Payroll Taxes: Billions in Delinquent Taxes and Penalties Due But
Unlikely to Be Collected (Testimony, 08/02/1999, GAO/T-AIMD/GGD-99-256).

Pursuant to a legislative requirement, GAO discussed the results of its
work on payroll taxes owed to the federal government and the associated
trust fund recovery penalties (TFRP) assessed against individuals
responsible for the nonpayment of these taxes.

GAO noted that: (1) at September 30, 1998, $49 billion in cumulative
unpaid payroll taxes were owed by nearly 2 million businesses, and $15
billion in TFRPs had been assessed against and remained owed by, 185,000
individuals responsible for the nonpayment of payroll taxes; (2) the
majority of these unpaid payroll taxes and associated TFRPs will
unlikely be collected; (3) nearly 25,000 individuals with outstanding
TFRPs were responsible for withholding but not forwarding payroll taxes
to the government at more than one business; (4) a significant number of
both businesses with unpaid payroll taxes and individuals with
outstanding TFRPs are also receiving billions of dollars in federal
benefits and payments; and (5) several factors, including financial
management system deficiencies and internal control weaknesses,
ineffective taxpayer education and early warning programs, and federal
and state laws, affect the Internal Revenue Service's ability to enforce
compliance and pursue collection of unpaid payroll taxes.

--------------------------- Indexing Terms -----------------------------

 REPORTNUM:  T-AIMD/GGD-99-256
     TITLE:  Payroll Taxes: Billions in Delinquent Taxes and Penalties
	     Due But Unlikely to Be Collected
      DATE:  08/02/1999
   SUBJECT:  Taxpayers
	     Trust funds
	     Tax nonpayment
	     Tax violations
	     Payroll records
	     Debt collection
	     Federal taxes
	     Delinquent taxes
	     Fines (penalties)
	     Noncompliance
IDENTIFIER:  Medicare Hospital Insurance Trust Fund
	     IRS Small Business Tax Education Program
	     IRS Federal Tax Deposit Alert Program
	     Railroad Retirement Trust Fund
	     Civilian Service Retirement and Disability Trust Fund
	     Social Security Disability Insurance Trust Fund

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a299256t GAO United States General Accounting Office

Testimony Before the Subcommittee on Government Management,
Information and Technology, Committee on Government Reform, House
of Representatives

For Release on Delivery Expected at 10 a. m. Monday, August 2,
1999

PAYROLL TAXES Billions in Delinquent Taxes and Penalties Due But
Unlikely to Be Collected

Statement of Gregory D. Kutz Associate Director, Governmentwide
Accounting and Financial Management Issues Accounting and
Information Management Division

Statement of Cornelia M. Ashby Associate Director, Tax Policy and
Administration Issues General Government Division

GAO/ T- AIMD/ GGD- 99- 256

Page 1 GAO/ T- AIMD/ GGD- 99- 256

Mr. Chairman and Members of the Subcommittee: We are pleased to be
here today to discuss the results of our work on payroll taxes
owed to the federal government and the associated trust fund
recovery penalties assessed against individuals responsible for
the nonpayment of these taxes. This work was performed in response
to your request for information on unpaid payroll taxes and
associated tax penalties. We are issuing our report on the results
of this work today. 1 In your request, you asked that we determine

 the extent to which payroll taxes are not remitted to the federal
government,  the magnitude of the trust fund recovery penalties
(TFRP) assessed

against individuals who withheld federal payroll taxes from
employees' salaries but did not forward them,  the extent to which
individuals who have not remitted payroll taxes are responsible
for not paying these taxes at multiple businesses,  the extent to
which businesses and individuals who failed to pay payroll

taxes are also receiving federal benefits or other federal
payments, and  the factors that affect the Internal Revenue
Service's (IRS) ability to

enforce compliance or pursue collections in this area. The report
we are issuing today responds to each of these questions. This
statement summarizes the major issues contained in our report.

In summary, at September 30, 1998, $49 billion in cumulative
unpaid payroll taxes were owed by nearly 2 million businesses, and
$15 billion in TFRPs had been assessed against, and remained owed
by, 185,000 individuals responsible for the nonpayment of payroll
taxes. The majority of these unpaid payroll taxes and associated
TFRPs will unlikely be collected. Nearly 25, 000 individuals with
outstanding TFRPs were responsible for withholding but not
forwarding payroll taxes to the government at more than one
business. A significant number of both businesses with unpaid
payroll taxes and individuals with outstanding TFRPs are also
receiving billions of dollars in federal benefits and payments.
Several factors,

including financial management system deficiencies and internal
control weaknesses, ineffective taxpayer education and early
warning programs,

1 See Unpaid Payroll Taxes: Billions in Delinquent Taxes and
Penalty Assessments Owed (GAO/ AIMD/ GGD- 99- 211, August 2,
1999).

Lett er

Page 2 GAO/ T- AIMD/ GGD- 99- 256

and federal and state laws, affect IRS' ability to enforce
compliance and pursue collection of unpaid payroll taxes.

Payroll Taxes and the Process for Distributing Monies to the Trust
Funds

Employers are required to withhold from their employees' salaries
amounts for individual federal income taxes and Federal Insurance
Contribution Act (FICA) taxes, which include taxes for Social
Security and hospital

insurance (Medicare). Employers are required to forward these
withheld taxes, as well as the employers' matching FICA tax
amounts, to the federal government. The Department of the
Treasury, through IRS, is responsible for collecting these taxes.
The information IRS receives at the time it collects several types
of tax payments, including those for Social Security and hospital
insurance, is not sufficient to allow it to attribute these
payments to specific trust funds. For

this reason, initial distributions to the Social Security and
hospital insurance trust funds are based on estimates prepared by
the Social Security Administration's (SSA) Office of the Chief
Actuary and Treasury's Office of Tax Analysis (OTA), with
adjustments subsequently made as a

result of certifications made by the Commissioner of SSA. This
process is illustrated in detail in appendix I.

It is important to emphasize that the amounts distributed to the
Social Security and hospital insurance trust funds are based on
the wages an individual earns as required by law, not the amount
the employer actually forwards to the government. This ensures
that individuals who work and have taxes withheld to pay into the
Social Security program or their spouses and qualified dependents
receive the appropriate level of

program benefits when they retire, become disabled, or die.
However, this also creates a situation in which the general
revenue fund subsidizes the Social Security and hospital insurance
trust funds to the extent that Social Security and hospital
insurance taxes owed are not actually collected. While the vast
majority of businesses pay the taxes withheld from employees'
salaries as well as the employers' matching amounts, a significant
number of businesses do not. Over time, the

cumulative amounts of unpaid payroll taxes, and thus the amount of
this subsidy, is significant. As of September 30, 1998, the
estimated amount of unpaid taxes and interest in IRS' $222 billion
unpaid assessments balance

Lett er

Page 3 GAO/ T- AIMD/ GGD- 99- 256

was approximately $38 billion for Social Security and hospital
insurance taxes. 2 Trust Fund Recovery

Penalties To the extent a business withholds money from an
employee's salary for

federal income taxes and the employee's FICA obligation but does
not forward these monies to the federal government, that business
is liable for these unpaid taxes, as well as its own matching FICA
contribution. Under statute, if determined to be willful and
responsible, individuals can also be held personally liable and
subject to a TFRP for federal income and FICA taxes withheld from
employees but not forwarded to the federal government. It should
be noted that IRS does not have to determine that

there was a deliberate intent or desire to defraud the federal
government as a prerequisite to assessing a TFRP. More than one
individual can be found willful and responsible for a business'
failure to pay the federal government withheld payroll taxes and

thus be assessed a TFRP. Additionally, the business itself is
still liable for the entire amount of the unpaid payroll taxes.
However, IRS policies require that it collect the unpaid tax only
once.

Cumulative Unpaid Payroll Taxes Are Significant

According to IRS records, as of September 30, 1998, businesses
owed the federal government about $49 billion in payroll taxes. 3
This represents about 22 percent of the $222 billion in IRS'
inventory of unpaid tax assessments as of September 30, 1998. The
$49 billion includes about $19 billion in unpaid tax assessments
and another $30 billion in penalties and interest.

While consisting of less than a quarter of IRS' outstanding
balance of unpaid assessments at September 30, 1998, unpaid
payroll taxes make up

2 This estimate includes both FICA and Self- Employment
Contribution Act (SECA) taxes, but does not include federal income
tax withholdings, which are a component of payroll taxes. SECA
taxes are Social Security and hospital insurance taxes required to
be paid by self- employed individuals. Accrued interest is also
included in the estimate because assessments distributed to the
trust funds earn interest at Treasury- based interest rates,
similar to IRS' interest accruals.

3 Differences between this amount and the estimated cumulative
subsidy amount of $38 billion discussed previously are due to the
following: (1) the $49 billion in unpaid payroll taxes includes
federal income tax withholdings, which are not included in the
estimate, and (2) the $38 billion

estimated subsidy includes unpaid SECA taxes, which are not
included in the $49 billion in unpaid payroll taxes.

Page 4 GAO/ T- AIMD/ GGD- 99- 256

over 50 percent of IRS revenue officers' caseloads in many regions
of the country. Consequently, they represent one of IRS' most
significant enforcement challenges.

The Number and Age of Delinquent Payroll Taxes Are Significant

IRS records show that over 1.8 million businesses owe the $49
billion in unpaid payroll taxes for more than 4. 9 million
separate tax periods or quarters (see table 1). Nearly 50 percent
of the businesses with outstanding payroll taxes are delinquent
for more than one quarter. Some of these businesses have in excess
of 40 quarters of delinquent payroll taxes.

Table 1: Businesses With Multiple Quarters of Unpaid Payroll Taxes

a Consists of taxes, penalties and interest. Source: IRS Business
master file.

As table 1 illustrates, a significant number of businesses have
multiple tax periods of unpaid payroll taxes. Over 52 percent of
the 4.9 million in delinquent quarters of payroll taxes predate
1994, as shown in table 2.

Moreover, these multiple periods of unpaid payroll taxes can go
back as much as 20 years or more. The outstanding balance of these
delinquent quarters of payroll taxes totals over $34 billion,
representing over 70 percent of the total balance of unpaid
payroll taxes in IRS' inventory of unpaid assessments at September
30, 1998.

Unpaid payroll taxes Number of businesses Number of quarters
Outstanding balance a

(dollars in billions)

1,702,177 1 to 6 $26. 4 158,106 7 to 20 21. 0 5,281 21 to 40 1. 5
86 Over 40 0. 1

Total 1,865,650  $49. 0

Page 5 GAO/ T- AIMD/ GGD- 99- 256

Table 2: Delinquent Quarters of Unpaid Payroll Taxes and Their
Outstanding Balances by Age

a Consists of taxes, penalties and interest. Source: IRS Business
master file.

Potential Collectibility of Unpaid Payroll Taxes Is Low Taxpayer
account status codes maintained in IRS' systems indicate little

potential for collection for many of the 4.9 million delinquent
payroll tax accounts, as shown in table 3. In fact, these records
would indicate that the majority of the unpaid payroll tax
accounts are not likely to be collected.

Table 3: Delinquent Payroll Tax Accounts With Little Likelihood of
Collection

Our previous work on IRS' unpaid assessments 4 has shown that
older delinquent taxes have little likelihood of collection.
Additionally, our review of a statistical sample of 690 unpaid tax
assessments selected as part of our audit of IRS' fiscal year 1998
financial statements reinforces this

conclusion. Of the 690 unpaid tax assessment accounts selected for
review, 191, with outstanding balances of about $121 million, were
unpaid Unpaid payroll taxes Tax years Number of quarters
Outstanding balance a

(dollars in billions)

1994- 1998 2, 348, 838 $14. 4 1988- 1993 2, 198, 493 25. 4 1980-
1987 407, 619 9. 0 Before 1980 3, 491 0. 2

Total 4, 958, 441 $49. 0 Business status Number of

accounts Percentage of 4.9M delinquent accounts

No longer in existence 1. 4 million 28 Insolvent or IRS is unable
to locate or contact 487, 000 10 Does not have resources to pay
amount owed 444,000 9 In bankruptcy or other litigation
proceedings 189,000 4

Total 51

4 See Internal Revenue Service: Composition and Collectibility of Unpaid Assessments (

GAO/AIMD-99-12
, October 29, 1998).
4 See Internal Revenue Service: Composition and Collectibility of
Unpaid Assessments (  GAO/AIMD-99-12 , October 29, 1998).

Page 6 GAO/ T- AIMD/ GGD- 99- 256

payroll taxes or associated TFRPs. 5 In our review of these cases,
both we and IRS determined that only about 9 percent of the
outstanding balances would likely be collected.

Types of Businesses With Unpaid Payroll Taxes

There are many types of businesses with delinquent payroll taxes.
IRS records indicate that corporations represent about 56 percent
of the total number of businesses with unpaid payroll taxes. Sole
proprietorships represent the second most significant category,
about 29 percent of the total, and partnerships represent the
third most significant category, about 7 percent.

Our review of the 191 unpaid payroll tax cases and discussions
with IRS revenue officers throughout the country identified
additional characteristics of the businesses that have failed to
forward payroll taxes to the federal government. These businesses
are typically in wage- based industries, with few assets available
as a potential collection source for the IRS. They are usually
small, closely held businesses using a corporate structure, but
this can vary by region of the country. As can be seen in figure
1, construction businesses make up the greatest percentage of
industries with unpaid payroll taxes identified in our review of
the

191 cases. 5 While our sample of 690 unpaid assessment accounts is
a representative sample, the 191 unpaid payroll tax and TFRP cases
selected as part of this sample cannot be considered statistically
representative of the entire population of such cases. Thus, any
analysis of these 191 cases cannot be projected to the entire
population of unpaid payroll taxes and TFRPs.

Page 7 GAO/ T- AIMD/ GGD- 99- 256

Figure 1: Most Common Businesses/ Industries With Unpaid Payroll
Taxes From Cases Reviewed

Other types of businesses noted in our review of the 191 unpaid
payroll tax cases included (1) professional services, (2)
consultants, (3) education and training, (4) computer software,
and (5) child care.

Page 8 GAO/ T- AIMD/ GGD- 99- 256

Unpaid Penalties Assessed Against Individuals for Not Forwarding
Payroll Taxes to the Government Are Significant

According to IRS records, as of September 30, 1998, outstanding
TFRPs assessed against individuals were about $15 billion. This
amount includes initial assessments of about $9 billion and
accumulated interest of about $6 billion. IRS records indicate a
total of about 237,000 separate TFRP assessments made against, and
owed by, nearly 185,000 individuals.

As discussed earlier, a TFRP assessment is only for the federal
tax withholding and FICA taxes withheld from employees' salaries;
it does not include the business' or employer's matching FICA
contributions.

Additionally, a TFRP can be assessed against anyone found willful
and responsible for the withholding and nonpayment of payroll
taxes. If several individuals involved in a business are found
willful and responsible,

they can each be separately assessed a TFRP for the unpaid taxes.
However, while TFRPs are assessed against one or more individuals
and thus appear as separate unpaid assessments on IRS' records,
the total payroll taxes owed by the business are to be collected
only once. This means that if the business responsible for the
unpaid payroll taxes pays some or all of its delinquent taxes, or
if one of several individuals assessed a TFRP covering the same
delinquent tax period pays some or all of the assessment, the tax
liability for all related parties should be reduced or eliminated
from IRS' records.

System Deficiencies Affect the Completeness and Accuracy of TFRP
Information In our October 1998 report 6 on internal control
weaknesses at IRS, which

was based on the results of our audit of IRS' fiscal year 1997
custodial financial statements, 7 we discussed serious financial
management systems issues that affected IRS' ability to
effectively manage and accurately report on its unpaid
assessments. One of the most serious issues we discussed

related to IRS's inability to link related taxpayer accounts to
ensure that they all receive appropriate credit when a payment is
made on one account. This is of particular concern for unpaid
payroll taxes and related TFRPs. The unpaid payroll tax of a
business and the TFRP assessed against an

individual, or individuals, are maintained on IRS' business and
individual master files the detailed databases of taxpayer
information for businesses and individuals, respectively. These
are two separate and distinct 6 See Internal Revenue Service:
Immediate and Long- Term Actions Needed to Improve Financial
Management (GAO/AIMD-99-16, October 30, 1998).

7 See Financial Audit: Examination of IRS' Fiscal Year 1997
Custodial Financial Statements (GAO/AIMD-98-77, February 26,
1998).

Page 9 GAO/ T- AIMD/ GGD- 99- 256

databases that are not integrated. Consequently, if a payment is
received from the business, there is no automated entry to record
the reduction in the individual, or individuals', TFRP account or
accounts. This has led to

instances in which IRS has pursued collection against officers of
a business for amounts that had already been paid.

IRS has attempted to correct this problem by manually entering a
code on related taxpayer accounts to alert IRS personnel that
related accounts exist and should be reviewed to ensure that all
transactions are appropriately reflected on each account. However,
as reflected in table 4, our audits of

IRS' fiscal year 1997 and 1998 financial statements have shown
that the use of these codes, referred to as cross- references, has
not been effective in providing the compensating link between
related taxpayer accounts. In fact, in over half of the unpaid
payroll tax cases we reviewed during both years, payments were not
properly reflected in each related account.

Table 4: Frequency of Payments Not Properly Recorded to Related
Taxpayer Accounts Identified in Fiscal Years 1997 and 1998

In our fiscal year 1998 audit, we also determined that this
problem was not caused solely by the lack of an automated link
between IRS' business and individual master files. In 7 of the 54
cases we reviewed in which payments were not properly recorded,
IRS failed to credit one individual's TFRP liability account for
payments made by another individual who had also been assessed a
TFRP for the same business' unpaid payroll taxes. Additionally, in
52 of the 104 unpaid payroll tax cases we reviewed in fiscal year
1998 in which a TFRP was assessed (50 percent), a cross- reference
was not present in the master files to alert IRS personnel that
the account was related to one or several other accounts. These
problems create instances of unintentional taxpayer burden, such
as that caused by

inappropriate federal tax liens on taxpayers' property, and affect
the accuracy of reported balances of both the unpaid payroll tax
and the associated TFRPs.

Cases reviewed in which payments were not reflected on

all related taxpayer accounts Fiscal year

Number of unpaid payroll tax cases reviewed in which

a TFRP was assessed Number Percent

1997 83 53 64 1998 104 54 52

Page 10 GAO/ T- AIMD/ GGD- 99- 256

Significant delays in recording payments also affect the
completeness and accuracy of the reported amounts for both unpaid
payroll taxes and TFRPs. In one instance, we found that payments
were recorded to the individual's

account over 8 years after they had been received. Additionally,
we found that IRS did not always assess TFRPs against responsible
individuals in a timely manner. Specifically, we found two cases
in which IRS did not assess a TFRP against officers of businesses
until 36 and 55 months, respectively, after the businesses filed
their payroll tax returns and IRS would have become knowledgeable
of the tax delinquencies. During this period, these officers
received tax refunds. Had IRS assessed the TFRPs more promptly, it
would have been able to retain, or offset, the refunds to recover
a portion of the balance of unpaid payroll taxes. Not All
Individuals Responsible for

Nonpayment of Payroll Taxes Are Assessed TFRPs In addition to the
serious financial management deficiencies and internal control
issues that affect the integrity of IRS' data on unpaid payroll
taxes

and TFRPs, IRS does not track or otherwise systemically maintain
information on the number and dollar value of potential TFRPs that
are not assessed the value of which could be significant. Several
factors affect whether IRS assesses an individual a TFRP for
unpaid payroll taxes. First, IRS must be able to establish that an
individual was, in fact, willful and responsible for the
nonpayment of payroll taxes. Some businesses operate in a fashion
that allows an individual without direct responsibility to
nonetheless indirectly influence the nonpayment of payroll taxes.
An example would be a corporate director who, by all established
lines of authority, has no direct involvement in the day- to- day
operations of the business but who, in practice, is heavily
involved in the business' operations. Thus, establishing that an
individual was both willful and

responsible is not always easy. In determining whether to assess a
TFRP, IRS also considers the amounts involved and the cost
associated with pursuing collection actions against the
individual. If IRS concludes that the amounts involved do not
warrant the cost of pursuing collection, it typically will not
assess the TFRP. Additionally, IRS does not assess sole
proprietors and partnerships TFRPs

for unpaid payroll taxes, believing that it can best pursue
collection against the individuals through their individual tax
return filing. Finally, IRS also considers the potential to
collect the assessment in determining whether to assess the TFRP.

Page 11 GAO/ T- AIMD/ GGD- 99- 256

Consequently, the numbers and dollar value of outstanding TFRPs
discussed above likely significantly understate the extent to
which individuals are responsible for not forwarding payroll taxes
to the federal government.

Collectibility Potential on TFRPs Is Not Considered Great

IRS' records, our discussions with revenue officers, and our work
on a sample of unpaid assessments performed as part of our audit
of IRS' fiscal year 1998 financial statements indicate that the
potential for significant collections on TFRPs is not great.
Status codes in IRS' individual master files for about 76,000 (32
percent) of the 237, 000 TFRPs assessed against individuals
reflect conditions suggesting minimal likelihood of collection.

These conditions include the following:  the individual cannot be
located or contacted,  the individual is in bankruptcy proceedings
or some other form of

litigation,  the individual does not have the ability to pay the
assessment, and  the individual is deceased.

Discussions with revenue officers throughout the country have
reinforced the conclusion that TFRP assessments are not highly
collectible. Many revenue officers we interviewed believe that
less than 30 percent of amounts assessed as TFRPs are ultimately
collected. Of the 104 unpaid payroll tax cases we reviewed in
fiscal year 1998 in which TFRPs were

assessed, we determined that only 8 cases had some potential for
collectibility.

Significant Numbers of Individuals Are Responsible for Withholding
But Not Paying Payroll Taxes at Multiple Businesses

IRS records indicate that as of September 30, 1998, nearly 25,000
individuals, or about 13 percent of the 185,000 individuals with
TFRPs, have been assessed such penalties for unpaid payroll taxes
at more than one business. As shown in table 5, about three-
quarters of these individuals have TFRP assessments for two
separate businesses, and about a quarter

have TFRP assessments at three or more businesses.

Page 12 GAO/ T- AIMD/ GGD- 99- 256

Table 5: Number of Individuals With Trust Fund Recovery Penalties
for Two or More Businesses

Source: IRS UNLCER files and individual master file.

In fact, IRS' records indicate that 7 individuals have been
assessed TFRPs at 20 or more separate and distinct businesses.
However, we must reiterate that these data may not provide a
complete and accurate assessment of the degree to which such
multiple offenders exist because of the significant deficiencies
in IRS' financial management systems and internal controls

and because IRS does not always assess an individual a TFRP.
Additionally, these data cannot account for those individuals who
establish new businesses under other names or otherwise conceal
their identities. Our review of the 191 unpaid payroll tax related
cases and our discussions with revenue officers throughout the
country confirm that a significant number of individuals are found
liable for the nonpayment of payroll taxes at more than one
business. Of the 104 unpaid payroll tax cases we reviewed in which
TFRPs were assessed against individuals, we found that 30 (29
percent) involved individuals assessed TFRPs for more than one

business. In one case, we found that an individual had TFRP
assessments outstanding for four separate businesses and had been
determined responsible for the nonpayment of payroll taxes at a
fifth business. In all instances, the individual established and
operated construction- related (electrical) companies, in which he
was both owner and president. Each company accumulated unpaid
payroll taxes and then went out of business.

Shortly after each company went out of business, the individual
opened a new company in the same line of business.

Number of businesses Number of individuals

2 18, 993 3 3,925 4 1,079 5 409 6 192 7- 12 235 Over 12 29

Total 24, 862

Page 13 GAO/ T- AIMD/ GGD- 99- 256

Reasons Individuals Continue to Have Unpaid Payroll Taxes at
Multiple Businesses

Most of the revenue officers we interviewed believe the majority
of the individuals responsible for not paying payroll taxes at
multiple businesses do not flagrantly disregard their
responsibility to forward such payments to the federal government.
Most of the revenue officers stated that the individuals
responsible for not paying these taxes lack the skills necessary
to properly manage a business. We were told that many start up
businesses with little capital and quickly find themselves
experiencing cash flow problems. In their struggle to stay in
business, these individuals prioritize and direct their payments
to those recipients without which the businesses would quickly
fail, such as employees' net salaries, rent, and utilities.
Eventually the businesses are unable to sustain even these
payments, and they fail. Revenue officers further stated that,
unfortunately, these individuals do not learn from some of the
mistakes they make, and are soon opening and operating new
businesses in much the same manner. However, the revenue officers
acknowledged that some individuals

intentionally disregard their responsibility to forward payroll
taxes to the federal government . One revenue officer noted a case
in which an individual was ultimately determined to be responsible
for not paying the payroll taxes at three businesses. This
individual used family members to conceal his involvement in two
of the businesses. He was the president of

the first business and had the business assets listed in his name.
After this corporation had accrued but not paid substantial
payroll tax liabilities, the corporation went out of business and
he established a new corporation, listing his wife as president
and placing the assets in her name. He subsequently established a
third corporation, this time listing his daughter as the president
and placing the assets in her name. Both of these subsequent
corporations also accrued significant unpaid payroll tax
liabilities.

Regardless of an individual's intent, the failure to pay withheld
payroll taxes has the same effect on the federal government. In
either case, the federal government incurs costs to pursue
collection of the delinquent tax debt and loses revenue to the
extent that such taxes are not ultimately collected. Additionally,
as discussed previously, to the extent payroll taxes are not paid,
the general revenue fund subsidizes the Social Security and
hospital insurance trust funds. As a result, fewer funds are
available to finance other federal programs.

Page 14 GAO/ T- AIMD/ GGD- 99- 256

Businesses and Individuals Responsible for Not Paying Payroll
Taxes Receive Significant Federal Benefits and Other Federal
Payments

We found that businesses and individuals responsible for
withholding but not paying payroll taxes receive substantial
payments from the federal government, either for federal benefits
or for other payment purposes, such as federal contracts or loans.
Specifically, based on a matching of IRS records of individuals
with outstanding TFRPs with certain Financial Management Service
(FMS) payment records, we estimate that about 18,800 (10 percent)
of these individuals were receiving about $212 million in annual
federal benefit

payments while owing almost $2 billion in delinquent payroll
taxes, as shown in table 6.

Table 6: Delinquent Taxpayers Receiving Federal Benefits at
September 30, 1998, and Their Tax Liability Balances (Dollars in
millions)

Source: GAO analysis of FMS payments and IRS' records for trust
fund recovery penalties.

Additionally, based on a matching of FMS records of payments made
to civilian vendors over a 3- month period to IRS' records of
businesses with unpaid payroll taxes and individuals with
outstanding TFRPs, we found

that about 16,700 taxpayers with payroll tax liabilities of about
$507 million at September 30, 1998, received about $7 billion in
federal payments over this 3- month period.

Finally, based on our matching of IRS records of businesses with
unpaid payroll taxes with the Small Business Administration's
(SBA) records of outstanding loans as of September 30, 1998, we
estimate that about 12,700 taxpayers with unpaid payroll taxes
estimated at more than $295 million had received loan
disbursements totaling about $3. 5 billion. Further analysis
disclosed that 38 of these taxpayers, with outstanding TFRPs of
about $1. 6 million, received SBA loans estimated at $10.6 million
after IRS had assessed the TFRPs. In addition, 1,719 taxpayers
(businesses and individuals) with unpaid payroll taxes of about
$31.6 million received

Payment type Taxpayers Estimated annual payments Tax liabilities
at

September 30, 1998

SSA 18, 199 $200.4 $ 1, 902. 0 Civilian Retirement 271 3. 9 21. 5
Civilian Salary 215 6. 3 14. 1 Railroad Retirement 81 1. 0 7. 7

Total 18,766 $211.6 $1, 945. 3

Page 15 GAO/ T- AIMD/ GGD- 99- 256

SBA loans estimated at $448.7 million after accumulating these tax
delinquencies.

However, any conclusions drawn from this analysis must consider
the potential problems with the reliability and completeness of
IRS data due to the serious financial management system
deficiencies and internal control

weaknesses discussed previously. Factors Affecting IRS' Ability to
Enforce Compliance or Pursue Collection of Unpaid Payroll Taxes

Several factors affect IRS' ability to enforce compliance with
respect to the payment of payroll taxes and to pursue collections
of unpaid payroll taxes from businesses or responsible
individuals. These factors are discussed

briefly below. Financial Management System Deficiencies and
Internal Control Weaknesses Affect Accuracy of Taxpayer Account
Status

As discussed previously, the lack of an automated link or
interface between IRS' separate taxpayer databases for businesses
and individuals leaves IRS no assurance that its records for an
individual taxpayer or business are complete and accurate. IRS
efforts to date to address this lack of linkage have not been
fully effective in ensuring the accuracy of taxpayer accounts. In
addition, delays in assessing individuals TFRPs result in missed
opportunities to collect amounts through such means as retaining
or offsetting refunds against unpaid payroll taxes.

Taxpayer Education and Early Warning Programs Are Not Considered
Effective

IRS has two programs to prevent payroll tax delinquencies: the (1)
Small Business Tax Education Program and (2) Federal Tax Deposit
(FTD) Alert Program. The Small Business Tax Education Program
attempts to prevent payroll tax and income tax delinquencies by
offering education programs and tax workshops to individuals
wishing to start up businesses. Despite its purpose, many of the
revenue officers we interviewed nationwide noted that this program
has not been very effective in reducing or preventing delinquent
payroll taxes. Others noted that the individuals in most need of

attending these workshops did not appear to be present.

Page 16 GAO/ T- AIMD/ GGD- 99- 256

The FTD Alert Program is intended to identify and prevent
potential payroll tax payment delinquencies through early
identification of required deposits under the FTD system that have
not been made. The Alert Program targets larger employers who
deposit semiweekly (those who reported more than $50, 000 in
payroll taxes on their quarterly Tax Form 941 filings during the
previous 12- month period). Information regarding taxpayers who
failed to make their deposits is transferred to tapes, which are
sent to the service

centers for printing of alert notices and mailing to the
respective district offices. Some revenue officers noted that the
alerts are not received in the field early enough to prevent
employers from accumulating substantial delinquencies or to
provide early warning of potential problems. Some of the revenue
officers also noted that the alerts received were often invalid or
unproductive. Often the taxpayer's case has already been
designated as delinquent, or the taxpayer has actually gone out of
business before the

revenue officer makes contact. In other instances, the employer
has already paid the delinquent payroll taxes between the time the
FTD alert is issued and received in the field and the contact is
made with the taxpayer. Some revenue officers also stated that the
FTD alerts yield few collections

compared to the effort expended in processing the alerts. Certain
IRS Procedures Limit Collection and Prevention Efforts

According to several IRS field office representatives, another
factor that inhibits IRS' ability to collect delinquent payroll
taxes and to prevent taxpayers from accumulating multiple payroll
tax delinquencies is that IRS' Criminal Investigation Division
(CID) and District Counsel do not prosecute taxpayers for failing
to pay payroll taxes unless fraud is clearly evident. Field office
personnel noted that even in instances in which the

taxpayers are multiple offenders, CID and District Counsel appear
reluctant to pursue prosecution. A few field personnel noted that
IRS could seek injunctions through the U. S. Attorney's Office to
prevent taxpayers from accumulating multiple payroll tax
delinquencies and that the District Counsel prefer not to seek
such injunctions due to the time and expense required to prosecute
such cases.

Federal and State Laws Also Inhibit Compliance and Collection
Efforts

Federal and state laws also affect IRS' ability to enforce
compliance with respect to payment of payroll taxes or to pursue
collections on delinquent payroll taxes. Under section 6103 of the
Internal Revenue Code, IRS is precluded from sharing tax
information with state licensing authorities that

have the power to grant or deny business licenses for new and
existing

Page 17 GAO/ T- AIMD/ GGD- 99- 256

businesses. Therefore, IRS is inhibited in its ability to prevent
individuals responsible for the nonpayment of payroll taxes from
starting up new businesses and repeating the practice. Some
Collection Division field representatives noted that due to the
same disclosure prohibitions, IRS is unable to publish the names
of delinquent taxpayers to increase compliance and generate
collections, a process that has been used with some success by a
number of states and local taxing authorities.

One IRS field representative we spoke with also mentioned that in
California, the posting of bonds by a new business for state
payroll taxes is required as a prerequisite to the granting of a
new business license. In this manner, the state is protected to
some degree in the event of nonpayment

of state payroll taxes. This avenue is currently not available to
the federal government for federal payroll taxes. According to
some IRS field representatives, the agency's ability to pursue
collections of delinquent payroll taxes and associated TFRPs is
also inhibited by the property laws of some states, as well as
varying

interpretations of bankruptcy laws. According to some
representatives, in a number of states, IRS is unable to enforce
collection of delinquent taxes and penalties because state laws
preclude attaching liens to, and seizing, personal property.
States in which Tenancy by the Entirety 8 or Marital Joint
Property laws exist limit the assets available for IRS to attach
or seize. Also, according to an IRS official, a business under
Chapter 11 9 Bankruptcy Reorganization can continue to operate at
the bankruptcy judge's discretion. This can result in the business
incurring additional tax

delinquencies. Other Factors IRS Employees Cite as Affecting
Enforcement and Collection of Unpaid Payroll Taxes

In addition to the factors discussed above, Collection Division
field representatives cited other factors that, they believe,
affect their ability to enforce compliance and pursue collections
on delinquent payroll taxes and TFRP assessments. Several field
representatives stated that the current level of collection staff
is not sufficient to effectively prevent, collect, and

monitor delinquent payroll taxes and TFRPs, and that revenue
officers are increasingly being required to spend time supporting
IRS' Customer

8 Tenancy by the Entirety is one form of jointly held property in
which the property is co- owned with a spouse. Each spouse owns
100 percent of the property at all times. 9 In general, Chapter 11
is a reorganization proceeding for an individual or a business or
other entity in which creditors are paid under a plan.

Page 18 GAO/ T- AIMD/ GGD- 99- 256

Service and other functional areas instead of working on
collection issues. Field representatives also said that certain
provisions of the Restructuring and Reform Act of 1998, which was
enacted to provide fairness to taxpayers, could lengthen the time
it takes revenue officers to work cases and result in fewer cases
being resolved, and expressed uncertainty about

how to operate under certain provisions that contain penalties for
IRS personnel if the rules are not followed.

Ability to Offset Federal Benefits and Other Federal Payments Has
Yet to Be Achieved

Federal law does not prevent businesses or individuals from
receiving federal payments or loans when they are delinquent in
paying payroll taxes. While IRS can retain, or offset, refunds
otherwise due businesses or individuals to recover some or all of
the delinquent taxes owed, up to this point it has not been able
to systematically pursue other federal payments made to these
taxpayers to recover delinquent taxes. The Debt Collection
Improvement Act of 1996, enacted under the

leadership of this Subcommittee, called for the centralization and
aggressive pursuit of delinquent nontax federal receivables,
including delinquent loans and other forms of payments owed the
federal government. Treasury also intends to include the
collection of federal tax

debts as part of the mechanism it is developing to pursue
collection of nontax federal receivables as mandated under the
act. In doing so, Treasury is using as its legal authority a
subsequently passed provision in the Taxpayer Relief Act of 1997.
This provision grants IRS the authority to place a continuous levy
on a delinquent taxpayer's federal benefits to assist in
recovering overdue taxes. Implementation of the continuous levy
provision is expected to begin in July 2000.

Treasury's plan has been revised on several occasions, as it and
other affected agencies try to address complex implementation
issues to avoid undue harm to individuals. This will be of
particular concern with respect to Treasury's plan to include
unpaid tax assessments as part of its federal debt collection
efforts. There will be a critical need to address IRS' significant
financial management systems deficiencies and internal control

weaknesses to ensure that taxpayers are not unduly harmed through
the levying of federal benefits and other payments to repay
amounts that have already been collected.

Mr. Chairman, this concludes my prepared statement. I would be
pleased to answer any questions you or other members of the
Subcommittee may have.

Page 19 GAO/ T- AIMD/ GGD- 99- 256

Contact and Acknowledgment

For future contacts regarding this testimony, please contact
Gregory D. Kutz at (202) 512- 3406 or Cornelia Ashby at (202) 512-
9110. Individuals making key contributions to this testimony
included Steven J. Sebastian,

Ralph Block, Paul Caban, and Patrick McCray.

Page 20 GAO/ T- AIMD/ GGD- 99- 256

Appendix I Overview of the Process for Distribution of FICA and
SECA Tax Revenue to Trust Funds Appendi x I

Taxpayer a Payment/ Filing

$ Tax payments

a Employers and self- employed individuals Deposit tax

payments in general fund Collection/

Accounting

IRS FMS

SSA

Estimation Certification

Estimation

OTA FMS

Distribution/ Adjustment

Recording/ Accounting

BPD

Investment in Treasury securities/ payment of

benefits Record

FICA/ SECA taxes in master file

Process tax returns and send payroll

tax data to SSA monthly

Chief actuary develops estimate

of FICA/ SECA semiannually

Calculate monthly estimates

of FICA/ SECA

tax Prepare journal

entry to record estimates

Record entries into - Federal Hospital

Insurance - Federal Old Age and

Survivors Insurance - Federal Disability

Insurance Trust funds 941 Employer's

Quarterly Federal Tax

Return W2, W3 Annual Wage and

Earnings Statement

Calculate the certified

amounts quarterly

Prepare journal entry to adjust OTA estimates

to certified amounts

quarterly

(901796) Let t er

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