Compliance and Collections: Challenges for IRS in Reversing
Trends and Implementing New Initiatives (07-MAY-03, GAO-03-732T).
Taxpayers' willingness to voluntarily comply with tax laws
depends in part on their confidence that friends, neighbors, and
business competitors are paying their fair share of taxes. The
Internal Revenue Service's (IRS) programs to ensure compliance
and to collect delinquent taxes are viewed by many as critical
for maintaining the public's confidence in our tax system.
Congress asked GAO to present information on trends in IRS's
compliance and collection programs and to discuss issues related
to IRS's efforts to increase staffing for these programs. GAO was
also asked to discuss IRS's plans to launch new initiatives to
reduce noncompliance with the Earned Income Tax Credit (EIC) and
to use private collection agencies to assist in collecting
delinquent taxes.
-------------------------Indexing Terms-------------------------
REPORTNUM: GAO-03-732T
ACCNO: A06808
TITLE: Compliance and Collections: Challenges for IRS in
Reversing Trends and Implementing New Initiatives
DATE: 05/07/2003
SUBJECT: Debt collection
Delinquent taxes
Income taxes
Noncompliance
Strategic planning
Tax administration
Tax law
Taxpayers
Voluntary compliance
Earned Income Tax Credit
******************************************************************
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GAO-03-732T
A
Test i mony Before the Subcommittee on Transportation, Treasury, and
Independent Agencies, Committee on Appropriations, House of
Representatives
For Release on Delivery Expected at 2 p. m. EDT COMPLIANCE AND Wednesday,
May 7, 2003 COLLECTION
Challenges for IRS in Reversing Trends and Implementing New Initiatives
Statement of Michael Brostek, Director Strategic Issues
GAO- 03- 732T
Mr. Chairman and Members of the Subcommittee: I am pleased to participate
in the Subcommittee*s hearing today focusing on compliance issues and
initiatives in the Internal Revenue Service*s (IRS) fiscal year 2004
budget request. Specifically, my statement today will cover recent trends
in IRS*s compliance and collection programs, IRS*s staffing for these
programs, and its initiatives to expand compliance efforts for the Earned
Income Credit (EIC) and to use private collection agencies to assist in
the collection of delinquent tax debt.
From fiscal years 1993 through 2002, IRS*s compliance programs for
individual taxpayers* audits, document matching, nonfiler identification,
and math error corrections* had mixed trends in the rate at which they
contact potentially noncompliant taxpayers with two declining, one
increasing, and one staying relatively the same. 1 Among the four
programs, IRS*s often- cited audit rate declined approximately 38 percent
comparing 1993 to 2002. In the collection area, comparing fiscal years
1996 to 2001 IRS*s collection program experienced almost universal
declines in
workload coverage, cases closed, direct staff time used, productivity, and
dollars of unpaid taxes collected. 2 Many parties have expressed concern
about the compliance program-- especially audit* and collection program
trends for their potential to undermine taxpayers* motivation to fulfill
their tax obligations. Concerned about these trends, IRS has sought
additional resources,
including increased staffing levels for compliance and collection since
fiscal year 2001. However, despite receiving requested budget increases,
staffing levels in key occupations were lower in 2002 than in 2000.
Reasons for this decline include unbudgeted expenses consuming budget
increases and workload increases in other essential operations. The 2004
budget again proposes funding increases in part to augment staffing for
compliance and collection activities. Also, as it did last year, IRS
projects that savings from more efficient operations will enable it to
shift more staffing into these activities in 2004. Current savings
projections since the budget was prepared, as well as the past history of
unrealized staffing 1 IRS and others sometimes refer to the four programs
as enforcement programs. 2 The collection of delinquent taxes is also
considered to be a compliance program by IRS. For purposes of this
testimony, it is discussed separately.
increases, raise questions about whether IRS will realize the full
staffing increases it expects.
In the compliance area, IRS*s 2004 budget proposes a new initiative to
address noncompliance in the EIC. The EIC initiative is a substantial new
effort to target known sources of EIC noncompliance that IRS intends to
ramp up rapidly. Planning and implementation for this initiative will
proceed simultaneously. The success of the initiative will depend on
careful planning and close management attention as IRS*s implementation
progresses. In the collection area, IRS has proposed using private
collection agencies
to assist it with a portion of the collection activities for some
delinquent tax debt. IRS is requesting authority to retain some tax
collection receipts in a revolving fund that would be used to pay the
private collectors. A pilot effort to use private debt collectors in 1996
was unsuccessful, in part because IRS was unable to identify and channel
appropriate collection cases to the private debt collectors. Various key
details for implementing this proposal must be worked out and it, like the
EIC initiative, will require
careful planning and close management attention if Congress authorizes the
effort.
Our assessment of IRS compliance and collection trends, and budget issues
is based on recently issued GAO products. We updated certain trends for
IRS*s fiscal year 2002 operations by analyzing IRS management reports. We
also used data reported by the Treasury Inspector General for Tax
Administration. To assess the status of IRS*s EIC initiative and plans to
use the assistance of private collection agencies, we interviewed IRS
officials and reviewed documents prepared to justify both initiatives.
I will now discuss these issues in more detail, turning first to trends in
IRS*s compliance and collection programs.
Trends in Compliance In recent years, steep declines have occurred in some
of IRS*s compliance
and Collection programs for individual taxpayers, as have broad declines
in its efforts to
collect delinquent taxes. These trends have triggered concerns that
Programs Have
taxpayers* motivation to voluntarily comply with their tax obligations
could Triggered Concern be adversely affected.
Compliance Trends Are Taxpayers* willingness to voluntarily comply with
the tax laws depends in
Mixed; the Often Cited Audit part on their confidence that their friends,
neighbors, and business
Rate Has Declined Steeply competitors are paying their fair share of
taxes. IRS*s compliance
programs, including audits, document matching, and other efforts, are
viewed by many as critical to maintaining the public*s confidence in our
tax system.
Looking across all four of IRS*s major enforcement programs between fiscal
years 1993 and 2002 reveals a somewhat mixed picture, as shown in figure
1. The four programs and their trends are as follows:
The math error program that identifies obvious errors such as
mathematical errors, omitted data, or other inconsistencies on the filed
tax return. Using only the math error count, which is consistent
throughout the 10 years, the math error contact rate rose 33 percent (from
3.59 to 4.79 percent).
The document matching program that identifies unreported income using
information returns filed by third parties such as employers and banks.
Document matching rates went up and down at various times but ended 45
percent lower (from 2.37 percent to 1.30 percent) in 2002 compared to
1993.
The nonfiler program that identifies potential nonfilers of tax returns
by using information return and historical filing data. The nonfiler rates
also went up and down but ended in 2002 about where they were in 1993.
The audit program that checks compliance in reporting income,
deductions, credits and other issues on tax returns through correspondence
or in face- to- face meetings with an IRS auditor. Comparing 1993 to 2002,
the audit contact rate dropped 38 percent (from 0.92 to 0.57 percent) even
though it rose significantly between 1993 and 1995.
Figure 1: IRS Compliance Contact Rates, Fiscal Years 1993- 2002 8
Rate (percent) 7 6 5 4 3 2 1 0
1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 Year
Math error (revised) Math error Nonfiler Document matching Audit Source:
GAO analysis of IRS data.
Note: The revised math error contact rate includes roughly 2 million
contacts that IRS had been making but had not been reporting as math
errors for fiscal years 1997 through 2002. IRS had not collected data on
these math errors prior to fiscal year 1997.
Figure 2 shows compliance program trends based on income ranges. Although
audit rates for individual taxpayers in higher and middle- income ranges
rose slightly in 2002, overall they were significantly lower in 2002 than
in 1993, while the rate for the lowest income range was virtually the same
in 2002 as in 1993. The audit contact rates for the highest and lowest
income individuals essentially converged at around .8 percent in fiscal
years 2001 and 2002. Most of the audits of the lowest income individuals
dealt with EIC claims. Document matching contact for all three income
ranges rose somewhat between 2001 and 2002. However, rates for all three
income ranges ended significantly lower in 2002 than 1993 following
similar patterns of change over the years. Data on contact rates by income
level
were not available for the math error and nonfiler programs.
Figure 2: IRS Individual Audit and Document Matching Contact Rates by
Income Level, Fiscal Years 1993- 2002 5 Audit rates (percentage)
5 Document matching rates (percentage)
4 4
3 3
2 2
1 1
0 0
1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 1993 1994 1995 1996 1997
1998 1999 2000 2001 2002
Year Year
$100,000 and over $25,000 to under $100,000 Under $25,000
Source: GAO analysis of IRS data.
Collection Trends Have As we reported in May 2002, between fiscal years
1996 and 2001 trends in
Declined the collection of delinquent taxes showed almost universal
declines in collection program performance, in terms of coverage of
workload, cases
closed, direct staff time used, productivity, and dollar of unpaid taxes
collected. 3 Although IRS*s workload generally declined for two of those
indicators, workload and cases closed, the collection work it completed
declined more rapidly creating an increasing gap as show in figure 3. 4
During that 6- year period, the gap between the new collection workload
and collection cases closed grew at an average annual rate of about 31
percent.
3 U. S. General Accounting Office, Tax Administration: Impact of
Compliance and Collection Program Declines on Taxpayers, GAO- 02- 674
(Washington, D. C.: May 22, 2002). 4 Workload is the number of delinquent
accounts assigned to field and telephone collection. Work completed is the
number of delinquent accounts worked to closure, excluding accounts for
which collection work has been deferred.
Figure 3: Percentage Gap between Collection Workload and Work Completed,
Fiscal Years 1996- 2002
40 Percentage of workload 35 30 25 20 15 10
5 0 -5
1996 1997 1998 1999 2000 2001 2002
Source: GAO analysis of IRS data.
The increasing gap between collection workload and collection work
completed led IRS in March 1999 to start deferring collection action on
billions of dollars in delinquencies. IRS*s inventory of delinquent
accounts
was growing and aging and the gap between its workload and capacity to
complete work was increasing. Officials recognized that they could not
work all collection cases, and they believed that they needed to be able
to deal with taxpayers more quickly, particularly taxpayers who were still
in
business and owed employment taxes. 5 By the end of fiscal year 2002,
after the deferral policy had been in place for about 3 and one- half
years, IRS had deferred taking collection action on about $15 billion in
unpaid taxes, interest, and penalties. IRS* deferral of collection action
has declined somewhat since the deferral policy was adopted. Although the
rate has declined from 45 percent in 2000 to about
5 IRS considers employment tax compliance to be among the most challenging
issues for small business, since delinquent tax can rapidly compound
beyond the employer*s ability to pay. See U. S. General Accounting Office,
Tax Administration: IRS*s Efforts to Improve Compliance with Employment
Tax Requirements Should Be Evaluated, GAO- 02- 92 (Washington, D. C.: Jan.
15, 2002).
32 percent in 2002, IRS is still deferring collection action on about one
out of three collection cases.
Concerns Regarding the Many parties have expressed concern about these
trends in IRS*s
Compliance and Collection compliance and collection programs. Since the
mid- 1990s, we have issued
Trends six reports on IRS compliance and collection trends in response to
congressional concerns. 6 During annual oversight hearings on IRS,
Congress often raises questions about the declining audit rate and
possible effects on compliance. In recent years, congressional concerns as
well as IRS*s requests have resulted in efforts to augment IRS*s staffing
levels.
In fact, the former IRS Commissioner*s report to the IRS Oversight Board
during September 2002 made what was perhaps the most explicit case for
additional staffing to address IRS*s compliance and collection
performance. Although the Commissioner recognized that IRS needed to
improve the productive use of its current resources, he cited a need for
an annual 2 percent staffing increase on top of planned productivity
increases over 5 years to help reverse the trends. In terms of the
collection of tax debts, the IRS Commissioner estimated that an almost 60
percent gap exists between IRS*s collection workload and the work it has
completed. Closing this gap, according to the Commissioner, would require
5,450 new full- time staff. 7 IRS also has been looking for ways to free
resources for compliance programs by boosting productivity or reducing
workload in other areas.
6 U. S. General Accounting Office, Tax Administration: Audit Trends and
Results for Individual Taxpayers, GAO/ GGD- 96- 91 (Washington, D. C.:
Apr. 26, 1996); Tax Administration: IRS* Audit and Criminal Enforcement
Rates for Individual Taxpayers Across the Country, GAO/ GGD- 99- 19
(Washington, D. C.: Dec. 23, 1998); IRS Audit Rates: Rate of Individual
Taxpayers Has Declined With the Effect on Compliance Unknown,
GAO- 01- 484 (Washington, D. C.: Apr. 25, 2001); Tax Administration: Use
of Nonaudit Contacts, GAO/ GGD- 00- 7 (Washington, D. C.: Mar. 16, 2001);
Tax Administration: Impact of Compliance and Collection Program Declines
on Taxpayers, GAO- 02- 674 (Washington, D. C.: May 22, 2002); and Tax
Administration: IRS Should Continue to Expand Reporting
on Its Enforcement Efforts, GAO- 03- 378 (Washington, D. C.: Jan. 31,
2003). 7 Internal Revenue Service, Report to the IRS Oversight Board:
Assessment of the IRS and the Tax System, September 2002.
In our recent Performance and Accountability Series report on the Treasury
Department, we cite the collection of unpaid taxes as one of the
management challenges facing IRS. 8 In that report, we state that IRS is
in various stages of planning and implementing management improvements,
including reengineering compliance and collection practices. However, as
of September 30, 2002, IRS*s inventory of known unpaid taxes totaled $249
billion, of which $112 billion has some collection potential, and is at
risk. 9 Increasing Compliance Since 2001, IRS's budget requests have made
increasing its compliance and and Collection Staffing collection staff one
of several key priorities. For example, in its 2001 budget request IRS
asked for funding for the Staffing Tax Administration Has Been and Remains
for Balance and Equity initiative, which was designed to provide
additional an IRS Priority, but staff for examination, collection, and
other enforcement activities.
Declines Have However, as shown in figures 4 and 5, staffing in two key
compliance and collection occupations were lower in 2002 than in 2000.
This continues a
Continued general trend of declining staffing in these occupations for a
number of
years. 8 U. S. General Accounting Office, Major Management Challenges and
Program Risks: Department of the Treasury, GAO- 03- 109 (Washington, D.
C.: January 2003). 9 Known unpaid taxes consist of (1) taxes due from
taxpayers for which IRS can support the existence of a receivable with a
taxpayer agreement or a favorable court ruling (federal taxes receivable),
(2) compliance assessments in which neither the taxpayer nor the court has
affirmed that the amounts are owed, and (3) write- offs, which are unpaid
assessments for which IRS does not expect collections due to such factors
as the taxpayer's death,
bankruptcy, or insolvency. The $112 billion only includes the first two
categories.
Figure 4: Number of Revenue Agents, Fiscal Years 1996- 2002 16,000
Number of revenue agents 15,000 14,000 13,000 12,000 11,000
1996 1997 1998 1999 2000 2001 2002 Fiscal year ended
Source: Treasury Inspector General for Tax Administration.
Figure 5: Number of Revenue Officers, Fiscal Years 1996- 2002 6,000
Number of revenue officers 5,500 5,000 4,500 4,000 3,500 3,000
1996 1997 1998 1999 2000 2001 2002 Fiscal year
Source: Treasury Inspector General for Tax Administration.
The declines in compliance and collection staffing occurred for several
reasons, including increased workload and unbudgeted costs. In September
2002, the Commissioner attributed the decline in compliance
staffing to increases in workload in other essential operations, such as
processing returns, issuing refunds, and answering taxpayer mail. In the
most recently completed fiscal year, 2002, IRS faced unbudgeted cost
increases, such as rent and pay increases, of about $106 million. As a
result, IRS had to delay hiring revenue agents and officers. IRS noted in
its 2002 budget request that any major negative changes in the agency's
financial posture, such as unbudgeted salary increases, will have a
negative effect on staffing levels.
Fully Realizing a Fiscal Year For fiscal year 2004, IRS is requesting
$10.4 billion, an increase of 5.3
2004 Staffing Increase May percent over fiscal year 2003 requested levels,
and 100,043 full- time
Be Challenging equivalents (FTE). Also, IRS's 2004 budget request is its
second in a row to
propose increased spending for higher priority areas that would be funded,
in part, with internal savings redirected from other areas. Specifically,
IRS proposes to devote an additional $454 million and 3,033 more FTEs to
enhance programs, including compliance and some customer service areas. As
shown in figure 6, $166 million of the enhancements would be funded from
internal savings with the remainder funded from the budget increase.
Figure 6: IRS's Proposed Funding for Program Enhancements $10.4 billion
budget request
$10 billion for current operations $166 million from internal
$454 million savings
in proposed program $288 million
enhancements from budget increase
Source: GAO analysis IRS data.
We commend IRS for identifying savings to be reinvested in operations to
improve IRS performance. This approach implements a key principle of IRS's
long- term modernization effort. Under this approach, the
reengineering of IRS's work processes, much of which depends on
investments in computer modernization, would automate or eliminate
work, improve productivity, and free staff time that could then be
redirected to higher priority customer service and compliance activities.
Some caution is appropriate, however, in considering whether the
additional FTEs will be realized. In addition to the potential that some
cost increases may not be funded as in prior years, revised projections
developed since the 2004 budget request was prepared raise questions about
IRS's ability to achieve all the savings projected and shift resources to
compliance as planned.
IRS has revised the savings associated with several reengineering efforts
identified in the 2004 budget request. Revisions this far in advance of
the start of the fiscal year are not a surprise. They do indicate some
uncertainty associated with the budget request's savings projections.
For example, most significant reengineering efforts planned for fiscal
year 2004, in terms of FTEs and dollars to be saved, will not achieve all
of their projected savings because the efforts were based on assumptions
that will not be realized, according to IRS data and officials. IRS's
effort to improve the efficiency of compliance support activities, the
single most significant effort, depended partially on IRS implementing
individual compliance savings projects in 2003. This effort was projected
to save 394 FTEs and almost $26 million. However, due in part to delays
until 2004 to allow for additional testing, this effort is now expected to
save about 30 percent of the original projections through the end of
fiscal year 2004. IRS now projects that the seven most significant efforts
will save 1,073 FTEs and $60.5 million, down from original projections of
1,356 FTEs and $77.7 million.
Reengineering efforts may not achieve all of their savings goals, in part,
because of the long time lag between when IRS begins developing its budget
request and when the fiscal year begins. As with most other federal
agencies, IRS usually begins formulating its budget request about 18
months before the start of the fiscal year and about 10 months before the
President submits his budget to Congress. With planning beginning so far
ahead of the budget's actual execution, inevitable intervening events,
such as delays in implementing computer systems, make the assumptions upon
which projections are based no longer realistic.
In addition to lower current estimates of the potential savings from the
seven most significant reengineering estimates, some of the other
reengineering efforts listed in the 2004 budget request are not well
defined.
This raises questions about whether they will achieve their savings goals.
For example, IRS still is reviewing its procedures to identify ways to
make tax return processing more efficient. Although IRS projected this
effort to save 203 FTEs and $6.9 million, it has not yet identified the
operational areas that will be reengineered. IRS officials said that the
projected savings are based on a 2 percent efficiency increase, but they
are currently determining how to achieve that goal.
According to IRS budget officials, IRS uses its budget formulation process
to establish productivity goals, although the responsible business units
may not know specifically how savings will be achieved. Officials said
that this approach encourages innovation in meeting performance goals
while identifying ways to save FTEs and budget dollars.
EIC Initiative Is a IRS*s 2004 budget submission requests $100 million and
650 FTEs for a new
Substantial and initiative to improve compliance in one area in which
noncompliance is
known to be a concern: EIC. Although Treasury and IRS have made
Challenging Strategy to
progress in defining the scope and nature of the initiative, many details
Target Known
about its implementation are still to be settled as planning for and
Compliance Problems
implementation of the initiative proceed simultaneously. IRS hopes that
this effort will reduce EIC noncompliance without unnecessarily burdening
or discouraging those who are eligible for and claim EIC. Given its scope,
potential effects on EIC claimants, and planned rapid expansion, the
success of the initiative will depend on careful planning and close
management attention as IRS implements the initiative.
Begun in 1975, the EIC is a refundable tax credit available to certain
lowincome, working taxpayers. Two stated long- term objectives of Congress
have been: 1) to offset the impact of Social Security taxes on low- income
individuals; and 2) to encourage these same individuals to seek
employment, rather than depend on welfare benefits. Researchers have
reported that the EIC has been a generally successful incentive- based
antipoverty program, as was intended by Congress. 10 For tax year 2001,
about $31 billion was paid to about 19 million EIC claimants. 10 The
Council of Economic Advisers, Good News for Low Income Families:
Expansions in the Earned Income Tax Credit and the Minimum Wage, December,
1998. Congressional
Research Service, The Earned Income Tax Credit (EITC): An Overview,
Updated report, March 19, 2003.
However, in addition to its successes, the EIC program has historically
experienced high rates of noncompliance* including both overclaims and
underclaims of benefits. For over a decade we have reported on IRS*s
efforts to reduce EIC noncompliance. Due to persistently high
noncompliance rates, we have identified the EIC program as a high- risk
area for IRS since 1995. 11 An IRS study of 1985 tax returns estimated
that the EIC overclaim in that year rate was 39.1 percent. The results of
subsequent EIC compliance studies conducted by IRS are shown in table 1.
Tabl e 1: EIC Overclaim Rates for Selected Years Overclaim rate estimates
Tax year Lower- bound Upper- bound
1994 -- 23.5 1997 23.8 25.6 1999 27.0 31.7 Source: IRS reports. Notes: All
overclaim rates were adjusted by IRS to reflect dollars recovered from
ineligible recipients. For 1994 only a single estimate was available. In
1997 and 1999, because not all individuals
responded to the audit contacts, IRS used certain assumptions to estimate
an overclaim rate range. The lower bound assumes that the overclaim rate
for the nonrespondents is the same as for the respondents, while the upper
bound assumes that all non- respondents are overclaims.
In 1997, Congress instructed IRS to improve EIC compliance through
expanded customer service and outreach, strengthened compliance, and
enhanced research efforts. For these efforts Congress authorized a 5-
year, EIC- specific appropriation of $716 million. Although the 5- year
period elapsed in fiscal year 2002, Congress appropriated $145 million
specifically for EIC compliance for fiscal year 2003. For fiscal year
2004, IRS is requesting $153 million for this appropriation; the $100
million request for the new EIC initiative is separate.
Early in 2002, when the results of IRS*s most recent study of EIC
compliance for tax year 1999 were released, the Assistant Secretary of the
Treasury and the IRS Commissioner established a joint task force to seek
new approaches to reduce EIC noncompliance. The task force sought to
11 Prior to 2001, EIC was part of a broader IRS Tax Filing Fraud high-
risk area. Beginning in 2001, the focus of that designation was narrowed
to EIC specifically. See U. S. General Accounting Office, High- Risk
Series: An Update, GAO- 01- 263 (Washington, D. C.: January 2001).
develop an approach to validate EIC claimants* eligibility before refunds
are made, while minimizing claimants* burden and any impact on EIC*s
relatively high participation rate. Through this initiative,
administration of the EIC program would become more like that of a social
service program such as Food Stamps or Social Security Disability, where
proof of eligibility is required prior to receipt of any benefit.
Based on its various studies of EIC noncompliance, IRS determined that
three specific areas account for a substantial portion of EIC
noncompliance. These three areas* qualifying child eligibility, improper
filing status, and income misreporting (also called *underreporter*)*
account for nearly 70 percent of all EIC refund errors, according to IRS.
The joint Treasury/ IRS task force designed an initiative that would
address
each of these sources of EIC noncompliance. Filers that improperly claim
qualified children represent the single largest area of EIC overclaims, on
a dollar basis. Under the proposed initiative, IRS will attempt to verify
all taxpayers* claims for EIC- qualifying children under two criteria: a
residency and a relationship certification. IRS plans to use third- party
databases and other means to verify qualifying children for an estimated
80 percent of EIC claimants. All other EIC claimants will be asked to
provide additional eligibility documentation prior to the filing season.
Those who do not respond and/ or are unable to document their eligibility
will have the EIC portion of their returns frozen. If taxpayers do not
provide documentation before the filing season, IRS plans to require them
to provide it during or after the filing season. When and if they document
their eligibility, the EIC portion of their returns will be released.
Initially, beginning in the summer of 2003, IRS intends to select 45,000
EIC claimants whose qualifying child residency or relationship
requirements could not be verified from available databases. IRS plans
under its initiative to contact these taxpayers and give them the
opportunity to provide verifying documentation for the child (or children)
that is (are) claimed to qualify for the EIC. The two components of
establishing qualifying child eligibility* the claimant*s relationship to
the child, and residency with the claimant for more than 6 months* will be
treated somewhat differently. Taxpayers who establish their qualifying
child relationship will not have to do so in future years but all
taxpayers will have to show annually that the children lived with them for
the required time. IRS expects to expand the program in July 2004 by
starting to contact approximately 2 million taxpayers; in another planned
expansion in July 2005, IRS would contact 2.5 million taxpayers. 12 The
other two parts of this initiative will cover an additional 180,000
highrisk
filers for tax year 2003* 5,000 to verify their filing status and 175,000
to verify their income. Criteria for selecting the 5, 000 cases in the
filing status category have not yet been determined. They will be drawn
from tax year 2003 cases. For the 175,000- case income verification
initiative, IRS will use document matching to identify EIC filers who have
a history of misreporting income in order to increase (or receive) the
EIC. 13 Based on that history, these taxpayers* returns are to be flagged
when their 2003 EIC
claims are filed. Any EIC refund portion of each return is then to be
frozen until IRS can verify the taxpayers* income through document
matching or audit procedures in the fall of 2003. These filers will be
identified out of tax year 2002 and 2003 cases. Table 2 shows IRS*s
projections for future casework in all three initiative areas.
12 According to IRS, planned expansions are estimates that depend on its
assessments of its capacity to handle and the results the proposed 45,000
filer initiative. 13 IRS*s automated underreporter system will be an
important part of the income verification initiative.
Tabl e 2: Proposed EIC Initiative Caseloads by Fiscal Year and Initiative
Type, 2004- 08
Thousands of filers
Fiscal Year Initiative 2004 2005 2006 2007 2008
Qualifying child Relationship certification 45 a 2,000 1,500 800 100
Residency certification a 0 1,000 1,000 1,000
Filing status 5 450 450 450 450 Income reporting b 175 470 470 470 470
Source: IRS documents. Note: Projections are based on receiving an
initiative- specific annual appropriation of $100 million and estimates of
how many cases IRS can adequately work. a In 2004, a total of 45,000
claimants will be asked to certify both their relationship and their
residency.
b Also known as the *underreporter* initiative.
Although the Treasury/ IRS task force and now IRS have made progress in
defining the scope and nature of this initiative, many details about its
implementation are still to be settled. IRS expects to learn lessons from
initial sample cases it will work in 2003 that will be incorporated into
planned expansions of the effort later in 2003 and in 2004. IRS officials
said that estimates of the number of new employees that will be needed and
their training requirements are evolving. For example, although IRS*s 2004
budget submission identifies 650 FTEs for this initiative, current plans
are for a much lower staffing level at this point. In addition, cost and
FTE estimates are based on historical data that may not be directly
comparable to the staffing and technological demands of the initiative.
Based on these estimates, of the $100 million 2004 request, IRS has
proposed budgeting just under $55 million for direct casework in the three
compliance areas. The remaining $45 million is allocated to technology
improvements and
management, development, and implementation costs related to the three
targeted compliance areas.
Fundamental to the precertification of qualifying children is the
development of clear forms that identify the specific types of
documentation IRS will accept to substantiate that a qualifying child
meets the relationship and residency tests for EIC. IRS is currently
working with others, like the Taxpayer Advocate, to develop these new
forms, which are to be used beginning this summer.
Recently, concerns have been expressed about IRS*s intention to request
marriage certificates as proof of relationship to the qualifying child. We
have not looked at this specific issue. However, our 2002 report noted
that
EIC forms and instructions that IRS used for similar attempts to determine
qualifying child eligibility could be confusing to taxpayers and required
documents that EIC claimants had difficulty obtaining. 14 When taxpayers
have been disallowed the EIC through an IRS audit, they are required to
substantiate their qualification for the EIC* that is, *recertify** before
they can receive the credit again. As part of this process, IRS*s forms
indicated that EIC claimants could, for example, use medical records to
prove a child*s residency with them. However, EIC claimants faced
difficulty in providing such records. Low- income working families are
less likely to have stable relationships with medical service providers
and their children are less likely to have routine medical care. IRS
officials said that they plan to pretest the proposed precertification
forms both to determine whether they are clear and understandable to EIC
claimants but also to determine whether the claimants can provide the
required information. This is a critical step in implementing the
initiative. We recently reported that IRS seldom tests the new and revised
individual tax forms and instructions. 15 Ensuring consistent
interpretation of documentation gathered in the new
initiative will also be important. In our 2002 report, we noted that IRS
examiners did not consistently assess documentation for qualifying
children. For example, we asked 21 examiners to examine five EIC
scenarios. The 21 examiners did not agree for any of the scenarios, and,
in some cases, the examiners reached widely varying judgments about
whether the evidence was sufficient to support an EIC claim. 16 In order
to better ensure consistent and accurate decisions based on documentation
submitted, we recommended that IRS provide training to its examiners.
14 U. S. General Accounting Office, Earned Income Credit: Opportunities to
Make Recertification Less Confusing and More Consistent, GAO- 02- 449
(Washington, D. C.: Apr. 25, 2002).
15 U. S. General Accounting Office, Tax Administration: IRS Should
Reassess the Level of Resources for Testing Forms and Instructions, GAO-
03- 486 (Washington, D. C.: Apr. 11, 2003).
16 GAO- 02- 449.
Administering the EIC is not an easy task for IRS. IRS has to balance its
efforts to help ensure that all qualified persons claim the credit with
its efforts to protect the integrity of tax system and guard against fraud
and other forms of noncompliance associated with EIC. This initiative is a
substantial undertaking with a relatively aggressive implementation
schedule. Although it appears to be targeted to address known compliance
issues, its success will depend on careful planning and close management
attention. Any one of many challenges could put the initiative at risk.
These include whether, for instance, the proposed new forms will result in
evidence that IRS can use to verify relationship and residency
requirements. Further, IRS must determine whether lessons from the first
attempts to verify the eligibility of relatively small numbers of EIC
claimants can be learned and incorporated before the substantial expansion
of the initiative in fiscal years 2004 and 2005.
Challenges Must Be IRS*s 2004 budget requests $2 million and legislative
authorization for use
of private collection agencies (PCA) 17 to assist IRS in collecting
certain Met if IRS Is to
types of delinquent tax debt. IRS proposes to fund continuing use of PCAs
Successfully Use
from a to- be- established revolving fund that would receive a portion of
Private Collection
taxes collected through use of PCAs. Agencies
As with its EIC initiative, IRS has defined the parameters for its use of
PCAs, but many key details for implementing the initiative remain to be
resolved. These implementation details, such as identifying delinquent
debt cases suitable for PCAs to pursue and protecting taxpayer rights,
will be critical if the initiative is to succeed. If the PCA initiative is
authorized, IRS will need to put focused management attention on planning
and monitoring the implementation of the PCA initiative to ensure proper
handling of these issues.
As previously noted, IRS*s inventory of delinquent debt is growing and
aging, with the gap between its workload and capacity to complete work
increasing. As a consequence, IRS has been deferring about one in three
new delinquency cases without pursuing any collection action. This
practice is contrary to the experience of Treasury and IRS, which
indicates that referring eligible debts for collection as early as
possible greatly enhances the success of collection efforts. The former
IRS Commissioner
17 IRS is calling this initiative *Collection Contract Support.*
estimated in 2002 that it would take 5,450 FTEs and $296.4 million for IRS
to bridge the gap between its workload and capacity to complete the
collection casework.
To help bridge this gap, Treasury has proposed an initiative to reach
taxpayers to obtain payment on delinquent debt through the assistance of
PCAs. Under this initiative, IRS would give PCAs specific, limited
information on outstanding tax liabilities, such as types of tax, amount
of the outstanding liabilities, tax years affected, and prior payments.
Based on the information provided by the IRS, PCAs would then be permitted
to locate and contact taxpayers, requesting payment of liabilities (i. e.,
tax,
interest, or penalty) in full or in installments (within 3 years, as
specified by IRS). If a taxpayer*s last known address is incorrect, the
PCAs would search public records for the correct address. PCAs are not to
be permitted to contact third parties to locate taxpayers. PCAs would not
be allowed to accept payments; all payments must be made to IRS. PCAs
would generally have 12 to 24 months to attempt collection. Afterwards,
uncollected accounts are to be redistributed to other PCAs for additional
collection efforts. Because PCAs would have no enforcement power, the
initiative would allow the IRS to focus its own enforcement resources on
more complex cases and issues. Other procedural conditions under the
proposal include requiring PCAs to
inform taxpayers of the availability of assistance from the Taxpayer
Advocate. Furthermore, PCAs would not be permitted to take any enforcement
action against a taxpayer, such as seizing assets to satisfy the debt. To
ensure that taxpayer rights and privacy would be safeguarded, PCAs would
be governed by the same rules by which IRS is governed.
Initially, IRS plans to stagger implementation of the initiative. For the
first 6 months, IRS will place collection cases with no more than five
PCAs, with a total volume estimate not to exceed 50, 000 cases per month
for the first 3 months. IRS will contract with additional PCAs at a 6-
month interval with
an anticipated rate of 2.6 million total cases annually by the time all
agencies have been operational for 1 full year. Assigned case inventory
rates will depend on a number of factors, including PCA performance,
ability to manage new inventory, quality control, volume of cases referred
to IRS for review, and readiness of IRS to supply cases. Based on this
implementation framework, Treasury has projected revenue estimates of $46
million in 2004, and $476 million from 2004 through 2008.
In order to implement the PCA initiative, IRS must ensure that it will
have the capacity to fulfill its responsibilities under the proposed
contracts and to oversee the PCAs. Further, it must make some difficult
design decisions. One significant capacity issue concerns whether IRS will
be able to identify those delinquent debts with the highest probability of
resolution through PCA contacts. Earlier pilot efforts to study use of
PCAs in 1996 and 1997 were hindered, in part, because IRS was unable to do
this. For example, we reported that the numbers and types of collection
cases sent to PCAs during those pilots were significantly different from
those anticipated in the pilot program*s original design. This resulted in
substantially fewer collection cases than PCAs could productively work to
make the effort cost- effective. IRS realizes that identifying appropriate
cases for referral to PCAs is a key issue. While IRS proposes using *case
selection analytics* to identify appropriate cases, the analytical model
has not been developed. Another IRS capacity issue relates to the cases
that PCAs, for several
reasons, will refer back to IRS. For instance, under the proposed
arrangement, if a taxpayer was unable to fully pay the delinquent debt,
the case would be referred back to IRS. Some cases would then go to a
different PCA; therefore, the success of that PCA*s efforts in these cases
would depend on how well IRS reprocesses the cases. Until some experience
is gained under the proposed program, it will be difficult to reliably
estimate the number of cases that will be referred back to IRS and
the number of resources it will need to devote to the cases. Other IRS
capacity issues concern, for instance, how many resources it will take to
administer the contracts and to oversee the PCAs* performance. IRS expects
to have up to 12 contractors, 2 of which would be small
businesses, and proposed procedures call for on- site visits and some
direct observation of PCAs* collection efforts. IRS would also need to
ensure PCAs* performance, such as having adequate procedures to safeguard
taxpayer information before and after the contracts are awarded, and that
it and the PCAs have secure computer systems to manage the work flow.
How the PCAs will be compensated is a key design decision that must be
finalized. On the one hand, IRS needs to provide the PCAs an incentive to
be efficient in collecting the delinquent debts and on the other hand, it
must ensure that the incentive does not lead to inappropriate performance
pressure on PCA staff. IRS intends to make part of PCAs' compensation
dependent on other factors, such as quality of service, taxpayer
satisfaction, and case resolution, in addition to collection results. Both
the law and IRS policy prohibit IRS managers from using records of tax
enforcement results, such as dollars collected and taxes assessed, to
evaluate employee performance or set production goals. IRS and Treasury
report that existing taxpayer protections would be fully preserved under
the PCA initiative. Specifically, as with IRS employees, PCA employees
could not be evaluated based on tax enforcement results. IRS is
considering using a *balanced scorecard* to measure contractors*
performance, but has not proposed specifically how this compensation
balance will be struck.
Finally, although the revolving fund mechanism presents potential
advantages to IRS in better ensuring that it can pursue delinquent tax
debts, IRS has not done a cost analysis on implementing the PCA initiative
versus expanding the use of traditional IRS collection activities. We have
not seen any plans to do so in the future. Some IRS officials believe that
because IRS telephone collection staff have a broader scope of authority
(e. g., the ability to levy a bank account to satisfy the debt) and
greater experience with collecting delinquent taxes, IRS telephone staff
are likely to be more effective and cost- efficient than PCAs. PCAs,
however, may have advantages that IRS lacks. A number of factors would
need to be considered in doing a cost analysis, and a comparison may not
be possible without having some experience in using PCAs to collect this
type of debt.
Concluding Although IRS has received increases in its budgets since fiscal
year 2001 in
Observations part to increase staffing to enhance in its compliance and
collection
programs, IRS has been unable to achieve the desired staffing levels.
Based on past experience and uncertainty regarding some expected internal
savings that would enable IRS to reallocate staff to these programs,
fiscal
year 2004 staff increases might not fully materialize. Today*s hearing
provides a useful venue for the Subcommittee to explore these funding
issues and how IRS should prioritize its efforts.
IRS has defined the scope and nature of its proposed new initiatives to
address known sources of EIC noncompliance and to use private collection
agencies to assist in collecting certain delinquent taxes. However, in
both cases IRS faces significant challenges in moving forward to
successfully implement the proposals. In commenting on a GAO report on
IRS*s National Research Program* IRS*s ongoing effort to measure the level
of taxpayers* compliance while minimizing the burden on taxpayers selected
for the study* the former Commissioner said that IRS would not compromise
the quality of the program in order to meet the program*s target date. We
believe this is a sound standard for these efforts as well.
Careful planning for and testing of key implementation steps can help
ensure the initiatives* success.
This completes my prepared statement. I would be pleased to respond to any
questions. Contact and For further information on this testimony, please
contact Michael Brostek Acknowledgments
at (202) 512- 9110 or brostekm@ gao. gov. Individuals making key
contributions to this testimony include Leon Green, Demian Moore, Neil
Pinney, and Tom Short. (450200)
GAO United States General Accounting Office
A
From fiscal years 1993 through 2002, IRS*s four major compliance programs
for individual taxpayers had mixed trends in the portion of taxpayers they
contacted with two declining, one increasing, and one staying relatively
the same. Among the programs, IRS*s often- cited audit rate declined about
38 percent. From fiscal years 1996 through 2001, IRS*s collection program
experienced almost universal declines in workload coverage, cases closed,
direct staff time used, productivity, and dollars of unpaid taxes
collected. Many parties have expressed concern
about the compliance* especially audit* and collections trends for their
potential to undermine taxpayers* motivation to fulfill their tax
obligations.
Since 2001 IRS has sought more resources including increased staffing for
compliance and collections. Despite receiving requested budget increases,
staffing levels in key occupations were lower in 2002 than in 2000. These
declines occurred for reasons such as unbudgeted expenses consuming budget
increases and other operational workload increases. Based on past
experience and uncertainty regarding some expected internal savings,
fiscal year 2004
anticipated staff increases might not fully materialize. IRS*s 2004 budget
proposes a substantial initiative to address known sources of EIC
noncompliance. IRS intends to ramp up the initiative rapidly with planning
and implementation proceeding simultaneously. If it is to succeed, the
initiative will require careful planning and close management attention.
IRS also proposes to use private collection agencies to assist in
collecting certain delinquent tax debt. IRS is seeking authority to retain
some tax receipts in a revolving fund to pay the private collectors. A
pilot effort to use private collectors in 1996 was unsuccessful, in part
because IRS was unable to identify and channel appropriate collection
cases to the private collectors. Key implementation details for this
proposal must be worked out and it too will require careful planning and
close management attention.
Proposed EIC Initiative Caseloads by Fiscal Year and Initiative Type,
2004- 08 Thousands of filers Fiscal year Initiative 2004 2005 2006 2007
2008
Relationship certification 45 a 2,000 1,500 800 100 Qualifying child
Residency certification a 0 1,000 1,000 1,000
Filing status 5 450 450 450 450 Income reporting b 175 470 470 470 470
Source: IRS.
Note: Projections are based on receiving an initiative- specific annual
appropriation of $100 million. a In 2004, a total of 45,000 claimants will
be asked to certify both their relationship and their
residency. b Also known as the *underreporter* initiative.
Taxpayers* willingness to voluntarily comply with tax laws depends in part
on their confidence that friends, neighbors, and business competitors are
paying their fair share of taxes. The
Internal Revenue Service*s (IRS) programs to ensure compliance and to
collect delinquent taxes are viewed by many as critical for maintaining
the public*s confidence in our tax system.
The Subcommittee asked GAO to present information on trends in IRS*s
compliance and collection programs and to discuss issues related to IRS*s
efforts to increase staffing for these programs. GAO was also asked to
discuss IRS*s plans to launch new initiatives to reduce noncompliance with
the Earned Income Tax Credit (EIC) and to use private collection
agencies to assist in collecting delinquent taxes.
GAO is not making any recommendations. GAO is currently working with
members of Congress to define the scope of work they would like GAO to do
to
assess IRS*s proposed initiative to address EIC noncompliance.
www. gao. gov/ cgi- bin/ getrpt? GAO- 03- 732T. To view the full report,
including the scope and methodology, click on the link above. For more
information, contact Michael Brostek at (202) 512- 9110 or brostekm@ gao.
gov. Highlights of GAO- 03- 732T, a testimony
before the Subcommittee on Transportation, Treasury, and Independent
Agencies, Committee on Appropriations, House of Representatives May 7,
2003
COMPLIANCE AND COLLECTION
Challenges for IRS in Reversing Trends and Implementing New Initiatives
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