[Senate Hearing 110-]
[From the U.S. Government Publishing Office]


 
  FINANCIAL SERVICES AND GENERAL GOVERNMENT APPROPRIATIONS FOR FISCAL 
                               YEAR 2008

                              ----------                              


                         THURSDAY, MAY 9, 2007

                                       U.S. Senate,
           Subcommittee of the Committee on Appropriations,
                                                    Washington, DC.
    The subcommittee met at 3:09 p.m., in room SD-192, Dirksen 
Senate Office Building, Hon. Richard J. Durbin (chairman) 
presiding.
    Present: Senators Durbin, Nelson, and Allard.

                       DEPARTMENT OF THE TREASURY

                        Internal Revenue Service

STATEMENT OF HON. KEVIN BROWN, DEPUTY COMMISSIONER FOR 
            SERVICES AND ENFORCEMENT
ACCOMPANIED BY:
        LINDA A. STIFF, DEPUTY COMMISSIONER FOR OPERATIONS, INTERNAL 
            REVENUE SERVICE
        J. RUSSELL GEORGE, INSPECTOR GENERAL FOR TAX ADMINISTRATION, 
            DEPARTMENT OF THE TREASURY
        NINA E. OLSON, NATIONAL TAXPAYER ADVOCATE, DEPARTMENT OF THE 
            TREASURY
        JAMES R. WHITE, DIRECTOR, STRATEGIC ISSUES, GOVERNMENT 
            ACCOUNTABILITY OFFICE
        DAVID A. POWNER, DIRECTOR, INFORMATION TECHNOLOGY MANAGEMENT 
            ISSUES, GOVERNMENT ACCOUNTABILITY OFFICE

                 STATEMENT OF SENATOR RICHARD J. DURBIN

    Senator Durbin. Good afternoon. The hearing will please 
come to order. I am pleased to welcome you to this session 
before the Financial Services and General Government 
Appropriations Subcommittee.
    Our focus today is on the President's fiscal year 2008 
budget request for the Internal Revenue Service (IRS). Funding 
for the IRS alone constitutes just over one-half of the total 
amount requested by the administration for the nearly 30 
Federal agencies with accounts under the jurisdiction of this 
subcommittee. Each year IRS employees make hundreds of millions 
of contacts with American taxpayers and businesses and really 
represent the face of Government to more U.S. citizens than 
almost any other agency.
    I welcome my colleagues who will join me on the panel 
later.
    Appearing before the subcommittee this afternoon is a 
distinguished panel of witnesses who each bring valuable 
expertise and experience to their testimony. I welcome: Kevin 
M. Brown, Acting IRS Commissioner, and Deputy Commissioner for 
Services and Enforcement; J. Russell George, Treasury Inspector 
General for Tax Administration (TIGTA); and Nina Olson, the 
National Taxpayer Advocate. I look forward to your 
presentations.
    I also want to welcome Linda Stiff, Deputy IRS Commissioner 
for Operations, accompanying Acting Commissioner Brown.
    I acknowledge the helpful contributions of the Government 
Accountability Office (GAO) in response to our request for 
analyses. I welcome senior GAO officials James R. White, 
Director of Strategic Issues, and David Powner, Director of 
Information Technology Management Issues, and members of their 
team. Their prepared statement will be made part of the record 
and they stand ready to respond to questions.
    In addition, the IRS Oversight Board has submitted for 
inclusion in the record its special report on the 
recommendations for the fiscal year 2008 budget proposal. 
Colleen Kelley, President of the National Treasury Employees 
Union, on behalf of the employees of the Internal Revenue 
Service has submitted a written statement. Without objection, 
these materials will be made part of the record.
    [The information follows:]

    The IRS Oversight Board Fiscal Year 2008 IRS Budget Recommendation 
Special Report can be found at http://www.treas.gov/irsob/reports/
fy2008-budget-report.pdf.

    Senator Durbin. The Internal Revenue Service administers 
tax laws and collects the revenues that fund over 95 percent of 
the Federal Government's operations. With approximately 100,000 
employees, the IRS is effectively the accounts receivable 
department for the United States. Simply stated, the more 
revenue the IRS collects, the more revenue Congress may spend 
on programs and use for cutting taxes and reducing the deficit. 
Conversely, the less revenue the IRS collects, the less revenue 
Congress has available.
    The IRS relies on three sources for the funds it needs to 
operate: appropriated funds, user fees, and reimburseables, 
which are payments the IRS receives from other Federal agencies 
and State governments for services provided. Nearly the entire 
budget, 97 percent of it, is derived from appropriated funds.
    For fiscal year 2008, the administration is seeking a 
direct appropriation of $11.1 billion, an overall increase of 
$498.4 million, 4.7 percent above the 2007 full year continuing 
resolution level. The full year joint continuing resolution 
enacted for fiscal year 2007 provided funding of nearly $160 
million more to the IRS than the earlier continuing resolution 
allowed. So we are hopeful that the resources are there.
    I am not going to go into the details breaking down the 
entire budget. I would rather have the testimony from our 
panelists. There are a few issues that will be discussed in 
depth today as we examine the IRS funding. First, the tax gap. 
The great majority of Americans pay their fair share of taxes. 
There is still a significant tax gap, the difference between 
what taxpayers are supposed to pay and what they actually pay. 
The estimated gross tax gap of $345 billion consists of: 
underreporting tax liability, $285 billion; nonfiling of tax 
returns, $27 billion; and underpayment of taxes, $33 billion.
    I note that as a part of its budget submission the IRS 
proposes 16 legislative reforms to recoup $29 billion, 10 
percent of the $290 billion net tax gap, over 10 years. 
Questions have been raised that such an approach is far from 
aggressive and amounts to a return of just a penny on the 
dollar. I am anxious to hear the perspectives of our panel 
members.
    Second, we are going to consider the proper balance between 
enforcement and service. It is fundamental that as enforcement 
initiatives to boost compliance are advanced, resources devoted 
to taxpayer services are not sacrificed. Taxpayer service plays 
an integral role in facilitating voluntary compliance with our 
tax laws.
    Third, critical information technology enhancements. I am 
interested in the status of the IRS business systems 
modernization program, efforts that the IRS migrates from its 
antiquated and obsolete legacy systems to bring tax 
administration systems to a level equivalent to private and 
public sector best practices. This is a challenge in almost 
every Federal agency.
    I would like to turn now to our panel and invite Acting 
Commissioner Brown to begin. I ask you to make your 
presentation. We will make your written statement part of the 
record and we may have some questions to submit to you after 
the hearing. Possibly some of the other colleagues who cannot 
join us will send questions as well. So if you would not mind 
starting, I invite your testimony, Mr. Brown.

           ORAL STATEMENT OF ACTING COMMISSIONER KEVIN BROWN

    Mr. Brown. Good afternoon. Thank you, Chairman Durbin. I 
also want to thank the other members of the subcommittee who 
will be coming for their efforts in increasing IRS funding in 
the joint resolution over the level proposed under the 
continuing resolution.
    The President's request for fiscal year 2008 provides 
additional money for IRS systems, infrastructure, and 
modernization, as well as for enforcement and, notably, for 
increased research. There is also an increase for taxpayer 
services. We ask the members of the subcommittee to support the 
President's budget and to help enact an appropriation before 
the start of fiscal year 2008.
    These requested moneys will help us generate continued 
progress in attacking the tax gap. But they are not the only 
things we need to do. The administration has made 16 
legislative proposals. I would direct your attention to four 
that I think are particularly important: first, the reporting 
of credit card gross receipts; second, making the willful 
failure to file a tax return a felony rather than a 
misdemeanor; third, requiring basis reporting for sales of 
securities; and fourth, lowering the threshold for mandatory 
electronic filing for large corporations and partnerships.
    With this budget, we can build on our progress in service 
and enforcement. We again enjoyed significant increases in our 
enforcement results in fiscal year 2006 and I am pleased to 
report that we are making continued strides in fiscal year 
2007. I believe the IRS has restored the credibility of its 
enforcement programs without generating a significant amount of 
public discontent or increased allegations of infringement of 
taxpayer rights.
    In addition, to improve our service to taxpayers we have 
developed a taxpayer assistance blueprint. This subcommittee 
was the principal force in bringing about the taxpayer 
assistance blueprint. Begun in July 2005, the blueprint is a 
collaborative effort of the IRS, the IRS Oversight Board, and 
the National Taxpayer Advocate. Under this project we learned a 
great deal about taxpayer needs and how to meet them. From the 
blueprint, we created a strategic plan with a host of 
improvement initiatives. For example, our 2008 budget request 
includes funding for telephone service and web site 
enhancements recommended by the strategic plan.
    Before taking your questions, let me say a few things about 
the filing season we just completed. At the IRS we recognized 
some time ago that this would be a challenging filing season. 
Two of the reasons were Congress' late action on the extender 
legislation and the fact that we did not have an operating 
budget until well into February. The one-time refund of the 
telephone excise tax and the initiation of the split refund 
were also of concern. Taken together, we anticipated the most 
difficult filing season in a number of years.
    Nevertheless, we kept up with the work and the system 
functioned well. The extenders were successfully implemented 
and our software updates were taken care of by early February. 
Electronic return filing continues to grow and our service 
indicators are healthy.
    Along with the increase in the e-file rate, we have seen a 
17 percent gain in our volunteer-prepared returns, a 
cornerstone of our outreach program. As you may know, this 
effort helps eligible participants claim the earned income tax 
credit.

                           PREPARED STATEMENT

    Thank you for the opportunity to testify today and I will 
be glad to take your questions.
    Senator Durbin. Thank you very much.

    [The statement follows:]

                   Prepared Statement of Kevin Brown

                              INTRODUCTION

    Chairman Durbin, Ranking Member Brownback, and members of the 
Subcommittee, thank you for the opportunity to testify today on the 
fiscal year 2008 budget request for the Internal Revenue Service. I am 
accompanied this morning by Linda Stiff, IRS's Deputy Commissioner for 
Operations and Support. She will assist me in responding to questions 
that Members of the Subcommittee may have.
    Under the leadership of Commissioner Everson, our working equation 
at the IRS has been and continues to be that service plus enforcement 
equals compliance. A balanced program between service and enforcement 
leads to sound tax administration.
    However, a balanced program can be successful only if the IRS is 
provided the resources necessary to fulfill its mission. Two years ago 
in the fiscal year 2006 budget, the Service was provided those 
resources when Congress approved the President's request for the IRS. 
This fiscal year, however, we were forced to operate under a Continuing 
Resolution (CR) for the first four months of the fiscal year until 
Congress approved the Joint Resolution (JR) in February.
    I want to thank the Members of the Subcommittee for their efforts 
in increasing our level of funding in the JR over the levels proposed 
originally under a full year CR. As a result, we anticipate that there 
will be little or no negative impact on our taxpayer service, 
operations support, or our Business Systems Management (BSM) programs.
    While our enforcement programs also fare much better under the JR, 
the increase is not sufficient to prevent some negative impacts. The JR 
provided $4.7 billion for enforcement, which is $55.4 million below the 
level requested by the President in his fiscal year 2007 budget 
request.
    While we are attempting to partially offset this reduction through 
user fee receipts, this reduction increases the importance of providing 
full funding of our fiscal year 2008 budget request, which I will 
discuss later in my testimony.

                           PRODUCING RESULTS

    The best case for full funding of the fiscal year 2008 budget can 
be made by looking at the results we achieved with the resources we do 
have. In fiscal year 2006, we spent just 42 cents to collect each $100 
of tax revenue, the third lowest figure in the last 25 years and down 
from 46 cents in fiscal year 2005.
    In fiscal year 2006, we continued making improvements in both our 
service and enforcement programs. This claim is not just our 
assessment, but also that of the IRS Oversight Board in its most recent 
annual report. According to the Board, the IRS has made steady progress 
towards ``transforming itself into a modern institution that provides 
efficient and effective tax administration services to America's 
taxpayers.''
Improving Taxpayer Service
    According to a survey commissioned by the Board in 2006, taxpayers 
increasingly recognize that the IRS provides quality service through a 
variety of channels, such as our Web site, toll-free telephone lines, 
and Taxpayer Assistance Centers (TACs). This finding is supported by 
the metrics that we use to determine the effectiveness of our taxpayer 
service efforts. In category after category, we continue to see 
improvement in the numbers in our telephone services, electronic 
filing, and IRS.gov access. This improvement is demonstrated by the 
following fiscal year 2006 business results:
  --Electronic filing by individuals continued to increase. It rose 
        three percentage points from fiscal year 2005 to 54 percent of 
        all individual returns.
  --The level of service for toll-free assistance was 82 percent, about 
        the same level of fiscal year 2005 and up substantially from 
        fiscal year 2001. The level of customer satisfaction with the 
        toll-free line remains 94 percent.
  --The tax-law accuracy of toll-free responses improved to 91 percent 
        and account accuracy increased to over 93 percent.
  --Visits to the IRS Web site jumped nearly 10 percent in fiscal year 
        2006 to more than 197 million visits.
  --More taxpayers used the online refund status tool ``Where's My 
        Refund.'' In fiscal year 2006, there were 24.7 million status 
        checks, up nearly 12 percent from fiscal year 2005.
    At the IRS, we continue to work to improve services. Clearly, we 
are making progress, and these numbers underscore that point.
    Another development in our taxpayer service program is the 
completion of the Taxpayer Assistance Blueprint (TAB). This 
collaborative effort of the IRS, the IRS Oversight Board, and the 
National Taxpayer Advocate began in July 2005 in response to a 
Congressional mandate to develop a five-year plan for taxpayer service 
delivery. We sent Phase 1 of the Blueprint to Congress in April 2006. 
Phase 1 identified and reported the following five strategic service 
improvement themes for increasing taxpayer, partner, and government 
value:
  --Improve and expand education and awareness activities.--This theme 
        addresses the critical need for making taxpayers and 
        practitioners aware of the most effective and efficient IRS 
        service options and delivery channels for meeting their tax 
        obligations and receiving benefits they are due.
  --Optimize the use of partner services.--This theme emphasizes the 
        critical role of third parties in the delivery of taxpayer 
        services, and calls for improving the level of support and 
        direction provided to partners to ensure consistent and 
        accurate administration of the tax law.
  --Enhance self-service options to meet taxpayer expectations.--This 
        theme focuses on providing clear, standard, and easily 
        customized automated content to deliver accurate, consistent, 
        and understandable self-assistance service options--
        particularly for transactional tasks.
  --Improve and expand training and support tools to enhance assisted 
        services.--This theme highlights the need for ensuring accurate 
        information across all channels by improving and expanding 
        training, technology infrastructure, and support for employees, 
        partners, and taxpayers.
  --Develop short-term performance and long-term outcome goals and 
        metrics.--This theme provides for the development of a 
        comprehensive set of performance goals and metrics to evaluate 
        how effectively the IRS is meeting taxpayer expectations, and 
        how efficiently it is delivering services.
    We delivered Phase 2 of the Blueprint to Congress in April. 
Throughout this project, extensive research allowed us to refine our 
understanding of taxpayer and partner needs, preferences, and behaviors 
and to identify current planning documents, decision processes, and 
existing commitments affecting IRS service delivery. Certain recurring 
findings emerged from the wealth of data analyzed. These findings, 
combined with agency-wide considerations and priorities, led to the 
development of the five-year TAB Strategic Plan for taxpayer service.
    The TAB Strategic Plan includes a suite of service improvement 
initiatives across all delivery channels, a portfolio of performance 
metrics, and an implementation strategy, which recommends numerous 
future research studies. The Plan outlines a decision-making process 
for prioritizing service improvement initiatives based on taxpayer, 
partner, and government value and ensuring continued stakeholder, 
partner, and employee engagement. This process is designed to help the 
IRS to balance quality service with effective enforcement to maximize 
compliance.
    The fiscal year 2008 budget request includes the funding necessary 
to implement some of the telephone service and Web site enhancements 
recommended by the TAB Strategic Plan. Enhancing telephone service will 
contribute to the goal of increasing taxpayer, partner, and government 
value. Improving IRS.gov will help us to make the Web site the first 
choice of individual taxpayers and their preparers when they need to 
contact the IRS for help. The TAB Strategic Plan also recommends a 
suite of multi-year research studies to continue to refine and improve 
our understanding of optimal service delivery. In addition to funding 
for research regarding noncompliance, the fiscal year 2008 budget 
includes funding for research to understand better the effect of 
service on compliance.
Expanding Enforcement Efforts
    Another reason for the Oversight Board's positive assessment of our 
work in fiscal year 2006 is that IRS enforcement efforts have increased 
in virtually every area. According to the Board, ``As demonstrated by a 
variety of measures, the IRS' performance on enforcement has improved 
considerably, and real progress has been achieved over the past six 
years.'' One of the most obvious measures is the increase in 
enforcement revenue, which has risen from $34 billion in fiscal year 
2002 to almost $49 billion in fiscal year 2006, an increase of 43 
percent.
    In fiscal year 2006, both the levels of individual returns examined 
and coverage rates have risen substantially. We conducted nearly 1.3 
million examinations of individual tax returns. This level is almost 75 
percent more than were conducted in fiscal year 2001, and reflects a 
steady and sustained increase since that time. Similarly, the audit 
coverage rate has risen from 0.58 percent in fiscal year 2001 to more 
than 0.97 percent in fiscal year 2006.
    While the growth in examinations of individual returns is visible 
in all income categories, it is most visible in examinations of 
individuals with incomes over $1 million. The number of examinations in 
this category rose by almost 78 percent compared to fiscal year 2004, 
the first year the IRS began tracking audits of individuals with income 
over $1 million. The coverage rate has risen from 5 percent in fiscal 
year 2004 to 6.3 percent in fiscal year 2006.
    Growth in audit totals and coverage rates extend to other taxpayer 
categories. Preliminary estimates show that the IRS examined over 
52,000 business returns in fiscal year 2006, an increase of nearly 
12,000 over fiscal year 2001. The coverage rate over the same period 
rose from 0.55 percent to 0.60 percent. For corporations with assets 
over $10 million, examinations rose from 8,718 in fiscal year 2001 to 
10,578 in fiscal year 2006, an increase in the coverage rate from 15.1 
percent to 18.6 percent. For the largest corporations, those with 
assets over $250 million, examinations have increased by over 29 
percent growing from 3,305 in fiscal year 2001 to 4,276 in fiscal year 
2006.
    We have also been active in the tax exempt community. Overall, 
examination closures for tax exempt organizations have risen from 5,342 
in fiscal year 2001 to 7,079 in fiscal year 2006. In addition, we have 
an innovative program utilizing correspondence contacts to leverage our 
activities in the compliance area. We have used it successfully in the 
hospital and executive compensation areas, and will be using it 
elsewhere.
    While examinations in the tax exempt community generally do not 
provide the tax collection ``return on investment'' that audits in 
other areas might, it is important that we keep a ``cop on the beat'' 
in order to prevent abuses in the exempt sector and an erosion of the 
tax base. Maintaining a strong enforcement presence in the tax-exempt 
sector is particularly important given the role that a small number of 
these entities have played in the past in accommodating abusive 
transactions entered into by taxable parties. In appropriate cases, 
this results in the collection of income or excise taxes--and in the 
most egregious cases, revocation of exempt status.
    One area to which we have paid particular attention is the credit 
counseling industry. Through a compliance initiative in this area, as 
of March 23, we had revoked or proposed revocation of the tax-exempt 
status of 45 credit counseling agencies, with another 16 examinations 
still in process. Proposed or final revocations to date represent 41 
percent of the revenues of the credit counseling industry.
    Using our correspondence contact techniques, we have also sent more 
than 700 questionnaires to all tax-exempt credit counseling 
organizations we know of that were not already under examination. Based 
on responses to the questionnaires and our independent research, we 
expect to examine at least 82 additional credit counseling 
organizations from this group.
    We also have been actively reviewing seller-funded down payment 
assistance programs that provide cash assistance to homebuyers who 
cannot afford to make the minimum down payment or pay the closing costs 
involved in obtaining a mortgage. When properly structured and 
operated, down payment assistance programs can qualify as tax-exempt 
charitable and educational organizations. In May 2006, we issued 
Revenue Ruling 2006-27, which provides examples of organizations that 
may qualify for tax exempt status, but also makes it clear that 
organizations providing seller-funded down payment assistance do not 
qualify for tax exemption.
    Seller-funded down payment assistance programs improperly benefit 
the home seller through circular funding arrangements that result in 
the home buyer paying for all or much of the down payment ``gift'' he 
or she receives from the organization. They also result in buyers 
becoming overextended as the cost of the down payment is added to the 
purchase price of the home. A Housing and Urban Development (HUD)-
commissioned study and a Government Accountability Office (GAO) report 
found that seller-funded programs led to underwriting problems and 
resulted in an increase in the cost of homeownership.
    In the audits we have conducted in this area, not only have we 
found improper private benefit and activities, but also that the down 
payment assistance organizations often provide excessive compensation 
to their officials. Revocation of exempt status will shut down abusive 
seller funded programs without harming the innocent low income home 
buyers who participated in these arrangements.
    We will continue to look at other areas within the exempt sector 
that have the potential for abuse.

                           2007 FILING SEASON

    The progress made in fiscal year 2006 has continued during the 2007 
filing season despite the fact that this filing season presented the 
potential to be one of the most challenging in recent memory. The Tax 
Relief and Health Care Act of 2006 (TRHCA), which passed late last 
year, included the extension of several significant tax benefits. Since 
forms and publications for Tax Year 2006 were printed and distributed 
prior to enactment, we were required to notify taxpayers on IRS.gov as 
to how to modify those forms to claim the allowable benefits. Due to 
separate developments in the tax law, we were faced with implementing 
the Telephone Excise Tax Refund Program (TETR), and this was the first 
filing season that we allowed taxpayer refunds to be split and 
deposited into separate accounts. Finally, because the normal April 
15th filing date fell on a Sunday and the following Monday was a legal 
holiday in the District of Columbia, we had to adjust our programs to 
provide taxpayers an extra two days to file and pay this year. Many of 
these changes also necessitated significant changes in our information 
technology systems.
    Despite these challenges, I am proud to report that the filing 
season has gone very well. By early February, we were able to begin 
processing tax returns claiming the tax benefits authorized by the 
enactment of TRHCA in December. We have also taken a number of steps to 
make sure that taxpayers understand how to claim the benefits. For 
example, we provided instructions on IRS.gov and conducted extensive 
outreach and media events to publicize these provisions. In addition, 
we sent a special mailing of Publication 600, which included the state 
and local sales tax tables and instructions for claiming the sales tax 
deduction on Schedule A (Form 1040), to six million taxpayers who had 
previously claimed the state and local sales tax deduction.
    From a technology perspective, we were able to deliver the timely 
release of 329 of 330 information system for the 2007 filing season. 
The one exception to timely delivery was the enhancements to the 
Customer Account Data Engine (CADE). This system, one of key components 
of the IRS' modernization strategy, will ultimately replace the 
antiquated master files.
    Significant functionality was added to CADE this year. We included 
the ability to handle married taxpayers, dependents, and a number of 
schedules including Schedules C, D, E, F, and SE. Due to system testing 
issues, the IRS did not deploy CADE into production until March 6th. To 
ensure taxpayers filing prior to March 6th were not negatively 
impacted, the IRS continued to process CADE-eligible taxpayers through 
the master file. Hence, the impact to such taxpayers was a delay of a 
couple of days on refund processing.
    The IRS originally estimated that if the enhancements were put into 
production on time, we would have processed 33 million individual tax 
returns through CADE in 2007. Given that we were late and missed many 
of the taxpayers that would be now be CADE-eligible, we processed only 
10.4 million tax returns through CADE as of May 4th. While the 10.4 
million tax returns are more than the 7.4 million posted last year, it 
is still disappointing because it fell well short of our estimates. 
CADE is now operating well in production and we expect that the full 
functionality intended for this year will be there for CADE going 
forward.
    Because of the issues with getting CADE into production this year, 
the IRS is taking more management control of the CADE project, and 
working to embed additional IRS subject matters experts on the CADE 
team. A significant amount of the delay this year is attributable to 
the complexities of the interfaces between CADE and other IRS legacy 
systems.
    In planning for next filing season, the IRS is revisiting the scope 
of what is to be delivered, to ensure that CADE will be in production 
the first day of the 2008 filing season.
    I will discuss the TETR Program later in my testimony, but let me 
first give an update on our filing season numbers.
Numbers Thus Far
    We expect to process almost 136 million individual tax returns in 
2007, and as anticipated the number of those that were e-filed 
continued to grow. In the 2006 filing season, 54 percent of all income 
tax returns were e-filed. As of April 28, we have received over 76 
million tax returns electronically, an increase of 8.74 percent 
compared to the same period last year.
    This increase in e-filing is being driven by people preparing their 
own returns using their personal computers. The total number of self-
prepared returns that are e-filed is up by over 11 percent compared to 
this time a year ago. Over 22 million returns have been e-filed by 
people from their personal computers, up from over 19 million for the 
same period a year ago.
    Overall, nearly 61 percent of the 125.7 million returns filed thru 
April 28 have been e-filed. Encouraging e-filing is good for both the 
taxpayer and for the IRS. Taxpayers who use e-file can generally have 
their tax refund deposited directly into their bank account in two 
weeks or less. That is about half the time it takes us to process a 
paper return. For the IRS, the error reject rate for e-filed returns is 
significantly lower than that for paper returns.
    More people are choosing to have their tax refunds directly 
deposited into their bank account than ever before. So far this year, 
we have directly deposited over 58 million refunds, or 63.2 percent of 
all refunds issued this tax filing season. This level is up from 62.3 
percent for the same period in 2006.
    People are also visiting our Web site, IRS.gov, in record numbers. 
Through April 28th, we have recorded over 137 million visits to our 
site this year, up over nine percent from 124.8 million for the same 
period a year ago. The millions of taxpayers that have visited IRS.gov 
have benefited from many of the services that are available through the 
Web site. We have made it easier for taxpayers to get answers to many 
of their tax questions online. Important functions on the Web site 
provide capabilities to:
  --Assist the taxpayer in determining whether he or she qualifies for 
        the Earned Income Tax Credit (EITC);
  --Assist the taxpayer in determining whether he or she is subject to 
        the Alternative Minimum Tax (AMT);
  --Allow more than 70 percent of taxpayers the option to file their 
        tax returns at no cost through the Free File program;
  --Allow taxpayers who are expecting refunds to track the status via 
        the ``Where's My Refund?'' feature; and
  --Allow taxpayers to calculate the amount of their Sales Tax 
        Deduction.
    As of April 21, we have received 125.7 million returns, a very 
slight increase (1.4 percent) over the same period as last year. We 
have issued 91.9 million refunds so far this year, for a total of 
$209.7 billion. The average refund thus far is $2,280, $63 more than 
last year. In addition, as of April 28th, over 26.6 million taxpayers 
have tracked their refund on IRS.gov, up more than 26 percent over last 
year.
    As of April 28th, our Taxpayer Assistance Centers (TACs) are 
reporting a very slight increase in face- to-face contacts this filing 
season as compared to last year. We have seen a slight decline in the 
number of calls answered (-0.32 percent) as well as automated calls 
(-5.65 percent). The decline in the number of calls answered can be 
attributed to a few weather-related temporary call site closures 
earlier this winter and a slight decrease in overall caller demand.
Free File
    Over 3.7 million people have utilized Free File as of April 28, 
down 1.8 percent from last year. This year, anyone with adjusted gross 
income of $52,000 or less is eligible for Free File, which includes 95 
million taxpayers.
    We think there are two major reasons for this decline. First, other 
websites advertising free tax preparation service siphoned off a 
significant number of customers. In addition, traditional tax 
preparation sites such as Intuit and TaxAct offered and advertised 
their own free services.
    Second, taxpayers are inundated with advertising and promotions by 
major tax preparation firms such as Intuit, H&R Block, and Liberty Tax. 
This is in contrast with IRS' limited promotion and marketing budget 
for FreeFile.
    A key difference in this year's Free File program is that Alliance 
members are no longer offering ancillary products, such as refund 
anticipation loans (RALs), through the Free File program. IRS data from 
the last filing season shows that only 0.5 percent of Free File users 
chose to utilize a RAL. The Free File Alliance may still offer 
customers the option of having their state tax return prepared for a 
fee, though some Alliance members are offering to do the state return 
along with the Federal at no cost.
    In the 2006 filing season, an indicator was included for the first 
time on Free File returns that allows the IRS to identify those 
taxpayers using Free File. As a result, the Service was able to obtain 
important information such as customer satisfaction and demographic 
data that had never before been available. This information allowed us 
to verify that there was a high level of customer satisfaction with 
Free File. According to a survey conducted for the IRS, 94 percent said 
they intend to use Free File again next year; the same number said they 
found Free File very easy or somewhat easy to use; and 97 percent said 
they would recommend Free File to others. Convenience, not the free 
cost, was the most appealing factor of Free File.
VITA/TCE Sites and Other Community Partnerships
    The use of tax return preparation alternatives, such as volunteer 
assistance at Volunteer Income Tax Assistance (VITA) sites and Tax 
Counseling for the Elderly sites (TCEs), has steadily increased. In 
fiscal year 2006, over 2.2 million returns were prepared by volunteers. 
As of April 28, volunteer return preparation is up 17 percent above 
last year's level. Volunteer e-filing is also up slightly, by 1.7 
percent over the same period last year. This is reflective of 
continuing growth in existing community coalitions and partnerships.
    We have also made a concerted attempt to improve outreach to 
taxpayers, particularly those taxpayers who may be eligible for the 
EITC. For example, we sponsored EITC Awareness Day on February 1 in an 
effort to partner with our community coalitions and partnerships to 
reach as many EITC-eligible taxpayers as possible and urge them to 
claim the credit.
Telephone Excise Tax Refunds
    In the middle of 2006, the IRS announced plans to refund at least 
$13 billion in telephone excise taxes to more than 160 million 
taxpayers. To do this task, the IRS modified every individual and 
business tax return form, retooled our systems to handle the forecast 
demand, and launched an extensive communications campaign to increase 
awareness and encourage people without a filing requirement to request 
a refund anyway.
    One difficulty in administering this refund was that taxpayers 
could have experienced significant burden if they had been required to 
find 41 months of old phone bills in order to obtain the information 
they needed to compute their refunds. For this reason, the IRS created 
a set of standard amounts that individuals can claim in lieu of actual 
amounts. For businesses and non-profits faced with potentially more 
paperwork than individuals, the IRS developed an estimation method that 
could require significantly less paperwork than requesting an actual 
amount.
    A review of returns filed so far this year turned up a surprising 
fact: over 28 percent of returns we have received did not include a 
telephone excise tax refund request. Though one of our communications 
goals was to encourage taxpayers not to overlook the telephone tax 
refund, it appears many taxpayers are missing out. In response to these 
early numbers, we consulted with tax professionals, citizens groups, 
and tax software companies to determine potential causes for the low 
take-up rate. The only logical reason we were given was that despite 
our best efforts, some taxpayers were still not aware of the credit and 
how to claim it. We then conducted additional media outreach to 
increase awareness of the refund and were able to generate broad 
national media coverage, including CNN, the Associated Press, and USA 
Today.
    As we monitored the initial returns, we also noticed some problems. 
Even though 99.5 percent of all taxpayers who are requesting the refund 
are claiming the appropriate standard amount, some tax-return preparers 
are requesting thousands of dollars of refunds for their clients in 
instances where clients are entitled to only a tiny fraction of that 
amount. This behavior may indicate criminal intent on the part of the 
return preparer. In some cases, taxpayers requested a refund in the 
thousands of dollars, suggesting that the taxpayer paid more for 
telephone service than they received in income. While some of the large 
claims may be the result of misunderstandings--a number of refund 
requests appear to be for the entire amount of the taxpayer's phone 
bill, rather than just the three-percent long-distance tax--others may 
be deliberate attempts to scam the system.
    To address this problem, in late February, IRS special agents 
executed search warrants seeking evidence from a small number of tax-
preparation businesses suspected of preparing returns on behalf of 
clients requesting large, improper amounts in telephone excise tax 
refunds. Special agents temporarily closed these businesses, seizing 
computers and documents to use in their investigations. In addition, 
IRS revenue agents (auditors) and special agents also visited other tax 
preparers who were suspected of preparing questionable telephone tax 
refund requests.
    On a positive note, the number of returns with seemingly high 
telephone excise tax refunds dropped significantly. This change 
suggests our enforcement actions, along with increased communications, 
may be having the desired effect.
Tax Scams
    Each year, we alert taxpayers about the ``Dirty Dozen,'' 12 of the 
most blatant tax scams affecting American taxpayers. This effort is, in 
part, an effort to alert taxpayers so that they may be wary if 
approached and encouraged to participate in any of the listed schemes. 
It also alerts promoters that we are aware of the scam and will be 
taking steps to prevent them from getting away with it.
    This year the ``Dirty Dozen'' highlights five new scams that IRS 
auditors and criminal investigators have uncovered. Topping the list 
this filing season are fraudulent refunds being claimed in connection 
with TETR, which I have already discussed. Other scams making the list 
include:
  --Abusive Roth IRAs.--Taxpayers should be wary of advisers who 
        encourage them to shift under-valued property to Roth 
        Individual Retirement Arrangements (IRAs). In one variation, a 
        promoter has the taxpayer move under-valued common stock into a 
        Roth IRA, circumventing the annual maximum contribution limit 
        and allowing otherwise taxable income to go untaxed.
  --Phishing.--This technique is used by identity thieves to acquire 
        personal financial data in order to gain access to the 
        financial accounts of unsuspecting consumers, run up charges on 
        their credit cards or apply for loans in their names. These 
        Internet-based criminals pose as representatives of a financial 
        institution--or sometimes the IRS itself--and send out 
        fictitious e-mail correspondence in an attempt to trick 
        consumers into disclosing private information. A typical e-mail 
        notifies a taxpayer of an outstanding refund and urges the 
        taxpayer to click on a hyperlink and visit an official-looking 
        Web site. The Web site then solicits a social security and 
        credit card number. It is important to note the IRS does not 
        use e-mail to initiate contact with taxpayers about issues 
        related to their accounts. If a taxpayer has any doubt whether 
        a contact from the IRS is authentic, the taxpayer should call 
        1-800-829-1040 to confirm it.
  --Disguised Corporate Ownership.--Domestic shell corporations and 
        other entities are being formed and operated in certain states 
        for the purpose of disguising the ownership of the business or 
        financial activity. Once formed, these anonymous entities can 
        be, and are being, used to facilitate underreporting of income, 
        non-filing of tax returns, listed transactions, money 
        laundering, financial crimes and possibly terrorist financing. 
        The IRS is working with state authorities to identify these 
        entities and to bring their owners into compliance.
  --Zero Wages.--In this scam, which first appeared in the Dirty Dozen 
        in 2006, a Form 4852 (Substitute Form W-2) or a ``corrected'' 
        Form 1099 showing zero or little income is submitted with a 
        federal tax return. The taxpayer may include a statement 
        rebutting wages and taxes reported by the payer to the IRS. An 
        explanation on the Form 4852 may cite statutory language behind 
        Internal Revenue Code sections 3401 and 3121 or may include 
        some reference to the paying company refusing to issue a 
        corrected Form W-2 for fear of IRS retaliation.
  --Return Preparer Fraud.--Dishonest return preparers can cause many 
        headaches for taxpayers who fall victim to their schemes. Such 
        preparers make their money by skimming a portion of their 
        clients' refunds and charging inflated fees for return 
        preparation services. They attract new clients by promising 
        large refunds. Some preparers promote filing fraudulent claims 
        for refunds on items such as fuel tax credits to recover taxes 
        paid in prior years. Taxpayers should choose carefully when 
        hiring a tax preparer. As the old saying goes, if it sounds too 
        good to be true, it probably is. Remember that no matter who 
        prepares the return, the taxpayer is ultimately responsible for 
        its accuracy. In recent years, the courts have issued 
        injunctions ordering dozens of individuals to cease preparing 
        returns, and the Department of Justice has filed complaints 
        against dozens of others. During fiscal year 2006, 109 tax 
        return preparers were convicted of tax crimes and sentenced to 
        an average of 18 months in prison.
  --American Indian Employment Credit.--Taxpayers submit returns and 
        claims reducing taxable income by substantial amounts citing an 
        American Indian employment or treaty credit. Although there is 
        an Indian Employment Credit available for businesses that 
        employ Native Americans or their spouses, there is no provision 
        for its use by employees. In a somewhat similar scam, 
        unscrupulous promoters have informed Native Americans that they 
        are not subject to federal income taxation. The promoters 
        solicit individual Indians to file Form W-8 BEN seeking relief 
        from all withholding of federal taxation. A recent ``phishing'' 
        variation has promoters using false IRS letterheads to solicit 
        personal financial information that they claim the IRS needs in 
        order to process their ``non-tax'' status.
  --Trust Misuse.--For years, unscrupulous promoters have urged 
        taxpayers to transfer assets into trusts. They promise 
        reduction of income subject to tax, deductions for personal 
        expenses and reduced estate or gift taxes. However, these 
        trusts do not deliver the promised tax benefits. There are 
        currently more than 150 active abusive trust investigations 
        underway and 49 injunctions have been obtained against 
        promoters since 2001. As with other arrangements, taxpayers 
        should seek the advice of a trusted professional before 
        entering into a trust.
  --Structured Entity Credits.--Promoters of this newly identified 
        scheme are setting up partnerships to own and sell state 
        conservation easement credits, federal rehabilitation credits 
        and other credits. The purported credits are the only assets 
        owned by the partnership and once the credits are fully used, 
        an investor receives a K-1 indicating the initial investment is 
        a total loss, which is then deducted on the investor's 
        individual tax return.
  --Abuse of Charitable Organizations and Deductions.--The IRS 
        continues to observe the use of tax-exempt organizations to 
        improperly shield income or assets from taxation. This action 
        can occur when a taxpayer moves assets or income to a tax-
        exempt supporting organization or donor-advised fund but 
        maintains control over the assets or income. Contributions of 
        non-cash assets continue to be an area of abuse, especially 
        with regard to overvaluation of contributed property. In 
        addition, the IRS is noticing the return of private tuition 
        payments being disguised as charitable contributions to 
        religious organizations.
  --Form 843 Tax Abatement.--This scam rests on faulty interpretation 
        of the Internal Revenue Code. It involves the filer requesting 
        abatement of previously assessed tax using Form 843. Many using 
        this scam have not previously filed tax returns and the tax 
        they are trying to have abated has been assessed by the IRS 
        through the Substitute for Return Program. The filer uses the 
        Form 843 to list reasons for the request. Often, one of the 
        reasons is: ``Failed to properly compute and/or calculate IRC 
        Sec 83--Property Transferred in Connection with Performance of 
        Service.''
  --Frivolous Arguments.--Promoters have been known to make the 
        following outlandish claims: the Sixteenth Amendment concerning 
        congressional power to lay and collect income taxes was never 
        ratified; wages are not income; filing a return and paying 
        taxes are merely voluntary; and being required to file Form 
        1040 violates the Fifth Amendment right against self-
        incrimination or the Fourth Amendment right to privacy. 
        Taxpayers should not believe these or other similar claims. 
        These arguments are false and have been thrown out of court. 
        While taxpayers have the right to contest their tax liabilities 
        in court, no one has the right to disobey the law or else they 
        may subject themselves to increased penalties. As part of the 
        Tax Relief and Health Care Act of 2006 [Public Law No. 109-
        432], Congress amended the Code to increase the amount of the 
        penalty for frivolous tax returns from $500 to $5,000 and to 
        impose a penalty of $5,000 on any person who submits a 
        ``specified frivolous position.'' Last week, we released 
        guidance identifying these and other frivolous claims that, 
        when asserted by a taxpayer on a tax return filed with the 
        Service or submitted in a collection due process request, 
        offer-in-compromise, application for an installment agreement, 
        or application for a Taxpayer Assistance Order, expose the 
        taxpayer to the $5,000 penalty.

   PRESIDENT'S FISCAL YEAR 2008 BUDGET MAINTAINS THE BALANCE BETWEEN 
                    TAXPAYER SERVICE AND ENFORCEMENT

    The IRS and its employees represent the face of the Federal 
Government to more American citizens than any other government agency. 
The IRS administers America's tax laws and collects 95 percent of the 
revenues that fund government operations and public services. Our 
taxpayer service programs provide assistance to help millions of 
taxpayers understand and meet their tax obligations. Our enforcement 
programs are aimed at deterring taxpayers inclined to evade their 
responsibilities while vigorously pursuing those who violate tax laws. 
Delivering these programs demands a secure and modernized 
infrastructure able to fairly, effectively, and efficiently collect 
taxes while minimizing taxpayer burden.
    The IRS fiscal year 2008 President's budget request supports our 
agency-wide strategic plan as well as Treasury's compliance improvement 
strategy. These documents underscore the IRS' commitment to provide 
quality service to taxpayers while enforcing America's tax laws in a 
balanced manner. The IRS' strategic plan goals are:
  --Improve Taxpayer Service.--Help people understand their tax 
        obligations, making it easier for them to participate in the 
        tax system;
  --Enhance Enforcement of the Tax Law.--Ensure taxpayers meet their 
        tax obligations, so that when Americans pay their taxes, they 
        can be confident their neighbors and competitors are also doing 
        the same; and
  --Modernize the IRS through its People, Processes and Technology.--
        Strategically manage resources, associated business processes, 
        and technology systems to effectively and efficiently meet 
        service and enforcement strategic goals.
Budget Request
    Our total budget request for fiscal year 2008 is for $11.1 billion 
in appropriated resources and represents a 4.7 percent increase over 
the recently enacted fiscal year 2007 Joint Resolution (JR) level of 
$10.6 billion.
    The IRS' taxpayer service and enforcement activities are funded 
from three appropriations: Taxpayer Services (TS); Enforcement (ENF); 
and Operations Support (OS). The total fiscal year 2008 budget request 
for these three operating accounts is $10.8 billion supplemented by 
$180 million from user fee revenue, for a total operating level for 
these accounts of $10.9 billion--a 5.5 percent increase over the fiscal 
year 2007 operating level. As in fiscal year 2006 and fiscal year 2007, 
the Administration proposes to include IRS enforcement increases as a 
Budget Enforcement Act program integrity cap adjustment, and I am 
pleased that the House and Senate Budget Committee marks for the 2008 
Resolution include the full cap adjustment for this activity, 
recognizing the return on investment from these enforcement 
investments.
    The budget also includes $282.1 million for Business Systems 
Modernization (BSM) and $15.2 million to administer the Health 
Insurance Tax Credit program--a 32.6 percent and 2.6 percent increase, 
respectively, over the fiscal year 2007 JR level.
    Our fiscal year 2008 budget request provides $409.5 million for new 
initiatives and $340 million for the pay raise and other cost 
adjustments needed to sustain base operations.
    The IRS' initiatives focus on the most significant needs for fiscal 
year 2008:
  --$20.0 million to enhance taxpayer service through expanded 
        volunteer tax assistance, increased funding for research to 
        determine the most effective means to help taxpayers, and 
        implementing new technology to improve taxpayer service;
  --$246.4 million to expand enforcement activities targeted at 
        improving compliance; and
  --$143.1 million to improve the IRS' information technology (IT) 
        infrastructure, including $62.1 million for the BSM program and 
        $81.0 million for security and infrastructure enhancements.
    This request also includes several program savings and efficiencies 
that reflect the IRS' aggressive efforts to identify and deploy work 
process and technology improvements that will benefit both taxpayer 
service and enforcement programs. Collectively, these cost savings 
total $120.0 million:
  --Taxpayer Service Efficiencies -$23.4 million/-527 FTE.--These 
        savings will result from operational efficiencies achieved 
        through ongoing efforts to automate and enhance IRS taxpayer 
        service programs' workload distribution, such as the 
        implementation of automated issuance of Employer Identification 
        Numbers and Correspondence Imaging System. Additional 
        efficiencies and savings are expected to be achieved through 
        the implementation of optimal service delivery initiatives 
        identified by the Taxpayer Assistance Blueprint.
  --Enforcement Program Efficiencies -$60.2 million/-620 FTE.--These 
        savings will result from productivity and efficiency 
        improvements realized through the implementation of enhanced 
        technology and business processes, such as improved case 
        selection tools and techniques. In addition, the completion of 
        initial training and transition of the fiscal year 2006 new 
        hires back to their front-line enforcement activities will 
        result in additional efficiencies for the examination and 
        collection programs.
  --Shared Service Support Efficiencies -$36.4 million/-37 FTE.--These 
        savings will result from several efforts, including the 
        optimization and consolidation of space projects; 
        implementation of cost-efficient government-wide contract 
        support; and postage savings achieved through the 
        consolidation, automation, and renegotiation of contract 
        services for correspondence delivery.
a strategic plan to improve voluntary compliance and reduce the tax gap
    The fiscal year 2008 budget supports our goal of improving 
voluntary compliance. The IRS has been working closely with the Office 
of Tax Policy at the Department of the Treasury to develop a strategic 
plan to achieve that goal. Key components of that goal and how they 
relate to the IRS budget are discussed below.
Enhancing Taxpayer Service
    Taxpayer service is especially important to help taxpayers avoid 
making unintentional errors. The IRS provides year-round assistance to 
millions of taxpayers through many sources, including outreach and 
education programs, tax forms and publications, rulings and 
regulations, toll-free call centers, the IRS.gov web site, Taxpayer 
Assistance Centers (TACs), Volunteer Income Tax Assistance (VITA) 
sites, and Tax Counseling for the Elderly (TCE) sites.
    Assisting taxpayers with their tax questions before they file their 
returns reduces burdensome post-filing notices and other correspondence 
from the IRS, and proactively addresses inadvertent noncompliance.
    The fiscal year 2008 budget request contains three significant 
taxpayer service initiatives. First, we are requesting $5 million to 
expand the VITA program, a significant component of our effort to 
support taxpayers eligible to claim the Earned Income Tax Credit. This 
taxpayer service initiative will help expand our volunteer return 
preparation, outreach and education, and asset building services to 
low-income, elderly, Limited English Proficient (LEP), and disabled 
taxpayers.
    The budget also requests $5 million for additional resources to 
enhance our understanding of the role of the taxpayer service on 
compliance. This research will focus on understanding taxpayer burden, 
opportunities for enhanced service to help reduce errors made on 
returns, and the impact of service on overall levels of voluntary 
compliance.
    Finally, the budget requests $10 million for four of the 
initiatives recommended by the Taxpayer Assistance Blueprint (TAB) 
Strategic Plan for taxpayer service. As part of the Blueprint effort, 
we conducted a comprehensive review of our current portfolio of 
services to individual taxpayers to determine which services should be 
provided and improved. Based on the findings of the Blueprint, the 
funding for this initiative will implement the following telephone 
service and Web site interaction enhancements:
  --Contact Analytics provides an analytical tool for evaluating 
        contact center recordings for the purpose of improving business 
        processes and lowering business costs, as well as improving 
        customer service.
  --Estimated Wait Time provides a real-time message that informs 
        taxpayers about their expected wait time in queue, allowing 
        them to make more informed decisions based on the status of 
        their call and thus reducing taxpayer burden and increasing 
        customer satisfaction.
  --Expanded Portfolio of Tax Law Decision Support Tools enables 
        taxpayers to conduct key word and natural language queries to 
        get answers to tax law questions through the Frequently Asked 
        Questions database accessed on IRS.gov, thereby steadily 
        increasing customer satisfaction and operational savings.
  --Spanish ``Where's My Refund?'' adds the ability to check refund 
        status to the Spanish Web page on IRS.gov, enabling the 
        Spanish-speaking community to receive the same level of 
        customer service on the Web as available to the English Web 
        page.
    Continued technological advancements offer significant 
opportunities for the IRS to improve the efficiency and effectiveness 
of call center services. Web site enhancements are designed to maximize 
the value of IRS.gov, making the site taxpayers' first choice for 
obtaining the information and services required to comply with their 
tax obligations.
Improving Compliance Activities
    The IRS is continuing to improve efficiency and productivity 
through process changes, investments in technology, and streamlined 
business practices. We will continue to reengineer our examination and 
collection procedures to reduce cycle time, increase yield, and expand 
coverage. As part of our regular examination program, we are expanding 
the use of cost-efficient audit techniques first pioneered in the 
National Research Program (NRP).
    We are also expanding our efforts to shift to agency-wide 
strategies, which maximize efficiency by better aligning problems (such 
as nonfilers and other areas of noncompliance) and their solutions 
within the organization. The IRS is committed to improving the 
efficiency of its audit process, measured by audit change rates and 
other appropriate benchmarks.
    There are seven specific initiatives proposed in the fiscal year 
2008 budget aimed at improving compliance. These initiatives provide:
  --$73.2 million to improve compliance among small business and self-
        employed taxpayers in the elements of reporting, filing, and 
        payment compliance.--This funding will be allocated for 
        increasing audits of high-risk tax returns, collecting unpaid 
        taxes from filed and unfiled tax returns, and investigating 
        persons who have evaded taxes for possible criminal referral. 
        It is estimated that this request will produce $144 million in 
        additional annual enforcement revenue per year, once new hires 
        reach full potential in fiscal year 2010.
  --$26.2 million for increasing compliance for large, multinational 
        businesses.--This enforcement initiative will increase 
        examination coverage for large, complex business returns; 
        foreign residents; and smaller corporations with significant 
        international activity. It addresses risks arising from the 
        rapid increase in globalization, and the related increase in 
        foreign business activity and multi-national transactions where 
        the potential for noncompliance is significant in the reporting 
        of transactions that occur across differing tax jurisdictions. 
        With this funding, we estimate that coverage for large 
        corporate and flow-through returns will increase from 7.9 to 
        8.2 percent in fiscal year 2008, and produce over $74 million 
        in additional annual enforcement revenue, once the new hires 
        reach full potential in fiscal year 2010.
  --$28 million for expanded document matching in existing sites.--This 
        enforcement initiative will increase coverage within the 
        Automated Underreporter (AUR) program by minimizing revenue 
        loss through increased document matching of individual taxpayer 
        account information. We believe the additional resources will 
        result in an increase in AUR closures from 2.05 million in 
        fiscal year 2007 to 2.64 million in fiscal year 2010. We expect 
        $208 million of additional enforcement revenue per year, once 
        the new hires reach full potential in fiscal year 2010. In 
        addition, the budget requests $23.5 million to establish a new 
        document matching program at our Kansas City campus. This 
        enforcement initiative will fund a new AUR site within the 
        existing IRS space in Kansas City to address the misreporting 
        of income by individual taxpayers. Establishing this new AUR 
        site should result in over $183 million in additional 
        enforcement revenue per year once the new hires reach full 
        potential in fiscal year 2010.
  --$6.5 million to increase individual filing compliance.--This 
        enforcement initiative will help address voluntary compliance. 
        The Automated Substitute for Return Refund Hold Program 
        minimizes revenue loss by holding the current-year refunds of 
        taxpayers who are delinquent in filing individual income tax 
        returns and are expected to owe additional taxes. We estimate 
        that this initiative will result in securing more than 90,000 
        delinquent returns in fiscal year 2008 and produce $82 million 
        of additional enforcement revenue per year, once the new hires 
        reach full potential in fiscal year 2010.
  --$15 million to increase tax-exempt entity compliance.--This 
        enforcement initiative will deter abuse by entities under the 
        purview of the Tax-Exempt and Governmental Entities Division 
        (TEGE) and misuse of such entities by third parties for tax 
        avoidance or other unintended purposes. The funding will aid in 
        increasing the number of TEGE compliance contacts by 1,700 (six 
        percent) and employee plan/exempt organization determinations 
        closures by over 9,000 (eight percent) by fiscal year 2010.
  --$10 million for increased criminal tax investigations.--This 
        funding will help us aggressively attack abusive tax schemes, 
        corporate fraud, nonfilers, and employment tax fraud. It will 
        also address other tax and financial crimes identified through 
        Bank Secrecy Act related examinations and case development 
        efforts, which include an emphasis on the fraud referral 
        program. Our robust pursuit of tax violators and the resulting 
        publicity is aimed to foster deterrence and enhance voluntary 
        compliance.
  --$41 million for conducting research studies of compliance data for 
        new segments of taxpayers needed to update existing estimates 
        of reporting compliance.--The data collected from these studies 
        will enable the IRS to develop strategies to combat specific 
        areas of noncompliance.
    In addition to these initiatives, I would stress the importance of 
allowing us to continue with the private debt collection program. The 
Congress authorized the use of private collection agents (PCAs) in the 
American Jobs Creation Act of 2004. As we continue to debate the 
efficacy of this program, I want to take this opportunity to make a 
couple of points for purposes of our ongoing discussions.
    One issue that has been debated is the relative efficiency of using 
PCAs versus IRS employees to collect the taxes owed. The most important 
question is not whether IRS employees or PCAs can do the job more 
efficiently, but rather whether PCAs collect money that would otherwise 
go uncollected. The IRS lacks the resources to pursue the relatively 
simple, geographically dispersed cases that are now being assigned to 
PCAs. It is not realistic to expect that the Congress is going to give 
the IRS an unlimited budget for enforcement, and if Congress provided 
the IRS additional enforcement resources, I believe those resources 
would be applied best by allocating them to more complex, higher 
priority cases that are not appropriate for PCAs.
    The IRS continues to work with PCAs to ensure that the program is 
fair to taxpayers and respects taxpayer rights. The Treasury Inspector 
General for Tax Administration (TIGTA) agreed with that assessment. 
Earlier this month, TIGTA issued a report which noted that ``IRS has 
taken proactive measures to effectively develop and implement the (PCA) 
Program.''
    The report said that we had taken the appropriate steps to ensure 
contractor employees received sufficient and adequate training on 
applicable laws and regulations before allowing them access to Federal 
tax information. This process included providing contractors with an 
orientation and overview of the training required and conducting an 
onsite assessment of the contractor training.
    TIGTA also recognized that we had required all contractor employees 
assigned to the Program contract, or who have access to Federal tax 
information, to undergo background investigations. We granted either 
interim or final approval of background investigations for each 
employee working on the contract at the time of our review.
    We currently estimate that between now and fiscal year 2017, our 
partnership with PCAs will result in approximately 2.9 million 
delinquent cases receiving treatment that would otherwise have gone 
unworked. This partnership will help reduce the backlog in outstanding 
tax liabilities, which has grown by 118 percent over the last 12 years.
    From September 7, 2006, when cases were first assigned to PCAs, 
through March 22, 2007 PCAs collected $19.47 million in gross revenue. 
We estimate that cases worked by PCAs will generate estimated gross 
revenue of $1.4 billion through fiscal year 2017.
    Another reason to continue to use this tool is to evaluate whether 
we in the public sector can learn anything from these PCAs that will 
enable us to do our jobs better. Particularly over the last 20 years, 
government agencies at all levels have adopted many practices and ways 
of doing business that have been pioneered in the private sector. One 
need look no further than the vastly expanded use by the government of 
the Internet in providing services to the public as an example of a 
practice that was pioneered in the private sector, but adopted quickly 
and effectively by the government. We should not remove PCAs as a tool 
for addressing the problem before we have an opportunity to evaluate 
the potential of this initiative to help improve compliance, and 
perhaps even to show the government how to be more effective in its own 
efforts.
Reducing Opportunities for Evasion
    The IRS is already aggressively pursuing enforcement initiatives 
designed to improve compliance and reduce opportunities for evasion. As 
I pointed out earlier, these efforts have produced a steady climb in 
enforcement revenues since 2001, as well as an increase in both the 
number of examinations and the coverage rate in virtually every major 
category.
    In the budget request, the Administration proposes to expand 
information reporting, improve compliance by businesses, strengthen tax 
administration, and expand penalties in the following ways:
  --Expand information reporting.--Specific information reporting 
        proposals would:
    --Require information reporting on payments to corporations;
    --Require basis reporting on sales of securities;
    --Expand broker information reporting;
    --Require information reporting on merchant payment card 
            reimbursements;
    --Require a certified taxpayer identification number (TIN) from 
            non-employee service providers;
    --Require increased information reporting for certain government 
            payments for property and services; and
    --Increase information return penalties.
  --Improve compliance by businesses.--Improving compliance by 
        businesses of all sizes is important. Specific proposals to 
        improve compliance by businesses would:
    --Require electronic filing by certain large businesses;
    --Implement standards clarifying when employee leasing companies 
            can be held liable for their clients' Federal employment 
            taxes; and
    --Amend collection due process procedures applicable to employment 
            tax liabilities.
  --Strengthen tax administration.--The IRS has taken a number of steps 
        under existing law to improve compliance. These efforts would 
        be enhanced by specific tax administration proposals that 
        would:
    --Expand IRS access to information in the National Directory of New 
            Hires database;
    --Permit the IRS to disclose to prison officials return information 
            about tax violations; and
    --Make repeated failure to file a tax return a felony.
  --Expand penalties.--Penalties play an important role in discouraging 
        intentional noncompliance. Specific proposals to expand 
        penalties would:
    --Expand preparer penalties;
    --Impose a penalty on failure to comply with electronic filing 
            requirements; and
    --Create an erroneous refund claim penalty.
    The Administration also has four proposals relating to IRS 
administrative reforms.
    The first proposal modifies employee infractions subject to 
mandatory termination and permits a broader range of available 
penalties. It strengthens taxpayer privacy while reducing employee 
anxiety resulting from unduly harsh discipline or unfounded 
allegations.
    The second proposal allows the IRS to terminate installment 
agreements when taxpayers fail to make timely tax deposits and file tax 
returns on current liabilities.
    The third proposal eliminates the requirement that the IRS Chief 
Counsel provide an opinion for any accepted offer-in-compromise of 
unpaid tax (including interest and penalties) equal to or exceeding 
$50,000. This proposal requires that the Secretary of the Treasury 
establish standards to determine when an opinion is appropriate.
    The fourth proposal modifies the way that Financial Management 
Services (FMS) recovers its transaction fees for processing IRS levies 
by permitting FMS to add the fee to the liability being recovered, 
thereby shifting the cost of collection to the delinquent taxpayer. The 
offset amount would be included as part of the 15-percent limit on 
continuous levies against income.
    Collectively, these proposals should generate $29.5 billion in 
revenue over 10 years. The proposed budget provides $23 million to 
begin implementation of these initiatives. This funding will allow the 
purchase of software and the modifications to IRS information 
technology systems necessary to implement these legislative proposals.
Enhancing Research
    Research enables the IRS to develop strategies to combat specific 
areas of noncompliance, improve voluntary compliance, and allocate 
resources more effectively. Historically, our estimates of reporting 
compliance were based on the Taxpayer Compliance Measurement Program 
(TCMP), which consisted of line-by-line audits of random samples of 
returns. This study provided us with information on compliance trends 
and allowed us to update audit selection formulas. However, this method 
of data gathering was extremely burdensome on the taxpayers who were 
forced to participate. One former IRS Commissioner noted that the TCMP 
audits were akin to having an autopsy without the benefit of death. As 
a result of concerns raised by taxpayers, Congress, and other 
stakeholders, the last TCMP audits were done for Tax Year (TY) 1988.
    We have conducted several much narrower studies since then, but 
nothing that would give us a comprehensive perspective on the overall 
tax gap. As a result, until the recent NRP data, all of our subsequent 
estimates of the tax gap were rough projections that basically assumed 
no change in compliance rates among the major tax gap components; the 
magnitude of these projections reflected growth in tax receipts in 
these major categories.
    The National Research Program (NRP), which we have used to estimate 
our most recent tax gap updates, provides us a better focus on critical 
tax compliance issues in a manner that is far less intrusive than 
previous means of measuring tax compliance. We used a focused, 
statistical selection process that resulted in the selection of 
approximately 46,000 individual returns for TY 2001. This population 
sample was less than previous compliance studies, even though the 
population of individual tax returns had grown over time. Like the 
compliance studies of the past, the NRP was designed to allow us to 
estimate the overall extent of reporting compliance among individual 
income tax filers, and to update our audit selection formulas. It also 
introduced several innovations designed to reduce the burden imposed on 
taxpayers whose returns were selected for the study.
    The NRP provided updated estimates for determining the sources of 
noncompliance. The IRS also uses the NRP findings to better target 
examinations and other compliance activities, thus increasing the 
dollar-per-case yield and reducing ``no change'' audits of compliant 
taxpayers. Innovations in audit techniques to reduce taxpayer burden, 
pioneered during the 2001 NRP, have been adopted in regular operational 
audits.
    Almost as important as understanding what the NRP research provides 
is to understand its limitations. The focus of the first NRP reporting 
compliance study was on individual income tax returns. It did not 
provide estimates for noncompliance with other taxes, such as the 
corporate income tax or the estate tax. Our estimates of compliance 
with taxes other than the individual income tax are still based on 
projections that assume constant compliance behavior among those major 
tax gap components, since the most recent compliance estimates were 
compiled (i.e., for TY 1988 or earlier).
    Recurring and timely compliance research is needed to ensure that 
the IRS can efficiently target resources, effectively provide the best 
service possible, and respond to new sources of noncompliance as they 
emerge. Compliant taxpayers benefit when the IRS uses the most up-to-
date research to improve workload selection formulas, as this reduces 
the burden of unnecessary taxpayer contacts.
    The fiscal year 2008 budget request includes funds for two 
significant research initiatives. First, the budget requests $41 
million to improve compliance estimates, measures, and detection of 
noncompliance. This funding will allow research studies of compliance 
data for new segments of taxpayers needed to update existing estimates 
of reporting compliance. Unlike in the past, the IRS will conduct an 
annual study of compliance among 1040 filers based on a smaller sample 
size than the 2001 NRP study. This approach will provide fresh 
compliance estimates each year, and by combining samples over several 
years, will provide a regular update to the larger sample size needed 
to keep our targeting systems and compliance estimates up to date.
    The second initiative funded by the request is to research the 
effect of service on taxpayer compliance. The budget requests $5 
million for this project, which will undertake new research on the 
needs, preferences, and behaviors of taxpayers. The research will focus 
on four areas:
  --Meeting taxpayer needs by providing the right channel of 
        communication;
  --Better understanding taxpayer burden;
  --Understanding taxpayer needs through the errors they make; and
  --Researching the impact of service on overall levels of voluntary 
        compliance.
Continuing Improvements in Information Technology
    Tax administration in the twenty-first century requires improved 
IRS information technology (IT). We are committed to continuing to make 
improvements in technology and the fiscal year 2008 budget request 
reflects that commitment. The request includes $81 million to improve 
the IRS' information technology infrastructure. Sixty million dollars 
of this amount is requested to upgrade critical IT infrastructure, 
addressing the backlog of IRS equipment that has exceeded its life 
cycle. Failure to replace the IT infrastructure will lead to increased 
maintenance costs and will increase the risk of disrupting business 
operations. Planned expenditures in fiscal year 2008 include procuring 
and replacing desktop computers, automated call distributor hardware, 
mission critical servers, and Wide Area Network/Local Area Network 
routers and switches.
    The other $21 million will be used to enhance the Computer Security 
Incident Response Center (CSIRC) and the network infrastructure 
security. This infrastructure initiative will provide $13.1 million to 
fund enhancements to the CSIRC necessary to keep pace with the ever-
changing security threat environment through enhanced detection and 
analysis capability, improved forensics, and the capacity to identify 
and respond to potential intrusions before they occur. The remaining 
$7.9 million will fund enhancements to the IRS' network infrastructure 
security. It will provide the capability to perform continuous 
monitoring of the security of operational systems using security tools, 
tactics, techniques, and procedures to perform network security 
compliance monitoring of all IT assets on the network.
    Finally, the fiscal year 2008 budget request includes a total of 
$282.1 million to continue the development and deployment of the IRS 
Business Systems Modernization (BSM) program in line with the 
recommendations identified in the IRS Modernization, Vision, and 
Strategy. This funding will allow the IRS to continue progress on 
modernization projects, such as the Customer Account Data Engine 
(CADE), Account Management Services (AMS), Modernized e-File (MeF), and 
Common Services Projects (CSP).
    The development of the CADE (Customer Account Data Engine) and AMS 
(Account Management Services) systems is the heart of the IT 
modernization of the IRS. The combination of these two systems working 
together will enable the IRS to process tax returns and deal with 
taxpayer issues in a near real-time manner. Our objective is that the 
IRS operate similarly to what one expects from one's bank--account 
transactions occurring during the business day will be posted and 
available by the next business day. In addition, AMS will enable the 
IRS representatives who work with taxpayers to have access to all the 
information regarding that taxpayer, including electronic access to tax 
return data, and electronic copies of correspondence. Equipped with 
such comprehensive and up-to-date information, our representatives will 
be in a much better position to help taxpayers resolve their issues.
    MeF is the future of electronic filing. It provides a standard data 
format for all electronic tax returns, which will reduce the cost and 
time to add and maintain additional tax form types. MeF is a flexible 
real-time system that streamlines the processing of e-filed tax 
returns, resulting in a quicker acknowledgement of the filing to the 
taxpayer or their representative. In fiscal year 2007, the IRS will 
start development and implementation of the 1040 on the MeF platform.
    CSP will provide funding for new portals, which are technology 
platforms that meet many IRS business needs through Web-based front-
ends, and provide secure access to data, applications, and services. 
The portals are mission-critical components of the enterprise 
infrastructure required to support key business processes and 
compliance initiatives.
    The benefits accruing from the delivery and implementation of BSM 
projects not only provide value to taxpayers, the business community, 
and government, but also contribute to operational improvements and 
efficiencies within the IRS.

                              OTHER ISSUES

    In recent weeks, there has been much publicity over identity theft 
and the loss of IRS laptops. Please allow me to bring you up to date on 
these issues.
Identity Theft
    Taxpayer and employee privacy is a foremost concern of the IRS. We 
are charged with protecting confidential information about every 
taxpayer. In recognition of this responsibility, we continue to update 
our systems and our training so that employees who have access to 
sensitive information are aware of the steps they must take to prevent 
that information from being compromised.
    This job has never been tougher. According to the FBI, identity 
theft is one of the fastest growing white collar crimes. There has been 
a 4,600 percent increase in computer crime since 1997. Nearly 10 
million Americans each year are affected by identity theft, according 
to the Federal Trade Commission (FTC). Deloitte-Touche has reported 
that financial institutions and U.S. banks have also experienced a 
significant increase in the number of computer based attacks and 
attempted intrusions into financial systems.
    The FTC also reports, ``About 90 percent of business record thefts 
involve payroll or employment records, while only about 10 percent are 
generated from customer lists.'' These business record thefts also 
include job applications, personnel records, health insurance and 
benefits records, and payroll related tax documents that provide 
personal information that identity thieves use to steal employees' 
identities. While most identity theft is use of consumer's personal 
information to make purchases, almost 1.5 million victims indicated 
that their personal information was misused in non-financial ways to 
obtain government documents or tax forms.
    Through our Automated Underreporter Program (AUR), we see firsthand 
potential instances of identity theft. The AUR matches W-2s for the 
same SSN to ensure that the taxpayer has reported all sources of 
income. If identity theft has occurred the SSN may have been used with 
multiple employers who have issued multiple W-2s for the SSN. In Tax 
Year (TY) 2004, the latest year for which we have data, there were 
16,152 identity theft claims made through the AUR program. This level 
is far less than the 30,639 cases in TY 2002, but a few more than the 
12,618 claimed in TY 2003. In these cases, if the affected taxpayer 
provides the necessary documentation on an identity theft claim, the 
income in question will not result in an additional assessment.
    We have tried to take the initiative in proactively analyzing 
processes to identify areas of vulnerability, and in educating 
taxpayers and employees about identity theft. We have teamed with other 
federal agencies, such as the Federal Trade Commission (FTC), the 
Department of Justice (DOJ) and the Social Security Administration 
(SSA) to address identity theft crime. Treasury was also a member of 
the Identity Theft Task Force, created by executive order in May 2006, 
and which recently submitted to the President an identity theft plan 
entitled ``Combating Identity Theft: A Strategic Plan''.
    In 2005 we began an aggressive strategy to research and address 
this growing problem. We established an Identity Theft Program Office 
charged with implementing the IRS' policy on identity theft. This 
policy requires the IRS to take the necessary steps to provide 
assistance to victims of identity theft within the scope of their 
official duties. Our Identity Theft Program Office works with offices 
throughout the IRS to implement the agencies' Identity Theft Enterprise 
Strategy comprised of three components--Outreach, Prevention and Victim 
Assistance.
Outreach
    The IRS has undertaken several outreach initiatives to provide 
taxpayers, employees, and other stakeholders with the information they 
need to proactively prevent and resolve identity theft issues. For 
example, the IRS:
  --Revised the most widely used documents, such as the Form 1040 
        instructions and Publication 17, Your Federal Income Tax, to 
        include information about identity theft.
  --Launched an identity theft website on IRS.gov to provide victims 
        with updated information and links to SSA and FTC and with 
        information on how to contact the Taxpayer Advocate.
  --Participated with Department of Treasury and the SSA in a multi-
        agency panel discussion on identity theft, which was held at 
        the IRS nationwide tax forums in 2006 that reached 
        approximately 30,000 tax preparers.
  --Developed an internal web communication tool to alert IRS employees 
        to issues of identity theft.
  --Lead a multi-agency working group (Treasury, FTC, SSA, and Homeland 
        Security) with a goal of providing consistent information and 
        services to victims, consistent with recommendations being made 
        by the President through the Identity Theft Task Force.
  --Partnered with the Treasury Inspector General for Tax 
        Administration (TIGTA) to develop and promote a consistent 
        message to inform taxpayers that the IRS does not communicate 
        with taxpayers via e-mail, with the goal of reducing the number 
        of identity thefts accomplished by ``phishing.''
  --Jointly with TIGTA published an e-mail address on IRS.gov to serve 
        as a repository for the fraudulent emails so they could be 
        tracked to the source and destroyed.
Victim Assistance
    We recognize that outreach alone is not enough and that we also 
must be prepared to assist victims when identity theft occurs. With 
respect to the victim assistance prong of the Enterprise Strategy:
  --The IRS established a new identity theft policy that provides for 
        consistent procedures across its functions to ensure timely 
        resolution of identity theft issues affecting taxpayer 
        accounts.
  --The IRS has developed new standards for documentation required from 
        taxpayers to validate the identity of the taxpayer, address, 
        and the fact of the identity theft. These documentation 
        standards are consistent with those required by FTC and SSA.
  --The IRS has worked closely with SSA to reduce the time required to 
        resolve cases where more than one taxpayer uses the same SSN on 
        a tax return (called the Scrambled SSN process). The average 
        timeframe to resolve the case is now approximately 10 months 
        compared to 18 months previously. As of March 24, 2007, the 
        current scrambled SSN inventory count is approximately 5,000 
        cases. Approximately 38,000 cases have been referred to SSA in 
        2003-2006.
  --The IRS updated its processes and notices to help taxpayers whose 
        name and SSN were used by an identity thief for employment 
        purposes. When the IRS matches an identity thief's W-2 
        information with a legitimate taxpayer's income tax return, the 
        IRS sends the taxpayer a notice regarding the under-reported 
        income. This notification is often the first time the victim is 
        aware of the identity theft. To aid these victims of identity 
        theft, the under-reporter notices were updated with specific 
        instructions on the type of documents and information needed to 
        validate the identity theft cases.
  --The IRS is taking additional steps to reduce taxpayer burden 
        associated with identity theft. By January 2008, the IRS will 
        implement a new Service-wide identity theft indicator that will 
        be placed on a taxpayer's account upon the authentication of 
        identity theft. Once the new process is fully deployed, 
        taxpayers should have to provide identity theft authentication 
        only one time, and the IRS will be able to reject returns which 
        do not appear to be from the legitimate owner of the SSN.
Prevention
    There are three types of identity theft crimes in tax 
administration: refund crimes, employment and income diversion.
  --Refund crimes are perpetrated by criminals who use another person's 
        tax information to fake a return and steal a refund. The Refund 
        Crimes Unit of the IRS' Criminal Investigation Division 
        identifies those returns through the Questionable Refund 
        program.
  --The IRS is developing several initiatives to reduce the incidence 
        of theft related to employment, such as working with SSA to 
        explore initiatives to improve the accuracy of SSN reporting.
  --Individuals who make false identity claims to underreport income 
        will face additional tax and penalties, as will preparers who 
        promote such schemes.
    To augment the IRS Identity Theft Enterprise Strategy composed of 
outreach, assistance, and prevention, the IRS initiated a Service-wide 
Identity Theft Risk Assessment to qualify and quantify existing threats 
and vulnerabilities related to IRS processes that could directly or 
indirectly facilitate identity theft and/or taxpayer burden. As an 
output of this risk assessment, the IRS developed (and has began the 
implementation of) targeted remediation strategies designed to address 
the identified threats and vulnerabilities.
    Where justified, we have referred cases of identity theft to our 
Criminal Investigation (CI) unit. In the past two years, CI has 
successfully investigated a number of cases that were successfully 
prosecuted in which identity theft has led to tax fraud. Just last 
month, two women from Ohio were sentenced to 63 and 188 months, 
respectively, and ordered to pay $300,000 in restitution for 
perpetuating an identity theft scheme. As part of this scheme, the 
women claimed nearly $114,000 in tax refunds to which they were not 
entitled.
    Last November, a Florida man was sentenced to 63 months in prison 
to be followed by three years of supervised release for making false 
claims against the IRS and for identity theft. He was also ordered to 
pay a personal money judgment of $152,171, and to pay $152,171 in 
restitution to the IRS. To carry out this scheme, the man used the 
Internet to obtain personal information, including names and dates of 
birth, for at least 150 Florida inmates.
    We are also continuing to review ways we can protect our employees 
from identity theft. The IRS Office of Privacy is identifying ways to 
reduce or eliminate the Service's use of employee SSNs in certain 
applications to minimize the risk of improper use. We are closely 
coupling privacy and identity theft protections with the agency 
security program, so that when we do need to collect SSNs--either 
employee or citizen, we can ensure that they are adequately protected 
within our systems.
    The main focus for the annual IRS' Security Awareness Week, last 
November, was ``Identity Theft/Fraud.'' We focused activities on 
raising awareness and making employees aware of their responsibilities.
    While research shows that the IRS has one of the lowest rates of 
identity theft in all the Federal government, we still take this 
situation very seriously. We have made significant progress, but 
additional work remains--including implementing additional mediation 
strategies and conducting in-depth analyses of the remaining high-
priority processes.
Laptop Security
    Every year, the IRS processes over $2 trillion in revenues to fund 
the U.S. operating budget. Although the majority of this is collected 
in an automated banking system throughout the year, about $300 billion 
is collected through 8 IRS campuses where taxpayers send their tax 
returns for processing. We house computing systems that hold data on 
all taxpayers, and also process enormous volumes of paper data in our 
more than 500 offices across the country. We have more than 82,000 full 
time and 12,000 part-time employees across the United States. Our 
workforce is highly mobile, as revenue agents and officers are often in 
the field working directly with taxpayers.
    IRS computers, networks, and databases are protected by multiple 
layers of security, including modern security technology devices such 
as firewalls, encrypted communication links, and automatic intrusion 
detection devices.
    The IRS is one of the few government agencies operating its own 24/
7 computer security incident response center (CSIRC) to monitor IRS 
computer and network security, and to collect and follow up on any 
security incidents. The IRS' CSIRC works in close coordination with the 
Treasury Department and the Department of Homeland Security's CSIRCs 
and the US-CERT incident reporting center.
    As I mentioned earlier, the fiscal year 2008 budget for IRS 
proposes $21 million to be used to enhance CSIRC and the network 
infrastructure security. This infrastructure initiative will provide 
$13.1 million to fund enhancements to the CSIRC necessary to keep pace 
with the ever-changing security threat environment through enhanced 
detection and analysis capability, improved forensics, and the capacity 
to identify and respond to potential intrusions before they occur. The 
remaining $7.9 million will fund enhancements to the IRS' network 
infrastructure security. It will provide the capability to perform 
continuous monitoring of the security of operational systems using 
security tools, tactics, techniques, and procedures to perform network 
security compliance monitoring of all IT assets on the network.
    The IRS has always had policy guidance in place requiring employees 
to protect taxpayer information and other personal and private data. 
Protection of taxpayer information is emphasized and stressed in all 
employee orientation and refresher training as one of the Service's 
highest priorities.
    Prior to January 2007, all IRS laptops included encryption tools 
that IRS employees were required to use to encrypt all sensitive 
information. We recognize that this previous generation of encryption 
tools may have been technically complex and challenging for many 
employees and as a result some may have not have done the proper 
encryption. Therefore, we have recently completed installation of an 
automatic full disk encryption product on all IRS laptops that 
automatically encrypts all data on the laptop, without requiring any 
employee action. We have tested this encryption system and certified 
that it meets mandatory standards. We have also provided physical 
security locks for all IRS laptops.
    IRS employees have reported the loss or theft of over 500 laptop 
computers over the last five years. Prior to May 2006, these reports 
primarily focused on reporting the theft or loss of IT equipment. Given 
the heightened awareness across the Federal Government in 2006 to the 
protection of sensitive personally identifiable information (PII), all 
government agencies now are focused more on the reporting of any 
sensitive information that may have been lost when a laptop is lost or 
stolen.
    The IRS laptop losses were reported to TIGTA, which investigated 
these incidents and provided reports back to IRS management. We 
recovered very few devices, as they are quickly re-sold.
    We are also working with our Federal and State partners with whom 
we share information to implement encryption solutions on data tapes. 
The encryption solutions are planned to be completed by October 1, 
2007. In the interim, the IRS is using special security shipping 
containers and courier services to ensure that tapes shipped from IRS 
are protected. Recipients of the data are subject to implementing 
specific safeguards and complying with published standards for the 
protection of the data. Appropriate documentation is required for the 
transport of the tapes.
    As the President's Taskforce on Identity Theft recommended, the 
Office of Management and Budget (OMB) is working closely with all 
agencies, including the IRS, to develop policy guidance for 
notification in instances where an individual's personally identifiable 
information has been compromised. The IRS has everything in place to 
comply with this new policy. We have reviewed all incidents, and there 
are a few that likely will require follow up (notification).

                                SUMMARY

    One of the questions that the IRS is asked frequently is how much 
money, beyond the budget request, we could use productively. My honest 
answer to that question is that while I want Congress to appropriate 
every cent that has been requested, our ability to absorb additional 
funding beyond that amount is limited by our capacity to hire and train 
new personnel.
    The fiscal year 2008 budget request includes significant increases 
for IRS enforcement efforts. Fully funding that request will help us 
make progress in greatly improving voluntary compliance. Based on our 
analysis, covering the most recent 11 years of collection experience, 
we estimate that every dollar we have spent on enforcement has 
generated a direct return of an average of four dollars in increased 
revenue to the Federal Treasury. This return can be expected to occur 
when the full productive benefit of the investment is realized.
    This direct return on investment does not consider the indirect 
effect of increased enforcement activities in deterring taxpayers who 
are considering engaging in noncompliant behavior. Econometric 
estimates of the indirect effects indicate a significant impact from 
increased enforcement activities. Stated another way, taxpayers who see 
us enforcing the law against their friends, neighbors, or competitors 
are more likely to comply voluntarily and not risk the chance that we 
might audit them. We do not measure this indirect impact, but research 
suggests that it could be as much as three times or more the direct 
impact on revenue.
    We also believe that dollars spent on taxpayer service have a 
positive impact on voluntary compliance. The complexity of complying 
with the nation's current tax system is a significant contributor to 
the tax gap, and even sophisticated taxpayers make honest mistakes on 
their tax returns. Accordingly, helping taxpayers understand their 
obligations under the tax law is a critical part of improving voluntary 
compliance. To this end, the IRS remains committed to a balanced 
program assisting taxpayers in both understanding the tax law and 
remitting the proper amount of tax.
    In addition, the President's fiscal year 2008 budget request 
contains a number of legislative proposals that provide additional 
tools for the IRS to enforce the existing tax law. Perhaps the most 
critical of these tools is greater third party reporting. An analysis 
of the data from the National Research Program of TY 2001individual 
income tax returns leads to one very obvious conclusion. Compliance is 
much higher in those areas where there is third party reporting. For 
example, only 1.2 percent of wages reported on Forms W-2 are 
underreported. This compares to a 53.9 percent underreporting rate for 
income subject to little or no third party reporting.
    The fiscal year 2008 budget request asks Congress to expand 
information reporting to include additional sources of income and make 
other statutory changes to improve compliance. These legislative 
proposals are intended to improve tax compliance with minimum taxpayer 
burden. When implemented, it is estimated that these proposals will 
generate $29.5 billion over ten years.
    I appreciate the opportunity to testify this morning, and I will be 
happy to respond to any questions that Members of the Committee may 
have.

    Senator Durbin. Mr. George.

                      STATEMENT OF RUSSELL GEORGE

    Mr. George. Thank you, Mr. Chairman. Mr. Chairman, thank 
you for the invitation to appear to discuss the Internal 
Revenue Service's fiscal year 2008 proposed budget. At your 
request, my testimony will also address the 2007 tax filing 
season as well as TIGTA's 2008 budget request.
    The IRS's total budget request of approximately $11.4 
billion includes funding for programs that pose significant 
long-term and short-term challenges to the service. Some of 
these concerns include improving taxpayer services, enhancing 
enforcement of the tax laws, as well as the IRS's modernization 
efforts, all while attempting to ensure their security. The IRS 
is making progress in some of these areas. However, several 
concerns remain.
    For example, in the area of taxpayer services the IRS has 
indicated that it wants to expand its voluntary income tax 
assistance program. However, during the 2007 filing season our 
auditors found that only 56 percent of the test tax returns we 
used to help test the system were accurately prepared by the 
volunteers. While this is an improvement over the test TIGTA 
conducted in 2006, it is unacceptable that taxpayers who use 
this IRS-sanctioned service have a slightly better than 50-50 
chance that their tax returns will be accurately prepared. 
TIGTA believes that taxpayers would be better served if the 
resources were allocated in a way to allow these programs to 
achieve better results.
    Another area of concern is the IRS's implementation of the 
taxpayer assistance blueprint. The initiatives in this document 
focus on services that support the needs of individual 
taxpayers. TIGTA reviewed the development of the first phase of 
the blueprint and found that most but not all the information 
it contained was accurate. Our review concluded that the 
inaccurate information did not affect the service's improvement 
themes. However, we are concerned that if these problems were 
to continue there is a heightened risk of bad data leading to 
bad choices.
    The 2008 IRS budget request also includes approximately $62 
million to develop and deploy the IRS's business systems 
modernization program. This increase would allow the service to 
continue projects such as the customer account data engine 
(CADE), which is the foundation of the IRS's modernization 
efforts. Referred to as CADE, it will replace the antiquated 
master file system, which is based on technology from the 
1960s.
    The IRS has estimated that CADE would process 33 million 
tax returns during the 2007 filing season. However, due to 
delays in implementing the newest release of the project, the 
service now estimates that the system will process fewer than 
20 million returns this season. While this delay is a short-
term concern, there has been a pattern of deferring CADE 
requirements and missing deployment dates. Allowing this 
pattern to continue could undermine the long-term success of 
the program.
    It is widely recognized that continued emphasis on 
enforcement is needed if we are to successfully narrow the tax 
gap. Indeed, a significant portion of the IRS's proposed 
funding for fiscal year 2008 is for enhanced enforcement 
personnel and an initiative to improve compliance, estimates 
and measures. Although having new information about individual 
taxpayers is useful as they are the largest taxpaying segment, 
there is no current information available about employment, 
small and large corporations, and other compliance segments. 
Without firm plans to study these segments, the current tax gap 
estimate is an incomplete picture.
    Despite the challenges of implementing last-minute tax law 
changes, the 2007 filing season appears to be progressing 
without major problems. The number of electronically filed 
returns has increased, as has use of the IRS's Internet site 
and many of its other customer services. However, I have raised 
concerns about the IRS's telephone excise tax refund program 
conducted this year. Many taxpayers have not claimed the one-
time refund even though the IRS simplified the process and 
publicized it. In addition, some taxpayers have submitted 
highly questionable refund claims which did not garner further 
IRS scrutiny.
    Mr. Chairman, as requested, I have included in my written 
statement the challenges confronting TIGTA, many of which are 
similar to those of other Federal agencies. Our workload, labor 
costs and rent continue to increase. However, due to budgetary 
constraints our staffing level over the last several years 
declined by over 12 percent.

                           PREPARED STATEMENT

    Mr. Chairman, members of the subcommittee, I hope my 
discussion of some of the fiscal year 2008 budget and 2007 tax 
filing season issues will assist you in your consideration of 
the IRS's appropriations. I would be happy to answer questions 
at the appropriate time.
    Senator Durbin. Thanks, Mr. George.
    [The statement follows:]

                Prepared Statement of J. Russell George

    Chairman Durbin, Ranking Member Brownback, and Members of the 
Subcommittee, I thank you for the opportunity to testify today. My 
comments will focus on the Internal Revenue Service's (IRS or Service) 
fiscal year 2008 budget, the 2007 Filing Season, and, at your request, 
the Treasury Inspector General for Tax Administration's (TIGTA) fiscal 
year 2008 budget request. The IRS administers America's tax laws and 
collects approximately 95 percent of the revenues that fund the Federal 
Government. It is therefore important to identify the resources 
required to support the IRS' role as steward of the Nation's tax 
administration system.

          OVERVIEW OF THE IRS' FISCAL YEAR 2008 BUDGET REQUEST

    The major component of the Department of the Treasury, IRS has 
primary responsibility for administering the Federal tax system. Since 
this is a self-assessment system, almost everything the Service does is 
in some way related to fostering voluntary compliance with tax laws. It 
provides taxpayer service programs that help millions of taxpayers to 
understand and meet their tax obligations. The IRS' resources also 
provide for enforcement programs aimed at deterring taxpayers who are 
inclined to evade their responsibilities, and vigorously pursuing those 
who violate tax laws.
    The IRS must strive to enforce the tax laws fairly and efficiently 
while balancing service and education to promote voluntary compliance 
and reduce taxpayer burden. To accomplish these efforts, the proposed 
fiscal year 2008 IRS budget requests resources of approximately $11.4 
billion. Included in this amount are approximately $11.1 billion in 
direct appropriations, $133.5 million from reimbursable programs, and 
$180 million from user fees. The direct appropriation is approximately 
a $657 million increase, or 6.3 percent, over the budget provided by 
the fiscal year 2007 Continuing Resolution. Highlights of the increase 
include: $131 million for taxpayer service initiatives; $440 million 
for enforcement initiatives; $282 million for the IRS' Business Systems 
Modernization program; and $60 million for critical Information 
Technology (IT) infrastructure upgrades (included in the enforcement 
and taxpayer service totals above).
    The fiscal year 2008 budget also includes funding to implement the 
Department of the Treasury's (Department) tax gap strategy. In 
September 2006, the Department published a comprehensive plan to 
improve tax compliance. Additionally, delivery of IRS programs demands 
a secure and modernized infrastructure capable of fairly, effectively, 
and efficiently collecting taxes while minimizing taxpayer burden. The 
fiscal year 2008 budget request supports the Service's five-year 
strategic plan and the Department's compliance improvement strategy. 
The IRS' strategic plan goals are to improve taxpayer service, enhance 
enforcement of the tax law, and modernize the Service through its 
people, processes and technology.

                        IMPROVE TAXPAYER SERVICE

    The fiscal year 2008 budget increases funding for taxpayer service 
by $131 million. This includes $56 million for new service initiatives 
and $75 million for cost increases. IRS employees represent the face of 
the Federal Government to more American citizens than most other 
government agencies. The request includes $20 million to enhance 
taxpayer service through expanded volunteer income tax assistance, 
increased funding for research, and implementing new technology to 
improve taxpayer service.
    TIGTA is concerned about the taxpayer service initiative to expand 
the IRS' volunteer return preparation. The IRS is requesting an 
additional $5 million and 46 Full Time Equivalents (FTE) \1\ to expand 
the VITA Program. According to the IRS, this will help ``expand the 
IRS' volunteer return preparation, outreach and education, and asset 
building services to low-income, elderly, limited English proficient, 
and disabled taxpayers.'' \2\
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    \1\ A measure of labor hours in which 1 FTE is equal to 8 hours 
multiplied by the number of compensable days in a particular fiscal 
year. For fiscal year 2005, 1 FTE was equal to 2,088 hours.
    \2\ U.S. Department of the Treasury Fiscal Year 2008 Budget in 
Brief, February 5, 2007, page 62.
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    TIGTA believes the IRS should proceed cautiously in its expansion 
efforts, given the importance of the accuracy of tax return 
preparation. TIGTA is reviewing the IRS' Volunteer Income Tax 
Assistance (VITA) program as part of our 2007 Filing Season oversight 
activities. As of April 12, 2007, TIGTA has had 39 tax returns prepared 
with a 56 percent accuracy rate. While the 2007 Filing Season accuracy 
rate is an improvement compared to the 39 percent accuracy rate 
reported for the 2006 Filing Season, taxpayers still have just a 1 in 2 
chance of having their tax returns accurately prepared by VITA program 
volunteers.\3\ TIGTA's observations are that volunteers did not always 
use the tools and information available to them when preparing returns. 
There is the potential that these resources might be put to better use 
by funding IRS assistance programs that achieve better results.
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    \3\ The population of VITA sites is not fixed, and VITA sites open 
and close throughout the filing season. Therefore, TIGTA could not 
determine a total population of VITA sites and could not select a 
statistical sample from which to project results. The filing season is 
the period from January through mid-April when most individual income 
tax returns are filed.
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    The fiscal year 2008 IRS budget request also includes $10 million 
to implement the Taxpayer Assistance Blueprint (TAB). The TAB 
initiative provides additional resources for new research on the needs 
of taxpayers in order to better understand the role of taxpayer service 
on compliance. The research will focus on meeting taxpayer needs by 
providing the right channel of communication; providing a better 
understanding of taxpayer burden; understanding taxpayer needs through 
the errors they make; and evaluating the impact of service on overall 
levels of voluntary compliance.
    In July 2005, Congress issued a conference report requesting that 
the IRS develop a five-year plan for taxpayer service activities.\4\ In 
November 2005, the IRS was asked to provide the report to the House and 
Senate by April 14, 2006.\5\ The Senate committee report stated that 
the plan should outline the services the IRS should provide to improve 
service to taxpayers; detail how the IRS plans to meet the service 
needs on a geographic basis; and, address how the IRS would improve 
taxpayer service based on reliable data. The plan was to be developed 
with the IRS Oversight Board \6\ and the National Taxpayer Advocate.
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    \4\ United States Congress, Senate Report 109-109. Transportation, 
Treasury, The Judiciary, Housing and Urban Development, and Related 
Agencies Appropriations Bill, 2006: Internal Revenue Service, 
Processing, Assistance and Management, Committee Recommendation, July 
26, 2005.
    \5\ United States Congress, Conference Report 109-307. Joint 
Explanatory Statement of the Committee of Conference: Internal Revenue 
Service, Processing Assistance, and Management (Including Rescission of 
Funds), November 14, 2005.
    \6\ A nine-member independent body charged with overseeing the IRS 
in its administration, management, conduct, direction, and supervision 
of the execution and application of the internal revenue laws and to 
provide experience, independence, and stability to the IRS so that it 
may move forward in a cogent, focused direction.
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    The IRS conducted a comprehensive review of its current portfolio 
of services to individual taxpayers to determine which services should 
be provided and improved. Based on the findings of the TAB review, the 
funding for this initiative would implement telephone service and Web 
site enhancements.
    To satisfy the report submission date of April 14, 2006, the IRS 
designed the TAB as a two-phased process. The TAB Phase I report 
identified strategic improvement themes by researching IRS service 
relative to taxpayers' needs and preferences. The TAB Phase II report 
will validate those themes through further research of taxpayers' 
service preferences and will develop the five-year plan for service 
delivery. The 2006 TAB Phase I report, issued April 24, 2006, presented 
strategic themes to improve education and awareness; optimize partner 
services; elevate self-service options; improve and expand training and 
services; and, develop performance and outcome goals and metrics.
    The focus of the TAB initiative is on services that support the 
needs of individual filers who file or should file Form 1040 series tax 
returns.\7\ TIGTA reviewed the development of the TAB, and found that 
while the majority of the information it contains is accurate, some of 
the information is not accurate. The compilation of some of the data 
could adversely affect IRS management decisions. For example, TIGTA 
noted inaccuracies in the report related to changes in Taxpayer 
Assistance Center visits and the number of telephone calls answered. 
Overall, TIGTA concluded that information found to be inaccurate and 
inconsistent did not affect the IRS' strategic improvement themes.\8\
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    \7\ Form 1040 series tax returns include any IRS tax forms that 
begin with ``1040'' such as U.S. Individual Income Tax Return (Form 
1040), U.S. Individual Income Tax Return (Form 1040-A), and Income Tax 
Return for Single and Joint Filers With No Dependents (Form 1040-EZ).
    \8\ Draft Audit Report--The Strategic Improvement Themes in the 
Taxpayer Assistance Blueprint Phase I Report Appear to Be Sound; 
However, There Were Some Inaccurate Data in the Report (TIGTA Audit 
Number 200740012, dated April 13, 2007).
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    The inaccuracies and inconsistencies resulted primarily from the 
IRS not having an effective process to ensure that all statements in 
the TAB Phase I report correctly reflected the results of its research 
and data analyses. According to IRS officials, actions were taken to 
improve the process for the validation of information included in the 
TAB Phase II report. The actions included an in-depth review to locate 
and verify the accuracy of all data in the report. Verifications were 
also performed to ensure the accuracy of statements and representations 
included in the report. Based on these actions, TIGTA did not make 
recommendations on the TAB Phase I report.
    If these inconsistencies exist in the Phase II report, the risk 
increases that the IRS will draw inaccurate conclusions based on 
erroneous data.\9\ TIGTA was unable to determine the impact the 
inconsistencies may have on results outlined in the TAB Phase II report 
because it was not available for review. The IRS did not provide TIGTA 
with a copy of the report before it was officially issued.
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    \9\ The TAB Phase II report was issued the week of April 9, 2007, 
after completion of TIGTA's TAB Phase I review. TIGTA has begun a 
review and evaluation of the TAB Phase II report and will include 
testing of the quality review process.
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                           2007 FILING SEASON

    The 2007 Filing Season appears to be progressing without major 
problems. As of April 28, 2007, the IRS reported that it had received 
more than 125 million individual tax returns. Of those returns, more 
than 76 million (61 percent) were filed electronically. The number of 
electronically filed tax returns is 8.7 percent higher than at the same 
time last year. The IRS has issued almost 92 million refunds for a 
total of $209 billion.
    While the IRS has seen a growth in the number of electronically 
filed tax returns so far this filing season, the number of Free File 
returns is down slightly. As of April 28, 2007, the IRS received 
approximately 3.7 million tax returns through the Free File Program, 
compared to approximately 3.8 million returns at the same time last 
year.
    Over the past few years, TIGTA audits have shown that the IRS has 
improved customer assistance in its face-to-face, toll-free telephone, 
tax-return processing, and electronic services, including the IRS 
public Internet site (www.IRS.gov).\10\
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    \10\ Taxpayer Service Is Improving, but Challenges Continue in 
Meeting Expectations (TIGTA Reference Number 2006-40-052, dated 
February 2006).
---------------------------------------------------------------------------
    Use of IRS.gov is up with over 133 million visits to the Web site, 
while the Taxpayer Assistance Centers (TACs) have received 2.2 million 
walk-in contacts, approximately 3 percent more than this time last 
year. TIGTA made anonymous visits to TACs to determine if taxpayers are 
receiving quality service, including correct answers to their 
questions. The assistor level of service in the IRS' toll-free 
operations was higher than was planned, as the IRS answered 14.6 
million calls. The IRS also completed 17.5 million automated calls; a 
decrease of 5.4 percent from last year's 18.5 million.
Telephone Excise Tax Refunds
    A concern so far this filing season has been the IRS' telephone 
excise tax refund program. The IRS estimated that between 151 million 
and 189 million people would seek this one-time refund, including many 
without a filing requirement. Taxpayers may claim either a standard 
refund amount or an itemized refund for the actual excise tax they paid 
on their telephone bills. By using the standard amounts individuals do 
not have to assemble 41 months of telephone bills to determine the 
amount of their refund. Requesting one of the standard amounts requires 
the completion of only one additional line on the tax return.
    The standard amounts developed by the IRS have proved to be very 
effective. Through the week ending April 21, 2007, IRS records indicate 
that 99.5 percent of telephone excise tax refund claims were filed for 
standard amounts. However, over 28.5 percent of the total number of 
individual tax returns filed contained no claim for a telephone excise 
tax refund, which indicates that many taxpayers may not be aware of 
their opportunity to claim this refund. TIGTA is continuing to monitor 
the steps the IRS is taking to address this issue.\11\
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    \11\ Ongoing Audit--Telephone Excise Tax Refund (TIGTA Audit Number 
200630036).
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    TIGTA raised concerns to the IRS regarding the processing of 
returns claiming telephone excise tax refunds for non-standard amounts. 
Specifically, thresholds were set too high for the IRS to take action 
when taxpayers:
  --claimed refunds for more than the standard amounts but did not 
        provide the required Form 8913, Credit for Federal Telephone 
        Excise Tax Paid, to substantiate their claims.
  --claimed one amount on their tax return and a different amount on 
        their Form 8913.
    When TIGTA reported these issues, the IRS took immediate steps to 
address the problems.
    TIGTA has also raised concerns with the IRS' implementation of its 
compliance strategy related to these claims. In TIGTA's opinion, the 
dollar threshold used to identify potentially egregious claims is set 
too high. As of April 28, 2007, over 51,000 such claims had been 
received that did not meet the IRS' criteria for review. The amount of 
telephone excise tax refunds on these claims totaled more than $44.1 
million. Over 38,000 of these claims were on tax returns with no 
Schedules C, E or F,\12\ which makes the claimed amounts even more 
questionable. If each of the 38,000 returns claimed the standard excise 
tax refund amount of $60, the total refunds would equal $2.3 million. 
While small business claims for actual excise taxes paid would likely 
be greater than the standard amount, the lack of corresponding 
Schedules C, E or F raises questions about the claims.
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    \12\ Various schedules may be attached to a tax return, if needed. 
Schedule C is for reporting Profit or Loss From Business; Schedule E is 
for Supplemental Income and Loss; and Schedule F is for Profit or Loss 
From Farming.
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    The IRS reported that it set the threshold high because its 
examination resources are limited, and because it believes that 
examinations of returns claiming the Earned Income Credit (EITC) \13\ 
and other discretionary examinations will result in higher assessment 
rates than examinations of the telephone excise tax refund claims. 
TIGTA recommended that the IRS re-examine all options at its disposal 
to address significantly more inappropriate telephone excise tax refund 
claims. The IRS responded to TIGTA's concerns, stating that it did not 
plan to make adjustments to the threshold amounts.
---------------------------------------------------------------------------
    \13\ The Earned Income Tax Credit (EITC) is a refundable credit 
designed to help move low-income taxpayers above the poverty level.
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    TIGTA has also shared concerns about paid preparers and the 
telephone excise tax refund with the IRS. As of April 28, 2007, one 
paid preparer had filed over 1,500 returns with telephone excise tax 
refund claims exceeding the standard amounts. Only eight of this 
preparer's claims have exceeded the Service's tolerance. TIGTA referred 
this preparer to the IRS' Criminal Investigation function. The IRS 
requested information from TIGTA regarding other questionable preparers 
who may be avoiding IRS scrutiny. TIGTA provided the requested 
information to the Service on other preparers. Among them:
  --One preparer has filed 1,019 claims totaling over $677,000. The 
        claims are all under IRS' tolerance, and most of the claims are 
        for one of five amounts that are repeated on the filed claims.
  --Another preparer has filed 1,138 claims. The preparer has filed 
        returns for taxpayers in 31 different States. In addition to 
        telephone excise tax refund claims, over 95 percent of the 
        returns also claim employee business expenses.

                  ENHANCE ENFORCEMENT OF THE TAX LAWS

    The fiscal year 2008 budget request is designed to continue the 
IRS' emphasis on tax enforcement. The request increases funding for 
enforcement by approximately $440 million, which includes $291 million 
for new enforcement initiatives and $149 million in cost increases. The 
increase includes funding for additional enforcement personnel. 
According to the request, increased resources for the IRS' examination 
and collection programs will yield direct measurable results each year 
of $699 million.
    Included in the IRS' fiscal year 2008 budget request is an 
initiative to improve compliance estimates and measures, and also 
improve detection of non-compliance. This enforcement initiative would 
fund research studies of compliance data for new segments of taxpayers 
needed to update existing estimates of reporting compliance. Unlike the 
past, the IRS plans to conduct an annual study of compliance among Form 
1040 filers based on a smaller sample size than the 2001 National 
Research Program study.
    TIGTA reviewed the tax gap estimates that were developed from the 
2001 National Research Program data and concluded that the IRS still 
does not have sufficient information to completely and accurately 
assess the overall tax gap and voluntary compliance rate. Although 
having new information about Tax Year (TY) 2001 individual taxpayers is 
an improvement when compared to the much older TY 1988 information from 
the last major compliance study, some important individual compliance 
information remains unknown. Additionally, although individuals 
comprise the largest segment of taxpayers and were justifiably studied 
first, no new information is available about employment, small 
corporate, large corporate and other compliance segments. With no firm 
plans for further studies or updates in many areas of the tax gap, the 
current tax gap estimate is an unfinished picture of the overall tax 
gap and compliance rate.
    The IRS' fiscal year 2008 budget request also includes funding for 
an initiative to improve compliance among small business and self-
employed taxpayers in the areas of reporting, filing, and payment by 
increasing audits of high-risk tax returns, collecting unpaid taxes, 
and investigating and, where appropriate, prosecuting persons who have 
evaded taxes. According to the budget request, this initiative would 
produce $144 million in additional annual enforcement revenue, once 
newly hired employees reach their full performance potential in fiscal 
year 2010.
     modernize the irs through its people, processes and technology
    The IRS must optimally manage its resources, business processes, 
and technology systems to effectively and efficiently support its 
service and enforcement mission. The IRS' fiscal year 2008 budget 
request includes initiatives to update critical information technology 
infrastructure ($60 million), and to enhance the IRS' Computer Security 
Incident Response Center (CSIRC) and its network infrastructure 
security ($21 million).
    Upgrading the Service's critical IT infrastructure initiative would 
include upgrading equipment that has exceeded its life cycle. According 
to the budget request, failure to replace the IRS' IT infrastructure 
will lead to increased maintenance costs and increase the risk of 
disrupting business operations. Planned expenditures in fiscal year 
2008 include replacing desktop computers, automated call distributor 
hardware, mission critical servers, and Wide Area Network/Local Area 
Network routers and switches.
    Enhancing the CSIRC would require $13.1 million to allow the CSIRC 
to keep pace with the ever-changing security threat environment through 
improved detection and analysis capability, improved forensics, and 
increased capacity to identify and respond to potential intrusions 
before they occur. An additional $7.9 million would fund enhancements 
to the IRS' network infrastructure security, providing the capability 
to perform continuous monitoring of the security of operational 
systems, using security tools, tactics, techniques, and procedures to 
perform network security compliance monitoring of all IT assets on the 
network.
    Less than two months ago, TIGTA reported that IRS employees 
reported the loss or theft of at least 490 computers and other 
sensitive data in 387 separate incidents. Employees reported 296 (76 
percent) of the incidents to the TIGTA Office of Investigations but not 
to the CSIRC. In addition, employees reported 91 of the incidents to 
the CSIRC; however, 49 of these were not reported to TIGTA's Office of 
Investigations. IRS procedures require employees to report lost or 
stolen computers to both the IRS CSIRC and to TIGTA's Office of 
Investigations. TIGTA reported that coordination was inadequate between 
the CSIRC and TIGTA's Office of Investigations to identify the full 
scope of the losses.\14\
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    \14\ The Internal Revenue Service Is Not Adequately Protecting 
Taxpayer Data on Laptop Computers and Other Portable Electronic Media 
Devices (TIGTA Reference Number 2007-20-048, March 23, 2007).
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    Prior to the Department of Veterans Affairs data loss incident in 
May 2006, the CSIRC had not placed sufficient emphasis on identifying 
actual taxpayers potentially affected by lost or stolen computers. 
TIGTA's Office of Investigations did investigate many of these 
incidents but focused on criminal aspects (e.g., identifying the 
perpetrator and recovering the stolen equipment).
    On July 7, 2006, the Chief, Mission Assurance and Security 
Services, issued a memorandum that re-emphasized reporting requirements 
and stated that all computer security incidents shall be reported to 
the CSIRC and to front-line managers. In addition, any incident 
involving physical loss of equipment that could result in unauthorized 
access to IRS systems or information must also be reported to the TIGTA 
Office of Investigations. The IRS Commissioner had issued an earlier 
email reminding all managers to safeguard personally identifiable 
information and to immediately report any security incidents to the 
CSIRC. The email message also stated that managers work with the CSIRC 
to promptly notify the TIGTA Office of Investigations when appropriate. 
As a final measure to ensure total coordination, the IRS has entered 
into an agreement with the TIGTA Office of Investigations to share 
reports of all incidents relating to the loss or theft of IT assets.
    The Service's fiscal year 2008 budget request includes an 
initiative to fund Business Systems Modernization. The initiative would 
provide approximately $62.1 million to continue the development and 
deployment of the IRS' modernization program in line with the 
recommendations identified in the IRS' Modernization, Vision, and 
Strategy. According to the request, the increase would allow the IRS to 
continue progress on modernized projects, such as the Customer Account 
Data Engine (CADE) and Modernized e-File (MeF).
    CADE is the IRS' lynchpin modernization project that will replace 
the antiquated master file system, which is based on a 1960s 
architecture. The IRS is developing CADE in stages and expects to 
retire the Individual Master File in 2012. When fully operational, the 
CADE database will house tax information for more than 200 million 
individual and business taxpayers. Congress authorized $58 million for 
the CADE in fiscal year 2007. Through fiscal year 2007, CADE project 
release costs total about $233.9 million. The IRS initiated the CADE 
project in September 1999 and began delivering releases in August 2004.
    During Calendar Year (CY) 2006, the CADE posted over 7.3 million 
tax returns and generated more than $3.4 billion in refunds. This is a 
significant increase over the 1.4 million tax returns posted in CY 2005 
that generated refunds totaling more than $427 million. The CADE is now 
in the process of completing delivery of Release 2.2. Release 2.2 will 
process 2007 Filing Season tax law revisions (Tax Year 2006) and 
additional tax forms.\15\
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    \15\ DRAFT Audit Report--Vital Decisions Must Be Made to Ensure 
Successful Implementation of Customer Account Data Engine Capabilities 
(TIGTA Audit Number 200620012, dated May 1, 2007).
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    On February 27, 2007, the IRS put Release 2.2 into production, but 
because computer reports on the number of returns received did not 
match the number of returns posted, the CADE was turned off and tax 
returns were sent back to the current IRS processing system. The IRS 
reports that a major portion of Release 2.2 was successfully put into 
production on March 6, 2007 (seven weeks late). On the first day, it 
posted over 571,000 tax returns of which 566,332 contained refunds. 
Because of the late start into production, the IRS goal of using the 
CADE to process 33 million tax returns will not be met. According to 
IRS officials, the latest estimate was that the IRS would complete the 
deployment of Release 2.2 by the end of April 2007, and it would post 
between 16 million and 19 million returns during the 2007 Filing 
Season. As of April 27, 2007, the CADE has processed 10.3 million 
returns with $10.9 billion in refunds.
    From the project's beginning, there has been a pattern of deferring 
CADE requirements to later releases and missing release deployment 
dates. Allowing this pattern to continue will undermine the long-term 
success of the project. To meet the CADE's long-term computer 
processing demands, further consideration needs to be given to 
alternative design approaches. The project design currently includes 
building a computer system large enough to process the highest daily 
volume of tax returns received by the IRS even though this processing 
capacity is needed for only a few days each year. Alternative design 
solutions, such as obtaining additional computer resources on an 
interim basis or delaying the processing of some tax return types on 
extremely high-volume processing days, have been considered but have 
not been thoroughly developed. In addition, based on the current design 
of the project, meeting storage and processing demands may be cost 
prohibitive.
    MeF is the future of electronic filing. It provides a single 
Extensible Markup Language-based standard for filing electronic tax 
returns. Standardizing the formats/structures for all filings will 
allow transmitters to submit multiple return types in the same 
transmission, something that currently restrains e-file growth. In 
fiscal year 2008, the IRS has scheduled to start development and 
implementation of the Form 1040 on the MeF platform, which is expected 
to take two years. TIGTA is currently concluding an audit of the MeF 
and will report the results later this spring.

                         LEGISLATIVE PROPOSALS

    The fiscal year 2008 budget request includes several legislative 
proposals that would provide the IRS with additional enforcement tools 
to improve compliance. It is estimated that these proposals could 
generate approximately $29 billion in revenue over the next 10 years. 
These proposals would expand information reporting, improve compliance 
by businesses, and expand penalties. This enforcement initiative 
includes funding for purchasing software and making modifications to 
the IRS' IT systems, which are necessary to implement these legislative 
proposals.

  TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION FISCAL YEAR 2008 
                             BUDGET REQUEST

    TIGTA was created by Congress to provide independent oversight of 
the IRS. TIGTA's investigations and audits protect and promote the fair 
administration of the Nation's tax system. TIGTA's responsibilities 
include ensuring that the IRS is accountable for more than $2 trillion 
in tax revenue received each year. TIGTA's investigations protect the 
integrity of IRS employees, contractors, and other tax professionals; 
provide for infrastructure security; and protect the Service from 
external attempts to threaten or corrupt the administration of tax 
laws. TIGTA conducts audits that advise Congress, the Secretary of the 
Treasury, and IRS management of high-risk issues, problems, and 
deficiencies related to the administration of IRS programs and 
operations. TIGTA's audit recommendations aim to improve IRS systems 
and operations, while maintaining fair and equitable treatment of 
taxpayers.
    TIGTA's Office of Audit (OA) provides comprehensive coverage and 
oversight of all aspects of the Service's daily operations. Audits not 
only focus on the economy and efficiency of IRS functions but also 
ensure that taxpayers' rights are protected and the taxpaying public is 
adequately served. Overall, as of March 31, 2007, audit reports 
potentially produced financial accomplishments of $579 million, and 
potentially impacted approximately 379,000 taxpayer accounts in areas 
such as taxpayer burden, rights, and entitlements. OA develops an 
annual audit plan that communicates oversight priorities to Congress, 
the Department of the Treasury, and the IRS. Emphasis is placed on 
mandatory coverage imposed by the IRS Restructuring and Reform Act of 
1998 \16\ and other statutory authorities, as well as issues impacting 
computer security, taxpayer rights and privacy, and financial-related 
audits. OA's work focuses on IRS' major management challenges, IRS' 
progress in achieving its strategic goals, eliminating IRS' systemic 
weaknesses, and the Service's response to the President's Management 
Agenda initiatives.
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    \16\ Pub. L. No. 105-206, 112 Stat. 685 (codified as amended in 
scattered sections of 2 U.S.C., 5 U.S.C. app., 16 U.S.C., 19 U.S.C., 22 
U.S.C., 23 U.S.C., 26 U.S.C., 31 U.S.C., 38 U.S.C., and 49 U.S.C.).
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    TIGTA's mission includes the statutory responsibility to protect 
the integrity of tax administration and to protect the ability of the 
IRS to collect revenue for the Federal Government. To accomplish this, 
TIGTA's Office of Investigations (OI) investigates allegations of 
criminal violations and administrative misconduct by IRS employees, 
protects the Service against external attempts to corrupt tax 
administration, and ensures IRS employee safety and IRS data and 
infrastructure security. Employee investigations include extortion, 
theft, taxpayer abuses, false statements, financial fraud, and 
unauthorized access (UNAX) of confidential taxpayer records by IRS 
employees. Investigations of external attempts to corrupt tax 
administration include bribes offered by taxpayers to compromise IRS 
employees, the use of fraudulent IRS documentation to commit crimes, 
taxpayer abuse by tax practitioners, impersonation of Service 
employees, and the corruption of IRS programs through procurement 
fraud. TIGTA assists in maintaining IRS employee and infrastructure 
security by investigating incidents of sabotage, and threats or 
assaults made against IRS employees, facilities, and infrastructure.
    From fiscal year 2001 to fiscal year 2006, TIGTA's labor expenses 
have grown 22 percent from $88 million to $107.3 million, despite a 
substantial reduction in FTEs (a decrease of 11 percent from 938 to 
838). Labor costs currently account for 81 percent of TIGTA's annual 
budget. Labor and rent together consume approximately 87 percent of the 
annual budget. The fiscal year 2007 President's budget request for 
TIGTA was $136.5 million. TIGTA's actual fiscal year 2007 funding level 
was $132.9 million, a $3.6 million reduction (2.6 percent decrease). 
Total resources required in fiscal year 2008 to support its mission are 
$140.6 million.\17\
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    \17\ U.S. Department of the Treasury Fiscal Year 2008 Budget in 
Brief, February 5, 2007, pages 29-31.
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    Since fiscal year 2001, TIGTA has achieved its performance and 
quality expectations by implementing several efficiency and cost-
cutting initiatives. From fiscal year 2001 to fiscal year 2006, 
discretionary spending (such as training, travel, equipment, etc.) fell 
nearly 21 percent from $19.5 million to $15.4 million. These costs 
currently consume only 12 percent of TIGTA's annual budget. Through 
incremental FTE losses and implementation of cost-cutting initiatives 
in non-labor expense categories, TIGTA has been able to finance annual 
pay and labor-related benefit increases (health care, pensions and 
retirement) while also maintaining the FTE level necessary to meet 
performance and quality expectations.
    TIGTA's efficiency-enhancing and cost-cutting initiatives are 
largely exhausted. The impact of a budget reduction in fiscal year 2008 
will fall almost exclusively on labor and, would affect TIGTA's 
capability to provide comprehensive oversight of IRS operations. TIGTA 
has lost 100 FTEs because budget increases have not been adequate to 
finance annual pay increases, labor-related benefit increases, and non-
labor related requirement expenses such as contracts, rent, and 
equipment. Because of decreasing budgets, TIGTA's overall employee 
population has declined 12 percent from fiscal year 2001 to fiscal year 
2006 (a decrease from 938 in fiscal year 2001 to 825 at end of fiscal 
year 2006) and is expected to continue to decline over the foreseeable 
future. In addition, 39 percent of TIGTA's current staff is retirement 
eligible through fiscal year 2010, threatening TIGTA's overall ability 
to effectively fulfill its core missions.
    Labor reductions would reduce TIGTA's enforcement capacity and 
circumscribe efforts to combat IRS employee misconduct and external 
threats to the security and integrity of IRS personnel and 
infrastructure. FTE losses would result in fewer opportunities to 
examine high-risk areas and, thus, reduce financial benefits from audit 
recommendations and impact fewer taxpayer accounts. Losses would also 
require TIGTA to curtail, delay and/or fail to initiate reviews of 
high-risk areas and/or eliminate entire programs.
    TIGTA must also address human capital issues. In order to 
accomplish its mission, TIGTA employees need to possess the necessary 
skills. Because of the increasingly modernized and computerized IRS 
operating systems and environment, the most critical gaps TIGTA faces 
are in the Auditor and Criminal Investigator occupations.
    TIGTA also faces the challenge of addressing increasing requests 
from Congress and other IRS stakeholders in a timely and efficient 
manner. In fiscal year 2007, TIGTA has reallocated resources in order 
to perform congressionally requested audits and comply with new 
statutory provisions. TIGTA anticipates increased congressional 
interest and requests in future years.
    The fiscal year 2008 President's budget request for TIGTA will be 
used to continue to provide critical audit and investigative services, 
ensuring the integrity of tax administration on behalf of the Nation's 
taxpayers. While there are a number of critical areas in which TIGTA 
will provide oversight, highlights of TIGTA's investigative and audit 
priorities include:
  --Adapting to the IRS' continuously evolving operations and 
        mitigating intensified risks associated with modernization, 
        outsourcing, and enforcement efforts;
  --Responding to threats and attacks against IRS personnel, property, 
        and sensitive information;
  --Improving the integrity of IRS operations by detecting and 
        deterring fraud, waste, abuse, or misconduct by IRS employees;
  --Conducting comprehensive audits that include recommendations for 
        cutting costs and enhancing IRS service to taxpayers; and
  --Informing Congress and the Secretary of the Treasury of problems 
        and the progress being made to resolve them.
    Total resources needed in fiscal year 2008 to support TIGTA's 
mission are $141,753,000, including $140,553,000 from direct 
appropriations and approximately $1,200,000 from reimbursable 
agreements. Budget adjustments to maintain current levels in fiscal 
year 2008 include $4.87 million to fund the cost of the January 2007 
pay increase, the proposed January 2008 pay raise, and non-labor 
related items.
    I hope my discussion of some of the fiscal year 2008 budget and 
2007 Filing Season issues will assist you with your oversight of the 
IRS. Mr. Chairman and Members of the Subcommittee, thank you for the 
opportunity to share my views.

    Senator Durbin. Ms. Olson.

                       STATEMENT OF NINA E. OLSON

    Ms. Olson. Mr. Chairman and distinguished members of the 
subcommittee: Thank you for inviting me to testify on the 
proposed budget of the Internal Revenue Service for fiscal year 
2008.
    In developing the IRS budget, the logical starting point is 
to consider the IRS's fundamental mission. The IRS is the 
Nation's tax collector and its overriding objective should be 
to maximize voluntary compliance with the tax laws. In my view 
the IRS should go about maximizing voluntary compliance in four 
ways:
    First, by improving its outreach and education efforts to 
minimize inadvertent errors attributable to tax law or 
procedural complexity or confusion;
    Second, by conducting compliance-oriented audits to 
reinforce the perception that taxpayers may be audited;
    Third, by utilizing all IRS collection alternatives while 
collecting tax debts, to bring taxpayers into future 
compliance;
    And fourth, by reserving targeted enforcement actions to 
combat clear abuses.
    In addition, the IRS should launch a public information 
campaign that reminds taxpayers of what taxes really are about, 
the price we pay for a civilized society.
    I strongly encourage the subcommittee to fund the IRS at 
approximately the level requested by the administration for 
fiscal year 2008. In my annual report to Congress, I 
recommended that Congress provide the IRS with after-inflation 
increases of about 2 to 3 percent a year for the foreseeable 
future.
    Assuming the funds are wisely spent, I believe that 
increasing the IRS budget at this rate is an excellent 
financial investment. The IRS collects about 96 percent of all 
Federal revenue. The more revenue the IRS collects, the more 
revenue Congress may spend on other programs or use to cut 
taxes or reduce the deficit. The less revenue the IRS collects, 
the less revenue Congress has available for these other 
purposes.
    If the Federal Government were a private company, its 
management clearly would fund the accounts receivable 
department at whatever level it believed would maximize the 
company's bottom line. Since the IRS is not a private company, 
maximizing the bottom line is not in and of itself an 
appropriate goal. But the public sector analogy should be to 
maximize tax compliance, especially voluntary compliance, with 
due regard for protecting taxpayer rights and minimizing 
taxpayer burden.
    Studies show that if the IRS were given more resources, it 
could collect substantially more revenue. One of the most 
critical choices facing tax administration is how to allocate 
resources between taxpayer service and tax law enforcement. 
While I believe that both categories would benefit from 
additional funding, I am concerned that the IRS has been 
emphasizing enforcement at the expense of taxpayer service. 
Since fiscal year 2004, funding for enforcement has increased 
substantially, while funding for taxpayer service has been 
reduced. For fiscal year 2008, the administration has requested 
a funding increase of 6.5 percent for enforcement to $7.2 
billion and 3.8 percent for taxpayer service to $3.6 billion. 
If the administration's proposal is enacted, funding for 
enforcement will have increased by 19.4 percent and funding for 
taxpayer service will have been reduced by 3.8 percent over the 
5-year period from fiscal year 2004 to 2008.
    I am deeply concerned about this fundamental shift in the 
balance between taxpayer service and enforcement. Under the 
proposal the IRS would be spending literally twice as much on 
enforcement as it spends on taxpayer service. There is no 
reliable data showing that more enforcement will do more than 
taxpayer service to increase compliance.
    I believe the IRS can produce a positive return on 
investment from more funding in both areas, but, given limited 
resources, I think it is misguided to ramp up enforcement at 
the expense of taxpayer service. Moreover, the absence of an 
accurate measure of return on investment leads to misguided 
efforts to privatize inherently governmental activities, such 
as tax collection, harming taxpayers and tax administration in 
the process.
    Because taxpayer service and enforcement are drivers of 
overall compliance, we need to measure taxpayer service needs 
concurrently with our efforts to measure the tax gap. Thus, I 
believe in addition to additional research about what causes 
taxpayers to be noncompliant, the national research program 
should update its analysis of taxpayer service needs at the 
same time it is measuring taxpayer noncompliance for the 
particular taxpayer population it is studying. The IRS can then 
make an informed resource allocation only by being armed with 
information of both types.
    Thank you.
    Senator Durbin. Thank you very much.
    [The statement follows:]

                  Prepared Statement of Nina E. Olson

    Mr. Chairman, Ranking Member Brownback, and distinguished Members 
of the Subcommittee: Thank you for inviting me to submit this written 
statement regarding the proposed budget of the Internal Revenue Service 
for fiscal year 2008.\1\ I will address the mission of the IRS, the 
overall level of funding I believe the agency should receive, the 
allocation of that funding between enforcement and taxpayer service, 
and then a number of important issues in tax administration in which I 
believe this Committee may have an interest. I approach these issues 
from my perspective as the National Taxpayer Advocate, the voice for 
taxpayers and taxpayer rights inside the IRS.
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    \1\ The views expressed herein are solely those of the National 
Taxpayer Advocate. The National Taxpayer Advocate is appointed by the 
Secretary of the Treasury and reports to the Commissioner of Internal 
Revenue. The statute establishing the position directs the National 
Taxpayer Advocate to present an independent taxpayer perspective that 
does not necessarily reflect the position of the IRS, the Treasury 
Department, or the Office of Management and Budget. Accordingly, 
congressional testimony requested from the National Taxpayer Advocate 
is not submitted to the IRS, the Treasury Department, or the Office of 
Management and Budget for prior approval. However, we have provided 
courtesy copies of this statement to both the IRS and the Treasury 
Department in advance of this hearing.
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   THE OVERRIDING MISSION OF THE IRS SHOULD BE TO INCREASE VOLUNTARY 
                               COMPLIANCE

    In developing the IRS budget, the logical starting point is to 
consider the IRS's fundamental mission. The IRS is the nation's tax 
collector, and its overriding objective should be to maximize voluntary 
compliance with the tax laws. In general, the IRS seeks to achieve 
compliance through two main types of activity. First, it seeks to 
enable taxpayers to comply with their tax obligations voluntarily. In 
most cases, outreach, education, and taxpayer assistance are sufficient 
to produce complete or substantial compliance. Second, it targets its 
enforcement resources at taxpayers who are unwilling to comply with the 
tax laws.
    Voluntary compliance--as opposed to enforced compliance--must be 
our goal for two overriding reasons.
  --First, it is far preferable for our civic culture when taxpayers 
        pay voluntarily rather than pursuant to enforcement action. We 
        should strive to make sure taxpayers understand how the tax 
        dollars they pay are used to protect and benefit them, and we 
        should make compliance as easy as possible.
  --Second, enforced compliance is extremely expensive and therefore 
        must be targeted narrowly. For fiscal year 2006, the IRS 
        reported that its face-to-face audit rate was 0.23 percent, 
        meaning that only one out of every 435 taxpayers was audited in 
        person.\2\ Even taking into account less comprehensive 
        correspondence audits, the audit rate was less than one 
        percent.\3\ Notably, IRS enforcement actions brought in only 
        about two percent ($48.7 billion) \4\ of total IRS collections 
        ($2.24 trillion).\5\ As the IRS has acknowledged, it is simply 
        not realistic to close the tax gap one taxpayer at a time.
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    \2\ Internal Revenue Service, Fiscal Year 2006 Enforcement and 
Service Results (Nov. 20, 2006). The actual face-to-face audit rate is 
apparently lower than the IRS reported. According to a study by the 
Treasury Inspector General for Tax Administration, the IRS classifies 
its audits based on which IRS function handled a case. Some cases 
referred to the IRS function responsible for conducting face-to-face 
audits are resolved without a face-to-face meeting. By analyzing data 
from IRS Audit Technique Codes, TIGTA concluded that the face-to-face 
audit rate was 0.18 percent for fiscal year 2006, about 22 percent less 
than the IRS reported. See Treasury Inspector General for Tax 
Administration, Ref. No. 2007-30-056, Trends in Compliance Activities 
Through Fiscal Year 2006 at 2 (March 27, 2007); Allen Kenney, TIGTA 
Finds Audit-by-Mail Process More Common Than IRS Says, Tax Notes Today 
(April 6, 2007).
    \3\ Internal Revenue Service, Fiscal Year 2006 Enforcement and 
Service Results (Nov. 20, 2006).
    \4\ Id.
    \5\ Government Accountability Office, GAO-07-136, Financial Audit: 
IRS's Fiscal Years 2006 and 2005 Financial Statements at 95 (Nov. 
2006). The IRS actually collected $2.51 trillion on a gross basis in 
fiscal year 2006, but issued $277 billion in tax refunds.
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    In my view, the IRS should go about maximizing voluntary compliance 
in four ways:
  --By improving its outreach and education efforts to minimize 
        inadvertent errors attributable to tax law or procedural 
        complexity or confusion;
  --By conducting compliance-oriented audits to reinforce the 
        perception that taxpayers may be audited;
  --By utilizing all IRS collection alternatives while collecting tax 
        debts to bring taxpayers into future compliance; and
  --By reserving targeted enforcement actions to combat clear abuses.
    In addition, the IRS should launch a public information campaign 
that reminds taxpayers of what taxes really are about--the price we pay 
for a civilized society.

CONGRESS SHOULD PROVIDE INCREASES IN IRS PERSONNEL FUNDING AT A STEADY 
  BUT GRADUAL PACE, PERHAPS TWO PERCENT TO THREE PERCENT A YEAR ABOVE 
                               INFLATION

    I strongly encourage the Committee to fund the IRS at approximately 
the level requested by the Administration for fiscal year 2008. In the 
National Taxpayer Advocate's 2006 Annual Report to Congress, we 
recommended that Congress provide the IRS with after-inflation 
increases of about two percent to three percent a year for the 
foreseeable future. Assuming the funds are wisely spent, I believe that 
increasing the IRS budget at this rate is an excellent financial 
investment.
    The IRS collects about 96 percent of all federal revenue.\6\ The 
more revenue the IRS collects, the more revenue Congress may spend on 
other programs or use to cut taxes or reduce the deficit. The less 
revenue the IRS collects, the less revenue Congress has available for 
these other purposes.
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    \6\ Government Accountability Office, GAO-07-136, Financial Audit: 
IRS's Fiscal Years 2006 and 2005 Financial Statements 68 (Nov. 2006).
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    If the federal government were a private company, its management 
clearly would fund the Accounts Receivable Department at whatever level 
it believed would maximize the company's bottom line. Since the IRS is 
not a private company, maximizing the bottom line is not--in and of 
itself--an appropriate goal. But the public sector analogue should be 
to maximize tax compliance, especially voluntary compliance, with due 
regard for protecting taxpayer rights and minimizing taxpayer burden. 
Studies show that if the IRS were given more resources, it could 
collect substantially more revenue.
    In his final report to the IRS Oversight Board in 2002, former 
Commissioner Charles Rossotti presented a discussion titled ``Winning 
the Battle but Losing the War'' that detailed the consequences of the 
lack of adequate funding for the IRS. He identified 11 specific areas 
in which the IRS lacked resources to do its job, including taxpayer 
service, collection of known tax debts, identification and collection 
of tax from non-filers, identification and collection of tax from 
underreported income, and noncompliance in the tax-exempt sector.
    Commissioner Rossotti provided estimates of the revenue cost in 
each of the 11 areas based on IRS research data. In the aggregate, the 
data indicated that the IRS lacked the resources to handle cases worth 
about $29.9 billion each year. It placed the additional funding the 
agency would have needed to handle those cases at about $2.2 
billion.\7\
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    \7\ Commissioner Charles O. Rossotti, Report to the IRS Oversight 
Board: Assessment of the IRS and the Tax System 16 (Sept. 2002).
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    Significantly, this estimate reflects only the potential direct 
revenue gains. Economists have estimated that the indirect effects of 
an examination on voluntary compliance provide further revenue gains. 
While the indirect revenue effects cannot be precisely quantified, two 
of the more prominent studies in the area suggest the indirect revenue 
gains are between six and 12 times the amount of a proposed 
adjustment.\8\
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    \8\ Alan H. Plumley, Pub. 1916, The Determinants of Individual 
Income Tax Compliance: Estimating The Impacts of Tax Policy, 
Enforcement, and IRS Responsiveness 35-36 (Oct. 1996); Jeffrey A. 
Dubin, Michael J. Graetz & Louis L. Wilde, The Effect of Audit Rates on 
the Federal Individual Income Tax, 1977-1986, 43 Nat. Tax J. 395, 396, 
405 (1990).
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    I want to emphasize that the existing modeling in this area is not 
especially accurate, and estimates of both the direct and indirect 
effects of IRS programs vary considerably. As I will discuss below, the 
IRS needs to develop better modeling to produce more accurate return-
on-investment estimates. But I also want to emphasize that almost all 
studies show that, within reasonable limits, each additional dollar 
appropriated to the IRS should generate substantially more than an 
additional dollar in federal revenue assuming the funding is wisely 
spent.

 IRS FUNDING INCREASES SHOULD BE BALANCED BETWEEN TAXPAYER SERVICE AND 
                              ENFORCEMENT

    One of the most critical choices facing tax administration is how 
to allocate resources between taxpayer service and tax-law enforcement. 
While I believe that both categories would benefit from additional 
funding, I am concerned that the IRS has been emphasizing enforcement 
at the expense of taxpayer service.
    Since fiscal year 2004, funding for enforcement has increased 
substantially while funding for taxpayer service has been reduced. For 
fiscal year 2008, the Administration has requested a funding increase 
of 6.5 percent for enforcement (to $7.2 billion) and 3.8 percent for 
taxpayer service (to $3.6 billion).\9\ If the Administration's proposal 
is enacted, funding for enforcement will have been increased by 19.4 
percent and funding for taxpayer service will have been reduced by 3.8 
percent over the five-year period, fiscal year 2004-fiscal year 
2008.\10\
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    \9\ Government Accountability Office, GAO-07-673, Internal Revenue 
Service: Interim Results of the 2007 Tax Filing Season and the Fiscal 
Year 2008 Budget Request 26 (April 2007).
    \10\ Id. at 27. These numbers are apparently not adjusted for 
inflation. GAO reports that overall IRS funding would increase, on an 
inflation-adjusted basis, by a mere 0.5 percent from fiscal year 2004 
to fiscal year 2008 under the Administration's proposal. Id. at 26.
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    I am deeply concerned about this fundamental shift in the balance 
between taxpayer service and enforcement. Under this proposal, the IRS 
would be spending literally twice as much on enforcement as it spends 
on taxpayer service. There is no reliable data showing that more 
enforcement will do more than taxpayer service to increase compliance. 
I believe the IRS can produce a positive return on investment from more 
funding in both areas. But given limited resources, I think it is 
misguided to ramp up enforcement at the expense of taxpayer service.
    I discuss some of the specific consequences of this shortchanging 
of taxpayer service in the Appendix to this testimony. However, I want 
to emphasize that the concerns I am expressing about the relative shift 
in emphasis from taxpayer service to enforcement do not reflect simply 
the misgivings of a zealous taxpayer advocate. My concerns are shared 
by former IRS Commissioner Rossotti. In a memoir about his experience 
running the IRS from 1997 to 2002, Mr. Rossotti wrote:

    ``Some critics argue that the IRS should solve its budget problem 
by reallocating resources from customer support to enforcement. In the 
IRS, customer support means answering letters, phone calls, and visits 
from taxpayers who are trying to pay the taxes they owe. Apart from the 
justifiable outrage it causes among honest taxpayers, I have never 
understood why anyone would think it is good business to fail to answer 
a phone call from someone who owed you money.'' \11\
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    \11\ Charles O. Rossotti, Many Unhappy Returns: One Man's Quest to 
Turn Around the Most Unpopular Organization in America 285 (2005).

    Why is the IRS today putting greater emphasis on enforcement? My 
sense is that there are two factors at play.
    In the aftermath of the IRS Restructuring and Reform Act of 1998, 
the IRS focused on improving taxpayer service, and its enforcement 
presence declined. Some observers believe that the IRS's response to 
the 1998 Act went too far and that the current emphasis on enforcement 
is needed to restore the balance that existed previously. 
Significantly, this reasoning rests on the premise that the relative 
balance between service and enforcement that existed prior to 1998--
when IRS answered taxpayers' phone calls only 51 percent of the time 
\12\--was the ``correct'' one.
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    \12\ Annual IRS Restructuring and Reform Act of 1998 Joint 
Congressional Review, Testimony of Mark W. Everson, Commissioner, 
Internal Revenue Service (May 20, 2003) (indicating level of service on 
the telephones for fiscal year 1998).
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    That may or may not be the case. The IRS's current strategic 
formula, ``Service + Enforcement = Compliance,'' \13\ does not contain 
any coefficients. Did the improvements in service more than balance out 
the reductions in enforcement, or did compliance suffer? There is no 
hard data either way, so we're all left to make educated guesses.
---------------------------------------------------------------------------
    \13\ IRS Strategic Plan 2005-2009.
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    In the absence of hard data, I do not believe it is sound public 
policy to make a shift from helping taxpayers comply on the front end 
toward clamping down on taxpayers on the back end. The government 
should prefer to treat its taxpayers courteously and with respect. 
While enforcement actions are clearly necessary, I think it is unwise 
to make a significant shift in the relative emphasis on taxpayer 
service and enforcement in the absence of data showing it would produce 
a significant boost in overall tax compliance.
    The second factor supporting more enforcement funding are the 
congressional scoring rules. ``Direct'' enforcement revenue is 
``scorable,'' while current modeling does not permit economists to 
measure the return-on-investment of funds spent on taxpayer service or 
on the ``indirect'' (i.e., deterrent) effect of enforcement spending. 
While this is understandable, it may be leading to bad results. As I 
noted above, direct enforcement revenue ($48.7 billion in fiscal year 
2006) comes to only about two percent of overall IRS collections. To 
make budgeting decisions by striving to maximize two percent of 
collections without grappling adequately with what is required to 
maximize the remaining 98 percent of collections is a bit like letting 
the tail wag the dog.
    The Administration's fiscal year 2008 budget request acknowledges 
this problem. It states: ``The IRS cannot currently measure either the 
impact of deterrence or service, but they are positive.'' \14\ Then, 
having acknowledged that the effects of spending that brings in 98 
percent of Federal revenue cannot be measured, the budget goes on to 
recommend the use of a ``program integrity cap.'' Under this concept, 
additional funding can be provided that does not count against the 
budget caps if certain conditions are satisfied, notably that the 
Congressional Budget Office can certify the spending will produce a 
positive return on investment and thus will not increase the budget 
deficit. Since the return on taxpayer service spending cannot be 
quantified, the ``program integrity cap'' approach leads inexorably 
toward greater funding for enforcement.
---------------------------------------------------------------------------
    \14\ Department of the Treasury, Fiscal Year 2008 Budget-in-Brief 
at 56.
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    For the reasons I have described, I urge the Committee to consider 
carefully the appropriate balance between taxpayer service and 
enforcement in making funding decisions for the fiscal year 2008 IRS 
budget. Many aspects of taxpayer service are akin to a wholesale 
operation that reaches groups of taxpayers (e.g., outreach and 
education), while IRS audits constitute a far more costly retail 
operation that requires individual taxpayer contact. The IRS should 
pursue a balanced approach to tax compliance that puts priority 
emphasis on improving IRS outreach and education efforts, while 
reserving targeted enforcement actions to combat clear abuses and send 
a message to all taxpayers that noncompliance has consequences.\15\
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    \15\ For research purposes, we believe it is important to study 
inadvertent errors as well as deliberate misreporting. Knowledge about 
inadvertent errors can be used to clarify ambiguous laws or 
administrative guidance both to help increase future compliance and to 
better apply IRS outreach, education, and other voluntary compliance 
initiatives.
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 THE IRS SHOULD DEVOTE MORE RESOURCES TO OBTAINING BETTER RESEARCH TO 
    IMPROVE ITS STRATEGIC PLANNING AND RESOURCE ALLOCATION DECISIONS

    As described above, the IRS currently does not know whether its 
next dollar is better spent on taxpayer service or enforcement. It does 
not know within either category where its funds can be most efficiently 
deployed. The IRS will be much better off if it has better information 
to guide its resource allocation decisions.
    Congress should consider directing the IRS to undertake additional 
research studies, perhaps utilizing the expertise of outside experts, 
to improve the accuracy of its return on investment (ROI) estimates for 
various categories of work, especially taxpayer service and the 
indirect effect of enforcement actions, including the downstream costs 
of such work. Improved methods should also be developed to verify, 
retrospectively, the marginal ROI that the IRS has achieved for each 
category of work.
    Among other things, the IRS should measure and report to Congress 
on its progress in handling all significant categories of work, 
including the known workload, the percentage of the known workload the 
IRS is able to handle and the percentage of the known workload the IRS 
is not able to handle, the additional resources the IRS would require 
to perform the additional work, and the likely return-on-investment of 
performing that work.\16\
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    \16\ Much of this information was published in former Commissioner 
Rossotti's final report to the IRS Oversight Board. Commissioner 
Charles O. Rossotti, Report to the IRS Oversight Board: Assessment of 
the IRS and the Tax System 16 (Sept. 2002). However, we have not seen 
updated statistics published in this format since that time.
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The IRS Can and Should Do a Better Job of Measuring the Impact of 
        Taxpayer Service on Compliance
    The Taxpayer Assistance Blueprint (TAB) notes that it is difficult 
to measure the impact of taxpayer service on compliance. Of the private 
sector and government entities that the TAB team surveyed, all had 
concluded that customer service at least indirectly impacts their 
organizations, but only one had attempted to empirically measure that 
impact.
    Although little work has been done in this area, I believe the IRS 
does have the capability to develop useful estimates, and I am 
suggesting a general framework for conducting this research. Measuring 
the compliance impact of customer service would entail identifying a 
group of taxpayers who received a particular service (the ``treatment 
group'') and an otherwise comparable group that did not receive that 
service (the control group). Compliance of both groups could then be 
measured on returns filed subsequent to the receipt of service by the 
treatment group. The three measures used to estimate the tax gap could 
be applied--payment compliance, filing compliance, and reporting 
compliance.
    We can determine the payment compliance of survey respondents by 
simply observing whether the full tax liability was paid at the time of 
filing. We can estimate their filing compliance by determining whether 
non-filers appeared to have a filing requirement. To determine 
reporting compliance, by far the biggest component of the tax gap, we 
could use IRS-developed algorithms for estimating reporting compliance. 
These algorithms have been updated based on results from the recently 
completed National Research Program (NRP) and should provide good 
preliminary estimates. The estimates could subsequently be validated 
during the next NRP by comparing actual reporting compliance against 
predicted reporting compliance based on the IRS algorithms.
            Measuring the Direct Effect
    If we accept the above proposed framework as a valid means of 
estimating compliance, surveys could then be designed and administered 
to identify groups of taxpayers who did or did not receive certain 
services, such as telephone or Internet assistance with tax law 
questions, Internet or walk-in site (also known as Taxpayer Assistance 
Center or TAC) assistance obtaining forms, etc. Subsequent compliance 
of those who receive the service could then be compared to compliance 
for a comparable group who do not. Taxpayer satisfaction with services 
received might also be an interesting variable to examine.
            Measuring Indirect Effects
    It is possible that taxpayer compliance behavior may be influenced 
by knowledge and attitudes about IRS customer service offerings, even 
if the affected taxpayers have not used those services. The same basic 
proposed framework could be used to measure these indirect effects. We 
would have to determine a set of relevant attributes to identify 
taxpayer groups indirectly affected by IRS customer service offerings. 
It seems to me that such attributes would probably include use, 
awareness, access and general satisfaction level:
  --Use.--To be indirectly affected, a taxpayer could not have used the 
        service in question (at least during the year being studied).
  --Awareness.--A taxpayer would have to be aware of the existence of a 
        service to be influenced by it.
  --Access.--It seems likely that taxpayers who could access the 
        service if they chose to are more likely to be influenced 
        (e.g., those living close to a TAC).
  --Satisfaction Level.--It seems likely that taxpayers having a 
        generally favorable level of satisfaction with our services are 
        more likely to be positively influenced (and vice versa).
    Surveys could be administered to determine whether compliance was 
impacted based on the values for the above attributes (or others 
suspected of indirectly affecting compliance).
            Return Preparation
    The IRS has data that enable us to estimate compliance for the 
entire population of returns by type of preparation: IRS prepared, 
volunteer, commercial, and taxpayer prepared. It would be instructive 
to compare estimated reporting compliance for IRS prepared returns 
against comparable returns (i.e., low income, especially Earned Income 
Tax Credit) prepared by the other methods. If the data show that IRS-
prepared returns are substantially more compliant, the IRS might decide 
to expand return preparation in the TACs.\17\
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    \17\ As I discuss in the Appendix, existing data suggest that EITC 
returns prepared in the TACs are more compliant than other returns.
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The IRS Should Include the Cost of the Downstream Consequences of Its 
        Actions in Its Return on Investment (ROI) Calculations
    The IRS needs to conduct more thorough and accurate analyses when 
measuring return on investment (ROI) in order to allocate future 
dollars appropriately. For example, although in the short run it may 
cost more to process and review an Offer in Compromise and it may 
appear that the government is writing off revenue, the taxpayer in the 
long run may pay more tax dollars into the system as a result of his 
promise to be fully compliant for the five succeeding years.\18\ Five 
years is a long enough period to enable the taxpayer to ``learn'' a new 
norm of behavior--namely, compliance. And when you compare the 16 cents 
on the dollar that IRS receives from offers \19\ to the virtually no 
cents it collects after year 3 of the 10-year collection period,\20\ 
the Offer in Compromise suddenly looks like a very efficient and 
productive program.
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    \18\ If a taxpayer fails to comply with all his tax obligations 
over the five-year period following IRS acceptance of an offer, the IRS 
may rescind the offer and reinstate the tax debt. See IRS Form 656, 
Offer in Compromise.
    \19\ IRS Small Business/Self Employed Division, Offer In Compromise 
Program, Executive Summary Report (Jan. 2006).
    \20\ IRS Automated Collection System Operating Model Team, 
Collectibility Curve (August 5, 2002).
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    When computing ROI, the IRS should include the costs of the 
downstream consequences of its enforcement actions, which include the 
costs associated with cases handled by Appeals or the Taxpayer Advocate 
Service. Downstream consequences analysis tells us not only true ROI 
(i.e., the true cost to the IRS) but also gives us clues as to how to 
improve our processes from an IRS and a taxpayer perspective. That is, 
downstream consequences analysis is a form of taxpayer service.
The IRS Should Conduct Research, Organized by Taxpayer Segment, to 
        Better Understand Taxpayer Behavior and Taxpayer Response to 
        IRS's Various Service and Enforcement ``Touches''
    The absence of research about taxpayer needs often leads the IRS to 
place its immediate resource needs over taxpayers' immediate and long-
term needs.\21\ This approach may cause more taxpayers to become 
noncompliant, thereby requiring more expensive enforcement actions. 
Concern over the lack of research and taxpayer-centric strategic 
planning led Congress to enact Section 205 of the fiscal year 2006 
Appropriations Act funding the IRS and to direct the IRS to develop a 
five-year strategic plan for taxpayer service.\22\
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    \21\ The declining number of Taxpayer Assistance Center (TAC) 
visits is an example of IRS placing its resource needs over taxpayer 
needs. For fiscal year 2006, IRS established a goal of preparing 20 
percent fewer tax returns in TACs than in fiscal year 2005. Not 
surprisingly, TAC visits for year-to-date fiscal year 2006 have 
declined 14 percent compared with this time last year. Even though the 
decline in TAC usage appears to result from IRS-imposed limitations on 
service, the IRS is nonetheless citing this decline as a justification 
for making further reductions in service at the TACs. Wage & 
Investment, 2006 Filing Season Data: Cumulative Statistics Report (Feb. 
25, 2006).
    \22\ Pub. L. No. 109-115,  205, 119 Stat. 2396 (2005). 
Specifically, the statute provides:
    ``None of the funds appropriated or otherwise made available in 
this or any other Act or source to the Internal Revenue Service may be 
used to reduce taxpayer services as proposed in fiscal year 2006 until 
the Treasury Inspector General for Tax Administration completes a study 
detailing the impact of such proposed reductions on taxpayer compliance 
and taxpayer services, and the Internal Revenue Service's plans for 
providing adequate alternative services, and submits such study and 
plans to the Committees on Appropriations of the House of 
Representatives and the Senate for approval: . . . Provided further, 
That the Internal Revenue Service shall consult with stakeholder 
organizations, including but not limited to, the National Taxpayer 
Advocate, the Internal Revenue Service Oversight Board, the Treasury 
Inspector General for Tax Administration, and Internal Revenue Service 
employees with respect to any proposed or planned efforts by the 
Internal Revenue Service to terminate or reduce significantly any 
taxpayer service activity.''
    The accompanying Joint Explanatory Statement of the Committee of 
Conference stated: ``The conferees direct the IRS, the IRS Oversight 
Board and the National Taxpayer Advocate to develop a 5-year plan for 
taxpayer service activities. . . . The plan should include long-term 
goals that are strategic and quantitative and that balance enforcement 
and service.'' H. Rep. No. 109-307, 209 (2005).
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    I have written at length elsewhere on the need to understand the 
causes of noncompliance so that the IRS doesn't adopt a one-size-fits-
all enforcement approach.\23\ Each year, academics and other scholars 
propose many ideas that a 21st century tax administrator should be 
examining and testing. In fact, the IRS has such a vehicle for 
partnering with academics in the Intergovernmental Personnel Act (IPA) 
program. Unfortunately, this program is underutilized. The IRS must 
conduct and underwrite such applied research.
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    \23\ See National Taxpayer Advocate 2004 Annual Report to Congress 
211 (Most Serious Problem: IRS Examination Strategy) and 226 (Most 
Serious Problem: IRS Collection Strategy); National Taxpayer Advocate 
2005 Annual Report to Congress 55 (Most Serious Problem: The Cash 
Economy); Written Statement of Nina E. Olson, National Taxpayer 
Advocate, Before the Subcommittee on Federal Financial Management, 
Government Information, and International Security, Committee on 
Homeland Security and Governmental Affairs, United States Senate, on 
The Tax Gap (Oct. 26, 2005); Written Statement of Nina E. Olson, 
National Taxpayer Advocate, Before the Committee on the Budget, United 
States Senate, on The Causes of and Solutions to the Federal Tax Gap 
(Feb. 15, 2006).
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    Because taxpayer service and enforcement are the drivers of overall 
compliance, we need to measure taxpayer service needs concurrently with 
our efforts to measure the tax gap. Thus, the National Research Program 
should update its analysis of taxpayer service needs at the same time 
it is measuring taxpayer noncompliance for the particular taxpayer 
population it is studying. The IRS can make informed resource 
allocation decisions only if it is armed with both types of 
information.

THE IRS SHOULD ADDRESS THE IMPACT OF IRS BUSINESS SYSTEMS MODERNIZATION 
    LIMITATIONS ON BOTH TAXPAYER SERVICE AND ENFORCEMENT INITIATIVES

    When I was in private practice as an attorney representing clients 
before the IRS, I did not have a full appreciation of how significant a 
role Business Systems Modernization (BSM) plays in both creating and 
solving problems for taxpayers and the IRS. As the National Taxpayer 
Advocate, I know that on a regular basis my office identifies systemic 
problems for which the complete solution requires some sort of BSM fix.
    When former Commissioner Everson began his tenure, he ordered three 
separate reviews--two external, one internal--of the state of IRS BSM 
projects. Based on these reviews, the Commissioner quickly--and, I 
believe, correctly--concluded that the IRS was spreading its internal 
BSM resources too thin. Project managers and experts charged with 
overseeing our key initiatives--such as the Integrated Financial System 
(IFS) and the Customer Account Data Engine (CADE)--were also managing 
scores of smaller projects, all more or less important but all 
detracting from our central progress on IFS and CADE.
    For the past several years, the IRS has focused on its primary 
projects and strictly controlled the number of other BSM projects. This 
approach makes sense because it is critical to both effective service 
and enforcement that the IRS move forward with its primary initiatives. 
On the other hand, many projects cannot be deferred too much longer 
without significantly impacting taxpayer rights, accuracy of taxpayer 
data, and effective examination and collection initiatives. Thus, 
Congress should ensure that the IRS has the funding to address and is 
addressing current taxpayer needs while the IRS moves its primary 
initiatives forward.

FUNDING FOR THE PRIVATE DEBT COLLECTION INITIATIVE SHOULD BE REDIRECTED 
              TO FUND COLLECTION ACTIVITY BY IRS EMPLOYEES

    In my view, the Private Debt Collection (PDC) initiative is a bad 
idea and should be terminated. The premise of the PDC initiative was 
essentially this: ``There is a significant amount of tax debt that the 
IRS can't go after because it doesn't have the resources. If we simply 
turn those cases over to private collection agencies, they'll collect 
the debt for us and the government will get to keep 75 to 80 cent of 
every dollar the debt collectors are able to collect.''
    The problem with that simple approach is that it fails to take into 
account the enormous amount of IRS resources that need to be devoted to 
creating and supporting the program. Because tax collection is 
considered to be an inherently governmental function, private 
collection agencies (PCAs) cannot negotiate or compromise tax 
liabilities, interest, or penalties. Unless a taxpayer contacted by a 
PCA agrees to pay the tax debt in full, the case must be sent back to 
the IRS referral unit for additional work that only the IRS can 
constitutionally take on the account. Keep in mind that these are cases 
the IRS currently considers too unproductive to devote resources to. 
Yet ironically, under the PDC initiative, the IRS will end up pulling 
employees off high-priority, high-return cases to work on these low-
priority, low-return cases.
    As the IRS's PDC initiative moves forward, PCAs will be given more 
complex cases in order to compensate for the smaller number of easy 
cases. This change of course began as early as phase 1.2 of the PDC 
initiative, when the IRS developed case selection criteria that allowed 
certain nonfiler cases to be sent to the PCAs. The determination that a 
taxpayer is a nonfiler is a discretionary decision that can be made 
only by the IRS, not a private collection agency. Therefore, many of 
these nonfilers will raise issues only the IRS can address. The IRS 
intends to continue this trend of allowing PCAs to work cases that are 
complex and difficult to collect, such as innocent spouse cases, trust 
fund recovery penalty cases and business taxes.\24\
---------------------------------------------------------------------------
    \24\ Internal Revenue Service, F&PC Advisory Council Deck (Mar. 7 
2007).
---------------------------------------------------------------------------
    Working on these complex cases increases the likelihood that the 
PCAs will make mistakes and decreases the likelihood that the PCAs will 
be able to collect any payment from the taxpayer. Moreover, in these 
more complex cases, taxpayers are more likely to have questions that 
the PCA employees are unable to answer because their knowledge 
regarding tax issues is limited, at best, or because PCAs cannot 
exercise discretion in either answering a question or working a case. 
Faced with having to send the case back to the IRS referral unit, the 
PCAs may attempt to pressure the taxpayer into an unreasonable payment 
plan. As the expanded case selection increases the likelihood of IRS 
referral unit involvement, the underlying business case for the PCA 
initiative evaporates.
    This approach makes little business sense, and on top of that, the 
program raises significant concerns about the adequacy of taxpayer 
rights protections and confidentiality of tax return information. In 
fact, to make the program profitable, the IRS will be under pressure to 
expand the authorized actions that private collection agencies can take 
on a case so they can work higher dollar, more complex cases. This 
expansion would clearly raise constitutional concerns.\25\
---------------------------------------------------------------------------
    \25\ For a detailed discussion of the IRS Private Debt Collection 
initiative and its constitutional and taxpayer rights implications, see 
Use of Private Agencies to Improve IRS Debt Collection, Subcommittee on 
Oversight, House Committee on Ways and Means, 108th Cong., 1st Sess. 
(statement of Nina E. Olson, National Taxpayer Advocate, May 13, 2003); 
see also National Taxpayer Advocate 2005 Annual Report to Congress 76-
93.
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        TRENDS IN TAXPAYER ADVOCATE SERVICE (TAS) CASE INVENTORY

    I close with a reflection on the Taxpayer Advocate Service and its 
role in identifying and mitigating the downstream consequences of IRS 
actions and programs, and improving taxpayers' attitudes toward the tax 
system. This recent March 1st marked my six-year anniversary as the 
National Taxpayer Advocate. They have been quite remarkable years--I 
have watched my talented and dedicated employees achieve a quality 
rating of 89.7 percent for fiscal year 2006, up from 71.6 percent in 
2001. The performance of TAS employees over the past two years has been 
particularly commendable--TAS case receipts rose an overwhelming 43 
percent from fiscal year 2004 to fiscal year 2006,\26\ while the number 
of case advocacy employees working those cases declined seven percent 
from 1,908 to 1,766 over the same period. Yet we have managed to handle 
this increased workload to date without much decline in our case 
quality.
---------------------------------------------------------------------------
    \26\ In fiscal year 2006, TAS received a total of 242,173 cases. In 
fiscal year 2004, TAS received a total of 168,856 cases.
---------------------------------------------------------------------------
    The increase in TAS cases is not surprising. The IRS has 
substantially increased the number of its compliance actions in recent 
years, and about 70 percent of TAS's cases are classified as 
``compliance'' related. Increasing the number of compliance cases 
inevitably produces a corresponding increase in TAS cases. Thus, the 
greater IRS emphasis on enforcement has resulted in a greater need for 
TAS services. Notably, TAS was able to obtain relief for the taxpayer 
in 70 percent of the cases we closed in fiscal year 2006.
    TAS Customer Satisfaction surveys provide some evidence that the 
quality and nature of taxpayer service has an impact on taxpayer 
attitudes toward the tax system. When a taxpayer brings an eligible 
case to TAS, he is assigned a case advocate who works with him 
throughout the pendency of the case. Taxpayers have a toll-free number 
direct to that case advocate, and each TAS office has a toll-free fax 
number. TAS employees are required to spot and address all related 
issues and to educate the taxpayer about how to avoid the problem from 
occurring again, if possible. This level and quality of service drives 
TAS's high taxpayer satisfaction scores,\27\ which averaged about 4.35 
on a scale of 5.0 in fiscal year 2004 and fiscal year 2005.\28\ Most 
importantly, 57 percent of taxpayers stated that they felt better about 
the IRS as a whole after coming to TAS. Even among taxpayers who did 
not obtain the result they sought, an impressive 41 percent reported 
that they had a more positive opinion of the IRS because of their 
experience with TAS.
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    \27\ Taxpayer Advocate Service customer satisfaction survey data 
for the period from October 2003 through September 2005, as collected 
by The Gallup Organization.
    \28\ Last year, TAS began using a new vendor to conduct its 
customer satisfaction surveys. We have not yet refined our new measure 
to make its results comparable to those achieved for years covered by 
the prior vendor.
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    I am concerned that with the increasing volume, complexity, and 
urgency of TAS's caseload, the cycle time for our cases has begun to 
increase. If the balance between our staffing and the number of cases 
we handle continues to deteriorate, TAS is in jeopardy of becoming part 
of the IRS problem rather than the advocate for the solution, as 
Congress intended.

                               CONCLUSION

    Compared to the IRS of ten years ago, the IRS of today is a more 
responsive and effective organization. On the customer service side, 
the IRS Restructuring and Reform Act of 1998 and the IRS response has 
brought about fairly dramatic improvements. On the enforcement side, 
the IRS has been stepping up its enforcement of the tax laws over the 
past five years, particularly with regard to corporate tax shelters and 
high-income individuals.
    But the IRS can, and should, do better. To increase voluntary 
compliance, it should incorporate an ongoing taxpayer-centric 
assessment of taxpayer service needs into its strategic plans. It 
should conduct research into the causes of noncompliance and apply the 
resulting knowledge to IRS enforcement strategies, including those 
pertaining to the cash economy. Finally, it must have sufficient 
resources to move forward with its technological improvements, on both 
a short-term and a long-term basis.

                   APPENDIX: TAXPAYER SERVICE ISSUES
THE IRS NEEDS ADDITIONAL FUNDING TO ALLOW FOR THE IMPLEMENTATION OF NEW 
            INITIATIVES DESIGNED TO IMPROVE TAXPAYER SERVICE

    Over the past two years, in response to a directive from this 
Committee, the IRS--through its Taxpayer Assistance Blueprint (TAB) 
team--has engaged in extensive research into the needs, preferences, 
and willingness of taxpayers to use taxpayer services.\1\ The TAB is a 
strategic document that contains a number of recommendations that, if 
implemented, will improve taxpayer service for many taxpayers. Many of 
the TAB recommendations focus on strengthening electronic service 
delivery options, with a focus on the irs.gov website. The goal is to 
provide increased service capabilities through the least costly 
electronic delivery channel, thereby reserving the more costly 
telephone and walk-in services for those taxpayers in need of 
additional assistance. As the IRS restructures the delivery of services 
and recognizes savings from increased efficiency, the IRS should 
reinvest these savings back into taxpayer service programs and 
initiatives to further improve on service delivery, including person-
to-person and face-to-face assistance.
---------------------------------------------------------------------------
    \1\ Internal Revenue Service, The 2007 Taxpayer Assistance 
Blueprint Phase 2 (April 2007).
---------------------------------------------------------------------------
    Moreover, the TAB report contains a number of recommendations that 
can have an immediate impact on the quality of taxpayer service. While 
the IRS will begin implementing these and other initiatives during 
fiscal year 2007, additional funding is needed in order to implement 
the proposed changes fully.
    Online Taxpayer Tools.--During fiscal year 2008, the IRS is 
scheduled to launch the Internet Customer Account Services (I-CAS) 
platform. I-CAS will provide taxpayers with direct access to account 
information and services.\2\ The first phase of the I-CAS rollout will 
provide taxpayers online access to account and return transcripts. The 
second phase will allow taxpayers to submit electronic versions of 
forms for change of address, disclosure authorization, and extension to 
file forms. With additional funding, future I-CAS capabilities could 
include explanation of account issues, movement of payments, and issue 
diagnosis and resolution.\3\ Spanish versions of I-CAS and ``Where's My 
Refund'' are also planned for fiscal year 2008.\4\ With additional 
funding, the IRS could expand to other languages.
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    \2\ Id. at 82.
    \3\ Id.
    \4\ Id.
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    Improvements in TAC Services.--During fiscal year 2007, the IRS is 
testing a Facilitated Self-Assistance Model (FSM) in 15 Taxpayer 
Assistance Centers (TACs) locations. FSM is designed to help taxpayers 
who have indicated a willingness to use alternative service channels, 
such as telephone or computer assistance, to learn how to effectively 
use those channels--thereby allowing TAC employees to focus on services 
taxpayers have indicated they want to receive in person. The FSM will 
provide taxpayers coming into a TAC with the option of using a self-
assisted service to resolve a tax-related question. The TACs will be 
outfitted with workstations containing computers and telephones. This 
will allow taxpayers to access the irs.gov website or use the toll-free 
telephone line to receive assistance. TAC employees will be available 
to answer questions and provide assistance to taxpayers willing to use 
the workstations.\5\ At any point during the process, the taxpayer will 
be able to request assistance from a TAC employee.
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    \5\ The IRS designed the FSM model to ensure that taxpayer 
information is protected from unauthorized access and all taxpayers 
using the self-assistance options are provided with proper notification 
and information to make them aware that their computer usage is being 
monitored and recorded for research purposes.
---------------------------------------------------------------------------
    After completing their transaction using the workstation, taxpayers 
will be asked to complete a brief survey designed to assess the 
effectiveness of the FSM and satisfaction with the experience. The 
survey will also collect demographic user information to enhance the 
IRS's understanding of taxpayer needs, preferences, and behaviors. The 
goal of FSM will be to help some taxpayers become more comfortable 
using online and telephone alternatives to answer their questions or to 
obtain information through forms, publications, and other guidance. TAC 
employees can focus on those taxpayers who require face-to-face 
assistance or those services (such as payments or account resolution) 
that taxpayers cannot or are unwilling to address through alternate 
channels.
    The IRS is also piloting a test to install payment kiosks in TACs. 
Currently, most TACs will accept cash payments from taxpayers who do 
not have, or are unable to obtain, a check or money order.\6\ TAC 
employees must then convert the cash payment to a bank draft or money 
order.\7\ This is particularly burdensome in smaller TAC offices where 
there are only one or two employees and one must leave the office in 
order to convert the cash payment. The IRS is testing the use of a 
kiosk located in the TAC that would allow a taxpayer to convert a cash 
payment into a money order without having to leave the TAC. The IRS 
will test these kiosks in two locations this year.
---------------------------------------------------------------------------
    \6\ IRM 21.3.4.7.2, Cash Payments (Jan. 10, 2007).
    \7\ IRM 21.3.4.7.2.3, Converting Cash Payments (Jan. 10, 2007).
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    FSM and the kiosks have the potential to save both the taxpayer and 
the IRS time. If FSM and the kiosks prove to be effective, the IRS will 
likely need additional funding to install these features in all TACs.

          THE IRS SHOULD NOT REDUCE CRITICAL TAXPAYER SERVICES

    The TAB report puts forth a number of recommendations designed to 
improve taxpayer service. Although the report provides the IRS with 
valuable information regarding the needs, preferences, and willingness 
of taxpayers to use certain services, it is only a starting point. The 
IRS must continue its research efforts to determine how best to 
strengthen taxpayer services.
    For example, the Taxpayer Advocacy Panel (TAP) has just conducted a 
survey that will shed light on the needs and preferences of those who 
visit a TAC. The methodology of the TAP survey differs from prior 
surveys in that it will attempt to survey taxpayers who attempted to 
visit a TAC but were unable to obtain assistance for such reasons as 
the line was too long or the TAC office was closed. The TAP survey 
gathered some basic demographic information, and it inquired about why 
the taxpayer was visiting the TAC and whether the taxpayer was 
satisfied with the service received. If the taxpayer did not receive 
any service, the survey will ask why none was provided. In addition, 
the TAP survey asked specifically why the taxpayer chose to visit the 
TAC instead of using a different IRS service and whether there were any 
services that were unavailable to them during their visit. The TAP 
survey results will provide the IRS with information useful not only in 
improving TAC services but in improving other taxpayer services as 
well.
    As the IRS implements the TAB recommendations and conducts 
additional research, the IRS needs to maintain its current services 
until it is proven that the new service offerings are adequately 
meeting taxpayer needs. One of the effects of the IRS's focus on 
enforcement at the expense of compliance has been a reduction in 
taxpayer services that can have a dramatic impact on taxpayers.
IRS Has Substantially Reduced the Number of Returns It Prepares at the 
        TACs
    The IRS historically has prepared tax returns for low income 
taxpayers at its TACs. Low income taxpayers generally qualify for the 
earned income tax credit (EITC), which is a refundable credit that caps 
out at $4,536 in 2006. Studies show that the average overclaim rate for 
EITC benefits is between 27 percent and 32 percent.\8\ IRS personnel 
who prepare tax returns are trained to ask questions that minimize the 
likelihood of EITC overclaims and thus can save the government hundreds 
of dollars per return. Yet to free up resources for other program 
initiatives, the IRS has reduced the number of tax returns it helps low 
income taxpayers prepare in its walk-in sites by almost 40 percent over 
the past four years. The number of returns prepared dropped from 
665,868 in fiscal year 2003 to 406,612 in fiscal year 2006.\9\
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    \8\ Internal Revenue Service, Compliance Estimates for Earned 
Income Tax Credit Claimed on 1999 Returns 3 (Feb. 28, 2002).
    \9\ Wage and Investment Operating Division, Business Performance 
Review Fiscal Year 2006.
---------------------------------------------------------------------------
    IRS data for tax years 2002 through 2004 suggest that EITC returns 
prepared by IRS TACs may be significantly more compliant than self-
prepared and commercially prepared returns. As compared with TAC-
prepared returns, Discriminant Function (DIF) scores were between 21 
and 26 percent higher for self-prepared returns and between 25 and 31 
percent higher for returns prepared by commercial preparers.\10\ The 
DIF score is an estimate of the likelihood of non-compliance on a 
return. A higher score indicates a higher likelihood of non-compliance.
---------------------------------------------------------------------------
    \10\ IRS Compliance Data Warehouse, Individual Returns Transaction 
File data for tax years 2002-2004.
---------------------------------------------------------------------------
    These findings are corroborated by examination results for EITC 
returns for these tax years. As compared with TAC-prepared returns, 
average audit assessments among EITC returns for tax years 2002-2004 
ranged from about $640 to $1,300 higher for self-prepared returns and 
from about $820 to $1,300 higher for commercially prepared returns.\11\ 
Similarly, a study conducted in 1996 that examined the relationship 
between IRS return preparation and compliance over a ten-year period 
showed that an increase in the number of returns prepared by the IRS 
correlates with substantial improvements in compliance among filers of 
individual returns. Indeed, taking into account the indirect effects of 
IRS return preparation, the study estimated the return on investment 
for each dollar the IRS spent on return preparation was 396:1.\12\
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    \11\ IRS Compliance Data Warehouse, Audit Inventory Management 
System data for tax years 2002-2004.
    \12\ See Alan H. Plumley, Pub. 1916, The Determinants of Individual 
Income Tax Compliance: Estimating The Impacts of Tax Policy, 
Enforcement, and IRS Responsiveness 41 (Oct. 1996).
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The IRS Is Declaring Increasing Numbers of Issues ``Out-of-Scope''.
    In my 2004 Annual Report, I raised concerns about the increasing 
number of issues declared ``out-of-scope'' in TACs, because limiting 
the issues TAC employees are able to address reduces the level of 
service available to taxpayers.\13\ For example, despite the number of 
taxpayers in certain states with taxable income from farming 
activities, I received a complaint at a ``town hall'' meeting in Fargo, 
North Dakota last year that questions about Schedule F, the form used 
to report farming income and expenses, are considered out-of-scope at 
IRS walk-in sites. I was astounded, but my staff has since confirmed 
that is the case.\14\
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    \13\ National Taxpayer Advocate 2004 Annual Report to Congress 12 
(Most Serious Problem: Taxpayer Access--Face-to-Face Interaction).
    \14\ IRM 21.3.4-1, Scope of Services (Feb. 16, 2007).
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    One of the reasons the IRS maintains a geographic presence is to 
allow taxpayers to obtain assistance with needs that may be different 
from the needs of taxpayers in other regions. Therefore, TAC out-of-
scope questions could differ according to taxpayer needs by geographic 
region. Questions about farming may be appropriately considered out-of-
scope in New York City--an area where complex financial reporting 
questions may be routine. In Fargo, North Dakota, it is fair to expect 
that farming questions are ``ripe'' for consideration.
TACs Are Not Adequately Responding to Emergency Transcript Requests.
    Under current IRS policies, taxpayers who request a copy of a 
return transcript should have the transcript mailed to their address 
within 10 days.\15\ If a taxpayer is requesting a hardship exception, 
she must provide verification to show why she is unable to wait the 
normal processing time to obtain her transcript. While these exceptions 
should be ``rare'' and require managerial approval,\16\ the procedures 
for obtaining an exception are not operating as intended. One example 
comes from our Omaha office, where a taxpayer went to a TAC requesting 
a return transcript. The taxpayer was scheduled for surgery the next 
day and needed a copy of a transcript to prove he was financially 
eligible to receive assistance. The TAC employee indicated that this 
was not an emergency and the taxpayer would receive his transcript in 
two weeks. Luckily, the Omaha TAS office was able to immediately 
provide the requested transcript. The current IRS procedures for 
hardships are clearly not working. Taxpayers who are in need of 
transcripts for court proceedings, medical procedures, or student loans 
are being turned away and instead are coming to TAS for assistance. 
This reduction in taxpayer service is negatively impacting taxpayers 
and forcing them to turn to TAS for assistance that the IRS should be 
providing.
---------------------------------------------------------------------------
    \15\ IRM 21.3.4.14.4, Tax Return and Tax Account Transcript 
Requests (Jan. 16, 2007).
    \16\ Id.
---------------------------------------------------------------------------
Small Business Outreach Has Declined.
    IRS data show that self-employed taxpayers account for the largest 
chunk of the tax gap and indicate that the tax compliance rate for 
self-employed taxpayers runs at about 43 percent.\17\ Much of the 
underreporting is deliberate, but some is not. For example, many small 
businesses are started by individuals who lack detailed knowledge of 
the tax laws and do not have the resources to hire tax attorneys or 
accountants. When they hire a few workers, they often do not realize 
that they are assuming tax reporting, tax withholding, and tax payment 
obligations, and they often do not understand enough about the details 
of complying with the requirements to do so with reasonable effort.
---------------------------------------------------------------------------
    \17\ See IRS News Release, IRS Updates Tax Gap Estimates, (Feb. 14, 
2006) (accompanying charts).
---------------------------------------------------------------------------
    After enactment of the IRS Restructuring and Reform Act of 1998, 
the IRS developed a function known as Taxpayer Education and 
Communications, or ``TEC.'' TEC was the IRS's outreach arm to small 
businesses to try to educate them about the complexity of their tax 
obligations. For 2002, TEC was named the Small Business 
Administration's agency of the year for what the SBA called its 
outstanding progress in creating an effective education and compliance 
assistance program for small business and self-employed taxpayers.\18\ 
Yet in the name of achieving ``efficiencies,'' TEC was ``realigned'' in 
February 2005 through a merger with other outreach functions and 
redesignated as ``Stakeholder Liaison.'' Prior to the realignment, TEC 
had 536 employees. After the realignment, Stakeholder Liaison staffing 
included 219 employees.\19\
---------------------------------------------------------------------------
    \18\ See Closing the Tax Gap and the Impact on Small Business, 
Hearing Before the House Comm. on Small Business, 109th Cong. (Apr. 27, 
2005) (testimony of John Satagaj, President and General Counsel, Small 
Business Legislative Council).
    \19\ IRS Small Business/Self Employed Division response to Taxpayer 
Advocate Service Information Request (Sept. 5, 2006).
---------------------------------------------------------------------------
    In my view, the reduction in TEC staffing will reduce tax 
compliance on the part of small businesses, result in more IRS audits 
of small businesses, and make more small businessmen and women feel 
like the government is playing ``gotcha'' with them by enacting complex 
requirements and then failing to help them understand how to comply.
IRS Telephone Assistors Are Answering a Reduced Percentage of Calls and 
        Taking Longer to Do It
    In 2003, the IRS answered 87 percent of all calls. This percentage 
dropped to 84 percent in 2006 and to 82 percent through March of this 
year's filing season. The average time it took the IRS to answer calls 
increased from 3.1 minutes in 2006 to 4.4 minutes so far this filing 
season.\20\ While the level of service on IRS phone lines is 
substantially better today than it was in the 1990s, we are moving in 
the wrong direction.
---------------------------------------------------------------------------
    \20\ Government Accountability Office, GAO-07-673, Internal Revenue 
Service: Interim Results of the 2007 Tax Filing Season and the Fiscal 
Year 2008 Budget Request 20 (April 2007).
---------------------------------------------------------------------------
THE IRS SHOULD MAKE IT POSSIBLE FOR TAXPAYERS TO PREPARE AND FILE THEIR 
            TAX RETURNS ELECTRONICALLY WITHOUT PAYING A FEE

    Electronic filing of tax returns brings benefits to both taxpayers 
and the IRS.\21\ From a taxpayer perspective, e-filing eliminates the 
risk of IRS transcription errors, pre-screens returns to ensure that 
certain common errors are fixed before the return is accepted, and 
speeds the delivery of refunds. From an IRS perspective, e-filing 
eliminates the need for data transcribers to input return data manually 
(which could allow the IRS to shift resources to other high priority 
areas), allows the IRS to easily capture return data electronically, 
and enables the IRS to process and review returns more quickly.\22\
---------------------------------------------------------------------------
    \21\ See S. Rep. No. 105-174, at 39-40 (1998).
    \22\ The IRS Restructuring and Reform Act of 1998 directed the IRS 
to set a goal of having 80 percent of all returns filed electronically 
by 2007. See Internal Revenue Service Restructuring and Reform Act, 
Pub. L. No. 105-206,  2001(a)(2), 112 Stat. 685 (1998). Although the 
IRS was not able to achieve this goal, we believe Congress should 
reiterate its commitment to seeing the IRS increase the e-filing rate 
as quickly as possible.
---------------------------------------------------------------------------
    In my view, the IRS should place a basic, fill-in template on its 
website and allow any taxpayer who wants to self-prepare his or her 
return to do so and file it directly with the IRS for free.\23\
---------------------------------------------------------------------------
    \23\ See National Taxpayer Advocate 2004 Annual Report to Congress 
471-477 (Key Legislative Recommendation: Free Electronic Filing for All 
Taxpayers).
---------------------------------------------------------------------------
    Some representatives of the software industry have taken the 
position that such a template would place the IRS in the position of 
improperly competing with private industry or, worse, create a conflict 
of interest between the IRS's role of tax preparer and tax auditor.
    This is nonsense. Since the inception of the tax system, there have 
always been two categories of taxpayers--those who are comfortable 
enough with the rules to self-prepare their returns and those who turn 
to paid professionals for assistance. In the paper-filing world, the 
IRS has always made its forms and instructions universally available 
without charge to all taxpayers, and those taxpayers who require help 
have always been free to seek the assistance of paid preparers.
    Imagine that, shortly after the income tax was enacted, a large 
group of bricks-and-mortar tax preparers had launched a lobbying 
campaign to try to persuade Congress to prohibit the IRS from making 
forms and instructions available to the public on the ground that the 
availability of these materials improperly placed the government in the 
position of competing with private industry. Or on the ground that it 
created a conflict between the government's role as preparer and 
auditor. Congress almost certainly would have rejected such arguments 
as ludicrous. Yet those are exactly the same conceptual arguments being 
raised today by those who contend that the government's provision of a 
basic web-based, fill-in form to all taxpayers would undercut the 
private sector.
    The answer to these arguments in today's electronic environment 
should be the same answer that Congress would have provided 80 years 
ago in a paper environment. For those taxpayers who are comfortable 
preparing their returns without assistance, the government will provide 
the means to do so without charge. For those taxpayers who do not find 
a basic template sufficient and would prefer to avail themselves of the 
additional benefits of a sophisticated software program, they are free 
to purchase one.
    A brief personal anecdote. Although I prepared tax returns 
professionally for 27 years before I became the National Taxpayer 
Advocate and don't need assistance from others to prepare my return, my 
government salary places me above the income cap to qualify to use Free 
File products. To prepare my return electronically last month, I 
therefore purchased tax preparation software. When I completed 
preparing my return, the software program informed me that, to file 
electronically, I would have to pay an additional fee. Although I 
deeply believe that e-filing is best for both taxpayers and the IRS for 
a host of reasons, I resented the notion that I would have to pay 
separate fees to prepare my return and to file it, so I printed out my 
return and mailed it in.
    I am hardly alone. IRS data shows that about 40 million returns are 
prepared using software yet are mailed in rather than submitted 
electronically.\24\ This is a shame, because the practice delays the 
length of time for processing refunds, it requires the IRS to devote 
additional resources to entering the data manually when it receives the 
return, and it creates a risk of transcription error.
---------------------------------------------------------------------------
    \24\ IRS Tax Year 2004 Taxpayer Usage Study (Aug. 26, 2005).
---------------------------------------------------------------------------
    There is no reason why taxpayers should be required to pay 
transaction fees in order to file their returns electronically. A free 
template and free direct filing mechanism would go a long way toward 
addressing this problem and would result in a greater number of 
taxpayers filing their returns electronically. When taxpayers elect to 
use commercial software but print out their returns for mailing, the 
IRS should require software developers to convert data to 2D bar codes, 
so that all tax information can be scanned into IRS systems.\25\ Both 
taxpayers and the government would stand to benefit from these 
improvements.
---------------------------------------------------------------------------
    \25\ More than 20 states currently use 2D bar-coding for personal 
income tax forms. See Federation of Tax Administrators compiled data 
http://www.taxadmin.org/fta/edi/ecsnaps.html.

    Senator Durbin. I would like to now invite Mr. White and 
Mr. Powner from the Government Accountability Office to join us 
at the panel. Although they did not have opening statements, 
they are prepared to answer questions. They have done extensive 
research on the operations of the Internal Revenue Service.

               INTERNAL REVENUE SERVICE RECRUITMENT TOOLS

    Mr. Brown, did you happen to see the article printed in the 
New York Times on April 16? It was by David, it appears to be, 
Schizer, dean at Columbia Law School, and he talked about the 
need for professional personnel at the IRS.
    Mr. Brown. I believe I did see this article, yes.
    Senator Durbin. It was interesting, some of the things he 
suggested, that in order to attract the kind of skill that we 
may need at the IRS to deal with the complexity of filings he 
said that perhaps we should do more in repaying student loans, 
student loan forgiveness.
    First, could you comment on the need for that type of 
professional person and whether or not student indebtedness has 
become a factor?
    Mr. Brown. Indebtedness is a factor and I think he was 
referring to the chief counsel's side of the organization.
    Senator Durbin. That is right.
    Mr. Brown. Which is where our lawyers reside. Don Korb, who 
is our Chief Counsel, has taken a number of aggressive steps to 
attract top legal talent. Don can probably better address that 
than I could, but I used to work in the Chief Counsel's 
organization, so I am familiar with some of the things they do.
    They offer bonuses when people come on. They accelerate the 
pay raises that people can get. It is difficult when you come 
out of law school. You tend to owe quite a bit of money, and 
our salary is not commensurate with what law firms offer. So it 
is hard, and with an increasingly complex Tax Code it is 
difficult to attract people of the quality we need.
    Senator Durbin. Are you using student loan forgiveness now 
to attract professional personnel?
    Mr. Brown. I do not know the answer. I will find out an 
answer and get back to you.

                    VOLUNTEER INCOME TAX ASSISTANCE

    Senator Durbin. Tell me about this, is it ``VEE-tah'' or 
``VIE-tah'' program?
    Mr. Brown. ``VIE-tah,'' volunteer income tax assistance.
    Senator Durbin. We hear from Mr. George that 56 percent of 
the returns are done accurately, are assembled accurately. That 
sounds like a pretty low number for a service being provided by 
our tax collecting agency.
    Mr. Brown. We are constantly trying to improve that number. 
As Russell has indicated, that number actually has improved to 
that point. I think you have got to recognize that the Code is 
quite complex. These people are volunteers. They are trained by 
us. We have clearly got to do a better job training them.
    I would point out that there are errors on returns and 
there are errors on returns, and it sort of depends how 
fundamental the error is on the return. I think Nina would 
probably have an opinion on this subject as well because Nina 
has looked very closely at this issue.
    Senator Durbin. I have always had a theory, incidentally. A 
few years ago my accountant in Springfield, Illinois, passed 
away and I decided as a lawyer who took tax courses in law 
school to just do my own returns. If every Member of Congress 
did their own personal returns, tax simplification would become 
a crusade on Capitol Hill. There is no doubt in my mind. What 
appears to be so simple is not, and we, guilty as charged, have 
created it in this situation.

                         FELONY FAILURE TO FILE

    Let me ask you about this, the whole question of policy 
changes that you think will lead to more compliance. One of 
them was upgrading the penalty for willful failure to file 
taxes to a felony. Now, what percentage do you think that 
represents in terms of current noncompliance?
    Mr. Brown. Oh, I think that is an outlier, but it is more 
symbolic. Right now it is a misdemeanor. I worked for a number 
of years at the Justice Department as an attorney and, frankly, 
you cannot interest assistant U.S. attorneys in prosecuting 
misdemeanors. Perhaps in the drug area, but not in the tax 
area. They just do not want to spend time on that. They have 
too many cases competing on their docket.
    What we are asking here is if you have willfully failed to 
file for 3 of the past 5 years, and there is an omission of 
more than $50,000, we are asking that failure be made a felony. 
We think that would lead to more compliance. I cannot tell you 
how much more, but there is symbolism there that we think is 
quite important.

                         LEGISLATIVE PROPOSALS

    Senator Durbin. What other changes are you proposing?
    Mr. Brown. Credit card reporting. If you ran a dry cleaning 
business and you take forms of payment as both cash and credit 
cards, we would like the aggregate dollar amount at the end of 
every year for your credit card receipts. That reporting will 
enable us to do two things. It may be that, given that we know 
from that industry, that payments are relatively divided 
evenly, 50 percent cash, 50 percent credit cards. We know not 
to audit you if it appears that you are in compliance. Or it 
would help us say, ``there is something amiss here, please 
explain.''
    Senator Durbin. Are there any other proposals that you 
think would have a significant impact on compliance?
    Mr. Brown. Well, we have a number. We have 16 of them. I 
think the basis reporting for security transactions is one that 
would be quite helpful. I can tell you from personal 
aggravation when I went to sell a mutual fund, it is difficult 
to calculate your basis. It is very difficult. I think that 
proposal helps both the consumer and it helps us, because the 
only information we have reported to us is the total sale 
price. We do not know what your gain is. So unless we start an 
audit, it is difficult to get to the proper number. So I think 
that would be helpful as well.

                         PREPARATION OF RETURNS

    Senator Durbin. I noticed here that, of course, the 
Internal Revenue Service is in competition with private 
companies when it comes to the preparation of tax returns. It 
appears that the number of people who utilize the services of 
the IRS is not increasing, may be decreasing some, in 
comparison to private companies. Can you give me some frame of 
reference there, percentage of those who are using private 
companies for preparation of returns?
    Mr. Brown. Our estimates are that 85 percent of people now 
either use a paid preparer or software to prepare their return. 
So you are down to about 15 percent left trying to navigate the 
system on their own or coming to us to use a volunteer outfit.
    Senator Durbin. What is your experience with those who do 
come in? Are they satisfied customers?
    Mr. Brown. I think they are by and large satisfied 
customers. I think that we have got over 12,000 sites around 
the country that do this now, 12,000 volunteers that do this 
for us now, and I think people are largely satisfied. They also 
serve segments of the population that may not be as fluent with 
computers and that sort of thing.
    Senator Durbin. Senator Allard.

                   STATEMENT OF SENATOR WAYNE ALLARD

    Senator Allard. Thank you, Mr. Chairman. I would like to 
make my statement a part of the record if I might, please.
    [The statement follows:]

               Prepared Statement of Senator Wayne Allard

    I would like to thank Chairman Durbin for holding today's 
hearing.
    The American people are no stranger to taxes or the IRS. 
The first income tax was enacted by President Lincoln and 
Congress in 1862, to help finance the Civil War. While this 
income tax was later repealed, today we have a tax code that is 
very cumbersome and in need of reform.
    Recently, I had the pleasure of meeting with several 
constituents from Colorado. We discussed a very troubling 
occurrence involving the IRS and many landowners in Colorado. 
In many of these meeting I heard how frustrating and 
intimidating it can be to deal with the IRS. American citizens 
should not live in fear of their government. Taxpayers have a 
right to expect honesty and integrity in their dealings with 
the IRS.
    According to the IRS' own mission statement, the IRS 
provides America's taxpayers top quality service by helping 
them understand and meet their tax responsibilities and by 
applying the tax law with integrity and fairness to all.
    For some time now I have been concerned by increasingly 
hostile IRS actions towards conservation easements. It would 
appear that the IRS is attempting to dramatically narrow the 
number of legitimate conservation easements by applying a 
standard that has been struck down by federal courts two 
different times.
    Colorado is a national leader in conservation, and it is an 
issue of great importance to our state's economy and quality of 
life. It is also critical to our farmers and ranchers whose 
lands provide important agricultural products, wildlife 
habitat, water resources, and scenic vistas our state is famous 
for.
    While I support investigation and enforcement of legitimate 
fraud, we must not target honest taxpayers, and Colorado's 
reputation should not be tarnished. There is a significant need 
for conservation easements in Colorado, and a few abuses should 
not end the charitable tax credit for everyone.
    I have been in communication with the IRS over this matter 
for some months. Therefore, I will follow up with our panel in 
more detail during our question and answer period.

                         CONSERVATION EASEMENTS

    Senator Allard. In Colorado one of the important programs 
that we have going there is conservation easements. It has been 
called to my attention that there has been a small amount of 
fraud. There is one person maybe, an assessor. But a large 
percentage of what is happening in Colorado I believe is 
probably not related to this limited fraud. Yet the reputation 
is spreading in Colorado that you are after the whole, meaning 
the Internal Revenue Service, is after the whole conservation 
easement process, period.
    The last figure I got was 250 potential cases that were 
identified by IRS and now you are up to 290. So my question is, 
you continue to identify these individuals, but how many of 
these audits or how many of these 290 potential violations have 
had audits where you have closed it and delivered a revenue 
agent report?
    Mr. Brown. I do not know the precise number of how many 
have been closed. I do know that your number is correct on how 
many are underway. I do know that of the ones I have been 
briefed on, they have found some instances of abuse, not across 
the board, but they have found some instances of abuse.
    Senator Allard. Yes. Well, some individuals that are 
involved, both ranchers and the environmental groups that have 
helped encourage conservation easements, have recognized that 
there was particularly one, a couple of guys or one guy that 
was involved with some problems. But if you look at their 
cases, they obviously were not areas where there was a 
conservation easement need. You could easily identify that.
    I would encourage you to try and, let us get these resolved 
as quickly as possible and make a quick determination how 
extensive this is, because it is creating some problems. So I 
am getting complaints back in my office on that.
    So the next question I have is, and this gets back to our 
conservation easement, what specific guidance does the Internal 
Revenue Service have in using to evaluate whether a 
conservation easement has conservation purpose?
    Mr. Brown. We publish forms and other booklets that offer 
tests. Generally it is a three-part test----
    Senator Allard. Can I interrupt you there?
    Mr. Brown. Sure.
    Senator Allard. Here is what I understand that you have 
stated on that issue. You say: ``The presence of endangered 
species has never been a requirement for a conservation 
easement.'' Then you go further down and you state: ``But the 
IRS also states endangered species are a factor that can 
demonstrate a conservation purpose.''
    So when you have individuals look at that, there is some 
confusion about how in the world you evaluate a conservation 
easement, because it seems to be a contradiction of fact there.
    Mr. Brown. Yes, and apparently when we did a briefing out 
there for people who are interested in taking these credits, 
the revenue agent was less than crystal clear, and I apologize 
for that. We will do our best to make sure that people do 
understand what is required here.
    Senator Allard. Yes, because we have--well, one of the 
areas of concern is the sage grouse. Well, the sage grouse in 
some parts of Colorado has been classified endangered. Well, 
it's the Gunnison grouse, and then there is the regular sage 
grouse, a similar bird. But it has not been classified as 
endangered by--it is not on the endangered species list, but it 
is recognized as one of the 10 most endangered birds in North 
America by the Audubon Society.
    So I guess the question comes up, well, how do you treat 
grouse habitat? So you can understand the vagueness on here, 
and the quicker we can get that clarified the more appreciative 
I think and the better compliance you will get from these 
processes that set up a conservation easement. If you could 
help us out on that I would appreciate it.
    Mr. Brown. We shall.

                          QUALIFIED APPRAISERS

    Senator Allard. Now, one of the problems is qualified 
appraisers also. I had one individual come in to me who had a 
qualified appraiser, he is touted as being one of the best in 
Colorado for appraisals. The State of Colorado was involved in 
it. They did their own appraisal work and everything. Then the 
Internal Revenue Service comes back and they say the appraisal 
is not right.
    So my question, so it brings up the question, are your 
appraisers truly qualified and do they meet the provisions that 
are defined in the Pension Protection Act--this was a bill 
signed into law by President Bush in August 2006--about 
following the uniform standards of professional practice? Do 
you have that qualified appraiser that visits with these folks?
    Mr. Brown. I believe all of our appraisers are qualified. I 
am going to go back and check and we would be happy to come up 
and brief you thoroughly on this.
    Senator Allard. You may believe them qualified, but I want 
to see whether they meet the qualifications that are laid out 
within that particular provision.
    Mr. Brown. We will be happy to get you that.
    Senator Allard. Okay, thank you.
    So I see my time is running out here. So I will come back 
up with some other questions. Thank you.
    Thank you, Mr. Chairman.
    Senator Durbin. Senator Nelson.
    Senator Nelson. Thank you, Mr. Chairman, and thank you to 
the witnesses who are here today to testify. My opening remarks 
and my questions will be brief. I am here today to listen to 
your testimony. I think you are very knowledgeable. As we work 
to close the tax gap, I have questions about what the taxing 
authority has such difficulty in collecting the taxes that are 
owed. The power of the IRS, as they say, it is better to sin 
against God than it is the IRS because God forgives. I do not 
for one minute understand why the taxing agencies have so much 
trouble collecting taxes.
    As Governor, I had a tax commissioner and I do not believe 
that we had the same level percentagewise of tax collection 
issues. So I have never understood it.

                        PRIVATE DEBT COLLECTION

    But I want to touch briefly on a subject that is of 
interest to me. The IRS private debt collection initiative is 
obviously going to come up for discussion. I have long 
championed the effort to include that and to include within 
that program a preference for hiring service disabled veterans 
and other persons with disabilities to perform the debt 
collection work. In hiring in the Federal Government, there are 
various preferences offered by other agencies and I have worked 
with people from your office and my staff has worked with 
people from your office to try to put in place as part of the 
debt collection process a preference, a small preference by 
comparison, for firms that hire a certain number of individuals 
who are disabled, severely disabled.
    What, if any, reservations do you have about including the 
disabled veterans preference program? I did get a letter saying 
that you were not sure, some time ago from someone in the IRS, 
saying that they were not sure that the process would be as 
good. I do not think they meant that disabled people could not 
do as good a job, but I did not understand what was meant, 
either.
    Maybe you can give me your ideas about where the IRS is on 
this program now?
    Mr. Brown. Well, the program is done exclusively through 
phone calls.
    Senator Nelson. I mean on the preference.
    Mr. Brown. Oh, on the preference. I am going to have to go 
back and take a look. I know that you have an interest in this 
and I do not know what the obstacles are. I cannot think of any 
at the moment, but I would have to go back and ask if there are 
any potential problems.
    Senator Nelson. I cannot think of any at the moment either. 
But some of your staff did have some questions and some issues 
that we have tried to overcome and work through. I appreciate 
if you would--I have spoken to Secretary Paulson. I have spoken 
to Mr. Everson and I have worked with so many to try to get it 
done. I understand bureaucracy. Bureaucracy is full of ``we 
bees"--we be here when you come, we be here when you go. And I 
want to move beyond that, to where we get a commitment to do 
the kinds of things that we should be doing.
    Other agencies are able to do it. I do not understand the 
reluctance that I picked up along the way. Now, we have had 
some cooperation recently, but I have been 1\1/2\ years working 
to get that done and we have had to go around to get it into 
other legislation. But we want to make sure that there is no 
opposition to that or, if there is opposition, that we can 
understand what it is.
    Mr. Brown. Yes, sir, we will look into this.
    Senator Nelson. Mrs. Olson--Ms. Olson, in your testimony 
you discussed the enormous amount of IRS resources that are 
devoted to supporting the private debt collection program. You 
say funding for the private debt collection initiative should 
be redirected to fund collection activity by IRS employees.
    If they have not been able to do it before, what is the 
change where they can do it now?
    Ms. Olson. Well, sir, I covered in my annual report that I 
issued in December 2006 seven issues that the IRS could be 
doing better with the authority that they have right now, that 
do not raise the serious issues of privacy and perhaps 
violation of taxpayer rights or constitutionality of 
outsourcing tax collection.
    I would note that my organization, the Taxpayer Advocate 
Service, has been a leader in the IRS in hiring disabled 
persons.
    Senator Nelson. I did not mean to suggest you were not.
    Ms. Olson. No, but what I am saying is that the IRS I 
believe can do better in hiring disabled persons itself. Those 
are not positions that would be here today or gone tomorrow. 
There is a good side to the ``we bees,'' which is that you have 
constancy in the position.
    Senator Nelson. Absolutely.
    Ms. Olson. So I believe that the IRS, with a 2 percent or 3 
percent real funding increase both in enforcement and taxpayer 
service, could be hiring many of these people and giving them 
secure and meaningful employment, without violating taxpayer 
rights or costing the Government money, 20 cents to 25 cents on 
the dollar. We do not cost that much.
    Senator Nelson. Well, the cost per collection is paying 
money out of money that you otherwise do not have. So at the 
end of the day there is a net gain, unless you could do it 
better a different way.
    One final thought. My time is running out here, but one 
final thought about this is that when it comes to privacy the 
issue generally of privacy has been handled at the State level 
because the States are outsourcing day in and day out and have 
had fairly good results in many cases. Foreign governments are 
today outsourcing. So outsourcing seems to have more legitimacy 
than I think you are giving it credit for. But if you could 
find a way to do what I am trying to do another way, I am 
interested. I can tell you that.
    Ms. Olson. Thank you.
    Senator Nelson. Thank you, Mr. Chairman.
    Thank you.
    Senator Durbin. Thank you, Senator Nelson.

            OBSERVATIONS OF GOVERNMENT ACCOUNTABILITY OFFICE

    Mr. White, what has the GAO found when it comes to the 
performance of the IRS as it relates to tax gap and efficiency? 
Can you give us your observations?
    Mr. White. Yes, Mr. Chairman. Let me talk about taxpayer 
service first. Over the last 8 to 10 years, we think we have 
seen a noticeable improvement in taxpayer service at IRS. If 
you look at things like telephone access, the ability to get 
through on the phones to a telephone assister, that is 
noticeably better than it was 8, 10 years ago. And the quality 
of the answers, the accuracy of the answers, is also noticeably 
better.
    In addition, there are new types of service, especially on 
the web site, that IRS is providing. So there are features on 
the web site now, such as where is my refund, that taxpayers 
can use to get answers to questions about their specific tax 
situation, that in the past they had to wait in a queue to get 
through to a live telephone assister. One of the beauties of 
the web site is that it is available around the clock 365 days 
a year. So that is the service side of the house.
    On the enforcement side of the house, we think that the IRS 
has made some progress on enforcement. The direct enforcement 
revenue has gone up. Things like the national research program, 
which has been a large effort to better understand compliance, 
do research on compliance, so that noncompliant taxpayers could 
be better targeted in the IRS's operational audits, which has 
two effects. It brings in more money; it also reduces the 
burden placed on compliant taxpayers because they do not get 
audited.
    On the other hand, the IRS's enforcement efforts are still 
on GAO's high risk list. We have got a $290 billion net tax gap 
out there and that has remained relatively constant in 
proportional terms for several decades now. So for that reason 
this area is still high risk.
    Senator Durbin. Mr. George, what would you say to that in 
terms of whether the IRS is aggressive enough on this tax gap 
and compliance issue?
    Mr. George. Mr. Chairman, I would say that they are doing a 
good job, but they could certainly do a better job, and that 
all of the tools that would be helpful in achieving this goal 
are not necessarily within the possession of the IRS. As was 
pointed out by an earlier witness, the complexity of the Tax 
Code is a major component of the reason why the tax gap is as 
large as it is. If you had a very simple Tax Code, we believe 
that people would be more inclined to abide by it. But given 
the fact that they do not necessarily understand their 
requirements, they do not necessarily pay what it is that they 
owe.
    As was pointed out by Mr. Brown, some of the proposals that 
the IRS has proposed would certainly help address the issue. 
For example, third party reporting. In the instance that he 
gave, it was related to the cost basis of stocks. That could be 
extended to various other components of the economy. Would it 
cost much more to do this? Most definitely. Would it achieve 
much more in terms of receipts to the Treasury? Most 
definitely. So this is a policy call that the Congress, working 
with the administration, needs to work out. But nonetheless, 
that among other ideas would certainly get to this issue.

                        PRIVATE DEBT COLLECTION

    Senator Durbin. Let me ask you, Mr. Brown, about this 
contracting out. This has come up a few times. I understand 
there are some private debt collection operations being used by 
the IRS. I understand that you terminated one company, 
Linebarger Goggans. Is that the name?
    Mr. Brown. Yes.
    Senator Durbin. Why were they terminated?
    Mr. Brown. At the 1 year mark of the contract, we had the 
right to unilaterally renew or terminate with regard to all 
three of the contractors. We had a high degree of confidence in 
two of them; we thought they were doing very, very well. We 
decided to continue with just the two of them. We thought that 
they were performing very well, honoring taxpayer rights, 
implementing the program the way we envisioned.
    With the third one, it is not to say that they were failing 
in some regard. They just, in our view, were not performing at 
the same level as the other two companies.
    Senator Durbin. You or someone, I think it might have been 
your testimony or someone else, noted with some pride that the 
cost of collection was down from 46 cents per $100 to 42 cents 
over the last--the third lowest figure in the last 25 years. So 
tell me what role you believe that contracting out plays if 
your collection rates internally are improving at this rate?
    Mr. Brown. It is work we would not get to. I mean, that 
really is the point of the program, that these are cases that 
we would not get to with our staffing. If you were to give us 
more staffing, these are not the cases we would turn to next.
    Senator Durbin. Would these be the more complicated cases?
    Mr. Brown. No, in fact it is the opposite. These are 
simpler cases. These are cases that really are going to be what 
we call ``full pays.'' The PCA can only do two things. They can 
either get the taxpayer to pay in full or they can get the 
taxpayer to pay in full over time.
    Senator Durbin. It sounds to me like those are the easiest 
ones for IRS employees to deal with.
    Mr. Brown. They are the easiest, but they are also--they 
tend to be smaller dollar and cases with a smaller degree of 
probability of success because of the age of the case and that 
sort of thing. We tend to work on cases that are more risky and 
higher dollar with our revenue officers.
    Senator Durbin. So what kind of cost comparison have you 
done between performing these services in house as opposed to 
contracting them out?

                     COMPARISON OF IRS TO PCA COSTS

    Mr. Brown. We are attempting to do that now and we should 
have some sort of good cost comparison later this year. I would 
note, though, that our employees have collection tools that are 
not available to the private sector. We have the power to file 
a notice of lien. We can file a notice of levy. We can levy on 
people's bank accounts. They do not have any of these 
authorities, so it is hard to do a complete apples to apples 
comparison.
    Senator Durbin. So do you think this decision on 
contracting out should be driven strictly on monetary terms? If 
the IRS can say to the taxpayers, ``we can hire employees to do 
this work and bring back more revenue to the Government at a 
lower cost than doing it contracting out,'' then you should 
hire employees as opposed to contracting out?
    Mr. Brown. I think we have a large problem with the tax gap 
and this is a slice of money that we are not going to get to 
any time soon.
    Senator Durbin. With the current workforce.
    Mr. Brown. That is correct. But also, we can only hire so 
many people so fast. We have sort of a rule of thumb at the 
IRS, between attrition and what we call initiative hiring. If 
we go beyond 15 percent, we hurt our current year's performance 
and we tend to start losing control of our training. And the 
IRS is a bad place to lose control of the training of your 
employees.
    Senator Durbin. Do you know what the training is at some of 
the private collectors?
    Mr. Brown. Yes.
    Senator Durbin. Well, it turns out the Buffalo Times 
described the training process for employees at one of the 
companies as a 2-week training course. Is that what you think 
is adequate for the job of collecting for the IRS?
    Mr. Brown. No. The IRS, though, has collection tools that 
are not available. These people in the private debt collection 
outfits can only write letters or make phone calls and enter 
into what we call full pay agreements with the taxpayer. So 
they are good at locating taxpayers, calling taxpayers, and 
then trying to convince them to pay in full.
    Senator Durbin. I do not want to dwell on this, but I do 
want a direct answer. Will you compare the cost of hiring new 
employees to do this as opposed to contracting out?
    Mr. Brown. We are in the process of doing that, sir.
    Senator Durbin. Good. Thank you.
    Senator Allard.
    Senator Allard. Thank you.
    I would like to follow up on that a little bit. You had two 
contractors who were performing very well, you were pleased. 
You had a third contractor who was not performing and you ended 
the contract. Now, if you have a civil--if you have three civil 
service employees and you have two of them that are performing, 
fine. But if you have one that is not performing, is it easy to 
dismiss them?
    Mr. Brown. It would depend on what you define as ``not 
performing.'' Generally it is----
    Senator Allard. You hit the problem right there. I mean, 
your response was it is very difficult because you cannot 
define it. I can tell you that I have had numerous complaints 
to us over the years, being in both the House and here, from 
nonperforming Federal employees. And you ask about disciplinary 
action: Well, we cannot do that, we cannot take care of them; 
they are protected by the civil service system.
    So here you had a nonperforming entity. You took care of it 
with a contract and now you can replace it with a performing 
entity. It seems to me like there is a cost there that I hope 
gets figured into the figures. And I just wanted to make that 
point.

                         CONSERVATION EASEMENTS

    I want to get back to what we were talking about with the 
conservation easements. We were talking about auditing. How 
many cases--okay. What are the methods the IRS is using to 
expedite the process of resolving the cases? I do not know as I 
got that question put to you. Do you have a response to that?
    Mr. Brown. Well, they are underway. It sort of depends. It 
is a complicated answer. But if it is a valuation question and 
it is an appraiser versus an appraiser, those tend to take 
longer. If it is a question of an interpretation of whether the 
easement was entered into for proper legal purposes, it is a 
more straightforward answer and those cases can be resolved 
more quickly.
    Senator Allard. Okay. If you can get us some more specifics 
on that, I would appreciate it very much.
    Mr. Brown. We would be happy to.
    [The information follows:]

    The Service's engineering staff analyzed the sales of 
several Colorado properties encumbered with conservation 
easements to determine if commonalities exist among these 
properties. This analysis has been used as a guide in 
determining the accuracy of claimed valuations of the donated 
conservation easements.
    The Service has also improved coordination between the 
Examination personnel and the Foresters and Engineering staff; 
as a result, revenue agents typically issue examination reports 
to taxpayers within two weeks from the date on which the agents 
receive the associated engineering valuation report. In 
addition, we have assigned some of our appraisers to work full-
time on these cases. Where cases involve only a valuation 
issue, we are exploring all available administrative 
resolutions.
    To better educate IRS personnel on the issues involved in 
conservation easements, we have implemented a web-based 
training module. We also continue to conduct workshops with 
field personnel and to provide technical guidance to those 
employees working conservation easement returns.

    Senator Allard. Okay. Then I have been told by a 
constituent in Colorado that the IRS has been asking audited 
landowners for a second extension of the statute of appeals for 
their case. Can you confirm that?
    Mr. Brown. I am not aware.
    Senator Allard. You will have to answer that question?
    Mr. Brown. We are going to have to answer that.
    [The information follows:]

    Our field personnel have requested statute extensions on 
193 Colorado returns and second statute extensions on 45 of 
those returns. For the majority of returns for which we have 
sought only one extension, the statute of limitations will 
expire on April 15, 2008. Therefore, we expect to request 
second extensions for many of these returns. In addition, many 
returns require an extension while in Appeals or in the TEFRA 
Suspense Unit.
    Requests to extend the statute--even a second time--are not 
unusual in valuation cases, because valuation issues often 
require more time to resolve than other issues.

    Senator Allard. Okay, very good.
    Well, that is pretty much--the final question: Do you have 
any expectations of when you might conclude those 
investigations that are going on in Colorado right now?
    Mr. Brown. As quickly as possible, and we will come back to 
you with a more detailed answer on that.
    Senator Allard. I would appreciate that.
    [The information follows:]

    We do not have firm closure dates on any of the returns 
currently in process. Each property is unique and therefore we 
cannot merely apply positions taken in previous cases to 
subsequent cases without additional work. Rather, we must 
inspect, evaluate and consider each case on an individual 
basis, including conducting interviews with the donors and 
contacting third parties, as necessary. There are approximately 
170 open cases that need appraisals of which 145 involve only a 
valuation issue. Of the 170 cases awaiting appraisals, we 
currently expect to complete appraisals for approximately 150 
cases by March 2008 and the remaining 20 cases by August 2008.

                    INFORMATION SHARING WITH THE SSA

    Senator Allard. Now, getting back, there was a question on 
identity theft by Senator Nelson from Nebraska. One of the 
problems I have run into is the sharing of information. Even 
though in the Homeland Security Department we tried to break 
down these stovepipes so there was some sharing of information, 
I have run across the situation, I have been informed that the 
Social Security Administration does not share their information 
with Homeland Security. The question I have to you is that if 
there is fraud do they share that information with you, and do 
they communicate? Does the Social Security Administration 
communicate openly with the Internal Revenue Service on this?
    Mr. Brown. I am going to have to go back and get an answer. 
Social Security can share information with us. Going the other 
way, we have a prohibition in the Internal Revenue Code called 
section 6103 that prohibits us from sharing tax return 
information with other organizations without specified law 
enforcement purposes.
    Senator Allard. I can understand that. But here is the 
problem that has been called to my attention by Secretary 
Chertoff and others, is that lots of times a taxpayer will not 
know that his ID has been stolen until a revenue officer knocks 
on his door maybe 3 or 4 months after his ID has been stolen--
he did not know it--and he says, why are you not paying all of 
your taxes?
    So I am trying to figure out why we cannot get an earlier 
notification to the taxpayer that there is some irregularity 
showing up on that ID using the Social Security number. Do you 
have any comment on that?
    Mr. Brown. Well, it does happen, there are some delays. 
Generally we wait for a return to be filed, and then if W-2s 
are coming in with the wrong Social Security number, indicating 
that you have got, for example, more income than just what your 
Senate salary is, we then have to unravel it. That generally 
involves contacting the taxpayer, having the taxpayer 
authenticate that he really is the proper owner of the Social 
Security number and somebody else is misusing it.
    It generally is a process that takes several months to 
unravel. We need to do better at this.
    Senator Allard. Now let us turn it around. If the Social 
Security happens to get, they have the same number come in and 
all of a sudden they find that there are two names on the same 
number, are they notifying you?
    Mr. Brown. We do receive information from Social Security 
on that.
    Senator Allard. So that is getting shared with you, because 
I have been told that there might be some language in 
legislation somewhere that prevents that from happening.
    Mr. Brown. I am not aware of that, but we will get back to 
you.
    Senator Allard. Research that.
    Mr. Brown. We will research that for you.
    Senator Allard. Will you please, because if it is there I 
think that is a stovepipe we need to break down. I know there 
is this issue of identity and privacy, but if somebody has 
stolen your ID you have already lost your privacy and you do 
not want the victim to be victimized time and time and time 
again because of some provision here that prevents us from 
getting an early resolution on the victim and what has happened 
to the Social Security number.
    Mr. Brown. Yes, sir. We will get back to you on that.
    [The information follows:]

    We are not aware of any legislation that prohibits SSA from 
sharing information with IRS when they determine that the same 
SSN is being used by more than one individual. For example, the 
Combined Annual Wage Reporting System (CAWRS) MOU between IRS 
and SSA states ``SSA will convert the wage data to electronic 
format where necessary and furnish IRS with this data and 
validated SSNs and names where possible, or indicate which 
SSNs/names are not valid.''
    We generally find out that two taxpayers are using the same 
Social Security Number when a tax administration issue arises. 
Most of these cases are resolved in conjunction with the SSA 
through the Scrambled SSN process.
    The Strategic Plan from the President's Task Force on 
Identity Theft briefly discusses the various laws that regulate 
the sharing of SSN information.
    No single federal law regulates comprehensively the private 
sector or government use, display, or disclosure of SSNs; 
instead, there are a variety of laws governing SSN use in 
certain sectors or in specific situations.
    In the public sector, the Privacy Act of 1974 requires 
federal agencies to provide notice to, and obtain consent from, 
individuals before disclosing their SSNs to third parties, 
except for an established routine use or pursuant to another 
Privacy Act exception \1\. A number of state statutes restrict 
the use and display of SSNs in certain contexts \2\. Even so, a 
report by the Government Accountability Office (GAO) concluded 
that, despite these laws, there were gaps in how the use and 
transfer of SSNs are regulated, and that these gaps create a 
risk that SSNs will be misused.\3\
---------------------------------------------------------------------------
    \1\ 5 U.S.C.  552a.
    \2\ See, e.g., Ariz. Rev. Stat.  44-1373.
    \3\ Social Security Numbers: Federal and State Laws Restrict Use of 
SSNs, Yet Gaps Remain, GAO-05-1016T, September 15, 2005.
---------------------------------------------------------------------------

                        PRIVATE DEBT COLLECTION

    Senator Allard. Okay, thank you.
    I guess my time is used up, Mr. Chairman.
    Senator Durbin. I would like to--there is one fact that I 
left out of this question or this conversation about private 
debt collection which is important. I think you have said, Mr. 
Brown, that the debts that are being collected by the private 
agencies are the easier ones; the more complicated debt 
collections are taking place within the Internal Revenue 
Service. Is that correct?
    Mr. Brown. Yes.
    Senator Durbin. And then the numbers you have given us are 
that it costs 42 cents to collect every $100 of tax revenue in 
these more complicated cases. Can you tell me how much the 
private debt collection companies charge the Federal Government 
on the easier cases for every $100 they collect?
    Mr. Brown. Well, the commissions to date have been running 
about 18 to 19 percent.
    Senator Durbin. So the comparison figures would be roughly 
42 cents to $19 for every $100 collected?
    Mr. Brown. Well, again the comparisons are not pure. We 
have collection tools that they do not have available to them. 
They make outbound phone calls. Most of our calls are inbound. 
We get people's attention. We tell you we are about to levy on 
your bank account, you tend to call us. You tend to react. They 
do not have any powers other than the powers of persuasion by 
calling you and writing you letters.
    Senator Durbin. But you are suggesting then that that 
explains why they are charging 40 times as much as a person who 
works for you?
    Mr. Brown. Well, I think the premise of the program was 
that these were dollars we were not otherwise going to get to 
collect. We did not have sufficient resources to get to this 
slice of debt.
    Senator Durbin. I think we are back to the same circle. 
These are the easier dollars to collect, with employees you 
could collect them. You are contracting out and paying 40 times 
as much for every dollar collected for the Treasury. So I just 
want to put it in that perspective because there was an image 
created of people who were at their desks not performing, where 
it turns out that the people who were at their desks are 
performing a lot better than the private collection agencies.
    Mr. Brown. Our employees do very well in terms of 
collecting money. I am not disputing that point. We think we 
are the finest in the world at collecting money.

                   PROTECTION OF PERSONAL INFORMATION

    Senator Durbin. Let me move to the issue of privacy, which 
Senator Allard has alluded to. Could you tell me about concerns 
that you might have over the protection of privacy information, 
personal information, of those who are dealing with the 
Internal Revenue Service?
    Mr. Brown. Yes. We are extraordinarily worried about this 
sort of thing. We have 52,000 employees that have laptop 
computers and we have a far-flung workforce that is out in the 
field every day attempting to collect taxes and undertaking 
audits of taxpayers. We have had a concerted effort and we have 
now managed to encrypt, fully encrypt, every laptop that is 
issued to an employee. There is no human element. If the laptop 
is lost, the information is now encrypted and cannot be 
accessed.
    Senator Durbin. If I am not mistaken, the inspector general 
has just issued an audit report. Can you tell us what you found 
about computers at the IRS?
    Mr. George. Yes, Mr. Chairman. We issued this report last 
month, which found approximately 490 laptops and other personal 
devices were lost. We estimate those items contained 
approximately 2,800 personally identifiable information on 
taxpayers, and that is an estimate; that the procedures that 
were to be followed in terms of reporting the losses were not 
necessarily followed in many of the cases; and that this was 
again a statistical sampling, so we do not know the exact 
extent of the problem.
    But the bottom line is it only takes one computer, laptop, 
BlackBerry, what have you, to truly cause disruption in 
someone's life.
    Senator Durbin. Mr. Brown, after you learned this what did 
you do?
    Mr. Brown. Well, this is what we did. We undertook this 
effort to encrypt every laptop and also to make sure that data 
exchanges with States and cities and that sort of thing were 
also secured properly.

                       ESTATE AND GIFT ATTORNEYS

    Senator Durbin. I would like to ask you a question if I 
might about, there was a disclosure recently. The 
administration announced its intention to eliminate the jobs of 
nearly one-half the lawyers at the IRS who audit tax returns 
for those subject to gift and estate taxes by October of last 
year. Did that happen?
    Mr. Brown. Actually what the IRS did was offer a buyout, 
and 86 estate and gift tax employees out of a workforce of 
several hundred did raise their hand and actually availed 
themselves of that buyout.
    Senator Durbin. The report we have is that these estate tax 
lawyers are responsible for overseeing audits of estate tax 
filings, which are the most productive and cost effective 
audits in the entire Internal Revenue Service system, 
generating approximately $2,200 for taxpayers in unpaid tax 
funds every hour that they go to work.
    So how do you feel, or do you feel that the elimination of 
attorneys doing this audit work on estate taxes is going to 
help us narrow the tax gap and help us increase compliance?
    Mr. Brown. The average is about $2,200 per hour per audit. 
The median is about $200. Ten percent of the audits generate 90 
percent of the work. Not every audit is a productive audit. The 
trick is to make sure we are working on that 10 percent and 
make sure we have very good coverage of those cases so that we 
garner the most dollars.
    The idea is to take the 86 bodies and shift them to high 
income audits in other areas where we also tend to do very well 
in terms of dollars per hour.
    Senator Durbin. Better than $2,200 an hour?
    Mr. Brown. In some categories we do. Audits over $1 
million, we tend to do as well.
    Senator Durbin. What is the signal? One time you tell us 
you want to make a felony out of willful failure and then the 
signal is we are going to have fewer auditors in certain 
divisions. What is the signal to those who are filing returns 
in those divisions?
    Mr. Brown. The signal is that we want to maximize the use 
of our resources and where 90 percent of your audits are not 
productive audits, we want to go to where we have places where 
we have what we call lower no-change rates.
    Senator Durbin. I think it is a mixed signal.
    Mr. Brown. I would have to disagree. I think that where 
only 10 percent of your audits are really counting, we want to 
go to a place where a much higher percentage is counting.
    Senator Durbin. Senator Allard.
    Senator Allard. Thank you, Mr. Chairman.
    Nina Olson, you have not answered any questions. I hate to 
see you get by with that.

                           ID THEFT AND TAXES

    You have made in your comments that you wanted to maximize 
voluntary compliance. I look at your mission statement, which I 
think says a lot differently. And when you think about it, they 
mean a lot differently. Your mission statement that you have 
with the Internal Revenue Service says ``Helping taxpayers to 
understand and meet the tax responsibilities by applying tax 
law with integrity in fairness to all.''
    This brings me around to, what happens to a victim when we 
have the identity theft and they are assessed this tax? Do you 
have them plugged into the computer and the computer keeps 
kicking out these notices that you owe the money, or is there 
some attempt to quickly resolve this problem that you have with 
the individual whose ID has been stolen? How is that handled?
    Ms. Olson. Well, first I would like to say my 
organization's mission is ``Help taxpayers solve their problems 
with the IRS.'' So I have a sub-mission here.
    Senator Allard. Okay.
    Ms. Olson. And many of our cases are, we have a fair number 
of identity theft cases. What generally happens is if someone 
else is using a Social Security number that belongs to the 
taxpayer, say on a W-2, that that W-2 will be processed through 
Social Security and eventually the IRS will get that 
information, and we will look to see whether those dollars show 
up on the true Social Security number owner's tax return. When 
we do not see those dollars there because the taxpayer did not 
earn them, they are not his or her dollars--somebody else did--
we will send--we do not know that yet. We have to send that 
taxpayer a notice saying: You did not put dollars on that you 
should have; come in and talk to us.
    The problem there is that we--until we do that notice, we 
will not know that there has been some act of identity theft. 
What then happens with the taxpayer unfortunately is sometimes 
they get caught in the IRS and IRS employees are not able to 
straighten out quickly who is the correct owner of the income 
of that Social Security number, and they are asked to supply 
lots of information.
    Once we determine that this taxpayer owns that number, we 
still have to work with Social Security to make sure that, if 
it is even more confusing, that Social Security does not freeze 
that number and cause the taxpayer to use a temporary number. 
And we have no control over that.
    In other instances--and I think this is something that----
    Senator Allard. Can you communicate with Social Security?
    Ms. Olson. We do communicate with Social Security. On a 
case-by-case basis, IRS employees and Taxpayer Advocate Service 
employees communicate with Social Security on a case-by-case 
basis.
    We have also been trying, the IRS Identity Theft Office has 
been trying to come up with a list of documents that either IRS 
will accept or that Social Security will accept, saying this 
taxpayer owns this number, or even giving us the authority to 
say, yes, we have looked at these documents, we think this is 
the taxpayer's own number, so we can move on.
    Senator Allard. I would encourage you to move forward on 
that, because in 3 years and then all of a sudden to have 
somebody at your door. And then sometimes they spend lots of 
money just to get an accountant, to come back. And they do not 
work cheaply.
    Ms. Olson. Right.
    Senator Allard. So it seems to me like somehow or the other 
it would be appropriate if we could give--if they have to hire 
professional help, for example, are they allowed to write that 
off as an expense or not?
    Ms. Olson. It would probably be for an individual a 
miscellaneous itemized deduction. I do not know how identity 
theft would come up in a business, but it could be a business 
expense.

                     RELIEF FROM ID THEFT EXPENSES

    Senator Allard. That is what I am trying to figure out, if 
there is--maybe we need some legislation that would give those 
kind of individuals some relief.
    Ms. Olson. I think something that is very important that 
the IRS is working on is, once we know that somebody's number 
has been compromised we put an indicator on our accounts for 
future years, because often once the number is out there we are 
going to see W-2s coming----
    Senator Allard. Yes, you are going to see more coming 
through.
    Mr. George. Then we could at least, instead of sending an 
auditor out to that person or a letter out saying, you owe us 
money, saying we are seeing this happen again. I think we need 
legislative authority for that, to communicate in that way. But 
we can at least know internally that that taxpayer is not 
earning that money.
    Senator Allard. I might have my staff work with you on 
that. That might be some common sense legislation that we can 
work on and maybe help those that are suffering from this 
crisis that occurs with identity theft if we can help them out.
    I see my time just expired.

                   ELECTRONIC FRAUD DETECTION SYSTEM

    Senator Durbin. I would like to ask one last question. Mr. 
Brown, it appears that there was some lapse in terms of the 
systems that were being used, the electronic systems being 
used, and according to the inspector general $318 million in 
fraudulent refunds were issued in May of last year. Could you 
tell us what you are doing to recover that money?
    Mr. Brown. Well, we are not going to be able to recover the 
majority of that money. What you are referring to is the 
electronic fraud detection system that stops fraudulent 
refunds, what we deem fraudulent refunds, from going out. And 
once the money is out, it is extremely difficult to recover.
    That system did not come up. We had a mistake there that 
should not have occurred and we have taken action both with the 
contractor and with our employees to make sure that does not 
happen again. The system did come up on schedule this year and 
it is functioning properly this year.
    Senator Durbin. But no effort was made to recover the 
money?
    Mr. Brown. There has been some effort, but it is extremely 
difficult to recover the money once it is gone.
    Senator Durbin. There was also the hiring of some 
consultants, as I understand it, to--perhaps the inspector 
general can comment on this. Are you familiar with it?
    Mr. George. Not about the hiring of consultants, except for 
MITRE Corp., to look at what occurred in the past and to look 
at what they were attempting to do to remedy the situation.
    But Mr. Chairman, this is symptomatic of a problem that has 
historically troubled the IRS. Most of their purchases and 
efforts to modernize their systems have been behind schedule, 
have cost more than were contracted for, and have failed to 
deliver what was promised. This, the EFDS, as they call it, 
electronic fraud detection system, was certainly an example of 
that.
    Senator Durbin. Mr. Powner, you have not had a chance to 
speak and I think this is your area of expertise. What would 
you say?
    Mr. Powner. Well, if you look at the EFDS system and what 
happened with that, it was a little bit different. We oversee 
the business system modernization program for this committee 
and if you look at how this business systems modernizations are 
overseen from a project management and governance perspective, 
there is a lot of oversight that occurs. EFDS was actually 
flying under the oversight radar screen, so executives were not 
engaged on this system.
    A couple things happened incorrectly. One is the system did 
not work when they deployed it, but you could not reactivate 
the legacy system. That is also a basic 101 misstep when you 
are deploying a new system. So there are several missteps that 
occurred here, not only with deploying the new one, but they 
could not reactivate the old system.

                   TECHNOLOGY IMPROVEMENTS AT THE IRS

    Senator Durbin. So step back from this particular case and 
tell me what your general impression is of the technology 
improvements at IRS?
    Mr. Powner. Well, in terms of the business systems 
modernization, that is an area where IRS has improved 
significantly over the years. Now, are there still concerns 
there? Yes, absolutely. If you look at the latest release of 
the CADE, which is really the linchpin for the modernization, 
we were late, the IRS was late on that, and there are cost 
overruns and schedule slippages that are still ongoing.
    If you compare that historically, though, they have 
improved dramatically over the years. Now, are we still 
concerned going forward? Yes, we are concerned because there 
still is not the basic internal management capacity to manage 
the modernization effort that you would like to see, and the 
complexity is only going to increase over time.
    Senator Durbin. Mr. Brown, would you like to have the last 
word on that?
    Mr. Brown. I think the assessment is accurate. We have done 
a much better job over the years, but we have occasional slip-
ups. This was one where we did not exercise proper management.
    Senator Durbin. Well, thank you for your testimony and your 
candor on that.
    Do you have another question?

         COLLECTION NOTICES FOR DELINQUENT DEBT OF $100 OR LESS

    Senator Allard. Yes, Mr. Chairman, I have just one issue I 
would like to follow up on. This is the amount of collections 
where you send out notices where the amount owed is $100 or 
less. I think we sent you a request on this earlier and you 
said that was impossible to determine. Well, do you not have a 
computer that is capable of sorting out due amounts of $100 and 
less? Can you get us a total number on that?
    Mr. Brown. Yes. It is roughly 5.2 million notices were sent 
out last year for less than $100.
    Senator Allard. 5.2 million, okay. Then what do you do with 
the $100 or less? Do you--these get turned over to collectors? 
Is that what they do? You send out a notice, I am assuming you 
send out a notice, and then how many respond on those?
    Mr. Brown. I do not have the precise numbers. We are not 
able to tell you how many dollars come in, but the vast 
majority. And remember, it is not----
    Senator Allard. Most of them respond?
    Mr. Brown. Most, the vast majority respond. If they do not 
respond, if they are getting a refund in the following year, we 
would offset the refund. There are other ways to get the money.
    Senator Allard. I see. Okay. Well, here is one of the 
things that I have had explained as a frustration. I have had 
taxpayers say, well, we--they claimed we owed a certain amount, 
it was under $100, it was $50 or $75, and to go to our 
accountant and have him hassle with the IRS just costs us money 
or it costs us to deal with it, so we are just going to pay it.
    So there is, somehow or the other there is a balance there. 
I am trying to figure out where you feel that balance is.
    Mr. Brown. Many of the notices are generated by things like 
math errors. You simply added up the columns incorrectly. You 
added it, it came to $600 of income and the math actually 
should be $800 of income, and therefore you owe us another $50. 
So they are relatively straightforward things and most 
taxpayers I think see that and just comply.
    Senator Allard. The more of them that use these computer 
programs, I would think math errors are less.
    Mr. Brown. We are very much in favor of those automated 
programs.
    Senator Allard. Turbotax is not too difficult to use.
    Mr. Brown. They take the error rate down to----
    Senator Allard. Maybe you need Turbotax, Mr. Chairman.
    But those type of programs, yes.
    Well, I am interested in knowing some statistics about how 
many you send out and how many respond on the first notice and 
what percent then--of those that are left, what happens to that 
after that.
    Mr. Brown. We will get you those, sir.
    Senator Allard. Very good.
    Mr. Chairman, thank you.

                     ADDITIONAL COMMITTEE QUESTIONS

    Senator Durbin. Thank you very much, Senator Allard.
    Thanks to all the members of the panel. The record will be 
open for a week. There may be some questions submitted to you. 
I appreciate your testimony.
    [The following questions were not asked at the hearing, but 
were submitted to the Department for response subsequent to the 
hearing:]
                   Questions Submitted to Kevin Brown
            Questions Submitted by Senator Richard J. Durbin

                     TAXPAYER ASSISTANCE BLUEPRINT

    Question. Improving taxpayer service is an important part of a 
comprehensive strategy to reduce the ``tax gap'' by helping taxpayers 
understand and meet their tax obligations.
    On April 11, 2007, the Taxpayer Assistance Blueprint, Phase 2 was 
published. This Blueprint is the joint response of the IRS, the IRS 
Oversight Board and the National Taxpayer Advocate to comply with a 
Congressional mandate for the development of a five-year strategic plan 
for the delivery of taxpayer service.
    The Senate Report that established the five-year strategic plan 
directive for taxpayer service delivery provides detailed requirements 
for the content of the plan, including a strong urging that the IRS use 
innovative approaches to taxpayer services including mobile units and 
virtual technology.
    Does the Blueprint include proposals for activities such as these?
    Answer. The Taxpayer Assistance Blueprint (TAB) recommendations are 
grounded in extensive research regarding taxpayer needs, preferences, 
and behaviors. Factors that influence taxpayer's choice of service 
delivery channels include: the specific type of service sought, 
demographic characteristics, awareness of channels, access to channels, 
habit, and channel performance. TAB research indicates that taxpayers 
generally prefer self-assisted services, such as those found on the IRS 
website, most often for transactional tasks like obtaining a form or 
making a refund inquiry. Taxpayers prefer assisted services, such as 
those available through telephones or Taxpayer Assistance Centers, most 
often for more complex interactive tasks, like responding to a notice. 
Telephone lines and the IRS website account for approximately 85 
percent of all channel contacts for the common service tasks surveyed. 
Investments that respond to this differentiated service approach in the 
two primary delivery channels will increase both taxpayer defined 
preference and value, and government value with efficiency gains. In 
contrast, the IRS Oversight Board 2006 Taxpayer Attitude Survey 
indicated that in response to the question ``how likely would you be to 
use each of the following services for help with a tax issue?'' 24 
percent of taxpayers indicated that it was ``very likely'' that they 
would use a tax assistance van, compared to 58 percent for toll free 
telephone services and 51 percent for the web channels.
    In view of this research, the TAB Strategic Plan focuses on 
enhancing the IRS website so it becomes the first choice of more 
taxpayers, while improving telephone service performance, increasing 
assistance to external partners (the source of the majority of 
prefiling and filing services), enhancing outreach and education to 
targeted populations, and improving the marketing of channel 
alternatives--specifically the electronic channel.
    As noted below, virtual technology will play an increasingly 
important role in service delivery. The TAB envisions continued 
research on taxpayer expectations for and interest in virtual service 
delivery channels such as Voice over Internet Protocol and Text 
Messaging. Also, in recognition of the unique challenges presented by 
the face-to-face service environment, the TAB Strategic Plan recommends 
development of a Facilitated Self-assistance Model to provide taxpayers 
coming to a Taxpayer Assistance Center (TAC) the option of using self-
assistance workstations to resolve their tax issues. The TAB Strategic 
Plan also calls for a TAC Geographic Footprint Initiative that includes 
a detailed process to analyze existing TAC locations for effectiveness 
in meeting service demands and using the process to make future 
investment decisions, including the relative value of mobile units or 
other alternative service delivery options.
    Question. Please share some examples of innovative approaches the 
IRS is currently using or developing to meet taxpayer service needs.
    Answer. The IRS has developed an effective business model for 
alternate service delivery to individuals challenged by income, 
language, age, or disability to meet their Federal tax obligations. The 
Stakeholder Partnerships, Education and Communication (SPEC) function 
supports over 300 community-based coalitions and thousands of local 
partnerships to extend outreach and assistance services. As a measure 
of this model's success, the United Way of America recently announced 
they were investing $1.5 billion over five years in this partner-based 
initiative. Virtual technology will play an increasingly important role 
in service delivery. TAB included a prospective virtual technology 
application, interactive web services, in its conjoint or ``trade off'' 
research. The Taxpayer Services Program Management Office, the function 
tasked with facilitating the implementation of TAB recommendations, 
will continue research on taxpayer expectations for and interest in 
virtual service delivery channels such as Voice over Internet Protocol 
and Text Messaging. In addition, TAB recommends enhanced alternate 
service delivery capabilities through increased support to its 
extensive community-based partner network and exploration of greater 
Federal Agency partnering and coordination to create shared service 
infrastructure.

              DELIVERY OF INTERACTIVE TAXPAYER ASSISTANCE

    Question. As an element of the Taxpayer Assistance Blueprint, the 
IRS recommended a migration strategy to move taxpayers away from 
Taxpayer Assistance Centers (TACs) and toward electronic, self-assisted 
services. I understand the IRS plans to implement these Facilitated 
Self-Assistance Models in 15 selected sites, including two locations in 
my home State of Illinois. Under the model, taxpayers who come to the 
TACs for in-person help will be directed to in-house telephones and 
computers where they can access both the IRS website and phone 
assistors.
    The National Taxpayer Advocate's Report to Congress for 2006 
provides some data drawn from the IRS Oversight Board's 2006 Service 
Channel Survey. I think it elucidates the concern that migrating away 
from Taxpayer Assistance Centers (TACs) may be problematic. It states:

    ``Nearly 25 percent of taxpayers do not have Internet access, with 
more than twice as many taxpayers over 60 not having Internet access as 
those 60 or younger. Approximately 75 percent stated they were not 
secure sharing personal information via the Internet. Among taxpayers 
who have used IRS services in the last two years, about 45 percent of 
those who called IRS and more than 75 percent of those who visited the 
IRS stated that they would not use the IRS website.''

    How do you respond to concerns that migrating to self-assisted 
center may be laying the groundwork for an expanded effort to move 
persons away from face-to-face interactive contact and toward telephone 
and Internet access?
    Answer. The Taxpayer Assistance Blueprint (TAB) recommendations are 
grounded in extensive research regarding taxpayer needs, preferences, 
and behaviors. TAB research indicates that taxpayers generally prefer 
self-assisted services, such as those found on the IRS Web site, most 
often for transactional tasks like obtaining a form or making a refund 
inquiry. Taxpayers prefer assisted services, such as those available 
through telephones or Taxpayer Assistance Centers (TACs), most often 
for complex interactive tasks like responding to a notice. Telephone 
lines and the IRS website account for approximately 85 percent of all 
channel contacts for the common service tasks surveyed. The TAB 
recommendation is to differentiate transactional and interactive 
service tasks within the TAC and satisfy them with effective, but 
different resources.
    Question. Wouldn't a plan to scale back the number of TACs or 
replace them with self-help centers be an unwise cutback in customer 
service and a step backwards in achieving the goal of increasing 
compliance and shrinking the tax gap?
    Answer. Rather than ``self-help'' centers, TACs would become 
portals where skilled and expensive staff resources would be applied to 
complex service issues and transactional tasks would be satisfied by 
effective, but less costly, web or phone applications. This 
differentiated approach conforms to growing private and public sector 
practices, responds to taxpayer defined value, addresses service 
performance in areas such as wait and service times and first contact 
issue resolution, increases service efficiencies, and has a potential 
positive impact on compliance.
    The IRS plans to implement a limited deployment of the Facilitated 
Self-assistance Model at 15 locations in 2007 that will allow us to 
assess the effectiveness of this service delivery model. Adequate 
staffing, space, and technological infrastructure were considered in 
selecting these initial 15 locations. Demographic and geographic 
diversity were also analyzed to ensure adequate sampling for research 
and data gathering.

                        PRIVATE DEBT COLLECTION

    Question. Is the private tax debt collection initiative generating 
greater returns at a lower total cost than the alternative of providing 
the IRS the additional resources it would need to collect the same tax 
debt on its own?
    Answer. Overall, the IRS's Return on Investment (ROI) is about 4 to 
1. ROI resulting from IRS enforcement programs ranges from $3 to $14 
for every additional $1 invested, depending on the type of enforcement 
activity. For example, labor-intensive activities such as the 
Collection Field Function have lower ROIs, and automated activities 
such as Automated Underreporter have high ROIs.
    We are performing a cost effectiveness study as recommended by GAO 
and in cooperation with the Taxpayer Advocate Service (TAS) in order to 
evaluate the program's impact on the collection of delinquent taxes and 
to serve as a comparison for program alternatives. We will issue the 
report from this study to GAO in August 2008. We project that the 
Private Debt Collection (PDC) ROI will range from 3.2:1 to 3.6:1 in 
fiscal year 2007 and from 4.0:1 to 4.3:1 in fiscal year 2008.
    Question. If the initiative were eliminated, what steps could the 
IRS take to collect the tax debt that the private collection agencies 
were pursuing under their contracts and would sufficient resources be 
available to allow the IRS to take any (or all) of these steps?
    Answer. If the program were eliminated, the IRS would continue to 
apply available resources to the highest priority work. Since these 
cases have already been through lower cost methods of collections at 
the IRS, they would remain unworked. The IRS would need a significant 
influx of resources over a number of years to be able to work enough 
inventory to get to these lower priority cases currently eligible for 
PCA placement. The President's Fiscal Year 2008 Budget request does not 
include funds to hire IRS workers to replace Private Collection Agency 
(PCA) employees should the Congress eliminate the program.
    Question. What is the cost to the IRS of managing the initiative 
and processing cases that the private collection agencies cannot 
handle?
    Answer. The projected fiscal year 2008 cost for administration of 
the PDC program is $7.35 million. We project that PDC will breakeven in 
April of 2008, including all start up costs. Of the $7.35 million, 
$5.84 million is for managing the initiative and consists of costs for 
the Referral Unit, Oversight Unit, Project Office, and Project Office 
contractors. The remaining $1.51 million is for IT costs.
    The PCAs are not assigned cases that meet criteria outside of their 
authority. These cases have already been through lower cost methods of 
collections at the IRS, and would remain unworked and uncollected if 
not assigned to the PCAs. However, there may be instances where the 
taxpayers make a decision about their account that causes the return of 
the case to the IRS (e.g., Offer in Compromise, Innocent Spouse status, 
Insolvency, Disaster relief) and the IRS works on a case originally 
assigned to a PCA. In these instances, the returned PCA cases are 
processed according to IRM procedures in the appropriate function of 
the IRS. There are other situations where the IRS Referral Unit (RU) 
must work an account because the taxpayer opted out of working with the 
PCA or entered into an installment agreement that was beyond the PCA's 
authority to monitor. As of the end of April 2007, 37,689 cases were 
assigned to the PCAs and approximately 220 (0.6 percent) requested to 
opt out of the program or entered into an installment agreement beyond 
PCA authority. Given the small number of these requests, no additional 
costs are required beyond what has already been budgeted for the RU.

                           ELECTRONIC FILING

    Question. Section 2001 of the Internal Revenue Service 
Restructuring and Reform Act of 1998 (Public Law105-206), specifies 
that it is the policy of Congress that paperless filing should be the 
preferred and most convenient means of filing Federal tax and 
information returns, it should be the goal of the Internal Revenue 
Service to have at least 80 percent of all such returns filed 
electronically by the year 2007, and the Internal Revenue Service 
should cooperate with and encourage the private sector by encouraging 
competition to increase electronic filing of such returns.
    It is now 2007. What are the experiences with e-filing?
    Answer. Based on the July 2006 results of our market research study 
called Findings From the 2006 Taxpayer Satisfaction Study for 1040 e-
file conducted by Russell Research:
  --Practitioner e-file is the term used for taxpayers who e-file their 
        tax returns electronically through an IRS-authorized Electronic 
        Return Originator. Online filing is the term used for taxpayers 
        who e-file their returns online via their home computers either 
        by using an online company or with software through a third 
        party transmitter. Practitioner e-file and Online filing with 
        software are maintaining high levels of satisfaction (82 
        percent and 83 percent respectively), but online filing with an 
        online company is trending downward (from 83 percent to 74 
        percent).
  --Three of the products (Practitioner e-file, online filing with an 
        online company, online filing with software) continue to have a 
        high number of user suggested improvements (simplify it and 
        lower the costs).
  --Non-user interest in practitioner e-file, the online filing 
        products and Free File showed little year-to-year change, but 
        long-term trend data indicates a hardening of non-user 
        resistance to products and suggests that future usage gains may 
        come in small increments.
  --Non-users who were most resistant to adoption had generally 
        negative impressions of the products in terms of their being 
        better than other filing methods, being private and secure, 
        being easy to use and being accurate.
  --A gap analysis of attitudes toward e-file in general continues to 
        show that lack of belief in e-file is clearly playing a role in 
        its non-adoption among non-triers and even lapsed users. These 
        segments do not accept e-file's benefits of accuracy, privacy/
        security or ease of use, and these are the attributes of a tax 
        filing method that they value most.
  --Another persistent barrier to the adoption of e-file is that not 
        all practitioners offer or advocate the use of e-file at the 
        same rate.
    The Free File program is a free federal tax preparation and 
electronic filing program for eligible taxpayers developed through a 
partnership between the Internal Revenue Service and the Free File 
Alliance LLC--a group of private sector tax software companies. Free 
File is an online option available through the irs.gov website. Based 
on the July 2006 results of our Free File research study called Report 
of Findings From the 2006 Free File Cognitive and Behavioral Research 
conducted by Russell Research:
  --Overall, users seem satisfied with Free File, with high intent to 
        re-use (94 percent) and recommend (97 percent), high ratings of 
        overall ease of use (94 percent) and low suggested improvements 
        (30 percent).
  --Free File's convenience appeals to them most with cost being the 
        secondary driver.
  --Other Free File program diagnostics results tell us that the site 
        is generally easy to navigate (96 percent), that users have 
        confidence in the security of their tax information (96 
        percent), and that it's easy to select a company at the site 
        (94 percent) with high intent to use the same company next year 
        (91 percent).
    Question. What percentage of taxpayers in this filing season are 
submitting returns electronically?
    Answer. Per IRS's Research, Analysis, and Statistics (RAS) Weekly 
Tracking Report for individual income tax returns for the week ending 
May 4, 2007, of the 127.3 million total individual returns filed, 
electronic filing (e-file) represented 76.7 million returns (60 
percent) and paper represented 50.6 million returns (40 percent). Of 
the 76.7 million electronically filed returns, 54.7 million (71 
percent) were e-filed by practitioners and 22.0 million (29 percent) 
were e-filed online. Of the approximately 95 million taxpayers who are 
eligible to use the Free File program in the 2007 filing season, 3.8 
million actually used it. Numerous studies show taxpayers select a tax 
preparation ``channel'' (e.g. self-prepared, paid prepared, etc.) based 
on personal preferences and won't change. The current e-file rate of 60 
percent is 3 percentage points higher than last year, at this point in 
time. The relative proportion of e-file returns is expected to drop to 
58 percent by the end of the year as more returns with extensions are 
filed on paper.
    Question. What efforts can be taken to increase the level of 
electronic filing?
    Answer. The IRS's e-Strategy for Growth outlines plans to reduce 
taxpayer burden and continuously grow the e-file program. Key 
strategies include:
  --Make electronic filing, payment and communication so simple, 
        inexpensive, and trusted that taxpayers will prefer them to 
        calling and mailing.
  --Substantially increase taxpayer access to electronic filing, 
        payment, and communication products and services.
  --Aggressively protect transaction integrity and internal processing 
        accuracy.
  --Deliver the highest quality products and services as promised.
  --Partner with states and other governmental entities to maximize 
        opportunities to reduce burden for our common-customer base.
  --Encourage private-sector innovation and competition.
    Question. What are the impediments that have hindered attaining the 
goal set nine years ago?
    Answer. In their 2005 annual report to Congress, the Electronic Tax 
Administration Advisory Committee has identified three major barriers 
to increasing electronic filing:
  --Electronic filing must be faster, easier, and more accurate than 
        paper filing and the initial experience must be positive.
  --Electronic payments must be faster, easier, and more foolproof than 
        paying by paper check and the first experience needs to be 
        positive.
  --Electronic services offered by the IRS must be faster, easier, and 
        more efficient than paper, telephone or fax-based 
        communications.

             MANDATORY E-FILING BY CHARITABLE ORGANIZATIONS

    Question. The IRS recently implemented measures requiring that 
certain tax-exempt organizations electronically file their annual 
returns, and many nonprofits recommend amending federal laws to require 
mandatory e-filing of all charitable organizations that annually file 
with the IRS. In particular, the Panel on the Nonprofit Sector, an 
independent group of nonprofit leaders convened at the encouragement of 
the Senate Finance Committee to make recommendations to Congress, 
recommended that tax laws be amended to enable the IRS to move forward 
with mandatory e-filing for all charitable organizations and that 
funding be authorized to support implementation of the initiative, and 
encourage more complete filings by nonprofits and better oversight by 
the IRS. Organizations now required to file their returns 
electronically have needed to adjust from attaching documents to their 
returns to completing sections on the electronic returns.
    What challenges has the IRS experienced in implementing e-filing, 
particularly from organizations accustomed to attaching documents to 
their returns?
    What would the IRS need to do to implement broader e-filing 
requirements?
    Would the funding levels proposed by the President for fiscal year 
2008 permit the IRS to adequately serve groups now required to e-file 
and to move toward more extensive e-filing if approved by Congress?
    Answer. The IRS worked closely with stakeholders and filers to 
communicate the business rules with regard to attachments in advance of 
the implementation of e-filing. Recognizing that our filer community 
often chooses to include ``unrequested'' information about their 
organization and program services, we worked with the software 
development community to ensure the creation of ``General Explanation'' 
pages that allow filers to include additional information that they 
believe is important. Moreover, the IRS has broadened the kinds of 
items that can be attached to e-filed returns to include such things as 
revised Organizing Documents and Articles of Dissolution.
    The primary limitation on proposing a broader e-filing mandate is 
statutory. Section 6011(e) of the tax code provides that IRS can 
require e-filing only if the taxpayer is required to file at least 250 
returns during the year. (This mandated threshold is for charitable 
organizations. Corporate taxpayers and partnership taxpayers have a 
different mandate.) The budget contains a proposal that all 
corporations and partnerships required to file Schedule M-3 would be 
required to file their income tax returns electronically. In the case 
of large taxpayers not required to file Schedule M-3 (such as exempt 
organizations), the Budget contains a provision to expand the 
regulatory authority to require electronic filing beyond the current 
250-return minimum. That provision would reduce the legal barriers (the 
250-return rule) that prevent enhanced e-filing.
    The President's fiscal year 2008 budget request provides adequate 
funding for the IRS to serve groups now required to e-file. In 
addition, the budget requests funding for developing and deploying the 
capability for the modernized electronic filing application to accept 
and process a subset of the 1040 family of forms. The funding would 
also allow a significant advancement toward establishing the capability 
to accept and process all 1040-related forms in multiple phases as the 
IRS works to retire the legacy e-file system. The IRS's modernized 
electronic filing application has been designed and built to be 
scalable for additional volumes resulting from increased e-filings due 
to new and/or changed mandatory thresholds.

                     BUSINESS SYSTEMS MODERNIZATION

    Question. During fiscal year 2006, the IRS developed a new IT 
Modernization Vision and Strategy for the Business Systems 
Modernization (BSM) program along with a 5-year plan to guide IT 
investment decisions through 2011. While this presents a positive first 
step towards defining the agency's future plans for the modernization 
program, it does not fully address GAO's recommendation to develop a 
long-term vision and strategy for completing BSM.
    When does IRS anticipate completing this strategy, including 
establishing time frames for consolidating and retiring legacy systems?
    Answer. Building a credible and comprehensive long-term vision and 
strategy to modernize the information technology of the largest and 
most complex tax administration system in the world is an iterative 
process that we are developing, institutionalizing and maturing over 
time in lockstep with our business partners. Our goals as part of our 
Modernization Vision & Strategy (MV&S) effort are to provide the 
vision, creativity, and a repeatable process to rationalize our 
investments in a way that we are now aligning with OMB's 
recommendations for Segment Architecture (Domain Architecture). In 
fiscal year 2005, our first year of this effort, we accomplished many 
foundational activities, and selected an integrated set of IT 
investments using sound investment processes across the primary tax 
administration domains (submission processing, manage taxpayers 
accounts, customer service, reporting compliance, filing and payment 
compliance, and criminal investigation).
    During this past year, fiscal year 2006, the IRS improved and built 
additional capabilities to institutionalize the MV&S investment 
processes. We applied lessons learned to improve our development of 
technical solution concepts, added additional layers of functional and 
technical integration and sharpened our cost-estimation processes. In 
addition to covering the domains of tax administration, we added in a 
domain for IT security as well as a domain to cover our Internal 
Management Systems (to include our financial, human resource, and asset 
management applications). In parallel, we have been maturing our IT 
governance structure, and we have brought our governance committees 
into the MV&S process to oversee and approve the strategies, project 
proposals and prioritize at the domain level.
    This year we are expanding the depth and breadth of our MV&S 
processes. A new functional area domain is being added to cover the 
provision of IT infrastructure products and services. In addition, we 
plan to complete a comprehensive architecture and strategy for one of 
the primary tax administration domains. This process will entail a 
comprehensive analysis of current processes and systems, target 
processes and systems over the next five years, transition strategies 
to achieve the targets and performance measures to be achieved. This 
initiative will address plans for consolidating and retiring legacy 
systems within that domain which you asked about in your question 
above. We then plan to complete the comprehensive architecture work for 
the remaining domains during fiscal year 2008.
    It takes time and is very challenging to develop, communicate, and 
achieve organizational commitment to a vision and strategy for 
modernization that (1) addresses consolidation, transformation and 
retirement of hundreds of interrelated legacy systems; (2) incorporates 
modernized capabilities from new systems; and, (3) allows IRS to 
continue to provide systems for end-to-end tax administration that 
incorporate each years' new tax laws and policy. Previously the IRS has 
focused its IT modernization plans on dealing with the replacement of 
just key systems (e.g., CADE replacing the master files, the 
implementation of modernized e-file to both replace the legacy e-file 
system and handle additional forms types). The MV&S is about building 
the proper modernization plan for all of the IRS's IT, dealing with the 
more than 450 systems that support tax administration. The long-term 
goal is not to replace most of these systems, but, through concepts 
such as service-oriented architecture (SOA), to transform and 
streamline our IT environment over time while still being able to 
address new business needs that are identified through the MV&S 
process. Doing this right entails changes in a management paradigm that 
requires significant involvement from hundreds of people across the 
organization, entails embracing architectural and engineering concepts 
that have never been introduced in the past, and given the 
complexities, entails the use of an incremental approach. In addition, 
we must build and institutionalize capabilities within the IRS to make 
sound investment choices along the way so we can use our resources 
prudently. The good news is that the first two years of embarking on 
this effort have forged a much better working relationship between the 
business units of the IRS and MITS.
    Even as we formalize and drive these plans ever deeper across the 
domains, one must realize that the plans must also be flexible to 
support significant change. Business requirements, tax laws and tax 
administration policy can change radically over time. One example would 
be in submissions processing and, in particular, e-file. We have a 
roadmap for implementing Modernized e-file (MeF) that has the IRS 
implementing MeF for all major form types by 2014. However, if the IRS 
is directed to implement a direct-file option for individual filers, it 
will significantly change the implementation approach and direction for 
MeF. Whether direct filing with the IRS should be done is a policy 
issue, but a decision such as that would have major impacts on our 
modernization strategy.
    Lastly, your question addresses timeframes for consolidating and 
retiring legacy systems. These comprehensive architecture and 
strategies that we are developing for each domain will address timing.
    I understand that the latest release of the Customer Account Data 
Engine (CADE), the system that is intended to replace the antiquated 
Master File processing system, was put into production in March, about 
two months later than planned.
    Question. What was the impact of the delay on 2007 filing season 
processing?
    Answer. Prior to CADE's deployment, we executed what is known as 
our Technical Backout Plan in which we automatically routed and timely 
processed tax returns for CADE-eligible accounts in the legacy master-
file cycle. Since CADE is not a customer facing system, this recovery 
maneuver is not evident to the taxpayer, so this action does not 
increase processing time and the taxpayer received the same service 
this year that they have received in past years under the legacy 
master-file cycle. That said, unfortunately, there were approximately 
20 million CADE-eligible taxpayers this year who could have received 
their refunds a few days earlier based on CADE-reduced cycle times had 
CADE been in production at the time they submitted their returns. There 
are no other effects to the taxpayer.
    Question. What, if any, impact has the delayed release had on the 
planned functionality of CADE and on future releases of CADE?
    Answer. The delay in delivering CADE Release 2.2 is having an 
effect on Release 3. While we have not completely finalized the changes 
in scope for the two sub-releases in Release 3, we are scaling back 
some of the functionality.
    The priorities for Release 3 will be to maintain the functionality 
to enable the capabilities to be delivered in conjunction with Account 
Management Services (AMS), update CADE with any necessary filing season 
changes, address some technical upgrades and design issues that have 
been uncovered as we have run CADE in operation, and add functionality 
that will enable CADE to process additional tax returns (in particular, 
we will be adding capabilities for CADE to process returns with Math 
Errors and Disaster Area Designations).
    While there will undoubtedly be less functionality increase in CADE 
Release 3 than originally planned, we believe that these steps we are 
taking to address the issues on CADE performance will enable us to 
``catch up'' over the next few years, so we do not anticipate changing 
our planned retirement date of the individual master file in 2012.
    Question. How does this year's delay, and possible delays in future 
releases of CADE affect other systems, including the Accounts 
Management System?
    Answer. Based on our Technical Backout capability in CADE, this 
year's delay did not have any effect on other systems.
    As your question notes, possible delays in future releases of CADE 
can affect other systems, most notably Account Management Services 
(AMS). We view maintaining alignment between the CADE and AMS programs 
a central challenge and source of risk for the BSM Program going 
forward. Development of these two major modernization initiatives 
requires a level of coordination and cooperative execution that is 
higher than the IRS has required so far in our modernization efforts. 
We recognized this challenge in our initial planning for the AMS 
program and have taken a number of steps to put in place the 
organizational structure, resources and approaches needed to assure 
that CADE and AMS are successfully delivered as a coherent set of 
capabilities.
    For the Release 3 sub-releases of CADE (those that will be released 
in calendar year 2007), we have taken steps to ensure that 
functionality in CADE required for proper functioning of AMS is of high 
priority and will be delivered in those sub-releases. In particular, 
CADE is slated to deliver functionality that will support online 
address change in Releases 3.1 and functionality to support basic 
notices generation in Release 3.2. We do not anticipate any significant 
issues in delivering this functionality as part of these releases.

                             IRS WORKFORCE

    Question. According to IRS data, while the number of employees at 
the IRS has decreased by almost 20,000 since 1995, the number of 
managers who supervise these employees has increased over this same 
period. During the period between 2000 and 2005, the number of 
frontline bargaining unit employees, decreased by 4,756, a decrease of 
5.1 percent. During that same time, the number of managers and 
management officials increased from 12,514 to 12,684, an increase of 
170.
    Why does the IRS need more managers today than it needed six years 
ago when it now has 4,700 fewer front-line employees?
    How many enforcement dollars and impact could 170 managers generate 
if they were assigned inventories?
    Has the IRS considered returning any managers to front-line work?
    Answer. A review of IRS staffing for January of each year shows 
that while there was an increase in the number of managers and 
management officials between 2001 and 2002, since 2002 the number of 
employees in this category has steadily decreased. An updated snapshot 
of the IRS staffing shows a 5.4 percent decrease in the number of 
managers/management officials from January 2001 to January 2006. The 
current alignment of managers and employees has provided the 
appropriate focus to allow for increased enforcement revenues of nearly 
40 percent from $33.8 billion in 2001 to $47.3 billion in 2005. Audits 
of high-income taxpayers--those earning $100,000 or more--topped 
221,000 in fiscal year 2005, the highest number in the past 10 years. 
Total audits of all taxpayers topped 1.2 million last year--a 20 
percent jump from the prior year.

            NARROWING THE ``TAX GAP'' AND MISCLASSIFICATION

    Question. I am concerned about the misclassification of workers in 
certain industries as independent contractors. Many of these workers 
should be correctly classified as employees and income reported on W-2 
forms, not 1099 forms. This misclassification leads to the 
underreporting of self-employment taxes, which the IRS estimates 
accounts for $148 billion per year and 43 percent of the gross tax gap. 
Last year, the Senate Appropriations Committee, in S. Rept. 109-293, 
strongly urged the IRS to provide increased tax enforcement in 
industries where misclassification of employees is widespread. In 1984, 
the IRS reported that at least 15 percent of employers misclassified 
about 3.4 million workers as independent contractors with higher rates 
in several industries including construction.
    Is it your sense that the practice of misclassifying workers as 
independent contractors has increased since then?
    Answer. While we have not conducted a recent study, the Government 
Accountability Office (GAO) looked at this issue in its 2006 report, 
GAO-06-656, entitled, Employment Arrangements--Improved Outreach Could 
Help Ensure Proper Worker Classification. In this report, the GAO 
stated the number of independent contractors increased from 6.7 percent 
to 7.4 percent of the workforce from 1995 to 2005, and the number of 
independent contractors in the contingent workforce population rose 
from 8.3 to 10.3 million. The report also states that many workers are 
misclassified as independent contractors; however, no updated data was 
provided. Additionally, we have seen an increase in misclassification 
through our examination process and increased filings of Form SS-8, 
Determination of Worker Status for Purposes of Federal Employment Taxes 
and Income Tax Withholding. If the taxpayer accurately reports income 
received, whether as employee or an independent contractor, there is 
little consequence for the Social Security trust funds. The tax rates 
on wages and salaries, on the one hand, and self-employment income, on 
the other hand, are virtually identical. For self-employment taxes, 
however, work-related expenses incurred by the worker are deductible 
whereas similar expenses are not deductible by an employee.
    Question. Has the IRS prepared an updated estimate?
    Answer. We have not prepared an updated estimate. We are in the 
process of considering the possibility of undertaking the necessary 
research.
    Question. What enforcement resources are being devoted now or are 
planned in fiscal year 2008 to address this issue?
    Answer. The IRS office with primary responsibility for employment 
tax noncompliance devoted 9 percent of its fiscal year 2007 workplan to 
worker misclassification and plans to increase examinations of 
misclassification issues to 34 percent of its overall audit plan in 
fiscal year 2008.
    Question. You have described the 16 legislative proposals and 4 
administrative proposals for closing the tax gap. Is this issue a 
component of those? If not, why not?
    Answer. This issue was not included in these 16 legislative 
proposals or the 4 administrative proposals. However, the 
Administration's fiscal year 2007 revenue proposals did address the 
issue. In addition to 5 tax gap proposals, it provided for the Treasury 
Department to study the standards used to distinguish between employees 
and independent contractors for purposes of withholding and paying 
Federal employment taxes.
    Question. Where does addressing this problem fit within your 
strategy for narrowing the tax gap?
    Answer. In conjunction with the Treasury Department's tax gap 
strategy issued in September 2006, the IRS is developing a 
comprehensive strategy to address employment tax issues. This strategy 
will include the issue of misclassification of workers as independent 
contractors. However, the prohibition on general guidance on 
classification issues contained in section 530 of the Revenue Act of 
1978 limits the Treasury's ability to provide guidance in this area.

                   SAFE HARBOR AND MISCLASSIFICATION

    Question. Under Section 530 of the Revenue Act of 1978, the ``safe 
harbor'' provision, employers who ``reasonably'' misclassify their 
workers as independent contractors are protected against any liability 
for employment tax purposes. This includes any employer who can show 
that more than 25 percent of his industry classifies workers as 
independent contractors.
    I understand that once an employer is covered by the safe harbor 
provision, the IRS cannot pursue the employer for unpaid employment 
taxes even in the future as long as the situation has not changed in 
their industry, even if they are actually misclassifying.
    What is the impact of the ``safe harbor provision'' including the 
number of employers who qualify, the particular industries, the number 
of workers that represents, and the loss of revenue to the Federal 
treasury in the form of past and future liability?
    Answer. While we are unable to quantify the exact impact of the 
``safe harbor provision,'' we know that employers that claim safe 
harbor provisions of Section 530 represent a subset of all worker 
misclassification. Section 530 applies not only to past years but also 
future years as long as the taxpayer continues to report the income to 
the workers as required and treat the workers consistently as 
independent contractors. Increasing noncompliance in an industry has 
the effect of increasing the possibility that most taxpayers in the 
industry will qualify for the safe harbor provision. GAO conducted the 
last study in this area in 1989. In this study they reviewed a sample 
of IRS worker reclassification examinations and determined that 40 
percent of the tax could not be assessed due to the safe harbor 
provision.

           RECRUITMENT AND RETENTION: STUDENT LOAN REPAYMENT

    Question. One of the biggest challenges facing Federal agencies is 
attracting and retaining well-qualified, high-performing employees. 
Student loan repayments are a valuable management tool to help agencies 
recruit highly qualified candidates into Federal service and keep 
talented employees in the Federal workforce.
    Federal law (5 U.S.C.  5379) provides agencies with discretion to 
establish and tailor a student loan repayment programs. Recently, OPM 
issued its annual report on the use of the tool across the Federal 
government last year. With each passing year, the use of this program 
continues to grow dramatically.
    In fiscal year 2006, 34 Federal agencies provided 5,755 employees 
with a total of nearly $36 million in student loan repayment benefits. 
This represents a 31 percent increase over fiscal year 2005 in the 
number of employees receiving student loan repayment benefits and a 28 
percent increase in agencies' overall financial investment in this 
valuable incentive. When compared to fiscal year 2002, agencies 
invested more than 11 times as much funding on student loan repayments 
in fiscal year 2006.
    How many IRS employees are currently benefiting from the student 
loan repayment program?
    What portion of the IRS' fiscal year 2008 budget proposal would be 
devoted to initiatives such as those suggested by Columbia Law School 
Dean David Schizer in his op-ed published in the New York Times on 
April 16, 2007? Are you willing to give serious consideration to his 
recommendations and provide a written evaluation to the subcommittee on 
the feasibility and cost of implementing these suggestions? By what 
date could that assessment be accomplished?
    Answer. While the IRS has not yet implemented a Student Loan 
Repayment Program, we have found thus far that the lack thereof has not 
hindered our ability to attract well qualified, highly motivated 
employees through the use of various student employment programs. In 
fiscal year 2006, 93 percent of these student program hires were to 
front-line positions.
    The Office of Chief Counsel, which hires the majority of the 
attorneys in the IRS, revamped its recruitment program a couple of 
years ago by conducting on-campus interviews at law schools throughout 
the country and increasing its visibility by having executives visit 
top schools. As a result, it has been very successful in recruiting law 
students for entry-level and summer-internship positions. This past 
year Counsel hired 36 entry-level attorneys and 25 summer legal 
interns. Over 3,000 law students and recent graduates applied for these 
positions. The applicants were highly qualified--over 70 percent of 
those hired last fall were in the top 30 percent of their class.

                  NONPROFIT ELECTION-RELATED ACTIVITY

    Question. 501(c)(3) organizations are permitted to engage in voter 
education and outreach activities, but are strictly prohibited from 
promoting or opposing any candidate for federal office. I understand 
that during the 2004 presidential campaign season, the IRS examined 
more than 100 charities and churches, questioning whether they had 
engaged in prohibited, partisan political activities. As a result of 
the investigations, the IRS sought to ensure that the nonprofit 
community engaged in legitimate election-related activities. Concerns 
have been expressed that the timing of the IRS's investigation 
discouraged legitimate voter education and registration efforts. There 
were also allegations that the investigations were provoked by 
politically motivated complaints.
    How does the IRS evaluate whether a complaint is legitimate or 
motivated by partisan politics?
    Is it possible for the IRS to expedite investigations to ensure 
they do not have a chilling effect on legitimate election-related 
activities?
    Looking ahead to the 2008 elections, what additional resources will 
the IRS need to ensure that charitable organizations understand and 
comply with restrictions on election-related activities?
    Answer. In both the 2004 and 2006 Political Activity Compliance 
Initiatives (PACI), the IRS endeavored to intercede quickly in 
instances of alleged prohibited political activity and to educate the 
organizations to prevent potential future violations. As we noted in 
our report on the 2004 initiative, the PACI Referral Committee, 
comprised of three career civil servant employees with extensive Exempt 
Organization tax law experience, determined whether the information the 
IRS received as part of a complaint supported a reasonable belief that 
the organization may have violated the political campaign prohibition 
of section 501(c)(3) and, therefore, warranted further IRS action. 
While these procedures are designed to weed out those complaints that 
are not legitimate, oftentimes it is only after examination that the 
validity of the complaint can be determined with certainty. We also 
note that a complaint from a partisan source may nonetheless be valid.
    The 2006 PACI included expedited timeframes for classification and 
case assignment. Because of the sensitivity of these cases and their 
highly factual nature, as well as procedural prerequisites (e.g., the 
church tax inquiry procedures), and in some cases the lack of 
cooperation from the taxpayer, it is not always possible to ensure the 
swift completion of these examinations.
    On June 1, 2007, the IRS released two documents to help tax-exempt 
organizations avoid prohibited political campaign intervention 
activities that can result in the loss of their tax-exempt status. 
Revenue Ruling 2007-41 sets out 21 factual situations involving tax-
exempt organizations, including churches, and various activities that 
may or may not constitute prohibited political intervention. Second, 
the IRS released its Report on the Political Activity Compliance 
Initiative for the 2006 election cycle. The 2006 report details the 
types and numbers of allegations, which are roughly equivalent to those 
found in the 2004 cycle.
    In terms of funding, we believe the Administration's fiscal year 
2008 budget request for the IRS, which includes a $15 million increase 
for Tax-Exempt Entity Compliance, will allow us to effectively serve 
the public, including in the area of prohibited political activity, and 
we respectfully request your support for it.

                  IMPLEMENTATION OF NEW NONPROFIT LAWS

    Question. The Pension Protection Act of 2006, enacted last August, 
included what has been called the most sweeping legislation affecting 
tax-exempt laws since 1969. The IRS has already issued some guidance 
reflecting changes in the law; however, several aspects require 
additional guidance. Increased outreach and education will also be 
necessary to ensure that charities, many of which rely on voluntary 
staff and do not have tax professionals, are aware of the changes.
    What additional resources will be required to develop and issue 
needed guidance and web-based tools, educate IRS staff about the new 
rules, and ensure that individual taxpayers and charitable 
organizations have the necessary information to comply with the new 
rules?
    Answer. The IRS has been extremely proactive in its guidance and 
outreach efforts related to the implementation of the charitable 
provisions of the Pension Protection Act of 2006 (PPA). We have updated 
our webpage continuously to reflect the latest developments. We 
explained the PPA changes affecting exempt organizations and their 
contributors on a Tax Talk Today web cast; over 6,100 individuals 
viewed it. We continue to speak at numerous other outreach events for 
organizations involving the PPA changes. We educated our staff and the 
telephone call sites on the PPA changes so they can respond to taxpayer 
inquiries. We have begun to roll out a massive publicity campaign, 
directed especially to small organizations, concerning the new annual 
notice filing requirement, which is applicable to all small 
organizations that did not previously have a filing requirement.
    We made numerous changes to the 2006 Form 990 to implement PPA 
changes. We conducted two phone forums to explain these changes. The 
phone forums were open to all, and over 500 practitioners participated; 
we subsequently posted the script on our website, along with frequently 
asked questions. We issued guidance immediately following PPA's 
enactment addressing issues of critical importance regarding donor 
advised funds, supporting organizations, and procedures for being 
recognized as a publicly supported organization. We recently issued 
guidance on the procedures for section 501(c)(3) organizations to make 
their Forms 990-T available for public inspection. We will issue 
additional PPA guidance and outreach in the near future. We also will 
assist the Treasury Department on PPA mandated studies.
    Implementation of the PPA is important. We have devoted the 
resources required to issue all needed guidance in a timely fashion, 
and we intend to continue to do so until the act is fully implemented.
    We believe the Administration's fiscal year 2008 budget request for 
the IRS, which calls for a $15 million increase for Tax-Exempt Entity 
Compliance, will enable us to effectively serve the public, including 
in the area of prohibited political activity, and we respectfully 
request your support for it.

          EFFECT OF NEW NON-CASH CHARITABLE CONTRIBUTION RULES

    Question. In 2004, Congress enacted new restrictions on charitable 
contributions of vehicles. Most recently, in 2006, Congress enacted new 
restrictions and reporting requirements on charitable contributions of 
clothing and household items as part of the Pension Protection Act.
    Has the IRS seen any changes in the amount and/or type of 
deductions being claimed since passage of these new rules?
    Answer. Internal Revenue Code  170(f)(12) went into effect for 
vehicle donations after December 31, 2004. Our Statistics of Income 
Division (SOI) collects this type of data. However, data for the 2005 
tax year (the first tax year where the change applied) has not yet been 
analyzed.
    Question. Has the volume of taxpayer queries increased since 
enactment of the rules?
    Answer. The Accounts Management Toll Free function experienced a 23 
percent increase in inquiries on deductions in fiscal 2005 compared to 
fiscal 2004. Questions received on deductions cover over 26 topics 
including contributions. The data we collect does not allow us to 
provide specific evidence on whether the increase was attributable to 
vehicle donations. In fiscal year 2006 the deduction queries returned 
to a level comparable to fiscal years before 2005.
                                 ______
                                 
               Questions Submitted by Senator Ben Nelson

    Question. Do you support including a preference for companies 
willing to hire disabled veterans and other individuals with 
disabilities within the IRS Private Debt Collection (PDC) program?
    Answer. The IRS is considering a strategy that would give a 
preference to Private Collection Agencies (PCAs) that employ disabled 
veterans and individuals with disabilities.
    Question. Do you support an across-the-board hiring target for 
collection agencies within the PDC to create jobs for veterans and 
other persons with disabilities?
    Answer. In the short term, it may be difficult for the IRS to 
achieve an across-the-board hiring target for all collection agencies 
within the PDC program. Setting a predetermined target could jeopardize 
the program. If we were unable to find a contractor who meets the 
requirements, we could not enter into any qualified tax collection 
contract. PDC companies are often located in rural areas where there is 
a population base that allows them to employ highly qualified people at 
a low cost. These same rural areas may not have a large enough 
population of severely disabled and veterans to draw upon to achieve a 
set goal.
    Nonetheless, the IRS is considering an alternative strategy that 
could give a preference to PCAs that employ the severely disabled and 
veterans. We intend to revise our contract award determinations to 
provide incentives. The IRS intends to offer extra evaluation points 
for PCAs that employ a specified percentage of the severely disabled or 
veterans. We are still in the process of finalizing the Request for 
Quotations for the next contract and have not yet determined the 
required percentages or extra evaluation points. We believe that this 
will encourage the PCAs to hire the severely disabled and veterans to 
work IRS accounts without jeopardizing the PDC program.
    Question. What obstacles exist which prevent the IRS from 
developing a veterans/disability preference program for the PDC?
    Answer. The obstacle to a disability preference program based on a 
hiring target arises after the contract is awarded. The PDC program 
requires the use of long-term contracts with the PCAs. Preparing the 
PCA to process IRS cases requires a significant amount of time and 
resources by both the PCA and the IRS. The contract period must be of 
sufficient time to allow the PCA and IRS to recover their expenses. We 
have determined one year to be the minimum time period for a contract 
to be cost effective.
    The IRS implied obligation under a preference program would be to 
terminate a contract with disability preference if the contractor 
failed to meet the agreed upon condition. If after contract award, a 
contractor, otherwise qualified, is unable to fulfill the agreement to 
hire the required quota of severely disabled for positions to provide 
contract services, the contract would have to be terminated for breach 
of contract. The cost to cancel a contract after 90 days would 
dramatically increase the cost of administering the PDC program. We 
believe that an incentive as described above will encourage the PCAs to 
hire the severely disabled and veterans to work IRS accounts without 
jeopardizing the PDC program.
    Question. What amount of the fiscal year 2008 appropriation does 
the IRS plan to devote to the PDC program? (Or, as fiscal year 2008 
appropriations are as-of-yet unknown, how much has the IRS budgeted for 
administration of the PDC program in fiscal year 2008?)
    Answer. The current projected fiscal year 2008 cost for 
administration of the PDC program is $7.35 million. We project that PDC 
will breakeven in April of 2008, including all start up costs. Of the 
$7.35 million, $5.84 million is for managing the initiative and 
consists of costs for the Referral Unit, Oversight Unit, Project 
Office, and Project Office contractors. The remaining $1.51 million is 
for IT costs.
    Based on conservative projections for revenue, the program is 
expected to recoup all costs in fiscal year 2008 and is projected to 
generate between $1.5 billion and $2.2 billion in revenue over 10 
years. In fiscal year 2008, we expect the PDC ROI will be between 4.0 
to 1 and 4.3 to 1, once the program is in steady state.
    Question. If the IRS is prevented from using any appropriated funds 
to administer the program, how will the IRS allocate the appropriations 
which otherwise would have gone to the PDC program?
    Answer. If the IRS is prevented from using funds to administer the 
program, we would need to determine alternative applications for the 
funding. The staff in the Referral Unit, Oversight Unit, and Project 
Office would be absorbed into other collection activities. The 
remaining non-labor funds would be reprioritized against all agency 
requirements. The IRS will work with the Office of Management and 
Budget (OMB) to determine the most appropriate allocation of resources.
    It is also important to note that if the program is eliminated, the 
IRS would continue to apply available resources to the highest priority 
collection work. Since the cases assigned to the PDC program have 
already been through lower cost methods of collections at the IRS, they 
would remain unworked. The President's fiscal year 2008 budget request 
does not include funds to hire IRS workers to replace Private 
Collection Agency (PCA) employees should the Congress eliminate the 
program. The IRS would need a significant influx of resources over a 
number of years to be able to work enough inventory to get to these 
lower priority cases currently eligible for PCA placement.
    In addition, sec. 6306 of Title 26 (The Internal Revenue Code) 
allows the Secretary to retain and use up to 25 percent of the 
collections for collection enforcement activities of the Internal 
Revenue Service. Termination of the contracts would also cut off 
continued accumulation of the retained funds which can be used to fund 
other Tax Law Enforcement activities. The projected revenue, between 
$1.5 billion and $2.2 billion over ten years, would also be lost.
    Question. If the PDC were repealed or de-funded, is there a 
detailed proposal, including cost and timeline estimates, to replicate 
the PDC within the IRS, or an alterative plan to collect the 
``inventory'' of cases or the debt currently slated to be collected via 
the PDC?
    Answer. No. The types of cases currently assigned to the PCAs would 
not be actively worked by the IRS if the PDC program were repealed or 
de-funded and funding for any alternatives are not assumed in the 
budget request. Due to the volume of higher priority work, there is no 
plan to replicate PDC within the IRS. These lower priority cases would 
remain unassigned.
                                 ______
                                 
                  Questions Submitted to Nina E. Olson
            Questions Submitted by Senator Richard J. Durbin

    Question. Improving taxpayer service is an important part of a 
comprehensive strategy to reduce the ``tax gap'' by helping taxpayers 
understand and meet their tax obligations.
    On April 11, the Taxpayer Assistance Blueprint, Phase 2 was 
published. This Blueprint is the joint response of the IRS, the IRS 
Oversight Board and the National Taxpayer Advocate to comply with a 
congressional mandate for the development of a five-year strategic plan 
for the delivery of taxpayer service.
    The plan includes a variety of specific recommendations to expand, 
simplify, standardize and automate services, and to improve and expand 
technology infrastructure. It also includes recommendations for 
increasing education and outreach to taxpayers, partners and IRS 
employees, and incorporating feedback into future service decisions.
    When the recent Blueprint was issued, you labeled it a ``much-
needed first step to delivering this service in ways that meet taxpayer 
needs.''
    Where does it fall short? What additional steps do you consider 
critical to meeting taxpayer needs?
    Answer. The Taxpayer Assistance Blueprint (TAB) lays out a 
comprehensive, laudable plan to improve taxpayer service over the next 
five years. Now, the critical issue is how the IRS implements the plan. 
I believe the TAB is only a ``first step'' because the TAB report alone 
will not ensure that the IRS delivers service in ways that meet 
taxpayer needs. To improve taxpayer service, the IRS must maintain a 
commitment to improving assistance to taxpayers both now and in the 
future, and must be given the resources necessary to make the needed 
improvements.
    The TAB also is just a ``first step'' because it focuses solely on 
individual taxpayers. The IRS should expand its focus to more 
comprehensively consider the needs of all taxpayers. For example, the 
IRS should use the TAB as a starting point and engage in similar 
efforts to improve services for Schedule C filers, large and small 
businesses, and tax-exempt organizations. Additionally, the IRS should 
begin to look at other areas that affect taxpayer service, including 
return preparers, submission processing, and the content of notices and 
publications.
    The IRS also should continue the research efforts it began in 
preparing the TAB. The taxpaying population will continue to change and 
so will taxpayer needs. The IRS should commit to ongoing research 
related to issues such as taxpayer needs, the link between service and 
compliance, and barriers taxpayers face to using certain IRS services.
    Question. I understand that the Blueprint was a product of a 
collaborative effort. Were there any aspects upon which you could not 
reach consensus that, as a result, were not incorporated in the 
publication?
    Answer. The TAB was designed to reflect the collaborative efforts 
of the IRS, the IRS Oversight Board, and the National Taxpayer 
Advocate. Throughout the development of the TAB, I personally 
participated in the TAB Executive Steering Committee meetings and 
decisions. I met personally with the members of the TAB team to discuss 
with them my views on the TAB and taxpayer service in general. I 
reviewed drafts of the TAB report and provided comments and feedback to 
the TAB team. Members of my staff worked closely with the TAB team both 
in monitoring the research and in drafting the report.
    Throughout the TAB process, disagreements occasionally arose over 
the direction of the TAB report. These issues were discussed among the 
Executive Steering Committee members in order to reach an agreement. I 
worked tirelessly to ensure that the TAB report would reflect a 
taxpayer-centric perspective and that taxpayer needs would not be 
unduly sacrificed for the sake of administrative convenience. I also 
wanted to ensure that given the time allotted, the TAB report would not 
come to any conclusion on reducing or eliminating taxpayer services. 
Instead, I urged that the TAB propose a methodology to evaluate current 
services and make improvements to meet taxpayer needs based on the data 
collected through the TAB research efforts, while not reducing the 
services currently available. For the most part, I believe the TAB 
report reflects this approach.
    As the IRS begins to realize cost savings as a result of providing 
more efficient and effective taxpayer service, I believe strongly that 
any savings resulting from those efficiencies should be reinvested in 
taxpayer service and not shifted to compliance. I also believe that the 
IRS should maintain its commitment to providing face-to-face services 
in the future, as stated in the TAB Guiding Principles.
    Question. As an element of the Taxpayer Assistance Blueprint, the 
IRS recommended a migration strategy to move taxpayers away from 
Taxpayer Assistance Centers (TACs) and toward electronic, self-assisted 
services. I understand the IRS plans to implement Facilitated Self-
Assistance Models in 15 selected sites, including two locations in my 
home State of Illinois. Under the model, taxpayers who come to the TACs 
for in-person help will be directed to in-house telephones and 
computers where they can access both the IRS website and phone 
assistors.
    The National Taxpayer Advocate's Report to Congress for 2006 
provides some data drawn from the IRS Oversight Board's 2006 Service 
Channel Survey. I think it elucidates the concern that migrating away 
from Taxpayer Assistance Centers (TACs) may be problematic. It states:

    ``Nearly 25 percent of taxpayers do not have Internet access, with 
more than twice as many taxpayers over 60 not having Internet access as 
those 60 or younger. Approximately 75 percent stated they were not 
secure sharing personal information via the Internet. Among taxpayers 
who have used IRS services in the last two years, about 45 percent of 
those who called IRS and more than 75 percent of those who visited the 
IRS stated that they would not use the IRS website.''

    How do you respond to concerns that migrating to self-assisted 
centers may be laying the groundwork for an expanded effort to move 
persons away from face-to-face interactive contacts and toward 
telephone and Internet access?
    Answer. Throughout the development of the TAB, I advocated strongly 
to ensure that, as the IRS moves increasingly toward the electronic 
delivery of services, the Service remains aware of the needs of those 
taxpayers who may be unable or unwilling to use self-assisted services. 
Many taxpayers face barriers in receiving assistance, particularly in 
using the Internet, and the IRS has an obligation to provide service to 
these taxpayers, including face-to-face service, as well as to help 
these taxpayers overcome the barriers.
    The IRS is making an effort to move taxpayers away from face-to-
face interaction and toward telephone and Internet services. This 
approach is appropriate for many taxpayers who are comfortable handling 
financial transactions by phone or over the Internet. However, the 
TAB's research studies showed that a certain percentage of taxpayers 
will continue to need face-to-face services. Therefore, I will continue 
to advocate that, even as many taxpayers move to electronic service 
options, the IRS must maintain face-to-face services as long as there 
is a segment of the population that still needs them.
    Question. Wouldn't a plan to scale back the number of TACs or 
replace them with self-help centers be an unwise cutback in customer 
service and a step backwards in achieving the goal of increasing 
compliance and shrinking the tax gap?
    Answer. At this point, I believe the IRS lacks the data necessary 
to determine whether it should reduce the number of TACs or replace 
existing TACs with self-help centers. Although the TAB report contains 
a significant amount of information regarding taxpayer needs and 
preferences, the IRS still has not completed enough research to 
evaluate the existing TACs.
    An ongoing survey of taxpayers who visit TACs conducted by the 
Taxpayer Advocacy Panel, an advisory panel that operates pursuant to 
the Federal Advisory Committee Act, should provide valuable information 
regarding whether TACs are meeting taxpayer needs. This is the first 
survey that asks taxpayers who were turned away from the TACs what 
assistance they were seeking, and asks taxpayers who were served by the 
TACs whether they received the service they sought. With this data, the 
IRS can begin to determine whether it is offering sufficient assistance 
or whether it needs to expand both the nature and amount of its service 
offerings to meet taxpayer needs.
    My goal is to work with the IRS as it evaluates the current 
placement of the TACs. The IRS needs to ensure that TACs are located in 
areas where taxpayers need and can use the services offered. By 
evaluating the location of the current 401 TACs, the IRS can identify 
areas in which moving a TAC may make it more convenient for taxpayers. 
Additionally, we may identify areas where the IRS should consider 
adding a TAC.
    The Facilitated Self-Assistance Model (FSM) represents an important 
step forward as the IRS expands its efforts to deliver services 
electronically. FSM is designed to assist taxpayers who have indicated 
a willingness to use alternate service channels, such as the Internet 
and the telephone. If a taxpayer comes into a TAC to obtain a form and 
the TAC does not have the form in stock, FSM will allow the taxpayer to 
use one of the computer terminals provided and, with the assistance of 
a TAC employee, to print out the form he needs. In the future, the same 
taxpayer may wish to return to the TAC to obtain a form, or he may now 
feel comfortable navigating irs.gov to print out a copy of the form on 
his own. FSM will also provide additional information about taxpayer 
needs. In addition to conducting surveys of taxpayers who use the FSM 
work stations, the IRS will be able to monitor taxpayers as they 
navigate irs.gov. This information will identify areas where the 
website can be improved to make it easier for taxpayers to use. This 
type of real world testing is critical to improving irs.gov and making 
it more taxpayer-friendly.
    I do not view FSM as a replacement for traditional face-to-face 
services provided in a TAC. Rather, I view FSM as a complement to 
existing TAC services. If the FSM pilot proves successful and the IRS 
is given the additional taxpayer service funding it needs, I am hopeful 
that workstations will be installed in all TAC offices. By rolling out 
FSM, our goal is to help some taxpayers become more comfortable using 
online and telephone alternatives. FSM has the potential to save both 
taxpayers and the IRS time and costs.
    Question. As your report observes, ``Until [these] barriers to 
Internet access can be addressed, eliminating the option of being able 
to call or visit the IRS means that these taxpayers would not be able 
to use the IRS website for the service they received, increasing the 
burden for these taxpayers to comply with their tax obligations.'' How 
serious is your concern? What are the implications?
    Answer. My concerns are very serious. As I have stated previously, 
the overriding mission of the IRS should be to increase voluntary 
compliance. The IRS should make it as easy as possible for taxpayers to 
comply with the tax laws. As the IRS looks to move more taxpayers 
toward using electronic service delivery options such as the Internet, 
the IRS must consider why some taxpayers cannot use the Internet. One 
way this can be accomplished is through the current Facilitated Self 
Assistance pilot in the TACs. By observing how taxpayers use irs.gov to 
obtain needed services, the IRS can potentially identify barriers to 
using the Internet and modify irs.gov in order to help taxpayers 
overcome these barriers.
    While continued research into the barriers to using electronic 
services is necessary, it is also critical that the IRS continue to 
maintain telephone and face-to-face services for taxpayers who are 
unable or unwilling to use electronic services. The IRS cannot reduce 
or eliminate existing service delivery methods until research 
demonstrates that the available services are meeting the needs of all 
taxpayers. Moreover, it is my belief that there are many tax issues 
that cannot be resolved through electronic communication. That is, the 
conversation between the IRS employee and the taxpayer, whether on the 
phone or in person, is part of the resolution process. Thus, I cannot 
now envision a time when it would be appropriate for the IRS to 
eliminate or sharply curtail the availability of face-to-face services 
for taxpayers who seek them.
                                 ______
                                 
               Questions Submitted by Senator Ben Nelson

    Question. What amount of the fiscal year 2008 appropriation does 
the IRS plan to devote to the PDC program? (Or, as fiscal year 2008 
appropriations are as-of-yet unknown, how much has the IRS budgeted for 
administration of the PDC program in fiscal year 2008?)
    Answer. The IRS estimates that the PDC initiative will cost $7.35 
million in fiscal year 2008.\1\ However, this number does not include 
indirect costs such as the staffing the Taxpayer Advocate Service is 
devoting to oversight and casework arising from the PDC initiative. 
Moreover, the IRS reports that it will have spent about $71 million in 
startup and maintenance costs by the end of fiscal year 2007, again 
excluding indirect costs. As a result, the IRS projects that the 
initiative at this point has lost money and will not break even until 
April 2008.\2\ It is not clear why the IRS is investing so much in an 
initiative that promises to return relatively little and that raises so 
many concerns regarding taxpayer rights, especially when the IRS could 
invest the same amount of money in its Automated Collection System 
(ACS) and generate a greater return on its investment.
---------------------------------------------------------------------------
    \1\ Internal Revenue Service, Filing and Payment Compliance 
Advisory Council (May 1, 2007) at 15.
    \2\ Data furnished by the IRS Filing and Payment Compliance 
Modernization Project Office (June 2007).
---------------------------------------------------------------------------
    Question. If the IRS is prevented from using any appropriated funds 
to administer the program, how will the IRS allocate the appropriations 
which otherwise would have gone to the PDC program?
    Answer. If Congress prohibits the IRS from administering the PDC 
initiative, the IRS could apply its resources to ACS, whose employees 
perform work most analogous to the PDCs. In fact, ACS would likely 
generate a much greater return than the PDC initiative if provided the 
additional funding. For instance, it is estimated that the PDC 
initiative will cost $71 million on startup and ongoing maintenance 
expenses through fiscal year 2007.\3\ If this $71 million were 
allocated to ACS, the Office of the Taxpayer Advocate has estimated 
that the IRS could bring in $1.4 billion, as compared to the $19.5 
million brought in by the PDC initiative to date.\4\ Even if the cost 
of the PDC initiative significantly decreases, as the IRS projects, the 
IRS would still likely be better off spending the PDC program costs on 
hiring more collection personnel. For example, if the IRS applied the 
$7.35 million (which is the PDC initiative's estimated cost for the 
referral unit, oversight unit, program office, contractors, and MITS 
for fiscal year 2008) to ACS, the IRS could collect about $146 
million.\5\ By contrast, the IRS PDC initiative is projected to bring 
in $88 million in gross revenue for fiscal year 2008.
---------------------------------------------------------------------------
    \3\ Internal Revenue Service, Filing and Payment Compliance 
Advisory Council (May 1, 2007) at 15. These estimated costs include 
startup and ongoing maintenance from the PDC Project Office, oversight, 
administration, and IT costs from fiscal year 2004 projected through 
fiscal year 2007. These estimated costs do not include infrastructure 
assessments for any MITS costs or costs associated with TAS oversight 
or casework arising from the PDC initiative.
    \4\ The dollars spent on the PDC initiative could instead have been 
used to fund new ACS employees. We computed the fully loaded cost of an 
average ACS employee at about $75,000 (assuming GS-8, step 5). Based on 
IRS expenditures of $71 million, the number of new ACS employees that 
could have been funded by the PDC initiative (about 942) was multiplied 
by the current average dollars collected by an ACS employee per year 
(about $1.49 million) to estimate the revenue that could be collected 
by ACS in one year.
    \5\ Internal Revenue Service, Filing and Payment Compliance 
Advisory Council (May 1, 2007) at 15.
---------------------------------------------------------------------------
    Question. What is the estimate of the return on investment in terms 
of revenue collected from the alternative use of appropriated funds as 
mentioned in question 1 above? How does this compare to projections for 
fiscal year 2008 collections under the PDC program?
    Answer. It is clear that the IRS can collect these liabilities more 
efficiently and effectively. In fact, the IRS openly acknowledges it 
can do better.\6\ The Private Collection Agencies (PCAs) get a four 
dollar return for every one dollar IRS invests.\7\ By contrast, IRS ACS 
personnel obtain an average return of $20 for every one dollar IRS 
invests in collecting tax liabilities. From the September 2006 
inception of the PDC program through April 19, 2007, the PCAs collected 
$19.5 million in gross revenue. As noted, however, if the $71 million 
invested in the PDC initiative were instead invested in ACS, the IRS 
could bring in about $1.4 billion. Not only can the IRS get a better 
return, but IRS employees, although not perfect, receive significantly 
more training concerning taxpayer rights and are better equipped to 
work with taxpayers on resolving their tax debts.\8\
---------------------------------------------------------------------------
    \6\ Testimony of Commissioner of Internal Revenue, Mark W. Everson, 
House Committee on Appropriations: Subcommittee on Transportation, 
Treasury, Housing and Urban Development, and the District of Columbia, 
Fiscal Year 2007 Appropriations for the Internal Revenue Service (March 
29, 2006).
    \7\ Testimony of United States Treasury Secretary, John Snow, in an 
exchange with Senator Robert C. Byrd, Senate Committee on 
Appropriations: Subcommittee on Transportation, Treasury and General 
Government, Hearing on Fiscal Year 2004 Appropriations for the Treasury 
Department, May 20, 2003.
    \8\ TAS also produced video training, including a 20-minute 
presentation by the National Taxpayer Advocate and a two-hour 
discussion by TAS personnel, that is required to be taken by all PCA 
employees about TAS, taxpayer rights, low income taxpayer clinics 
(LITCs), and procedures for referring TAS cases.
---------------------------------------------------------------------------
    Question. If the PDC were repealed or de-funded, is there a 
detailed proposal, including cost and timeline estimates, to replicate 
the PDC within the IRS, or an alterative plan to collect the 
``inventory'' of cases or the debt currently slated to be collected via 
the PDC?
    Answer. If the PDC initiative is repealed, there are a variety of 
areas in which the IRS could invest that would generate a better return 
and benefit taxpayers. For example, the IRS could invest in ACS, 
including retraining some submission-processing employees whose 
positions are being eliminated due to the expansion of electronic 
filing and the consequent reduction in the need for manual entry of 
data from paper-filed returns. Those employees could work PCA-type 
cases as a stepping stone to more complex collection work. The IRS 
could design a system that would effectively identify the ``next best 
case'' to work and should invest in modernizing its technology. The IRS 
could use the funding to revise or develop collection measures, which 
will accurately identify the true age of its accounts receivable; 
develop realistic measures of collection ``yields'' that accurately 
identify recovery of potentially lost revenue; and improve 
communication to delinquent taxpayers concerning the accrual of 
penalties and interest on collection cases.\9\
---------------------------------------------------------------------------
    \9\ For an in-depth analysis of current IRS collection strategy and 
recommendations for improvement, see National Taxpayer Advocate 2006 
Annual Report to Congress at 80-82.
---------------------------------------------------------------------------
    In addition to funding ACS, there are several alternative areas in 
which the IRS could invest the funds currently being used to oversee 
the PDC initiative. For instance, the IRS has failed to fund the other 
two components of its Filing and Payment Compliance Project (F&PC). 
These components include plans to conduct analysis on a given 
collection case and allow it to be officially routed to the appropriate 
collection unit, whether the IRS automated call sites, IRS campuses, or 
the IRS collection field function. The full impact of this initiative 
is unclear since only the PDC component is funded. But I believe there 
are multiple superior uses for these funds that would produce better 
returns on investment at less risk to taxpayer rights.
    Question. What is the estimate of the return on investment in terms 
of revenue collected from the alternative use of appropriated funds as 
mentioned in question 1a above? How does this compare to projections 
for fiscal year 2008 collections under the PDC program?
    Answer. Overall, the IRS Return on Investment (ROI) is about 4 to 
1. ROI resulting from IRS enforcement programs ranges from $3 to $14 
for every additional $1 invested, depending on the type of enforcement 
activity. For example, labor-intensive activities such as the 
Collection Field Function have lower ROIs, and automated activities 
such as Automated Underreporter have high ROIs. It would be expected 
that the ROI for an ``alternative use of funds'' initiative would be 
consistent with that for enforcement programs and range from 3:1 to 
14:1.
    In fiscal year 2008, we expect the PDC ROI will be between 4.0 to 1 
and 4.3 to 1, once the program is in steady state. We base this 
estimate on fiscal year 2008 gross revenue projections of $86 million 
to $127 million compared to operating costs of approximately $5.84 
million \10\ in IRS costs and the average 18.5 percent payments to the 
PCAs.
---------------------------------------------------------------------------
    \10\ Due to fluctuating costs, there may be additional costs 
incurred that would result in the actual ROI being closer to the low 
end of the range. The $5.84 million does not include MITS Maintenance 
costs which were included in fiscal year 2008 costs ($7.35 million) on 
a prior page.
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                  ADDITIONAL STATEMENT FOR THE RECORD

    Senator Durbin. The statement from Colleen Kelley, referred 
to earlier, will be inserted into the record at this point.
    [The statement follows:]

 Prepared Statement of Colleen M. Kelley, President, National Treasury 
                            Employees Union

    Chairman Durbin, Ranking Member Brownback, and distinguished 
members of the Subcommittee, I would like to thank you for allowing me 
to provide comments on the Administration's fiscal year 2008 budget 
request for the Internal Revenue Service (IRS). As President of the 
National Treasury Employees Union (NTEU), I have the honor of 
representing over 150,000 federal workers in 30 agencies including the 
men and women at the IRS.

                  IRS FISCAL YEAR 2008 BUDGET REQUEST

    Mr. Chairman, as you know, the IRS budget forms the foundation for 
what the IRS can provide to taxpayers in terms of customer service and 
how the agency can best fulfill its tax enforcement mission. Without an 
adequate budget, the IRS cannot expect continued improvement in 
customer service performance ratings and will be hampered in its effort 
to enhance taxpayer compliance. I would like to applaud the 
Administration for acknowledging in its Fiscal Year 2008 Budget in 
Brief (page 65) that ``assisting the public to understand their tax 
reporting and payment obligations is the cornerstone of taxpayer 
compliance and is vital for maintaining public confidence in the tax 
system.'' However, I was disappointed in the Administration for failing 
to request a budget for fiscal year 2008 that meets the needs of the 
Agency to meet its customer service and enforcement challenges. In 
fact, the President's budget anticipates a ``savings'' equal to nearly 
1,200 full-time equivalent positions, including 1,147 in enforcement 
and taxpayer service programs.
    Although it's widely recognized that additional funding for 
enforcement provides a great return on the investment, the 
Administration seems reluctant to request an adequate budget for the 
IRS. In addition, despite citing a lack of resources as the primary 
rationale for contracting out a number of inherently governmental 
activities, such as the collection of taxes, the Commissioner of the 
IRS has told Congress that the IRS does not need any additional funding 
above the President' budget request.
    NTEU believes that Congress must provide the IRS with a budget that 
will allow the Service to replenish the depleted workforce, 
particularly with respect to enforcement personnel.
    History has shown that the IRS has the expertise to improve 
taxpayer compliance but lacks the necessary personnel and resources. 
The President's own fiscal 2008 budget proposal trumpets the increased 
tax collections produced by IRS's own employees and cites the increased 
collections of delinquent tax debt from $34 billion in 2002 to $49 
billion in 2006, an increase of 44 percent. Unfortunately, instead of 
providing additional resources to hire more enforcement staff, IRS 
personnel resources have been slashed in recent years resulting in a 36 
percent decline in combined collection and examination function 
enforcement staff between 1996 and 2003. In addition, these staffing 
cuts have come at a time when the IRS workload has dramatically 
increased.
    According to IRS's own annual reports and data, taxpayers filed 
114.6 million returns in 1995. After a steady annual climb, eleven 
years later, the Service saw more than 132 million returns filed. Yet, 
between 1995 and 2005, total numbers of IRS employees shrunk from 
114,000 to 94,000. Even more alarming is that during that period, 
revenue officers and revenue agents--two groups critical to IRS 
enforcement and compliance efforts--shrunk by 32 and 23 percent 
respectively. Revenue officers who collect large delinquent accounts 
went from 8,139 to 5,462 and revenue agents who do audits fell from 
16,078 to 12,355. Unfortunately, instead of reversing this trend, the 
IRS has continued efforts to reduce its workforce and has moved forward 
with downsizing in several different areas which have targeted some of 
the service's most productive employees.
    These include last year's reorganization of the Estate and Gift Tax 
Program which sought the elimination of 157 of the agency's 345 estate 
and gift tax attorneys--almost half of the agency's estate tax 
lawyers--who audit some of the wealthiest Americans. The Service 
pursued this drastic course of action despite internal data showing 
that estate and gift attorneys are among the most productive 
enforcement personnel at the IRS, collecting $2,200 in taxes for each 
hour of work.
    The IRS decision to drastically reduce the number of attorneys in 
the estate and gift tax area flies in the face of several reports made 
to Congress by Treasury and IRS officials over the past few years, 
indicating that tax evasion and cheating among the highest-income 
Americans is a serious and growing problem. In fact, an IRS study found 
that in 1999, more than 80 percent of the 1,651 tax returns reporting 
gifts of $1 million or more that were audited that year understated the 
value of the gift. The study found that the average understatement was 
about $303,000, on which about $167,000 in additional gift taxes was 
due. This alone cost the government about $275 million. Consequently, 
it is difficult to understand why the IRS sought the elimination of key 
workforce positions in an area that could produce significant revenue 
to the general treasury.
    In addition, the Service continues to move forward with its plan to 
close five of its ten paper tax return submission facilities by 2011. 
The IRS originally sought the closings of the five paper return 
submission centers due to the rise in the use of electronic filing (e-
filing) and in order to comply with the IRS Restructuring and Reform 
Act of 1998 (RRA 98) which established a goal for the IRS to have 80 
percent of Federal tax and information returns filed electronically by 
2007. But in their recent report to Congress on e-filing, the IRS 
Oversight Board noted that the IRS will fall well short of the 80 
percent goal and urged Congress to extend the deadline to 2012. The 
report noted that in 2006 just 54 percent of individuals e-filed their 
returns, well short of the 80 percent goal. Furthermore, the report 
cited a decline in 2006 in the number of e-file returns received from 
individual taxpayers who self-prepared their taxes. And finally a 
recent GAO report on the 2006 filing season noted the year over year 
percentage growth in individual e-filing slowed to a level lower than 
any of the previous three years.
    While overall use of e-filing may be on the rise, the number of 
taxpayers opting to use this type of return is not increasing as 
rapidly as the IRS had originally projected. Combined with the fact 
that almost a third of American taxpayers do not even have internet 
access and changes to the IRS Free File Program that are expected to 
increase the number of paper filing returns, it is clear that paper 
submission processing facilities are still necessary and that serious 
thought and consideration must be given before any additional closings 
are undertaken.
    Mr. Chairman, it is clear that drastic reductions in some of the 
agency's most productive tax law enforcement employees directly 
contradict the Service's stated enforcement priority to discourage and 
deter non-compliance, particularly among high-income individuals. In 
addition, we believe these staffing cuts have greatly undermined agency 
efforts to close the tax gap which the IRS recently estimated at $345 
billion. As Nina Olson, the National Taxpayer Advocate noted, this 
amounts to a per-taxpayer ``surtax'' of some $2,600 per year to 
subsidize noncompliance. And while the agency has made small inroads 
and the overall compliance rate through the voluntary compliance system 
remains high, much more can and should be done. NTEU believes that in 
order to close the tax gap, the IRS needs additional employees on the 
frontlines of tax compliance and customer service. In addition, we 
believe Congress should establish a dedicated funding stream to provide 
adequate resources for those employees.

                         NTEU STAFFING PROPOSAL

    In order to address the staffing shortage at the IRS, NTEU supports 
a two percent annual net increase in staffing (roughly 1,885 positions 
per year) over a five-year period to gradually rebuild the depleted IRS 
workforce to pre-1998 levels. A similar idea was proposed by former IRS 
Commissioner Charles Rossotti in a 2002 report to the IRS Oversight 
Board. In the report, Rossotti quantified the workload gap in non-
compliance, that is, the number of cases that should have been, but 
could not be acted upon because of resource limitations. Rossotti 
pointed out that in the area of known tax debts, assigning additional 
employees to collection work could bring in roughly $30 for every $1 
spent. The Rossotti report recognized the importance of increased IRS 
staffing noting that due to the continued growth in IRS' workload 
(averaging about 1.5 to 2.0 percent per year) and the large accumulated 
increase in work that should be done but could not be, even aggressive 
productivity growth could not possibly close the compliance gap. 
Rossotti also recognized that for this approach to work, the budget 
must provide for a net increase in staffing on a sustained yearly basis 
and not take a ``one time approach.''
    Although this would require a substantial financial commitment, the 
potential for increasing revenues, enhancing compliance and shrinking 
the tax gap makes it very sound budget policy. One option for funding a 
new staffing initiative would be to allow the IRS to hire personnel 
off-budget, or outside of the ordinary budget process. This is not 
unprecedented. In fact, Congress took exactly the same approach to 
funding in 1994 when Congress provided funding for the Administration's 
IRS Tax Compliance Initiative which sought the addition of 5,000 
compliance positions for the IRS. The initiative was expected to 
generate in excess of $9 billion in new revenue over five years while 
spending only about $2 billion during the same period. Because of the 
initiative's potential to dramatically increase federal revenue, 
spending for the positions was not considered in calculating 
appropriations that must come within annual caps.
    A second option for providing funding to hire additional IRS 
personnel outside the ordinary budget process could be to allow IRS to 
retain a small portion of the revenue it collects. The statute that 
gives the IRS the authority to use private collection companies to 
collect taxes allows 25 percent of collected revenue to be returned to 
the companies as payment, thereby circumventing the appropriations 
process altogether. Clearly, there is nothing magical about revenues 
collected by private collection companies. If those revenues can be 
dedicated directly to contract payments, there is no reason some small 
portion of other revenues collected by the IRS could not be dedicated 
to funding additional staff positions to strengthen enforcement.
    While NTEU agrees with IRS' stated goal of enhancing tax compliance 
and enforcement, we don't agree with the approach of sacrificing 
taxpayer service in order to pay for additional compliance efforts. 
That is why we were disappointed to see that the President's proposed 
budget calls for the elimination of 527 taxpayer services positions. 
NTEU believes providing quality services to taxpayers is an important 
part of any overall strategy to improve compliance and that reducing 
the number of employees dedicated to assisting taxpayers meet their 
obligations will only those efforts. The Administration's own budget 
proposal for 2008 notes that in fiscal year 2006, IRS' customer 
assistance centers answered almost 33 million assistor telephone calls 
and met the 82 percent level of service goal, with an accuracy rate of 
91 percent for tax law questions. In addition, a recent study 
commissioned by the Oversight Board found that more than 80 percent of 
taxpayers contacted said that IRS service was better than or equal to 
service from other government agencies. And while these numbers show 
that IRS taxpayer services are being effective, more can and should be 
done.
    Mr. Chairman, in order to continue to make improvements in taxpayer 
services while simultaneously processing a growing number of tax 
returns and stabilizing collections and examinations of cases, it is 
imperative to reverse the severe cuts in IRS staffing levels and begin 
providing adequate resources to meet these challenges. With the future 
workload expected to continue to rise, the IRS will be under a great 
deal of pressure to improve customer service standards while 
simultaneously enforcing the nation's tax laws. NTEU strongly believes 
that providing additional staffing resources would permit IRS to meet 
the rising workload level, stabilize and strengthen tax compliance and 
customer service programs and allow the Service to address the tax gap 
in a serious and meaningful way.

                            SPAN OF CONTROL

    And while it is imperative that Congress provide the IRS with 
sufficient staffing resources, we also believe that the IRS should look 
at the management to bargaining unit employee ratio to find additional 
resources for increased frontline tax compliance efforts. As noted 
previously, while the number of employees at the IRS has decreased by 
almost 20,000 since 1995, the number of managers who supervise these 
employees has increased over this same period. If we just look at the 
period between 2000 and 2005, we see that the number of bargaining unit 
employees, the frontline employees who do the work, decreased by 4,756, 
a decrease of 5.1 percent. During that same time, the number of 
managers and management officials increased by 170, an increase of 1 
percent. If the IRS decreased the number of managers and management 
officials at the same rate as it decreased its rank and file employees 
during that period, there would be 5.1 percent fewer managers and 
management officials or a savings of 808 Full time Equivalents (FTE's) 
that could be saved and redirected to the frontlines. While the IRS has 
previously cited concerns about the number of employees that would have 
to be taken offline to train additional frontline employees, we believe 
this training could be done with minimal disruption to current 
operations. One possibility would be to use the increasing number of 
managers and management officials to do the training. This would ensure 
that these employees are afforded the best possible training while 
allowing current operations to continue to run efficiently.

                         PRIVATE TAX COLLECTION

    Mr. Chairman, as stated previously, if provided the necessary 
resources, IRS employees have the expertise and knowledge to ensure 
taxpayers are complying with their tax obligations. That is why NTEU 
continues to strongly oppose the Administration's private tax 
collection program, which began in September of last year. Under the 
program, the IRS is permitted to hire private sector tax collectors to 
collect delinquent tax debt from taxpayers and pay them a bounty of up 
to 25 percent of the money they collect. NTEU believes this misguided 
proposal is a waste of taxpayer's dollars, invites overly aggressive 
collection techniques, jeopardizes the financial privacy of American 
taxpayers and may ultimately serve to undermine efforts to close the 
tax gap.
    NTEU strongly believes the collection of taxes is an inherently 
governmental function that should be restricted to properly trained and 
proficient IRS personnel. When supported with the tools and resources 
they need to do their jobs, there is no one who is more reliable and 
who can do the work of the IRS better than IRS employees.
    As you may know, under current contracts, private collection firms 
are eligible to retain 21 percent to 24 percent of what they collect, 
depending on the size of the case. In testimony before Congress, former 
IRS Commissioner Mark Everson repeatedly acknowledged that using 
private collection companies to collect federal taxes will be more 
expensive than having the IRS do the work itself. The Commissioner's 
admission directly contradicts one the Administration's central 
justifications for using private collection agencies--that the use of 
private collectors is cost efficient and effective.
    In addition to being fiscally unsound, the idea of allowing private 
collection agencies to collect tax debt on a commission basis also 
flies in the face of the tenets of the IRS Restructuring and Reform Act 
of 1998. Section 1204 of the law specifically prevents employees or 
supervisors at the IRS from being evaluated on the amount of 
collections they bring in. But now, the IRS has agreed to pay private 
collection agencies out of their tax collection proceeds, which will 
clearly encourage overly aggressive tax collection techniques, the 
exact dynamic the 1998 law sought to avoid. Furthermore, the IRS is 
turning over tax collection responsibilities to an industry that has a 
long record of abuse. For example, in 2006, consumer complaints about 
third-party debt collectors increased both in absolute terms and as a 
percentage of all complaints that consumers filed with the Federal 
Trade Commission (FTC). Last year the FTC received 69,204 consumer 
complaints about debt collection agencies--giving debt collectors the 
impressive title of the FTC's most complained about industry.
    NTEU believes that a better option would be to provide the IRS with 
the resources and staffing it needs. There is no doubt that IRS 
employees are--by far--the most reliable, cost-effective means for 
collecting federal income taxes. As noted previously, the former IRS 
Commissioner himself has admitted that using IRS employees to collect 
unpaid tax debts is more efficient than using private collectors. In 
addition, the 2002 budget report submitted to the IRS Oversight Board, 
former Commissioner Charles Rossotti made clear that with more 
resources to increase IRS staffing, the IRS would be able to close the 
compliance gap.
    This is not the first time the IRS has tried this flawed program. 
Two pilot projects were authorized by Congress to test private 
collection of tax debt for 1996 and 1997. The 1996 pilot was so 
unsuccessful it was cancelled after 12 months, despite the fact it was 
authorized and scheduled to operate for two years. A subsequent review 
by the IRS Office of Inspector General found that contractors 
participating in the pilot programs regularly violated the Fair Debt 
Collection Practices Act, did not adequately protect the security of 
personal taxpayer information, and even failed to bring in a net 
increase in revenue. In fact, a 1997 GAO report found that private 
companies did not bring in anywhere near the dollars projected, and the 
pilot caused a $17 million net loss.
    Despite IRS assurances that it has learned from its past mistakes, 
two recent reports indicate otherwise. A March 2004 report by the 
Treasury Inspector General for Tax Administration raised a number of 
questions about IRS' contract administration and oversight of 
contractors. The report found that ``a contractor's employees committed 
numerous security violations that placed IRS equipment and taxpayer 
data at risk'' and in some cases, ``contractors blatantly circumvented 
IRS policies and procedures even when security personnel identified 
inappropriate practices.'' (TIGTA Audit #200320010). The proliferation 
of security breaches at a number of government agencies that put 
personal information at risk further argue against this proposal. These 
security breaches illustrate not only the risks associated with 
collecting and disseminating large amounts of electronic personal 
information, but the risk of harm or injury to consumers from identity 
theft crimes.
    In addition, a September 2006 examination of the IRS private 
collection program by the Government Accountability Office (GAO) 
reveals that like the 1996 pilot, the program may actually lose money 
by the scheduled conclusion of the program's initial phase in December 
2007. The report cited preliminary IRS data showing that the agency 
expects to collect as little as $56 million through the end of 2007, 
while initial program costs are expected to surpass $61 million. What's 
more, the projected costs do not even include the 21-24 percent 
commission fees paid to the collection agencies directly from the taxes 
they collect.
    In addition to the direct costs of the program, I am greatly 
concerned about the potential negative effect that the private tax 
collection program will have on our tax administration system. In her 
recent report to Congress, the National Taxpayer Advocate voiced 
similar concern about the unintended consequences of privatizing tax 
collection. Olson cited a number of ``hidden costs'' that private tax 
collection has on the tax system including reduced transparency of IRS 
tax collection operations, inconsistent treatment for similarly 
situated taxpayers, and reduced tax compliance. Clearly the negative 
effects of contracting out tax collection to private collectors hampers 
the agency's ability to improve taxpayer compliance and will only serve 
to undermine future efforts to close the tax gap.
    NTEU is not alone in its opposition to the IRS' plan. Similar 
proposals allowing private collection agencies to collect taxes on a 
commission basis have been around for a long time and have consistently 
been opposed by both parties. In fact, the Reagan Administration 
strongly opposed the concept of privatizing tax collections warning of 
a considerable adverse public reaction to such a plan, and emphasizing 
the importance of not compromising the integrity of the tax system. 
(Treasury Dept. Statement to House Judiciary Comm. 8/8/86). More 
recently, opposition to the private tax collection program has been 
voiced by a growing number of members of Congress, major public 
interest groups, tax experts, as well as the Taxpayer Advocacy Panel, a 
volunteer federal advisory group--whose members are appointed by the 
IRS and the Treasury Department. In addition, the National Taxpayer 
Advocate, an independent official within the IRS recently identified 
the IRS private tax collection initiative as one of the most serious 
problems facing taxpayers and called on Congress to immediately repeal 
the IRS' authority to outsource tax collection work to private debt 
collectors (National Taxpayer Advocate 2006 Report to Congress).
    Instead of rushing to privatize tax collection functions which 
jeopardizes taxpayer information, reduces potential revenue for the 
federal government and undermine efforts to close the tax gap, the IRS 
should increase compliance staffing levels at the IRS to ensure that 
the collection of taxes is restricted to properly trained and 
proficient IRS personnel.

    IRS AUDITS OF HIGH-INCOME INDIVIDUALS AND LARGE BUSINESSES AND 
                              CORPORATIONS

    Mr. Chairman, the final issue that I would like to discuss is IRS 
enforcement efforts with regard to high-income individuals and large 
businesses and corporations. I previously noted the drastic staff 
reductions in the estate and gift tax division that occurred last year 
and will obviously hamper the Service's ability to achieve greater 
compliance from the wealthiest Americans. In addition, recent IRS data 
shows that IRS audits of high-income individuals have dropped 
dramatically over the past decade. The audit rate for face-to-face 
audits fell from 2.9 percent of high-income tax filers in fiscal year 
1992 to 0.38 percent in fiscal year 2001 and then drifted down to 0.35 
percent in fiscal year 2004. While the audit rate has rebounded 
somewhat in the last two years, it is still far below the level of the 
mid-1990's. These facts seem to directly contradict claims by the IRS 
that the Service's first enforcement priority is to discourage and 
deter non-compliance, with an emphasis on high-income individuals.
    We are seeing similar troubling trends with respect to large 
corporations. While this issue has just started receiving public 
attention in recent weeks, it has long been of concern to IRS employees 
that believe recent IRS currency and cycle time initiatives are 
resulting in the premature closing of audits of large companies, 
possibly leaving hundreds of millions of dollars of taxes owed on the 
table. IRS data shows the thoroughness of IRS enforcement efforts for 
the nation's largest corporations--measured by the number of hours 
devoted to each audit--has substantially declined since fiscal year 
2002. IRS data also show that the annual audit rates for these 
corporations, all with assets of $250 million or more, while increasing 
in fiscal year 2004 and 2005, receded in 2006 to about the level it was 
in 2002 and is much lower than levels that prevailed a decade or more 
ago.
    Although the number of the largest corporations is small, they are 
a very significant presence in the American economy. In fiscal year 
2002, the largest corporations were responsible for almost 75 percent 
of all additional taxes the IRS auditors said were owed the government. 
By comparison, low and middle income taxpayers in the same year were 
responsible for less than 10 percent of the total.
    Agency data shows that audit attention given those corporations 
with $250 million or more in assets has substantially declined in the 
last five years. In 2002, an average of 1,210 hours were devoted to 
each of the audits of the corporations in this category. The time 
devoted to each audit dropped sharply in 2004 and by 2006 the number of 
hours per audit remained 20 percent below what it was in 2002.
    But what may be most disturbing is that according to IRS' own data, 
while the coverage rate of large corporation returns (identified as 
those with assets of $10 million and higher) increased in fiscal year 
2004 and 2005, the number of audits for these corporations actually 
decreased in 2006. Clearly, the rationale the IRS is using to justify a 
reduction in time and scope of large corporation audits, that is, to 
allow for expanding the total number of companies audited is not 
working.
    IRS officials have continued to point to a rise in additional tax 
recommended for each hour of audit as a sign that the policy is 
working, but most auditors know that this rise can be primarily 
attributed to the proliferation of illegal tax shelters which makes it 
easier to find additional taxes due.
    Warnings about the potential negative consequences of such policy 
decisions were made by a number of IRS employees in a recent New York 
Times article and are not new. In fact, when the IRS first began 
limiting the time and scope of business audits through implementation 
of the Limited Issue Focused Examination (LIFE) process in 2002, the 
former chief counsel of the IRS said that the IRS' proposed reductions 
in cycle time of corporate audits would ``virtually guarantee that IRS 
auditors would miss tax dodges, fail to explore suspicious 
transactions, or even walk away from audits that are on the verge of 
finding wrongdoing.''
    In addition, IRS employees have raised concerns about this shift in 
approach to the auditing of business tax returns since its 
implementation several years ago. Their concerns are multi-fold. 
Primarily, employees' feel that their experience and professional 
judgment is being ignored when the scope of audits is limited and cycle 
times are reduced. Revenue agents need flexibility to determine the 
scope of an audit and need the ability to expand the examination time 
when necessary. The men and women of the IRS that perform these audits 
are highly experienced employees who know which issues to examine and 
when more time is necessary on a case. But under current IRS policies, 
this is just not the case.
    Mr. Chairman, we have heard directly from a number of our members 
about the detrimental effect this policy has had not just on efforts to 
ensure corporations are in full compliance, but also how this misguided 
policy is damaging employee morale. In one instance, an IRS agent with 
29 years of experience, including 19 as an international specialist 
examining tax returns of large, multinational corporations was given an 
unreasonably short period of time to examine three tax years of a very 
large company. The agent reported being constantly harassed for 
refusing to further limit the scope of the examination beyond that 
which was set at the beginning of the audit, even though he had 
successfully completed two prior examinations of the same taxpayer in a 
timely manner. The employee knew the issues and how to examine them but 
also knew they would need more than the allotted time to complete his 
part of the examination. But, despite past successes, management 
refused to provide the employee with additional time to complete his 
portion of the audit and labeled the employee as uncooperative and not 
a ``team player.'' Although the employee refused to compromise, he 
believed that other members of the examination team had been pressured 
into dropping issues which likely would have resulted in additional 
tax.
    Mr. Chairman, in the face of a rising tax gap and exploding federal 
deficits, it is imperative that the agency is provided with the 
necessary resources to allow IRS professionals to pursue each and every 
dollar of the taxes owed by large businesses and corporations. Allowing 
these corporations to pay just a fraction of what they owe in taxes 
greatly hinders efforts to close the tax gap and is fundamentally 
unfair to the millions of ordinary taxpayers that dutifully pay their 
taxes. Only by increasing the overall number of IRS employees that do 
this work can the Service ensure that businesses and large corporations 
are complying with their tax obligations and that the tax gap is being 
closed.

                               CONCLUSION

    It is an indisputable fact that the IRS workforce is getting mixed 
signals regarding its value to the mission of the Service and the level 
of workforce investment the Service is willing to make. NTEU believes 
that the drastic reductions of some of the IRS's most productive 
employees, reliance on outside contractors to handle inherently 
governmental activities such as the collection of taxes, and a shift in 
philosophy which focuses enforcement efforts too much on wage earners 
and not enough on high-income individuals and large businesses and 
corporations, only serve to undermine the agency's ability to fulfill 
its tax enforcement mission and hamper efforts to close the tax gap.

                          SUBCOMMITTEE RECESS

    Senator Durbin. The subcommittee stands recessed.
    [Whereupon, at 4:17 p.m., Wednesday, May 9, the 
subcommittee was recessed, to reconvene subject to the call of 
the Chair.]
