank you, Mr. Chairman.
    I would like to call Mr. Dolan, the Deputy Commissioner of 
the IRS.
    Mike, I'd like you to introduce everybody before you begin, 
and I hope in your testimony you will address the very 
significant challenge of the current budget, which is over the 
next 5 years to carry out the mission of the IRS with what will 
be effectively $1 billion less in resources by the year 2002, 
and with 541 fewer employees than in 1997.
    We face an enormous challenge, and I hope your testimony on 
your budget will be not only about numbers but about structure 
and reform. Because if we don't talk about these things now, I 
think we set both the IRS and our form of government up for 
troubled waters and possible failure in the decade ahead.
    I would like you to introduce your people, and I welcome 
your testimony.

   STATEMENT OF HON. MICHAEL P. DOLAN, DEPUTY COMMISSIONER, 
  INTERNAL REVENUE SERVICE; ACCOMPANIED BY TONY MUSICK, CHIEF 
     FINANCIAL OFFICER; DAVE MADER, CHIEF, MANAGEMENT AND 
ADMINISTRATION; ARTHUR GROSS, ASSOCIATE COMMISSIONER AND CHIEF 
INFORMATION OFFICER; AND JIM DONELSON, CHIEF, TAXPAYER SERVICE, 
                  AND ACTING CHIEF, COMPLIANCE

    Mr. Dolan. Thank you, Madam Chair. It's a pleasure to be 
here with my colleagues today, and I'll start from my left. 
Tony Musick is our Chief Financial Officer. To my immediate 
left, Dave Mader, is our Chief of Management and 
Administration. To my immediate right is Art Gross, our 
Associate Commissioner and CIO. And to his right is Jim 
Donelson, who is the Chief of Taxpayer Service, and Acting 
Chief of Compliance.
    And we very much appreciate the opportunity to accept your 
invitation and to focus chiefly on the budget and on the filing 
season. We've got, Madam Chair, a longer statement that 
hopefully goes into a little more detail on some of the 
subjects that you asked about.
    Chairman Johnson. Certainly. That will be included in the 
record, Mr. Dolan.
    Mr. Dolan. I'd like to do an opening statement, and to the 
extent I don't meet your standard of what you'd like me to 
comment on, I'm certainly prepared to answer any questions.
    I was going to start off by saying that it might be an 
understatement on my part to say that these are challenging 
days to be in tax administration. But I think that between 
Chairman Archer and the balance of the panel you sort of made 
that case.
    I think that you, Madam Chair, and Chairman Archer pointed 
out some things that we confront every day, and not only with 
respect to the complexity of the Code. First, there is an 
expectation among our customers that they are entitled to and 
do receive first-class treatment.
    Second, we are part of a mosaic that finds a total 
shrinking budget available to do what are ``discretionary'' 
things within the current budget structure. And finally, you, 
Madam Chair, talked about the structure.
    We are in the midst of taking an organizational structure 
born when geographical segmentation and functional segmentation 
made more sense than it does today: When the underlying 
taxpayer population is more mobile; when what is going on in 
the economy has evolved much, as Chairman Archer said, from the 
days of sort of stand-alone financial life and big corporations 
to today where financial life is a lot different.
    It's a lot more dynamic. It is a lot more interdependent, 
and it is not subject to neat little functional or geographical 
boxes. And that underlies some of the changes that we have set 
out to make in the last couple of years.
    And last, one of the realities with which we operate today 
is that our technology infrastructure strains under the 
business problems that we try to solve day in and day out.
    Some of those business problems are a function of the Tax 
Code. Some are a function of the size of our customer base. 
Some are a function of the expectations of our customers.
    Some of them are functions of laws that require us--in the 
CFO Act or other places--to make our systems comply with 
standards that are enacted after the systems were in place.
    So without question our technology systems today are 
strained, not only under the business problems they solve, but 
also under the century date problem, such that like any other 
major enterprise in America, we have a major, major challenge 
in making our systems compliant with the century date problem.
    Significant work lies ahead of us on all those subjects, 
and I think the seriousness of that couldn't be any more amply 
documented than the work that the Restructuring Commission has 
done, or the work represented in yesterday's announcement by 
Deputy Secretary Summers. Both of those I think adequately and 
vigorously put a spotlight on the work that remains.
    One of the things I'd like to not have lost in that 
process, though, is the fact that a fair amount of progress has 
been made, and I respect, Madam Chair, the comments you made at 
the outset about the Commissioner's devotion of her energies; 
it's not all about future victories.
    A lot of points have been put on the board in recent years 
that don't represent the whole solution, but represent the kind 
of progress that I think all of us are committed to to make the 
system work as effectively as possible.
    Some of those really back up against a basic vision that 
we've had for some time, and the vision has two or three pieces 
to it that aren't rocket science. The first piece of the vision 
is that we think it's now fundamentally easier for people to 
receive information from us, to file, to make payments to us, 
and to get payments back from us.
    I mean, those are the kinds of key front-end transactions 
that the vast majority of Americans have with us, and 
thankfully they don't need to have another transaction after 
that. But that whole process of focusing on how you make that 
easier in large part means how you can support it with more 
electronic commerce.
    But that whole function of the interface with the customer 
is a key part of our vision. The next one would be our customer 
service capacity. We have got to have a capacity to perform the 
way people have come to understand and expect from the best of 
the retail industry.
    And to do that means a couple of things. One thing it means 
is that we have to allow folks broad access to us, so that if 
they have a question, or they're trying to meet an obligation, 
they have an opportunity to get to us.
    The other thing that we have to do, and I think we have 
made some progress in doing it, is when somebody has a problem, 
we've got to be able to resolve it--resolve it quickly and 
resolve it finally.
    Another part of our vision anticipates change in the 
compliance arena. And you quite accurately refer to one aspect 
of our compliance program that will look different in 1998 than 
it has in the past. Overall, Madam Chair, we've got a vision of 
compliance that says yes, many of the tried and true elements 
of audits and accounts receivable have got to be a component of 
any compliance strategy.
    But there's no way that you solve this compliance issue, or 
resolve this compliance gap, in only retail, after-the-fact 
transactions. We've got to find more and more effective up 
front ways of segmenting noncompliance, and dealing with the 
segments as more preventative as opposed to strictly the after-
the-fact, retail kinds of things.
    And I think we've done a number of things that have started 
us on that path.
    And last, the key piece of the vision that we seek to 
deliver to the American public does indeed require us to 
modernize and modernize effectively our information technology. 
I think it is clear that we have to have a new corporate data 
capacity. We don't have to have one that's mandated and 
splintered and changed at the margin. But we have to have a 
capacity to collect what is probably the most important asset 
the current tax system has--which is the data that underlies 
our individual compliance patterns and our individual 
compliance needs.
    And we've then got to have a way--within that corporate 
structure--to manage that data much more dynamically and 
robustly than we do today. And last, the data has to find its 
way easily into the hands of the customer service person, or 
the compliance person who is trying to do their job.
    Those are the components, the vision. I think if we can 
create that kind of a technology infrastructure, it will, 
indeed, allow us to leverage the first three or four pieces of 
that system.
    I think the filing season this year is evidence that some 
of this is already taking hold, as you pointed out in your 
opening remarks. And I think the GAO will come in behind us and 
say that by most conventional standards, this filing season is 
going well.
    One thing that helps us, and always helps us, is if there 
is no major tax law change. And none of us counted what went on 
in the last Congress as major tax law change, although I know 
you know, Madam Chair, that there were still several hundred 
changes that we ended up trying to embrace this year, either as 
a part of the immediate filing season, or the ones to follow.
    But it helps us to be able to enter the filing season 
without a major set of tax changes.
    In the notion of trying to improve that access, that front-
end access, one thing that we're very proud of this year is 
that we have made some strides in the telephone access. We've 
made some tradeoffs, and I'd like to come back to maybe respond 
to both questions and more directly to your concern about 
whether they are the right tradeoffs, and whether they are 
robbing Peter to pay Paul.
    But we've made some choices that basically said to us, 
based on our experience over the last 2 or 3 years, when we 
were answering the questions--and answering them well--about 
half of our customers were unable to get to us.
    None of us are satisfied with operating in that 
environment. You can answer every question right, but if half 
of your customers can't get to you, it's a loser. And so that's 
a large part of what we have tried to do. We tried to gut our 
way through this year by taking that level of access to a point 
that we still haven't achieved, but we're answering in excess 
of 70 percent of the people who are trying to get to us now.
    Our notion also is that we're going to learn some things 
this year. Some part of the volume that's been out there in the 
past years is going to be moderated if we can indeed answer 
people when they want to get to us in the first instance, and 
that doesn't create a repeat customer call.
    The other thing we have done fairly effectively this year 
is to do more than just throw resources at telephone calls. Not 
for a moment have we wanted to play a pat hand or just meet the 
demand that's out there. We know we've got to try to affect the 
demand.
    And one of the things that we've been very successful at 
this year has been going through our whole notice family and 
looking at our notices. Last year we sent about 100 million 
notices out. Many of those notices prompt people to ask us, 
``What is it you're really trying to say to me? What should I 
do as a result of this transaction?''
    Some of the notices are written in governmentese rather 
than in English. So, we have been about a very deliberate 
process that at this point in time has let us take out of the 
system 12 notices and something in the neighborhood of 18 
million actual mailouts to customers.
    We've got a second wave that we talk about in more detail 
in my statement that will eliminate the next series of notices 
and maybe another 3 million issuances.
    In addition to making a variety of access points available 
to taxpayers, we've done some significant work, as you know, 
Madam Chair, in terms of creating the flexibility for people to 
come in and talk to a live assister or to use a voice response 
unit, or to use our TeleTax system, which covers 148 questions.
    And last year our telephone traffic was evenly split with 
45 million calls to the nondirectly assisted system, and about 
45 million to the directly assisted system. This year we hope 
to answer another 15 million of the directly assisted and to 
get another 2 to 3 million calls into the automated systems.
    Additionally, this year, we've segmented out two other 
kinds of calls. We've segmented out the person who comes to us 
with a notice. Somebody who has a notice from us is trying to 
pay, trying to figure out what they have to do to satisfy their 
obligation. We've created an access point for that person that 
hopefully guarantees a much higher probability that that person 
is able to get through.
    And the second type of call segmented was selected to take 
what is a pretty significant inventory of people who only want 
to know about their refund and segment those calls so that we 
aren't consuming the energy of an IRS employee who might be 
able to answer a more complex call with the kind of question 
that could be more easily and more quickly answered on just the 
status of a refund.
    We've done something else that signals where we are trying 
to go. In the old days if you wanted a tax return, whether you 
wanted to file your tax return or you asked your accountant to 
do it, you typically either got the package from us in the 
mail, or you went to the bank, the post office, or the library.
    Increasingly we've tried to create other ways for people to 
do that. Now, we give the practitioners--and we make widely 
available--a CD-ROM capability so that they don't have to have 
a storeroom full of forms, but can take the CD-ROM and have 
available to them the forms and schedules that they can print 
as needed.
    We've had a very good experience in the fax forms arena. A 
taxpayer who has access to a fax and finds himself on April 14, 
or Sunday on the kitchen table, can dial through, 24 hours a 
day, identify from a menu the form or the schedule they need, 
and have us fax it to them.
    And then last, I know we've bragged a lot about our Web 
site. And that has been a terrific success by most standards, 
private or public. Last year at this point we had 29 million 
hits. This year, so far, there are 82.9 million hits, and we 
know some of the hits are people downloading forms and 
publications. Over 1 million have been people who have got 
their forms or publications that way. A bunch of the rest of it 
is coming into our 148 most asked questions, and, again, 
hopefully bringing the demand down for the telephones.
    As for easier filing methods, one of the things that we 
have said is we'd like to have electronic commerce or an 
electronic filing strategy that takes everybody's returns in 
electronically. We'd love to have that.
    We know in some part the way to get there has to do with 
the way we effectively design and market electronic filing. And 
in part it has to do with what taxpayers or customers really 
want to do with their tax returns or their data.
    But one of the things we've tried to do each year is make 
incremental progress with electronic filing. And the product 
that we first introduced nationwide last year, the TeleFile 
product, once again looks like it's going to meet with even 
better success.
    At this point this year we've got 3.6 million TeleFile 
returns as contrasted with only 2.3 million last year, which is 
a 54-percent increase at this point in the year. We expect that 
product again to find its way into the marketplace of 26 
million people who are eligible for it.
    Regular electronic filing is also up by 18 percent this 
year. Fed/State, which allows a person to have one transaction 
and to feed both the Federal and the State interest, is up by 
34 percent this year.
    And we're about to do something new, which I think is kind 
of a neat way to take the TeleFile product, which has worked 
well in the individual market, to the business market. With the 
quarter that will end in March, we will invite nearly 1 million 
taxpayers in the 14 Southeastern States to do their 941, their 
quarterly tax deposit, with a touch tone telephone, and make 
that transaction a TeleFile type transaction.
    So, again, we are not where we would love to be overall in 
the final state, but these are steps toward the final vision 
that says it's got to be made easier for people to get in touch 
with us and to have a transaction with us.
    We are due to go back to the management, the Treasury 
Modernization Board in May to talk about how to take the 
electronic tax administration strategy to the next level. We 
think that answer can only involve a very healthy partnership 
with the private sector.
    We clearly know that there are issues in the commercial 
sector--whether it's the tax preparation, the financial 
services, the banks--the entire suite of folks involved in that 
sector are going to propose answers as to how they can assist 
the development of an electronic tax administration strategy. 
We very much look forward to that.
    I am going to very quickly talk about the budget. I know 
you have--perhaps--some of your most significant questions 
there, and so I will try to anticipate a couple, but then be 
ready for others.
    Last year, as I think you know, Madam Chair, we went 
through a pretty difficult transition from fiscal year 1995 to 
1996. We found ourselves with the tick of the fiscal year clock 
having about 6,200 more people on the payroll than we had money 
to pay.
    So we essentially spent all of 1996 wrestling with that 
problem. And it wasn't as if we had unlimited options, because 
there were some givens. You've got to run a filing season. 
You've got to anticipate the telephone demand. You've got to 
get refunds out on time.
    So when you take those givens, that there are 6,300 people 
more or less that you can't pay for, but you know you've got 
some givens that must be paid for, we did about the only thing 
that was available to us: We took the dollars that weren't 
associated with permanent salaries, the dollars that are in our 
seasonal and WAE's and tried to line them up first to ensure 
that the returns got processed timely, then that the refunds 
were made timely, and then that we were able to answer as many 
calls as we possibly could.
    That was not a pretty process. That was a process that had 
us taking staff years based more on the nature of the staff 
year, the fact that it was a temporary dollar that didn't have 
a body onboard, and using the available resource to plug what 
we thought were the most critical parts of our mission 
delivery.
    Beyond that, we did some other things that didn't make a 
lot of sense. We cut training to an alltime low. We cut travel 
in a way that was not optimum. We made some choices about 
enforcement expenses: When we would file liens and when we'd 
bring expert witnesses in on some transactions, as a result, 
not necessarily of any grand, strategic plan, but as a result 
of trying to use 1996 to transition from an environment that we 
thought was going to be a 5-year revenue initiative to one that 
turned out to be only a 1-year revenue initiative.
    We hired, ramped up and were prepared for 5 years, and had 
to end after the first year.
    The present year, 1997, will have us doing more of that 
transition. But we were able in 1996 to do a fair amount of 
transitioning, such that the 1997 problem isn't of the same 
dimension. The year 1997, as you well know, was a step down 
still further from 1996, so in absolute terms, we have fewer 
dollars in 1997 than in 1996.
    But what I think you will want to talk about, perhaps, 
Madam Chair, is some of the choices we have made in 1997, and 
envision in 1998. In our 1998 budget, the administration has 
proposed essentially to fund us at the current level. And what 
that will allow us to do is take the human assets and 
compliance and customer service and essentially roll them over 
into the next year.
    Our challenge is obviously to leverage them more highly so 
that the rollover doesn't get us only what last year's numbers 
do, but gets us a different, a more impactful involvement in 
both compliance and customer service.
    I look forward to maybe going into more detail on that. I 
know I've gone through this reasonably quickly. But we have 
made a series of choices that we feel we can stand behind, and 
we would clearly like the input and the influence of this 
Subcommittee on whether or not those are choices that you think 
meet the expectations the Subcommittee has.
    The other thing that I would comment on before asking Art 
to spend 1 minute on what he envisions for our 1998 information 
technology is the couple of things in compliance we really hope 
will continue to bear fruit.
    You know, I think, that this year we have been able to 
install in nine districts, as of the end of February, a system 
called the Integrated Collection System. That system makes our 
revenue officers on average at least 30 percent more effective, 
because of the kind of information it puts in their hands and 
the ability to manage their inventories. They are not 
paperbound, deskbound, or officebound any more.
    That's a system that will be a key information rollout for 
us in 1998. We are very much interested in having that get as 
wide a penetration as possible. That allows us to compensate 
for what has been the erosion in the actual revenue officer 
base.
    In the revenue agent or examination side, we continue to 
look at strategies like our market segment strategy, where we 
hope through the publication of some 31 audit guides, and 
market guides, that we can shape an industrywide reaction to 
something and depend less on an audit-by-audit transaction.
    We're going to continue our tip agreements, which, again, 
allow us to take a whole segment of taxpayers rather than spend 
time auditing onesies and twosies. Instead, we move an entire 
set of entities into a compliance mode.
    You, I know, Madam Chair, were very involved last year in 
our classification settlement program, where we took the 
nettlesome issue of the employee/independent contractor status 
that has been sort of a bugaboo for all of us for a long time. 
We took and put that concept into what maybe is not the perfect 
solution, but it's a solution that allows people to come in and 
get themselves set up prospectively. And it takes us out of the 
onesies and twosies audit process.
    So that has helped as has the reliance on a concept that we 
have built in each of our district offices. We now have a 
district office research capacity, which we never had in the 
past. It was always a capacity that was funded centrally and 
managed centrally.
    Now each of our 33 districts have the capacity to know more 
about the unique features of their taxpayer base. The southern 
California taxpayer is not like the Connecticut taxpayer. The 
Illinois taxpayer is not like the Mississippi taxpayer, and it 
doesn't make sense for us to devote resources or employ 
strategies as if all taxpayers are the same.
    And that's another of the aspects that we hope will help us 
get more leverage out of that compliance resource.
    Maybe what I ought to do is, since I've probably used 
enough of your time, let me ask Arthur to spend, with your 
indulgence, just a couple of minutes highlighting the things 
that we think will be key aspects on the technology side of our 
1998 budget.
    Chairman Johnson. We'd be happy to hear from Mr. Gross. 
We're pleased to have him at the table.
    Mr. Gross. Thank you, Madam Chair, and distinguished 
Members.
    My tenure began on April 15, 1996. And in the 11 months 
since that time in which I inherited an organization that had 
lost 20 percent of its staffing over the previous 3 years, had 
a quality assurance function that had sunk to 30 percent of the 
minimum national standards for those kinds of functions, had a 
year 2000 project office that had three staff members and a $20 
million total project budget, a demoralized work force, but 
nevertheless delivered a filing season this year.
    From that base, over the last 11 months, we have focused on 
the following priorities, on a previous and go forward basis. 
Year 2000 is our single greatest priority. We have established 
a massive project office. We pulled together the best and the 
brightest of IRS to manage the program. We've partnered with 
contractors.
    We've acquired resources from Congress in both 1997, and, 
plan to in 1998. I would say that we have command and control, 
reasonable command and control, over the core business systems 
with respect to century date conversion.
    And what I mean by that is the systems that year in and 
year out process more than 200 million tax returns, issue more 
than 80 million refunds, process more than $1.4 trillion in tax 
payments; I would say we have reasonable command and control 
over that aspect of the century date conversion problem.
    Nevertheless there are still many problems with the balance 
of our infrastructure. We have perhaps as many as 3,000 
applications in the field for which we have not even identified 
a complete inventory. And I would say that our single greatest 
priority on a go forward basis in 1998 must be the century date 
conversion.
    Along with that we are rebuilding our quality assurance 
function. And with respect to modernization, we are completing 
preparedness, and preparedness is some ways off.
    Our commitment in the future is that we will not begin 
modernization until we are ready, and that readiness involves 
three critical elements: We need a significant partnership, and 
a unique partnership, a strategic partnership with the private 
sector; we need a disciplined set of processes and practices 
which we do not yet have in place; most importantly, we need a 
practical, disciplined and focused plan. And that plan would be 
built around creating corporate data bases, storing corporate 
data, and accessing corporate data efficiently for customer 
service and compliance.
    Mr. Dolan. Madam Chair, we'd be happy to take your 
questions. I guess as we do that, I would also like to make the 
observation that we very much appreciate the quality of the 
interaction that we have with the Subcommittee staff.
    We frequently are working with tough issues, but we almost 
always find an ear and a receptivity that I think makes our 
mutual interests and our joint jobs more constructive. And we 
appreciate that.
    [The prepared statement and attachment follow:]

Statement of Hon. Michael P. Dolan, Deputy Commissioner, Internal 
Revenue Service

    Madame Chairman and Distinguished Members of the 
Subcommittee:
    With me this morning are Arthur Gross, Associate 
Commissioner and Chief Information Officer; Jim Donelson, Chief 
Taxpayer Service and Acting Chief Compliance Officer; Tony 
Musick, Chief Financial Officer; and Dave Mader, Chief 
Management and Administration. We are pleased to be here this 
morning to discuss the IRS' 1997 filing season as well as the 
Service's FY 1998 budget request and its effect on taxpayer 
services, the Internal Revenue Service (IRS) compliance 
efforts, the IRS reorganization, and our continuing efforts to 
modernize.

                            I. Introduction

    In today's testimony, I would like to highlight what the 
IRS has accomplished over the past several years with its 
appropriations and what we expect to accomplish with our FY 
1998 appropriation. Many of the programs that IRS has initiated 
or improved take time before their results are fully reflected 
in performance indicators. However, the evidence is already 
clear that the IRS has made progress in making it easier for 
taxpayers to get information about their tax obligations, pay 
their taxes, file their returns, and obtain their refunds where 
appropriate.
    An important responsibility for the IRS is to manage a 
successful filing season. We collect more than one trillion 
dollars annually (see Chart 1), process more than 200 million 
returns and 85 million refunds, and assist millions of 
taxpayers to comply with their obligations. Over the past few 
years, we have been trying to shift taxpayers, and the IRS, 
from some paper transactions. We have made more and more 
information available via the telephone, computer, fax 
services, and CD-ROM. We have published telephone numbers which 
are dedicated to refund information and we have established 
what amounts to an IRS answering machine so that taxpayers can 
call in and leave a brief description of their issue. We also 
have encouraged taxpayers to use alternatives to filing by 
paper.
    The Service recognizes that it must continue to improve 
services, reduce costs, and provide an effective balance 
between assisting taxpayers, processing returns, issuing 
refunds and ensuring that all segments of the taxpaying 
public--wage earners, self-employed, and businesses--pay their 
proper amount of tax, at the least cost to the government and 
to them. Balancing these seemingly competing interests so that 
the IRS can continue to be the world leader in tax 
administration is not a simple task.
    The FY 1998 budget is about making informed choices based 
upon the best information available to strike a balance and 
recognizing when those choices are made what the consequences 
are to customer service, taxpayer burden, fairness and 
efficiency. The IRS and the Congress both share a common 
interest: to provide this country with a fair and effective tax 
administration system.

                             II. Operations

    Background. The IRS, like many large businesses, has many 
functions--all dedicated to accomplishing its mission. The 
Service collects money, processes data, maintains customer 
accounts, and responds to taxpayers' questions. Customers 
expect the Service to do this accurately and efficiently while 
maintaining a high level of integrity and safeguarding their 
privacy.
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    The Service is in the midst of a major transition that 
began several years ago and that will continue for many more 
years. As I discuss current operations and the FY 1998 budget 
request, I would like to focus on what the Service is doing to 
make it easier for taxpayers and how the IRS is doing its job 
more efficiently and effectively.

Serving Taxpayers Better

    Making It Easier For Taxpayers. We understand that 
taxpayers get frustrated when they call the IRS and repeatedly 
get a busy signal. In the past four years, the IRS has answered 
more calls than ever before, but there are still taxpayers 
whose calls are not answered. There are also a growing number 
of taxpayers who visit or write. In 1993, the IRS heard from 
taxpayers by phone, visit, or letter 73 million times; last 
year, that number had increased to nearly 106 million taxpayers 
(see Chart 2). Access to the TeleTax recorded information line, 
which offers taped information on 148 topics all day, every 
day, and refund information 16 hours a day, Monday through 
Friday, has been expanded. Last year over 45 million TeleTax 
calls were answered and assistors answered another 45 million 
toll-free calls. The overall level of taxpayer access to 
telephone assistance increased from 39 percent to 46 percent. 
Our FY 1998 target for taxpayer level of access is 
approximately 60 percent. More taxpayers were served by 
increasing productivity, expanding hours of service, and 
installing call routing equipment that allows the ever growing 
telephone workload to be better managed. This technology allows 
the Service, among other things, to route calls to available 
assistors, who may be in the next county, next state, or across 
the country. As a result, account issues could be resolved with 
a single call over 80 percent of the time.
    In FY 1997, assistors expect to answer 60 million toll-free 
calls. This represents an increase of 15 million over the 45 
million answered last year. In addition, the TeleTax system 
should provide service to over 47 million taxpayers. During the 
1997 filing season, the Service is using its resources 
differently to ensure more taxpayers are served. So that 
assistors can answer more tax law and account questions, the 
IRS added a new, toll-free number that will enable taxpayers to 
quickly determine the status of their refunds without having to 
speak to an assistor. Taxpayers who wish to call after hours or 
who do not want to be put on hold may leave their questions on 
recorded messages, and they will be contacted within two 
business days with an answer. In an effort to improve telephone 
service this year, the IRS is temporarily using some of its 
examination personnel to answer the telephones. In other words, 
compliance personnel are being used to perform traditional 
taxpayer service functions. Because of these efforts, we have 
significantly improved our toll-free telephone system, 
answering over 70 percent of callers. This is a 20 percentage 
point increase over last year.
    Despite these improvements, not every taxpayer call is 
being answered and not all taxpayers who want to be served are 
being served. Resource constraints ultimately limit the number 
of calls that can be answered so the Service is looking for 
other ways to meet taxpayers' information needs. At the outset, 
that means making the information provided clear enough that 
taxpayers will not need to contact the Service.
[GRAPHIC] [TIFF OMITTED] T0671.019


    The notice reengineering efforts eliminated 12 different 
notices in FY 1996; this resulted in 18 million fewer notices 
being issued and mailed to taxpayers--potentially avoiding 18 
million telephone calls or letters from taxpayers. We plan to 
eliminate another 20 notices and letters for FY 1997. This is 
good for taxpayers, who not only are relieved of the stress 
when an official looking letter from the IRS arrives in the 
mail, but who may not need to follow up with the Service. It 
also is good for the IRS; money is saved on printing and 
postage and subsequent questions are eliminated. The notices 
that will continue are being rewritten in clearer language so 
that fewer recipients will need to have any additional 
explanation.
    The IRS also is conducting a test during this filing season 
to determine the optimal level of access, how the level of 
access affects repeat callers and the number of taxpayers who 
walk into IRS offices, and how it impacts the amount of 
correspondence received. With this information, the Service can 
better tailor its communications with taxpayers and make better 
decisions about the application of resources (the use of 
current technology) and the need for additional systemic 
support.
    Technology has enabled entirely new ways for taxpayers to 
get forms and information from the Service while reducing IRS' 
postage and printing costs. Three years ago, taxpayers 
requesting a publication or form either had to call to have the 
material mailed or they had to drop by an IRS office, their 
local post office, or library. Not today--at least for many 
taxpayers. Tax forms and publications now are available on CD-
ROM, and, last year, the IRS instituted an innovative FAX-Forms 
service that processed over 79,000 requests for tax forms and 
instructions by fax during the filing season; so far this 
filing season, over 240,000 requests have been processed. This 
service has been expanded this year by doubling the number of 
forms and instructions available and advertising the FAX phone 
number in all 1040 series tax packages.
    For the 1996 filing season, the Service also developed a 
world-class Web site that provides access to over 700 current 
and prior year tax forms and instructions, tax publications, 
regulations with plain English summaries, frequently asked 
questions, disaster relief assistance, newsletters, press 
releases, information on 148 tax topics, interactive 
applications that answer tax questions, and other information. 
This service is available world-wide, 24 hours a day, to anyone 
with access to a personal computer and the Internet. During 
1996, over 100 million ``hits'' were logged and over three 
million files were downloaded. This year, the site is already 
averaging over one million ``hits'' a day and over 2.4 million 
files have been downloaded. This Web Site has received 
outstanding customer, media, and industry feedback and has been 
honored with over 40 awards for its design and ease of use from 
such sources as Netscape, PBS, Wired magazine, USA Today, Tax 
World, Money magazine, Microsoft, Harcourt Brace, PC Computing 
Magazine, and Government Executive magazine.
    As a way of expanding the help available to taxpayers, the 
IRS also sponsors VITA, the Volunteer Income Tax Assistance 
program, and TCE, Tax Counseling for the Elderly. With these 
two programs, the IRS increased taxpayer assistance by giving 
taxpayers the opportunity to have direct contact at almost 
20,000 sites with volunteers trained by IRS personnel. Last 
year, over 80,000 volunteers served almost 3.5 million 
taxpayers through both of these programs.
    Easier Filing Methods. One of the Service's goals has been 
to make it easier for taxpayers to file their tax returns. 
Current data suggests progress is being made on this front. 
Almost 50 percent of individual filers now use the easiest tax 
forms and almost 75 percent take the standard deduction.
    What could be easier than filing by telephone? This filing 
season, almost 26 million taxpayers are eligible to file their 
tax returns with a phone call that takes less than ten minutes. 
By making TeleFile available to married taxpayers and taxpayers 
wanting direct deposit of their refunds, three million more 
taxpayers can use TeleFile this year. Last year, the Service 
received 2.8 million TeleFile returns; as of March 14, 1997, 
over 3.6 million have been received for this year. Starting in 
FY 1994, taxpayers could file from their home computer through 
a third-party transmitter. In 1996, the IRS received over 
158,000 returns that way, and as of March 14, 1997, 233,000 
returns have been received. Also, last year, the IRS forwarded 
to 31 states 3.2 million returns filed through its joint Fed/
State electronic filing program; this year the District of 
Columbia has been added. This represents a significant savings 
to taxpayers and to the states in this program.
    Electronic filing is not just limited to individuals. It is 
also available to businesses. Employers nationwide can now file 
their ``Employer's Quarterly Tax Return'' (Form 941) 
electronically. Almost 363,000 of these returns were filed in 
this manner for 1996. A TeleFile option for the simpler Form 
941 returns will be tested later this spring with nearly one 
million businesses in 14 states.
    Electronic filing offers advantages for taxpayers and for 
the IRS. One advantage is that taxpayer refunds are received 
sooner--an average of 21 days as opposed to 40 days for paper 
returns. The advantage for the IRS is the receipt of more 
accurate information more quickly.
    Electronic tax administration means more than just 
receiving returns electronically; it includes electronic 
payments as well. Most of the over 88 million taxpayers who 
will be entitled to refunds this year can have them directly 
deposited into their bank accounts. Taxpayers enjoy the safety 
and ease of direct deposit and the government saves the expense 
of printing and mailing checks. A change to the Form 1040 has 
made it even easier for taxpayers to request direct deposit 
this year. Last year, if a taxpayer wanted a refund deposited 
directly into a bank account, he or she had to submit a 
separate schedule. This year, a few extra lines on the Form 
1040 will do it. As of March 14 in this filing season, we have 
had an increase of approximately 42 percent in the number of 
filers requesting direct deposit of their refunds.
    The TaxLink/Electronic Funds Transfer Payment System 
(EFTPS), used by employers to pay employment and other 
depository taxes electronically, is faster, easier, and more 
accurate for tax collectors and taxpayers alike. In FY 1996, 
more than $380 billion were deposited electronically, an 
increase over the $232 billion deposited in FY 1995. As of 
March 15, 1997, over 928,000 enrollment forms had been received 
and approximately $42.6 billion had been collected through the 
new EFTPS. The IRS has communicated extensively with banks, 
payroll companies, and practitioner groups--as well as with the 
taxpayers themselves--to enable a smooth July 1 implementation.
[GRAPHIC] [TIFF OMITTED] T0671.020


    The IRS currently is working on ways to further expand 
electronic tax administration. The Service will soon present 
additional ideas for expanding electronic tax administration to 
the Treasury Modernization Management Board. At a minimum, it 
will include the following:
     full exploration of ways to make electronic filing 
more attractive to taxpayers;
     leveraging existing private and public sector 
infrastructure; and
     aggressively partnering with the private sector.
    Despite new electronic options, the number of paper tax 
returns remains large: the IRS processes over 190 million paper 
returns and documents each year. To address the continuing 
volume of paper returns, the IRS is pursuing the potential for 
outsourcing the processing of paper returns as was outlined in 
our January report. Based upon this input, and assuming that 
there is commercial interest, a Request for Proposal would be 
issued to obtain contractor bids. Risks are inherent in turning 
such a critical system over to an outside processor. Thus, the 
IRS has already begun the ongoing process of identifying 
specific risks and potential mitigation strategies as well as 
identifying ``inherently governmental'' functions in that 
process. Based upon the experience of other agencies in large 
scale outsourcing initiatives, the IRS estimates that it could 
be as many as four years before it could be ready for a pilot 
project on outsourcing paper returns processing.

Fairness: Ensuring All Taxpayers Pay the Proper Amount

    Along with responsibility for serving taxpayers and 
providing easier filing methods, the IRS is charged with 
enforcing the tax laws--both civil and criminal. In furtherance 
of its responsibility to enhance compliance, the Service has 
continued to improve its compliance operations.
    The FY 1998 budget requests approximately the same number 
of employees in compliance as in the FY 1997 budget. Even so, 
the Service is committed to continuing to help taxpayers file 
and pay timely. For the past four years, the IRS has improved 
the compliance program through earlier identification of 
noncompliance patterns, innovative uses of compliance tools, 
and improved procedures--such as the Market Segment 
Specialization Program, offers in compromise, and installment 
agreements.
     Collection. For the past three years, the collection yield 
has steadily increased. In FY 1994, collection yield increased 
three percent; in FY 1995, it increased more than seven 
percent; and in FY 1996, it increased 19 percent. The 1995 and 
1996 increases reflect in part the additional collection 
personnel hired as part of the 1995 Compliance Initiative. 
Beyond that the results reflect the continued emphasis on early 
involvement with delinquent taxpayers. As a result of 
improvements in the Compliance Program and the Compliance 
Initiative, the revenue collected from compliance increased 
from $31.4 billion in 1995 to $38 billion in 1996 (see Chart 
4). We have consciously prioritized ``front'' collection 
operations--notice and telephone calls--to deal more quickly 
with the tax debt. We also have made significant improvements 
in the rate at which examination personnel secure collection of 
agreed tax assessments. In 1996, 70 percent of agreed tax 
assessments were collected at the earliest possible time--the 
close of the examination.
[GRAPHIC] [TIFF OMITTED] T0671.021


    The Service has also expanded the use of an important 
tool--the installment agreement--to keep taxpayers in the 
system who cannot immediately pay all they owe. By increasing 
installment agreement authority, installment collections have 
increased from $2.28 billion in FY 1992 to $6 billion in FY 
1996.
    The improvements made in the collection process, which I 
described earlier, not only helped increase the collection 
yield over the last several years, but they are also helping 
the IRS manage the accounts receivable inventory. The IRS plans 
to continue increasing the collection yield through the use of 
technology in field collection operations. In FY 1995, the 
Integrated Collection System (ICS), which provides on-line 
access to current account information to revenue officers, was 
used in two districts. In these two districts, productivity 
increased more than 30 percent, translating directly to 
additional tax collections ``in the bank.'' By February 18, 
1997, ICS was operational in nine districts.
    Examination. In 1996, the Service closed over 2.1 million 
examinations and audit coverage was 1.63 percent--maintaining 
the accomplishments achieved in FY 1995. Over 184,000 
determination letters were issued for exempt organizations and 
employee plans.
    The compliance program, however, is more than just 
delinquent accounts and traditional audits. The Service has 
continued to develop new compliance approaches. Through 
programs like Accelerated Issue Resolution and Advance Pricing 
Agreements, the IRS is stressing early resolution of issues--a 
practice that can save all of the parties time and money. With 
Accelerated Issue Resolution, the IRS can accelerate the 
collection of the largest corporate assessments by resolving 
recurring issues and simply carrying the resolution forward to 
future years. Reducing the number of issues under examination 
can save costs both for taxpayers and the Service. Under this 
procedure, taxpayers have agreed to pay about $1.1 billion 
between FY 1993 and FY 1996.
    The Advance Pricing Agreement program was developed as a 
new way to resolve intercompany pricing issues. As a 
cooperative process, both taxpayers and the government derive 
significant benefits. Taxpayers welcome certainty in a complex 
area and avoid a lengthy debate with the IRS. By the end of FY 
1996, the Service had entered into 79 Advance Pricing 
Agreements. Currently, 146 Advance Pricing Agreements are in 
process.
    To address the noncompliance with underreporting of tip 
income, the IRS, working with industry representatives, 
developed the Tip Rate Determination Agreement (TRDA) and the 
Tip Reporting Alternative Commitment (TRAC). These two 
initiatives benefit both employers and employees. Employers 
benefit from not having significant unplanned tax liabilities 
assessed against them. Employees benefit from increased social 
security benefits, unemployment benefits, retirement plan 
contributions, and worker's compensation benefits. As of 
December 31, 1996, the IRS had received over 3,100 TRAC 
agreements representing more than 21,000 establishments and 
more than 800 TRDA agreements with nearly 1,200 establishments. 
From tax year 1994 to 1995, tips reported have increased over 
$2 billion.
    Working with private industry, the Service is responding to 
the increased sophistication of transactions in the financial 
world and specialization in the business community. The IRS has 
cooperatively developed Market Segment Specialization Program 
guidelines, focusing on the practical problems of examining a 
market segment and identifying particular issues of interest to 
the IRS. In turn, taxpayers are better informed about the 
noncompliance in that market and about the IRS' position. 
Through January 1997, the Service issued 31 Market Segment 
guidelines. These guides are available to the public through 
the Government Printing Office and also on the IRS Home Page on 
the Internet.
    Last year, the IRS continued its efforts to address the 
problem of erroneous refund claims, one element of the filing 
fraud issue identified by GAO as an area of high risk for the 
IRS. The Service has contracted with the Los Alamos Labs for an 
anomaly detection program to help spot erroneous refund claims. 
The IRS also has continued and increased verifications, 
including increased checks of social security numbers. On the 
Electronic Return Filing System, there was a 25 percent 
reduction from FY 1995 to FY 1996 in the number of returns 
rejected because of missing, invalid, or duplicate uses of 
social security numbers. Similar validations were conducted on 
paper returns. In FY 1996, these efforts prevented over $900 
million in erroneous or fraudulent refunds from being issued.
    This filing season, the IRS has continued to refine the 
efforts to address refund fraud based on what was done last 
year. The Service is continuing to look carefully for 
suspicious returns and, under legislation enacted last year, a 
quicker, more efficient method to verify social security 
numbers can be used as returns are processed.
    In addition to compliance activities in examination and 
collection, the IRS' Criminal Investigation (CI) Division 
investigates complex financial transactions of taxpayers, 
looking for criminal tax violations and money laundering. CI is 
also actively identifying and investigating new and emerging 
areas of tax fraud that affect the economy and prey on honest 
citizens. These areas include bankruptcy, health care, 
insurance, motor fuels excise taxes, non-traditional organized 
crime, and telemarketing. Last year, CI increased the number of 
investigations started in traditional criminal tax violations 
by 14 percent; money laundering investigations increased by 
eight percent; and bankruptcy investigations increased 58 
percent.
    The 1995 Compliance Initiative. In FY 1995, the Service 
received the first year of funding for a five-year plan to 
improve compliance with the dollars raised going directly to 
deficit reduction. The compliance accomplishments attributable 
to that initiative were impressive. An additional 676,000 
examinations were closed and audit coverage increased from 1.08 
percent to 1.63 percent in FY 1995. Furthermore, an additional 
$803 million directly attributed to the first year of the 
Compliance Initiative was collected, far exceeding the $331 
million projected. Overall, with a five-year investment of $2 
billion, the IRS had conservatively committed to raise $9.2 
billion in additional revenue. As the Subcommittee is aware, 
the initiative was not funded beyond the first year.
    Although the loss of the Compliance Initiative impacts 
federal revenues, an important point that may be overlooked is 
the corresponding loss in state revenues, because adjustments 
made during federal compliance efforts are used by the states 
to make corresponding adjustments without the need for a state 
audit.

     III. Using the FY 1998 Budget to Achieve IRS' Strategic Goals

    FY 1998 Increases. The FY 1998 IRS budget totals $7.369 
billion and 102,385 FTE. It includes gross increases of $308 
million and 195 FTE, amounts which are reduced by $143 million 
and 736 FTE. This produces a net increase of $165 million and a 
net reduction of 541 FTE from the FY 1997 operating level (See 
Charts 5 and 6). Also, an Information Technology Investment 
Account has been proposed to respond to the requirements of the 
Federal Acquisition Streamlining Act of 1994 and the 
Information Technology Management Reform Act of 1996.
[GRAPHIC] [TIFF OMITTED] T0671.022


    The $308 million increase has been requested to permit the 
Service to do the following: (1) maintain current service 
levels; (2) fund critical operational information systems 
needs; and (3) fund a very modest increase for Criminal 
Investigation to detect overseas money laundering. The $143 
million in program reductions includes $113 million from 
Information Systems and $30 million from rent.
     Maintaining Current Service Levels. The Service 
needs a $214 million increase to fund mandatory pay increases 
and to maintain FY 1997 program levels in FY 1998. Without this 
increase, the Service would have to reduce programs and 
shortchange funds for essential training, travel, and 
enforcement expenses.
     Funding Critical Operational Information Systems 
Needs. The Service is requesting a $93 million increase for 
Information Systems investments to finance immediate 
improvements in taxpayer services. Much of this increase will 
be used for Year 2000 Conversion efforts. However, a portion 
will be used to test programming changes for major information 
systems; to replace vital Service Center computers used to 
process remittances and input data from tax returns; and to 
replace some of the laptop computers used to examine individual 
and business returns.
     Deterring Money Laundering. The Service is 
requesting a $1 million increase to combat overseas money 
laundering. Many governments are considering, or have adopted, 
laws to criminalize money laundering and other financial 
crimes. The globalization of financial markets and the U.S. 
economy, and criminal organizations' increased sophistication 
at concealing illicit gains, have created an environment that 
requires the expertise of IRS special agents.

                        IV. Information Systems

    Over the past several years, this Subcommittee, as well as 
other Congressional committees, have focused on IRS' efforts to 
develop, implement, and manage its technology modernization 
projects--collectively referred to as Tax Systems 
Modernization.
    Because technology modernization is so important to the 
business of tax administration now and in the future, the 
Service has been working closely with Congress for the past 
year on this issue. The IRS has made progress in addressing the 
concerns and criticisms of the technology modernization 
efforts. However, the Service recognizes that there is more 
work to be done to meet the challenges of updating technology 
to better serve the American taxpayers.
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    Efforts to improve the management of IRS' technology 
investments have benefitted from this oversight, and Tax 
Systems Modernization remains a high priority for the IRS. The 
Service has made progress in the past year within Information 
Systems on modernization efforts in developing an architecture 
for modernization and in establishing a process for making 
intelligent investment choices. The FY 1998 budget proposal is 
designed to let the IRS continue these efforts.
    Maintaining the Legacy Systems. One accomplishment that 
often goes unheralded is the IRS' successful delivery of a tax 
filing season each year. A key factor in delivering a 
successful filing season is the group of conscientious 
employees in the Information Systems organization who continue 
to update the legacy systems, develop new computer programs to 
comply with legislative mandates, and manage a complex array of 
technologies. Early indicators are that the 1997 filing season 
will again be successful.
    Year 2000 Conversion. The most immediate challenge is the 
massive century date conversion project--the Year 2000 
conversion. This challenge is not unique to IRS and much has 
been recently reported in various media about the magnitude of 
this problem. Most legacy systems are programmed to display 
``00'' in the year fields so that beginning on January 1, 2000, 
date-based calculations will be based unintentionally on an 
interpretation of the year field as 1900. Failure to identify, 
recode, and retest each of these date-based fields could result 
in the generation of erroneous tax notices, refunds, bills, 
interest calculations, taxpayer account adjustments, accounting 
transactions, and financial reporting errors. Put another way--
such a failure could significantly burden the over 200 million 
taxpayers and IRS resources and jeopardize IRS' ability to 
carry out its mission. This conversion not only is vital to IRS 
but also to other organizations with which the IRS shares data, 
such as the Social Security Administration, Federal Reserve 
Banks, and most of the states.
    To date, the Service has identified 62 million lines of 
computer code in the corporate systems which must be analyzed. 
The effort to make needed changes may exceed 2000 work years of 
effort on the part of both the IRS and its contractors to 
ensure these critical systems are century date compliant by 
January 1, 1999. The IRS also is aggressively completing the 
inventory of field based applications, which may require the 
review of an additional 40 million lines of computer code. In 
addition, the IRS is actively reviewing all commercial off-the-
shelf software and hardware to either replace or upgrade to 
ensure compliance.
    With the support of Congress through a $45 million FY 1997 
appropriation, the IRS has mounted a massive effort to ensure 
its systems become century date compliant. Given the broad 
scope of the Year 2000 Conversion, the Service also is 
diverting significant existing information systems resources to 
the project, deferring all but critical and legislatively 
mandated legacy systems changes during FY 1997.
    In Fiscal Year 1998, the IRS is planning a further 
expansion of the project and, therefore, has requested a total 
of $84 million. The IRS' Chief Information Officer is currently 
leading an extensive effort to identify and cost the corrective 
actions that will need to be taken. If the resource 
requirements change upon completion of the field-based 
applications inventory, updated information will promptly be 
provided to the Subcommittee.
    Management Processes and Practices. The Service has made 
significant progress towards improving the management processes 
and best practices that are requisite to managing the size and 
scope of IRS' modernization efforts. Specifically, the Service 
has focused FY 1997 resources on the development of the program 
infrastructure--systems architecture and systems life cycle--
needed to undertake major modernization efforts. The IRS 
adopted a Systems Life Cycle that provides the policies and 
processes needed to manage systems development efforts. The 
Systems Life Cycle is consistent with industry practice, 
thereby underscoring the commitment to shift significant 
aspects of the technology modernization efforts to contractors. 
The Service is developing a modernization blueprint, including 
the architecture, which identifies critical business 
requirements and provides for a sequenced rollout of 
modernization projects based on prioritized business needs.
    Advancing Modernization. The IRS has also put in place an 
investment review discipline to assess and prioritize 
information systems investments, monitor progress of spending 
against plans, and evaluate the results of those investments. 
The IRS Investment Review Board (IRB), chaired by the Deputy 
Commissioner, has reviewed all ongoing technology development 
projects. Projects that failed to demonstrate significant 
business value or comply with best practices for disciplined 
systems development have been suspended. To date, the IRB has 
suspended the Document Processing System, Corporate Accounts 
Processing System, Workload Management System, and Integrated 
Case Processing System, resulting in significant future cost 
avoidance. The IRB also is overseeing the reallocation of 
resources from these projects to higher priority investments, 
in accordance with the principles of the Information Technology 
Management Reform Act.
    Last year, Art Gross was selected as the IRS Chief 
Information Officer. Art has significant technical management 
expertise and an excellent grasp of the tax ``business.'' This 
year, the Service has continued to strengthen its information 
technology management capabilities with the appointment of the 
new Director of the Government Program Management Office 
(GPMO), who is an experienced systems development program 
management executive from the New York State Department of 
Taxation and Finance, and a new Director of the Systems 
Standards and Evaluation Office (SSE), who was formerly with 
the GAO and has extensive experience in the development of 
systems life cycle standards, policies and procedures, and 
information technology program evaluation and oversight.
    The IRS recently initiated an aggressive, nationwide 
recruitment program for well-qualified individuals to fill 
approximately fifteen executive and senior management positions 
to enable the IRS to strengthen and improve its overall 
management of modernization efforts, including management of 
contractors.
    One measure of the effectiveness of an information 
technology organization is the comprehensiveness of its product 
assurance program. Between 1992 and 1996, IRS' Information 
Systems organization downsized by over 2,000 positions, with a 
disproportionate reduction in the product assurance program. In 
the product assurance program, resource levels sank to less 
than 30 percent of the industry standard. Accordingly, in 1997, 
the IRS is undertaking a major rebuilding of this program to 
mitigate systems acceptance testing deficiencies that have 
prevented the thorough testing and certifying of principal IRS 
operating systems.
    At the same time, the IRS continues to transfer significant 
aspects of the technology modernization program to the private 
sector. The December 1, 1996, report to Congress documents the 
modernization program resource allocation; 64 percent of it is 
provided by the private sector. The largest and most important 
initiative for FY 1997 was the contract recently awarded to 
develop, pilot, and implement the submissions processing manual 
data entry systems replacement. The IRS also is in the process 
of competitively acquiring a Systems Engineering and Technical 
Assistance (SETA) contractor to provide technical, program, and 
project management guidance to the modernization effort. 
Pursuant to the FY 1997 Treasury appropriation, the Treasury 
Modernization Management Board is conducting the preparation of 
a Request for Proposal for a prime contractor to manage, 
integrate, test and implement the program.
    The IRS is completing its strategic modernization plan, 
which integrates implementation schedules and establishes 
completion dates for each of the major components of the plan. 
The major components are (1) a Modernization Blueprint, which 
focuses on rebuilding the corporate data bases to enable 
customer service taxpayer account resolution and improved 
compliance; (2) a procurement strategy to shift primary 
responsibility for systems development and integration to the 
private sector; and (3) linkages among the short-term legacy 
and operational systems enhancements, the Year 2000 project, 
and the longer-term modernization sequencing plan. The 
modernization plan will be submitted to Congress in May 1997.
    Downsizing. Significant progress is being made toward the 
Year 2000 Conversion and implementing the program 
infrastructure needed to undertake major modernization efforts. 
However, the IRS also needs to manage a nearly 10 percent 
downsizing of the Information Systems program staffing levels 
during FY 1997. The FY 1998 budget provides for a further 
downsizing of 736 FTEs. While this downsizing plan reflects the 
intention to shift additional elements of modernization to the 
private sector, this additional staff reduction must be 
carefully managed, given the number and the critical nature of 
initiatives that are underway in addition to modernization.

   V. Implementing the Government Performance and Results Act (GPRA)

    The IRS is one of the leaders among federal agencies that 
use an integrated Strategic Management Process, one in which 
planning, budgeting, investment, performance measurement, and 
program evaluation processes are interdependent. The IRS 
consulted with other public and private sector organizations 
and executives to develop its integrated Strategic Management 
Process.
    The IRS and Treasury eagerly implemented the requirements 
of the Government Performance and Results Act of 1993 (GPRA). 
The long-term use of strategic management and participation as 
a GPRA pilot agency have enabled the IRS to implement many of 
GPRA's requirements ahead of schedule.
    First, the IRS developed an integrated strategic plan and 
budget in the Spring of 1996, although GPRA does not require 
one until the Fall of 1997. This plan uses the IRS Mission and 
three Strategic Objectives to set priorities and program 
targets for business operations, set funding levels, and 
establish performance measures. The Service uses performance 
indicators to monitor progress during the year, to make mid-
course adjustments to optimize performance, and to evaluate 
performance at the end of the year.
    Second, in the FY 1997 budget request, the Service included 
outcome-oriented performance indicators rather than the 
traditional workload output measures. For FY 1998, the Service 
refined these performance measures and used them to evaluate 
its program choices. This allowed the Service to prioritize its 
program requirements and use that prioritization to drive its 
budget decisions. The Appendix to my testimony includes the 
overall performance indicators for FY 1998.
    Third, the FY 1998 budget request includes a progress 
report on each program goal the Service proposed for FY 1996. 
If the performance goal was exceeded, that is noted, and if 
not, the report explains why not and what will be done about 
it.
    Setting long-term goals and annual targets, managing 
activities to achieve those goals and targets, measuring 
performance annually, and holding people accountable will help 
improve tax administration. It will also help the IRS and 
Congress make more informed budget decisions about balancing 
resources across these objectives.

                        VI. GAO High Risk Areas

    The General Accounting Office (GAO) issued its latest in a 
series of reports on federal programs considered high-risk 
``because of vulnerability to waste, fraud, and 
mismanagement.'' The latest report discusses four high-risk 
areas at the IRS: Tax Systems Modernization (TSM), financial 
management, tax accounts receivable, and tax filing fraud. 
While the report credits the IRS with making some progress in 
all four areas, it outlines significant challenges still ahead. 
The key points raised by the GAO and the IRS responses are 
summarized below. 
    TSM. Although the GAO recognizes that the IRS and Treasury 
have together taken several steps to implement their 
recommendations, much remains to be done. We agree with many of 
the concerns expressed by the GAO and have taken and are 
continuing to take aggressive actions to address those concerns 
as illustrated in our February 27, 1997, report to Congress. 
    Financial Management. The GAO reported on financial 
management weaknesses that diminish the credibility of 
information available for assessing the results of IRS' 
financial operations and measuring its performance. The GAO did 
indicate, however, that the Service had made improvements in 
the areas of reporting and accounting, stating that the 
improvements in accounting were particularly notable. The 
revenue accounting system, which was designed prior to 
enactment of the Chief Financial Officers Act, was not designed 
to give data on financial position or give detailed 
transactions that auditors could go back and sample, as 
required by recent changes in the law. We agree with the GAO's 
recommendations and are making the short-and long-term changes 
needed to bring our systems up to those standards. 
    Tax Accounts Receivable. According to GAO, weaknesses 
hamper the IRS' ability to manage and collect its reported $216 
billion inventory of tax debts effectively and efficiently. In 
FY 1996, IRS delinquency collections totaled $29.8 billion, the 
most ever collected by IRS--a 19 percent increase over FY 1995. 
Moreover, we continue to automate many of the processes carried 
out by collection field employees, resulting in substantial 
productivity improvements. Unlike private business, the IRS 
cannot determine credit-worthiness prior to a transaction, and 
the law requires that we keep accounts receivable on the books 
for 10 years. About 30 percent of the current inventory is 
accrued penalties and interest ($65 billion of the current $216 
billion inventory); obviously, even if the principal remained 
static, the total would grow because of accrued interest and 
penalties. 
    Tax Filing Fraud. According to GAO, weaknesses hamper IRS' 
efforts to detect and prevent the filing of fraudulent tax 
returns. The IRS has taken several steps to prevent and deter 
tax return fraud, including substantial improvement to the 
Electronic Fraud Detection System. Criminal investigations and 
related prosecutions continue to demonstrate IRS enforcement 
presence. Moreover, we continue to develop and test various 
systemic and compliance alternatives to identify those that are 
most successful.

                    VII. Security of IRS Information

    The IRS has long understood that protecting taxpayer 
information is essential to maintaining our country's self-
assessment tax system. We also understand that although new 
technologies will help to streamline IRS operations and improve 
the delivery of services to taxpayers, these same technologies 
will also increase the risks to privacy associated with 
automation unless a strong program is in place to adequately 
mitigate these risks. Risk mitigation is of greater 
significance as IRS' reliance on paper decreases and its 
dependence on new technologies increases. In this regard, we 
are also aware that our security and privacy programs need to 
be strengthened, so that the Service has integrated and 
consistent safeguards in place to adequately ensure (1) the 
privacy and security of taxpayer account information; (2) 
continuity of its operations; and (3) security of the 
infrastructure for modernized systems.
    In January 1997, IRS announced that centralized 
responsibility for security and privacy issues had been 
delegated to the Office of Systems Standards and Evaluation 
(SSE). Recognizing the critical need to enforce federal law and 
regulations on privacy and non-disclosure of confidential tax 
information, SSE was created to assume responsibility for 
establishing and enforcing standards and policies for all major 
security programs including, but not limited to, physical 
security, data security, and systems security. In this regard, 
SSE provides IRS with a proactive, independent security group 
that is directly responsible for the adequacy and consistency 
of security over all IRS operations.
    One taxpayer security area of particular concern to this 
Subcommittee and to us is the unauthorized access to taxpayer 
data by IRS employees--or ``browsing.'' The IRS does not 
tolerate browsing. We consistently stress both within and 
outside the IRS that unauthorized access of taxpayer accounts 
by IRS employees will not be tolerated. However, recent court 
cases, especially one in the First Circuit Court of Appeals 
(United States v. Czubinski, No. 9-1317, 1997 U.S.App. LEXIS 
3077 (1st Cir. February 21, 1997), are very troubling to the 
IRS and make it more difficult for us to appropriately 
discipline employees who violate our policy against 
unauthorized access.
    In the past several years, the IRS has taken a number of 
steps to ensure that unauthorized access of taxpayer 
information by IRS employees does not occur. For example, each 
time an employee logs onto the taxpayer account data base (the 
Integrated Data Retrieval System (IDRS)), a statement warns of 
possible prosecution for unauthorized use of the system. All 
new users receive training on privacy and security of tax 
information before they are entitled to access the IDRS. The 
Service has also installed automated detection programs that 
monitor employees' actions and accesses to taxpayers' accounts, 
identify patterns of use, and alert managers to potential 
misuse. Employees are disciplined according to a Guide for 
Penalty Determinations that includes dismissal. In the recent 
First Circuit opinion, the court noted that ``the IRS rules 
plainly stated that employees with passwords and access codes 
were not permitted to access files on IDRS outside the course 
of their official duties.''
    In addition to the internal actions, the IRS has 
recommended and supported legislative efforts to amend the 
Internal Revenue Code and Title 18 to clarify the criminal 
sanctions for unauthorized computer access to taxpayer 
information. A recent amendment to 18 U.S.C. 1030(a)(2)(B) 
provides criminal misdemeanor penalties for anyone who 
intentionally accesses a computer without authorization or who 
exceeds authorized access and thereby obtains information, 
including tax information, from any department or agency of the 
United States. Although the recent amendment to 18 U.S.C. will 
hopefully serve as a significant deterrent to unauthorized 
computer access of taxpayer information, this statute only 
applies to unauthorized access of computer records. It does not 
apply to unauthorized access or inspection of paper tax returns 
and related tax information. Legislation such as S.670, 
introduced in the 104th Congress, would achieve that result. By 
clarifying the criminal sanctions for unauthorized access or 
inspection of tax information in section 7213 of the Internal 
Revenue Code, whether that information is in computer or paper 
format, the confidentiality of tax information and related 
enforcement mechanisms would be appropriately found in the 
Internal Revenue Code.

               VIII. Improvements in Financial Management

    Despite inclusion in GAO's series of reports on areas at 
``high risk because of their vulnerability to waste, fraud, 
abuse and management,'' the IRS has significantly improved 
financial management over the last four years. Still, there is 
more to do. The Service has a detailed action plan, developed 
in cooperation with GAO, that addresses corrective actions and 
tracks the progress toward correcting deficiencies and 
implementing GAO recommendations.
    The IRS was one of the pilot agencies under the Chief 
Financial Officers Act (CFO Act) of 1990 and, as such, was 
required to submit financial statements beginning with Fiscal 
Year 1992. Prior to this, the IRS was not required to prepare 
audited financial statements or to have financial audits. 
However, the fact that audits were not routinely done in the 
past does not mean that poor financial management existed. The 
IRS, like other agencies, was and is controlled by budgets that 
were appropriated by law and incorporated into our 
administrative financial system, and obligations and 
expenditures were monitored against those appropriations. 
Unlike many other agencies, the IRS also collected substantial 
amounts; our custodial financial systems were designed to 
account for those receipts and to ensure that they were 
promptly deposited into the Treasury. These requirements and 
controls still exist in addition to the new requirements 
introduced as part of the annual audit. Passage of the CFO Act 
and the introduction of annual financial statements and audits, 
however, added new rules. We are using the financial statement 
audit, and the discipline it imposes, as a blueprint for 
continued financial management improvements.
    Financial Statement Audit--A Major Challenge. When the GAO 
began auditing our financial statements in 1992, we were not 
working with systems designed to provide data in accordance 
with the CFO Act. Our revenue and administrative accounting 
systems were designed with adequate controls but did not 
provide the information necessary to report on our financial 
position in accordance with Generally Accepted Accounting 
Principles. In addition, our size alone has made it difficult 
to obtain a clean opinion quickly. As the primary collector of 
the nation's revenues, we collect over $1 trillion annually and 
GAO has verified that this has been properly deposited in the 
Treasury. This is no small accomplishment for an organization 
that handles over one billion information documents per year, 
processes more than 200 million returns, issues 90 million 
refunds, and deals with over 12,000 financial institutions and 
12 Federal Reserve Banks in over 600 locations. Any complex 
system will produce some errors. The IRS system does, but great 
efforts are made to detect errors and promptly correct them.
    It is important to keep in mind that the Service has two 
separate financial processes to track funds: the administrative 
system that handles appropriated funds and the revenue system 
that tracks tax collections and is used to report on custodial 
statements. To understand GAO's audit findings, it is important 
to recognize the distinction between these two systems and what 
is being done to improve both systems to comply with the CFO 
Act.
    Improvements In Administrative Accounting. The IRS is proud 
of the improvements it has made in its administrative 
accounting system. Six years ago, the Service had eight 
separate systems that were not linked to each other. Now the 
IRS has a single corporate administrative financial system of 
record that it uses to monitor and control the more than $7 
billion the IRS receives annually in appropriated funds. This 
system, known internally as the Automated Financial System, 
provides an integrated, auditable, comprehensive accounting and 
budgeting system that fully complies with the Joint Financial 
Management Improvement Program core requirements, including the 
U.S. Standard General Ledger, and other government-wide 
standards that apply to automated financial systems.
    Even though IRS purchased an off-the-shelf commercial 
package, it was customized to meet the unique agency 
requirements, including developing interfaces. For example, the 
Service transferred payroll to the Department of Agriculture's 
National Finance Center (NFC) and operates an interface from 
NFC to provide payroll data to the corporate database. The 
Service also has integrated its procurement system and travel 
system so data is only entered once and is transmitted 
electronically.
    Since the first audit in 1992, the Service has made 
significant improvements in administrative financial 
management, resulting in GAO's FY 1994 and FY 1995 audit 
reports focusing on just two remaining administrative 
accounting issues: (1) failure to reconcile IRS accounts with 
Treasury, and (2) the lack of receipt and acceptance 
documentation for some non-payroll payments to other federal 
agencies, such as rent payments to GSA and printing payments to 
the Government Printing Office (GPO).
    Accounting for the Revenue the IRS Collects for the U.S. 
Treasury. The challenge with revenue accounting is to develop a 
financial management system that will provide the organization 
with the capabilities for (1) controlling financial 
transactions; (2) collecting and processing transaction-level 
data; (3) obtaining detailed information on financial position; 
and (4) providing complete financial information necessary to 
manage an organization.
    While the IRS can, and does, reconcile gross amounts 
collected, it has been unable to give GAO auditors the 
information that they want to reconcile on a transaction-by-
transaction basis with the Masterfile database. The challenge 
has been to augment the revenue accounting information to meet 
the requirements of the CFO Act.
    For the FY 1995 and FY 1996 audits, in cooperation with the 
GAO, the IRS began extensive analysis and documentation of all 
revenue transaction flows and source documentation. Detailed 
flowcharts were prepared to document revenue flows between the 
Revenue Accounting and Control System (RACS) and supporting 
feeder systems. Site visits were made with the GAO to all 
service centers to validate these flowcharts and further 
document detailed transaction flows that were unique to a 
service center. Additionally, the IRS now uses its Masterfile 
to provide detailed transaction data to support its custodial 
financial statements. This data is reconciled to RACs and 
Treasury schedules.
    Accounts Receivable. Another area that has caused concern 
is converting the IRS inventory of tax assessments to an 
accounting definition for accounts receivable. When taxpayers 
either do not file returns or file inaccurate returns, the IRS 
makes assessments based on the tax laws irrespective of 
collection potential. Since IRS assessments are unlike typical 
accounts receivable, the Service had to determine a way to 
derive and report the portion of the Accounts Receivable Dollar 
Inventory (ARDI) that meets more of a financial definition for 
accounts receivable.
    To overcome the limitations associated with ARDI, the GAO 
and the IRS agreed on a systemic approach and definition of 
financial receivables. This approach relies on coding that is 
available in the Masterfile to identify the type of compliance 
action taken as of a certain date, and the major reason that 
the IRS made the assessment. Using this coding, the Service 
then segments the total ARDI into three categories: (1) 
financial receivables (amounts reported in the financial 
statements), (2) financial write offs, and (3) compliance 
assessments, (amounts disclosed as footnotes in the 
statements).
    Progress in FY 1996 Toward Correcting the Five Major 
Findings. GAO listed five financial management problems as the 
major contributors to the disclaimer--two related to the 
administrative area and three to the revenue area.
    1. Amounts reported as appropriations available for 
expenditure for operations cannot be reconciled fully with 
Treasury's central accounting records. IRS has worked with GAO 
to bring this issue to resolution. As of FY 1996, the 
reconciliations are current and there is an automated mechanism 
in place to ensure that these balances are reconciled monthly.
    2. A significant portion of IRS' reported $3 billion in 
non-payroll operating expenses cannot be verified. The IRS can 
and does have acceptable and auditable records to verify 
commercial vendor payments. The $3 billion in non-payroll 
operating expenses could not be verified because of the 
interagency payments included in GAO's sample. Within this 
sample were interagency payments for which they questioned 
whether the IRS had support showing receipt and acceptance from 
other federal agencies, primarily GPO and the General Services 
Administration.
    The interagency payment problem deals with a receipt and 
acceptance issue related to goods and services received from 
other federal agencies paid via the government's Online Payment 
and Collection system. Because they identified these 
transactions as exceptions, they concluded that their testing 
(review of supporting documentation) of the non-payroll 
expenditures could not be projected to the universe of $3 
billion; therefore, they could not verify the non-payroll 
expenditures.
    The IRS has been working closely with GAO to define the 
problem areas and to propose interim and long-term solutions to 
the receipt and acceptance issues.
    3. The amounts of total revenue and tax refunds cannot be 
verified or reconciled to accounting records maintained for 
individual taxpayers. The IRS is now using individual taxpayer 
records to prepare financial statements and to ensure that the 
auditors can verify and reconcile the total revenue and tax 
refunds to the accounting records maintained for individual 
taxpayers. This is being done until such time as longer term 
systems solutions can be implemented.
    4. Amounts reported for various types of taxes collected 
(social security, income, and excise tax, for example) cannot 
be substantiated. In preparing the FY 1995 and FY 1996 
financial statements, the IRS made great progress in developing 
methods to substantiate the revenue collected. For Social 
Security, the IRS developed an extract that enables it to 
report and match assessment and collection information. As 
stated earlier, the IRS is also using the Masterfile to provide 
all detailed transactions to support income tax collected. In 
providing excise tax information, the IRS will continue to 
analyze monies assessed and collected to determine if there are 
significant differences. Additionally, the IRS is developing 
programming that will enable it to have detailed assessment and 
collection information as it does with Social Security.
    5. The reliability of reported estimates for $113 billion 
in accounts receivable and $46 billion for collectible 
receivables cannot be determined. During the FY 1995 audit, 
initial testing by GAO resulted in its conclusion that the 
Service's program that classified receivables as financial 
receivables, financial write-offs, and compliance assessments 
was flawed. Based on a review of cases this year to determine 
the validity of our categorizations, GAO has indicated that the 
systemic process is accurately segmenting our portfolio of 
receivables. GAO's next step is to review the supporting source 
documentation for the selected cases to verify they are 
accurate. The Service is in the process of building the ARDI 
Expert System, a centralized data base that allows analyses to 
be performed on the entire inventory using all of the existing 
information.
    Status of 59 Recommendations. The GAO has made 59 
recommendations through their financial statement audits for 
the last four fiscal years. Of the 59 recommendations, the IRS 
and GAO agree that the IRS has implemented 17 of them. Of the 
remaining 42, the IRS believes it has met the requirements on 
an additional 27. The Service is working with GAO to get 
agreement before actually closing these items. Of the remaining 
15, 11 are scheduled to be completed by the end of the fiscal 
year; and four have completion dates beyond FY 1997. The IRS is 
committed to working with GAO to resolve these recommendations 
and believes that through mutual cooperation and effort this 
goal will be achieved.

                           IX. Reorganization

    In 1993, details of a major IRS reorganization were 
announced and the Service has worked since then to streamline 
operations and reduce costs--a process that continues. This 
carefully considered effort, undertaken before IRS 
appropriations were reduced, was done in recognition that the 
IRS should place the maximum amount of its resources on meeting 
customer needs effectively and efficiently.
    The National Office has been reduced in size, three 
regional offices have been closed and 63 district headquarters 
offices consolidated into 33, while 80 administrative support 
offices were consolidated into 24 and 70 customer service sites 
have been reduced to 30 and ultimately will go to 23. Taxpayer 
assistance levels and problem resolution services have been 
improved. Consolidating offices and operations reduces or 
avoids redundant infrastructure costs, such as space, 
telecommunications, toll-free call distribution systems, and 
management overhead. In FY 1997, IRS will eliminate a net of 
over 1,000 field office support positions plus over 800 
positions in the National Office, ensuring that the salary 
dollars can be spent instead on front line operations.
    For almost three years, the IRS, working with the National 
Treasury Employees Union (NTEU), has used a variety of 
voluntary workforce transition tools to move employees into the 
new, streamlined organizational designs. Beginning in 1996, the 
total number of occupied IRS support positions not optimally 
located was approximately 3,390--less than five percent of the 
total IRS workforce at that time. However, there still are over 
1400 employees occupying such positions who have not been 
placed in continuing positions despite the voluntary efforts 
and outplacement activities of the Service.
    The IRS is making every effort to lessen the effects of the 
reorganization on employees. Working with the NTEU, the Service 
developed a Pre-Reduction in Force (RIF) Activities Agreement 
in October 1996. Voluntary activities, such as buyouts, early 
outs, paying moving expenses for employees, and a Career 
Transition Assistance Plan are all in place as methods to 
reduce the numbers that would be subject to a RIF.
    As a result of Section 105 of the FY 1997 Treasury 
Appropriations Act, the Service has been unable to complete the 
final stages of the reorganization. This has caused an 
imbalance between workload and people. Upon delivering the 
report required by the Appropriations Act, the IRS will move 
forward to fill critical vacancies, move its workload, and 
finalize this phase of the IRS reorganization.
    Buyout Update. Since Congress approved the IRS' voluntary 
incentive separation plan in December 1996, the IRS has 
implemented it aggressively. As of March 1, 1997, approximately 
1300 employees have accepted buyout offers and have left the 
IRS employment rolls. Those who left were either in non-
continuing positions or in positions that created a vacancy 
that would provide a placement opportunity for someone who 
could be subject to a RIF.
    The IRS currently is placing employees in continuing 
positions and by mid-April should know how extensive a RIF, if 
any, would have to be. After that, the Service will move 
forward to separate employees when there is an agreement with 
NTEU either voluntarily arrived at or imposed by the Federal 
Service Impasses Panel. I know there is continuing interest in 
this matter by this Subcommittee and the IRS will continue to 
keep you informed about how it is proceeding.
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                             X. Conclusion

    My colleagues and I appreciate the opportunity to present 
this testimony. The IRS is committed to achieving its mission 
in a way that provides the information and assistance required 
by our citizens and at the same time reinforce the overall 
fairness of the tax system by seeing to it that all of us pay 
our correct share of taxes. Under the most stable of 
circumstances this is a challenging responsibility. The 
testimony has highlighted some of the most important advances 
that we have made and also pointed out the many areas which 
still require improvement. The Service appreciates the 
consistent interest and support of this Subcommittee and its 
staff and we look forward to a continuing strong relationship.
      

                                

      
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    Chairman Johnson. Thank you, Mr. Dolan. I appreciate your 
comments about the chief of staff on both sides of this 
Subcommittee. We are blessed to have very bright and very 
capable women chiefs of staff on this Subcommittee.
    I also appreciate your taking the time in your testimony to 
go through some of the accomplishments of the IRS in the last 2 
years. And I would remind this Subcommittee and also the public 
that Commissioner Richardson was very forthright with this 
Subcommittee more than 2 years ago about the difficulty that 
the Federal Personnel Regulations posed for the agency to reach 
the level of expertise that you needed to help with the Tax 
Modernization Program.
    And, indeed, after a long and very careful search you did 
bring Mr. Gross aboard. I think all parties are impressed with 
his expertise and abilities, and I think the vision that you 
lay out, Mr. Gross, of the kind of partnership that you are 
looking for, the kind of plan you think must precede action is 
music, at least, to the ears of this Member.
    But, Mr. Dolan, while we have had great problems with the 
Tax Systems Modernization Program, the agency has not been 
idle. And I appreciate your going through the kinds of 
improvements that you have made in the last couple of years, in 
terms of enabling people to file by telephone, your Web site, 
access to forms, and schedules and information.
    And I am pleased that this filing season seems to be going 
very well. I would also say that in part it is going well 
because in the last filing season you did a very good job of 
cracking down on some of the sources of, for example, fraud in 
the EITC Program, and I think that is paying off.
    I think your willingness to sort of engage in the problem 
of the independent contractors does make it easier. I don't see 
how these kinds of approaches, as important as they are to the 
quality of tax administration, to customer service, and to a 
strong, fair IRS, I don't see how they can enable you over the 
next 5 years to live with basically a frozen budget, which 
means absorbing $1 billion in cuts.
    And so while I don't want to belabor this at this hearing, 
because I don't think it's possible for you to respond, I would 
urge you to develop the resources or the focus, you know, in 
the coming months, to work with your regional research 
agencies--and I am very pleased to hear that, because it's 
absolutely true that you have different kinds of sectors 
predominant in different areas of the country, and therefore 
different compliance problems and enforcement problems and 
administration problems and taxpayer questions.
    But we tried hard in the Taxpayer Bill of Rights to send 
the message that we have to know what actions of ours create 
the biggest administrative problems, because your 
administrative problems are people's fairness, equity, 
frustration problems.
    And when we give you unadministerable law, or law that you 
cannot explain in a way that the ordinary person out there 
says, Oh, yeah, that's fair, then we do you a disservice, and 
we do the taxpayer disservice, and you do not do us a service 
in protecting us from that information.
    So one of the things that is increasingly clear to me is 
that no amount of technology, and no amount of really 
thoughtful common sense, and a lot of what you've done in the 
last 2 years, the public doesn't realize quite how much you 
have done to improve access and improve service, and slim down 
and streamline the IRS. But no amount of that is going to work 
unless we can jointly focus on also some of the most complex 
and often unproductive in their complexity portions of the Tax 
Code.
    So I would hope that as you plan, particularly your work 
for 1998, and preferably even in the next 6 months, that you 
really press down hard on those issues. Because we have to make 
the philosophical decisions. But philosophical decisions are 
sometimes easier made, more easily made, if you know that one 
is not going to work, and that another one might.
    So when I look at the budget challenge you face, it's 
meetable. And technology will matter, and you're going to have 
good plans and we're going to move ahead.
    But we also have to be realistic, honest and very tough 
minded in terms of what constitutes administrable, enforceable, 
fair tax law. And I thought it was just really wonderful that 
one of your advocates spontaneously said, well, if you really 
want to help, repeal the EITC.
    Now, politically that's a bomb. She wasn't talking to us 
politically. She was saying when I have to deal with people out 
there, and try to explain to them on the merit of simplicity 
and fairness this thing fails. It may meet the political 
standard of rhetoric, but it doesn't meet the real world 
standard when you're trying to help the very poorest people and 
they have to hire someone to explain the program to them.
    So we need to talk more honestly about the Tax Code 
problems if we're going to back you in the changes you're going 
to make, and if you're going to succeed in creating the next 
generation of IRS bureaucracy, which is going to have to be 
different, more like the private sector in responsiveness, more 
like the private sector in number of management levels. It's 
going to have to be far more preventive.
    We see that in controlling health care costs. We see that 
in productivity in the industrial sector. We have to really 
engage ourselves now on those issues. And prevention means 
Congress has to act in ways we haven't been willing to act 
before.
    And the only hope of that is oversight. So if we don't get 
together and communicate about these things, and if you don't 
begin to structure your reports so that we don't get frankly 
the same kind of junk we used to get--now, we got it because we 
asked for it, and we liked it because it was easy to deal with.
    But we're beyond that. So I have some other questions, but 
I am going on too long in this statement, so I am going to let 
my other colleagues go first, but I will come back.
    Mr. Dolan. I just wanted to respond directly to your 
invitation, as well as your suggestion that we might have done 
a better job with respect to the first report. I think 
everybody who came back from the last hearing realized that we 
need to and want to step up to your challenge of getting 
explicit and candid in the dialog about what are the 
impediments that we can do something about, and what are ones 
that only you can do something about.
    And so we have heard you and we take your invitation 
seriously, and would very much look forward to that kind of 
relationship.
    Chairman Johnson. Thank you. I would just say that a lot of 
our political rhetoric is outdated, and a lot of your 
bureaucratic mindset is outdated, and we really have to get 
real.
    Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chairwoman. First of all, as a 
member of the Restructuring Commission of the IRS and a Member 
of this Subcommittee, I had written to Treasury Secretary Rubin 
on March 11 specifically asking the administration to develop 
and release on an expedited basis its proposal to restructure 
the IRS.
    I ask that the letter that I sent to Secretary Rubin on 
March 11, plus his five points that he's responded to relative 
to the restructuring in recent days, be included in the record.
    Chairman Johnson. Mr. Coyne, I would be happy to do that. 
And I'd be happy to include his response as well. I'm 
particularly pleased to acknowledge that his response 
recognizes a lot of things that Commissioner Richardson and the 
IRS have accomplished and laid the groundwork to accomplish.
    I appreciate those things. I do think as you see on the 
Restructuring Commission that the issues are larger and I think 
this issue of Tax Code complexity is fundamental. And I am 
pleased that this Subcommittee has such capable Members as Mr. 
Coyne and Mr. Portman on that Restructuring Committee, and I 
would be happy to include in the record both your letter to 
Secretary Rubin and this first response.
    Mr. Coyne. Thank you, Madam Chair.
    [The information follows:]
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    Mr. Coyne. To Mr. Dolan, in light of the continuing 
concerns about the quality assistance to taxpayers that we're 
all concerned about, and the taxpayer advocate's report to this 
Subcommittee concerning major problems facing the taxpayers in 
dealing with the IRS, I wonder if you could respond to the 
question that some of my constituents are asking me about to 
the justification for moving work out of the Pittsburgh office, 
when it was ranked 6th out of 65 districts in total efficiency, 
while the Philadelphia office was ranked 45th.
    The Pittsburgh office got a good grade, ranking 6 out of 65 
districts. Philadelphia was ranked 45th, yet we're moving work 
from Pittsburgh to Philadelphia.
    Mr. Dolan. I'll be happy to answer that question. I think 
perhaps the ranking that we're talking about is either in one 
of two areas, and I don't have it right in front of me. It's 
either a field office total performance index, or it has to do 
with the individual call site.
    But in either event, let me answer the question hopefully 
in a way that would satisfy your constituents. As the Chair 
just said, one of the things that we have found is that our 
organizational structure was indeed a function of the fifties.
    It remained relatively constant, in terms of its 
consumption of our dollars and resources. And one of the things 
we set out to do in 1992-93 was what most large corporations 
have done, in looking at the overhead structure and in 
satisfying ourselves that we made that overhead structure as 
efficient as possible.
    That was before we entered the declining resources. Our 
objective at that point was to put every additional man or 
woman we could on the customer service frontlines, on the 
compliance frontlines.
    It was not under the crush of the financial gun to our 
head. It was, we thought, a prudent way to run a business. And 
we did that. We looked at the seven region structures, and 
said, Well, some people have been able to do away with regions 
altogether. We looked at what kind of a business we were, the 
number of customers, and said we can't do that. But we did not 
need seven. So, we went from seven to four.
    We did that, in part based on performance, but in part 
based on what were some geographical things that made sense.
    Then we got to the harder question, the one that affected 
the Pittsburgh district. That is, we had 63 districts. In many 
cases the districts were aligned with a particular State, or a 
particular set of historical facts. They weren't always--it 
wasn't always the same rationale by which something became a 
district. And over time a few districts have been added, a few 
have been subtracted, but for the most part we ran in the 
middle sixties with the number of districts.
    We looked at that and said There is an awful lot to be 
gained by having similarly sized offices, where we could 
concentrate some expertise. We didn't have to worry about the 
smaller districts that maybe had only 100 people, and we had a 
very hard time keeping engineer talent there, keeping 
international talent there, or even keeping talent on a 
particular part of the Tax Code that we wanted to give advice 
on.
    And so a good part of what we did, we spent the better part 
of a year looking at the way we had our districts organized, 
and found what we thought would be the most highly leveraged 
combinations of 63. And we looked at whether it should be 20, 
50, or 40. We ran data through various kinds of models, and at 
the end of the day what we did in Pittsburgh was let me say 
that Pittsburgh is an excellent work force. It has historically 
been an excellent work force. Its call site personnel are 
historically among the best we've had. And we did not for 1 
second erode any of that operating base. But we looked at the 
State of Pennsylvania, and said wait 1 minute, do we need two 
entire district apparatus, district directors, division chiefs, 
branch chiefs, support activities.
    And when we looked at that and we looked at the 
Philadelphia district being a significantly bigger district at 
that point, looked at the pluses and minuses of where would you 
locate the headquarters, that's kind of the way that decision 
got made, and it got made that same way across the other 30 
districts that got consolidated.
    At the end of the day, what we have taken out of Pittsburgh 
are only some of the compliance support activities, and some of 
the resource management support activities that can be done 
from a consolidated point. And we took the management overhead 
out.
    So it was in no way a shot at the quality of the Pittsburgh 
office. As a matter of fact we continue to rely during this 
filing season very heavily on the Pittsburgh taxpayer service 
site.
    Mr. Coyne. I will have additional questions on this matter. 
My time has expired here, but I'd like to be able to submit 
these questions to you to be able to get a response.
    Mr. Dolan. I'd be pleased to respond to them.
    [The following was subsequently received:]

IRS Answers to Questions Submitted by Rep. William Coyne

Question: In light of the continuing concerns about quality 
assistance to taxpayers, and the Taxpayer Advocate's report to 
this Subcommittee concerning the major problems facing 
taxpayers in dealing with the IRS:

How can the IRS justify moving work from the Pittsburgh office 
when it was ranked sixth out of 65 districts in efficiency, 
while the Philadelphia office was ranked forty-fifth?

    In May 1995, Internal Revenue Service (IRS) announced plans 
to consolidate its 63 district offices into 33 district 
offices. IRS' objectives in consolidating the district offices 
were to (1) foster an integrated and consistent approach to 
compliance over a wider geographic area, (2) decrease taxpayer 
burden by creating consistency across wider geographic areas, 
and (3) provide managers with greater flexibility to shift 
compliance staff within the district to respond to changing 
workload requirements.
    Before the district office consolidation, Pennsylvania had 
two districts, one headquartered in Philadelphia and the other 
in Pittsburgh. As a result of the consolidation, the two 
districts were merged to form the Pennsylvania District, 
headquartered in Philadelphia. In deciding which districts to 
merge nationwide, IRS attempted to create districts that were 
more uniform in size than was the case under the structure of 
63 districts. Accordingly, total staffing was a key criterion 
that IRS used to decide which district offices should retain a 
management structure and be designated as continuing districts. 
Generally, smaller districts were merged into larger ones, as 
was the case in Pennsylvania, where Pittsburgh was merged into 
Philadelphia.
    To assess the interactions of the various functional 
reorganizations on district office responsibilities, the IRS 
convened a task force for each functional area affected by the 
consolidation. On the basis of input from these functional 
teams, the IRS developed an Organizational Impact Analysis 
report that outlined a standard approach for consolidation. One 
of the recommendations was that all district office compliance 
support functions be centralized in the continuing districts, 
unless a business case (cost benefit analysis) could be made 
for an exception.
    As a result of a request for an exception, the IRS 
ultimately allowed the Pennsylvania District to centralize its 
collection support function in Pittsburgh. Of ninety-three 
positions that were granted exceptions nationwide, sixty-three 
were in Pittsburgh.

Question: How can the IRS justify RIFs in Pittsburgh and 
rehiring additional employees in Philadelphia when locality pay 
and rent per-square-foot are significantly lower in Pittsburgh?

    In a Memorandum of Understanding (MOU) between IRS and 
National Treasury Employees Union (NTEU) dated October 9, 1997, 
the IRS agreed not to conduct a RIF. Consequently, employees 
will not be RIFed in Pittsburgh nor will additional employees 
be hired in Philadelphia.

Question: How can the IRS justify the loss of tax 
administration in the entire western half of Pennsylvania?

    We do not believe tax administration in the western half of 
Pennsylvania will be affected by the restructuring. The 
restructuring efforts did not impact the size of the front-line 
compliance or customer service staffs in Pittsburgh. Positions 
eliminated as a result of the restructuring were entirely 
support and managerial positions.

Question: Considering these points, how can the IRS show that 
there is a cost benefit to the field reorganization concerning 
Pittsburgh?

    As discussed previously, we believe there are solid 
business reasons for the restructuring efforts. The 
consolidation of support functions has resulted in the 
elimination of support positions both in Pittsburgh and 
Philadelphia. The elimination of these positions represents a 
savings in itself. With the MOU signed October 9, 1997, with 
NTEU, these positions will be redirected to front-line 
compliance and customer service positions. As a result we 
expect customer service and compliance to improve.

                           Taxpayer Services

Question: The IRS and others have conducted five ``customer 
service surveys'' evaluating the IRS's ability to provide 
efficient and satisfactory service to taxpayers. What 
conclusions can be reached from these surveys?

    The surveys that have been conducted have generally been 
customer satisfaction surveys rather than customer service 
surveys, however, these surveys have provided clear indicators 
from taxpayers that they expect the same level of service from 
IRS that they can receive from the non government business 
community.

Question: To the extent specific IRS employees, or specific IRS 
offices, have provided below-acceptable service to taxpayers, 
what has the IRS done?

    The surveys done by IRS were not structured to identify 
individual employees or specific offices. Rather the surveys 
were designed to measure customer satisfaction with the 
corporate delivery and quality of assistance related services 
and general level of customer satisfaction with compliance 
related contacts.

                            Taxpayer Errors

Question: Again, for the 1997 tax return filing season, the 
``most common'' errors taxpayers and tax preparers make in 
filling out tax returns relate to calculating and correctly 
claiming the earned income tax credit. This problem area 
continues to make the ``top of the chart'' every filing season.

What, exactly, has the IRS done for the 1997 filing season to 
reduce the number of innocent errors taxpayers and tax return 
preparers make in claiming the EITC? Should the EITC form and 
instructions be simplified to prevent unnecessary errors?

    We made some editorial changes to the 1997 instructions to 
highlight who can claim the credit. However, before making 
extensive changes to the Schedule EIC and/or worksheets, we 
need more detailed information about the kinds of errors being 
made by taxpayers and preparers. We have tried to address the 
most common errors by including a section titled ``How to Avoid 
Common Mistakes'' in the tax forms instructions. We advise 
taxpayers to provide the correct SSN for dependents and to 
check their math, especially for the earned income credit.
    We reorganized the 1997 Publication 596, Earned Income 
Credit, to eliminate duplicate information, streamline it and 
regroup qualifying information. Taxpayers will now find general 
rules explained first, then information for those with 
qualifying children and finally, information for those without 
qualifying children.
    As part of the EITC initiative, the Service will be 
gathering information about taxpayers' filing behavior and what 
marketing techniques are appropriate for the target audience. 
We can use this data to decide what changes are necessary to 
forms, instructions and publications.
    The EITC has complex qualifying rules and computations 
which involve both earned and unearned income. For 1998, we 
will be changing the instructions again to reflect the 
provisions in the Taxpayer Relief Act of 1997. In computing 
modified Adjusted Gross Income (MAGI), for purposes of the 
credit, taxpayers will have to add tax-exempt interest and 
nontaxable distributions from pensions, annuities and 
individual retirement arrangements. The Act also changed the 
percentage of business losses disregarded in the computation of 
modified AGI. For low-income taxpayers with little expertise in 
tax matters, trying to determine their correct credit with 
these complexities can cause errors.

                              Filing Fraud

Question: The IRS continues to implement anti-fraud measures, 
including ``computer fraud screens'' and streamlined ``math 
error procedures.'' How successful have the IRS's anti-fraud 
actions been to date?

    The actions taken since the inception of the Revenue 
Protection Strategy several years ago have been impressive. 
Most recently, over 2 million returns with missing or invalid 
TINs were identified and processed using math error procedures. 
Taxpayers who do not have a valid TIN for themselves, certain 
dependents, children if claiming the earned income credit 
(EITC) cannot claim the exemption for these dependents or the 
EITC. In addition, the compliance functions continued to pursue 
questionable refund returns. In FY 1996, we continued our 
vigorous compliance efforts to identify and stop fraudulent 
refund schemes and to pursue questionable claims through pre-
refund examinations. In FY 1996, we identified nearly 2,450 
fraudulent refund schemes involving 24,000 returns and 
prevented the issuance of $46.8 million in refunds. We 
initiated 313 criminal investigations involving refund schemes. 
Prosecution recommendations were forwarded on 279 cases and 
indictments were obtained on 290 individuals and conviction in 
304 cases. Through pre-refund examinations, we prevented the 
issuance of an additional $864 million in refunds. Thus, last 
fiscal year, our direct enforcement efforts prevented $932 
million in erroneous or fraudulent refunds from being issued.

Question: What new anti-fraud controls are in place for the 
1997 tax return filing season?

    As in past years, the Service will not disclose detailed 
information concerning plans for fraud control and revenue 
protection. However, there are broad pieces of the revenue 
protection strategy that we will share to assist taxpayers and 
return preparers in filing accurate tax returns. Our main focus 
continues to be the validation of taxpayer identification 
numbers (TINs) on all tax forms and schedules requiring 
identification numbers, including:
     Security Numbers (SSNs) issued by SSA, Individual 
Tax Identification Numbers (ITINs) issued by IRS for non-
citizens unable to obtain an SSN, Adoptive Tax Identification 
Numbers (ATINs) issued by IRS to families in the adoption 
process. (An SSN cannot be issued by SSA until the adoption is 
finalized.) Missing or invalid tax identification numbers will 
result in reduced refunds unless the appropriate information 
can be provided.
     Another segment of the strategy is to identify 
questionable refunds; refunds will only be issued after the 
taxpayer provides acceptable proof of eligibility for various 
credits and deductions claimed on the return.
     Other compliance/enforcement efforts will 
continue. We will proceed with criminal investigation and 
prosecution of fraudulent refund claims.
    Although not necessarily new, the anti-fraud controls will 
again identify problematic returns. The additional resources 
recently approved will allow us to follow-up on a significantly 
larger portion of the returns identified.

                           1997 Filing Season

Question: The filing season appears to be going well. How long, on 
average, is it taking for the IRS to issue refunds for paper-file and 
for electronically-filed returns?

    Refunds for paper filed returns average 39 days. For Electronically 
filed returns, however, the average turnaround for refunds is 14.5 
days.

Question: Are all major tax forms and instructions available to 
taxpayers immediately upon request?

    Generally, all forms and instructions are scheduled for 
development, production and delivery so that they are available (in 
paper) for individual taxpayers during the first week of January. 
Distribution of paper copies are made to IRS Posts of Duty, Area 
Distribution Centers, many post offices, and libraries.
    In addition to these paper copies, products are also made available 
to the public electronically (IRS Bulletin Board, IRS Internet Web Site 
and by Fax), usually within 72 hours of the approval to print an item. 
This is obviously the most immediate source of IRS published products 
especially for those behind scheduled late legislation or technical 
development issues.
    See attached copy of Publication 2053A ``Quick and Easy Access to 
IRS Tax Help and Forms'' for details of these alternative sources. 
(Attachment A)
Question: Are any forms or other materials currently on backlog?

    There are generally items that are not ``immediately'' available 
throughout the year for various reasons. These items are tracked and 
reported on the ``Backorder Status Report.'' Attached is a copy of the 
most current report as of October 18, 1997, showing items currently not 
yet available in paper versions, listing projected availability, and 
volume of orders on hand. (Attachment B)

Question: What are the major reasons taxpayers are calling the IRS?

    Taxpayers call to obtain tax law information, in response to 
notices or bills and to inquire about the status of their refunds.

Question: What are the most common questions taxpayers ask when calling 
the IRS?

    The most common question taxpayers ask is: ``Where is my refund?'' 
The five most common tax law topics (based on the frequency of tax 
topics selected in Tele-tax) are:
    --Electronic filing;
    --Dependents;
    --Medical and dental expenses;
    --Earned income tax credit;
    --Filing requirements, filing status, and exemptions; or

Question: Have taxpayer walk-in services and open IRS office hours been 
expanded or reduced for this filing season?

    During the FY 97 filing season our walk-in offices continued to 
provide the same national level of service as during the prior year. 
Walk-in offices also assisted individuals in the application process 
for the Individual Tax Identification (ITIN), beginning 7/1/96. The 
total number of walk-in offices open during this past filing season was 
397. The hours of operation remained the same as FY 96 for most of our 
headquarters offices: Monday thru Friday--8:00 a.m.-4:30 p.m. Posts-of-
duty days and hours of operations varied based on taxpayer demand and 
resources.

                   IRS Telephone Taxpayer Assistance

Question: IRS data for early March shows that the ``level of 
access'' for taxpayers calling the IRS is above 70%. This is an 
improvement from earlier filing seasons. However, even at the 
70% level, over 7 million taxpayers have not been assisted. 
What level of access should taxpayers get when calling the IRS 
(i.e., is 70% good enough)?

    From an IRS/Customer Service perspective, 70% is not good 
enough and we are moving toward a higher level of service for 
1998.

Question: Does 70% level of service mean that 70% of the 
taxpayers calling actually talk to IRS employees on their first 
try?

    The level of access means that 70% of the taxpayers who 
called had their questions answered by an IRS employee or an 
automated service. It does not address how many call attempts 
they made before they received an answer.

Question: The Fiscal Year 1998 budget contains $39 million to 
be used for the reprogramming of IRS computers to handle the 
century date. Where is the IRS in the conversion process?

    The FY 1998 Appropriations provided $376.7 million ($289.7 
million of current year funds and $87 million in FY 1996 and FY 
1997 funds) for Century Date Change requirements, which 
includes $79 million for conversion and testing. The IRS 
expects to expend 580 full time equivalents (FTEs) or 
approximately $39 million for in-house conversion and testing 
activities. In addition, $40 million is needed for 313 
contractor FTEs and discretionary expenses. Current estimates 
are that this funding is sufficient for the Service's FY 1998 
conversion and testing efforts. If the IRS identifies other 
conversion requirements it will try to obtain Congressional 
approval to allocate some of the $42 million contingency 
funding to other conversion efforts.
     Status of Mission Critical Systems
    --4 mission critical systems have already been converted.
    --58 mission critical systems have been converted and will 
be implemented by January 1998.
    --All 121 mission critical systems will be converted by 
January 1999.

------------------------------------------------------------------------
                                       Status of
                                      Information      Status of All IRS
      Conversion Milestone           Systems Owned     Applications (As
                                   Applications (As      of 10/17/97)
                                     of 10/17/97)
------------------------------------------------------------------------
Assessment......................  Completed.........  Complete 9/30/97
Renovation......................  74%...............  53%
Testing.........................  31%...............  22%
Implementation..................  4%................  4%
------------------------------------------------------------------------


    In the first quarter of FY 1998, the IRS will complete the 
scheduling of the field and customer managed systems to be 
retained for conversion (expected to be in Phases 4 and 5). 
Conversion of telecommunications components will be conducted 
from January 1998 through February 1999 (Phases 4 and 5). A 
more detailed milestone schedule will be available by December 
31, 1997.

Question: Will the various types of data received from the 
outside and critical to the IRS, such as Social Security wage 
information, also be reprogrammed in a timely and appropriate 
manner?

    The IRS is trying to ensure that its trading partners can 
become Year 2000 compliant in a timely manner. The Century Date 
Project Office has spoken at public meetings, including the 
Information Returns Program Advisory Committee (IRPAC) and tax 
preparers' symposiums. It will work through established 
partnership organizations (e.g., CERCA, American Payroll 
Association) to reach a broader audience. The IRS also will 
provide Year 2000 conversion plans and date format standards 
required for exchanging data with its external trading partners 
on its Internet home page. The Project Office has included the 
external trading partner strategy in its Year 2000 Project 
Management Plan (version 3, September 12, 1997). There is 
awareness, concern, and strong support for the external trading 
partner efforts at the executive level within Information 
Systems. The IRS has appointed an executive, the National 
Director of Governmental Liaison and Disclosure, to lead the 
effort from the business side. There will be a ``Communications 
Package'' on this effort for field heads-of-office.
    With the support of the Business owners, the IRS is 
building a data base to document agreements on schedule and 
Year 2000 compliance requirements between the IRS and all of 
its external trading partners, as well as to track the progress 
of these partners through the conversion process. The Project 
Office developed testing plans for external data exchanges 
which updated testing requirements in the Unit Test Procedures 
Handbook. External data exchanges will be tested as part of 
integration or ``compatibility'' testing at the IRS. The 
Project Office will track the progress of the testing with 
external trading partners.
    By December 1997, the IRS will have a list of the key 
systems (e.g., Electronic Federal Tax Payment System) which 
exchange data with trading partners and their major trading 
partners (e.g., Social Security Administration) to address 
issues and focus its efforts. While the IRS will continue to 
specify its data requirements (e.g., through revenue 
procedures), and will document and test data formats for all 
external trading partners, it will also conduct an outreach 
program for the key trading partners which will entail site-
visits and expanded tracking of their Year 2000 efforts and 
status. Further, the IRS will be doing additional verification 
of its most critical data exchange partners' plans to bring 
their systems into full year 2000 compliance. The external 
trading partners reviews are scheduled to be conducted from 
February 1998 through July 1998. The IRS has already begun 
discussions with the Social Security Administration on the data 
exchange requirements for wage information.
    The IRS will incorporate contingency management measures 
(e.g. bridge software) in its plans which will be executed if 
any of its trading partners fail to become Year 2000 compliant 
as scheduled. The Project Office requested that the executive 
responsible for disaster recovery obtain certification that the 
Service's external disaster recovery site was Year 2000 ready.
      

                                

      
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    Mr. Coyne. And also, Madam Chairwoman, I have a letter from 
Commissioner Richardson relative to this subject and cutbacks 
that I would like to be able to insert in the record at this 
point.
    Chairman Johnson. So ordered, Mr. Coyne.
    [The information follows:]
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    Mr. Coyne. Thank you.
    Chairman Johnson. Congresswoman Dunn.
    Ms. Dunn. Thank you very much, Madam Chairman, and I 
apologize, Mr. Dolan for having missed almost all your 
testimony. I was in a joint leadership meeting and wasn't able 
to get here any earlier. And I am most interested in what you 
have to say, and have had a chance to read through your written 
comments.
    Obviously the IRS is facing a very great workload with a 
flatline budget, and fewer employees. Can you tell me how this 
is going to be reflected in a couple of areas, the first being 
the audits? How many audits will be conducted, of what type, 
and how is this going to help you with your compliance 
responsibilities?
    Mr. Dolan. Well, just a tiny bit of background. I may have 
mentioned before you came in, but in 1996 and 1997 we have 
essentially been in a posture where we have done no new hiring 
of revenue agents or tax auditors. So essentially wherever the 
attrition has fallen, in 1996, and thus far into 1997, we've 
taken the loss. We have not backfilled any revenue agents.
    And one outcome of that is that it isn't the most rational 
way to deliver an audit plan. So what we will do in 
anticipation of 1998 is again look for ways to create a 
presence or an involvement that may be less dependent on the 
classic one on one audit, because the bottom line will be there 
will be fewer audits in 1998 than there were in 1995.
    One of the things, when you look at our charts in our 
testimony, that we sometimes don't do a decent enough job of 
explaining is that we have included in the 1995 and 1996 bar 
charts what we call correspondence examinations. And that will 
make them look a little more stark.
    The correspondence examinations were used specifically in 
the way that the Chair identified earlier as a part of this 
revenue protection strategy. When we first tried to cure the 
Social Security number problem, we went with all kinds of 
publicity. We then held up a number of those and put them 
through a correspondence examination.
    With the help of this Subcommittee and Congress, this year 
we have something called a math error capability which doesn't 
require us to put one of those missing Social Security number 
cases through the entire examination process.
    We do it in a much more summary process. So some of what 
will appear in the testimony as a fall off between 1996 audit 
rate and what we will do in 1997 and 1998 is a function of this 
kind of transaction no longer being required to be done through 
the classic examination process.
    Ms. Dunn. What is the number of employees currently in the 
IRS?
    Mr. Dolan. It's 102,000 and something. And I would be happy 
to give you that as of the last pay period.
    Ms. Dunn. That's fine.
    [The following was subsequently received:]

    The FTE count for fiscal year 1997 is 102,926.
      

                                

    Ms. Dunn. I wanted to ask you a question on electronic 
filing. When we first discussed that, it seemed like it would 
provide greater compliance, and would allow you to work on 
improving compliance without a lot of negative benefits to 
businesspeople.
    Since then we have found that especially for small 
businesses it's tough for them to have to move to that sort of 
filing system. There is legislation out there that would allow 
a taxpayer to make a choice between the old system and 
electronic filing.
    Tell me what your thoughts are on that, and how is it going 
to affect your ability to improve compliance?
    Mr. Dolan. I think we are very much still a believer that 
the electronic filing process does both things. It creates a 
tremendously more effective customer service environment, but 
it also can be a terrific asset in compliance.
    Because what it will do over time is allow us to know more 
about the total population of filers, and be able to use on a 
realtime basis the attributes of a return to not waste the time 
of somebody on a return that fits within a particular pattern 
that today we have to take through a more manual process of 
pulling it out by a DIF score, putting it before a classifier's 
eyes, putting it in the examination process, and then finding 
out whether or not there really is the anomaly that there 
appeared to be.
    So there will be a compliance benefit. The other compliance 
benefit, quite frankly, is to the extent that that data is 
electronic and we can react to anomalies earlier, we can react 
to somebody who is in trouble, someone who has a first quarter 
delinquency, and we can react to that in the first quarter of 
their delinquency, rather than three or four quarters later 
where their alternatives are they've got no way to get the 
money, they're confronted with a choice of do I go out of 
business or do I pay my tax.
    And so tremendous, small ``c'' compliance benefits, I 
think, of moving more and more of the interfaces between--and 
the business community I think again--I may have mentioned this 
before you came in the room. We're doing something that's 
exciting to us. That's in the southeast part of the country we 
will take employers in 14 States and allow them to do their 
quarterly tax return on a touch tone phone, much like we do 
with the TeleFile.
    Now, I think we want to develop some data to see whether 
they'll do it as quickly, but we think we probably will do it 
maybe even more quickly than the 8 to 10 minutes on average 
that it takes a 1040-EZ filer.
    We think that kind of a system will have a whole lot more 
appeal to business than visions. Some businesses, I think, 
misunderstand the threshold investment, either of time or 
equipment. The other thing that you may have mentioned is our 
EFTPS Program, which is based on a very successful tax link 
program where we've had, I think, in the neighborhood of 72,000 
to 75,000 people in this system voluntarily.
    We now have something over 900,000 enrolled of the 1.2 
million that are due to begin in July. And for the most part, 
people who get past the entry shock and get themselves 
enrolled, find out how tremendously simple it is. I mean, 
basically, access again to a telephone.
    What we've been trying to do with the banks, the payroll 
houses, and all of the constituency groups is make sure that 
the businesses who see this--and might in the first instance be 
put off by it--understand how relatively simple it is, and how 
inexpensive and nonintrusive it is.
    So in part we've been trying to do a better job of 
marketing and informing that group.
    Ms. Dunn. I was just going to suggest, do you think you're 
getting the word out?
    Mr. Dolan. We could always do a better job.
    Ms. Dunn. I continue to hear from my small business folks 
that they really would like to have the choice because they're 
fearful this would take a great deal more money and time. And 
compliance, as we all know, is very expensive right now.
    Mr. Dolan. We have worked very hard with the benefit of 
some private marketers as well. We've established linkages with 
the FMS and with the banking community. We've got a lot of 
people who have tried to help us carry the message.
    And we are in the very late stages now. We will put in the 
hands of each of our district directors probably within the 
next 15 or 20 days the residual 200,000 whose obligations will 
accrue in July to make sure again that people aren't surprised 
by that, that they've heard from us, that we've done some 
direct outreach, so that as we get close to July, people aren't 
again scared off by this impending government requirement.
    Ms. Dunn. Thank you. Thank you, Madam Chair.
    Chairman Johnson. Thank you. Mr. Dolan, Congresswoman Dunn 
raises a very, very important problem, because the next round 
of companies that have to comply are even harder to reach and 
educate. And a lot of us are very concerned about that, and 
that's really where that legislation comes from, and it is 
something we're going to have to buckle down and see whether we 
need to delay the date or whether we need to do something 
different to reach them.
    But I appreciate the good work that you've done in this 
regard.
    Mr. Hulshof.
    Mr. Hulshof. Thank you, Madam Chair. Mr. Dolan, and perhaps 
Mr. Gross, for you, each of you gentlemen was present as the 
Chairman gave testimony and made reference to the amount of 
resources we have committed to Tax Systems Modernization. And I 
want to ask, either one of you, a couple of questions about 
some budget requests.
    It's my understanding that the Clinger-Cohen Act, as well 
as the Government Performance and Results Act, as well as 
memorandums from OMB require that information technology 
investments be supported by accurate cost data.
    And I think, particularly, looking at the information 
systems request, you're asking for about $131 million for 
developmental information systems. And yet I'm not sure that 
your budget request includes plans of how this is going to be 
used, in that the architecture and system deployment plan have 
not yet been finalized. Is that true, Mr. Dolan?
    Mr. Dolan. Mr. Hulshof, you essentially have it right. And 
let me say, though, in saying that you have it right, to a 
certain extent we are--collectively we are the victims of the 
calendar year.
    We are, as Art mentioned, very much on track doing the 
required first steps of getting the architecture, the plan, 
nailed down. He's got a timeline for that. The Modernization 
Board will receive our work on that in the summer.
    The difficulty we have is until that work is actually 
complete, until some final choice is made, we would be guessing 
at the actual sequencing of the priorities.
    It is very clear to us that there is going to be a critical 
mass of capital required for this architecture, for the 
sequenced investments. It was difficult for us, as we made the 
budget submission, to get ahead of the June/July timeframe; 
when we have finished these deliberations and made the choices, 
we will be much more sanguine.
    And so, on the face of it, it is anomalous with the law 
that says before the train starts to move at all, you have to 
have taken certain steps. I think if you literally superimpose 
such requirements on where we are today, we'll lose some 
tremendous time during which we could leverage what we all 
fully hope and expect will be plans that we're able to look at 
this summer.
    Mr. Hulshof. I agree, Mr. Dolan, that before the train 
heads out of the station it needs to have a set of tracks for 
that train to run over. And yet I am concerned, as I was back 
in the district this weekend, and this was a specific concern 
addressed to me by constituents.
    And if we look back at the track record, 26 programs being 
eliminated, about $1 billion of our tax moneys that have been 
wasted--or that's the perception out in the real world 
regarding the systems modernization. Would your answer be 
essentially the same as far as the IRS' request for $1 billion 
for fiscal years 1998 and 1999 for yet to be specified 
developmental efforts regarding the investments account, or 
capital investments?
    Mr. Dolan. It would be a little different in this respect, 
Mr. Hulshof. I think that represents a recognition within the 
government budgeting process that something has to change when 
it comes to anticipating and accounting for capital 
investments.
    And I think it represents as a part of the President's 
budget an effort to find a nonpartisan way of suggesting that 
no business in America does its capital thinking, capital 
investing, and capital planning out of a single year operating 
budget.
    And so I think that represents, certainly with respect to 
the dialog within Treasury and OMB, an attempt to say there is 
a way of dealing with this problem within a capital budget so 
that if the plans aren't there, and the dollars can't be spent 
prudently, they won't be spent. They'll roll back into a 
subsequent fiscal year in a way that in today's single year 
budget environment is much more difficult to do.
    Mr. Hulshof. As a final matter, Mr. Gross, you indicated a 
partnership with the private sector was something that was 
online, and that you needed to have a focused plan.
    And I think the second prong of your three prongs--I didn't 
get noted. What was that again?
    Mr. Gross. We need discipline, process and practice in 
place. Disciplined procedures for developing these investments.
    Mr. Hulshof. And are those in place?
    Mr. Gross. No, they are not, sir. Our commitment, and I 
think we have been asked this over these many months, ``What 
will be different about this next round of modernization?'' 
What will be different is the following: We will not move 
forward until we have those capabilities. We will not move 
forward until we have a partnership with the private sector.
    And, most importantly, we will not move forward until we 
have a proven, practical, disciplined and focused plan.
    Mr. Hulshof. Thank you, Madam Chair.
    Chairman Johnson. Ms. Thurman. Congresswoman Thurman. I'm 
sorry. I'm recognizing you out of order, Congresswoman. I 
didn't realize you'd come in.
    Ms. Thurman. That's OK. Thank you, Madam Chair. I 
appreciate it. Good afternoon. Thanks for being here.
    After our last hearing in this Subcommittee from the 
taxpayer advocate group, I had an opportunity to meet with some 
of your folks who are actually the agents out there, the 
telephone operators, the people that are being complained 
about, at least from the taxpayer advocate's 20 suggestions.
    I actually gave them a copy of the 20 most common questions 
and concerns with IRS, and I said to them, I said Have you ever 
seen this. And they said, No. And I said, But you all are the 
ones that are being complained about, and you've not actually 
seen what is being complained about.
    And they said, No. Actually, they are going to send me a 
written response to each one of the 20 complaints. My first 
question is this, Mr. Dolan: In the agency itself, particularly 
with the issues of trying to work from the bottom up, what are 
you doing to get the information down to those frontline 
people? Not just about the Tax Code, but the kinds of things 
that they're not being responsive to from the taxpayer? I'm 
interested to know how that system works from their situation.
    Mr. Dolan. Thank you. There are a couple of components to 
the problem resolution information that I think formed the 
basis for Mr. Monk's 20 points. In the past, I will tell you, 
we probably were more anecdotal about aggregating that 
information. By that I mean we would make regular surveys of 
our field personnel for them to essentially aggregate their 
experience and we'd compile it and put it in reports.
    What we have done very recently--really, we're in the first 
full fiscal year of its availability to us--we've got a far 
more differentiating management information system in place 
today where I can tell you with great alacrity what exactly the 
issues are that are being confronted by a Jacksonville or by a 
Ft. Lauderdale.
    I can tell you and I can look for the incidents with which 
there are anomalies, or a different pattern from one center to 
the other. And I can determine whether it is because people are 
more or less effective at recognizing when it is a problem 
resolution case.
    So there is one body of data that helps me take what the 
frontline problem resolution results are, bring the data up 
into a management information construct that allows us to then 
turn it back around to the regional commissioners, the district 
directors and say, this is the data, this is what is broken, 
this is what is not satisfying taxpayers on a regular basis, 
and potentially--back to the Chair's comment--this is also what 
may need a legislative remedy.
    Ms. Thurman. But if they're not--if those frontline people 
are not getting that information how do they correct----
    Mr. Dolan. I'm being a little slow in getting to the second 
prong.
    Ms. Thurman. OK.
    Mr. Dolan. The second prong is essentially what we try to 
do every year when we prepare people for the opening of a 
filing season. We take them through very specific training on 
the new issues, the issues we know about, and where we've done 
well or not done well with respect to the quality of our 
answers.
    And then throughout the filing season we also feed back 
information to people. Where are we getting it wrong? Where are 
people's needs not being met? Where are the bottlenecks in the 
system?
    So those are essentially the two prongs. Jim may want to 
comment.
    Ms. Thurman. Where do they get their input, though? I mean, 
once you feed them that information, those folks who are trying 
to correct those issues, when do they get the input into the 
system? When do they get the opportunity to talk to those that 
might be making management decisions?
    Mr. Dolan. We probably do that more or less well. I would 
say, like any big organization, we should probably do that 
better.
    Ms. Thurman. I'll share my letter with you.
    Mr. Dolan. I would absolutely encourage you to do that. I 
think that individually we expect that of the district 
directors, the division chiefs. We expect our installation 
managers to do that.
     I think, though, if you rely on the anecdotal or on 
somebody feeling strongly enough about an issue to float it up, 
in a big organization it doesn't always get to us--and that's 
why I'm hopeful this management information system allows us 
with starting point data.
    Mr. Donelson. Congresswoman, 2 of the last 4 years, we've 
run survey feedback action programs, called SFA, which really 
are to encourage our employees and managers to communicate 
about issues like you're talking about.
    And I think that's one of the many vehicles we use. One of 
the other things I'd like to point out is the Ombudsman or the 
Taxpayer Advocate brought to the table and talked to this 
Subcommittee about issues such as telephone access, notices, 
the clarity of the notices, the lack of clarity of the notices.
    And that's not about our people being bad people, not doing 
a good job. What that really is about is system problems. 
Things that we have recognized through the Advocate pointing it 
out to us, plus our own analysis, that you've got to fix that 
telephone system.
    The employees out there answering the telephone that you 
talk to, they can't hire additional people to be there beside 
them to answer more phone calls, or they can't necessarily--
because they're working on the phone--manipulate the telephone 
lines to be more efficient in the way we route calls.
    They certainly can't, if they're dealing with the taxpayer 
on the telephone, on a notice, make changes to that notice. 
They can make recommendations, and we have suggestion programs 
to do that. But they are, if you will, the victims of the 
system as well.
    And it's the job of all of us up here to change that system 
where possible. Some of those things listed on those items 
identified by the advocate are things that we've been working 
on with the help of our frontline employees, as well as the 
managers that are working with them.
    Ms. Thurman. Mr. Dolan, in your written testimony, you 
talked about, I think 26 million people possibly being eligible 
for some electronic, and those who would have direct deposit. 
And then you suggest in there, I think, that there are about 
3.2 million people that may be taking advantage of that.
    What I wasn't clear on is whether all 26 million people 
today tap into that system? Or are we limited? And then to 
carry along, with Ms. Dunn and Ms. Johnson's questions, maybe 
from a different standpoint, how much money do you spend in 
your budgets for marketing, or getting this kind of information 
out so that the taxpayer would know these issues are available? 
And just as importantly, what could we in Congress be doing to 
help you do that?
    For example, I host a public affairs show called ``Capitol 
Insights'' once a month for my constituents. We did a whole 
series on the EITC, so our constituents would be informed. How 
else could we help you with educating people?
    Considering that your budget is staying constant, it would 
seem to me, that if these new ways of filing are actually 
creating a savings, that that information ought to be shared 
with the taxpayers. If you do electronic filing, guess what, 
taxpayers, this is going to cost or save the government x 
amount of dollars.
    I know that was a long question, Madam Chairman, but I'm 
sorry.
    Chairman Johnson. It's a reasonable one, and we're all 
interested in the answer.
    Mr. Dolan. It's a great question, and it's also a kind of 
window into our soul. We have never historically had within the 
ranks of the IRS any particular marketing capacity.
    We are tax administrators and not marketers. And that's to 
our peril, in some instances. What really has brought about our 
need for and use of marketers--and I don't want to mislead you 
that we've got huge contracts where we're spending lots of 
dollars--is the combination of the EFTPS and the other suite of 
electronic products. There is a marketplace of 26 million 
people, and you know that at least on the surface the 
characteristics of what you're inviting them to do ought to be 
fairly appealing.
    But then you have to get beyond that, as we have tried to 
do, particularly the last 2 years, with the use of district 
office research capacity, which has allowed us to take that 26 
million people and stratify that population.
    We stratify the population because both the retired person 
who is within the dollar eligibility of that program and the 
college sophomore who is within that dollar eligibility are 
moved by two different brands of influence.
    To wit, in your part of the country today, and all the rest 
of this week, we have people shadowing the MTV onsite studios. 
Apparently they're moving around Florida in some 20 different 
places during spring break week.
    And so we have made a huge push this week and last week 
with college kids. Fifty of the biggest universities are giving 
us widespread publicity. We've got CBS' Web site--the one that 
gives the scores on the NCAA tournament--to run our banner 
across their site--and a lot of that is a function of the help 
we've gotten from marketers. They have given us ways of 
thinking about getting to that marketplace in ways that in the 
past, quite frankly, we would not have had the capacity or the 
creativity to do.
    And so--I wouldn't want to tell you that we're as good as 
we're going to get. But we clearly have recognized that 
marketing is a skill, and when you take that plus the 
references Art made you see we are listening to an industry 
that is already out there in their business environment, day in 
and day out, dealing in this electronic commerce environment.
    One of the major practitioners came to us and said, You 
know, I've got 6 million returns here that if I just flipped a 
switch I could send you electronically. But guess what, the 
people who file those returns with me aren't so sure they want 
you to get them electronically, because they're not sure what 
it means to have that data come to the IRS that way.
    Those are some of the same people who for years haven't 
wanted to use our preprinted label because they were convinced 
that if they used the label that we sent with the package, that 
meant they were going to get audited.
    We, for years, said no. What that means is we can enter a 
couple of key strokes instead of all the key strokes, because 
we've got that label on it. So there is a part of learning what 
the behavior sets are, what the motivations are, what it takes 
to track some of that marketplace. We clearly understand that 
we need help and we need other people's insights. And I think 
we're very much committed to using those kinds of skills.
    Ms. Thurman. Is there a significant savings?
    Mr. Dolan. There is a savings. What we're right now doing--
in connection with something we've mentioned in the longer 
testimony, as we have indicated, and in response to this year's 
appropriations language--is look at outsourcing.
    We propose to go to the marketplace with a request for 
information kind of dynamic, where we will ask people to bid on 
what they think they--the private marketplace--might want to do 
with the front end of sending us data and sending us 
information.
    As a part of that, we're going through a study that Mr. 
Musick is now doing, to pin down not only the front-end costs, 
but a lot of the downstream benefits of electronic filing as 
well. Everything from the obvious, you don't have to store the 
paper, to the less obvious, I can call up 100 percent of the 
data on a screen for customer service. This means customer 
service will be a lot more effective than if I can only call up 
what's transcribed.
    So we're right now trying to document that baseline in a 
way that I hope to give you a more precise answer in the future 
on that.
    Ms. Thurman. Thank you.
    Chairman Johnson. Very briefly, Mr. Gross, you're supposed 
to report in May, are you not, in regard to your plan for the 
Tax Systems Modernization Proposal? Do you think by then you 
will have a plan and the disciplines governing it, as you've 
spoken about today?
    Mr. Gross. Our projection by May 15, 1997, is to submit to 
the Congress what's known as the modernization architecture. 
That is regrettably only one element of the program. It will 
take us longer to establish the disciplines, and to acquire the 
partnership with the private sector.
    On the other hand, I would want to reinforce Mike Dolan's 
comments that given the nature of capital budgeting, it's 
essential for the government to plan in advance in anticipation 
that we will be prepared for modernization once those funds 
become available.
    It's my understanding that the first of the two projected 
$500 million segments would first become available no earlier 
than July 1, 1998. And by that time, we aim to have both our 
capabilities and hopefully the contractor relationships, the 
requisite contractor relationships, together with the 
architecture and the practical implementation plan.
    Chairman Johnson. So you need those funds to be available 
to you 1 year earlier?
    Mr. Gross. Our projection is that the availability of those 
funds, as set forth in the President's budget, is appropriate 
for the timing of our preparedness.
    Chairman Johnson. Oh, is appropriate.
    Mr. Gross. Is appropriate, yes. Which I understand to be no 
earlier than July 1, 1998, with the first of the two $500 
million increments.
    Chairman Johnson. Thank you. And, Mr. Dolan, last, why did 
you make the decision to divert money from examination and 
document matching, that kind of program that has to do with 
enforcement, into customer service, telephone access, as 
important as those things are.
    Was this the best place to take money, so that you end up 
not collecting $3 billion that last year we were able to 
collect?
    Mr. Dolan. Well, Madam Chair, it wasn't quite as clean a 
choice as that. I'll go back to the description that I was 
trying to give at the outset. For starters, in a perfect world, 
what I would have done if I was trying to leverage my 
compliance accounts to the maximum, I would have looked at 
perhaps people who were sitting in permanent revenue officer, 
revenue agent positions, and moved around along that spectrum 
of compliance, my assets.
    And so I would have cut less deeply from the matching. The 
coincidence of employment categories happens to be that 
matching program is largely done with seasonals.
    And so when I ended up in that predicament of 6,300 people 
that I couldn't pay for, and I looked for dollars that were 
otherwise fungible, that weren't tied to a person who was on 
the payroll getting paid every 2 weeks, the places I had to go 
were the seasonal hours, and, as I said, the training, the 
travel.
    And my other alternative would have been to go through some 
general or some targeted furlough, and put permanent people at 
home for periods of time in order to create some cash savings 
for the payroll process.
    I would like to tell you that I sat in some pristine way 
and made a true value choice to trade this dollar for this 
dollar. Last year, when we first made this transition, we did 
not invest in customer service as much as we'd like.
    Even this year, we have moved very modest compliance 
resources from our office audit occupation over to support, 
phones. So we were very conscious about not savaging a 
compliance program in order to do exclusively customer service.
    We've been trying----
    Chairman Johnson. Of course, one of the challenges is to 
coordinate some of the other things you're doing. If you're 
doing market segmentation by region, and, I mean, all of that 
should enable you to use your compliance resources far more 
effectively.
    Mr. Dolan. But there is one thing that I really missed by 
not being more explicit about this. We're in this--we're kind 
of in this no man's land now of trying to complete our 
reorganization. One of the things that is at issue is--Mr. 
Coyne talked about it as it pertained to Pittsburgh--that we 
are in a position where we knew that what used to take 2,500 
people to do in 63 districts could be done with 1,500 people in 
33.
    And we are sort of midstream trying to get that taken care 
of. And when we get that taken care of, it creates the 
flexibility of those thousand--essentially the dollars 
associated with those thousand staff years, that can be placed 
back in the right places.
    We've got holes up and down the organization. It happens to 
show up graphically because of the outcome measure on the 
document matching. But we've got groups that are not supported 
clerically, and so we've got some revenue agents off doing 
that.
    We've got lots of healing to do once we can accomplish this 
last phase of our reorganization. And I think that will go a 
long way toward rerighting some of those balances.
    Chairman Johnson. Thank you very much. Are there any other 
questions or comments? Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chairman. Mr. Dolan, 
Commissioner Richardson had asked some of us on the 
Subcommittee to consider introducing legislation that would 
make it a felony for an IRS employee to access tax information 
in an unauthorized manner.
    I wonder if you could shed some light on the necessity for 
doing that?
    Mr. Dolan. Yes. The Commissioner, as I know this 
Subcommittee knows, has been passionate about the issue of 
unauthorized accesses, as have the rest of us. And we have 
identified over time a series of corrections, in what--as I 
think the Commissioner in her most recent correspondence was 
pointing out--was the need to supplement what's already on the 
books that deals with the unauthorized access to electronic 
records.
    What is left open is the unauthorized access to paper 
records, and what she's asking for is some help in sort of 
applying to the paper world the same regime that the Congress 
helped us with on the electronic world.
    So in a sort of thumbnail, that's what her request is, and 
it's an extension of our objective. You don't make this go away 
by criminal penalties, but you do create a deterrence by having 
the same brand of prohibition on the paper side as you do on 
the electronic side.
    Mr. Coyne. Is it currently a felony relative to information 
that's accessed electronically?
    Mr. Dolan. Electronic. Yes, it is.
    Mr. Coyne. And you want it extended to paperwork access?
    Mr. Dolan. That's correct.
    Mr. Coyne. Thank you.
    Chairman Johnson. We have been working with you and intend 
to be working with you on a bipartisan fashion to get this 
legislation right.
    Mr. Dolan. We very much appreciate it, too.
    Chairman Johnson. There are lots of questions that could be 
asked, but we need to move on to the next panel, and I 
appreciate the quality of your testimony. And I would just 
suggest that if you have the information management capability 
that you were discussing, perhaps you could actually go back 
and pull up the three or four areas of complexity that are 
causing tax administration problems, and even frontline 
advocate problems.
    Because we are going to have to move in that direction, and 
we can't wait until we have that hearing again next year. So I 
would appreciate it, understanding more clearly now what we 
need. Not a list of 20. But if you have that management 
capability you really ought to be able to give us some guidance 
as to what we ought to be looking at.
    Because when I look at your budget, and the demands on you 
and the planning--I mean, just the transition, as you described 
that you can't get certain resources until you complete certain 
reforms, and then you can fill in some of the holes.
    It's very important that as you do this, we begin to take 
our part of the responsibility to address some of the 
complexity issues. And I know how volatile they are. I know 
that they are AMT and they're EITC, and they are other things.
    But we have to find a way to do some of those things, so 
that as you move toward a better system, you do it with a 
better law.
    So thank you very much for being here today, and thanks to 
all your staff for their good work, and for their presence.
    Mr. Dolan. Thank you.
    Mr. Coyne. Madam Chairwoman.
    Chairman Johnson. Mr. Coyne.
    Mr. Coyne. Several of my colleagues from Pennsylvania have 
asked that a letter that they sent to Commissioner Richardson 
be included in the record, relative to the reorganization of 
the IRS in Pennsylvania.
    Chairman Johnson. I would be happy to do that.
    I know that in my region they have worked very hard on 
this, and it has at this point seemed to serve the taxpayers of 
all the States involved very well. And I would be happy to 
include this letter on our behalf, Mr. Coyne.
    [The following was subsequently received:]
    [GRAPHIC] [TIFF OMITTED] T0671.009
    
    [GRAPHIC] [TIFF OMITTED] T0671.010
    
      

                                

    Ms. Thurman. Madam Chairman.
    Chairman Johnson. Yes, Congresswoman Thurman.
    Ms. Thurman. Could they also submit any of the educational 
pamphlets or whatever they do in targeting for businesses or 
seniors.
    Chairman Johnson. I'm sure they can provide those to the 
Subcommittee, and we'll see that they get to you.
    Ms. Thurman. I'd like to see those just so we could have 
them. I think it might be helpful for us as well.
    Chairman Johnson. I think if you just submit those, not as 
part of the record, but as part of the service to this 
Subcommittee, we'd appreciate it.
    Mr. Dolan. We will do that.
    Chairman Johnson. Thank you.
    Apologies to the GAO for the delay in your appearance. 
These are difficult issues, and it's important for the 
Subcommittee to understand them.
    Lynda Willis, the Director of Tax Policy and Administration 
of the General Government Division of the GAO; and Rona 
Stillman, Chief Scientist, Accounting and Information 
Management Division of the GAO.

    STATEMENT OF LYNDA D. WILLIS, DIRECTOR, TAX POLICY AND 
   ADMINISTRATION ISSUES, GENERAL GOVERNMENT DIVISION, U.S. 
GENERAL ACCOUNTING OFFICE; ACCOMPANIED BY RONA STILLMAN, PH.D., 
    CHIEF SCIENTIST, ACCOUNTING AND INFORMATION MANAGEMENT 
            DIVISION, U.S. GENERAL ACCOUNTING OFFICE

    Ms. Willis. Good afternoon, Madam Chairman, and Members of 
the Subcommittee. One of the advantages or disadvantages of 
going second is that you have a lot of your prepared statement 
that's already been presented by the panelists before you.
    With your permission I will submit my written statement for 
the record, and I will make a very brief overview of some of 
the key points that we make in the statement, and then open it 
up for any questions that the Members of the Subcommittee may 
have.
    Chairman Johnson. Thank you.
    Ms. Willis. This Subcommittee has asked us to look at three 
things basically for the Subcommittee today. First is IRS' 
actions to implement the fiscal year 1997 appropriation; second 
is the status of the 1997 filing season; and third is to 
comment on the administration's budget for fiscal year 1998, or 
the budget request.
    Turning first to IRS' 1997 appropriation, in 1997 Congress 
was concerned about the lack of progress in implementing TSM 
and about the level of taxpayer service. In response to 
congressional concerns about TSM, IRS has realigned its 1997 
information system spending plan.
    IRS has canceled projects that were included in those plans 
that it had estimated would cost a total of $36 million in this 
fiscal year. According to IRS' Chief Information Officer, these 
projects were canceled because they did not have business case 
analyses that justified their continued development. I would 
note that several of those projects were discussed in reports 
that we prepared for this Subcommittee earlier this year.
    The CIO also stated that IRS does not plan to start any new 
systems development projects, as he stated here this morning, 
until they have the internal capability to effectively develop 
systems. And that it would be 12 to 18 months before they could 
do that.
    Therefore, we believe Congress should consider rescinding 
the $36 million that will not be spent on those canceled 
projects in fiscal year 1997.
    Also in 1997, given congressional concerns about the level 
of taxpayer service and the low level of telephone 
accessibility, IRS decided this year, as it has stated, that 
one of its highest priorities would be to improve the ability 
of taxpayers to reach IRS by telephone.
    IRS did allocate about 1,000 additional staff years to 
taxpayer service, and the increased staffing is having a 
positive effect.
    Moving to the 1997 filing season, we're finding, as IRS 
indicated, that the filing season is going relatively smoothly 
this year. We have seen significant increases in two areas 
where we have criticized IRS' performance in the past--
electronic filing and telephone accessibility.
    As of March 7, the number of returns filed electronically 
was almost 25 percent more than at the same time last year. 
This increase is even more significant considering that the 
total number of individual income tax returns filed as of that 
date was 1.5 percent less than at this time last year.
    The largest percentage increase is in the number of returns 
filed using TeleFile. This increase may be due in large part to 
a change in the tax package IRS sent to eligible TeleFile users 
this year.
    This year IRS eliminated the form 1040-EZ and related 
instructions from the package, hoping that more taxpayers would 
be inclined to use TeleFile if they only received the TeleFile 
materials, and from all indications it's worked.
    And I would like to digress here a moment from my prepared 
statement to observe that this is exactly the sort of thing 
that IRS needs to do to better target its programs to the 
market they're trying to reach.
    When we understand why people don't participate in 
electronic filing programs, or when we understand why people 
are concerned about the new EFTPS Program, we are then in a 
better position to either provide the educational assistance, 
the different types of systems or programs, or perhaps even 
different timing of delivery of those services to meet taxpayer 
needs.
    And I think in this case, IRS' use of a different package 
of filing information for these taxpayers successfully enhanced 
IRS' ability to improve electronic filing.
    The accessibility of IRS' telephone assistance has 
increased substantially. IRS has answered 52 percent of 
taxpayer call attempts during the first 2 months of the filing 
season, compared to 21 percent during the same period last 
year.
    The number of taxpayers assisted was also up, with 71 
percent of the callers getting through, compared to 52 percent 
last year. And I think we would agree that those are 
substantial improvements.
    There are several factors that appear to have contributed 
to IRS' increased telephone service. One is an increase in the 
number of staff assigned to answer the phone, some of which was 
achieved by detailing staff from other IRS functions.
    And I would note here that the last time we looked at the 
resources going into telephone assistance was in 1994, and at 
that time the IRS was only budgeting enough resources to answer 
52 percent of the calls.
    So based on the budgeted resources it was not surprising to 
us or the IRS that the accessibility was at the rate it was.
    The second reason is an attempt to reduce the need for 
persons to call the IRS by eliminating certain notices that the 
IRS deemed to be unnecessary. And, finally, IRS revised its 
procedures for handling calls.
    Turning finally to the 1998 budget request, included in 
that request is $131 million for developmental information 
systems, the same amount that was provided in 1997.
    As a Member of the Subcommittee pointed out, the Clinger-
Cohen Act, GPRA and OMB require that information technology 
investments be supported by accurate cost data and convincing 
cost/benefit analyses.
    However, IRS' request does not include a credible, 
verifiable justification. The budget request states, and this 
Mr. Dolan acknowledged, that IRS does not now have plans to 
spend these funds, because its modernization architecture and 
system deployment plan have not yet been finalized.
    The administration is also proposing an information 
technology investments account of $1 billion; $500 million for 
1998 and $500 million for 1999. This is to fund yet to be 
specified developmental efforts.
    Again, the Clinger-Cohen Act, GPRA and OMB require that 
these requests be justified, and that agencies develop 
accurate, complete cost data and thoroughly analyze the 
business need for the systems. IRS has not prepared such an 
analysis for its investment account.
     Given IRS' poor track record in delivering cost beneficial 
systems, persistent weaknesses in its software development and 
acquisition capabilities, and the lack of justification and 
analysis for proposed system expenditures, we believe Congress 
should consider not funding either the $131 million request for 
systems development, or the $1 billion capital account until 
the management and technical weaknesses in IRS' Modernization 
Program are resolved, and the required justifications are 
complete.
    That is not to say that we think IRS will not need money to 
modernize their systems, but rather before the money is 
authorized for spending that IRS be required to have the 
appropriate cost/benefit analysis and justifications for these 
systems, and that they have developed the capability to deliver 
the projects they propose to deliver.
    The budget request for 1998 also includes $84 million for 
IRS' turn of the century date change. However, the 1998 request 
was based on September 1996 cost estimates for IRS' main tax 
processing systems. It did not include estimates for IRS' 
secondary systems that are also critical to tax administration.
    It also did not factor in many other activities related to 
the century date change effort that have since been identified.
    Thus far in fiscal year 1997, IRS has identified funding 
requirements for the century date conversion that would exceed 
its 1998 budget request. Consequently we believe it's 
reasonable to question whether the amount requested for this 
effort in fiscal year 1998 is going to be adequate.
    The largest staffing increase in IRS' budget request is for 
195 FTEs to process a projected increase in the number of tax 
returns filed in 1998. However, IRS expects that most of the 
additional returns will be filed electronically.
    Data IRS used to determine how much more money and staff it 
needed to process these additional returns show only a small 
difference between the number of FTEs needed to process 1 
million electronic returns and the number needed to process 1 
million paper returns.
    That small difference is inconsistent with what we would 
have expected, and may reflect at least in part that electronic 
filing is not truly paperless. Most electronic filers still 
have to submit a paper signature document.
    Finally, I would like to turn to some of the challenges 
that we believe the IRS and the Congress face in moving the tax 
system into the next millennium--some of the things that 
reflect directly on conversations that were held earlier today.
    The funding limits and program tradeoffs faced by IRS in 
1997 and anticipated for 1998 are likely to continue for the 
foreseeable future. As has been observed, the administration's 
projections actually reflect a decline in IRS' funding when 
inflation is considered.
    At the same time, the IRS is faced with competing demands 
and pressure from external stakeholders, including Congress, to 
improve its operations and resolve longstanding issues.
    In recent years, the statutory framework has been put in 
place for helping Congress and the executive branch make the 
difficult tradeoffs that the current budget environment 
demands. This framework includes the Chief Financial Officers 
Act, the Clinger-Cohen Act, and the Government Performance and 
Results Act.
    GPRA requires each agency to develop a strategic plan that 
lays out its mission, its long-term goals and strategies for 
achieving these goals. GPRA requires agencies such as the IRS 
to consult with the Congress as they develop these strategic 
plans.
    For IRS, these consultations provide an important 
opportunity for Congress, IRS and Treasury to work together to 
ensure that IRS' mission is focused, its goals are specific and 
results oriented, and strategies and funding expectations are 
appropriate and reasonable.
    The consultations may prove difficult as they are likely to 
underscore the competing and conflicting goals of IRS programs, 
as well as the sometimes different expectations of the numerous 
parties involved.
    Madam Chairman, that concludes my statement. I would be 
happy to answer any questions you may have, as would Dr. 
Stillman.
    [The prepared statement follows:]

Statement of Lynda D. Willis, Director, Tax Policy and Administration 
Issues, General Government Division, U.S. General Accounting Office

    Madam Chairman and Members of the Subcommittee:
    We are pleased to be here today to participate in the 
Subcommittee's inquiry into the Internal Revenue Service's 
(IRS) actions to implement its fiscal year 1997 appropriation, 
the status of the 1997 tax return filing season, and the 
administration's fiscal year 1998 budget request for IRS.
    This statement is based on our review of the 
administration's fiscal year 1998 budget request, the interim 
results of our review of the 1997 tax return filing season, a 
review of IRS' fiscal year 1997 spending plans for information 
systems, and our past work on Tax Systems Modernization (TSM).
    Our statement makes the following points:
    --IRS' fiscal year 1997 appropriation act and accompanying 
conference report indicated that Congress was concerned about, 
among other things, the level of taxpayer service and the lack 
of progress in implementing TSM. In response to congressional 
concerns and direction, IRS allocated about 1,000 additional 
full-time equivalent (FTE) staff to taxpayer service activities 
and realigned its fiscal year 1997 information system spending 
plans. IRS has since cancelled some of the projects that were 
included in those plans and that it had estimated would cost a 
total of $36 million in fiscal year 1997.
    --The 1997 filing season has seen significant increases in 
two areas where we have criticized IRS' performance in the 
past--electronic filing and telephone accessibility. To help 
achieve those increases, IRS (1) revised the tax package sent 
to persons eligible to file by telephone, hoping, as a result, 
to encourage them to file by phone; (2) assigned more staff to 
answer the phone; and (3) revised its procedures for handling 
more complicated telephone requests for assistance.
    --IRS' basic budget request for fiscal year 1998 is for 
$7.4 billion and 102,385 FTEs. Included in that request is $131 
million for developmental information systems, the same amount 
that was provided in fiscal year 1997. In addition to that 
basic request, the administration is proposing a capital 
account for information technology investments at IRS--$500 
million for fiscal year 1998 and another $500 million for 1999. 
Neither the $131 million or the $1 billion is supported by the 
type of analysis required by the Clinger-Cohen Act, the 
Government Performance and Results Act (GPRA), and the Office 
of Management and Budget (OMB).
    --The budget request also includes $84 million for IRS' 
turn of the century date change effort. IRS has already 
determined that it will need several million dollars more for 
this effort in fiscal year 1997 than had been allocated. Given 
that and because IRS' overall conversion needs are still being 
determined, it seems reasonable to question whether the amount 
requested for this effort in fiscal year 1998 will be 
sufficient.
    --IRS is also requesting funds to replace two old systems 
used to process paper returns and remittances. Because extra 
money is being spent on those replacement systems in 1997, all 
of the funding being requested for 1998 may not be needed.
    --The largest staffing increase in IRS' budget request is 
for 195 FTEs (with an associated cost of $11 million) to 
process a projected increase in the number of tax returns filed 
in 1998. IRS expects that most of the additional returns will 
be filed electronically. Data IRS used to determine how much 
more money and staff it needed to process those additional 
returns show only a small difference between the number of FTEs 
needed to process a million electronic returns and the number 
needed to process a million paper returns. That small 
difference is inconsistent with what we would have expected and 
may reflect, at least in part, the fact that electronic filing 
is not truly paperless.
    --Finally, IRS and Congress face many challenges in moving 
the nation's tax system into the next millennium. Funding 
limits faced by IRS in fiscal year 1997 and anticipated for 
fiscal year 1998 are projected to continue until at least 2002. 
Fiscal constraints as well as longstanding concerns about the 
operations and management of IRS make consensus on IRS 
performance goals and measuring progress in achieving those 
goals critically important. The provisions and requirements of 
the Chief Financial Officers Act, Clinger-Cohen Act, and 
Government Performance and Results Act provide a mechanism for 
accomplishing this.

                 Overview of 1997 Appropriation Issues

    IRS' fiscal year 1997 appropriation act \1\ and 
accompanying conference report \2\ indicated that Congress was 
concerned about various aspects of IRS' operations. Among other 
things, Congress expressed concern about (1) TSM and the need 
to direct more systems development work to the private sector; 
(2) TSM funds being directed at ``feeding the beast'' rather 
than at true modernization; (3) the ability of taxpayers to 
reach IRS over the telephone; (4) the need to maintain taxpayer 
service at fiscal year 1995 levels, at a minimum; \3\ and (5) 
the need to develop a strategic plan and performance measures 
for inclusion in IRS' fiscal year 1998 budget request.
---------------------------------------------------------------------------
    \1\ The Omnibus Consolidated Appropriations Act (P.L. 104-208, 
Sept. 30, 1996).
    \2\ H.R. Report No. 863, 104th Cong., 2d sess. (1996).
    \3\ Congress added this requirement because it was concerned that 
IRS' pending reorganization of certain field activities would adversely 
affect taxpayer service.
---------------------------------------------------------------------------
    As shown in table 1, IRS' final appropriation for fiscal 
year 1997 was $7.2 billion--$142 million less than its fiscal 
year 1996 appropriation. The fiscal year 1997 appropriation 
also rescinded about $174 million in information systems funds. 
Table 1 also shows that the fiscal year 1997 appropriation 
provided (1) all of what IRS requested for processing, 
assistance, and management; (2) $424 million less than 
requested for tax law enforcement; and (3) $365 million less 
than requested for information systems.
    In response to its fiscal year 1997 appropriation and the 
congressional direction specified therein, IRS (1) revised its 
spending plans for information systems; (2) reallocated 
resources within the processing, assistance, and management 
account to direct more resources to taxpayer service 
activities; and (3) reduced the number of compliance staff.

IRS' Fiscal Year 1997 Systems Spending Plans Are Consistent 
With Congressional Direction, But $36 Million May No Longer Be 
Needed

    For fiscal year 1997, IRS was appropriated about $1.3 
billion to fund its information systems. The appropriation act 
specified that the $1.3 billion be spent as follows:
    --$758.4 million for legacy systems,
    --$206.2 million for TSM operational systems,
    --$130.1 million for TSM development and deployment,
    --$83.4 million for program infrastructure,
    --$62.1 million for ``stay-in-business'' projects,
    --$61.0 million for staff downsizing, and
    --$21.9 million for telecommunication network conversion.
    IRS' plans for spending its fiscal year 1997 information 
systems appropriation and IRS' obligations through December 31, 
1996, appear consistent with the act's direction. Specifically, 
at the beginning of fiscal year 1997, we judgmentally selected 
eight projects, totaling approximately $197 million, that IRS 
planned to fund with its information systems appropriation and 
analyzed each relative to the categories and amounts specified 
in the act. Our analysis showed that IRS identified its 
projects in accordance with the legislative categories and that 
all of the projects we reviewed appeared to be consistent with 
the act's categories and spending levels.

Table 1: IRS' Fiscal Year 1997 Appropriation Compared to Its Fiscal Year
         1997 Budget Request and Fiscal Year 1996 Appropriation
                               In billions
------------------------------------------------------------------------
                                                  Fiscal
                                  Fiscal year   year 1997   Fiscal year
     Appropriation account            1996        budget        1997
                                 appropriation   request   appropriation
------------------------------------------------------------------------
 Processing, assistance, and
 management....................       $1.724       $1.780       $1.780
Tax law enforcement............        4.097        4.528        4.104
Information systems............        1.527        1.688        1.323
Total \1\......................       $7.348       $7.995       $7.206
------------------------------------------------------------------------
\1\ Totals may not add due to rounding.
Source: P.L. 104-52, fiscal year 1997 President's budget request for
  IRS, and P.L. 104-208.


    In analyzing IRS' spending, we also found that IRS has 
ongoing or completed one-half of the projects (with fiscal year 
1997 costs totaling about $87.3 million) that were used to 
justify the allocation of $130.1 million for systems 
development and deployment. IRS is reviewing one other project 
for $7 million and has canceled the remaining projects, which 
had projected fiscal year 1997 costs totaling about $36 
million.
    According to IRS' Chief Information Officer (CIO), IRS 
canceled these systems because business case analyses did not 
justify continued development. The canceled projects include 
the Corporate Accounts Processing System, the Integrated Case 
Processing System, and the Workload Management System.
    The CIO also stated that IRS does not plan to start any new 
system development projects until it has developed the internal 
capability needed to effectively manage system development 
projects, which includes developing a modernization systems 
architecture and a systems deployment plan. The CIO said that 
it would be 12 to 18 months before IRS begins acquiring and 
developing new systems. Therefore, Congress should consider 
rescinding the $36 million that IRS will not be using for 
systems development and deployment in fiscal year 1997.
    As noted earlier, $61 million of IRS' fiscal year 1997 
information systems appropriation was allocated for staff 
downsizing. We question whether all of the $61 million will be 
needed for that purpose. IRS had requested those funds to 
downsize its information systems staff by 819 positions. 
According to IRS' Chief for Management and Administration, 
however, attrition among information systems staff has been 
higher than expected and IRS' current downsizing plans include 
only 228 information systems positions.

Increased Resources Provided for Taxpayer Service in 1997

    Given congressional concerns about the level of taxpayer 
service and the low level of telephone accessibility documented 
in our annual filing season reports,\4\ IRS decided that its 
highest priority in 1997, other than processing returns and 
refunds, would be to improve taxpayer service, especially the 
ability of taxpayers to reach IRS on the phone. One important 
step IRS took to achieve that end was to increase the number of 
FTEs devoted to taxpayer service. According to IRS estimates, 
the number of taxpayer service FTEs will increase from 8,031 in 
fiscal year 1996 to 9,091 in fiscal year 1997. The estimated 
number of FTEs for fiscal year 1997 is also higher than in 
fiscal year 1995, which is in accord with congressional 
direction in IRS' fiscal year 1997 appropriation. According to 
IRS budget officials, some of these additional FTEs were 
achieved by reallocating resources originally targeted for 
submission processing; the rest were funded with user fees that 
IRS is authorized to retain.
---------------------------------------------------------------------------
    \4\ Tax Administration: Continuing Problems Affect Otherwise 
Successful 1994 Filing Season (GAO/GGD-95-5, Oct. 7, 1994); The 1995 
Tax Filing Season: IRS Performance Indicators Provide Incomplete 
Information About Some Problems (GAO/GGD-96-48, Dec. 29, 1995); and 
IRS' 1996 Tax Filing Season: Performance Goals Generally Met; Efforts 
to Modernize Had Mixed Results (GAO/GGD-97-25, Dec. 18, 1996).
---------------------------------------------------------------------------
    The bulk of the staffing increase for taxpayer service is 
directed at helping taxpayers reach IRS by telephone. To 
augment that increase, IRS has also been detailing staff from 
other functions to help answer the phone, including staff who 
would normally be doing compliance work. As discussed later, 
this increased staffing, along with other steps IRS took, seem 
to have succeeded in significantly improving telephone 
accessibility this filing season.

IRS Reduced Compliance Staff in 1997 to Accommodate Roll-over 
of 1996 Funding

    The fiscal year 1997 appropriation for tax law enforcement 
was essentially a roll-over of the 1996 appropriation. However, 
IRS, in its budget request for 1997, said that it needed an 
increase of $116 million just to ``maintain current levels'' 
for enforcement. According to IRS, getting a roll-over in 
funding for 1997 rather than an increase forced it to reduce 
staffing levels for compliance activities so it could pay on-
board staff. Specifically, IRS reduced certain compliance 
positions (i.e., revenue agents and revenue officers) by more 
than 1,000. As one result of this reduction, IRS estimates that 
audit coverage will drop from 1.6 percent to 1.2 percent. We 
should note, however, that these reductions were directed at 
those enforcement staff that IRS has characterized as 
``representing the least efficient use of IRS resources on the 
margin.''

                         The 1997 Filing Season

    By various statistical measures traditionally used to 
assess a filing season, the 1997 filing season is going well. 
Especially noteworthy are significant increases in electronic 
filing and telephone accessibility. One major change this year 
involves a new procedure IRS is using to deal with returns that 
have missing or incorrect Social Security Numbers (SSN). 
However, the impact of this procedure will not be evident until 
after the filing season. Another area that we cannot address at 
this time is refund fraud. IRS had not compiled data on the 
number of fraudulent returns and refunds identified this year 
as of the time we prepared this testimony.

Significant Increases in Electronic Filing and Telephone 
Accessibility

    As of March 7, 1997, the number of returns filed 
electronically, including those filed over the telephone, was 
24.7 percent more than at the same time last year. This 
increase is even more significant considering, as shown in 
table 2, that the total number of individual income tax returns 
filed as of March 7, 1997, was 1.5 percent less than at the 
same time last year.

             Table 2: Individual Income Tax Returns Received
------------------------------------------------------------------------
                                     March 7,      March 8,     Percent
          Type of filing               1997          1996      of change
------------------------------------------------------------------------
Traditional paper................    28,057,000    31,980,000      -12.3
1040PC \1\.......................     2,746,000     2,373,000       15.7
    Total Paper..................    30,803,000    34,353,000      -10.3
Traditional electronic \2\.......    10,921,000     9,273,000       17.8
TeleFile.........................     3,495,000     2,284,000       53.0
    Total Electronic.............    14,416,000    11,557,000       24.7
        TOTAL....................    45,219,000    45,910,000       -1.5
------------------------------------------------------------------------
\1\ Under the Form 1040PC method of filing, taxpayers or tax return
  preparers use personal computer software that produces paper tax
  returns in answer-sheet format. The Form 1040PC shows the tax return
  line and the data on that line. Only lines on which the taxpayer has
  made an entry are included on the Form 1040PC.
\2\ Traditional electronic returns are those that are filed through
  third parties, such as tax return preparers.
Source: IRS' Management Information System for Top Level Executives.


    As table 2 shows, the largest percentage increase is in the 
number of returns filed by telephone (i.e., TeleFile). That 
increase may be due, in large part, to a change in the tax 
package IRS sent eligible TeleFile users this year. In past 
years, IRS sent taxpayers who appeared eligible to use TeleFile 
a package that included not only TeleFile materials but also a 
Form 1040EZ and related instructions. Thus, taxpayers who could 
not or did not want to use TeleFile had the materials they 
needed to file on paper, assuming they were still eligible to 
file a Form 1040EZ. This year, IRS eliminated the Form 1040EZ 
and related instructions from the package sent eligible 
TeleFile users--hoping that more taxpayers would be inclined to 
use TeleFile if they only received the TeleFile materials.
    A second noteworthy trend this year is an increase in the 
ability of taxpayers who have questions about the tax law, 
their refunds, or their account to reach IRS by telephone. As 
shown in table 3, the accessibility of IRS' telephone 
assistance, as we have defined it in the past, has increased 
substantially.\5\
---------------------------------------------------------------------------
    \5\ Accessibility, as we have traditionally defined it, is the 
total number of calls answered divided by the number of call attempts, 
which is the sum of the following: (1) calls answered, (2) busy 
signals, and (3) calls abandoned by the caller before an IRS assistor 
got on the line.

         Table 3: Accessibility of IRS' Telephone Assistance \1\
------------------------------------------------------------------------
                                  Number of    Number of
                                     call        calls
         Filing season             attempts     answered      Percent
                                     (in          (in      accessibility
                                  millions)    millions)
------------------------------------------------------------------------
 1997..........................         21.6         11.3          52.3
 1996..........................         42.3          9.0          21.3
------------------------------------------------------------------------
\1\ These data are for January 1 through February 22, 1997, and January
  1 through February 24, 1996.
Source: IRS data.


    As table 3 indicates, the increase in accessibility is due 
to a combination of fewer calls coming in and more calls being 
answered. The two factors are not unrelated. The more 
successful IRS is in answering the phone, the fewer times 
taxpayers should have to call in an attempt to get through.
    IRS has another way of measuring accessibility, called 
``level of access,'' which tracks the percentage of callers who 
were eventually able to get through to IRS rather than the 
number of call attempts. As of February 22, 1997, according to 
IRS data, the level of access was 71 percent, a substantial 
increase over the 52-percent level of access as of the same 
time last year.
    There are several factors that appear to have contributed 
to IRS' increased telephone service: (1) an increase in the 
number of staff assigned to answer the phone, some of which was 
achieved by detailing staff from other IRS functions; \6\ (2) 
an attempt to reduce the need for persons to call IRS by 
eliminating certain notices that IRS deemed to be unnecessary; 
and (3) revisions to IRS' procedures for handling calls.
---------------------------------------------------------------------------
    \6\ In one service center, for example, 26 staff from the 
Collection area were detailed on an as-needed basis to answer the 
phones, 45 staff from that center's Adjustment/Correspondence Branch 
have been detailed to answer phone calls during the filing season, and 
another 24 staff from that Branch have been detailed to answer calls 
for 2 hours each afternoon.
---------------------------------------------------------------------------
    As an example of the latter, this year, unlike past years, 
callers who indicate, through the choices they select on the 
automated telephone menu, that they have a question in a 
complex tax area (such as ``sale of residence'') are to be 
connected to a voice messaging system. Those callers are asked 
to leave their name, telephone number, and best time for IRS to 
call back, and they are told that someone will be calling back 
within 2 working days. Those return calls are being made by 
staff detailed from IRS' Examination function. According to 
IRS, it made this change after a study showed that several 
areas of complicated tax law involved 20 to 30 minute telephone 
conversations and that an assistor could answer about 5 simpler 
calls within the same amount of time.

Too Soon to Assess Impact of IRS' New SSN Procedure

    One important change this filing season involves the way 
IRS is handling returns filed with missing or incorrect SSNs. 
Over the last few years, when IRS identified a missing or 
invalid SSN, it delayed the taxpayer's refund and corresponded 
with the taxpayer to resolve the issue. As we noted in our 
report to the Subcommittee on the 1996 filing season, IRS was 
unable to pursue many of the problem SSNs it identified under 
those procedures.\7\
---------------------------------------------------------------------------
    \7\ IRS' 1996 Tax Filing Season: Performance Goals Generally Met; 
Efforts to Modernize Had Mixed Results (GAO/GGD-97-25, Dec. 18, 1996).
---------------------------------------------------------------------------
    Effective with this filing season, IRS was given the 
legislative authority to treat missing or invalid SSNs as an 
error made by the taxpayer, similar to the way IRS handles math 
errors. Under that new authority, when IRS detects a missing or 
invalid SSN, it is to disallow any related deductions and 
credits and adjust the taxpayer's tax liability.
    For example, if a taxpayer claims one dependent and the 
child care credit, but lists an invalid SSN for the dependent, 
IRS is to increase the taxable income by the personal exemption 
amount claimed for the dependent and not allow the child care 
credit. IRS is then to adjust the taxpayer's tax liability and 
reduce the taxpayer's refund, if any. The taxpayer is to 
receive a notice explaining the changes to his or her tax 
liability and refund. The standard notice IRS is using provides 
a special toll-free telephone number that taxpayers can call if 
they want to discuss the changes and/or provide corrected 
information to support their claims. Taxpayers can also write 
to IRS to resolve the issue.
    IRS estimated that about 2.4 million taxpayers will receive 
these ``SSN-math error'' notices in 1997. According to an IRS 
official, IRS had issued about 70,000 such notices as of 
February 21, 1997. At the time we prepared this testimony, 
officials at three IRS customer service centers, which are 
responsible for answering taxpayers' inquiries, told us that 
assistors were not yet getting many calls or letters from 
taxpayers who received the notices. Thus, it is too early to 
assess the impact of this new procedure.

Data Not Yet Available on Refund Fraud

    As we noted in our report on the 1996 filing season, IRS 
identified many fewer fraudulent returns last year than it did 
in 1995. According to IRS, the decline was due to a 31-percent 
staffing decrease in IRS' Questionable Refund Program. Program 
officials told us that the reduced level of staffing has 
continued in 1997. However, we do not know how the reduced 
staffing has affected the number of fraudulent returns and 
refunds identified this year because IRS had not compiled that 
data as of the time we prepared this testimony.

Fiscal Year 1998 Budget Request for Information Systems Raises Several 
                               Questions

    IRS' fiscal year 1998 budget request includes $1.27 billion 
and 7,162 FTEs for information systems. Of the $1.27 billion, 
$1.14 billion is for operational systems, including funds for 
IRS' century data change effort and for replacing two old 
processing systems. The rest of the request ($131 million) is 
for developmental systems. In addition to the $1.27 billion, 
the administration is requesting $1 billion over 2 years to 
fund a multi-year capital account, referred to as the 
Information Technology Investments Account, for new 
modernization projects at IRS.
    Our analysis of the information systems request raised 
several questions: (1) Should Congress approve the $131 million 
for developmental systems and the $1 billion capital account 
given the absence of the kind of supporting analyses required 
by the Clinger-Cohen Act, GPRA, and OMB? (2) Is the money being 
requested for IRS' century date conversion effort sufficient? 
and (3) Will IRS need all of the money requested for replacing 
two processing systems?

Budget Request for Systems Development Not Justified

    The Clinger-Cohen Act, GPRA, and OMB Circular No. A-11 and 
supporting memoranda require that information technology 
investments be supported by accurate cost data and convincing 
cost-benefit analyses. For fiscal year 1998, IRS is requesting 
$131 million for system development. However, IRS' request does 
not include a credible, verifiable justification. The budget 
request states that IRS does not know how it plans to spend 
these funds because its modernization systems architecture and 
system deployment plan have not yet been finalized. These 
efforts are scheduled for completion in May 1997 and are 
intended to guide future systems development. According to IRS 
budget officials, $131 million was requested for fiscal year 
1998 because it was approximately the same amount IRS received 
in fiscal year 1997 for system development.

No Justification to Support Billion Dollar Information 
Technology Investments Account

    The administration is proposing to establish an Information 
Technology Investments Account to fund future modernization 
investments at IRS. It is seeking $1 billion--$500 million in 
fiscal year 1998 and another $500 million in fiscal year 1999--
for ``yet-to-be-specified'' development efforts. According to 
IRS' request, the funds are to support acquisition of new 
information systems, expenditures from the account will be 
reviewed and approved by Treasury's Modernization Management 
Board, and no funds will be obligated before July 1, 1998.
    The Clinger-Cohen Act, GPRA, and OMB Circular No. A-11 and 
supporting memoranda require that, prior to requesting multi-
year funding for capital asset acquisitions, agencies develop 
accurate, complete cost data and perform thorough analyses to 
justify the business need for the investment. For example, 
agencies need to show that needed investments (1) support a 
critical agency mission; (2) are justified by a life cycle 
based cost-benefit analysis; and (3) have cost, schedule, and 
performance goals.
    IRS has not prepared such analyses for its fiscal year 1998 
and 1999 investment account request. Instead, IRS and Treasury 
officials stated that, during executive-level discussions, they 
estimated that they would need about $2 billion over the next 5 
years. This estimate was not based on analytical data or 
derived using formal cost estimating techniques. According to 
OMB officials responsible for IRS' budget submission, the 
request was reduced to $1 billion over 2 years because they 
perceived the lesser amount as more palatable to Congress. 
These officials also told us that they were not concerned about 
the precision of the estimate because their first priority is 
to ``earmark funds'' in the fiscal year 1998 and 1999 budgets 
so funds will be available when IRS eventually determines how 
it wants to modernize its systems.
    In 1995 we made over a dozen recommendations to the 
Commissioner of Internal Revenue to address systems 
modernization management and technical weaknesses.\8\ We 
reported in 1996 that IRS had initiated many activities to 
improve its modernization efforts but had not yet fully 
implemented any of our recommendations.\9\ Since then, IRS has 
continued to address our recommendations and respond to 
congressional direction. But, there is still no evidence that 
any of the recommendations have been fully implemented and, as 
we reported in February 1997, IRS' systems modernization effort 
continues to be at risk.\10\ Much remains to be done to 
implement essential improvements in IRS' modernization efforts. 
IRS has not yet instituted disciplined processes for designing 
and developing new systems and has not yet completed its 
systems architecture.
---------------------------------------------------------------------------
    \8\ Tax Systems Modernization: Management and Technical Weaknesses 
Must Be Corrected If Modernization Is to Succeed (GAO/AIMD-95-156, July 
26, 1995).
    \9\ Tax Systems Modernization: Actions Underway But IRS Has Not Yet 
Corrected Management and Technical Weaknesses (GAO/AIMD-96-106, June 7, 
1996).
    \10\ GAO High-Risk Series, IRS Management (GAO/HR-97-8, Feb. 1997).
---------------------------------------------------------------------------
    Given IRS' poor track record delivering cost-beneficial TSM 
systems, persisting weaknesses in both software development and 
acquisition capabilities, and the lack of justification and 
analyses for proposed system expenditures, Congress should 
consider not funding either the $131 million request for 
systems development or the $1 billion capital account until the 
management and technical weaknesses in IRS' modernization 
program are resolved and the required justifications are 
completed.

Funding Needs for Century Date Change Are Uncertain

    IRS, like other federal agencies, is in the midst of a 
major project aimed at making its computer systems ``century 
date compliant.'' Currently, IRS' computer systems can not 
distinguish between the years 1900 and 2000 because the systems 
year is represented by two-digit date fields (i.e., 00 in both 
cases). IRS estimates that the failure to correct this 
situation before 2000 could result in millions of erroneous tax 
notices, refunds, and bills. Accordingly, IRS' CIO has 
designated this effort as a top priority. The CIO established a 
year 2000 project office to coordinate work among the various 
IRS organizations with responsibility for assessing, 
converting, and testing IRS systems.
    IRS' fiscal year 1998 budget request includes $84 million 
for the century date change effort, an increase of $39 million 
over the $45 million included for that effort in IRS' fiscal 
year 1997 budget. However, the fiscal year 1998 request was 
based on September 1996 cost estimates that, in turn, were 
based on an estimate of lines of computer code for IRS' main 
tax processing systems. The request did not include estimates 
for IRS' secondary tax processing systems that are also 
critical to the tax administration process. It also did not 
factor in many other activities related to the century date 
change effort that have since been identified, such as the need 
for additional hardware and software for testing, operating 
system upgrades, and possibly additional storage capacity due 
to expanded date fields.
    Thus far in fiscal year 1997, IRS has identified 
requirements for the century date conversion that would exceed 
its fiscal year 1997 budget by as much as $49.5 million. Of 
this amount, $13.5 million is for additional labor costs and 
the remaining $36 million is for nonlabor costs (i.e., the 
purchase of updated operating system environments, contractor 
support for software conversion and testing, and additional 
hardware for expected capacity increases). IRS' Investment 
Review Board recently approved a request for these additional 
funds. However, according to IRS budget officials, a funding 
source has not been identified. Once that source is identified, 
they said they plan to notify the Appropriations Committees.
    IRS is currently assessing what it needs to do to make its 
main tax processing systems century date compliant and what 
that will cost. However, there are other potentially 
significant project costs, including those associated with 
converting and testing secondary tax processing systems. IRS 
project officials told us that they hope to have a complete 
cost estimate for the century date conversion effort by this 
summer. In the meantime, given the status of IRS' needs 
assessment, it seems reasonable to question whether the amount 
requested for this effort in fiscal year 1998 will be 
sufficient.

Replacement of Systems That Process Paper Tax Returns and 
Remittances

    Also as part of its information systems request, IRS is 
asking for a $35 million increase over the $9 million it 
received in fiscal year 1997 to replace two systems--the 
Distributed Input System (a 12-year old system used to process 
paper returns)and the Remittance Processing System (an 18-year 
old system used to process tax payments). IRS reports that the 
systems are unreliable, costly to operate and maintain, and not 
year 2000 compliant. IRS is requesting $44 million for fiscal 
year 1998 to develop a replacement for these two systems and 
begin pilot testing in January 1998.
    Project officials told us that to meet the January 1998 
milestone for piloting the new systems, they accelerated the 
project schedule. As a result, they requested and the 
Investment Review Board approved, on March 4, 1997, an 
additional $11.8 million--$5.7 million for fiscal year 1997 
requirements and $6.1 million for fiscal year 1998 
requirements. Consequently, the project will not need this $6.1 
million in fiscal year 1998. Accordingly, Congress should 
consider reducing the fiscal year 1998 request for this project 
by $6.1 million.

Request for Additional Returns Processing Staff Raises Questions about 
                     Benefits of Electronic Filing

    IRS' largest requested budget increase is for $214 million 
and 195 FTEs to maintain its fiscal year 1997 program levels in 
fiscal year 1998. According to IRS, most of the $214 million is 
needed to cover pay and benefits for the employees it has on 
board. However, $11 million and all 195 FTEs are intended to 
cover ``mandatory workload increases'' in its returns 
processing function. More specifically, IRS has projected that 
the number of primary tax returns filed will increase from 
197.9 million in 1997 to 200 million in 1998. IRS has also 
projected that 91 percent of the increase in primary tax 
returns (or 1.9 million returns) will be filed electronically.
    The data IRS used to determine its need for $11 million and 
195 FTEs indicated that IRS only saves about 5 FTEs for every 1 
million returns that are filed electronically. This is contrary 
to what we would have expected. Because up-front filters keep 
certain taxpayer errors that are common on paper returns from 
contaminating electronic returns and because electronic returns 
bypass the labor intensive and error prone key punching process 
IRS uses for paper returns, we would expect that the labor and 
related costs to process electronically-filed returns would be 
substantially lower than the labor and costs associated with 
processing paper returns.
    Part of the explanation for the smaller-than-expected 
savings is that electronic filing is not truly paperless. 
Taxpayers filing electronically, other than through TeleFile, 
must submit a paper signature document to authenticate the 
electronic portion of their return. And IRS has to process that 
document. In January 1993, we reported that IRS needs to 
resolve various issues that adversely affect the appeal of 
electronic filing.\11\ One of those issues is the need to 
submit paper documents with an electronic return.
---------------------------------------------------------------------------
    \11\ Tax Administration: Opportunities to Increase the Use of 
Electronic Filing (GAO/GGD-93-40, Jan. 22, 1993).
---------------------------------------------------------------------------

                       Challenges for the Future

    Probably the most noteworthy part of IRS' performance 
during the 1997 filing season to date is the dramatic increase 
in telephone accessibility. The improvement, however, is not 
without cost. IRS is using various strategies to improve 
accessibility, one of which involves detailing staff from other 
functions to answer the phone. The funding limits and program 
tradeoffs faced by IRS in fiscal year 1997 and anticipated for 
fiscal year 1998 are likely to continue for the foreseeable 
future. The administration's outyear projections actually 
reflect a decline in IRS funding when inflation is considered.
    At the same time, IRS is faced with competing demands and 
pressure from external stakeholders, including Congress, to 
improve its operations and resolve longstanding concerns. 
Modernization of IRS' processes and systems is critical to 
doing this. So is reaching consensus on IRS' strategic goals 
and performance measures.
    In recent years, Congress has put in place a statutory 
framework for addressing these challenges and helping Congress 
and the executive branch make the difficult trade-offs that the 
current budget environment demands. This framework includes as 
its essential elements the Chief Financial Officers Act; 
information technology reform legislation, including the 
Paperwork Reduction Act of 1995 and the Clinger-Cohen Act; and 
GPRA.
    In crafting these acts, Congress recognized that 
congressional and executive branch decisionmaking had been 
severely handicapped by the absence in many agencies of the 
basic underpinnings of well managed organizations. Our work has 
found numerous examples across government of management-related 
challenges stemming from unclear missions accompanied by the 
lack of results-oriented performance goals, the absence of 
detailed business strategies to meet those goals, and the 
failure to gather and use accurate, reliable, and timely 
program performance and cost information to measure progress in 
achieving results. All of these problems exist at IRS. To 
effectively bridge the gap between IRS' current operations and 
its future vision while living within the budget constraints of 
the federal government, these challenges must be met.
    Under GPRA, every major federal agency must ask itself some 
basic questions: What is our mission? What are our goals and 
how will we achieve them? How can we measure performance? How 
will we use that information to make improvements? GPRA forces 
a focus on results. GPRA has the potential for adding greatly 
to IRS performance--a vital goal when resources are limited and 
public demands are high.
    GPRA requires each agency to develop a strategic plan that 
lays out its mission, long-term goals, and strategies for 
achieving those goals. The strategic plans are to take into 
account the views of Congress and other stakeholders. To ensure 
that these views are considered, GPRA requires agencies to 
consult with Congress as they develop their strategic plans.
    Congress and the administration have both demonstrated that 
they recognize that successful consultations are key to the 
success of GPRA and therefore to sustained improvements in 
federal management. For IRS, these consultations provide an 
important opportunity for Congress, IRS, and Treasury to work 
together to ensure that IRS' mission is focused, goals are 
specific and results oriented, and strategies and funding 
expectations are appropriate and reasonable. The consultations 
may prove difficult because they entail a different working 
relationship between agencies and Congress than has generally 
prevailed in the past. The consultations are likely to 
underscore the competing and conflicting goals of IRS programs, 
as well as the sometimes different expectations of the numerous 
parties involved.
    As a GPRA pilot agency, IRS should be ahead of many federal 
agencies in the strategic planning and performance measurement 
process. Nonetheless, IRS remains a long way from being able to 
ensure that its budget funds the programs that will contribute 
the most towards achieving its mission goals. While IRS needs 
more outcome-oriented indicators, it also has difficulty in 
measuring its performance with the indicators it has. For 
example, IRS' top indicator is its Mission Effectiveness 
Indicator. This is calculated by subtracting from the revenue 
collected the cost of IRS programs and taxpayer burden and 
dividing that result by true total tax liability. While this 
approach may be conceptually sound, IRS does not have reliable 
data to calculate taxpayer burden nor can it calculate true 
total tax liability.
    In summary, IRS' 1997 filing season is going very well in 
two areas that we have criticized in the past. Telephone 
accessibility is much higher and more taxpayers are filing 
electronically.
    Regarding IRS' fiscal year 1997 spending and IRS' fiscal 
year 1998 budget request, there are several questions that 
Congress may wish to consider as it continues its oversight and 
appropriations activities. Among these are:
    --Should the $36 million that IRS will not be using for 
systems development and deployment in fiscal year 1997 be 
rescinded?
    --What level of funding will IRS need to make its 
information systems century date compliant, and will those 
changes be made in time?
    --Does IRS need all of the fiscal year 1998 funding it is 
requesting for the Distributed Input System/Remittance 
Processing System replacement project?
    --What level of funding should Congress provide for 
developing new information systems, given the lack of any 
justification for the $131 million requested for fiscal year 
1998 and the $1 billion investment account for fiscal years 
1998 and 1999?
    --What reliable, outcome-oriented performance measures 
should be put in place to guide IRS and Congress in deciding 
how many resources should be given to IRS and how best to 
allocate those resources among IRS' functional activities?
    That concludes my statement. We welcome any questions that 
you may have.
      

                                

    Chairman Johnson. Thank you very much, Ms. Willis. Two 
questions come to mind. Until the Taxpayer Systems 
Modernization is moving forward, and some of the other major 
projects that you referred to, there aren't likely to be 
savings that can be used to fund other functions.
    So how is this agency going to continue to deliver the 
current level of service, and at the same time prepare itself 
for the future? The money is not there yet for the Project 
2000. Clearly the major Systems Modernization Program is not 
going to be implementable until toward the end of the century. 
Then a flat budget is going to be an enormous problem in terms 
of service delivery and preparation for the future, is it not?
    Ms. Willis. Absolutely. And I think, Madam Chairman, that 
one of the things we need to know more about is the 
effectiveness of current programs, and where existing programs 
are providing us good return on our investment and are moving 
us forward in a results-oriented fashion and achieving IRS' 
goals.
    We frequently don't know when we make tradeoffs among the 
different programs what impact we are going to have, either in 
terms of improving service in one area, or decreasing service 
in another. If we understood more about certain types of 
programs, we would have a better understanding of how to 
allocate the money.
    Let me give you an example, and I would use taxpayer 
service or telephone accessibility as one good place to start. 
Funding enough money to have every phone call answered is not 
the most efficient way, as Mr. Dolan observed, to meet the 
needs of taxpayers.
    A key part is also understanding where we can reduce the 
demand that's coming in by getting rid of unnecessary calls--
you know, anticipating where we can eliminate a notice and get 
rid of calls that are coming in. We also need to look at more 
efficient ways of providing that service.
    Some of the new interactive systems that IRS is designing 
and their Web site are ways of providing the same service at a 
lower cost. We also need to look at more efficient ways of 
using the resources that we have to reach those taxpayers who 
need to be reached by an individual assister or by an IRS staff 
member.
    So I think when you look at a particular program, we need 
to disaggregate it into its component parts and the causes of 
the service that we're looking to provide, and then understand 
what's the best way to provide that service.
    Chairman Johnson. Isn't their effort to look regionally at 
sort of sector specific demands going to help with this?
    Ms. Willis. Yes. I think their market segment approach 
should provide them with additional information on local 
conditions in the local economy and the nature of noncompliance 
that will allow them to better target the resources going into 
an individual location, and better identify and better design 
programs to both put preventative measures in place as well as 
to better target compliance efforts.
    Chairman Johnson. In looking at the IRS Programs, in your 
estimation, both of you, do we understand, does somebody 
understand enough, about what programs work for us to be able 
to effectively target our dollars at the programs that work 
now, while we're making those plans for the architecture and 
discipline of TSM and the Project 2000 effort, and some of the 
other major efforts that are going on?
    Could we use that approach to target our resources now to 
maintain a certain level of functioning and service while we 
leapfrog ourselves into this next era?
    Ms. Willis. I think on the margin we know enough about 
certain programs and certain parts of the function of IRS and 
the types of service it is trying to deliver to make 
improvements within the existing resource framework.
    And I would put into that category such things as 
electronic filing, and things that provide new ways of getting 
information into the system, while we wait for the new major 
modernization efforts to come in place after the turn of the 
century.
    So I think we can't afford to wait until we have everything 
modernized in place to move forward. And there are 
opportunities. I think one of the first things that we need to 
do in identifying those opportunities however is to come up 
with better performance measures, and performance measures that 
the various stakeholders can agree to, so that when we measure 
what performance a particular program is giving us, we know 
exactly what we're talking about, and it's targeted to the 
strategic goals of the organization, as well as its strategic 
mission.
    I also think--and I'm going to anticipate your question 
here, Madam Chairman--that there are ways to look at the Tax 
Code, and to decide whether that's an effective way to deliver 
a particular service given the resource constraints that face 
us.
    Decisions that we made 5 or 10 years ago about delivering a 
particular service within the constraints of the Tax Code may 
no longer be ones we would make today. And I think there are a 
variety of ways that we can go about identifying those areas of 
the Code that we could simplify while waiting for the 
structural reform debate to take place.
    One of those is looking at recurring audit issues. Are 
there certain issues that IRS audits repetitively among 
businesses year after year? And that's true. There are. What 
are the issues that are coming up when taxpayers call the IRS? 
Where are they running into problems?
    If the IRS is having problems administering a particular 
provision I can guarantee you that the taxpayer is having 
difficulty being compliant with that provision, and vice versa.
    So looking at where taxpayers are having difficulty being 
compliant, as well as where IRS is having difficulty 
administering this system will give us a real window into parts 
of the Code that we could potentially simplify.
    Chairman Johnson. And you think we could mobilize 
information that's already there in a way that would help us 
begin this project now?
    Ms. Willis. I think there is information out there that we 
can use. We may have to manipulate it. We may have to clean it 
up, but I think there is information out there that we can use 
to help do that, yes.
    Chairman Johnson. I think that's enormously important for 
us to start on. I'm talking about in the next 2 and 3 months. 
Because if we don't strip out some of the, in a sense, costly 
and nonproductive activities of the IRS, then I don't see how 
they have the resources to continue, in a sense, to hold, and 
to make the improvements in certain areas as they have been, 
and as we see they can do, and at the same time deal with the 
major problems that face them.
    You were very effective in identifying early some of the 
contracts that were nonproductive and the systems projects that 
were not going to prove to be worth it. And if you would like 
to give some thought to what you think needs to be focused on 
in terms of funding and things of lesser importance, and how we 
get the information about where Code simplification could have 
actually an administrative cost impact, I'd appreciate it.
    I don't even know whether it's possible under the IRS 
system right now to identify the administrative cost of certain 
Code requirements.
    Ms. Willis. No, I don't think it is. And it's also very 
difficult to quantify the compliance costs on the taxpayer's 
side. And it is frequently difficult to tease out of any 
compliance or taxpayer burden question what part IRS can 
control and can enhance as opposed to the underlying statute, 
which is one of the things in looking at tax administration 
that we always have to be very careful about--can we manage to 
tease the component parts apart far enough to be able to 
identify strategies for addressing them.
    Chairman Johnson. There are some particular glitches that 
we know about that we ought to be able to sort of tease apart a 
little bit. We know there are lots of companies that are having 
to do a second tax exercise to identify their alternative 
minimum tax even though they aren't going to pay an alternative 
minimum tax, in order to determine other tax liabilities that 
they may have.
    Now, while we may not be able to exactly identify the costs 
of that problem, we ought to be able to have some rough 
estimate of how many companies have to do this, what part of 
the private sector is affected, what the rough cost of that 
would be, and what the alternatives are in this area.
    Certainly with the EITC we know how many of those people 
have to hire someone to help them apply, and what the costs of 
submission are the way we require the forms to be submitted, 
and how much of the benefit to the low-income person is taken 
by the costs of applying, and therefore what the net effect is.
    So I think if we can get some better insight into those 
kinds of transactional costs to both the taxpayer or the 
taxpayer's beneficiary, it would help us to make the kinds of 
changes we really have to begin making.
    And there are certainly other areas that you are far better 
prepared to bring to my attention than those ones that I have 
mentioned. But I really invite you to help us over the next 
couple of months focus in on these areas as we have invited the 
IRS to do, because we can't wait until next year to start on 
this.
    Ms. Willis. We would be happy to do that. In fact, we have 
a body of work that is kind of crosscutting that has identified 
areas of the Code that we think could be improved, some related 
to the earned income tax credit.
    We have done some work on the alternative minimum tax, and 
you're absolutely right. A lot more people have to keep books 
and records than ever qualify to have to file under the 
alternative minimum tax regime.
    And so we could certainly go through and take an inventory 
of those provisions that we've looked at and work with you on 
it.
    Chairman Johnson. And then we have some problems waiting to 
explode, in terms of number of taxpayers affected.
    Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chairwoman. Ms. Willis, staff 
of the Appropriations Committee recently testified before the 
National Commission on Restructuring of the IRS that it's not 
likely that the appropriators are going to give the full 
funding that was requested for 1998 to the IRS.
    Would you be able to gauge the results of that relative to 
the IRS' performance in providing taxpayer services, collecting 
taxes, and preventing fraud?
    Ms. Willis. Congressman Coyne, without knowing specifically 
where the appropriators are anticipating making cuts, I 
couldn't comment on that. If, for example, the cuts are in the 
information systems developmental budget, the $131 million that 
I spoke of, where IRS has not even decided where it's going to 
spend that money, not appropriating that money would not affect 
compliance, taxpayer service, and so forth.
    But I am not aware of where the appropriators are proposing 
to do additional cuts, perhaps within compliance or taxpayer 
service, that would result in the sort of impacts you're 
talking about.
    Ms. Stillman. I could amplify that a little. Consistent 
with the $131 million that hasn't been justified is an 
additional $500 million in the information technology 
investments accounts whose use has not been specified. There is 
no explanation of what it would be for, how it would be used, 
when it would be used. Mr. Gross has testified that money would 
not be spent before July 1, 1998. He said the IRS and Treasury 
would exert their own discipline in not spending it until they 
could ensure that it would be wisely spent.
    July 1, 1998, is just 3 months before the start of fiscal 
year 1999. That gives IRS just 3 months to spend a fund of $500 
million, the purpose of which is unknown today. I can't imagine 
that they would need $500 million at that point in fiscal year 
1998.
    Mr. Coyne. Thank you.
    Chairman Johnson. If I could pursue that just for 1 minute, 
certainly money shouldn't be spent until the justification is 
clear, the plan is clear, the justification is clear. However, 
if we don't allocate it in an orderly process, in anticipation, 
when it goes out, it's going to go out in big amounts.
    There are going to be big contracts. And if we don't start 
in a sense laying it aside now, perhaps with stronger fencing 
language or something, then in my experience when the time 
comes we will phase it in.
    And we went through this with fuel assistance, when we 
transferred--we took the money from the windfall profits tax, 
and substituted it for our own money, and we have never put our 
own money back in because you have to take it from someplace 
else.
    So I am terribly concerned that if we don't make some 
commitment to a capital fund, even if we fence it off more 
clearly than we have, when the time comes, we'll not allocate 
the money at the pace we need to then implement the plan.
    Ms. Stillman. One of the lessons that history has taught us 
is that organizations in general and IRS in particular do not 
do well trying to build and deploy huge projects. Laying out 
money in huge amounts has not led to successful systems.
    Clinger-Cohen specifically says that, as much as is 
possible, IT projects ought to be incrementalized. Projects 
should be smaller, the planning should be better, the 
performance measures should be clearer, and, at the end of each 
increment, it ought to be clear that we got the benefit that 
was intended when we made the investment. This is much better 
than the older paradigm of allocating humongous amounts of 
money for huge projects.
    If TSM has taught us anything, it ought to be to develop 
systems more slowly.
    Chairman Johnson. So in your view even when we get TSM 
planned, and we understand what the macroplan is, then the 
individual projects should be implemented in a way that allows 
us to look and see if it worked before we go forward.
    That's interesting. Thank you. That's very helpful.
    Ms. Stillman. Absolutely.
    Chairman Johnson. Congresswoman Dunn.
    Ms. Dunn. Thank you, Madam Chairman. I feel like I want to 
ask you for a value judgment, Ms. Willis, but maybe you can 
help me answer the question in my own mind. I am interested in 
how the IRS stacks up against other agencies as you do these 
evaluations.
    How, for example, have they done under the Results Act?
    Ms. Willis. I think we could give IRS credit for being 
ahead of a lot of Federal agencies in terms of its strategic 
planning processes and getting itself ready to implement the 
Government Performance and Results Act.
    IRS has had a strategic planning process and performance 
measures for some years that have been incorporated into its 
budget. And while we might take exception to some of the 
performance measures, and how well they're linked to the 
strategic outcomes, and whether they're truly results oriented, 
at least you have an acknowledgment within the organization 
that this type of planning is important.
    As a GPRA pilot agency, and IRS was one of two agencywide 
pilots, IRS has been initiating the process to operationalize 
these type of activities, and has taught us a number of lessons 
as we move out to implement GPRA across the government, not the 
least of which is this is not going to be easy.
    Agencies have not traditionally avoided doing results-
oriented measurement because they didn't think it was good, but 
because it's very hard. It's very critical and has become even 
more critical as we're allocating short resources, and I think 
IRS is certainly at the point of recognizing that.
    Although I think the IRS can be given a positive value 
judgment in terms of where they are in GPRA compared to some 
other Federal agencies, I wouldn't want that to imply that they 
don't have a long way to go, as does the whole government.
    Ms. Dunn. That helps me a lot. Thank you very much. One of 
the things you talked about was the taxpayer phone calls for 
information and that the number of folks gaining access had 
multiplied by, I think you said, 100 percent, something like 
that. There were fewer phone calls because taxpayers were 
getting information in other ways.
    And I guess what I would like to do is sort of get a bottom 
line answer from you--is there a way of evaluating the degree 
to which those telephone callers who gained access were given 
correct answers to their questions?
    Ms. Willis. The IRS actually has a procedure that they 
worked out with us some years ago to evaluate the accuracy of 
the questions in which they test the response rate in terms of 
are taxpayers getting the correct answers.
    I have not seen figures for this year's filing season yet, 
but last year the accuracy rate was over 90 percent. And I have 
no reason to believe that it has declined this year, but again 
I have not seen any numbers.
    Ms. Dunn. That's very encouraging. I did talk to a group of 
employees in my local IRS department, and one of the problems 
that they brought to my mind was that when they increased the 
number of employees answering those phone calls, that people 
were moved over from management positions, other positions 
where they didn't necessarily have the right answers to the 
questions.
    Ms. Willis. Always a concern.
    Ms. Dunn. Yes. All right, thank you. Thank you, Madam 
Chairman.
    Chairman Johnson. Thank you very much, and thank you for 
your testimony. Is there any comment you wanted to make in 
closing?
    Ms. Willis. No.
    Chairman Johnson. Thank you very much. It was a pleasure to 
have you.
    Ms. Willis. Thanks for the opportunity.
    Chairman Johnson. I'd like to call Beanna Whitlock, an 
enrolled agent, from the National Association of Enrolled 
Agents and Michael Mares, the chairman of the tax executive 
committee of the American Institute of Certified Public 
Accountants.

   STATEMENT OF BEANNA J. WHITLOCK, ENROLLED AGENT, NATIONAL 
                 ASSOCIATION OF ENROLLED AGENTS

    Ms. Whitlock. Madam Chairman, my name is Beanna Whitlock. I 
am an enrolled agent. I am here today to represent the National 
Association of Enrolled Agents, as their government relations 
cochair. I also am privileged to sit on the Commissioner's 
Advisory Group.
    I would like to first of all, on behalf of our 9,000 
members, thank this Oversight Subcommittee for the work it's 
done. We have certainly seen a great change in the Internal 
Revenue Service in the last several years.
    I am personally a practitioner of almost 30 years, and an 
enrolled agent 20 of those. And, as an enrolled agent, I am 
licensed by the U.S. Treasury. In 1884 we represented taxpayers 
before their government when they had problems with their 
government, and of late we represent those same taxpayers 
before the Internal Revenue Service.
    We want to give as a filing season report card a 
verification of what you've heard from GAO and from the IRS. We 
feel this is a very smooth filing season, and our national 
office that hears complaints of our members reports that this 
is the smoothest filing season in recent years.
    We report to you four instances that we think are problems. 
First of all a delay causing practitioners a problem. We did 
not receive our volume II of package X which is our bible. It 
has the tax forms. It has the instructions. And we didn't 
receive it until mid to late February as reported by most of 
our members--much into the tax season.
    Second, we received a lot of customer or taxpayer concerns 
that they did not receive their tax package, which usually came 
about Christmastime, nor did they receive the card that had 
their label for it. Even though most of those taxpayers didn't 
use them, because they were afraid that it would subject them 
to audit, they were concerned that they did not receive them.
    We do, however, applaud the IRS in this move omitting their 
issuance. We felt it was a cost savings move, and one that the 
taxpayer would not mind having their funds diverted to another 
use for.
    We are concerned about the ITIN, Individual Tax 
Identification Number, Program. In many of the districts, our 
members report that taxpayers are having difficulty getting 
those identification numbers.
    These are individuals wanting to file tax returns or use as 
dependents those individuals that do not qualify for Social 
Security numbers. And because of legislation in the fall, this 
new legislation caused those individuals to have to get those 
ITIN numbers.
    Finally, as far as a glitch in the system toward electronic 
filing, early in February, the Internal Revenue Service 
reported they were having trouble with electronic filing. 
Several who had filed electronically were actually coming up 
showing as deceased, and that's one of the glitches in the 
program. A deceased taxpayer cannot file his return 
electronically.
    But we applaud the Service because immediately information 
went out to all electronic filers, on this problem, how they 
could best go around the problem, and how soon it would be 
fixed by the IRS, and when they could go ahead and file those 
returns electronically once again.
    Overall, we think it's a very smooth filing season, but we 
attribute that to the very focus that the Internal Revenue 
Service put on this filing season, and we encourage that this 
focus will become the norm and the standard operating procedure 
for all filing seasons.
    I have listened to the testimony this morning, and I agree, 
and the practitioner community agrees, that this is not the 
same old IRS. And we attribute that in great part to the 
Oversight Subcommittee.
    Indeed, it's not the same IRS, because they are listening 
now with full and open ears, and they don't react as much as 
they act.
    Some of the instances I can give you as to how the IRS is 
listening to the practitioner and to the taxpayer community is, 
number one, in this independent contractor issue.
    This is a tremendous problem for our small business owners. 
They don't understand the term of contract laborer as much as 
they understand the term casual laborer. Now when does that 
casual laborer or contractor become in actuality an employee? 
And the Internal Revenue Service has addressed that very 
effectively with the settlement program of last season.
    Indeed, they are taking a look at the collection standards. 
These are the new standards applied to individuals who are 
trying to set up installment agreements, or offers in 
compromise with their government. And those new standards 
should be released very quickly.
    And as practitioners, we are looking at the ability to use 
the form 656, which is the offer in compromise form, that is 
now able to be computer generated.
    Heretofore, the IRS has been very reluctant to let us use 
our own computer-generated forms. But in this one particular 
instance, they listened to the practitioner community, felt 
that there were advantages and reasons why they should relax 
their attitude toward this, but yet they were very sensitive to 
this being a legal document entered into between the taxpayer 
and their government, compromising the integrity of the 
document.
    But working with the practitioner community, they did 
develop one that can be computer generated and used much more 
easily by the practitioner community and the taxpayer.
    And finally I would just lift up several changes that 
happened in my own district this year. I practice in Plano, 
Texas, and our district is the North Texas District.
    We were very heavily hit with a requirement for these 
ITINs, the completion of a form W-7 which would give those 
individuals who could not have a Social Security Number an 
identification number so that they could either file a tax 
return, have a spouse reported on the tax return, or a 
dependent.
    We live in a large community that is Hispanic and Spanish 
speaking. The Internal Revenue Service went outside of its box. 
It went outside to the community, visiting several Catholic 
Churches in both Fort Worth and in Dallas, and they had this 
tremendous outreach, having an opportunity to be with the 
taxpayer or these individuals in settings in which they were 
very comfortable, in their church setting.
    They had interpreters there who could speak to them in 
their own language and, indeed, had interpreters for the deaf 
there as well.
    In this comfortable setting, they instructed them as to why 
they needed these numbers, how it would facilitate the filing 
of their tax return, and in many instances result in a refund 
to them.
    I am proud to tell you that over 10,000 taxpayers were 
helped through this outreach program by volunteers of the 
Internal Revenue Service. In addition to that, they have kept 
their telephone hours open much longer than that 8 to 5 period 
of time.
    Most taxpayers don't have an opportunity to be on the 
telephone waiting during their break or their lunch hour. So 
this became very important to them, that they could go home, 
and in the privacy of their own home, call the Internal Revenue 
Service and get answers.
    In addition to that, the time spent on the telephone 
waiting, from 1995, where it was 3.5 minutes, has now been 
reduced to only 1 minute and 10 seconds, to wait for either an 
assister or to be prompted through the telephone lines.
    And one other thing about the North Texas District, makes 
my practice there much easier. They have enlisted the community 
in this effort in order to get information out to the public. 
They've enlisted the DART service, which is our bus service in 
Dallas, and the little message that goes around the inside of 
the bus that tells them about community affairs also told them 
about all the outreach opportunities, where the Internal 
Revenue Service had VITA, Volunteers in Taxpayer Assistance, 
sites where the taxpayer could be helped preparing tax returns, 
when the office hours would be extended, and, in fact, two 
Saturdays be available for the taxpayer to come into the 
Internal Revenue Service.
    We feel the Internal Revenue Service has made many 
improvements in the way that they have administered the Tax 
Code in this filing season and encourage even more endeavors in 
this way.
    Finally I would only mention to you the things that as a 
practitioner community we think are very vital. Because we are 
the eyes and the ears, and oftentimes the conscience of the IRS 
as it deals with the American taxpayer, we know that there is a 
credibility gap between the IRS and the taxpayer.
    We're further concerned that without the budget to provide 
what the American taxpayer sees as their individual needs, 
taxpayer assistance, forms, accessibility to the IRS, that the 
budget limitations will further erode the taxpayer's confidence 
in the IRS, and therefore encourage noncompliance, putting 
further burden on the Internal Revenue Service.
    We would further say that we feel that indeed the employee 
morale issues of the Internal Revenue Service are indeed a 
concern to us. American taxpayers, when they call the taxman, 
aren't oftentimes as courteous as they should be. And when the 
press comes down on the IRS, as it has in several months, then 
it does breed those morale issues within the Internal Revenue 
Service.
    Finally, I was very encouraged to hear everyone who 
participated in these hearings today, acknowledged that indeed 
not only is the practitioner community a real part of tax 
administration with the IRS, but so is Congress. And we would 
simply encourage this, that when Congress considers a bill, 
before Congress considers sending a bill to the President to 
sign, that perhaps at those initial stages of planning that the 
Internal Revenue Service who is charged with administering 
those tax laws be consulted, and that, indeed, one step 
further, that the practitioner community be consulted as well, 
so that we might be those eyes and the ears and the conscience 
of Congress in how the American taxpayer will view that 
legislation. Thank you.
    [The prepared statement follows:]

Statement of Beanna J. Whitlock, Enrolled Agent, National Association 
of Enrolled Agents

    Madame Chair Johnson, Members and guests, my name is Beanna 
J. Whitlock and I am an Enrolled Agent engaged in private 
practice in both Houston and Plano, Texas. I have been an 
Enrolled Agent for more than 20 years and am an instructor in 
small business tax and accounting. I currently serve as Co-
chair of the NAEA Government Relations Committee and am a 
member of the Commissioner's Advisory Group (CAG).
    I am very pleased to have this opportunity to present 
testimony on behalf of the more than 9,000 Members of the 
National Association of Enrolled Agents, all of whom are small 
business owners and tax professionals. NAEA receives no Federal 
grants or contracts.
    As you know, Enrolled Agents are licensed by Treasury to 
represent taxpayers before the Internal Revenue Service. 
Enrolled Agents were created by legislation signed into law by 
President Chester Arthur in 1884 to remedy problems arising 
from claims brought to the Treasury after the Civil War. We 
represent taxpayers at all administrative levels of the IRS, 
thereby affording us the opportunity to be the eyes, ears and 
oftentimes the conscience of the IRS in its administration of 
the tax laws. Since we work closely with more than 4 million 
taxpayers each year, we are at the front lines of tax 
administration and know just how well the IRS is doing its job 
of administering the nation's tax laws.
    We would like to express our appreciation to the Oversight 
Subcommittee members and staff for your annual review and 
evaluation of the direction and programs administered by the 
Internal Revenue Service. NAEA believes you are making an 
invaluable contribution to improving tax administration by this 
effort.

                     1997 Filing Season Report Card

    This is definitely not the filing season of two years ago. 
The perception of Enrolled Agents around the country is that 
filing season is going very smoothly. More taxpayers have come 
in earlier this year than last and we are seeing more nonfilers 
who want to come back into compliance. The NAEA national office 
staff reports the lowest level of filing season complaints in 
the last several years. In fact, only a handful of significant 
issues have come to our attention and we would like to share 
them with you:
    1. Late distribution of Volume 2 of Package X, tax forms 
and filing instructions. The package was not received until 
well into February by most practitioners. The delay may have 
been the result of late Congressional legislative action last 
year because several forms were not ready for printing. More on 
that later.
    2. Early in the filing season, electronic filers 
experienced a ``glitch'' in the system whereby certain 
taxpayers, filing their tax returns electronically, were 
precluded from doing so with the system reporting the taxpayer 
as deceased. Immediately, the Service notified electronic 
filers and tax practitioner groups with instructions on the 
program error, how to correct and alternatively file, and when 
the system error would be corrected and electronic filing 
resumed.
    3. Many taxpayers who regularly use paid tax preparers 
continue to be concerned that they received neither a tax forms 
package nor a postcard with a label this filing season. We 
understand that in order to economize, the Service cut down on 
needless paperwork and mailings. NAEA strongly supported that 
decision. Too often, our Members reported, they did not use the 
forms, instructions and labels their clients brought in because 
as practitioners they use computer generated forms. Instead the 
paper and postcards were thrown away. However, it's going to 
take taxpayers a little while to get acclimated to this change. 
In the meantime, IRS continues to evaluate the suitability of 
its forms, instructions and publications in consultation with 
practitioner groups and is eliminating those that are obsolete 
or can be obtained in some other manner. We applaud this cost-
cutting effort because in addition to being tax practitioners, 
Enrolled Agents are also taxpayers.
    4. Individual Tax Identification Numbers (ITINs): We have 
surveyed our Members as to how the new ITIN program for 
taxpayers who are not eligible for Social Security Numbers has 
been working. Taxpayers who do not have SSNs must have an ITIN 
in order to file. The reaction has been mixed. Some of our 
Members report that their clients have had no problem at all 
while others are finding it difficult to work through the 
requirements. To get quick service from IRS, most EAs say they 
send clients directly to the local IRS office with their 
documents. Others have praised IRS outreach efforts, notably in 
IRS' North Texas District where approximately 10,000 taxpayers 
have been reached. The Acceptance Agent process for ITINs has 
gone slower than expected. Again, this is a new program, 
started just this year, and it will take some time for tax 
practitioners and taxpayers to get accustomed to it. Some 
additional education work would probably be helpful, including 
more outreach by local IRS offices.
    Overall, however, we are very pleased that the IRS appears 
to have focused its efforts on the 1997 filing season in an 
unprecedented fashion.
    The Service is to be commended for its public awareness 
efforts on alternative ways of filing and the availability of 
the IRS website. The website makes it possible for taxpayers 
and tax practitioners to download forms, instructions for those 
forms, and publications at any time of the day or night, any 
day of the week. In addition, the IRS fax on demand service 
makes available the most widely used forms and instructions in 
a very convenient and user friendly fashion for taxpayers and 
tax practitioners alike.
    We hope these efforts to divert telephone calls out of the 
system will pay off by providing alternative ways of obtaining 
information. We believe that they will continue to improve as 
more taxpayers and tax practitioners become familiar with them. 
This year's increased use of TeleFile is certainly an example 
of how it may take a year or two for taxpayers to become 
comfortable with the technology and then you can see usage 
skyrocket.
    If I were to summarize what NAEA is seeing in terms of IRS 
operations, it would be that a more business-like, customer 
service approach to tax administration is being adopted in the 
National Office. There is a great deal more innovation and 
outreach to practitioner organizations. The culture of the 
National Office has changed dramatically over the past two 
years. They are doing a lot more listening to practitioners and 
taxpayers. In recent months, practitioner groups have been 
consulted on worker classification issues, strategies for 
electronic filing, the implementation of Congressionally 
mandated Electronic Federal Tax Payment System (EFTPS). We are 
awaiting revision of national collection standards which we 
hope will address and resolve problems raised by practitioners 
around the country.
    Within the week or so, we received word about resolution of 
a major problem for practitioners. For some time now, 
practitioners have complained that IRS would not accept a 
computer generated Form 656 for Offers in Compromise. After 
collaborative work with Enrolled Agents and the Commissioner's 
Advisory Group, among others, the IRS has arrived at a 
solution. Practitioners--the vast majority of whom now do their 
work on computers--can now use the computer generated Form 656 
without sacrificing the integrity of the agreement between the 
taxpayer and the IRS.
    Is everything perfect? No. Employee morale is a major 
problem which I address later in my remarks. And following the 
recent wave of retirements and the consolidation of Districts 
and Regions, we have many Districts with new Directors and 
Assistant Directors who are just getting their bearings. Since 
they are just getting to know their staff and districts, some 
haven't been able to initiate all the outreach efforts we'd 
like to see. We feel confident that this will change in the 
coming months. If not, rest assured we'll be back to let you 
know.
    I would like to share with you some other examples about 
how we are seeing a 180-degree shift in approach at IRS on a 
number of levels. In my own North Texas District, IRS personnel 
have done a superb job. Their outreach work on ITINs has been 
outstanding. In an effort to meet anticipated walk-in traffic 
demand and to maintain the same level of service as last year, 
the North Texas District trained eight Revenue Officer Aides 
and one Revenue Officer to provide back up assistance at the 
Post of Duty walk-in counters. In addition, five temporary 
employees were hired to handle the Form W-7 (ITINs) program. 
Approximately 5,000 W-7s have been certified through the walk-
in operation.
    I would also mention improvements to the much maligned 
telephone system. Here you can see the more business-like 
approach and more targeting of effort. The North Texas District 
Customer Service Division has as its objective to answer 5.2 
million calls during this filing season. Through Feb. 15, a 
total of 1,289,287 calls were answered compared to 1,170,394 at 
the same time last year. The average hold time is running 1 
minute 10 seconds compared to 3\1/2\ minutes in 1996.
    Callers requesting Customer Service Division assistance may 
do so by either dialing one of two 800 telephone numbers. (Both 
practitioners and taxpayers give high marks to toll free 
numbers, by the way.) This leads to an automated assistance 
feature which gives the caller much faster service than waiting 
for a ``real person.'' However, assistors are available for 
callers who are unable to work with the automated system or who 
have problems not addressed by the automated system. IRS has 
identified the most frequent needs a taxpayer has to call so 
the automated list includes:
     Automated installment agreements: Under this 
system, callers who qualify may make an installment agreement 
for a balance due tax account.
     Refunds: A taxpayer may check the status of their 
current refund of overpaid taxes.
     Locator: Tells where to send a completed tax retu
     Personal identification number: Callers can 
establish or modify their PIN which is needed to access account 
information.
     Transcripts: Callers can obtain transcripts of 
their past tax year accounts or photocopies of returns filed 
with the IRS.
    Inquiries into certain technical tax law issues are 
currently being referred to a call-back messaging option. The 
caller is advised that due to current heavy demand for 
assistance in the subject selected, assistance is being 
provided via the call-back service. The caller is then prompted 
to leave their name, day time telephone number, and the best 
time of day for contact. The caller is told he/she will receive 
a call back within two business days. Answers to these 
inquiries are provided by Examination Division personnel.
    If the queue time is excessive on other selected technical 
topics normally answered ``on-line,'' the caller is advised 
that recorded tax information is available elsewhere and 
referred to the topic number of that recorded information. The 
caller may then choose to be transferred to TeleTax to listen 
to the recorded information. The important point here is that 
the caller is given the option of choosing to go to TeleTax or 
staying in the queue and waiting to speak to the next available 
IRS representative.
    We are seeing better measurement of IRS efforts. For 
example, a total of 43,636 forms have been distributed at the 
IRS walk in offices in North Texas this year, compared with 
36,551 last year, a 20% increase. There have been 33,364 
requests for assistance in other IRS program areas such as tax 
law, collection, account questions compared to 29,874 last 
year, a 12% increase.
    In an effort to discourage procrastination, the IRS is not 
promoting its annual April 15 Texas Stadium filing event. 
Instead, two filing events, called IRStravaganza, have been 
scheduled. One was held February 15 and another is planned for 
March 22. At these events, IRS trained volunteers provide free 
tax help in an event open to all taxpayers. Spanish-speaking 
assistance and interpreters for the deaf are provided. Local 
businesses help sponsor the event in cooperation with local 
media.
    Besides these special events, the District currently has 
238 VITA (Volunteers in Taxpayer Assistance) sites to help 
taxpayers needing assistance with their tax return preparation. 
All of the VITA sites are open, with several one-day sites 
having held special events including Dallas, Ft. Worth, 
Longview, Amarillo, Tyler, Abilene, Texarkana, Lubbock, Lufkin, 
Midland and Wichita Falls.

                       Alternative Ways of Filing

    As we are all aware, the IRS is choking on paper returns 
and has embarked on an effort to promote electronic filing. In 
the North Texas District, we are seeing substantial growth in 
the number of tax preparers who are participating in the 
Electronic Filing (ELF) program and in the number of returns 
filed.
    The North Texas District has embraced a number of marketing 
efforts--when did you last hear of IRS involved in market 
analysis?--which include:
     conducting demographic market analysis
     identifying the top 20 zip codes receiving 
TeleFile packages for marketing strategy
     identifying zip codes which meet demographics of 
the targeted population and with less than 50% ELF penetration
     writing letters to financial institutions 
suggesting they offer ELF as a customer benefit
     contacting federal credit unions to offer ELF to 
new or existing customers
     coordinating with Public Affairs to develop news 
releases on alternatives ways of filing
     conducting media appearances--TV, radio, newspaper 
interviews
     providing information stuffers to various large 
companies for inclusion in employee pay statement and/or 
customer billing statements.
    They also developed a marketing plan for ELF. And, in view 
of last year's smooth operation of ELF, the effort seems to be 
paying off with a 22% increase in traditional ELF, a 30% 
increase in TeleFile; and a 283% increase in online filing as 
of 2/21/96.
    The 1997 filing season found the IRS facing the expectation 
of doing more with fewer resources. Additionally, burdened with 
negative public perception, declining employee morale, coupled 
with a number of late tax law changes, the Service has focused 
on what it needed to do and has met the challenge of the filing 
season. We have about a month to go and while the pressure is 
clearly on the IRS, tax practitioners and taxpayers alike, we 
have had no indication that the process will not conclude 
successfully.
    At this time, we think it appropriate to express our 
appreciation to those Service employees and administrators who 
dared to accept the challenge amid the many obstacles they 
faced and have endeavored to succeed. They dared to arrange 
assistance for taxpayers in settings the taxpayer felt 
comfortable with. They dared to extend taxpayer assistance 
telephone lines beyond the normal working hours and have 
arranged for taxpayer assistance walk-in offices to be open two 
Saturdays during March. They enlisted the community in taxpayer 
awareness, so even the Dallas Area Rapid Transit buses now 
flash ELF information for daily bus riders. They utilized other 
resources, enlisting Examination personnel to assist taxpayers 
with tax law questions. They talked with practitioners and 
taxpayers, anticipated the needs, shifted resources and 
addressed specific concerns. This year's focused effort must 
become the standard operating procedure for filing season.

                         Looking to the Future

    There are three areas--public perception, employee morale, 
and greater communication--to which this Subcommittee must pay 
attention if the IRS is to succeed in its mission.

                          A. Public Perception

    Key to successful tax administration is taxpayer 
confidence. Taxpayers, as they attempt to meet their legal 
obligations to file complete and accurate returns, get very 
frustrated if they cannot acquire the necessary forms and 
publications. They are further angered if they cannot get 
answers to their questions when telephone lines to the IRS are 
backed up and wait time is unduly long. Many working taxpayers 
call the IRS on their break and lunch time and cannot afford a 
lengthy wait. Unavailability of tax forms and information, 
coupled with difficulty in getting answers to filing questions, 
breeds contempt of the tax system by the public and therefore 
encourages noncompliance and inaccurate reporting. In order to 
address these problems, NAEA respectfully requests that you 
recommend to the Appropriations Committee the allocation of 
sufficient financial resources to IRS so that it can meet its 
obligations to this nation's taxpayers.

                            B. Morale Issues

    In our testimony before this Subcommittee last year, we 
urged that Congress request that GAO study this issue. We 
continue to be concerned due to the dependency of our voluntary 
compliance system on competent, motivated individuals who have 
the ability to insure that the laws are administered 
consistently and fairly.
    The perception of taxpayers about the fairness and 
impartiality of the tax administration system is dependent upon 
confidence that their interests are adequately represented by 
the officers and agents of the Service. We believe the current 
state of employee morale is so low that it jeopardizes this 
perception of adequate representation of the public interest.
    Our Members around the country continually provide us with 
information about dispirited employees and how their attitudes 
have detrimental effects on taxpayers. Government agents who 
feel put upon and victimized by continual criticism and harping 
in the media and political arenas easily develop a callousness 
when dealing with taxpayer cases assigned to them. This is a 
human reaction and is very understandable. However, it is as 
serious a threat to our voluntary system as anything 
confronting it today.
    By the very nature of its function, the IRS is not a 
popular place to work and will always encounter problems in 
recruiting the best talent available. They are further hampered 
in their effort to bring in new talent when morale falls to the 
level where employees are discouraging prospective employees 
from applying. This leaves the Service with the unenviable task 
of revising job criteria to fill jobs with the people available 
rather than recruiting choice personnel. Often those selected 
have limited promotion potential within the organization. We 
have recently testified before the National Commission on 
Restructuring the IRS on this subject and have urged the 
Commission to study the whole issue of employee morale and task 
the GAO with addressing what incentives could be pursued to 
bolster the IRS recruitment of competent, well-educated, 
promotable individuals for government service. One suggestion 
we've made is that the IRS explore the possibility of paid 
internships for tax accounting students to work within the 
Service for several years prior to commencing private practice. 
This would provide excellent on the job training and 
development experience for future practitioners; insure a 
steady supply of well-educated government employees; regularly 
give the IRS an infusion of new view points with the end 
product being increased taxpayer confidence and satisfaction.

  C. Congressional/IRS/Practitioner Cooperation in Tax Administration

    Finally, Enrolled Agents view themselves as an integral 
part of tax administration. We would boldly suggest that there 
is another partner, the Congress. We respectfully request that 
with regard to matters involving implementation of proposed 
laws, that IRS and tax practitioners be consulted early and 
often to smooth the way.
    Earlier I made reference to the delay in Volume 2 of 
Package X. This may seem like a small issue but considering 
that Package X is the tax practitioner's Bible, it's timely 
availability is critical to the smooth functioning of tax 
season. Late Congressional action on tax legislation--anything 
much beyond July--plays havoc with the operation of the next 
filing season. Once Congress has approved a bill and the 
President has signed it, a whole series of steps must be taken 
to implement the law. Regulations may need to be written. Forms 
need to be developed, instructions drafted, publications 
created. These documents must be printed and distributed. All 
of this is labor intensive and requires that most elusive of 
all commodities--time.
    A few days ago, expired aviation excise taxes were 
reinstated. We just received an e-mail message from one of our 
Members whose clients have been caught crosswise in the new 
law. He's hoping that petroleum distributors and suppliers will 
have the opportunity to recoup the lost revenue in taxes paid 
on product that remained in inventory when the prior law 
terminated at midnight, Dec 31, 1996.
    This Member's reaction is hardly unique. We receive this 
type of message regularly. It points to the need for greater 
communication among Congress, the IRS, and the practitioner 
community. With all due respect to Treasury's tax policy role, 
we think it absolutely imperative that IRS be at the table as 
you conduct your deliberations so that you can be made aware of 
implementation problems. I can think of no action you can take 
which would have a more beneficial impact on tax administration 
at virtually no cost and I hope you will give it serious 
consideration.
    On behalf of the National Association of Enrolled Agents, I 
thank you for this opportunity to present this testimony. I 
will answer any questions you may have.
      

                                

    Chairman Johnson. Thank you very much.
     Mr. Mares.

    STATEMENT OF MICHAEL E. MARES, CHAIRMAN, TAX EXECUTIVE 
COMMITTEE, TAX DIVISION, AMERICAN INSTITUTE OF CERTIFIED PUBLIC 
                          ACCOUNTANTS

    Mr. Mares. Thank you, Madam Chair, and Members of the 
Subcommittee. My name is Michael Mares, and I am here today on 
behalf of the American Institute of Certified Public 
Accountants.
    I would like to first thank you for inviting the AICPA to 
testify here today. We are the national professional 
organization of certified public accountants, comprised of 
331,000 members.
    Our members advise clients on Federal, State and 
international tax matters as well as prepare returns for 
millions of Americans. Our clients range from individuals to 
nonprofit organizations, to small- and medium-sized businesses 
as well as to the largest businesses in America. It is from 
this base of experience that I draw my comments.
    The mission statement of the IRS provides that

    The purpose of the Internal Revenue Service is to collect 
the proper amount of tax revenue at the least cost; serve the 
public by continually improving the quality of our products and 
services; and perform in a manner warranting the highest degree 
of public confidence in our integrity, efficiency and fairness.

    To achieve this mission, the Internal Revenue Service has 
developed three strategic initiatives: Increase compliance, 
improve customer service, and increase productivity--all of 
which you heard testimony about today.
    Although the AICPA does not always agree with the Internal 
Revenue Service in its attempts to achieve these objectives, we 
do agree that these objectives are very important, both to the 
Service's mission, and to its objectives.
    The efficient and effective administration of the tax laws 
are critical to the success of this Nation. We have long been 
concerned that insufficient IRS budget allocations might weaken 
the Service, and thereby erode public confidence in the 
Internal Revenue Service, which is an essential component of 
our self-assessment system.
    Because of this concern, in 1986 we participated in funding 
a study of the Internal Revenue Service financing process. C. 
Eugene Steuerle, in a book entitled ``Who Should Pay for 
Collecting Taxes,'' set forth the results of that study.
    In the introduction to that book, Mr. Steuerle stated, 
``the agency's ability to perform its mission ultimately 
depends upon the sufficiency of its funding.'' We could not 
agree more.
    It is widely acknowledged, and you heard some testimony 
this morning, that the IRS has serious problems that need to be 
resolved. It is also acknowledged, although not perhaps as 
widely and certainly not as frequently, that the Internal 
Revenue Service is in many respects doing a good job.
    The National Commission on Restructuring the IRS, this 
Subcommittee and many other groups are presently studying the 
strengths and weaknesses of the Internal Revenue Service with a 
view toward recommending reforms.
    While this studying continues, and reform proposals are 
being developed, however, it is crucial to the well-being of 
our country that the IRS be adequately funded so that it can 
fulfill its mission.
    We hope that these hearings result in constructive action 
for continued improvement of the Internal Revenue Service. 
Where there are problems, we expect Congress will work to help 
the IRS solve them, rather than attempt to chastise them by 
withholding needed funding.
    Any such action would likely be detrimental to us all, not 
just to the Internal Revenue Service. With insufficient 
funding, the IRS would not be able to adequately perform its 
job, and taxpayers would become increasingly frustrated in 
their dealings with the agency.
    We believe also that lack of congressional support for the 
IRS could adversely affect individuals' attitudes toward 
participation in our voluntary compliance tax system.
    Finally, the inability of the IRS to adequately perform its 
job would undoubtedly mean less revenue for our Nation.
    We are not commenting on the merits of specific dollar 
amounts or allocations in the budget proposal. Such comments 
would be beyond the analysis we performed to create these 
comments.
    What we do urge is a businesslike approach be taken to the 
Internal Revenue Service budget. The IRS performs an essential, 
albeit unpopular role, by collecting the revenue needed to 
operate our government. To continue and improve that activity, 
it needs to be provided with adequate funds.
    This is not to say that nothing should be done to improve 
the IRS. Indeed, to the extent problems exist, reforms should 
be implemented and monitored so that those reforms can continue 
to be effective.
    However, budget cuts should not be used to penalize the 
IRS. In my written comments, I provided a list of proposals 
that we believe will help not only decrease customer 
dissatisfaction with the IRS, but also increase the 
effectiveness of the tax system.
    I would urge the Subcommittee to take appropriate notice of 
those comments.
    We recognize that Congress faces a challenge in reducing a 
multibillion dollar budget deficit, and an enormous task in 
trying to balance the budget.
    Conceptually, asking all Federal agencies to bear a fair 
share of the cuts makes sense. However, the IRS is in the 
unique position among agencies in that changes to the IRS 
budget have a converse revenue effect.
    While the exact amount of that correlation is debatable, 
Mr. Steuerle's study concludes that additions to IRS resources 
would lead to an increase in enforcement revenues several times 
larger than costs.
    We urge you not to lose sight of the big picture during 
these deliberations.
    Once again, I would like to thank you for the opportunity 
to testify here today, and I'll be happy to answer any 
questions you may have.
    [The prepared statement follows:]

Statement of Michael E. Mares, Chairman, Tax Executive Committee, Tax 
Division, American Institute of Certified Public Accountants

                            I. Introduction

    Madam Chairperson and members of the Subcommittee: Thank 
you for inviting the American Institute of Certified Public 
Accountants (``AICPA'') to testify before you today. The AICPA 
is the national, professional organization of certified public 
accountants comprised of 331,000 members. Our members advise 
clients on Federal, state, and international tax matters and 
prepare income and other tax returns for millions of Americans. 
They provide services to individuals, not-for-profit 
organizations, small and medium-size businesses, as well as 
America's largest businesses. It is from this base of 
experience that we offer our comments.

                     II. Need for Adequate Funding

    The Mission Statement of the IRS provides: ``The purpose of 
the Internal Revenue Service is to collect the proper amount of 
tax revenue at the least cost; serve the public by continually 
improving the quality of our products and services; and perform 
in a manner warranting the highest degree of public confidence 
in our integrity, efficiency, and fairness.'' To achieve its 
mission, the IRS has developed three strategic initiatives: 
increase compliance; improve customer service; and, increase 
productivity.
    Although the AICPA does not always agree with the actions 
of the IRS in attempting to achieve these objectives, we do 
agree with the importance of the Service's mission and 
objectives. The efficient and effective administration of the 
tax laws and collection of tax are of benefit to taxpayers and 
the nation. The AICPA has long been concerned that insufficient 
IRS budget allocations might weaken the Service and erode the 
public confidence in the IRS that is essential to our self-
assessment system of taxation. Because of this concern, in 1986 
the AICPA participated in funding a study of the IRS financing 
process. C. Eugene Steuerle, in a book entitled Who Should Pay 
For Collecting Taxes, set forth the results of that study. In 
the Introduction of that book, Mr. Steuerle stated: ``The 
Agency's ability to perform its mission ultimately depends upon 
the sufficiency of its funding.'' We could not agree more.
    It is widely acknowledged that the IRS has serious problems 
that need to be resolved. It also is acknowledged, although 
perhaps not as widely and certainly not as frequently, that the 
IRS is in many respects doing a good job. The National 
Commission on Restructuring the Internal Revenue Service, your 
Subcommittee, as well as other groups, are studying the 
strengths and weaknesses of the IRS with a view toward 
recommending reforms. While this studying continues and reform 
proposals are being developed, however, it is crucial to the 
well-being of the country that the IRS be adequately funded so 
it can fulfill its mission.
    We hope this hearing results in constructive action for the 
continued improvement of the IRS. Where there are problems, we 
expect Congress to work to help the IRS solve them, rather than 
attempt to chastise the IRS by withholding needed funding. Any 
such action would likely be detrimental to us all, not just to 
the IRS. With insufficient funding, the IRS would not be able 
to adequately perform its job and taxpayers would encounter 
additional problems and frustrations in their dealings with the 
IRS. We believe the lack of Congressional support for the IRS 
could adversely affect individuals' attitudes towards 
participation in our voluntary compliance tax system. Finally, 
the inability of the IRS to adequately perform its job would 
undoubtedly mean less revenues for our nation.
    The AICPA is not commenting on the merits of specific 
dollar amounts or allocations in the budget proposal. Such 
issues require analysis beyond the scope of our review. What we 
do urge is that a businesslike approach be taken to the IRS 
budget. The IRS performs an essential, although unpopular, role 
by collecting revenue needed to operate our government. To 
continue and to improve that activity, the IRS needs to be 
provided with adequate funds. This is not to say that nothing 
else should be done. Indeed, to the extent problems exist 
within the IRS, reforms should be implemented and monitored. 
However, budget cuts should not be used to penalize the IRS.
    Congress faces a tough challenge in reducing a multi-
billion dollar budget deficit and an enormous task in trying to 
balance the budget. Conceptually, asking all Federal agencies 
to bear a fair share of the cuts makes sense. However, the IRS 
is in a unique position among agencies in that changes to the 
IRS budget have a converse revenue effect. While the exact 
amount of the correlation is debatable, Mr. Steuerle's study 
concludes that ``additions to IRS resources would lead to an 
increase in enforcement revenues several times larger than 
costs.'' We urge you not to lose sight of the big picture 
during these deliberations.

                III. Consequences of Inadequate Funding

Training

    We are currently seeing effects of the IRS budget cuts over 
the last few years. A few months ago, the AICPA asked members 
of the Tax Division to provide comments and suggestions which 
would be submitted to the National Commission on Restructuring 
the IRS. A high percentage of those responding commented that, 
to a large extent, the problems they encounter with the IRS are 
the result of a lack of training for the IRS agents. 
Inappropriate issues are being raised in examinations and, as a 
result, taxpayers and their representatives have to expend time 
and resources to educate the IRS agents on the applicable law. 
This can lead to frustration and a loss of respect for the IRS 
and the tax system on the part of taxpayers and their 
representatives. It also can lead to frustration and low morale 
on the part of IRS agents. Considering the complexity and ever-
changing nature of the tax laws, extensive and frequent 
training of agents is essential. Without it, the IRS cannot 
effectively perform its mission.

Customer Service

    In May 1989, the AICPA conducted a nationwide survey of its 
members who are sole practitioners and/or members of the 
Institute's Tax Division, in an effort to ascertain their views 
and attitudes toward the IRS. To be able to measure changes in 
these views over time, an updated version of the 1989 survey 
was sent in mid-July 1995, to 3,000 of those members, randomly 
selected from a stratified list.
    Members surveyed were presented with a variety of 
statements about the IRS and asked to indicate whether they 
agreed or disagreed with each. On balance, the 1995 survey 
responses tended to paint a negative picture of the IRS. For 
example, nearly 9 out of every 10 respondents agreed that 
``there are often delays in responses from the IRS'' and three-
fourths agreed ``it is difficult to communicate with the IRS.'' 
In addition, 7 out of every 10 respondents disagreed that ``IRS 
communications are adequate,'' or that ``the IRS provides good 
customer service,'' while about two-thirds disagreed that ``IRS 
employees are adequately trained,'' or that ``the ability of 
the IRS to resolve problems is adequate.''
    It should be noted that the 1995 survey results indicated 
some improvement in these areas since the 1989 survey. It also 
should be noted that not all results were negative. For 
example, two-thirds of members responding to the survey agreed 
with the statements that ``IRS employees are consistently 
courteous'' and that ``the IRS keeps clients' tax return 
information confidential,'' while 54 percent agreed that ``IRS 
employees are reasonable/fair.'' Further, 49 percent agreed 
that ``the IRS maintains the highest standards of integrity.''
    Despite these positive responses, the overall ratings for 
the IRS's customer service in 1995 were not good. IRS 
management has tried hard to prevent budget cuts from affecting 
customer service. Nevertheless, since 1995, we have heard 
reports from members that there has been a noticeable reduction 
in the services available and in the timeliness of responses 
from the IRS, allegedly due to budget cuts. Thus, it appears 
the budget cuts have already hurt the IRS's customer service 
activities--activities which already were poorly rated. 
Customer service is a very important function of the IRS. 
Adequate funding needs to be provided to enable the IRS to 
properly fulfill that function.

Taxpayer Rights Issues

    Three weeks ago, the AICPA testified at a hearing of the 
National Commission on Restructuring the IRS on taxpayers 
rights issues. (A copy of the AICPA's written testimony from 
that hearing is being submitted to this Subcommittee with this 
testimony.) Included in that testimony was a discussion of 
taxpayer rights issues the AICPA felt should be addressed. It 
appears that three of those taxpayer rights issues are, at 
least in part, the result of inadequate funding of the IRS. 
Those three are: the need for a ``realistic possibility of 
success'' standard for the IRS to raise an issue on audit; the 
need for comprehensive interest netting; and, the desirability 
of presenting taxpayers with detailed interest computations in 
connection with adjustments in tax liabilities. Thus, IRS 
budget shortfalls may be linked to the denial of rights of 
taxpayers.
    1. Need for a Realistic Possibility of Success Standard for 
the IRS to Raise an Issue in an Exam.
    As mentioned above, currently, presumably due to a lack of 
adequate training, IRS agents often raise inappropriate issues 
in examinations. Treasury Department Circular No. 230, IRC 
section 6694, and professional ethics guidance of the AICPA and 
the American Bar Association (``ABA'') provide that tax 
advisers may not recommend a position in a return that lacks a 
realistic possibility of being sustained on its merits. A 
position is considered to have a realistic possibility of being 
sustained on its merits if a reasonable and well-informed 
analysis by a person knowledgeable in the tax law would lead 
such a person to conclude that the position has approximately a 
one in three, or greater, likelihood of being sustained on its 
merits.
    Although the AICPA and the ABA prefer not to assign 
mathematical probabilities to the realistic possibility 
standard, nevertheless, both professions subscribe to the 
standard. Unfortunately, the IRS has not chosen to instruct 
revenue agents to apply the same ``realistic possibility'' 
standard before raising issues in examinations and, in many 
instances, has not provided adequate training so that the 
agents would know whether they have a ``realistic possibility 
of success.''
    For example, in a recent IRS examination, a revenue agent 
asserted in his Revenue Agent's Report (``RAR'') that a 
taxpayer corporation must switch from the cash method of 
accounting to the accrual method of accounting based on an IRS 
Industry Specialization Paper for Health Care. Although the 
taxpayer was a personal service corporation (with no 
inventories), entitled by statute (IRC sec. 448) to be on the 
cash method of accounting, the revenue agent insisted the 
taxpayer had to change to the accrual method of accounting. The 
taxpayer protested to the Appeals Office, which dropped the 
issue. The taxpayer incurred the expense of protesting the 
revenue agent's adjustment to the Appeal's Office even though 
there was no realistic possibility of the IRS prevailing on the 
accounting method issue.
    As a matter of fairness and consistency to taxpayers, we 
recommend that the IRS require revenue agents to have concluded 
that there is at least a realistic possibility of success 
before proposing an adjustment against a taxpayer. We also 
recommend that the IRS budget include sufficient funding for 
training of IRS agents so they will be able to make 
knowledgeable determinations regarding the issues.
    2. Need for Comprehensive Interest Netting
    Currently, there is a differential between the interest 
rate a taxpayer pays on a deficiency and the interest rate the 
government pays to a taxpayer on an overpayment; the 
differential rate can vary from 1 percent to 4.5 percent. 
Situations often arise when a taxpayer is indebted to the 
government at the same time that the government is indebted to 
the taxpayer. Absent netting, a taxpayer who owes the 
government the same amount that the government owes the 
taxpayer would incur an interest obligation in favor of the 
government.
    The Service's current policy with respect to interest 
netting is fundamentally unfair, both because of the manner in 
which the Service makes interest netting calculations and also 
because of the Service's inconsistent application of netting 
principles, resulting in similarly situated taxpayers receiving 
disparate treatment.
    Interest provisions in the Code are intended to compensate 
the government or the taxpayer for the use of the money. (Rev. 
Proc. 60-17, 1960-2 C.B. 942) Interest applies only if there is 
an amount that is both due and unpaid. (See, e.g., IRC 
Sec. 6601(a); and Avon Products, Inc. v. United States, 78-2 
U.S.T.C. (CCH) para. 9821 (2d Cir. 1978).) To the extent there 
is a ``mutuality of indebtedness'' between the taxpayer and the 
government (i.e., to the extent the government and the taxpayer 
owe each other the same amount of money over the same period of 
time), there is no unpaid balance and, therefore, no amount on 
which interest should accrue.
    The Service's current policy (See Treas. Reg. 
Sec. 301.6402-1.) of only netting outstanding overpayments 
against outstanding liabilities for both computational and 
collection purposes is unfair to taxpayers that promptly pay 
contested amounts of tax and, therefore, have no 
``outstanding'' liabilities. This is illustrated by the recent 
case of Northern States Power, in which the company's prompt 
payment of alleged deficiencies cost it $460,000 more in 
interest than it would have had to pay if it had delayed in 
making the payment. (See Northern States Power Co. v. United 
States, 73 F3d 764 (8th Cir. 1996), cert denied 117 S.Ct. 168.)
    Finally, and of significant import, despite the Service's 
stated policies toward interest netting (i.e., that netting can 
legally occur when both deficiencies and overpayments are 
outstanding and unpaid, see, e.g., Notice 96-18), netting 
continues to be performed on an ad hoc basis. A revenue agent's 
decision to deny a taxpayer netting is supported and justified 
by language in the Eighth Circuit's opinion in Northern States 
Power, which states that such netting is discretionary. 
However, the Service's discretionary application of the law 
without any formal or enforced guidelines, policies or 
procedures is inherently unfair to taxpayers. The virtual 
absence of any clear legal standards for interest netting also 
is unacceptable from a systemic standpoint, because it affords 
the IRS unfettered power to convert a taxpayer from a creditor 
to a debtor, with the size of a potential interest debt quickly 
becoming astronomical.
    Further, viewing comprehensive netting as entirely within 
the discretion of the Service interjects serious fairness 
concerns into the settlement process. The Service has used the 
netting issue as a bargaining chip in negotiations to extract 
concessions from taxpayers on issues under examination. This 
inappropriately distances negotiations from the merits of the 
underlying issues. It also has the inappropriate effect of 
using netting (or the absence of netting) as a tool to raise 
revenue, rather than as a means to compensate for the use of 
money.
    The Service counters taxpayer comments regarding unfairness 
with claims that netting in all situations is not 
administratively feasible. While comprehensive interest netting 
raises concerns of administrative feasibility, more progress 
must be made in balancing these concerns against concerns of 
taxpayer fairness. Congress must be aware that IRS budget cuts 
may result in cuts in taxpayer rights, as has been the case in 
the interest netting area.
    We recommend that adequate funding be provided to enable 
the Service to provide comprehensive interest netting in all 
situations. In the meantime, we recommend that guidance be 
issued to implement comprehensive netting in all situations in 
which the IRS currently has the administrative capability to do 
so. In all other situations, as an interim measure, guidance 
should be issued providing that the Service will net 
comprehensively at the request of the taxpayer, provided the 
taxpayer furnishes the Service with relevant information and 
interest computations. By ``comprehensive netting'' we mean 
netting for all interest accruing after December 31, 1986 for 
all types of taxes and all years (open or closed) to the extent 
necessary to compute interest accurately for a refund or an 
assessment in an open year. This interim recommendation is 
similar to the elective approach recently recommended by this 
Subcommittee, as well as the approach of a draft revenue 
procedure submitted by the Compliance Subgroup of the 
Commissioner's Advisory Group at its January 1995 meeting.
    3. Desirability of Detailed Interest Computations
    We believe the IRS should provide interest computations, as 
a matter of course, to taxpayers when adjustments involving 
interest are made. Although it is not clear why this is not 
done currently, it appears at least part of the reason may be 
lack of adequate funding.
    Currently, a taxpayer only receives a notice showing the 
amount of tax and the interest due on such amount. IRC section 
7522, which is applicable for notices mailed on or after 
January 1, 1990, requires that such notices describe the 
``basis for, and identify the amounts (if any) of, the tax due, 
interest, additional amounts, additions to the tax, and 
assessable penalties included in such notice.'' At the present 
time, the starting date for the interest, the principal amount 
upon which such interest is based, and the rate charged on such 
amount are not provided to taxpayers as part of the notice 
procedure.
    We believe the ``basis for'' description in the notice 
should apply to interest computations and should include 
interest rates and the dates for which the interest applied, 
the dates and amount of payments and credits, and the interest 
compounding method. With this information, taxpayers and 
practitioners will be able to verify the accuracy of interest 
computations and expeditiously resolve any discrepancies. We 
recognize that detailed interest computations could result in a 
burden to the IRS. Therefore, an exception could be made for de 
minimis interest amounts such as less than $50 or $100.

                       IV. Potential Cost Savers

    Also included in the AICPA's written testimony to the 
National Commission on Restructuring the IRS were proposals 
that, if implemented, would likely reduce some of the IRS's 
costs. These proposals deal with: penalty abatements; 
disclosure changes utilizing a PIN; and notification of 
intention to offset. We recommend that consideration be given 
to these proposals as a means not only to improve IRS's 
customer service but also to achieve a more efficient tax 
administration system.

Penalty Abatements

    The IRS assesses numerous penalties in response to which 
taxpayers spend a great deal of time documenting reasonable 
cause for having the penalties abated. The process is both time 
consuming and expensive. However, based on both reasonable 
cause and IRS errors, the IRS abates as much as 50 percent of 
some types of penalties it proposes. Unfortunately, taxpayers 
without representation are often unaware of the opportunities 
for abatement. It may be possible to achieve a more cost-
effective outcome by establishing criteria for reducing 
assessments that are likely to be abated.
    To reduce the burden on both the IRS and taxpayers, the IRS 
could establish safe harbor provisions for a variety of 
penalties which would automatically be deemed to be reasonable 
cause for abatement. This could be confined to late filing, 
late deposit and certain information return related penalties. 
The object would be to concentrate on those penalties that are 
regularly assessed and abated. Safe harbor provisions could 
take the form of:
     No penalty assessments for an initial occurrence; 
however, the taxpayer would receive a notice that a 
reoccurrence will result in a penalty;
     Automatic non-assertion based on a record of a 
certain number of periods of compliance; or
     Voluntary attendance at some type of educational 
seminar on the issue in question, as the basis for non-
assertion or abatement.
    Use of this approach would encourage and create a vested 
interest in compliance, since a good history of compliance 
could automatically result in relief. Additionally, the 
likelihood of future abatements would diminish if the taxpayer 
has a history of non-compliance. Furthermore, a system of 
automatic abatements would reduce the time spent and costs 
incurred by the IRS and taxpayers on proposing assessments, 
initiating and handling correspondence, and subsequently 
abating a high percentage of penalties. The ability to abate a 
penalty for a reasonable cause other than those used for 
automatic abatements would exist; however, reasonable cause 
abatements requiring independent evaluation may be reduced.

Disclosure Changes (PIN/POA)

    IRS statistics indicate approximately 50 percent of all 
returns are prepared by commercial preparers. We believe, 
especially because of the complex nature of the tax law, that 
taxpayers have a right to expect that the hiring of a preparer 
will avoid personal inconvenience and unnecessary loss of their 
own productive time in having their return accepted in the 
processing phases by the IRS. Our experience and IRS records 
show that the processing of notices during the return 
perfection and processing phase is a significant workload 
factor and must, therefore, result in significant costs to the 
IRS. Many practitioners and taxpayers, unaware of the strict 
enforcement of the disclosure rules, attempt to resolve these 
notices by having a preparer ``do what the preparer is being 
paid to do''--prepare the return, solve any processing 
problems, and appropriately interact with the Service.
    We believe changes in the disclosure rules would reduce IRS 
correspondence and costs in dealing with ineffective contacts 
by preparers without a power of attorney, reduce taxpayer 
burden, and support the taxpayer's rights to be represented. 
Accordingly, we recommend that third parties be allowed to 
discuss a notice and its related account with the IRS by use of 
a Personal Identification Number (``PIN'') on the notices sent 
to taxpayers.
    The use of a PIN was under active discussion between the 
AICPA Tax Practice and Procedures Committee and the IRS in the 
past, but we were unable to reach agreement with the Service 
regarding implementation of such a procedure.
    The ability of a practitioner, parent, child or neighbor to 
assist a taxpayer who does not understand, see well, hear well, 
etc., in handling his or her business affairs with the IRS 
immediately (i.e., a telephone reply or discussion), would 
reduce burden (both time and cost) and frustration, in addition 
to the cost of tax administration for the IRS, taxpayers, and 
preparers. A system of interacting via telephone with the IRS 
is the future of ``one-stop'' service and efficiency in a 
modern-day tax system. Holding two-way conversations with the 
IRS to discuss notices, payments, penalties, errors, missing 
information, etc. must be distinguished from representing 
taxpayers before the Service and entering into binding 
agreements on their behalf, for which there is a need for a 
formal power of attorney.

Notification of Intention to Offset

    Current IRS procedures require that before any overpayment 
is refunded or credited to estimated tax, as requested by the 
taxpayer, there must be a review of a taxpayer's accounts for 
any balances due. If a balance due is showing for the taxpayer 
on another account or module, the overpayment will be offset 
and the remaining balance, if any, refunded or credited. The 
taxpayer is not given an opportunity to verify the correctness 
of the IRS data before this action is taken.
    We believe the IRS should provide taxpayers with 
notification of its intention to offset an overpayment from one 
account to a balance due on another account or module. We 
recognize the IRS's authority to credit amounts due the 
taxpayer to any other liability of the taxpayer, in accordance 
with IRC section 6402. However, the taxpayer should be notified 
of such credit application before the action is taken. In many 
instances, the balance due is erroneous or subsequently abated. 
Also, the credit application may have serious ramifications for 
the taxpayer, particularly an individual or a smaller business 
that cannot afford to engage a representative to deal with the 
IRS on such issues.
    For example, a taxpayer may elect to apply an overpayment 
of income tax from one year to the next as an estimated tax 
payment. This overpayment is sufficient to cover the taxpayer's 
first quarter estimate for the subsequent year. The taxpayer, a 
sole proprietor, may have been assessed an employment tax 
penalty on a given quarter. The penalty is due to the fact that 
a proper liability breakdown was not included with the Form 
941. Once this information is supplied by the taxpayer, the 
penalty will be abated.
    Under the IRS's current system, the taxpayer's overpayment 
of income tax will be applied to the outstanding assessment for 
the employment tax penalty. The remaining amount applied to the 
first quarter estimated tax payment for the subsequent year may 
then be insufficient to cover the required quarterly payment 
and cause the taxpayer to be subject to an estimated tax 
penalty on the subsequent year. If the employment tax penalty 
is subsequently abated, the amount credited to the account will 
then be refunded to the taxpayer from the employment tax 
account; the estimated tax penalty will not be abated 
automatically.
    We recommend that taxpayers be notified prior to the 
application of overpayments to balances due on other accounts 
or modules. There may be other actions in progress to rectify 
such accounts or significant mitigating factors under 
consideration by another area within the IRS. The application 
of such overpayments, without providing the taxpayer an 
opportunity to address the situation, is a denial of ``due 
process'' and may create unnecessary complications and 
frustrations and costs for both the IRS and taxpayers.

Rounding

    We believe requiring the rounding of numbers on most tax 
returns would decrease the number of errors and, therefore, the 
costs involved in tax return preparation and processing. 
Rounding could greatly enhance efficiency in processing tax 
returns and would not affect the rights of individual 
taxpayers.

                             V. Conclusion

    The AICPA appreciates the opportunity to testify at today's 
hearing and is willing to provide the Subcommittee with 
additional assistance and comments as requested. Thank you for 
your attention.
      

                                

    Chairman Johnson. Thank you very much for your testimony. 
Both of you were very interesting and very helpful. It was very 
helpful, Ms. Whitlock, to hear you go through the problems that 
occurred.
    They are, luckily, relatively narrow compared to the 
problems we've identified in the past. I would say that this 
Subcommittee has had a very good working relationship with the 
IRS in the last couple of years.
    We have tried to listen to them at the same time we have 
also tried to prod them forward, through the Taxpayer Bill of 
Rights. And it was interesting that when we had trouble moving 
it in a timely fashion, they were able to implement part of it 
administratively, but not the major recommendations.
    So good government really is a team effort between 
administrators and legislators. And I believe that the hearings 
we're having this year as a result of the Taxpayer Bill of 
Rights, and the actions of the agency in terms of focus, do 
reflect that closer working relationship and the legitimacy of 
solid input through representatives into administrative 
priorities.
    I did want to ask you, Ms. Whitlock, whether you felt that 
the IRS' administrative actions in regard to the independent 
contractor issue were sufficient to solve the problems in that 
area, or whether we still need to legislate to clarify a number 
of the issues raised in the last session?
    Ms. Whitlock. I believe what was done in the last session, 
as far as being able to resolve the issues, early intervention, 
and an examination where independent contractor issues were 
involved, brought us a long way.
    The Commissioner's Advisory Group is also addressing 
independent contractors, as it looks at the whole life of a 
small business. Indeed, the startup of a business, as the 
business increases, if there is a need for employment, 
educating that taxpayer on his responsibilities as an employer, 
and, indeed, should that taxpayer really have the availability 
to use contract labor in the true sense of the word.
    And I believe the legislation enhanced the need that the 
IRS had in order to educate the taxpayer. And in fact we're 
developing a whole line of taxpayer information that will keep 
that taxpayer in compliance.
    Chairman Johnson. I certainly do believe that the IRS' 
actions have been helpful. But it doesn't seem to me that we 
are--and I also recognize you can't have an absolute bright 
line in this area.
    But given the pace of change in the way we do business, and 
the relationships between business entities and various 
functions that they used to hold within them, and, frankly, the 
need for expertise of a level that most businesses can't 
afford, and really need to contract, I see the number of 
independent contractors as growing.
    I think this could be a very healthy thing in a society 
that has always gained its strength from entrepreneurial 
enterprise. But I am conscious of the dangers of arbitrarily 
pushing people off payroll to eliminate the requirement to fund 
benefits, and yet hire them back in exactly the same positions.
    So there are problems that we need to be conscious of. But 
it seems to me that we have not moved far enough in dealing 
with this problem, and that we still need to legislate this 
year.
    I appreciate if you would give that some thought, and 
perhaps give us your recommendations on that.
    Ms. Whitlock. I would certainly do that, and I appreciate 
the opportunity.
    Mr. Mares. We are in the process of developing some 
legislative proposals to bring before Congress that address 
that specific issue.
    Chairman Johnson. We do expect to come back to it, because 
that's an example of complexity or lack of clarity that also is 
very costly to the taxpayers and to the agency.
    I do appreciate, Mr. Mares, in your written testimony, your 
suggestions for how we could save money, what could be more 
efficient, and some of the changes that need to be made, and we 
will certainly take those under advisement.
    Mr. Mares. Thank you.
    Chairman Johnson. Mr. Coyne.
    Mr. Coyne. Thank you, Madam Chairwoman. You have commented 
already on adequately funding the IRS in order for it to be 
able to successfully conclude its mission. I wonder if funding 
for the administration's five-point plan should be included 
relative to making sure that that five-point plan is 
implemented.
    Would you advocate that adequate funding be included for 
implementing the five-point plan that was outlined yesterday by 
Deputy Secretary Summers?
    Mr. Mares. Mr. Coyne, I have not really had an opportunity 
to review it. I flew in this morning. So I really have not had 
an opportunity to go through it. It is certainly something that 
I will get back to you on, once I've had an opportunity to go 
through the administration's plan.
    Mr. Coyne. Would you care to comment, Ms. Whitlock?
    Ms. Whitlock. I would simply say--in fact, I sat in on the 
Deputy Secretary's meeting earlier this morning--that that 
five-point plan can only be successful if it's adequately 
funded, and monitored to reach its goal.
    Mr. Coyne. OK. I wonder if either one of you, or both of 
you, would want to comment on the IRS' efforts to reduce tax 
refund fraud. Has it been successful, or have you had an 
experience with it to the point where you could comment?
    Ms. Whitlock. From the standpoint of a practitioner, we are 
put in a very unusual position. We are there to serve the 
taxpayer, but we are also taxpayers ourselves.
    And oftentimes when there is an apparent fraud being 
presented before us, as a preparer, the Internal Revenue 
Service has given us a fraud hotline to call. Not putting 
ourselves in a difficult position, but just informing the 
Service that there is a potential for fraud in what we might be 
seeing developed in the taxpayer community.
    From that standpoint, from the practitioner point of view, 
I do feel like the Service has tried to protect us and stay in 
tune to what the practitioner community is seeing.
    Mr. Coyne. OK.
    Mr. Mares. And I think where appropriate the Internal 
Revenue Service has adopted programs such as they did with the 
earned income tax credit problems that arose. I know in my 
dealings with the service center personnel, in Memphis and in 
Philadelphia, that there is an ongoing concern about 
identifying programs or taxpayers who may be committing fraud, 
and addressing those needs as they arise.
    Mr. Coyne. Thank you very much.
    Chairman Johnson. Are you going to in your recommendations 
that you referred to, Mr. Mares, are you going to have any 
comment on how to simplify the EITC, or how to change it so 
that it would be easier to administer and possibly easier for 
recipients for apply for?
    Mr. Mares. Yes, we are. As a matter of fact, we will be 
presenting a substantial number of simplification proposals to 
the National Commission on Restructuring the Internal Revenue 
Service very shortly.
    And we would be delighted to make a copy of those available 
to this Subcommittee as well.
    Chairman Johnson. Thank you. We would appreciate that. 
Thank you very much. Thank you for your testimony today. And 
the hearing is concluded.
    [Whereupon, at 1:52 p.m. the hearing was concluded.]

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