[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]
INTERNAL REVENUE SERVICE OPERATIONS
AND THE TAX GAP
=======================================================================
HEARING
before the
SUBCOMMITTEE ON OVERSIGHT
of the
COMMITTEE ON WAYS AND MEANS
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED TENTH CONGRESS
FIRST SESSION
__________
MARCH 20, 2007
__________
Serial No. 110-25
__________
Printed for the use of the Committee on Ways and Means
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COMMITTEE ON WAYS AND MEANS
CHARLES B. RANGEL, New York, Chairman
FORTNEY PETE STARK, California JIM MCCRERY, Louisiana
SANDER M. LEVIN, Michigan WALLY HERGER, California
JIM MCDERMOTT, Washington DAVE CAMP, Michigan
JOHN LEWIS, Georgia JIM RAMSTAD, Minnesota
RICHARD E. NEAL, Massachusetts SAM JOHNSON, Texas
MICHAEL R. MCNULTY, New York PHIL ENGLISH, Pennsylvania
JOHN S. TANNER, Tennessee JERRY WELLER, Illinois
XAVIER BECERRA, California KENNY HULSHOF, Missouri
LLOYD DOGGETT, Texas RON LEWIS, Kentucky
EARL POMEROY, North Dakota KEVIN BRADY, Texas
STEPHANIE TUBBS JONES, Ohio THOMAS M. REYNOLDS, New York
MIKE THOMPSON, California PAUL RYAN, Wisconsin
JOHN B. LARSON, Connecticut ERIC CANTOR, Virginia
RAHM EMANUEL, Illinois JOHN LINDER, Georgia
EARL BLUMENAUER, Oregon DEVIN NUNES, California
RON KIND, Wisconsin PAT TIBERI, Ohio
BILL PASCRELL JR., New Jersey JON PORTER, Nevada
SHELLEY BERKLEY, Nevada
JOSEPH CROWLEY, New York
CHRIS VAN HOLLEN, Maryland
KENDRICK MEEK, Florida
ALLYSON Y. SCHWARTZ, Pennsylvania
ARTUR DAVIS, Alabama
Janice Mays, Chief Counsel and Staff Director
Brett Loper, Minority Staff Director
______
SUBCOMMITTEE ON OVERSIGHT
JOHN LEWIS, Georgia, Chairman
JOHN S. TANNER, Tennessee JIM RAMSTAD, Minnesota
RICHARD E. NEAL, Massachusetts ERIC CANTOR, Virginia
XAVIER BECERRA, California JOHN LINDER, Georgia
STEPHANIE TUBBS JONES, Ohio DEVIN NUNES, California
RON KIND, Wisconsin PAT TIBERI, Ohio
BILL PASCRELL JR., New Jersey
JOSEPH CROWLEY, New York
Pursuant to clause 2(e)(4) of Rule XI of the Rules of the House, public
hearing records of the Committee on Ways and Means are also published
in electronic form. The printed hearing record remains the official
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unintentional errors or omissions. Such occurrences are inherent in the
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C O N T E N T S
__________
Page
Advisory of March 12, 2007, announcing the hearing............... 2
WITNESS
The Honorable Mark W. Everson, Commissioner, Internal Revenue
Service........................................................ 4
SUBMISSIONS FOR THE RECORD
Colleen M. Kelley, National Treasury Employees Union, statement.. 51
Electronic Transactions Association, statement................... 57
Gerald E. Scorse, New York, NY, statement........................ 59
James R. White, letter........................................... 61
Janine Valdivieso, letter........................................ 64
Nancy L. Shoemake, Burnsville, MN, statement..................... 65
William David Kebshull, statement................................ 67
INTERNAL REVENUE SERVICE OPERATIONS
AND THE TAX GAP
----------
TUESDAY, MARCH 20, 2007
U.S. House of Representatives,
Committee on Ways and Means,
Subcommittee on Oversight,
Washington, DC.
The Subcommittee met, pursuant to notice, at 10:10 a.m., in
room 1100, Longworth House Office Building, Hon. John Lewis
(Chairman of the Subcommittee), presiding.
[The advisory announcing the hearing follows:]
ADVISORY FROM THE COMMITTEE ON WAYS AND MEANS
SUBCOMMITTEE ON OVERSIGHT
CONTACT: (202) 225-5522
FOR IMMEDIATE RELEASE
March 12, 2007
OV-3
Lewis Announces a Hearing on
Internal Revenue Service Operations
and the Tax Gap
House Ways and Means Oversight Subcommittee Chairman John Lewis (D-
GA), today announced that the Subcommittee on Oversight will hold a
hearing on Internal Revenue Service (IRS) operations, the 2007 tax
return filing season, and the ``tax gap.'' The hearing will take place
on Tuesday, March 20, 2007, in the main Committee hearing room, 1100
Longworth House Office Building, beginning at 10:00 a.m.
The Commissioner of IRS, the Honorable Mark W. Everson, will be the
only witness at the hearing. Any individual or organization not
scheduled for an oral appearance may submit a written statement for
consideration by the Committee and for inclusion in the printed record
of the hearing.
FOCUS OF THE HEARING:
The IRS is responsible for administering federal tax laws. In 2006,
IRS collected $2.4 trillion in taxes and processed 140 million
individual and corporate income tax returns. The Subcommittee will
review overall IRS operations, the status of the current tax return
filing season, and the ``tax gap,'' which is a term used to describe
the amount of unpaid taxes owed to the federal government.
The Subcommittee will review IRS operations and tax administration
priorities in the areas of taxpayer services, examinations,
collections, and modernization. As part of this review, the
Subcommittee will examine the Administration's budget and staffing
levels for IRS as proposed in the President's Fiscal Year 2008 Budget
for the IRS.
The Subcommittee will discuss the status of the current tax return
filing season, including the large number of unclaimed telephone tax
refunds, and consider areas where IRS can better assist taxpayers in
their efforts to comply with their tax obligations. Also, the
Subcommittee will discuss tax fraud schemes and tax scams that IRS has
identified this year.
The Subcommittee will examine the estimated annual $345 billion tax
gap, identify components of the tax gap, and discuss ways IRS can
improve individual and corporate tax compliance. Specifically, the
Subcommittee will review the Administration's proposals for addressing
the tax gap as recommended in the President's Fiscal Year 2008 Budget
for IRS.
In announcing the hearing, Chairman Lewis said, ``Our tax system is
based on honesty and integrity. It is the Subcommittee's responsibility
to ensure that our voluntary tax system operates properly and Americans
pay their fair share.''
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noted above.
Chairman LEWIS. Good morning. The hearing is now called to
order, the hearing of the Subcommittee on Oversight. Today, we
will examine the administration of our tax laws. Today, the
Subcommittee on Oversight is holding its annual hearing on
Internal Revenue Service (IRS) operations. We will examine the
current tax return filing season, the tax gap and the IRS
budget.
We are very pleased to have the Internal Revenue Service
Commissioner Everson before the Subcommittee for the first time
this year. I look forward to hearing his views on the estimated
tax gap of $345 billion.
I am also interested in learning whether the IRS proposed
budget of $11 billion is enough to protect the honesty and
integrity of our tax system.
As Members of Congress and Members of this Committee, we
have a responsibility, along with the commissioner, to
administer our tax laws properly and efficiently in a manner
that is fair to all Americans.
Now I am pleased to recognize the distinguished ranking
Member, my dear friend, Mr. Ramstad of Minnesota, for his
opening statement.
Mr. RAMSTAD. Thank you, Mr. Chairman. You are a dear
friend. I thank you for convening this important hearing on
Internal Revenue Service operations.
Commissioner, it is good to see you again. As I said
before, I believe you are doing a tough job very well. Being in
charge of such a vast bureaucracy, responsible for collecting
two and a half trillion dollars in revenues is no easy
assignment. I certainly appreciate your commitment to this
important job and your leadership.
I noted that your agency is only answering 58 million phone
calls this year and you are only getting 200 million hits on
your website. I think that underscores what I just said about
the large responsibility that you have as the commissioner.
One of my main concerns, Commissioner, I know we will get
into it here today after your testimony, but certainly one of
my major concerns and I think it is a major concern of everyone
on the Subcommittee, and that is the tax gap. I know the
Administration's budget includes several proposals to help
close the tax gap and I look forward to the discussion on that
important issue.
I know additional enforcement tools are probably necessary
to close the tax gap or to reduce it, but I think we must
remember bottom line the most effective way to close the tax
gap would be to simplify the Tax Code. I hope we can work
together to simplify the tax code with the new Congress. I know
this is a goal of members on both sides of the aisle and I know
the American taxpayer would welcome a simplified tax system.
Again, Commissioner, thank you for being here today. Mr.
Chairman, thank you for calling this hearing. I yield back.
Chairman LEWIS. All right, thank you very much, Mr.
Ramstad.
Now we will hear from our witness. I ask that you, Mr.
Commissioner, limit your testimony to 5 minutes. Without
objection, your entire statement will be included in the
record.
It is now my great pleasure to introduce the Commissioner
of the Internal Revenue Service, Mark Everson. Mr.
Commissioner.
STATEMENT OF THE HONORABLE MARK W. EVERSON, COMMISSIONER,
INTERNAL REVENUE SERVICE
Mr. EVERSON. Thank you, sir. Chairman Lewis, Ranking Member
Ramstad, and Members of the Subcommittee, thank you for the
opportunity to testify today on IRS operations and on the
Administration's budget proposal for fiscal year 2008. It is
always a pleasure to be before the Subcommittee.
Chairman Lewis, I look forward to working with you as you
direct the operations of the Subcommittee, and expect to enjoy
the same constructive relationship that the IRS had with
Congressman Ramstad when he was the chair and you were the
ranking Member.
First, let me say a few things about the filing season
currently under way. At the IRS we recognized some time ago
that this would be a challenging filing season. Two of the
reasons were Congress's late action on the extender legislation
and the fact that we did not have an operating budget until
well into February. The one time refund of the telephone excise
tax and the initiation of the split refund were also of
concern.
Taken together, we anticipated the most difficult filing
season in a number of years. Sitting before you today with
about a month to go, I would say so far so good. We are keeping
up with the work and the system is functioning well. The
extenders were successfully implemented, our software updates
were taken care of by early February. Electronic return filing
continues to grow and our service indicators are healthy.
On the other hand, we have seen a lower than expected claim
rate for the telephone excise tax refund. Thus far, I would
characterize as minimal interest in the split refund program.
Along with the increase in the e-file rate, we are seeing
healthy gains in our volunteer prepared returns, a cornerstone
in our outreach programs. As you know, this helps eligible
participants claim the earned income tax credit.
Probably our most significant disappointment is the fact
that, while we have successfully made our planned upgrade to
Customer Account Data Engine (CADE), the new individual system
faster file, we completed our work a number of weeks late. Our
volumes, while still expected to be more than double compared
to last year, will fall short of what we had hoped to do for
the season.
Let me now turn to enforcement. As you know, we enjoyed
significant increase in our enforcement results in fiscal year
2006. I am pleased to report we are making continued strides in
fiscal year 2007. One of the things that I am proudest of is
that the IRS has restored the credibility of its enforcement
programs without generating a significant amount of noise or
increased allegations of infringement of taxpayer rights.
The President's 2008 budget builds on these results. I am
pleased that the President's request provides additional moneys
for IRS systems infrastructure and modernization as well as for
enforcement, notably, for increased research. There is also a
modest increase for taxpayer services. This is the best budget
that I have seen in my four years on the job.
I ask the Members of the Subcommittee to support the
President's budget and to enact an appropriation before fiscal
year 2008 actually starts. These requested moneys will help us
generate continued progress in attacking the tax gap. However,
they are not the only things we need to do. The Administration
has made 16 legislative proposals. I would direct your
attention to four that I think are particularly important.
First, reporting of credit card gross receipts. Second,
making willful failure to file a tax return a felony rather
than a misdemeanor. Third, requiring basis reporting for sales
of securities. Fourth, lowering the threshold for mandatory
electronic filing for large corporations and partnerships.
I think these proposals are an important step and I hope
the Congress will enact them swiftly.
Thank you, sir.
[The prepared statement of Mr. Everson follows:]
Statement of The Honorable Mark W. Everson,
Commissioner, Internal Revenue Service
Introduction
Chairman Lewis, Ranking Member Ramstad, and members of the
Subcommittee, thank you for the opportunity to testify today on the
2007 Income Tax Filing Season. I would also like to update you on the
progress we have made in the areas of taxpayer service and enforcement,
our FY 2008 budget request, and our latest efforts to improve voluntary
compliance and reduce the tax gap.
2007 Filing Season
This filing season presented the potential to be one of the most
challenging in recent memory. The Tax Relief and Health Care Act of
2006 (TRHCA), which passed late last year, included the extension of
several significant tax benefits. Since forms and publications for Tax
Year 2006 were printed and distributed prior to enactment, we were
required to notify taxpayers on IRS.gov as to how to modify those forms
to claim the allowable benefits. We are also faced with implementing
the Telephone Excise Tax Refund Program (TETR). This was the first
filing season that we allowed taxpayer refunds to be split and
deposited into separate accounts. And, because the normal April 15th
filing date falls on a Sunday and the following Monday is a legal
holiday in the District of Columbia, we had to adjust our programs to
provide taxpayers an extra two days to file and pay this year.
Despite these challenges, I am proud to report that thus far the
filing season has gone very well. By early February, we were able to
begin processing tax returns claiming the tax benefits authorized by
the enactment of TRHCA in December. We have also taken a number of
steps to make sure that taxpayers understand how to claim the benefits.
For example, we provided instructions on IRS.gov and conducted
extensive outreach and media events to publicize these provisions. In
addition, we sent a special mailing of Publication 600, which included
the state and local sales tax tables and instructions for claiming the
sales tax deduction on Schedule A (Form 1040), to 6 million taxpayers
who had previously claimed the state and local sales tax deduction.
I will discuss the TETR Program later in my testimony, but let me
first give an update on some of the numbers we are looking at
approximately one month from the return due date.
Numbers Thus Far
We expect to process almost 136 million individual tax returns in
2007, and we anticipate a continued growth in the number of those that
are e-filed. In the 2006 filing season, 54 percent of all income tax
returns were e-filed. We fully expect to exceed that number this year.
As of March 10, we have received almost 45.5 million tax returns
electronically, an increase of 4.87 percent compared to the same period
last year.
This increase in e-filing is being driven by people preparing their
own returns using their personal computers. The total number of self-
prepared returns that are e-filed is up by over 8 percent compared to
this time a year ago. Over 13.3 million returns have been e-filed by
people from their personal computers, up from over 12.3 million for the
same period a year ago.
Overall, 75 percent of the 60.9 million returns filed thru March
10th have been e-filed. Encouraging e-filing is good for both the
taxpayer and for the IRS. Taxpayers who use e-file can generally have
their tax refund deposited directly into their bank account in two
weeks or less. That is about half the time it takes us to process a
paper return. For the IRS the error reject rate for e-filed returns is
significantly lower than that for paper returns.
More people are choosing to have their tax refunds directly
deposited into their bank account than ever before. So far this year,
we have directly deposited over 39 million refunds, or 77 percent of
all refunds issued this tax filing season. This is up from 73 percent
for the same period in 2006.
People are also visiting our web site, IRS.gov, in record numbers.
We have recorded almost 83.4 million visits to our site this year, up
over 9 percent from 76.4 million for the same period a year ago. The
millions of taxpayers that have visited IRS.gov have benefited from
many of the services that are available through the web site. We have
made it easier for taxpayers to get answers to many of their tax
questions online. The web site:
Assists the taxpayer in determining whether he or she
qualifies for the Earned Income Tax Credit (EITC);
Assists the taxpayer in determining whether he or she is
subject to the Alternative Minimum Tax (AMT);
Allows more than 70 percent of taxpayers the option to
file their tax returns at no cost through the Free File program;
Allows taxpayers who are expecting refunds to track the
status via the ``Where's My Refund?'' feature; and
Allows a taxpayer to calculate the amount of their Sales
Tax Deduction.
As of March 10, we have received almost 60.9 million returns, a
very slight increase over the same period as last year. We have issued
50.5 million refunds so far this year, for a total of $128.7 billion.
The average refund thus far is $2,548, approximately $125 more than
last year. In addition, over 16.8 million taxpayers have tracked their
refund on IRS.gov, up 15.19 percent over last year.
As of March 10th, our Taxpayer Assistance Centers (TACs) are
reporting a very slight 0.6 percent decline in face-to-face contacts
this filing season as compared to last year. We have also seen a
decline in the number of calls answered (-2.54 percent) as well as
automated calls (-5.13 percent). We believe that the decline in visits
to our TACs is largely attributable to taxpayers increasing their use
of IRS.gov, volunteer services, and other more convenient means of
obtaining tax forms, filing their returns or getting their questions
answered. The decline in the number of calls answered can be attributed
to a few weather-related temporary call site closures earlier this
winter and a slight decrease in overall caller demand.
Free File
Almost 2.5 million people have utilized Free File as of March 9th,
down 5.5 percent from last year. This year anyone with adjusted gross
income of $52,000 or less is eligible for Free File. This would include
95 million taxpayers. The number of Free File returns compared to the
prior year has been steadily increasing and we expect to meet or exceed
2006 totals by the end of the filing season.
A key difference in this year's Free File program is that Alliance
members are no longer offering ancillary products, such as refund
anticipation loans (RALs) through the Free File program. IRS data from
the last filing season shows that only 0.5 percent of Free File users
chose to utilize a RAL. The Free File Alliance may still offer
customers the option of having their state tax return prepared for a
fee though some Alliance members are offering to do the state return at
no cost as well as the Federal.
In the 2006 filing season an indicator was included for the first
time on Free File returns, which allowed the IRS to identify those
taxpayers using Free File. As a result, the Service was able to obtain
important information such as customer satisfaction and demographic
data that had never before been available.
This information allowed us to verify that there was a high level
of customer satisfaction with Free File. According to a survey
conducted for the IRS, 94 percent said they intend to use Free File
again next year; the same number said they found Free File very easy or
somewhat easy to use; and 97 percent said they would recommend Free
File to others. Convenience, not the free cost, was the most appealing
factor of Free File.
VITA/TCE Sites and Other Community Partnerships
The use of tax return preparation alternatives, such as volunteer
assistance at Volunteer Income Tax Assistance (VITA) sites and Tax
Counseling for the Elderly sites (TCEs), has steadily increased while
the numbers of TAC contacts have decreased. In FY 2006, over 2.2
million returns were prepared by volunteers. As of March 10th,
volunteer return preparation is up 7.6 percent above last year's level.
Volunteer e-filing is also up slightly, by 0.6 percent over the same
period in the last tax filing season. This is reflective of continuing
growth in existing community coalitions and partnerships.
We have also made a concerted attempt to improve outreach to
taxpayers, particularly those taxpayers who may be eligible for the
EITC. For example, we sponsored EITC Awareness Day on February 1, in an
effort to partner with our community coalitions and partnerships to
reach as many EITC-eligible taxpayers as possible and urge them to
claim the credit.
Telephone Excise Tax Refunds
In the middle of 2006, the IRS announced plans to refund at least
$13 billion in telephone excise taxes to more than 160 million
taxpayers. To do this, the IRS modified every individual and business
tax return form, retooled our systems to handle the forecast demand,
and launched an extensive communications campaign to increase awareness
and encourage people without a filing requirement to request a refund
anyway.
One difficulty in administering this refund was that taxpayers
could have experienced significant burden if they had been required to
find 41 months of old phone bills in order to obtain the information
they needed to compute their refunds. For this reason, the IRS created
a set of standard amounts that individuals can claim in lieu of actual
amounts. For businesses and non-profits--faced with potentially more
paperwork than individuals--the IRS developed an estimation method that
could require significantly less paperwork than requesting an actual
amount.
A review of returns filed so far this year turned up a surprising
fact: nearly 30 percent of returns we have received did not include a
telephone excise tax refund request. Though one of our communications
goals was to encourage taxpayers not to overlook the telephone tax
refund, it appears many taxpayers are missing out. In response, to
these early numbers, we consulted with tax professionals, citizens
groups and tax software companies to determine potential causes for the
low take up rate. The only logical reason we were given was that
despite our best efforts, some taxpayers were still not aware of the
credit and how to claim it. We then conducted additional media outreach
to increase awareness of the refund and were able to generate broad
national media coverage, including CNN, the Associated Press, and USA
Today.
As we monitored the initial returns, we also noticed some problems.
Even though 99.5% of all taxpayers who are requesting the refund are
claiming the appropriate standard amount, some tax-return preparers are
requesting thousands of dollars of refunds for their clients in
instances where clients are entitled to only a tiny fraction of that
amount. This may indicate criminal intent on the part of the return
preparer. In some cases, taxpayers requested a refund in the thousands
of dollars, suggesting that the taxpayer paid more for telephone
service than they received in income. While some of the large claims
may be the result of misunderstandings--a number of refund requests
appear to be for the entire amount of the taxpayer's phone bill, rather
than just the three-percent long-distance tax--others may be deliberate
attempts to scam the system.
To address this problem, in late February, IRS special agents
executed search warrants seeking evidence from a small number of tax-
preparation businesses suspected of preparing returns on behalf of
clients requesting large, improper amounts in telephone excise tax
refunds. Special agents temporarily closed these businesses, seizing
computers and documents to use in their investigations. In addition,
IRS revenue agents (auditors) and special agents also visited other tax
preparers who were suspected of preparing questionable telephone tax
refund requests.
On a positive note, the number of returns with seemingly high
telephone excise tax refunds dropped significantly this month. This
suggests our enforcement actions, along with increased communications,
may be having the desired effect.
Tax Scams
Each year, we alert taxpayers about the ``Dirty Dozen'', 12 of the
most blatant tax scams affecting American taxpayers. This is in part an
effort to alert taxpayers so that they may be wary if approached and
encouraged to participate in any of the listed schemes. It also alerts
promoters that we are aware of the scam and will be taking steps to
prevent them from getting away with it.
This year the ``Dirty Dozen'' highlights five new scams that IRS
auditors and criminal investigators have uncovered. Topping the list
this filing season are fraudulent refunds being claimed in connection
with TETR, which I have already discussed. Other scams making the list
include:
Abusive Roth IRAs: Taxpayers should be wary of advisers
who encourage them to shift under-valued property to Roth Individual
Retirement Arrangements (IRAs). In one variation, a promoter has the
taxpayer move under-valued common stock into a Roth IRA, circumventing
the annual maximum contribution limit and allowing otherwise taxable
income to go untaxed.
Phishing: This is a technique used by identity thieves to
acquire personal financial data in order to gain access to the
financial accounts of unsuspecting consumers, run up charges on their
credit cards or apply for loans in their names. These Internet-based
criminals pose as representatives of a financial institution--or
sometimes the IRS itself--and send out fictitious e-mail correspondence
in an attempt to trick consumers into disclosing private information. A
typical e-mail notifies a taxpayer of an outstanding refund and urges
the taxpayer to click on a hyperlink and visit an official-looking Web
site. The Web site then solicits a social security and credit card
number. It is important to note the IRS does not use e-mail to initiate
contact with taxpayers about issues related to their accounts. If a
taxpayer has any doubt whether a contact from the IRS is authentic, the
taxpayer should call 1-800-829-1040 to confirm it.
Disguised Corporate Ownership: Domestic shell
corporations and other entities are being formed and operated in
certain states for the purpose of disguising the ownership of the
business or financial activity. Once formed, these anonymous entities
can be, and are being, used to facilitate underreporting of income,
non-filing of tax returns, listed transactions, money laundering,
financial crimes and possibly terrorist financing. The IRS is working
with state authorities to identify these entities and to bring their
owners into compliance.
Zero Wages: In this scam, which first appeared in the
Dirty Dozen in 2006, a Form 4852 (Substitute Form W-2) or a
``corrected'' Form 1099 showing zero or little income is submitted with
a federal tax return. The taxpayer may include a statement rebutting
wages and taxes reported by the payer to the IRS. An explanation on the
Form 4852 may cite statutory language behind Internal Revenue Code
sections 3401 and 3121 or may include some reference to the paying
company refusing to issue a corrected Form W-2 for fear of IRS
retaliation.
Return Preparer Fraud: Dishonest return preparers can
cause many headaches for taxpayers who fall victim to their schemes.
Such preparers make their money by skimming a portion of their clients'
refunds and charging inflated fees for return preparation services.
They attract new clients by promising large refunds. Some preparers
promote filing fraudulent claims for refunds on items such as fuel tax
credits to recover taxes paid in prior years. Taxpayers should choose
carefully when hiring a tax preparer. As the old saying goes, ``If it
sounds too good to be true, it probably is.'' Remember that no matter
who prepares the return, the taxpayer is ultimately responsible for its
accuracy. In recent years, the courts have issued injunctions ordering
dozens of individuals to cease preparing returns, and the Department of
Justice has filed complaints against dozens of others. During fiscal
year 2006, 109 tax return preparers were convicted of tax crimes and
sentenced to an average of 18 months in prison.
American Indian Employment Credit: Taxpayers submit
returns and claims reducing taxable income by substantial amounts
citing an American Indian employment or treaty credit. Although there
is an Indian Employment Credit available for businesses that employ
Native Americans or their spouses, there is no provision for its use by
employees. In a somewhat similar scam, unscrupulous promoters have
informed Native Americans that they are not subject to federal income
taxation. The promoters solicit individual Indians to file Form W-8 BEN
seeking relief from all withholding of federal taxation. A recent
``phishing'' variation has promoters using false IRS letterheads to
solicit personal financial information that they claim the IRS needs in
order to process their ``non-tax'' status.
Trust Misuse: For years unscrupulous promoters have urged
taxpayers to transfer assets into trusts. They promise reduction of
income subject to tax, deductions for personal expenses and reduced
estate or gift taxes. However, these trusts do not deliver the promised
tax benefits. There are currently more than 150 active abusive trust
investigations underway and 49 injunctions have been obtained against
promoters since 2001. As with other arrangements, taxpayers should seek
the advice of a trusted professional before entering into a trust.
Structured Entity Credits: Promoters of this newly
identified scheme are setting up partnerships to own and sell state
conservation easement credits, federal rehabilitation credits and other
credits. The purported credits are the only assets owned by the
partnership and once the credits are fully used, an investor receives a
K-1 indicating the initial investment is a total loss, which is then
deducted on the investor's individual tax return.
Abuse of Charitable Organizations and Deductions: The IRS
continues to observe the use of tax-exempt organizations to improperly
shield income or assets from taxation. This can occur when a taxpayer
moves assets or income to a tax-exempt supporting organization or
donor-advised fund but maintains control over the assets or income.
Contributions of non-cash assets continue to be an area of abuse,
especially with regard to overvaluation of contributed property. In
addition, the IRS is noticing the return of private tuition payments
being disguised as charitable contributions to religious organizations.
Form 843 Tax Abatement: This scam rests on faulty
interpretation of the Internal Revenue Code. It involves the filer
requesting abatement of previously assessed tax using Form 843. Many
using this scam have not previously filed tax returns and the tax they
are trying to have abated has been assessed by the IRS through the
Substitute for Return Program. The filer uses the Form 843 to list
reasons for the request. Often, one of the reasons is: ``Failed to
properly compute and/or calculate IRC Sec 83-Property Transferred in
Connection with Performance of Service.''
Frivolous Arguments: Promoters have been known to make
the following outlandish claims: the Sixteenth Amendment concerning
congressional power to lay and collect income taxes was never ratified;
wages are not income; filing a return and paying taxes are merely
voluntary; and being required to file Form 1040 violates the Fifth
Amendment right against self-incrimination or the Fourth Amendment
right to privacy. Taxpayers should not believe these or other similar
claims. These arguments are false and have been thrown out of court.
While taxpayers have the right to contest their tax liabilities in
court, no one has the right to disobey the law or else they may subject
themselves to increased penalties. As part of the Tax Relief and Health
Care Act of 2006 [Public Law No. 109-432], Congress amended the Code to
increase the amount of the penalty for frivolous tax returns from $500
to $5,000 and to impose a penalty of $5,000 on any person who submits a
``specified frivolous position.'' Last week, we released guidance
identifying these and other frivolous claims that, when asserted by a
taxpayer on a tax return filed with the Service or submitted in a
collection due process request, offer-in-compromise, application for an
installment agreement, or application for a Taxpayer Assistance Order,
expose the taxpayer to the $5,000 penalty.
A Commitment to Service and Enforcement
In FY 2006, we continued making improvements in both our service
and enforcement programs. This is not just our assessment, but also
that of the IRS Oversight Board in its most recent annual report.
According to the Board, the IRS has made steady progress towards
``transforming itself into a modern institution that provides efficient
and effective tax administration services to America's taxpayers.''
Improving Taxpayer Service
According to a survey commissioned by the Board in 2006, taxpayers
increasingly recognize that the IRS provides quality service through a
variety of channels, such as its web site, toll-free telephone lines
and Taxpayer Assistance Centers (TACs). This is supported by the
metrics that we use to determine the effectiveness of our taxpayer
service efforts. In category after category, we continue to see
improvement in the numbers in our telephone services, electronic
filing, and IRS.gov access. This is demonstrated by the following FY
2006 business results:
Electronic filing by individuals continued to increase.
It rose three percentage points from FY 2005, to 54 percent of all
individual returns.
The level of service for toll-free assistance was 82
percent, about the same level of FY 2005 and up substantially from FY
2001. The level of customer satisfaction with the toll-free line
remains 94 percent.
The tax-law accuracy of toll-free responses improved to
91 percent and account accuracy increased to over 93 percent.
Visits to the IRS web site jumped nearly 10 percent in FY
2006 to more than 197 million visits.
More taxpayers used the online refund status tool
``Where's My Refund.'' In FY 2006, there were 24.7 million status
checks, up nearly 12 percent from FY 2005.
At the IRS, we continue to work to improve services. Clearly, we
are making progress, and these numbers underscore that point.
Another development in our taxpayer service program is the Taxpayer
Assistance Blueprint (TAB). This collaborative effort of the IRS, the
IRS Oversight Board, and the National Taxpayer Advocate began in July,
2005 in response to a Congressional mandate to develop a five year plan
that outlines the steps we should take to improve taxpayer services. We
sent Phase 1 of the Blueprint to Congress in April, 2006. Phase 1
identified and reported the following five strategic service
improvement themes for increasing taxpayer, partner, and government
value:
Improve and expand education and awareness activities:
This theme addresses the critical need for making taxpayers and
practitioners aware of the most effective and efficient IRS service
options and delivery channels for meeting their tax obligations and
receiving benefits they are due.
Optimize the use of partner services: This theme
emphasizes the critical role of third parties in the delivery of
taxpayer services, and calls for improving the level of support and
direction provided to partners to ensure consistent and accurate
administration of the tax law.
Enhance self-service options to meet taxpayer
expectations: This theme focuses on providing clear, standard, and
easily customized automated content to deliver accurate, consistent,
and understandable self-assistance service options--particularly for
transactional tasks.
Improve and expand training and support tools to enhance
assisted services: This theme highlights the need for ensuring accurate
information across all channels by improving and expanding training,
technology infrastructure, and support for employees, partners, and
taxpayers.
Develop short-term performance and long-term outcome
goals and metrics: This theme provides for the development of a
comprehensive set of performance goals and metrics to evaluate how
effectively the IRS is meeting taxpayer expectations, and how
efficiently it is delivering services.
Phase 2 of the Blueprint will be sent to Congress soon. Throughout
this project, extensive research allowed us to refine our understanding
of taxpayer and partner needs, preferences, and behaviors and to
identify current planning documents, decision processes, and existing
commitments affecting IRS service delivery. Certain recurring findings
emerged from the wealth of data analyzed. These findings, combined with
agency-wide considerations and priorities, led to the development of
the five-year Strategic Plan for taxpayer service.
The Strategic Plan includes a suite of service improvement
initiatives across all delivery channels, a portfolio of performance
metrics, and an implementation strategy, which recommends numerous
future research studies. The Strategic Plan outlines a decision-making
process for prioritizing service improvement initiatives based on
taxpayer, partner, and government value and ensuring continued
stakeholder, partner, and employee engagement. This process is designed
to help the IRS to balance quality service with effective enforcement
to maximize compliance. More details on TAB Phase 2 will be available
when the report is delivered to Congress.
While the TAB remains a work in progress, the FY 2008 budget
request includes the funding necessary to implement some of the
telephone service and web site enhancements recommended by the
Blueprint. Enhancing telephone service will contribute to the goal of
increasing taxpayer, partner, and government value. Improving IRS.gov
will help us to make the web site the first choice of individual
taxpayers and their preparers when they need to contact the IRS for
help.
The Blueprint also recommends a suite of multi-year research
studies to continue to refine and improve our understanding of optimal
service delivery. In addition to funding for research regarding non-
compliance, the FY 2008 budget includes funding for research to
understand better the effect of service on compliance.
Expanding Enforcement Efforts
Another reason for the Oversight Board's positive assessment of our
work in FY 2006 is that IRS enforcement efforts have increased in
virtually every area. According to the Board, ``As demonstrated by a
variety of measures, the IRS' performance on enforcement has improved
considerably, and real progress has been achieved over the past six
years.''
One of the most obvious measures is the increase in enforcement
revenue, which has risen from $34 billion in FY 2002 to almost $49
billion in FY 2006, an increase of 43 percent. Since 2003, Federal
government receipts have also increased by $600 billion. In FY 2006,
the Federal government collected over $2.4 trillion in total receipts.
This is an historic level, with annual receipts up 12 percent over FY
2005 alone. From FY 2005 to FY 2006, the U.S. has seen the highest
year-to-year revenue growth in 25 years. This growth is primarily the
result of a strong economy supported by sound economic and tax policy.
But, corporate and high-income individual taxpayers are also both areas
where we have substantially increased our enforcement presence in
recent years.
In FY 2006, both the levels of individual returns examined and
coverage rates have risen substantially. We conducted nearly 1.3
million examinations of individual tax returns. This is almost 75
percent more than were conducted in FY 2001, and reflects a steady and
sustained increase since that time. Similarly, the audit coverage rate
has risen from 0.58 percent in FY 2001 to more than 0.97 percent in FY
2006.
While the growth in examinations of individual returns is visible
in all income categories, it is most visible in examinations of
individuals with incomes over $1 million. The number of examinations in
the category rose by almost 78% compared to FY 2004, the first year the
IRS began tracking audits of individuals with income over $1 million.
The coverage rate has risen from 5 percent in FY 2004 to 6.3 percent in
FY 2006.
Growth in audit totals and coverage rates extend to other taxpayer
categories. Preliminary estimates show that the IRS examined over
52,000 business returns in FY 2006, an increase of nearly 12,000 over
FY 2001. The coverage rate over the same period rose from 0.55 percent
to 0.60 percent. For corporations with assets over $10 million,
examinations rose from 8,718 in FY 2001 to 10,578 in FY 2006, an
increase in the coverage rate from 15.1 percent to 18.6 percent. For
the largest corporations, those with assets over $250 million,
examinations have increased by over 29 percent growing from 3,305 in FY
2001 to 4,276 in FY 2006.
Finally, examinations of tax exempt organizations have also risen.
In FY 2001 5,342 tax exempt examinations were closed. This number rose
to 7,079 in FY 2006.
President's FY 2008 Budget Maintains the Balance between Taxpayer
Service and Enforcement
The IRS and its employees represent the face of the Federal
Government to more American citizens than any other government agency.
The IRS administers America's tax laws and collects 95 percent of the
revenues that fund most government operations and public services.
The IRS' taxpayer service programs provide assistance to millions
of taxpayers to help them understand and meet their tax obligations.
The IRS' enforcement programs are aimed at deterring taxpayers inclined
to evade their responsibilities while vigorously pursuing those who
violate tax laws. Delivering these programs demands a secure and
modernized infrastructure able to fairly, effectively, and efficiently
collect taxes while minimizing taxpayer burden.
The IRS FY 2008 President's Budget request supports its five-year
strategic plan and Treasury's compliance improvement strategy. These
documents underscore the IRS' commitment to provide quality service to
taxpayers while enforcing America's tax laws in a balanced manner. The
IRS' strategic plan goals are:
Improve Taxpayer Service. Help people understand their
tax obligations, making it easier for them to participate in the tax
system;
Enhance Enforcement of the Tax Law. Ensure taxpayers meet
their tax obligations, so that when Americans pay their taxes, they can
be confident their neighbors and competitors are also doing the same;
and
Modernize the IRS through its People, Processes and
Technology. Strategically manage resources, associated business
processes and technology systems to effectively and efficiently meet
service and enforcement strategic goals.
Budget Request
Our total budget request for FY 2008 is for $11.1 billion in
appropriated resources and represents a 4.7 percent increase over the
recently enacted FY 2007 Joint Resolution (JR) level of $10.6 billion.
The IRS' taxpayer service and enforcement activities are funded
from three appropriations: Taxpayer Services (TS); Enforcement (ENF);
and Operations Support (OS). The total FY 2008 Budget request for these
three operating accounts is $10.8 billion supplemented by the $180
million from user fee revenue, for a total operating level of $10.9
billion, or 5.5 percent increase over the FY 2007 JR level. As in FY
2006 and FY 2007, the Administration proposes to include IRS
enforcement increases as a Budget Enforcement Act program integrity cap
adjustment, and I am pleased that the Senate Budget Committee mark for
the 2008 resolution includes the full cap adjustment for this activity,
recognizing the return on investment from these enforcement
investments.
The Budget also includes $282.1 million for Business Systems
Modernization (BSM) and $14.2 million to administer the Health
Insurance Tax Credit program, a 32.6 percent and 2.6 percent increase,
respectively, over FY 2007 JR level.
Our FY 2008 Budget request provides $409.5 million for new
initiatives and $340.0 million for the pay raise and other cost
adjustments needed to sustain base operations. The IRS' initiatives
focus on the most significant needs for FY 2008:
$20.0 million to enhance taxpayer service through
expanded volunteer tax assistance, increased funding for research to
determine the most effective means to help taxpayers, and implementing
new technology to improve taxpayer service;
$246.4 million to expand enforcement activities targeted
at improving compliance; and
$143.1 million to improve the IRS' information technology
(IT) infrastructure, including $62.1 million for the BSM program and
$81.0 million for security and infrastructure enhancements.
This request also includes several program savings and efficiencies
that reflect the IRS' aggressive efforts to identify and deploy work
process and technology improvements that will benefit both taxpayer
service and enforcement programs. Collectively, these cost savings
total $120.0 million:
Taxpayer Service Efficiencies -$23.4 million/-527 FTE:
These savings will result from operational efficiencies achieved
through on-going efforts to automate and enhance IRS taxpayer service
programs' workload distribution such as the implementation of automated
issuance of Employer Identification Numbers and Correspondence Imaging
System. Additional efficiencies and savings are expected to be achieved
through the implementation of optimal service channels identified from
the Taxpayer Assistance Blueprint.
Enforcement Program Efficiencies -$60.2 million/-620 FTE:
These savings will result from productivity and efficiency improvements
realized through the implementation of enhanced technology and business
processes such as improved case selection tools and techniques. In
addition, the completion of initial training and transition of the FY
2006 new hires back to their front-line enforcement activities will
result in additional efficiencies for the examination and collection
programs.
Shared Service Support Efficiencies -$36.4 million/-37
FTE: These savings will result from several efforts including the
optimization and consolidation of space projects, implementation of
cost-efficient government-wide contract support, and postage savings
achieved through the consolidation, automation, and renegotiation of
contract services for correspondence delivery.
A Strategic Plan to Improve Voluntary Compliance
Enhancing Taxpayer Service
Taxpayer service is especially important to help taxpayers avoid
making unintentional errors. The IRS provides year-round assistance to
millions of taxpayers through many sources, including outreach and
education programs, tax forms and publications, rulings and
regulations, toll-free call centers, the IRS.gov web site, TACs, VITA,
and TCE sites.
Assisting taxpayers with their tax questions before they file their
returns reduces burdensome post-filing notices and other correspondence
from the IRS, and proactively addresses inadvertent noncompliance.
The FY 2008 Budget contains three significant taxpayer-service
initiatives. First, we are requesting $5 million to expand volunteer
income tax assistance, a significant component of our effort to support
taxpayers eligible to claim the Earned Income Tax Credit. This taxpayer
service initiative will help expand our volunteer return preparation,
outreach and education, and asset building services to low-income,
elderly, Limited English Proficient (LEP), and disabled taxpayers.
The budget also requests $5 million for additional resources to
enhance our understanding of the role of the taxpayer service on
compliance. This research will focus on understanding taxpayer burden,
opportunities for enhanced service to help reduce errors made on
returns, and the impact of service on overall levels of voluntary
compliance.
Finally, the budget requests $10 million for four of the
initiatives recommended by the Taxpayer Assistance Blueprint (TAB). As
part of the TAB effort, we conducted a comprehensive review of our
current portfolio of services to individual taxpayers to determine
which services should be provided and improved. Based on the findings
of the Blueprint, the funding for this initiative will implement the
following telephone service and web site interaction enhancements:
Contact Analytics provides an analytical tool for
evaluating contact center recordings for the purpose of improving
business processes and lowering business costs, as well as improving
customer service.
Estimated Wait Time provides a real-time message that
informs taxpayers about their expected wait time in queue, allowing
them to make more informed decisions based on the status of their call
and thus reducing taxpayer burden and increasing customer satisfaction.
Expanded Portfolio of Tax Law Decision Support Tools
enables taxpayers to conduct key word and natural language queries to
get answers to tax law questions through the Frequently Asked Questions
database accessed on IRS.gov, thereby steadily increasing customer
satisfaction and operational savings.
Spanish ``Where's My Refund?'' adds the ability to check
refund status to the Spanish web page on IRS.gov, enabling the Spanish-
speaking community to receive the same level of customer service on the
web as available to the English web page.
Continued technological advancements offer significant
opportunities for the IRS to improve the efficiency and effectiveness
of call center services. Web site enhancements are designed to maximize
the value of IRS.gov, making the site taxpayers' first choice for
obtaining the information and services required to comply with their
tax obligations.
Improving Compliance Activities
The IRS is continuing to improve efficiency and productivity
through process changes, investments in technology, and streamlined
business practices. We will continue to reengineer our examination and
collection procedures to reduce cycle time, increase yield, and expand
coverage. As part of our regular examination program, we are expanding
the use of cost-efficient audit techniques first pioneered in the
National Research Program (NRP).
We are also expanding our efforts to shift to agency-wide
strategies, which maximize efficiency by better aligning problems (such
as nonfilers and other areas of noncompliance) and their solutions
within the organization. The IRS is committed to improving the
efficiency of its audit process, measured by audit change rates and
other appropriate benchmarks.
There are six specific initiatives proposed in the FY 2008 Budget
aimed at improving compliance. These initiatives provide:
$73.2 million to improve compliance among small business
and self-employed taxpayers in the elements of reporting, filing, and
payment compliance. This funding will be allocated for increasing
audits of high-risk tax returns, collecting unpaid taxes from filed and
unfiled tax returns, and investigating persons who have evaded taxes
for possible criminal referral. It is estimated that this request will
produce $144 million in additional annual enforcement revenue per year,
once new hires reach full potential in FY 2010.
$26.2 million for increasing compliance for large,
multinational businesses. This enforcement initiative will increase
examination coverage for large, complex business returns; foreign
residents; and smaller corporations with significant international
activity. It addresses risks arising from the rapid increase in
globalization, and the related increase in foreign business activity
and multi-national transactions where the potential for noncompliance
is significant in the reporting of transactions that occur across
differing tax jurisdictions. With this funding, we estimate that
coverage for large corporate and flow-through returns will increase
from 7.9 to 8.2 percent in FY 2008, and produce over $74 million in
additional annual enforcement revenue, once the new hires reach full
potential in FY 2010.
$28 million for expanded document matching in existing
sites. This enforcement initiative will increase coverage within the
Automated Underreporter (AUR) program by minimizing revenue loss
through increased document matching of individual taxpayer account
information. We believe the additional resources will result in an
increase in AUR closures from 2.05 million in FY 2007 to 2.64 million
in FY 2010. We expect $208 million of additional enforcement revenue
per year, once the new hires reach full potential in FY 2010. In
addition, the budget requests $23.5 million to establish a new document
matching program at our Kansas City campus. This enforcement initiative
will fund a new AUR site within the existing IRS space in Kansas City
to address the misreporting of income by individual taxpayers.
Establishing this new AUR site should result in over $183 million in
additional enforcement revenue per year once the new hires reach full
potential in FY 2010.
$6.5 million to increase individual filing compliance.
This enforcement initiative will help address voluntary compliance. The
Automated Substitute for Return Refund Hold Program minimizes revenue
loss by holding the current-year refunds of taxpayers who are
delinquent in filing individual income tax returns and are expected to
owe additional taxes. We estimate that this initiative will result in
securing more than 90,000 delinquent returns in FY 2008 and produce $82
million of additional enforcement revenue per year, once the new hires
reach full potential in FY 2010.
$15 million to increase tax-exempt entity compliance.
This enforcement initiative will deter abuse by entities under the
purview of the Tax-Exempt and Governmental Entities Division (TEGE) and
misuse of such entities by third parties for tax avoidance or other
unintended purposes. The funding will aid in increasing the number of
TEGE compliance contacts by 1,700 (six percent) and employee plan/
exempt organization determinations closures by over 9,000 (eight
percent) by FY 2010.
$10 million for increased criminal tax investigations.
This will help us to aggressively attack abusive tax schemes, corporate
fraud, nonfilers, and employment tax fraud. It will also address other
tax and financial crimes identified through Bank Secrecy Act related
examinations and case development efforts, which include an emphasis on
the fraud referral program. Our robust pursuit of tax violators and the
resulting publicity is aimed to foster deterrence and enhance voluntary
compliance.
$41 million for conducting research studies of compliance
data for new segments of taxpayers needed to update existing estimates
of reporting compliance. The data collected from these studies will
enable the IRS to develop strategies to combat specific areas of non-
compliance.
In addition to these initiatives, I would stress the importance of
allowing us to continue with the private debt collection program. The
use of private collection agents (PCAs) was authorized by the American
Jobs Creation Act of 2004. As we continue to debate the efficacy of
this program, I want to take this opportunity to make a couple of
points for purposes of our ongoing discussions.
One issue that has been debated is the relative efficiency of using
PCAs versus IRS employees to collect the taxes owed. The most important
question is not whether IRS employees or PCAs can do the job more
efficiently, but rather whether PCAs collect money that would otherwise
go uncollected. The IRS lacks the resources to pursue the relatively
simple, geographically dispersed cases that are now being assigned to
PCAs. It is not realistic to expect that the Congress is going to give
the IRS an unlimited budget for enforcement, and if Congress provided
the IRS additional enforcement resources, I believe those resources
would be applied best by allocating them to more complex, higher
priority cases that are not appropriate for PCAs.
The IRS continues to work with PCAs to ensure that the program is
fair to taxpayers and respects taxpayer rights. We currently estimate
that between now and FY 2017, our partnership with PCAs will result in
approximately 2.9 million delinquent cases receiving treatment that
would otherwise have gone unworked. This partnership will help reduce
the backlog in outstanding tax liabilities, which has grown by 118
percent over the last 12 years. From September 7, 2006, when cases were
first assigned to PCAs, through February 15, 2007 PCAs collected $14.47
million in gross revenue. We estimate that cases worked by PCAs will
generate estimated gross revenue of between $1.4 billion through FY
2017.
Another reason to continue to use this tool is to evaluate whether
we in the public sector can learn anything from these PCAs that will
enable us to do our jobs better. Particularly over the last 20 years,
government agencies at all levels have adopted many practices and ways
of doing business that have been pioneered in the private sector. One
need look no further than the vastly expanded use by the government of
the Internet in providing services to the public as an example of a
practice that was pioneered in the private sector, but adopted quickly
and effectively by the government. We should not remove PCAs as a tool
for addressing the problem before we have an opportunity to evaluate
the potential of this initiative to help improve compliance and perhaps
even to show the government how to be more effective in its own
efforts.
Reducing Opportunities for Evasion
The IRS is already aggressively pursuing enforcement initiatives
designed to improve compliance and reduce opportunities for evasion. As
I pointed out earlier, these efforts have produced a steady climb in
enforcement revenues since 2001, as well as an increase in both the
number of examinations and the coverage rate in virtually every major
category.
In the budget request, the Administration proposes to expand
information reporting, improve compliance by businesses, strengthen tax
administration, and expand penalties in the following ways:
Expand information reporting--Specific information reporting
proposals would:
(1) Require information reporting on payments to corporations;
(2) Require basis reporting on sales of securities;
(3) Expand broker information reporting;
(4) Require information reporting on merchant payment card
reimbursements;
(5) Require a certified taxpayer identification number (TIN) from
non-employee service providers;
(6) Require increased information reporting for certain government
payments for property and services; and
(7) Increase information return penalties.
Improve compliance by businesses--Improving compliance by
businesses of all sizes is important. Specific proposals to improve
compliance by businesses would:
(1) Require electronic filing by certain large businesses;
(2) Implement standards clarifying when employee leasing companies
can be held liable for their clients' Federal employment taxes; and
(3) Amend collection due process procedures applicable to
employment tax liabilities.
Strengthen tax administration--The IRS has taken a number of steps
under existing law to improve compliance. These efforts would be
enhanced by specific tax administration proposals that would:
(1) Expand IRS access to information in the National Directory of
New Hires database;
(2) Permit the IRS to disclose to prison officials return
information about tax violations; and
(3) Make repeated failure to file a tax return a felony.
Expand penalties--Penalties play an important role in discouraging
intentional noncompliance. Specific proposals to expand penalties
would:
(1) Expand preparer penalties;
(2) Impose a penalty on failure to comply with electronic filing
requirements; and
(3) Create an erroneous refund claim penalty.
The Administration also has four proposals relating to IRS
administrative reforms.
The first proposal modifies employee infractions subject to
mandatory termination and permits a broader range of available
penalties. It strengthens taxpayer privacy while reducing employee
anxiety resulting from unduly harsh discipline or unfounded
allegations.
The second proposal allows the IRS to terminate installment
agreements when taxpayers fail to make timely tax deposits and file tax
returns on current liabilities.
The third proposal eliminates the requirement that the IRS Chief
Counsel provide an opinion for any accepted offer-in-compromise of
unpaid tax (including interest and penalties) equal to or exceeding
$50,000. This proposal requires that the Secretary of the Treasury
establish standards to determine when an opinion is appropriate.
The fourth proposal modifies the way that Financial Management
Services (FMS) recovers its transaction fees for processing IRS levies
by permitting FMS to add the fee to the liability being recovered,
thereby shifting the cost of collection to the delinquent taxpayer. The
offset amount would be included as part of the 15-percent limit on
continuous levies against income.
Collectively, these proposals should generate $29.5 billion in
revenue over 10 years. The proposed budget provides $23 million to
implement these initiatives. This will fund the purchase of software
and the modifications to IRS information technology systems necessary
to implement these legislative proposals.
Enhancing Research
Research enables the IRS to develop strategies to combat specific
areas of noncompliance, improve voluntary compliance, and allocate
resources more effectively. Historically, our estimates of reporting
compliance were based on the Taxpayer Compliance Measurement Program
(TCMP), which consisted of line-by-line audits of random samples of
returns. This provided us with information on compliance trends and
allowed us to update audit selection formulas. However, this method of
data gathering was extremely burdensome on the taxpayers who were
forced to participate. One former IRS Commissioner noted that the TCMP
audits were akin to having an autopsy without the benefit of death. As
a result of concerns raised by taxpayers, Congress, and other
stakeholders, the last TCMP audits were done for Tax Year (TY) 1988.
We have conducted several much narrower studies since then, but
nothing that would give us a comprehensive perspective on the overall
tax gap. As a result, until the recent NRP data, all of our subsequent
estimates of the tax gap were rough projections that basically assumed
no change in compliance rates among the major tax gap components; the
magnitude of these projections reflected growth in tax receipts in
these major categories.
The National Research Program, which we have used to estimate our
most recent tax gap updates, provides us a better focus on critical tax
compliance issues in a manner that is far less intrusive than previous
means of measuring tax compliance. We used a focused, statistical
selection process that resulted in the selection of approximately
46,000 individual returns for TY 2001. This was less than previous
compliance studies, even though the population of individual tax
returns had grown over time. Like the compliance studies of the past,
the NRP was designed to allow us to estimate the overall extent of
reporting compliance among individual income tax filers, and to update
our audit selection formulas. It also introduced several innovations
designed to reduce the burden imposed on taxpayers whose returns were
selected for the study.
The NRP provided updated estimates for determining the sources of
noncompliance. The IRS also uses the NRP findings to better target
examinations and other compliance activities, thus increasing the
dollar-per-case yield and reducing ``no change'' audits of compliant
taxpayers. Innovations in audit techniques to reduce taxpayer burden,
pioneered during the 2001 NRP, have been adopted in regular operational
audits.
Almost as important as understanding what the NRP research provides
is to understand its limitations. The focus of the first NRP reporting
compliance study was on individual income tax returns. It did not
provide estimates for noncompliance with other taxes, such as the
corporate income tax or the estate tax. Our estimates of compliance
with taxes other than the individual income tax are still based on
projections that assume constant compliance behavior among those major
tax gap components since the most recent compliance estimates were
compiled (i.e., for TY 1988 or earlier).
Recurring and timely compliance research is needed to ensure that
the IRS can efficiently target resources, effectively provide the best
service possible, and respond to new sources of noncompliance as they
emerge. Compliant taxpayers benefit when the IRS uses the most up-to-
date research to improve workload selection formulas, as this reduces
the burden of unnecessary taxpayer contacts.
The FY 2008 Budget requests funds for two significant research
initiatives. First, the budget requests $41 million to improve
compliance estimates, measures, and detection of noncompliance. This
will fund research studies of compliance data for new segments of
taxpayers needed to update existing estimates of reporting compliance.
Unlike in the past, the IRS will conduct an annual study of compliance
among 1040 filers based on a smaller sample size than the 2001 NRP
study. This will provide fresh compliance estimates each year, and by
combining samples over several years, will provide a regular update to
the larger sample size needed to keep our targeting systems and
compliance estimates up to date.
The second research program funded by the request is to research
the effect of service on taxpayer compliance. The budget requests $5
million for this project, which will undertake new research on the
needs, preferences, and behaviors of taxpayers. The research will focus
on four areas:
Meeting taxpayer needs by providing the right channel of
communication;
Better understanding taxpayer burden;
Understanding taxpayer needs through the errors they
make; and
Researching the impact of service on overall levels of
voluntary compliance.
Continuing Improvements in Information Technology
Tax administration in the 21st century requires improved IRS
information technology (IT). We are committed to continuing to make
improvements in technology and the FY 2008 Budget reflects that
commitment. The FY 2008 Budget requests $81 million to improve the IRS'
information technology infrastructure. Sixty million dollars of this
amount is requested to upgrade critical IT infrastructure. This
infrastructure initiative will provide funding to upgrade the backlog
of IRS equipment that has exceeded its life cycle. Failure to replace
the IT infrastructure will lead to increased maintenance costs and will
increase the risk of disrupting business operations. Planned
expenditures in FY 2008 include procuring and replacing desktop
computers; automated call distributor hardware; mission critical
servers; and Wide Area Network/Local Area Network routers and switches.
The other $21 million will be used to enhance the Computer Security
Incident Response Center (CSIRC) and the network infrastructure
security. This infrastructure initiative will provide $13.1 million to
fund enhancements to the CSIRC necessary to keep pace with the ever-
changing security threat environment through enhanced detection and
analysis capability, improved forensics, and the capacity to identify
and respond to potential intrusions before they occur. The remaining
$7.9 million will fund enhancements to the IRS' network infrastructure
security. It will provide the capability to perform continuous
monitoring of the security of operational systems using security tools,
tactics, techniques, and procedures to perform network security
compliance monitoring of all IT assets on the network.
Finally, the FY 2008 Budget requests a total of $282.1 million to
continue the development and deployment of the IRS Business Systems
Modernization (BSM) program in line with the recommendations identified
in the IRS Modernization, Vision, and Strategy. This funding will allow
the IRS to continue progress on modernization projects, such as the
Customer Account Data Engine (CADE), Account Management Services (AMS),
Modernized e-File (MeF), and Common Services Projects (CSP).
The development of the CADE (Customer Account Data Engine) and AMS
(Account Management Services) systems is the heart of the IT
modernization of the IRS. The combination of these two systems working
together will enable the IRS to process tax returns and deal with
taxpayer issues in a near real-time manner. In fact, our objective is
that the IRS operate similarly to what one expects from one's bank;
account transactions occurring during the business day will be posted
and available by the next business day. In addition, AMS will enable
the IRS representatives who work with taxpayers to have access to all
the information regarding that taxpayer, including electronic access to
tax return data, and electronic copies of correspondence. Equipped with
such comprehensive and up-to-date information, our representatives will
be in a much better position to help taxpayers resolve their issues.
MeF is the future of electronic filing. It provides a standard data
format for all electronic tax returns, which will reduce the cost and
time to add and maintain additional tax form types. MeF is a flexible
real-time system that streamlines the processing of e-filed tax
returns, resulting in a quicker acknowledgement of the filing to the
taxpayer or their representative. In FY 2007, the IRS will start
development and implementation of the 1040 on the MeF platform.
CSP will provide funding for new portals, which are technology
platforms that meet many IRS business needs through web-based front-
ends, and provide secure access to data, applications, and services.
The portals are mission-critical components of the enterprise
infrastructure required to support key business processes and
compliance initiatives.
The benefits accruing from the delivery and implementation of BSM
projects not only provide value to taxpayers, the business community,
and government, but also contribute to operational improvements and
efficiencies within the IRS.
Summary
The FY 2008 Budget request includes significant increases for IRS
enforcement efforts. Fully funding that request will help us make
progress in greatly improving voluntary compliance. Based on our
analysis covering the most recent 11 years of collection experience, we
estimate that every dollar we have spent on enforcement has generated a
direct return of an average of four dollars in increased revenue to the
Federal Treasury. This return can be expected to occur when the full
productive benefit of the investment is realized.
Our role is not unlike that of a highway patrolman. He will never
be able to ticket every speeder, but he attempts to position himself in
areas where he knows that his time is more likely to be spent
productively. He also knows that every time he pulls a speeder over,
other motorists see that and slow down as well.
We also believe that dollars spent on taxpayer service have a
positive impact on voluntary compliance. The complexity of complying
with the nation's current tax system is a significant contributor to
the tax gap, and even sophisticated taxpayers make honest mistakes on
their tax returns. Accordingly, helping taxpayers understand their
obligations under the tax law is a critical part of improving voluntary
compliance. To this end, the IRS remains committed to a balanced
program assisting taxpayers in both understanding the tax law and
remitting the proper amount of tax.
In addition, the President's FY 2008 Budget contains a number of
legislative proposals that provide additional tools for the IRS to
enforce the existing tax law. Perhaps the most critical of these tools
is greater third party reporting.
An analysis of the data from the National Research Program of TY
2001individual income tax returns leads to one very obvious conclusion.
Compliance is much higher in those areas where there is third party
reporting. For example, only 1.2 percent of wages reported on Forms W-2
are underreported. This compares to a 53.9 percent underreporting rate
for income subject to little or no third party reporting.
The FY 2008 Budget request asks Congress to expand information
reporting to include additional sources of income and make other
statutory changes to improve compliance. These legislative proposals
are intended to improve tax compliance with minimum taxpayer burden.
When implemented, it is estimated that these proposals will generate
$29.5 billion over ten years.
I anticipate that some of this year's Budget proposals will be
criticized, perhaps because of concerns about their potential impact on
small businesses. While the information reporting proposals will
inevitably impose some burden on compliant taxpayers, they are designed
to minimize that burden and to help the IRS better target its audit
resources, thereby reducing the number of burdensome audits that result
in little or no change to compliant taxpayers' reported liability. The
challenges that a small business faces are difficult enough without
having to compete directly with noncompliant competitors. We have an
obligation to support those compliant small businesses by ensuring that
their competitors are also paying their fair share. This is not only a
matter of fairness, but also a way of supporting compliant small
businesses in their efforts to remain compliant.
Finally, full funding of the budget request will enable the IRS to
improve our research with respect to compliance. Despite all of our
progress, there is still much we do not know about the tax gap.
Although the updated estimates provided by the NRP study are more
accurate than our previous estimates, and more accurate than the
estimates made at various times by others using more indirect methods,
they have many limitations. These estimates are useful for
understanding the general areas and levels of noncompliance and the
scope of the problem, but they are far from exact measurements. With
the exception of the individual income tax gap, the estimates do not
adjust for noncompliance that goes undetected during examination, and
estimates are not even available for certain (minor) components of the
tax gap. Beginning in October 2007, the IRS will begin ongoing annual
research activities that will ensure we have the most up to date
compliance data possible to measure portions of the tax gap, focus our
resources, and improve our audit selection criteria.
I appreciate the opportunity to testify this morning, and I will be
happy to respond to any questions that Members of the Committee may
have.
Chairman LEWIS. Thank you very much, Mr. Commissioner, for
your statement.
At this time, we will open the hearing for questions. I ask
that each Member follow the 5-minute rule. If the commissioner
will follow with short and concise answers, all Members should
have the opportunity to ask questions, if possible, there may
be a second round.
Mr. Commissioner, during the current tax filing season the
IRS has warned taxpayers about a scam called ``phishing.'' This
involves fake e-mails from con artists claiming to be the IRS.
They try to get taxpayers' Social Security numbers and bank
account numbers.
Can you please tell the Members of the Committee about
this?
Mr. EVERSON. Certainly, sir. This is an important issue. We
emphasize to everyone that we do not take contact with
individuals via e-mail. We have had over 200 confirmed
instances of this. They come and go very quickly. They are
largely operated offshore, sir, where something is set up and
it looks like they refer you back to what looks like an IRS
website.
As soon as we get word of it, we refer it to Treasury
Inspector General for Tax Administration (TIGTA) that has the
statutory authority in this area. Unfortunately, all too often,
the damage is done. Somebody is sucked in. They say, we have
got some money for you, purporting to be the IRS, and then some
people do fall for this. It is very unfortunate.
Again, they will set up and then work for a little while
then close down the shop.
Chairman LEWIS. Could you tell the Members of the Committee
how many taxpayers have been abused by this scam?
Mr. EVERSON. We have had over something like 16,000
variants of this. I would not know how many people actually
would be swept into it. That is 16,000 individuals, I guess,
that we know of in these 200 plus schemes. However, there could
be many more that have not actually come to our attention.
Chairman LEWIS. What has the IRS done about it?
Mr. EVERSON. Each time we hear about it, we immediately
refer it over to TIGTA and try and get them involved on it.
However, again, many times, most often these things are being
established overseas. The responsibility--another question has
been raised on setting up websites that look like the IRS,
IRS.com or others. This is something that falls outside of our
jurisdiction, sir. If there are abuses there, it is the Federal
Trade Commission and the Department of Justice. I am
comfortable with that.
Some have said maybe the authority to monitor that ought to
be given to the IRS. I would not think that is the right
answer.
Chairman LEWIS. However, at times, do you refer cases,
incidents, to the Department of Justice?
Mr. EVERSON. I think TIGTA on the phishing schemes would
act if they saw a basis to prosecute and confine the people who
were actually the culprits.
Chairman LEWIS. The IRS provides some free tax assistance
in IRS offices. How many returns have been prepared for free by
the Internal Revenue Service this year alone?
Mr. EVERSON. I don't have the exact number for this year.
However, that number has been declining over recent years. I
think it was about 30,000 or 33,000 last year, down from up
above. What has happened is we have given greater emphasis to
our community partnerships where we have some 12,000 sites
around the country help for the elderly, they are picking up
that work, sir, at the same income--they have the same income
threshold that we would use.
Chairman LEWIS. Do you have any idea how many taxpayers pay
to have their returns prepared? What percentage?
Mr. EVERSON. If you look at the overall statistics, about
80 percent of all taxpayers are either using a paid preparer or
some software. At this point, I think the paid preparer, I will
give you the exact number for the record, but I think it
approaches 60 percent of all taxpayers are using a paid
preparer.
Chairman LEWIS. Thank you very much, Mr. Commissioner. Now
I must recognize the ranking Member, Mr. Ramstad, for
questions.
Mr. RAMSTAD. Thank you, Mr. Chairman.
Commissioner, as you know, the bulk of the tax gap derives
from underreporting. However, I am sure you will agree, there
is no silver bullet solution. It seems an underpayment of taxes
is an equal opportunity problem committed by individuals,
estates, corporations large and small, as well as the self-
employed.
As you know 2 years ago or three years ago, I believe it
was in 2004, Congress authorized the use of private debt
collection agencies to help close the tax gap. Also, it seems
from what I have read and heard, that that effort is now
bearing fruit with collections of unpaid taxes rising rather
quickly.
My question is this. I know the IRS does a customer
satisfaction and a quality rating for programs like the private
collection agency program. How do those satisfaction and
quality ratings compare to the ratings that IRS employees
receive when they attempt to collect unpaid taxes?
Mr. EVERSON. We are running this program. It is a new
program, as you indicate. We started this in September. I would
say thus far, it is proceeding well.
There are, generally the customer satisfaction is very
high. There are some complaints, several dozen complaints. A
lot of those were received, about half of them, in the first
month or two of the program. So, I would say that the quality
indicators in that regard are good and comparable to what we
do.
Collections is a tough business and it does generate
complaints, whether it is being done by the IRS or by someone
on the outside.
Mr. RAMSTAD. So, vis-a-vis the in house collection efforts,
you would say the ratings are comparable?
Mr. EVERSON. I guess, broadly. I would say broadly speaking
in the complaints we have been getting have been very limited
in number, and we are following up on each one of them and
trying to make sure, to meet my commitment I made to this
Committee and others in the Congress, that we would hold this
to a particularly high level. I meet with the team on this
every month, sir, to make sure that they are satisfied with how
this program is going.
Mr. RAMSTAD. I think every Member on this dais would be
happy if his or her office only received several dozen
complaints in the same time period. So, I think that speaks----
Mr. EVERSON. I didn't say those were the only complaints I
got.
Mr. RAMSTAD. No, no. I am talking about the Private
Collection Agency (PCA) program.
I want to also ask you as a follow-up, Commissioner, to a
hearing that we held in the last Congress on the truly
unbelievable tax fraud occurring in our prison system across
the country. In addition, I was glad to see the President's tax
gap proposals included legislation that Chairman Lewis and I
introduced in the last Congress that would allow the IRS to
disclose inmate tax violations to prison officials.
I mean, that was an absurdity that we learned at the
hearing that such criminal behavior could not be reported to
prison officials by the IRS.
Can you update us on the IRS efforts to crack down on tax
return fraud by inmates?
Mr. EVERSON. The good news here, sir, as you will recall,
we did have difficulties. Probably the most serious problem we
had last year was the failure of us to get this Electronic
Fraud Detection System (EFDS) system which was screening out
the potential fraudulent refunds. We did not get that running
for the filing season last year.
We have done that. This year, it is functioning. So, it is
working on just those kinds of schemes. We are taking a deeper
look now as to how we want to redevelop that system for the
future to make it even better. However, that will be a process
that will roll out over a period of years.
Mr. RAMSTAD. Again, Commissioner, I thank you. Thank you
for your responsiveness to your questions. I look forward to
your further interchange.
Thank you. I yield back.
Chairman LEWIS. Thank you very much, Mr. Ranking Member.
Now I turn to Mr. Neal of Massachusetts for questions.
Mr. NEAL. Thank you very much, Mr. Chairman.
First, Commissioner, I want to thank you and the staff. We
had a serious problem in my hometown of Springfield,
Massachusetts, with retirees who had been exposed to what would
have been a series of unfair penalties and interest charges.
Also, the local office, working with my staff here in
Washington, really did a fine job of coming to relief of the
individuals that were involved. Also, 2,200 individuals will
now not face the wrath of the IRS, largely because it was a
mistake that the city of Springfield made. So, I do want to
acknowledge the role that your office played in that instance.
Mr. EVERSON. Thank you. I wasn't familiar with that.
However, I am glad to hear it, sir.
Mr. NEAL. Just a quick follow-up to Mr. Ramstad's question.
Haven't there been some abuses with the whole notion of
collections, though, that have been acknowledged?
Mr. EVERSON. You are talking about the private collection
program?
Mr. NEAL. Yes.
Mr. EVERSON. We have had complaints. As I indicated, it is
about five dozen out of 30,000 cases that have been placed.
They run across a range of problems. Also, some have been
things that we consider serious and we have worked with the
contractors to address those.
We did take an action. The first tranche of this program
ran through early March. We had three contractors working on
that first element of the program. We had a go, no-go decision
solely at the discretion of the and as to whether, looking at
each contractor, we would extend them into a second period, a
year.
We elected to extend two of the contractors. We did not
elect a third. It was not that we felt they had not done their
job, but we felt we had a very high confidence level. Also, the
other two, we wanted to make sure that we did everything we
possibly could to address any and all, and we felt better about
the responsiveness of the two that we retained.
Mr. NEAL. Thank you. Let me go specifically to questions
that I have more than a little interest in. Let me ask you
about the Administration's proposals on closing the tax gap. As
you know, I am currently working on legislation to provide
long-term and significant relief from the Alternative Minimum
Tax (AMT). However, as we all know, it doesn't come without
cost. Also, closing that $345 billion annual tax gap is one
major way we could provide relief to these 23 million families
who expect to be hit this year by AMT.
I notice that the Administration's proposals, they will
only raise 29 billion over 10 years. That is less than $3
billion a year for the $345 billion annual problem. I thought
and had hoped that we would have had more energy from the
Administration in efforts to close that tax gap, and nobody is
better suited than you, Commissioner, to make recommendations
on closing the gap. Moreover, we could certainly, I think, use
more than what we are currently witnessing.
Mr. EVERSON. I appreciate your sentiment. The Secretary and
I have had a lot of conversations on this along with Assistant
Secretary Eric Solomon. I believe that what we have here is a
balanced program. The funding component for the IRS,
particularly to help us on the infrastructure side, because
getting better infrastructure helps on services and
enforcement.
Some have characterized even more directly than you the 16
initiatives as too modest. I think that they are an important
start. I can tell you, I get a lot of heat from interested
parties in here that they do not want us to do more third party
reporting, the credit cards and everything.
We had five proposals, sir, last year. Only one of them got
through. I would like to see us get these 16 done and then we
will come back obviously and look at more. However, the problem
is, the more you do, the more you get into an incremental
burden. In addition the more controversy you get to, as you
know.
Mr. NEAL. Just quickly, who would be the individual that
might be high profile in these instances that you might hope to
target?
Mr. EVERSON. The proposal that I advocate most strongly is
that first one that I mentioned, gross receipts for credit
cards for businesses. If you go to the tax gap visibility
chart, this shows you, sir, that out at the left is the amount
of the tax gap that comes from wages or where you have third
party reporting and withholding. There is only a 1 percent
noncompliance rate in that instance. We know how much you make
as a congressman. You are not going to fudge on that, nobody
does. It is 1 percent.
If you go out all the way to the right, you get to a 50
percent or so noncompliance rate where there is no reporting or
withholding. Also, this is largely underreported income in the
small business community where there is a real significant
understatement of revenues. We believe that the third party
reporting, once a year, of gross receipts of a business, gross
credit card receipts, will start to get at that problem.
Mr. NEAL. Thank you, Commissioner. Thank you, Mr. Chairman.
Chairman LEWIS. Thank you very much.
I now turn to Mr. Pascrell of New Jersey for questioning.
Mr. PASCRELL. Thank you, Mr. Chairman.
Thank you, Commissioner, for being here today. When I look
at the returns of those of the IRS and how much money it has
spent to collect back taxes, it is $1 spent for every $32
collected. When I look at private concerns and businesses that
have been brought into the mix, it is $1 spent and we are
collecting $4, so I want to talk about these private
collectors.
The recent IRS data shows that the service spent 42 cents
to collect each $100 of tax revenue in fiscal year 2006, the
third lowest figure in the last 25 years and down from 46 cents
the year before. In addition, among collection cases handled
solely through phone calls, the same type of work that is being
contracted out to private collection companies, the IRS has
estimated a return on investment of about 13 to one.
So, why would the IRS agree to pay private collectors
almost 25 cents for every dollar collected on the easiest
cases, phone calls, easiest cases, in which the taxpayer
themselves have not disputed the liability? Also, which IRS
employees could collect much more effectively?
Also, then I want to ask you, how are these firms hired, a
mini-capsule of----
Mr. EVERSON. Sure.
Mr. PASCRELL. Would you answer the first question first?
Mr. EVERSON. Okay. I have consistently stated, sir, that
the IRS could do this work cheaper. Although I would point out,
at this point, having made the significant investments that we
have made, if you look at the incremental money coming in, it
will have already paid for itself and be totally in the black,
if you will, by next April.
The blunt reality though is that, because of attrition in
our work force, including at the phone centers, hiring to
replace that attrition, and then even if you have an
enforcement increment billed as we do in the 2008 budget, it
would take a number of years hiring and training at maximum
capacity before we would get to the work that you are talking
about. So, there is no short term capability for us to get to
all of the potential collection work we have.
Also, why are we doing this? This is the law of the land,
and Congress asked us to do that. It is true, the
Administration supported it because of this issue. However, it
is the law now.
Mr. PASCRELL. However, it doesn't mean, Mr. Commissioner,
and you have a great responsibility and you do it well, but it
doesn't mean that you capitulate if you think that the process
that is being suggested is not working. In fact, that you had
to reduce, to get rid of one of the collection firms is an
indicator to me, and I am sure that you know more about this
than I do, it is an indicator to you.
Mr. EVERSON. Yes.
Mr. PASCRELL. Also, there is a fetish here in this town of
moving into the private sector. Furthermore, we want the
private sector to succeed. However, if the numbers don't work
out, Mr. Commissioner, you educate me as to what I am missing,
please.
Mr. EVERSON. Let me go back to that second question you
asked. There was a competitive procurement in which a number of
entities applied, went through the normal government
procurement process. In actual fact, the first time around,
there was a bid protest, we had to redo this and we did it and
we went with three.
I draw a different inference from the fact that we did not
continue one contractor. I believe what we have done here is we
have executed, made good our promise to hold to the absolute
highest standard here because of the sensitivity. I recognize
the sensitivity of it. I don't want this to in any way damage
the agency's reputation or undermine respect for compliance
with the tax law. So, I think what we did was we wanted to
assure ourselves beyond any reasonable doubt. That is why we
took the action, sir.
Mr. PASCRELL. However, it would seem to me in looking at
the bottom line that there is only one inference I can draw.
Also, that is that the public employees who have been charged
with the responsibility of going after cheats and trying to
reduce the gap that exists are doing a far batter job, are more
efficient and more effective than the private collectors, God
bless them all, that are not doing it. The numbers don't show
that, do they, Commissioner?
Mr. EVERSON. I have said repeatedly that the and could do
this work and that it would be cheaper. What I do draw to your
attention is what I just said a minute ago, that our capability
to do that over the period of the next several years, we would
be unable to do that.
Mr. PASCRELL. Let the record show that, Mr. Chairman. Thank
you.
Chairman LEWIS. Thank you.
Now I turn to Mr. Linder, my colleague from Georgia, for
questions.
Mr. LINDER. Thank you, Mr. Chairman.
Commissioner, welcome.
Mr. EVERSON. Nice to see you, sir.
Mr. LINDER. Nice to see you.
The last year for which numbers were available, was that
2005, for the tax gap of 345 billion?
Mr. EVERSON. What that goes back to, sir, is it was
research about tax year 2001. The returns came in in 2002.
Also, during 2003 and 2004, they did the audits. It took a long
time to get all the 46,000 audits done with all the procedural
obligations and other things. So, it is 2001, unfortunately.
Mr. LINDER. What did you actually collect in 2001?
Mr. EVERSON. In terms of revenues?
Mr. LINDER. Yes.
Mr. EVERSON. I would have to go back and give you that
figure. However, if you go back and you look at the 2.4
trillion that we collected last year in 2006, it was up over
600 billion from 2003.
Mr. LINDER. So, it wasn't 2 trillion?
Mr. EVERSON. Yes, because it was--what happened was 2001
was higher. The revenues, as you recall, they went down and
they reached the low level. I think it was right about, I have
it here, right about 2 trillion probably in total. Then it
declined a little bit through 2003 and then it came back
smartly, as I indicated.
Mr. LINDER. So, you collect about 80 percent of the money
you think is owed?
Mr. EVERSON. That research indicated it is actually higher
than that. It is close to 84 percent, sir.
Mr. LINDER. That does not take into consideration the
underground economy?
Mr. EVERSON. That is correct, or illegal activity. It takes
it into account to a certain degree, but it doesn't take into
account illegal activity.
Mr. LINDER. Do you have any idea how large the underground
economy is?
Mr. EVERSON. Well, cash, some cash transactions are taken
into there. If somebody is doing a cash business, we do our
best to estimate that within that piece. I probably misspoke.
Mr. LINDER. What do you think the size of the underground
economy is today?
Mr. EVERSON. I don't have a precise figure on that.
Mr. LINDER. Would you be shocked if I said it was over 2
trillion?
Mr. EVERSON. That sounds quite significant to me, but I am
not the economist.
Mr. LINDER. Do you take into consideration tracking money
offshore?
Mr. EVERSON. We do our best to do this. This is a very
tough area. The intentional disguising of flows of funds
offshore, particularly by individuals, is very hard to track,
especially if it goes through tax havens or countries that have
secrecy laws or, in some instances, don't have treaty
obligations for exchange of information with us.
Mr. LINDER. Three different groups, McKinsey was one,
Boston Group was another and a third one I forget, but in 2005
they estimated the size of the offshore economy in excess of 10
trillion, growing by 800 billion a year. Does that sound real?
Mr. EVERSON. I have seen large numbers like that, yes.
Mr. LINDER. Why is that money offshore?
Mr. EVERSON. I am not going to get drawn, sir, into a
policy debate that gets over my head. There are a variety of
factors in this. One is, there is no doubt, there are competing
tax systems in the world, across the world. That is fine. You
write a law that sets up a tax system in this country and if
other countries do something different, there is a certain
degree of competition for capital, if you will.
The other thing that is in there, though, is a compliance
issue where some might seek to get out from under the scrutiny
of their host nations, if you will.
Mr. LINDER. Do you get access to credit card information?
Mr. EVERSON. The offshore credit cards, we do not routinely
get that. We went through one initiative to look at that. I
would not characterize it has having been particularly
successful in terms of what we did learn through our offshore
initiative.
Mr. LINDER. If a high net worth individual had significant
money offshore and had a debit card at that bank and just paid
for everything they bought with that debit card, would you ever
know that?
Mr. EVERSON. We probably wouldn't unless we stumbled across
it on an audit for some other reason that we were looking at,
sir.
Mr. LINDER. Thank you, Mr. Commissioner. Thank you, Mr.
Chairman.
Chairman LEWIS. Thank you very much.
Now I turn to Mr. Pomeroy of South Dakota for questioning.
Mr. POMEROY. Mr. Chairman----
Chairman LEWIS. North Dakota.
Mr. POMEROY. Thank you. One time, I was introduced as being
from North Korea.
It is a great pleasure, Mr. Chairman, to be with you on
this panel.
Chairman LEWIS. Thank you, Mr. Pomeroy, for being here.
Mr. POMEROY. I appreciate it very much. I think the work of
this Oversight Committee is so extremely important.
Commissioner, it is great to see you again.
I have been interested for some time in this whole business
of e-filing and the unique joint venture with these private
partners to try and expand e-filings. Now, our e-filing
numbers, as good as they are, are not what we hoped they would
be. Do you recall what the targets were for by this time?
Mr. EVERSON. I believe when Congress led on this it was
back in Revenue Service Restructuring and Reform At of 1988
(RRA 98) (P.L. 105-206). The target that was established was to
get to 80 percent by 2007. Also, it has been recognized, as I
think you are inferring, for some time that this is not going
to happen. The program has continued to grow, as you know, and
it is growing again this year by several percentage points.
Mr. POMEROY. It is absolutely fascinating. It is maybe the
best way to watch the technological transformation of the
United States of America. However, you have got this huge
database of tax filers and preparation and submission of a tax
return is fairly----
Mr. EVERSON. It is a tremendous success, of which the
Congress for setting that goal, I would suggest to you, and you
were here, I wasn't, it was a guess. It was not an informed----
Mr. POMEROY. There are a couple disappointments that I have
relative to whether this free file alliance thing is something
we need to continue as people do continue to progress in their
own maturity in terms of accessing the IRS webpage and using
information you make available, as you talk about.
Mr. EVERSON. Yes.
Mr. POMEROY. First of all, I know we used to, as part of
the deal we struck with our private partners, we used to let
them sell all kinds of stuff. I use the refund anticipation
loan, which is the tax equivalent, in my view, of a payday
loan, a bad value for the consumer in every instance, we used
to allow the marketing of that right as part of the deal.
Now that has been reduced somewhat. Can you tell me what--
--
Mr. EVERSON. Yes. Happy to do that. The free file program
never had a high takeup rate on the Refund Anticipation Loans
(RALs). Let me be clear for the Committee, I think the RALs re
predatory. I think they are extremely distasteful. However, the
free file program had a low percentage of RALs. I think it was
actually less than 1 percent.
Nevertheless, we have expressed concern and they have
dropped those this year altogether as well as any tie in to
products. So, I believe most people would agree, it is a much
cleaner program now, this filing season, sir, than it had been.
Mr. POMEROY. I appreciate those changes. I think they are
responsive to questions you have had in the Oversight Committee
in the past. I appreciate it.
There is a new one that I have discovered, not that I have
discovered, I note the taxpayer advocates' comments on, and
that is this business of providing e-file providers debt
indicators on taxpayers for purposes of whether or not they
might underwrite this refund anticipation loan.
Mr. EVERSON. Yes.
Mr. POMEROY. Now, if I understand it correctly,
Commissioner, we are allowing confidential taxpayer information
to be shared with e-file providers so that they can essentially
write a zero risk loan that they price at predatory rates, as
you and I acknowledge these things are predatory. Why in the
world would we provide sensitive taxpayer information such as
debt indicators to private businesses inquiring about
taxpayers?
Mr. EVERSON. Sure. This has been studied and we took a good
look at it as to whether we ought to reverse ourselves on this.
The group of people that looked at it decided that this
actually is of more benefit to the taxpayers than not for two
reasons. One, if you didn't have that information there, what
it is basically doing is saying, if that loan, instead of the
refund coming back to the taxpayer and being able to pay off
that loan, if the taxpayer is unaware that there is going to be
an offset, because when they file that return the and is going
to take that $3,000 because they owe it to the, then that
person is going to owe the $3,000 to the and still and also owe
the money on the loan, so----
Mr. POMEROY. Commissioner, Commissioner, Commissioner, you
and I know how the financial markets work. It is just possible,
if this is a noncreditworthy applicant for a loan, the ultimate
person that is not going to get paid is the private entity, the
e-file provider, the one that is charging the exorbitant,
usurious interest.
Mr. EVERSON. We were satisfied----
Mr. POMEROY. You want to take them completely out of the
risk. So, you basically allow the providing to e-file providers
of sensitive, confidential taxpayer information so they can
write a zero-risk loan for which they charge high interest.
I don't know what group consulted you. Also, I will tell
you what, I am mightily offended that confidential taxpayer
information is provided to banks that are then charging high
loans to taxpayers. This thing calls out for greater scrutiny.
I think you have made a terrible call here.
Mr. EVERSON. We were convinced, sir, also that the banks
would just charge higher fees to absorb that bad loan cost, and
that they would do that. So, that is the other reason.
Mr. POMEROY. Well, I will tell you, I think that is really
a shocking piece of news. I am really disturbed by it. I will
look forward to working with you on it, Commissioner.
I yield back.
Chairman LEWIS. Thank you, Mr. Commissioner. Thank you, Mr.
Pomeroy.
Now I turn to Mr. Crowley of New York for questions.
Mr. CROWLEY. Thank you, Mr. Chairman.
Shift focus in the issue for just a moment. My question
deals with the earned income tax credit.
Mr. EVERSON. Yes, sir.
Mr. CROWLEY. It is my understanding the IRS automatically
scans every return and through that process, they pull out
those that they think ought to qualify for the earned income
tax credit and then notify the taxpayer with the appropriate
forms that they would need to complete in order to get a return
from the IRS and from the Federal Government. We appreciate
that. I understand that process.
From what I understand, and correct me if I am wrong,
Commissioner, the taxpayer fills out the return and then
returns them to the IRS. Many do not do that. Many do not go
through that process who otherwise would qualify for them.
However, those that do return them, do get a check back from
the IRS, correct?
Mr. EVERSON. Yes. I am not sure that the procedure you
mention at the start is correct. New York is trying to do that.
You may be thinking about a program they had in New York. Also,
at a Federal level, I do not believe----
Mr. CROWLEY. No, no, no. I am speaking about in terms of
you write the letter to the taxpayer saying that you are
qualified for the earned income tax credit?
Mr. EVERSON. We have outreach programs. We have 12,000
partnership locations around the country where they are doing
active outreach.
Mr. CROWLEY. I guess my question is, does the IRS ever
notify the taxpayer that he or she is qualified for the earned
income tax credit, possibly?
Mr. EVERSON. I don't believe that we reach out directly in
that regard. I will have to answer that for you for the record,
sir.
Yes, it is confirmed to me that is incorrect. We do not do
that.
Mr. CROWLEY. So, the Federal Government does not notify an
individual----
Mr. EVERSON. No. Also, there are many factors, sir, as to
why you might or might not be eligible. You frankly wouldn't
know whether you have a qualifying child or whatever else. You
wouldn't want to mislead somebody on those series of issues. We
don't do that on anything in the Code.
Mr. CROWLEY. So, it is not true that you send--you do not
send a letter to 500,000 to 700,000 people per year letting
them know that they may be eligible for the earned income tax
credit?
Mr. EVERSON. Oh, well, previous filers, I gather. However,
that is different from all the--I thought you were sort of
referring to the larger population of individuals that may
qualify but have never taken part in the program.
Mr. CROWLEY. Okay. So, of those individuals, the half a
million to three quarters of a million people that you send a
letter to telling them that they are eligible for the earned
income tax credit, many of them do not then follow through and
request--fill out the form and then, through the form, receive
their check, correct?
Mr. EVERSON. Okay. It is a highly transient--there is a lot
of turnover in that population for a whole host of reasons. One
of them is the success of the program and people no longer
qualifying.
That is right, we are concerned because, while it is a very
successful program with about an 80 percent participation rate,
still 20 percent of the eligible people aren't claiming the
credit.
Mr. CROWLEY. Well, let me ask you this. Could the IRS in
the first letter that you send out to those individuals ask
about the past 3 years as well as that present year? In other
words, if the individual knows that he or she may be eligible 3
years and not just 1 year of a rebate or a check, why is it you
don't do that?
Mr. EVERSON. I don't know why. We will take a look at that,
sir. I know again, the community partnerships, when they get
somebody to apply and take the credit, they often go back and
then try to determine was there eligibility for the 3 years,
because then that $4,500 credit can become over $10,000. So,
they try to do that.
Mr. CROWLEY. The reason why I ask that is because, as you
and I had a private discussion before, many of these people,
all these people are working poor. They don't have the
resources nor the time, necessarily. They are raising families,
they are doing everything they can to put food on the plate. No
one wants to walk away from money.
There also is maybe an innate fear of the IRS and the
Federal Government and all those other issues. Why is it that
we can't work in a way--this is a great program, you and I have
talked about it before. It is working for so many Americans in
terms of an antipoverty program. However, still there are many.
Look at my district alone, $55 million is left on the table.
If I were to bring $55 million back to my district, I would
be unbeatable. Yet, and what that could do to the economy of my
district. I have a hardworking district, but $55 million that
ought to be in the economy is not in the economy because people
are not able to access the complexity of the form, the format,
in terms of my constituents.
Even the present Secretary of the Treasury said that the
forms for filling out the application for the EITC is so
complicated he couldn't even do it.
Mr. EVERSON. I don't think he qualifies.
Mr. CROWLEY. No, he doesn't. He doesn't qualify. However,
he is the former head of Goldman Sachs, and he had difficulty
filling it out.
Mr. EVERSON. No, I agree.
Mr. CROWLEY. So, there is something wrong here when there
are eight definitions for a child. We are asking people who
have a very incredibly difficult life to begin with to have to
go through that process.
Mr. EVERSON. Sir, this goes back to Ranking Member
Ramstad's comments. Complexity beguiles success in this area,
as in so many other areas of the Code. Simplification would be
important here.
Mr. CROWLEY. We would like to work with you, and the
Chairman----
Mr. EVERSON. We are devoted to doing better on this. It
gets a lot of my personal time. The Secretary has got an
interest. I will look forward to working with you directly on
it.
Mr. CROWLEY. Suggestions that we may make to help make this
possible.
Mr. EVERSON. Absolutely, sir.
Mr. CROWLEY. Thank you.
Chairman LEWIS. Thank you very much, Mr. Crowley, for your
line of questions. With the Commissioner, it is something that
we all can work on.
Now, I recognize the gentleman from California, my
classmate, Mr. Herger.
Mr. HERGER. Thank you very much, Mr. Chairman. I
appreciate, even though I don't serve on this Subcommittee, you
allowing me to sit in. This is certainly a very important
issue. No one wants to pay more taxes than they have to. Yet it
does concern all of us if there are some out there who are
cheating who aren't paying theirs that we get that in. The
concern is there is this balance we have, that we aren't over-
inflicting pain on our taxpayers, but it is the medium we
should have.
Mr. Commissioner, last year, the Congress passed some
legislation in a provision in section 511 that would require
the, State and local and to withhold 3 percent of every payment
made for goods or services. This would most likely apply to
payments to government contractors as well as Medicare, farm
disaster payments. Are you familiar with this?
Mr. EVERSON. Yes, sir. We had a proposal, one of the five
proposals we made touched on this area. The Congress went
further with the withholding you are referring to than what the
Administration had suggested.
Mr. HERGER. Right. My concern is with how much further we
went. Particularly with how it affects small businesses. Some
small businesses, their profit margin isn't even maybe 3
percent that is going to be withheld.
My question to you, from the Governement's standpoint, the
Federal Government, is the cost that would be involved and your
ability to be able to implement this. This hasn't gone into
effect yet. Hopefully we can make a change so it doesn't go
into effect. Also, each payment that is withheld would generate
an additional filing with the IRS. That is a great deal of
paperwork.
Does the IRS have the capability to match and credit all
this additional data with the taxpayer identification numbers?
Mr. EVERSON. We will have to improve our infrastructure to
do that. With any change in the law, sir, it has a cost impact
on the IRS, just to make sure that we update our systems. When
you get to third party reporting or withholding of new
provisions, we do have to work on that. So, there would be a
cost, as there is with most provisions.
Mr. HERGER. Can you tell us how large an investment? and
Just an estimate, in the IRS infrastructure, like new computer
systems or additional personnel would be required to fully
implement this provision?
Mr. EVERSON. I would have to get you an answer for the
record. We do have some additional moneys that are provided in
our budget for the accompanying legislative proposals this year
in the tens of millions. It is not a huge amount of money. I
don't have a specific figure for that statute. I will be happy
to get it for you, sir.
Mr. HERGER. Given the changes that would be required for
the IRS, how difficult do you suppose it would be for State and
local s to comply with these new requirements as well?
Mr. EVERSON. I have not had any conversations with my
counterparts at the State level. I have heard opposition to
this, as you indicate, from small businesses. I have not heard
that, any commentary from State officials.
Mr. HERGER. Maybe some again, we have a couple years yet
before this would be implemented. Some of them probably aren't
aware yet.
However, do you believe that this will result in more
correct tax filing for companies that are unaware, uneducated
about the laws, not attempting to cheat, but who just don't
know better?
Mr. EVERSON. As I indicated before, where there is third
party reporting and withholding, you get much better
compliance. That does happen. However, there is, as you are
indicating, incremental burden.
Mr. HERGER. Very good. Thank you very much.
Thank you, Mr. Chairman.
Chairman LEWIS. Thank you very much.
Now I turn to Mr. Doggett for questions, Mr. Doggett of
Texas.
Mr. DOGGETT. Thank you, Mr. Chairman. Thank you,
Commissioner, for your testimony this morning and for your
courteous reply to my letter expressing concern about the way
auditing is being handled of businesses.
Mr. EVERSON. Yes, sir.
Mr. DOGGETT. I would like to ask the Chairman to make my
letter to you and your response of February 28 a part of the
record. I think your comments there are important, I would like
to just review some of that with you.
I don't know if you have a copy, but I am going to quote
directly from your letter.
Chairman LEWIS. Without objection. It will be included in
the record.
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Mr. EVERSON. I am familiar with this issue, as you know.
Mr. DOGGETT. Yes, sir. We have talked about it previously
on the Budget Committee.
You indicate in your reply that one effect of the IRS
restructuring and reform act 1998 is that ``corporate audit
coverage declined by 2003 to less than half its 1997 levels.''
Or, in other words, at the time you got to the Service, the
level of corporate audits had dropped by more than 50 percent
since the passage of this act; is that correct?
Mr. EVERSON. That is correct, sir. That was not unique to
corporate audits. There was a broad-based decline in our
enforcement activities.
Mr. DOGGETT. You also stated in the letter that the
managers and field staff at the Service ``were not addressing
abusive tax shelters with sufficient vigor'' at the time you
arrived there at the Service?
Mr. EVERSON. I believe that, sir. I believe that the long
time it has taken to issue regulations and then do audits and
then go through the appeals process in the courts, this helped
contribute to the confidence and the creation of these abusive
shelters.
Mr. DOGGETT. Of course, you certainly agree that if we, as
you determined had occurred there, if we failed to vigorously
address abusive corporate tax shelters, that simply adds to our
soaring national debt and it means that much of the tax burden
is shifted to the hardworking taxpayers, individual and
business, that are playing by the rules and paying their fair
share.
Mr. EVERSON. Going after the corporations and the high-
income folks was job one for me over the last four years.
Mr. DOGGETT. It also remains a high priority at the Service
to address abusive tax shelters, does it not?
Mr. EVERSON. I agree with you, sir.
Mr. DOGGETT. Determining where to focus the limited
resources that you have, I know, is important. Corporations,
and you refer to the class of corporations with assets over
$250 million in your letter to me, because they control about
90 percent of all corporate assets and contribute about 87
percent of all corporate income, it is important to ensure that
those large corporations are paying their fair share of taxes
and I believe, are they not, that they are more or less
responsible for roughly three-fourths of the taxes that the
auditors find in their audits are owed to the government?
Mr. EVERSON. You mean the corporate----
Mr. DOGGETT. The corporations----
Mr. EVERSON. There is a very disproportionate piece. That
is where the action is, yes, sir.
Mr. DOGGETT. These corporations, of course, have the
ability to hire the brightest and most creative people in their
tax departments. I will tell you they also have demonstrated
the ability to hire the best and brightest lobbyists and they
have the most flush political action Committee in terms of
influencing what we do here.
You also note in your letter that the size of your work
force for audits of these entities has remained flat. So, you
are having to audit using audits of a shorter duration to try
to stretch your work force to address these large corporations,
are you not?
Mr. EVERSON. I would say it is partially to get more
coverage. Also, as I indicated, I do believe this is a case,
and as Gladstone said, justice delayed is justice denied. I
think it is in everybody's interest to get these things
resolved.
Mr. DOGGETT. Absolutely. If you have an audit that goes on
forever, that is unfair to the taxpayer.
Mr. EVERSON. Yes.
Mr. DOGGETT. On the other hand, if you have a cut and run
audit, where you leave prematurely and you don't do the audit
thoroughly, it is unfair----
Mr. EVERSON. I agree 100 percent with that.
Mr. DOGGETT. It is also noteworthy that once you close one
of these audits, if they are closed prematurely, they won't be
reopened. They are done and closed while you are commissioner
and for any future commissioner?
Mr. EVERSON. That is correct.
Mr. DOGGETT. In order to encourage performance from your
managers and auditors that would return the maximum amount of
money owed, is there any reason why the performance incentives
cannot be based on the identification of new tax shelter scams
or previously unidentified issues?
Mr. EVERSON. It is probably illegal.
Mr. DOGGETT. To focus on the issues, even though you are
not evaluating based on revenue raised?
Mr. EVERSON. There is a section of the law, section 1204,
that says you cannot evaluate individuals based on enforcement
results. It would take careful analysis as to where that would
get you. However, you would be in a competition for Joe got
shelter X which was worth a billion and Susie only got shelter
Y, which was worth 80 million.
Mr. DOGGETT. Are you familiar with the use of sweeps where
agents with cases that have been in process for certain periods
of time are told that those cases must be closed by a certain
date, regardless of whether they have found all that's owed in
a particular case?
Mr. EVERSON. Not really. I have, again, given the directive
that we work to reduce the cycle time and I believe we have
made some--this hasn't been a dramatic change, a period of
several months. Where we are really going to get faster, sir,
is with the electronic filing now is really going to change
things. However, management looks and if someone says, I have
more to do, they have that discussion and then they make a
decision.
Mr. DOGGETT. So, sweeps do not happen and would be contrary
to policy at IRS?
Mr. EVERSON. I am not sure what a sweep is, and I would ask
you to define that and I will get back to you for the record.
Mr. DOGGETT. Is that a term that you have heard of before?
Mr. EVERSON. No, it is not a term that I have heard of.
Mr. DOGGETT. Has IRS used quotas or goals for revenue
agents with regard to the number of cases that they are
expected to close in a certain period of time.
Mr. EVERSON. Not to my knowledge.
Mr. DOGGETT. That also would be contrary to IRS policy?
Mr. EVERSON. I would not want quotas to be used there. I do
want serious conversations about how long we are working on
this. One of the issues we have here is we have some employees
who are upset now because we are enforcing standards where they
need to rotate off an audit after an extended period of time,
like 7 years. Some people don't want to do that.
Mr. DOGGETT. I understand that there have been enough
complaints about rotating them off before some of the auditors
think it is appropriate to be rotated off, that a Deborah
Nolan, who heads the division of businesses of 10 million and
above, has set up a website for those auditors to forward their
complaints?
Mr. EVERSON. Yes, she and I are both very concerned about
this. Also, I think that the employee engagement, the
satisfaction with the programs generally in that area is high.
There is clearly a small group of people that is dissatisfied
with the very issues you are getting after.
Mr. DOGGETT. Are those types of complaints that are coming
in to that website with appropriate redaction something that
you can forward to this Subcommittee if an appropriate request
is made?
Mr. EVERSON. I would be happy to keep you personally
informed on this, sir.
Mr. DOGGETT. The use of the limited issue focus
examination, is that something that is being done currently in
this area?
Mr. EVERSON. It is. We have a variety of programs, sir. We
have something called the Capital Access Programs (CAP)
program, which is to work with large corporations to try and
get--if we can identify issues and get the returns accepted as
filed.
Mr. DOGGETT. Specifically on what is called the Life
program, it requires a risk assessment before it is
implemented, doesn't it?
Mr. EVERSON. It does. My understanding is the employees and
the managers, the team that is working on this, they get
together, they make the decision. It is not driven down from
the top, look only at A, B and C. It is the team members, the
auditors themselves, that make the choices.
Mr. DOGGETT. Thank you, Mr. Chairman. I will have a few
more questions in the next round.
Chairman LEWIS. Thank you very much, Mr. Doggett.
Thank you very much, Mr. Commissioner.
I now recognize Mr. Tiberi from Ohio for questioning. You
may have some extra time also.
Mr. TIBERI. Thank you, Mr. Chairman.
Mr. Commissioner, the last time you came to Congress, you
were testifying before the budget Committee. You were nice
enough to bring your daughter. I hope her experience wasn't too
bad that you didn't bring her back this time.
Mr. EVERSON. We had an argument last night, and I don't
think she would have come if I had asked her today.
Mr. TIBERI. Thank you for being here today. We really
appreciate it.
I was talking a couple weeks ago to a person I know back in
central Ohio who has been doing taxes for 30 years for
individuals and small businessowners. She has a Certified
Public Accountant (CPA), she has a tax background in law, so
she is a tax lawyer as well. She was lamenting to me about how,
over the last 30 years, we in Congress have made it so much
more complicated for regular individuals to do their own taxes.
It is gotten to the point where she, as a tax lawyer and CPA,
has to constantly reeducate herself for her client base. So,
while we have maybe helped her and her profession, in terms of
being more in need of them, she doesn't believe we have helped
make it any simpler for Americans to file their taxes.
In relation to that, she was telling me how--I don't know
if you have heard this before--how we have also made it more
difficult for people like her in doing taxes, in terms of the
responsibility that goes along with a CPA and a tax lawyer, in
certifying a client's taxes. At the same time, agencies that
have cropped up on the outside who are doing people's taxes may
not be a CPA, may not be a tax lawyer, and don't have the same
sort of responsibility to have the tax return of their clients
done in an ethical manner.
Is there something that we can do here in Congress to make
sure that playingfield is level while we talk about this tax
gap?
Mr. EVERSON. Sure. This has been the subject of a fair
amount of discussion, just last year in fact, should there be
regulation more broadly of preparers. I have been reluctant to
embrace that at this stage because of our capability to
administer it, should it happen. I do believe that where people
are unscrupulous, instead of if someone is making an error
because they don't understand it, they are providing a lower
level of service, that is one thing. Perhaps through education
and testing you would do better. However, I would worry where
people are unscrupulous, they would say, I have this prepared,
now you just sign it and they won't show up as a preparer at
all. So, the idea that this would get after fraud, I don't
think it would.
Mr. TIBERI. Thank you. Do you think that there, obviously
not today but over the next several years, that we as
policymakers, from what you have seen, can get back to where we
were 30 years ago, in terms of my dad with a sixth grade
education, who was a laborer and is retired today, could do his
taxes like he did 30 years ago, because it was a lot simpler?
Our Tax Code was a lot simpler. Instead of him having to go
hire an accountant to do his taxes? That that would help solve
this tax gap as well? Plus the cost to Americans to find a
preparer to do their taxes? If we simplified our Tax Code,
would that help?
Mr. EVERSON. I am a strong advocate of simplification of
the Code. What I say, sir, is that complexity obscures
understanding. The taxpayer who seeks to comply can be confused
and finally raise their hands and say, why bother. Or the
taxpayer who seeks to avoid or evade taxes can use complexity
as well. So, I think simplification would be a good thing.
The other point I would make to you, sir, is this is a hard
issue. We have a representative democracy and your
constituents, they asked you to do your best to get them a
slightly separate deal from Mr. Lewis's constituents in
Georgia, and that is the nub of this. That is the competition
between good policy, simplification, and a representative
democracy.
Mr. TIBERI. So, when we talk about the tax gap, this friend
of mine who has been doing taxes for a long time, she believes
that much of that--comment on this--much of that comes from
small businesses, entrepreneurs, individuals who don't realize
maybe that they are not paying as much as they should be
paying. Can you comment on your thoughts of where that gap
might be?
Mr. EVERSON. The biggest piece of the tax gap--there are
three components. There is the area out at the left, less than
10 percent, that is nonfiling. The area out at the right is
underpayment. Over 80 percent of the tax gap is in
underreporting of income, mostly by individuals.
When you get down within that, there is a lot that is
associated with small businesses. There is no doubt confusion.
I would suggest to you, sir, that the biggest component of that
is understatement of revenues. I have got to tell you, this
comes down to the fact that there is no third party reporting
on the revenues. What is so hard to understand if you have
100,000 in revenues that you have to report 100,000 in
revenues? That is not necessarily a confusion issue.
There are a lot of things in the code that are a confusion
issue, though.
Mr. TIBERI. Talking again about the tax gap, the tax
collection program by private tax collectors, are there other
agencies in the Federal Government that use private tax
collectors to your knowledge?
Mr. EVERSON. There are a number of other agencies. The
Financial Management Service (FMS), part of Treasury, also
education loans, they use private debt collectors. Over 40
States use private collectors for elements of their tax
collection program.
Mr. TIBERI. Do you believe that without these private
collectors that you would have taken in less money last year?
Mr. EVERSON. Yes, sir. We are now successfully implementing
that program. We brought in I think about $12 million so far.
It will increase over time.
As I have indicated in questioning before, this is work we
could not get to, even if you wanted to throw money at us in
the next few years, we just couldn't have the capacity to hire
and train all the people to do the work.
Mr. TIBERI. Last question, Mr. Chairman. Thanks for your
indulgence.
Do you believe since you have been at the IRS that private
collectors have helped close that tax gap?
Mr. EVERSON. This is a new program. It has not yet
generated significant returns. It is--Senator Grassley has
called it a pilot. I think it is very much in the wait and see
mode.
Mr. TIBERI. Thank you. Thank you, Mr. Chairman.
Chairman LEWIS. Thank you very much.
Now I turn to Ms. Tubbs Jones for questions, Ms. Tubbs
Jones of Ohio. You may have some extra time for being so
patient.
Ms. TUBBS JONES. Thank you, Mr. Chairman, Mr. Ranking
Member.
Before I get started, I would like to have the students
from Cuyahoga Community College Metro Eastern and Western
Campus to stand up. Stand up, ladies and gentlemen. Meet the
Chairman of the Subcommittee on Oversight, Ways and Means,
Congressman John Lewis from Georgia, the Ranking Member, Mr.
Ramstad, and meet the IRS commissioner, Mr. Everson.
Thank you, ladies and gentlemen.
Chairman LEWIS. Welcome. We are delighted, very happy and
very pleased to have you here, seeing how the and works.
Ms. TUBBS JONES. I'm sorry, Mr. Doggett, as well as my
friend, Mr. Pomeroy, all my colleagues. Mr. Tiberi from Ohio.
Mr. EVERSON. Just give me your name and Social Security
number when you're leaving.
Ms. TUBBS JONES. Actually, my students wanted to ask you to
make sure that you did additional tax collection so that you
can assure them that there will be greater dollars available
from the and dollars for Pell grants. Is that what you asked me
to do, students?
Thanks very much. You can be seated.
I am very happy to have them here and participating in the
process. My first question for you, first of all is to say good
morning. Secondly, to ask you are any of the tax collection
agencies or private firms that you hire African American,
Hispanic or any minority?
Mr. EVERSON. Well, are you saying are they minority owned
businesses under----
Ms. TUBBS JONES. Yes, yes.
Mr. EVERSON. I don't believe they are. I don't have a
definitive answer to that question. They were selected in a
competitive procurement process that recognizes all the various
factors and we ended up with who we ended up with.
Ms. TUBBS JONES. I am not sure what those factors are. I
would hope that in the process of granting these contracts,
that there would be access and opportunity for minority
business firms.
Mr. EVERSON. I am sure there was.
Ms. TUBBS JONES. Check for me, please, and get back with
me----
Mr. EVERSON. What I am saying, in this area we follow the
law scrupulously and apply it and those are written into
procurement standards.
Ms. TUBBS JONES. I hear you, Mr. Commissioner. I used to be
an Equal Employment Opportunity Commission (EEOC) trial lawyer.
As a trial lawyer, sometimes the law on its face appears to be
neutral but in its implementation, it is discriminatory. So,
all I am asking you to do is take a look at it and make sure
that minorities have access to that opportunity.
Mr. EVERSON. Certainly.
Ms. TUBBS JONES. In addition to which, it may be that
minority contractors could help you do a better job at
collection of these resources, depending on who they are
dealing with. That has come to fruition in a lot of other
areas.
Mr. EVERSON. Absolutely, ma'am. In fact, I would note if
you are unaware of this, Senator Nelson has spoken about trying
to get the disabled veterans to help do some of this work too.
Ms. TUBBS JONES. Okay. Next subject. The new piece on the
horizon this year is in fact the telephone excise tax refund
that many people are eligible for but a number of them have not
applied for. I do have a press release from the IRS where you
have suggested that people make sure they apply or include this
in their tax return. Can you tell me what the result of that
has been? What else you've done other than a press release to
make the American people aware that they are entitled to a
telephone excise tax refund?
Mr. EVERSON. Yes, ma'am. This has been a surprise to us.
The claim rate, if you will, has been fairly consistent over
the course of the filing season, about 30 percent or right
around 30 percent are not claiming that. Some people would not
be eligible but he's a dependent of mine, so I got my 60
dollars, including Leonard's, the impact of Leonard. So, some
of that was to be expected. We think it is running higher.
From the start, we worked with the software providers and
everybody else to make sure that they tried to recognize this
opportunity. We're surprised that even going through on some of
the different routines that they've got that people will skip
over the question because last year it wasn't there, it is only
going to be there this year, as you know, as a one-time item,
and they just seem to be ignoring it. Let alone the folks who
do a paper return and they've done it the way year after year.
We've worked with all those people and we've tried to publicize
it as much as we can, ma'am.
Ms. TUBBS JONES. I would encourage you to make sure you--by
you, not just you personally but the IRS take a look at
opportunities for savings for low-income Americans like the
earned income tax credit and like this one-time telephone
credit. For people who are in low-income areas, $60 is like $60
million at the upper echelon. The earned income tax credit is a
significant opportunity for those people to have the chance to
gain some of those dollars back.
So, I would encourage you specifically to come up with ways
in which we can jointly, the Congress and the IRS, get out to
the people access to that.
Mr. EVERSON. I agree with you. We work very closely with
partnerships. We have 12,000 volunteer sites around the country
to try and do that. We want to keep growing that program for
all the reasons you suggest.
Ms. TUBBS JONES. Lastly, on the telephone excise tax, are
you also finding people who are trying to abuse the refund by
claim their whole phone bill in the process?
Mr. EVERSON. Yes, ma'am. In fact, we were very aggressive
about this in the initial weeks. We saw a pattern of returns.
We had criminal investigators going to seven different
practitioners around the country with search warrants and get
after it right away, because we wanted to make sure that people
understood. We had some individuals claiming in excess of
$10,000. You have to have a pretty big phone bill to get that
amount of credit.
Ms. TUBBS JONES. I would like to thank you for your
testimony, Mr. Commissioner. My colleagues, if any of you have
time, we are going to be in the Ways and Means library. Stop
back and say hi to some of the finest students in this and from
Cuyahoga Community College. Thank you very much.
Mr. EVERSON. Thank you. Nice to see you again.
Chairman LEWIS. Thank you very much, Mr. Commissioner.
Mr. Commissioner, how would the proposed budget for the new
year for the IRS, it is $11 billion, how would the IRS use an
additional one million dollars?
Mr. EVERSON. An extra one million dollars?
Chairman LEWIS. If you had another one million dollars, how
would you use it? It's not much money when you look at $11
billion.
Mr. EVERSON. Not much money. I think that would be
swallowed up, sir, by the many contingencies that occur over
the course of a year. We--a couple years ago, we got a very
modest increase. We had a lot of different proposals we had
made. In that instance, I elected to use it all in our tax
exempt and governmental entities unit. You try to make balanced
decisions. That was in an area that was, I felt, suffering from
under funding. However, I would--I would make the decision at
the time, depending on how we had done overall in the budget.
Chairman LEWIS. Thank you, Commissioner.
I now turn to the ranking Member, Mr. Ramstad, for
questions.
Mr. RAMSTAD. Thank you, Mr. Chairman. Commissioner, thanks
for being so generous with your time. I will be brief.
I just wanted to follow up on Mr. Pascrell's question and
concern that ``only 75 cents on the dollar in the private debt
collection program is returned to the Treasury.''
Since the IRS would not be able to work these cases, as you
testified, for a number of years, and at dramatically increased
staffing levels, isn't it better to collect 75 cents on the
dollar rather than zero cents on the dollar?
Mr. EVERSON. Well, I spent most of my career, sir, in the
private sector. A program that pays out and gets back to break
even after just 2 years and then generates that kind of return
is an easy investment decision, yes.
Mr. RAMSTAD. Isn't it true that much of this tax debt
literally becomes uncollectible because of the statute of
limitations?
Mr. EVERSON. Well, the statute goes out a long time.
However, the truth is, with debt, the longer you wait, the
harder it is to get it.
Mr. RAMSTAD. Just another question. Mr. Pomeroy raised the
issue of the free file program, albeit in another context. I
want to ask you whether the new $50,000 income cap is
contributing to the decline in the free file program?
Mr. EVERSON. That program has been at that level for the
last couple of years. We are seeing--the program started out
much lower this year. It was down 15 percent in the initial
weeks. It is now running ahead of last year. Filing season to
date, it is about 5 percent down year over year. I am a little
bit surprised by this. I expect at this point, it will end up
at about the same level as next year. May even surpass it, but
just modestly.
Mr. RAMSTAD. So, no causal relationship with the $50,000
cap?
Mr. EVERSON. I don't think so. I think that that has been
in effect for 2 years now, it is my understanding. I think that
there was a lot of support for this and hype of it in the first
year or two. There is a little less attention to it now.
Mr. RAMSTAD. Thank you again, Commissioner. Mr. Chairman, I
yield back.
Chairman LEWIS. Thank you, Mr. Ranking Member.
I now turn to Mr. Pomeroy of North Dakota for questioning.
Mr. POMEROY. Thank you. Mr. Commissioner, I want to come
back to this whole free file business, e-file business and the
providers we work with. First of all, I am still a little
hacked off about slapping the $52,000 cap on there, referencing
the preceding question. It seemed to me we have a program going
along and then suddenly you have these private partners saying,
wait a minute, wait a minute, these are--we can charge for part
of this group and with the Service's full complicity, you slap
a $50,000 cap on there and a lot of people that might have
otherwise used it are now not able to use it for free. On the
other hand, the free file alliance gets to concentrate on the
group that might be most susceptible to the refund anticipation
loan business.
This whole thing, Commissioner, I think you have the
highest standards of integrity, professionalism, wonderful
background, a great organization leader. However, there are
things about these relationships with these free file folks and
the refund anticipation loans that look badly for the Service.
Mr. EVERSON. Sir, let me be perfectly clear here. Free file
does not include RALs this year. That is knocked out.
Mr. POMEROY. I think that that is virtuous. I am glad about
that.
Also, there are other things still swirling about here that
just don't look good. First of all, I think substantively this
business of providing confidential taxpayer information to
private sector entities, that is just bad. It is just
inappropriate for the Service. It is a unique departure from
anything else the Service does relative to confidentiality and
I am surprised you went down that road.
Also, beyond that, that was the last series of questions.
What would you think about a group that basically used as a
domain name like IRS.com to try and interact with the public?
Do you think that IRS.com is an appropriate domain name to be
privately available?
Mr. EVERSON. I am not going to comment on what an
enterprise--it is not my area of oversight. I think it is
unfortunate, I would say. Obviously, anything that causes
confusion.
Let me start over again, the tax code, complying with your
civic obligation to pay your taxes is complicated enough and
there are enough folks out there who are misleading and trying
to take advantage of folks. We don't need additional confusion
or susceptibility to wrong things from things like that.
Mr. POMEROY. Right. Now, even though we have a taxpayer
advocate within the Service, I trust and I hope that you in the
commissioner's spot think that taxpayer advocacy in terms of
simplicity of complying and this kind of thing, is a big part
of what your job is.
So, IRS.com, and you were reluctant to express an opinion
on it. I'm not reluctant. I think that that is a deliberate
attempt to confuse the public, to basically use, again, market
opportunity on a domain name that reflects a very important
government agency. Also, as commissioner, you didn't have an
opinion on it, I'm surprised. I have a strong opinion on it.
Mr. EVERSON. I don't know exactly what they do.
Furthermore, I don't like anything that causes confusion.
Basically I am taking a pass, because it is not my area of
oversight.
Mr. POMEROY. Well, what they do is they make tax loans
available. They are a RAL provider, they are lender, at these
exorbitant, usurious rates. In fact, they got a breakout of
their rates, as probably required by law. Estimated Annual
Percentage Rate (APR), the interest rate, 93 percent. Unless
you have a loan above $3,000 and then it drops down to 82
percent interest rate. They are using the name IRS.com.
Now, as unfortunate as that is, this IRS.com links to a
group called Tax Act and they advertise themselves as a free
and online tax preparation service. So, IRS.com is basically
just a domain name they use to get people in that think they
are writing to you while they are writing to this private
entity that files them then to Tax Act. Bad business. That
would really bother me.
In addition, beyond that, commissioner, on your own
webpage, IRS.gov, you have these free file alliance companies
and you have Tax Act listed right on your own webpage. So, you
have IRS.com and IRS.gov referring to the same Tax Act.
Mr. EVERSON. Is Tax Act, are they part of the Free File
Alliance? Is that it?
Mr. POMEROY. Yes, sir.
Mr. EVERSON. I see.
Mr. POMEROY. If I had a private partner conducting
themselves like that, that private partner and I would be
parting ways. I am going to be very interested in watching what
the Service does relative to this kind of activity by one of
your Free File Alliance partners.
Mr. EVERSON. I will make sure we take a look at it, sir.
Mr. POMEROY. Thank you.
Chairman LEWIS. Thank you very much, Mr. Pomeroy, for your
line of questioning.
I now recognize the gentleman from Texas, Mr. Doggett.
Mr. DOGGETT. Thank you. Commissioner, when IRS reviews are
short cycled, at the conclusion of the audit, do you have an
exit procedure where the auditor can note how much money he or
she thinks has been left on the table or at least what
questionable issues or practices were left unattended to?
Mr. EVERSON. I am unfamiliar with our procedures at that
level of operations, sir. I will get an answer for you for the
record.
Mr. DOGGETT. Do you think that would be a good idea to know
what your auditors believe they are leaving behind?
Mr. EVERSON. I would want to reflect carefully before
answering that question.
Mr. DOGGETT. That is fair enough.
Mr. EVERSON. Since you can get people to overstate or
understate. There could be an inference that an individual has
done something when we haven't felt that it is serious enough
to proceed. It could be problematic.
Mr. DOGGETT. Is there information currently posted on the
internal IRS website calling for cycle times to be cut in half
during the next year?
Mr. EVERSON. I do not know the answer to that question. I
would be surprised. Cycle times cut in half over a 1-year
period would be quite significant.
Mr. DOGGETT. You would be surprised if that is an
objective?
Mr. EVERSON. I would be surprised. I could be wrong. I
would say to you, again, I have emphasized we need to reduce
cycle times. I have also said, sir, they will change, things
will change dramatically with the introduction which we have
made of electronic filing which will change the whole audit
process. That, too, is going to generate controversy for some
employees who are resistant to change, as you can imagine.
Mr. DOGGETT. Well, are managers and their performance
evaluated? Is one of the factors how many cases have been
closed?
Mr. EVERSON. I do not know whether numbers like that are
actually considered. Obviously one case, when you are talking
about big corporations, can be very different from another
case. So, I would be surprised if that was the instance, was
the fact. I am not sure, again, that you could look at that in
the context of section 1204 and make that stick legally.
Mr. DOGGETT. I am encouraged by your answers to my previous
set of questions about what IRS policy is. I contrast that with
the reports that at least one e-mail message from Audit Quality
Assurance to some of the auditors said, ``We must have 10 cases
a piece closed by 3/7/2007. You must keep me informed and make
me aware immediately if you will have any problems meeting this
goal. The goal translates into two cases per week.''
That is contrary to the policy that you said was the IRS
policy?
Mr. EVERSON. I am not sure it is, sir. Because my
understanding is that that was an e-mail exchange between
people who were doing a quality review, not the audit itself.
That is a very different thing to say, we need to keep making
sure we get our job done assessing the quality and getting at
the very issues that you are getting at. So, I don't think
those were, as it was reported to me this morning, that was not
about an auditor per se.
Mr. DOGGETT. So, that e-mail and your analysis of what it
was or wasn't is something you can again respond to us and
follow up.
Mr. EVERSON. Yes. Certainly.
Mr. DOGGETT. The same with regard to the report that one of
your directors for audits of telecommunications technology
companies chastised subordinates for not closing the audits
quickly enough?
Mr. EVERSON. I will certainly get back to you, sir on that,
and take a look at it.
Mr. DOGGETT. Thank you. I think overall we will be
interested in looking at the training materials and the
evaluation criteria to ensure that IRS does not have a catch
and release program, that not only releases people, releases
corporations on these other issues, but doesn't even measure
the size of the fish. That is my concern. As I look at the
overall data and the impact that that policy can have, you
referred to the fact that you have more coverage this year than
you did, more coverage in 2006 than you did when you arrived
there in 2003.
Mr. EVERSON. Yes, sir.
Mr. DOGGETT. You actually have a decline in coverage for
large corporations from fiscal year 2005 to 2006. If you
compare it going back to 1997, you have a rather significant
decline in coverage on large corporation audits over a 10-year
period, don't you?
Mr. EVERSON. You are probably right in that statistic
because, as I indicated before, you had a very broad-based
decline in enforcement activities. Over 25 percent of our
revenue agents were drawn down over a period of years. Now we
are bringing that back.
Mr. DOGGETT. So, we have not gotten back to the 1997 level?
Mr. EVERSON. Not in the corporate area. If you look at
certain areas like the levies, we have gotten back. In the
corporate area, we have brought it back over the last few
years, as I have indicated, though.
Mr. DOGGETT. My concern, sir, is that again overall,
looking at this tax gap question, and this is my final query,
Mr. Chairman, there have been estimates that the tax gap is as
much as $300 billion a year. You testified to the Senate Budget
Committee last year that we could get between $50 billion and
$100 billion ``without changing the dynamic between the IRS and
the people.''--yet the 16 proposals to which you refer are
estimated by, I guess, OMB to raise only 29 billion over 10
years.
So, it is a very small portion of the tax gap, a very small
portion of what you estimated could be raised to close the tax
gap that is being addressed in these legislative proposals.
Mr. EVERSON. Let me make two points, sir. First, I
appreciate your keen interest in this area of corporate
compliance. It is a top priority of mine. I look forward to a
continuing dialog on it. We are doing our level best to improve
the compliance here. I think there are some indications, as we
said in the Budget Committee, that there are improvements.
On overall progress in the tax gap, I would, as I indicated
before Chairman Spratt's Committee, we have made some progress
with ramping up the enforcement and the indirect effect there.
I believe that the Administration's proposals, both on the
funding side for the IRS and in these 16 proposals are
significant. A relatively modest amount of money, you are
correct. I think that they have generated a fair amount of heat
already. I would like to see us as a group, the Congress and
the Administration, get these done and then we will take a look
beyond them. However, each time you do more, you get into this
burden question that was addressed a few minutes ago.
Mr. DOGGETT. Thank you, Mr. Chairman. Thank you,
Commissioner. My concern is that, while we are waiting,
billions of dollars are being lost to the Treasury which have
to be made up some other way. To assure that what is happening
in practice, with these frontline auditors, is consistent with
what you have told us is IRS policy. Thank you very much.
Mr. EVERSON. Thank you for your interest, sir.
Chairman LEWIS. Thank you very much.
I now turn to Mr. Tiberi of Ohio for questioning.
Mr. TIBERI. Thank you, Mr. Chairman.
One last question, Commissioner, and you may not be able to
answer it and you may have to get back to me, which is fine. In
the Administration's fiscal year 2008 budget request before
Congress, they propose granting authority to the Department of
the Treasury to promulgate rules requiring organizations that
process credit cards for merchants who accept credit card
payments to report to the IRS gross reimbursement payments made
to those merchants.
My question is, how did we go in the Administration's
fiscal year 2007 budget from a figure of 225 million collected
from that program to nearly 11 billion, with a B, which is a
pretty big jump even by Washington standards, in the 2008
budget?
Mr. EVERSON. I will have to get back to you for the record
on that. As was indicated before, my team doesn't make
estimates of what are the revenue impacts on any of the
legislative proposals. That is done, and I think appropriately
so, independently by the Treasury Department. Generally and it
goes back to Congressman Doggett's question. I think that those
estimates, from my point of view, are somewhat conservative.
However, I don't want to comment on any discrepancy between
figures 1 year and the next.
Mr. TIBERI. I appreciate that. It is just that the numbers
really stood out in terms of 225 million to nearly 11 billion.
Mr. EVERSON. One may be over a period of time. I am not
sure.
Mr. TIBERI. Both are over 10 years.
Mr. EVERSON. They are?
Mr. TIBERI. Both are over 10 years. So, there is a
significant difference.
Mr. EVERSON. Well, I think we will do well if we get that
proposal done. So, I think there is real money there. I would
like to see us get it done.
Mr. TIBERI. Thank you.
Chairman LEWIS. Well, let me take this moment to thank the
ranking Member and all Members of the Committee for being
present and for participating in this hearing.
Mr. Commissioner, I want to thank you for your time, you
gave us a lot of time, and for your testimony. We look forward
to continuing to work with you. We wish you well during this
tax filing season.
There being no other business coming before the Committee,
the Committee is now adjourned.
[Whereupon, at 11:42 a.m., the hearing was adjourned.]
[Questions submitted by the Members to the witness follow:]
Question Submitted by Mr. Tanner to Mr. Everson
Question: Our nation's fiscal house is a mess, and the entitlement
nightmare is fast approaching. But before we even consider asking the
American taxpayer to reach further into their pocket to help restore
our fiscal discipline, we have got to find out how this government is
spending the money it already receives and figure out how to best
retrieve the money it is owed. The annual tax gap is estimated to be
about $350 billion. The President has put forward some ideas on how to
reduce the gap, and we are certain to see both the Senate and the House
present their own plans on how to close this gap. But I would like to
know what the IRS is doing today to reduce this obscene number. Under
the current approach, what will the tax gap look like in 5 years?
Answer: The IRS' long-term goal is to increase the Voluntary
Compliance Rate (VCR) to 86% by tax year 2009 and Senate Finance
Committee Chairman Max Baucus has asked for a 90 percent voluntary
compliance goal by 2017. However, even with a constant VCR, the tax gap
grows over time to the extent tax liabilities grow over time.
On August 2, 2007, the IRS released the report ``Reducing the
Federal Tax Gap: A Report on Improving Voluntary Compliance,''
outlining steps that the IRS will take to increase voluntary compliance
and reduce the tax gap. One of the primary challenges that the IRS
faces in improving compliance is to get a better understanding of the
current sources of noncompliance by improving research in this area.
The IRS has taken significant steps in this direction, most importantly
through the National Research Program (NRP), which is the source of
updated estimates of compliance among individual taxpayers for Tax Year
2001.
The IRS does not have annual estimates of overall compliance.
However, based on the limited information available, compliance rates
appear to have remained relatively stable at around 85 percent for
decades. To make a meaningful improvement in this number without a
fundamental change in the relationship between taxpayers and the
government will require a long-term, focused effort. Implementation of
the steps outlined in this document and in the Administration's Fiscal
Year (FY) 2008 Budget request for the IRS will be subject to the
uncertainties associated with the annual budget process. Moreover, it
must be recognized that the causes of noncompliance are numerous and
that only a portion of the tax gap results from intentional avoidance
or evasion of the law. An equally or perhaps more important part of the
problem lies in the growing complexity of the tax laws, which will
continue to frustrate efforts to improve compliance. The Administration
is committed to working with Congress and other stakeholders to reduce
the tax gap. The Administration's FY 2008 Budget request includes $11.1
billion for the IRS, a 4.7-percent increase over the budget enacted for
FY 2007. A total of $410 million is for new enforcement initiatives as
part of a strategy to improve compliance by:
Increasing frontline enforcement resources;
Increasing voluntary compliance through improved taxpayer
service options and enhanced research;
Investing in technology to reverse infrastructure
deterioration, accelerate modernization, and improve the productivity
of existing resources; and
Implementing legislative and regulatory changes.
[Submissions for the Record follow:]
Statement of Colleen M. Kelley, National Treasury Employees Union
Chairman Lewis, Ranking Member Ramstad, and distinguished members
of the Subcommittee, I would like to thank you for allowing me to
provide comments on IRS operations and the tax gap. As President of the
National Treasury Employees Union (NTEU), I have the honor of
representing over 150,000 federal workers in 30 agencies men and women
at the IRS.
Mr. Chairman, the National Treasury Employees Union has serious
concerns about a number of IRS policies that we believe are undermining
the agency's ability to fulfill its tax enforcement mission as well as
hampering efforts to close the tax gap. These include ongoing staff
cuts of some of the IRS's most productive employees, reliance on
outside contractors to handle inherently governmental activities such
as the collection of taxes, and a shift in philosophy which focuses
enforcement efforts too much on wage earners and not enough on high-
income individuals and large businesses and corporations.
Tax Gap
In April 2006, the IRS released updated estimates showing that the
tax gap was approximately $345 billion in Tax Year 2001. As Nina Olson,
the National Taxpayer Advocate noted, this amounts to a per-taxpayer
``surtax'' of some $2,000 per year to subsidize noncompliance. And
while the agency has made small inroads and the overall compliance rate
through the voluntary compliance system remains high, much more can and
should be done. NTEU believes that in order to close the tax gap, the
IRS needs additional employees on the frontlines of tax compliance and
customer service. In addition, we believe Congress should establish a
dedicated funding stream to provide adequate resources for those
employees.
History has shown that the IRS has the expertise to improve
taxpayer compliance but lacks the necessary personnel and resources.
The President's own fiscal 2008 budget proposal trumpets the increased
tax collections produced by IRS's own employees and cites the increased
collections of delinquent tax debt from $34 billion in 2002 to $49
billion in 2006, an increase of 44 percent. Unfortunately, instead of
providing additional resources to hire more enforcement staff, IRS
personnel resources have been slashed in recent years resulting in a
36% decline in combined collection and examination function enforcement
staff between 1996 and 2003. In addition, these staffing cuts have come
at a time when the IRS workload has dramatically increased.
According to IRS's own annual reports and data, taxpayers filed
114.6 million returns in 1995. After a steady annual climb, eleven
years later, the Service saw more than 132 million returns filed. In
addition, between 1997 and 2005, the number of individual tax returns
with $100,000 in reported income, which are generally more complex
returns, increased by more than 52 percent. Yet, between 1995 and 2003,
total numbers of employees shrunk from 114,000 to 94,000. Even more
alarming is that during that period, revenue officers and revenue
agents--two groups critical to reducing the tax gap--shrunk by 40 and
30 percent respectively. Revenue officers who collect large delinquent
accounts went from 8,139 to 5,004 and revenue agents who do audits fell
from 16,078 to 11,513. Unfortunately, instead of reversing this trend,
the IRS has continued efforts to reduce its workforce and has moved
forward with downsizing in several different areas which have targeted
some of the service's most productive employees.
These include last year's re-organization of the Estate and Gift
Tax Program which sought the elimination of 157 of the agency's 345
estate and gift tax attorneys--almost half of the agency's estate tax
lawyers--who audit some of the wealthiest Americans. The Service
pursued this drastic course of action despite internal data showing
that estate and gift attorneys are among the most productive
enforcement personnel at the IRS, collecting $2,200 in taxes for each
hour of work.
The IRS decision to drastically reduce the number of attorneys in
the estate and gift tax area flies in the face of several reports made
to Congress by Treasury and IRS officials over the past few years,
indicating that tax evasion and cheating among the highest-income
Americans is a serious and growing problem. In fact, an IRS study found
that in 1999, more than 80 percent of the 1,651 tax returns reporting
gifts of $1 million or more that were audited that year understated the
value of the gift. The study found that the average understatement was
about $303,000, on which about $167,000 in additional gift taxes was
due. This alone cost the government about $275 million. Consequently,
it is difficult to understand why the IRS sought the elimination of key
workforce positions in an area that could produce significant revenue
to the general treasury.
In addition, the Service continues to move forward with its plan to
close five of its ten paper tax return submission facilities by 2011.
The IRS originally sought the closings of the five paper return
submission centers due to the rise in the use of electronic filing (e-
filing) and in order to comply with the IRS Restructuring and Reform
Act of 1998 (RRA 98) which established a goal for the IRS to have 80
percent of Federal tax and information returns filed electronically by
2007. But in their recent report to Congress on e-filing, the IRS
Oversight Board noted that the IRS will fall well short of the 80
percent goal and urged Congress to extend the deadline to 2012. The
report noted that in 2006 just 54 percent of individuals e-filed their
returns, well short of the 80 percent goal. Furthermore, the report
cited a decline in 2006 in the number of e-file returns received from
individual taxpayers who self-prepared their taxes. And finally a
recent GAO report on the 2006 filing season noted the year over year
percentage growth in individual e-filing slowed to a level lower than
any of the previous three years
While overall use of e-filing may be on the rise, the number of
taxpayers opting to use this type of return is not increasing as
rapidly as the IRS had originally projected. Combined with the fact
that almost a third of American taxpayers do not even have internet
access and changes to the IRS Free File Program that are expected to
increase the number of paper filing returns, it is clear that paper
submission processing facilities are still necessary and that serious
thought and consideration must be given before any additional closings
are undertaken.
Mr. Chairman, it is clear that drastic reductions in some of the
agency's most productive tax law enforcement employees has undermined
agency efforts to close the tax gap and directly contradicts the
Service's stated enforcement priority to discourage and deter non-
compliance, particularly among high-income individuals.
NTEU Staffing Proposal
In order to address the staffing shortage at the IRS and combat the
tax gap, NTEU supports a two percent annual net increase in staffing
(roughly 1,885 positions per year) over a five-year period to gradually
rebuild the depleted IRS workforce to pre-1998 levels. A similar idea
was proposed by former IRS Commissioner Charles Rossotti in a 2002
report to the IRS Oversight Board. In the report, Rossotti quantified
the workload gap in non-compliance, that is, the number of cases that
should have been, but could not be acted upon because of resource
limitations. Rossotti pointed out that in the area of known tax debts,
assigning additional employees to collection work could bring in
roughly $30 for every $1 spent. The Rossotti report recognized the
importance of increased IRS staffing noting that due to the continued
growth in IRS' workload (averaging about 1.5 to 2.0 percent per year)
and the large accumulated increase in work that should be done but
could not be, even aggressive productivity growth could not possibly
close the compliance gap. Rossotti also recognized that for this
approach to work, the budget must provide for a net increase in
staffing on a sustained yearly basis and not take a ``one time
approach.''
Although this would require a substantial financial commitment, the
potential for increasing revenues, enhancing compliance and shrinking
the tax gap makes it very sound budget policy. One option for funding a
new staffing initiative would be to allow the IRS to hire personnel
off-budget, or outside of the ordinary budget process. This is not
unprecedented. In fact, Congress took exactly the same approach to
funding in 1994 when Congress provided funding for the Administration's
IRS Tax Compliance Initiative which sought the addition of 5,000
compliance positions for the IRS. The initiative was expected to
generate in excess of $9 billion in new revenue over five years while
spending only about $2 billion during the same period. Because of the
initiative's potential to dramatically increase federal revenue,
spending for the positions was not considered in calculating
appropriations that must come within annual caps.
A second option for providing funding to hire additional IRS
personnel outside the ordinary budget process could be to allow IRS to
retain a small portion of the revenue it collects. The statute that
gives the IRS the authority to use private collection companies to
collect taxes allows 25 percent of collected revenue to be returned to
the companies as payment, thereby circumventing the appropriations
process altogether. Clearly, there is nothing magical about revenues
collected by private collection companies. If those revenues can be
dedicated directly to contract payments, there is no reason some small
portion of other revenues collected by the IRS could not be dedicated
to funding additional staff positions to strengthen enforcement.
While NTEU agrees with IRS' stated goal of enhancing tax compliance
and enforcement, we don't agree with the approach of sacrificing
taxpayer service in order to pay for additional compliance efforts.
NTEU believes providing quality services to taxpayers is an important
part of any overall strategy to improve compliance and that reducing
the number of employees dedicated to assisting taxpayers meet their
obligations would only serve to exacerbate, not shrink, the tax gap.
The Administration's own budget proposal for 2008 notes that in FY
2006, IRS' customer assistance centers answered almost 33 million
assistor telephone calls and met the 82 percent level of service goal,
with an accuracy rate of 91 percent for tax law questions. In addition,
a recent study commissioned by the Oversight Board found that more than
80 percent of taxpayers contacted said that IRS service was better than
or equal to service from other government agencies. And while these
numbers show that IRS taxpayer services are being effective, more can
and should be done.
Mr. Chairman, in order to continue to make improvements in taxpayer
services while simultaneously processing a growing number of tax
returns and stabilizing collections and examinations of cases, it is
imperative to reverse the severe cuts in IRS staffing levels and begin
providing adequate resources to meet these challenges. With the future
workload expected to continue to rise, the IRS will be under a great
deal of pressure to improve customer service standards while
simultaneously enforcing the nation's tax laws. NTEU strongly believes
that providing additional staffing resources would permit IRS to meet
the rising workload level, stabilize and strengthen tax compliance and
customer service programs and allow the Service to address the tax gap
in a serious and meaningful way.
Private Tax Collection
Mr. Chairman, as stated previously, if provided the necessary
resources, IRS employees have the expertise and knowledge to ensure
taxpayers are complying with their tax obligations. That is why NTEU
continues to strongly oppose the Administration's private tax
collection program, which began in September of last year. Under the
program, the IRS is permitted to hire private sector tax collectors to
collect delinquent tax debt from taxpayers and pay them a bounty of up
to 25 percent of the money they collect. NTEU believes this misguided
proposal is a waste of taxpayer's dollars, invites overly aggressive
collection techniques, jeopardizes the financial privacy of American
taxpayers and may ultimately serve to undermine efforts to close the
tax gap.
NTEU strongly believes the collection of taxes is an inherently
governmental function that should be restricted to properly trained and
proficient IRS personnel. When supported with the tools and resources
they need to do their jobs, there is no one who is more reliable and
who can do the work of the IRS better than IRS employees.
As you may know, under current contracts, private collection firms
are eligible to retain 21% to 24% of what they collect, depending on
the size of the case. In testimony before Congress, the IRS
Commissioner, Mark Everson, has twice acknowledged that using private
collection companies to collect federal taxes will be more expensive
than having the IRS do the work itself. The Commissioner's admission
directly contradicts one the Administration's central justifications
for using private collection agencies--that the use of private
collectors is cost efficient and effective.
In addition to being fiscally unsound, the idea of allowing private
collection agencies to collect tax debt on a commission basis also
flies in the face of the tenets of the IRS Restructuring and Reform Act
of 1998. Section 1204 of the law specifically prevents employees or
supervisors at the IRS from being evaluated on the amount of
collections they bring in. But now, the IRS has agreed to pay private
collection agencies out of their tax collection proceeds, which will
clearly encourage overly aggressive tax collection techniques, the
exact dynamic the 1998 law sought to avoid. Furthermore, the IRS is
turning over tax collection responsibilities to an industry that has a
long record of abuse. For example, in 2005 (the latest year statistics
are available), the Federal Trade Commission received 66,627 consumer
complaints about debt collection agencies--giving debt collectors the
impressive title of the FTC's most complained-about industry.
NTEU believes that a better option would be to provide the IRS with
the resources and staffing it needs. There is no doubt that IRS
employees are--by far--the most reliable, cost-effective means for
collecting federal income taxes. As noted previously, the IRS
Commissioner himself has admitted that using IRS employees to collect
unpaid tax debts is more efficient than using private collectors. In
addition, the 2002 budget report submitted to the IRS Oversight Board,
former Commissioner Charles Rossotti made clear that with more
resources to increase IRS staffing, the IRS would be able to close the
compliance gap.
This is not the first time the IRS has tried this flawed program.
Two pilot projects were authorized by Congress to test private
collection of tax debt for 1996 and 1997. The 1996 pilot was so
unsuccessful it was cancelled after 12 months, despite the fact it was
authorized and scheduled to operate for two years. A subsequent review
by the IRS Office of Inspector General found that contractors
participating in the pilot programs regularly violated the Fair Debt
Collection Practices Act, did not adequately protect the security of
personal taxpayer information, and even failed to bring in a net
increase in revenue. In fact, a 1997 GAO report found that private
companies did not bring in anywhere near the dollars projected, and the
pilot caused a $17 million net loss.
Despite IRS assurances that it has learned from its past mistakes,
two recent reports indicate otherwise. A March 2004 report by the
Treasury Inspector General for Tax Administration raised a number of
questions about IRS' contract administration and oversight of
contractors. The report found that ``a contractor's employees committed
numerous security violations that placed IRS equipment and taxpayer
data at risk'' and in some cases, ``contractors blatantly circumvented
IRS policies and procedures even when security personnel identified
inappropriate practices.'' (TIGTA Audit #200320010). The proliferation
of security breaches at a number of government agencies that put
personal information at risk further argue against this proposal. These
security breaches illustrate not only the risks associated with
collecting and disseminating large amounts of electronic personal
information, but the risk of harm or injury to consumers from identity
theft crimes.
In addition, a September 2006 examination of the IRS private
collection program by the Government Accountability Office (GAO)
reveals that like the 1996 pilot, the program may actually lose money
by the scheduled conclusion of the program's initial phase in December
2007. The report cited preliminary IRS data showing that the agency
expects to collect as little as $56 million through the end of 2007,
while initial program costs are expected to surpass $61 million. What's
more, the projected costs do not even include the 21-24 percent
commission fees paid to the collection agencies directly from the taxes
they collect.
In addition to the direct costs of the program, I am greatly
concerned about the potential negative effect that the private tax
collection program will have on our tax administration system. In her
recent report to Congress, the National Taxpayer Advocate voiced
similar concern about the unintended consequences of privatizing tax
collection. Olson cited a number of ``hidden costs'' that private tax
collection has on the tax system including reduced transparency of IRS
tax collection operations, inconsistent treatment for similarly
situated taxpayers, and reduced tax compliance. Clearly the negative
effects of contracting out tax collection to private collectors hampers
the agency's ability to improve taxpayer compliance and will only serve
to undermine future efforts to close the tax gap.
NTEU is not alone in its opposition to the IRS' plan. Similar
proposals allowing private collection agencies to collect taxes on a
commission basis have been around for a long time and have consistently
been opposed by both parties. In fact, the Reagan Administration
strongly opposed the concept of privatizing tax collections warning of
a considerable adverse public reaction to such a plan, and emphasizing
the importance of not compromising the integrity of the tax system.
(Treasury Dept. Statement to House Judiciary Comm. 8/8/86). More
recently, opposition to the private tax collection program has been
voiced by a growing number of members of Congress, major public
interest groups, tax experts, as well as the Taxpayer Advocacy Panel, a
volunteer federal advisory group--whose members are appointed by the
IRS and the Treasury Department. In addition, the National Taxpayer
Advocate, an independent official within the IRS recently identified
the IRS private tax collection initiative as one of the most serious
problems facing taxpayers and called on Congress to immediately repeal
the IRS' authority to outsource tax collection work to private debt
collectors ( National Taxpayer Advocate 2006 Report to Congress).
Instead of rushing to privatize tax collection functions which
jeopardizes taxpayer information, reduces potential revenue for the
federal government and undermine efforts to close the tax gap, the IRS
should increase compliance staffing levels at the IRS to ensure that
the collection of taxes is restricted to properly trained and
proficient IRS personnel.
Mr. Chairman, NTEU believes that frontline IRS employees are the
best defense against an increasing U.S. tax gap. Unfortunately, the
Administration has not requested the funding necessary to close the tax
gap. Congress must, therefore, act to provide IRS with the necessary
staffing and a dedicated funding stream to support those additional
workers.
IRS Audits of High-Income Individuals and Large Businesses and
Corporations
Mr. Chairman, I would also like to briefly discuss IRS enforcement
efforts with regard to high-income individuals and large businesses
and corporations. I previously noted the drastic staff reductions in
the estate and gift tax division that occurred last year and will
obviously hamper the Service's ability to achieve greater compliance
from the wealthiest Americans. In addition, recent IRS data shows that
IRS audits of high-income individuals have dropped dramatically over
the past decade. The audit rate for face-to-face audits fell from 2.9
percent of high-income tax filers in FY 1992 to 0.38 percent in FY 2001
and then drifted down to 0.35 percent in FY 2004. While the audit rate
has rebounded somewhat in the last two years, it is still far below the
level of the mid-1990's. These facts seem to directly contradict claims
by the IRS that the Service's first enforcement priority is to
discourage and deter non-compliance, with an emphasis on high-income
individuals.
We are seeing similar troubling trends with respect to large
corporations. While this issue has just started receiving public
attention in recent weeks, it has long been of concern to IRS employees
that believe recent IRS currency and cycle time initiatives are
resulting in the premature closing of audits of large companies,
possibly leaving hundreds of millions of dollars of taxes owed on the
table. IRS data shows the thoroughness of IRS enforcement efforts for
the nation's largest corporations--measured by the number of hours
devoted to each audit--has substantially declined since FY 2002. IRS
data also show that the annual audit rates for these corporations, all
with assets of $250 million or more, while increasing in FY 2004 and
2005, receded in 2006 to about the level it was in 2002 and is much
lower than levels that prevailed a decade or more ago.
Although the number of the largest corporations is small, they are
a very significant presence in the American economy. In FY 2002, the
largest corporations were responsible for almost 75 percent of all
additional taxes the IRS auditors said were owed the government. By
comparison, low and middle income taxpayers in the same year were
responsible for less than 10 percent of the total.
Agency data shows that audit attention given those corporations
with $250 million or more in assets has substantially declined in the
last five years. In 2002, an average of 1,210 hours were devoted to
each of the audits of the corporations in this category. The time
devoted to each audit dropped sharply in 2004 and by 2006 the number of
hours per audit remained 20% below what it was in 2002.
But what may be most disturbing is that according to IRS' own data,
while the coverage rate of large corporation returns( identified as
those with assets of $10 million and higher) increased in FY 2004 and
2005, the number of audits for these corporations actually decreased in
2006. Clearly, the rationale the IRS is using to justify a reduction in
time and scope of large corporation audits, that is, to allow for
expanding the total number of companies audited is not working.
IRS officials have continued to point to a rise in additional tax
recommended for each hour of audit as a sign that the policy is
working, but most auditors know that this rise can be primarily
attributed to the proliferation of illegal tax shelters which makes it
easier to find additional taxes due.
Warnings about the potential negative consequences of such policy
decisions were made by a number of IRS employees in a recent New York
Times article and are not new. In fact, when the IRS first began
limiting the time and scope of business audits through implementation
of the Limited Issue Focused Examination (LIFE) process in 2002, the
former chief counsel of the IRS said that the IRS' proposed reductions
in cycle time of corporate audits would ``virtually guarantee that IRS
auditors would miss tax dodges, fail to explore suspicious
transactions, or even walk away from audits that are on the verge of
finding wrongdoing.''
In addition, IRS employees have raised concerns about this shift in
approach to the auditing of business tax returns since its
implementation several years ago. Their concerns are multi-fold.
Primarily, employees' feel that their experience and professional
judgment is being ignored when the scope of audits is limited and cycle
times are reduced. Revenue agents need flexibility to determine the
scope of an audit and need the ability to expand the examination time
when necessary. The men and women of the IRS that perform these audits
are highly experienced employees who know which issues to examine and
when more time is necessary on a case. But under current IRS policies,
this is just not the case.
Mr. Chairman, we have heard directly from a number of our members
about the detrimental effect this policy has had not just on efforts to
ensure corporations are in full compliance, but also how this misguided
policy is damaging employee morale. In one instance, an IRS agent with
29 years of experience, including 19 as an international specialist
examining tax returns of large, multinational corporations was given an
unreasonably short period of time to examine three tax years of a very
large company. The agent reported being constantly harassed for
refusing to further limit the scope of the examination beyond that
which was set at the beginning of the audit, even though he had
successfully completed two prior examinations of the same taxpayer in a
timely manner. The employee knew the issues and how to examine them but
also knew they would need more than the allotted time to complete his
part of the examination. But, despite past successes, management
refused to provide the employee with additional time to complete his
portion of the audit and labeled the employee as uncooperative and not
a ``team player.'' Although the employee refused to compromise, he
believed that other members of the examination team had been pressured
into dropping issues which likely would have resulted in additional
tax.
Mr. Chairman, in the face of a rising tax gap and exploding federal
deficits, it is imperative that the agency is provided with the
necessary resources to allow IRS professionals to pursue each and every
dollar of the taxes owed by large businesses and corporations. Allowing
these corporations to pay just a fraction of what they owe in taxes
greatly hinders efforts to close the tax gap and is fundamentally
unfair to the millions of ordinary taxpayers that dutifully pay their
taxes. Only by increasing the overall number of IRS employees that do
this work can the Service ensure that businesses and large corporations
are complying with their tax obligations and that the tax gap is being
closed.
IRS Budget
Mr. Chairman, the final issue that I would like to discuss is the
Administration's FY '08 budget request for the IRS. As you know, the
IRS budget forms the foundation for what the IRS can provide to
taxpayers in terms of customer service and how the agency can address
the ever-increasing tax gap through enforcement. Without an adequate
budget, the IRS cannot expect continued improvement in customer service
performance ratings and will be hampered in its effort to shrink the
tax gap. I would like to applaud the Administration for acknowledging
in its FY-08 Budget in Brief (page 65) that ``assisting the public to
understand their tax reporting and payment obligations is the
cornerstone of taxpayer compliance and is vital for maintaining public
confidence in the tax system.'' However, I was disappointed in the
Administration for failing to request a budget for FY '08 that meets
the needs of the Agency to fulfill its customer service and enforcement
challenges as well as to address closing the tax gap in a meaningful
way.
Although it's widely recognized that additional funding for
enforcement provides a great return on the investment, the
Administration seems reluctant to request an adequate budget for the
IRS. In addition, despite citing a lack of resources as the primary
rationale for contracting out a number of inherently governmental
activities, such as the collection of taxes, the Commissioner of the
IRS has told Congress that the IRS does not need any additional funding
above the President' budget request.
NTEU believes that Congress must provide the IRS with a budget that
will allow the Service to replenish the depleted workforce,
particularly with respect to enforcement personnel. And while it is
imperative that Congress provide the IRS with sufficient staffing
resources, we also believe that the IRS can look at the management to
bargaining unit employee ratio to find additional resources for
increased frontline tax compliance efforts. As noted previously, while
the number of employees at the IRS has decreased by almost 20,000 since
1995, the number of managers who supervise these employees has
increased over this same period. If the IRS decreased the number of
managers and management officials at the same rate as it has decreased
its rank and file employees, the Agency could put the savings toward
bolstering enforcement staff which would clearly aid efforts to close
the tax gap. While the IRS has previously cited concerns about the
number of employees that would have to be taken offline to train
additional frontline employees, we believe this training could be done
with minimal disruption to current operations. One possibility would be
to use the increasing number of managers and management officials to do
the training. This would ensure that these employees are afforded the
best possible training while allowing current operations to continue to
run efficiently.
Electronic Transactions Association
April 3, 2007
Honorable John Lewis
Committee on Ways and Means, Subcommittee on Oversight
U.S. House of Representatives
1102 Longworth House Office Building
Washington, D.C. 20515
Dear Representative Lewis:
The Electronic Transaction Association\1\ (``ETA'') is pleased to
submit our comments to the Subcommittee on Oversight regarding the
Hearing on Internal Revenue Service Operations and the Tax Gap.
Specifically, ETA would like to address a proposal in President Bush's
FY2008 Federal Budget for the U.S. Department of Treasury that would
require merchant acquiring banks to report aggregate credit/debit card
reimbursements made to merchants.
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\1\ ETA, founded in 1990, is the nation's oldest and largest
organization of businesses representing the merchant acquiring industry
that enables merchants to offer electronic payment services to
consumers. With over 500 member companies, ETA's diverse membership,
including state/federal chartered financial institutions, merchant
service providers (also know as independent sales organizations), and
credit card companies, is part of the backbone of the American economy
that facilitates electronic payments.
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ETA Position
ETA strongly recommends that the Subcommittee consider the effects
this new reporting requirement would have on merchant acquiring banks,
small businesses, and individual consumers. While ETA supports efforts
to ensure greater tax compliance, the merchant acquirer reporting
proposal as stated is vague and could lead to misleading information
being provided to the IRS. Moreover, the estimates provided by Treasury
(approx. $10 billion over 10 years) are unsubstantiated and likely
significantly overstated. In order for this proposal to provide
actionable information to the IRS for compliance purposes, ETA believes
it would require an exhaustive amount of information that would be a
significant burden on the merchant acquiring payment industry. The
increased costs of complying with these burdensome reporting
requirements would be born by consumers.
The Proposal/Background
In the FY2008 Federal Budget, the President has proposed requiring
merchant acquiring banks to report to the IRS annually on aggregate
credit and debit card reimbursement payments made to businesses. A
similar proposal existed in the FY2007 Federal Budget; however no
action was taken in the last Congress. The purpose of requiring this
reporting is based on the belief that small businesses are
underreporting their income for a variety of reasons, including tax
avoidance and lack of understanding related to the tax law. It has been
proposed that by requiring merchant acquiring banks to provide reports
on payments to merchants, the IRS could compare actual reported credit
and debit card sales with reported tax filings, thereby allowing the
IRS to extrapolate what a business' cash transaction income should be.
If the reported income on tax returns is not as it should be, the IRS
would conceivably be able to target audit resources at those businesses
that appear to have underreported.
Reporting Requirements Unfair to Small Businesses and Merchant
Acquiring Banks
The rapid growth of credit, debit, and stored value card use as a
percentage of sales will constantly and materially change as the shift
in consumer payment preferences evolve. This evolution--along with
consumer payment preferences that vary significantly by business type,
region and other factors--reduce the reliability of card transactions
alone as a measure of business total sales. ETA believes that the
burden that this reporting requirement would place on merchant
acquiring banks, as well as small businesses, will vastly outweigh any
benefits gained from such reports. Furthermore, as this would be a
system of guessing, it is ripe for abuse. With thousands of businesses
currently operating in the U.S., it is not practical to expect that the
IRS could become an expert on the spending habits of individuals and
businesses.
While ETA supports increased compliance by small businesses when
filing their tax returns, it is not a simple process for merchant
acquiring banks to send the credit and debit reimbursement information
to the IRS that would be meaningful. For example, there are cash back
options on purchases; returns/chargebacks; tips/merchandise on a single
transaction; redemption of gift cards purchased in one tax season and
redeemed in another; retained merchant fees (e.g., terminal rental,
custom services, etc); and many more such examples that illustrate why
a single aggregate number may provide misleading information.
Implementing a reporting system that would provide useful information
to the IRS would cost merchant acquiring banks millions of dollars and
countless hours to gather information for an effort that is
fundamentally flawed.
In addition, most merchant banks would likely be required to rely
on third parties, such as payment processors and other third party
service providers to provide information that the IRS wants. This
proposal will have far reaching efforts and unintended consequences.
Source of Budget Estimates Unclear
The uncertainty over the benefits of this reporting requirement is
most evident in the Federal budget proposals from FY2007 and FY2008. In
the FY2007 report, the Treasury estimated that the reporting
requirement would help generate $9 million in 2007, $92 million during
the years 2007-2011, and $225 million during the years 2007-2016. In
contrast, the FY2008 report stated that the reporting requirement would
help generate $113 million in 2008, $3.3 billion during the years 2008-
2012, and $10.8 billion during the years 2008-2017. Both the FY2007 and
FY2008 report are based on data gathered from the 2001 tax year, and
there is no explanation for how the proposed revenue estimate jumped
astronomically from 2007 to 2008.
Disincentive for Small Merchants to Accept Credit and Debit Cards
ETA believes that the proposed merchant acquirer reporting
requirement may have the unintended consequence of driving away
traditional cash-based merchants from accepting payment cards. The
proposal would punish the vast majority of small businesses that are in
compliance with reporting because of the indiscretions of those few
that underreport. Those few dishonest small businesses that knowingly
underreport may choose not to accept payment cards in the future when
it is known that credit and debit card expenditures are reported to the
IRS and any misrepresentation could be revealed upon review. Therefore,
this approach would only increase the costs associated with credit and
debit card usage without identifying any additional taxable income that
would not have already been reported.
Finally, the increased costs of compliance for merchant acquiring
banks will be passed on to the merchants and eventually borne by
consumers in the form of higher prices for goods and services.
Conclusion
ETA requests that the Subcommittee undertake a critical evaluation
of the proposed merchant acquiring bank reporting requirement. ETA
believes that as proposed, the reporting requirement would: (1) provide
potentially misleading information to the IRS; (2) create a costly new
reporting requirement that would increase consumer prices; and (3)
drive small businesses away from accepting payment cards.
The ETA stands ready to assist the Subcommittee as it considers
this proposal. Should you have any questions or need additional
information, please contact Rob Drozdowski of my staff at (202) 828-
2635 or [email protected].
Sincerely,
Carla Balakgi
Executive Director
Statement of Gerald E. Scorse, New York, New York
Taxes on long-term capital gains are at their lowest level in over
70 years. Should we be celebrating? Not to my mind, and I hope to win
you over to my point of view. First a brief preface: President Bush has
dubbed himself The Decider, and he most definitely is. Far away, about
as far from deciding as a person could possibly get, I've dubbed myself
a fact-finder.
Nobody can find all the facts so I had to pick a category and I
chose taxes. Within the category I opted to focus on tax fairness for
ordinary Americans.
This is the fifth year in which I've filed written testimony on a
tax fairness issue, and I greatly appreciate these opportunities. It's
a wonderful country where a plain fact-finder gets to present his
arguments directly to the lawmakers.
With that I invite you to read ``The Spurious, Curious Case for Low
Taxes on Capital Gains'' plus an addendum. The addendum includes
important, related points which would have slowed down the article
itself.
Once you have read all the material, I further invite you to draw
your own conclusions based on (what else) the facts.
The Spurious, Curious Case for Low Capital Gains Taxes
These are heady times for backers of low taxes on capital gains.
Presidents Clinton and Bush both cut the capital gains rate, bringing
the current levy on long-term gains down to 15%. That's the lowest in
more than 70 years, ``gloriously low'' in the words of economist Ben
Stein, and it means that profits on stock market transactions are now
taxed at a lower rate than the wages of average Americans.
There's no good reason for this preferential treatment, and
powerful reasons to end it. Leading the list is the simple fact that
stock market ``investors'' are almost never real investors in the first
place.
The argument for a low rate on capital gains is invariable (and in
recent years, invariably effective): it holds that investments in the
stock market grow jobs, grow businesses, and provide vital fuel for the
United States economy. Partly as inducement and partly in gratitude,
the argument goes, it behooves government to reward investors with low
capital gains taxes.
A potent blend of myth, propaganda and misimpressions. Let's look
instead at some truths.
It's routine on Wall Street these days for trading volume to run in
the billions of shares. On any given day, only a tiny fraction of those
billions has any valid claim to growing jobs or businesses or the
economy. On many days not a single share qualifies as a bona fide
investment.
Almost all the time, all that's happening is money changing hands
as shares move from sellers to buyers. Not a cent goes to the companies
whose shares are traded. No jobs are created (except in the financial
community, which is not the point here). No businesses are expanded.
Investments are really being made not in the economy but in personal
portfolios.
The only genuine stock market investments are those in initial
public offerings (IPOs) and secondary offerings. In those cases alone
does the money move on to do the work it's purported to do. All the
rest is aftermarket noise as the players place their bets at the tables
down on Wall Street.
Securities markets clearly play an energizing role in the American
economy. All the same it's nonsense to claim that buyers of stocks
deserve a tax break when they sell their shares at a profit. A tax
break? For making money in the market?Now for more reasons why this is
poor policy.
There's a fairness issue that flows from taxing one kind of income
differently from another. Income is income and should be taxed at the
same rates no matter where it comes from; what's good for the goose is
good for the gander.
There's the issue of income inequality, which has soared in America
lately. According to the David Cay Johnston book Perfectly Legal, the
top one percent of taxpayers controls about half the nation's financial
assets. Two-thirds of the income of the 400 highest-income Americans
comes from long-term capital gains. Undeniably, the benefits of tax
breaks for capital gains flow overwhelmingly to the already-wealthy;
undeniably, preferential rates on capital gains exacerbate income
inequality.
Finally there's a tax equity issue which our forebears even
considered a moral issue. In 1924 Congress first differentiated between
earned income (wages and salaries) and unearned income (e.g., capital
gains and dividends), and taxed the unearned income at higher rates. It
was deemed the right thing to do; old-timers would have shuddered at
the notion of taxing wages at higher rates than capital gains.
Those were the days. Now it's 2007.
Under the trumped-up cover of spurring economic growth, average
American workers have to pay higher taxes on their wages than if they
made the same amount of money in the stock market. They're getting
stiffed by carrying a heavier relative tax burden, getting fewer
services or some of both.
The latest capital gains tax cut is set to expire in 2010, and the
new Democratic Congress has indicated that it has no plans to visit the
issue until after the 2008 elections. This gives them plenty of time to
look beyond the propaganda, and to consider taxing capital gains at
least as much as earned income. A political pipedream? It was the rule
not long ago: from 1988 to 1992, long-term realized gains were
essentially taxed at the same rate as other income.
Then the K Street apostles went forth and preached, and the
spurious case became gospel.
SOURCES
Johnston, David Cay. Perfectly Legal (New York: The Penguin Group,
2003), pp. 16-17, p. 310
Stein, Ben. ``It's a Great Country, Especially if You're Rich,''
Sunday Business, The New York Times, February 11, 2007
Weisman, Steven. The Great Tax Wars (New York: Simon and Schuster,
2002), p. 351
ADDENDUM
(1) A Way to Pay for Repeal of the Alternative Minimum Tax
The Congress could look at restoring equal taxes on ordinary income
and capital gains as a way to fund repeal of the AMT.
It will immediately be objected (by Republicans and likely some
Democrats), no doubt at high decibel levels, that this is a tax
increase, and that the increase will have a chilling effect on
investments. Let's go straight to these arguments, starting with the
``tax increase'':
Millions of Americans for whom the AMT was never intended are
already paying a tax increase because of the AMT. In 2006 about 20
million taxpayers qualified for the AMT and about 3.5 million actually
paid it (the difference between those numbers being those who were
spared by the latest of Congress's AMT patches).
But the patches have become increasingly expensive as millions more
cross into AMT territory. Estimates are that 30 million taxpayers will
qualify by 2010 and 60 million within a decade. According to a news
article in The New York Times on March 14, a two-year freeze currently
being considered by Congress would cost $200 billion.
There's an idiom for Congress's handling of the AMT: ``kicking the
can down the road.'' The kicking has to stop sometime.
This is a choice you have: continue a tax increase that was never
intended, or let expire a tax decrease that should never have been
enacted.
(Regarding the Iraq War, Senator Hagel admonished his fellow
senators that they were in politics to make the hard choices. Do the
Senator's words also apply to the choice between continuing the AMT or
annulling the capital gains tax cuts? Only you can decide.)
Now to the supposed ill effects on investments of the increase in
capital gains taxes:
If it wishes, Congress could in fact continue the favorable
taxation of capital gains on shares purchased in initial public
offerings (IPOs) or secondary offerings. Current technology would make
it a simple matter to identify and track these shares for tax purposes.
It might also be argued that investors need no extra tax incentive:
the profit motive is alive and well, and can be counted on to operate
even when the tax on capital gains is the same as the tax on earned
income.
(2) Average Americans' Capital Gains Are Taxed as Ordinary Income
One defense of low taxes on capital gains is the notion that
stockholding has become commonplace in America: everybody owns stocks,
so everybody benefits.
The argument contains an ounce of truth and a pound of deceit.
Stock ownership by average Americans has surely risen in recent
years, most particularly since the government's creation of tax-
deferred retirement accounts in 1974. The number and type of such
accounts has increased continually as Congress has approved (and the
financial community has created) new ways for workers to save for
retirement.
But workers and their families have run into strong headwinds. U.S.
employment has undergone a structural shift away from higher-paying,
higher-benefit jobs in manufacturing and toward lower-paying, lower-
benefit jobs in the service sector. Defined-benefit pension plans, once
the norm, have steadily given way to defined-contribution plans. The
new plans carry no guarantees and essentially amount to cuts in
retirement benefits.
Moreover, despite incentives such as tax deductions, tax deferral,
and matching contributions by employers, the percentage of workers
enrolling in retirement plans has not lived up to expectations.
Congress took note of this as recently as last summer when it included,
in the Pension Protection Act of 2006, a provision for automatic
enrollment of workers in companies offering 401(k), 403(b) and 457
plans.
Dollar amounts put away for retirement have also fallen short. The
2006 Fidelity Retirement Index showed that the typical working American
household had saved only $20,000 toward retirement, and 15% of families
had not even started to save.
So one part of the deceit is the idea that ``everybody'' owns
stocks, and ``everybody'' benefits, from low capital gains tax rates.
The Cato Institute unwittingly underlined the second, most telling part
in its Policy Analysis No. 586 (January 8, 2007).
On page 6 of the analysis Cato's Alan Reynolds correctly notes that
``--in recent years, an increasingly large share of middle-income
investment returns have been sheltered inside tax-favored accounts.''
On page 7 Reynolds notes, also correctly, that when these investments
are withdrawn they will show up as ordinary income.
This means, of course, that the realized capital gains of average
Americans are taxed as ordinary income. They are not covered by the
capital gains tax cuts passed under Presidents Clinton and Bush (nor
should they be, but that is irrelevant here).
To sum up: stockholding is not genuinely widespread in America, and
most middle-income Americans who do own stock do not benefit from low
capital gains tax rates because their capital gains are taxed at
ordinary income rates.
An ounce of truth, a pound of deceit.
(3) Repeal The $3,000 Annual Capital Loss Tax Write-off
All the arguments against preferential taxation of stock market
capital gains apply with equal force to the tax write-off of the first
$3,000 of net capital losses (and more: amounts greater than $3,000 can
be carried forward indefinitely until they too are amortized).
Investors in original and secondary offerings fully deserve these
write-offs, and for them the amounts should be increased; $3,000 is
little more than chump-change these days.
But the write-offs for all other ``investors'' should end. The
government has no business subsidizing stock market losses. It serves
no public policy purpose; as for fiscal policy, the only possible
result is to cost the Treasury billions upon billions, year after year.
Congress can end these losses, and strike a small blow for tax
fairness, by repealing this provision of the Internal Revenue Code.
(4) Bond Interest Taxed As Ordinary Income
The arguments for low taxes on capital gains are totally undercut
by the taxation of bond interest at ordinary income rates.
Initial and secondary-issue corporate bonds are vital debt
instruments. They do create jobs, do grow businesses and do stimulate
the economy.
Please note that there is no lack of demand for these offerings.
This is true even though the major reason for their purchase, the
interest they pay, is taxed at ordinary income rates.
James R. White
April 3, 2007
The Honorable Jim Ramstad
Ranking Minority Member
Subcommittee on Oversight
Committee on Ways and Means
House of Representatives
Dear Mr. Ramstad:
Effective tax administration requires a balance of taxpayer service
and tax law enforcement. To provide enforcement and taxpayer service in
fiscal year (FY) 2008, the Internal Revenue Service (IRS) has requested
an $11.6 billion \1\ operating level budget with about 63 percent going
for enforcement activities and 31 percent for taxpayer service
(including operational support). The remaining request includes funding
to develop and implement modernized information systems.
---------------------------------------------------------------------------
\1\ The $11.6 billion includes $11.1 billion in new appropriated
funds and $0.5 billion in other funds.
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IRS provides much of its services to taxpayers during the annual
tax return filing season, making filing season performance a key
indicator of how well IRS is serving taxpayers. In past reports and
testimonies, we said that IRS has made significant progress improving
taxpayer service since passage of the IRS Restructuring and Reform Act
of 1998 (RRA 98).\2\ Improvements include increased electronic filing,
better access to IRS's telephone assistors, and more accurate answers
to taxpayers' questions. However, we have also described taxpayer
service challenges such as the quality of assistance at walk-in and
volunteer sites where taxpayers get face-to-face assistance. Moreover,
the Commissioner of Internal Revenue stated that this year's filing
season is high risk for several reasons, including challenges in
implementing the new telephone excise tax refund (TETR), split refund
option (refunds can now be directly deposited to up to three separate
accounts), and several tax law extensions that passed late in 2006.
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\2\ See, for example, GAO, Tax Administration: IRS Improved Some
Filing Season Services, but Long-term Goals Would Help Manage Strategic
Trade-offs, GAO-06-51 (Washington, D.C.: Nov. 14, 2005), Internal
Revenue Service: Assessment of the Interim Results of the 2006 Filing
Season and Fiscal Year 2007 Budget Request, GAO-06-615T (Washington,
D.C.: Apr. 6, 2006), and Tax Administration: Most Filing Season
Services Continue to Improve, but Opportunities Exist for Additional
Savings, GAO-07-27 (Washington, D.C.: Nov. 15, 2006).
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Although IRS has increased revenue collected through its
enforcement programs in recent years, enforcement continues to be
included on our list of high-risk federal programs.\3\ This is due, in
part, to the persistence of a large tax gap.\4\ IRS estimated the gross
tax gap to be $345 billion for tax year 2001. After late payments by
taxpayers and revenue brought in by IRS's enforcement efforts, the
resulting net tax gap is estimated to be $290 billion.
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\3\ GAO, High-Risk Series: An Update, GAO-07-310 (Washington, D.C.:
January 2007).
\4\ The tax gap is an estimate of the difference between what
taxpayers pay in taxes voluntarily and on time and what they should pay
under the law.
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Another high-risk challenge is IRS's ongoing Business Systems
Modernization (BSM) program, a multibillion-dollar, highly complex
effort that involves the development and delivery of a number of
modernized information systems that are intended to replace the
agency's aging business and tax processing systems. The program is
critical to supporting IRS's taxpayer service and enforcement goals and
reducing the tax gap. We recently reported that despite progress made
in implementing BSM projects and improving modernization management
controls and capabilities, significant challenges and serious risks
remain, and further program improvements are needed, which IRS is
working to address.\5\
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\5\ GAO, Business Systems Modernization: Internal Revenue Service's
Fiscal Year 2007 Expenditure Plan, GAO-07-247 (Washington, D.C.: Feb.
15, 2007).
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In light of the challenges IRS faces, you asked us to assess IRS's
2007 tax filing season performance, FY 2008 budget request, and the
status of the BSM program. Our objectives were to (1) describe IRS's
2007 tax filing season performance for returns processing and taxpayer
assistance including the impact of tax system changes, such as the
TETR, split refund option, and several tax law extensions that passed
late in 2006, (2) assess IRS's proposed FY 2008 budget and compare it
with prior years' spending and staffing and determine what information
it provides on the impact of proposals on the tax gap, how new spending
initiatives are justified, and whether there are opportunities to
reduce or reallocate resources, and (3) evaluate the status of IRS's
efforts to develop and implement BSM.
On March 15, 2007, we briefed your staff and staff of the
Subcommittee Chair on the preliminary observations of our review. This
report transmits the updated materials we used at the briefing, which
are reprinted as appendix I in the complete version of this report.
In summary, we made the following major points:
Despite initial concerns and IRS's characterization of
this year's filing season as high risk, early data show that tax
systems changes have not had a significant effect on filing season
operations or performance. In particular, TETR-related requests and
telephone calls have been far less than IRS planned. As of March 16,
2007, IRS has processed 63.5 million individual income tax returns,
with 69 percent including TETR requests. The number of returns filed
electronically is 5 percent greater than this time last year. Also, IRS
is achieving its goals for telephone service. However, there are areas
of concern. In early March, the latest release of the Customer Account
Data Engine (CADE), one of IRS's key tax return processing systems,
became operational--2 months behind schedule. As a result of the delay,
IRS has had slower processing times and delayed refunds for up to
several days for millions of taxpayers. This delay may have a more
serious impact on IRS's ability to deliver future releases of CADE,
because it caused contention for key resources, but it is too early to
know. Taxpayers' use of the Free File program (an alliance of companies
that offer free return preparation and electronic filing on their Web
sites to eligible taxpayers) is 5.5 percent below last year at this
time.
IRS's 2008 budget request would increase spending,
particularly for enforcement. The $11.6 billion requested total
operating budget is an increase of $608.8 million (5.6 percent) over
the FY 2007 continuing resolution level. IRS proposes spending $7.2
billion for enforcement (including operational support), an increase of
6.5 percent, continuing a trend since 2004 of shifting a greater
proportion of overall spending toward enforcement as compared to
taxpayer service. IRS's budget request includes initiatives and
legislative proposals to address the tax gap. There is limited data in
IRS's request on the expected impact of the proposals on the gap. The
expected direct enforcement revenue to be gained is small compared to
the size of the tax gap. For example, IRS expects to yield about $699
million in FY 2010, or about 1/4 of 1 percent of the tax year 2001 net
tax gap from additional enforcement staffing. However, the indirect
effect on voluntary compliance is unknown. Several research studies by
economists, while subject to data limitations, suggest that indirect
revenue might exceed direct revenues gained. We asked for supplementary
documents on six initiatives to better understand their expected
benefits and costs. The documented justifications for those initiatives
varied in the depth of useful information they provided. We continue to
assess the justifications for the initiatives and whether IRS could
cost effectively provide additional information that could be useful
for the Congress and others as they assess IRS's budget request. IRS
identified savings in the 2008 budget request, but other savings
opportunities may exist. For example, IRS may be able to change the mix
of services provided--such as giving taxpayers more options for help by
e-mail or its Web site in place of more costly telephone or walk-in
operations--but its study to identify cost-effective service delivery
methods is several months behind schedule.
IRS continues to make progress in implementing BSM
projects and meeting cost and schedule commitments, but two key
projects--CADE (discussed above) and Modernized e-File (a new
electronic filing system)--experienced significant cost overruns during
2006. Future BSM project releases face serious risks, which IRS is
working to mitigate. For example, delays in deploying the latest
release of CADE have resulted in contention for key resources and will
likely impact the design and development of the next two important
releases, which are scheduled to be deployed later this year. IRS has
made significant progress in implementing our prior recommendations and
improving its modernization management controls and capabilities.
However, critical controls and capabilities related to requirements
development and management and post implementation reviews of deployed
BSM projects have not yet been fully implemented. In addition, more
work remains to be done by the agency to fully develop a long-term
vision and strategy for completing the BSM program, including
establishing time frames for consolidating and retiring legacy systems.
Scope and Methodology
To assess IRS's filing season performance for processing,
telephones, face-to-face assistance and its Internet Web site, we
obtained and analyzed IRS's performance and production data and
compared it to annual goals and prior years' performance. Our work also
included direct observations of key filing season operations, and
interviews with IRS officials and other external stakeholders.
To assess IRS's 2008 budget request, we reviewed IRS's
congressional budget justifications and supplementary documents to (1)
identify trends in spending and staffing from FYs 2004 through 2008,
(2) assess information on the tax gap and selected spending initiatives
to assess the information provided to justify the request, and (3)
identify areas of potential opportunities for savings and efficiencies.
Our assessment is based on a comparative analysis funding,
expenditures, and other documentation and interviews with IRS
officials.
Our filing season and budget audit work was done primarily at IRS's
National Office and its operating divisions including the Large and
Mid-Size Business operating division in Washington, D.C; Small
Business/Self-Employed operating division in New Carrollton, Md; and
Wage and Investment Division operating division headquarters and Joint
Operations Center and call site in Atlanta, Ga. We also interviewed
officials at the IRS Oversight Board in Washington, D.C. Additionally,
we reviewed relevant external documentation and our reports and reports
of the Treasury Inspector General for Tax Administration.
Our analysis of the BSM program was based primarily upon the
results of our detailed review of the FY 2007 BSM expenditure plan that
we issued in a recent report.\6\
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\6\ GAO-07-247.
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In past work, we assessed IRS's budget and filing season
performance data. We considered filing season performance measures and
data that cover the quality, accessibility, and timeliness of IRS's
services to be objective and reliable based on our prior work. Since
the data sources and procedures for producing this year's budget and
filing season data have not significantly changed from prior years, we
determined that the data were sufficiently reliable for the purposes of
this report. To the extent possible, we corroborated information from
interviews with documentation and data and where not possible, we
report the information as attributed to IRS officials. We have
determined that the estimates for cost savings and Web site performance
come from competent sources and are reasonable. Data limitations are
discussed where appropriate. We performed our work from December 2006
through March 2007 in accordance with generally accepted government
auditing standards.
Agency Comments
In commenting on a draft of this report, IRS officials emphasized
that the budget's initiatives and legislative proposals will result in
additional direct and indirect revenue and, ultimately, increase
compliance. It also reported that it will soon release its strategic
plan for taxpayer service delivery, which will serve as the foundation
for future decisions for service improvements and efficiencies.
We are sending copies of this report to the Chairmen and Ranking
Minority Members of other Senate and House committees and subcommittees
that have appropriation, authorization, and oversight responsibilities
for the IRS. We are also sending copies to the Commissioner of Internal
Revenue, the Secretary of the Treasury, the Chairman of the IRS
Oversight Board, and the Director of the Office of Management and
Budget. Copies are also available at no charge on the GAO Web site at
http://www.gao.gov.
If you or you staff have any questions or wish to discuss the
material in this briefing further, please call me. Contact points for
our offices of Congressional Relations and Public Affairs may be found
on the last page of this report. GAO staff who made major contributions
to this report are listed in Appendix II in the complete version of
this report.
Sincerely yours,
James R. White
Director
Colfax, California
March 22, 2007
The Honorable Richard E. Neil
2208 Rayburn House Office Building
Washington, D.C. 20515
Dear Congressman Neal,
My name is Janine Valdivieso, 49, I grew up in Southern California,
and now work as a Child-Support Specialist in North-Eastern California.
My husband Joe and I have three daughters, and live Colfax, ca. Joe and
I began saving for college tuition for our two youngest daughters, and
setting aside money for our retirement fund
I have spent the majority of my work life in public service. I
served in the United States Army and worked for 2 state governments and
2 county governments. It wasn't until August 1999, when I was offered a
job at Symyx, that I made the decision to enter the private sector. As
a part of my overall compensation, I was granted incentive stock
options (ISOs). Like many others, I hoped that it would some day offer
our family a little better financial future. I accepted a lower salary
then I needed, because the company offered ISOs, which I hoped would
someday make up for the lower salary.
Joe also received incentive stock options from Sandisk). We were
told by our employers that we would not be impacted by alternative
minimum tax (AMT), as long as we held on to the stock, and did not sell
during the same year (it made common sense since Congress also
encourages people to hold stock for the long term). Unfortunately, this
was information that would prove to be both incorrect and financially
devastating.
Joe and I followed that advice, and purchased the shares as they
vested throughout the year. One transaction in particular was
especially damaging. The option, or strike price, was around $3, but
the company stock closed that day at $94.
The alternative minimum tax is assessed based on the difference
between the price paid for the options and the fair market value, or
closing price, on that same day. By the end of the year, even though it
was a paper profit only, we did not actually sell any of those shares,
we owed tax in the amount of $100,000 in addition to the almost $25,000
in regular tax that we paid throughout the year, an amount greater then
our combined annual income. Please remember, there were no capital
gains because we had not sold the stock.
To pay the AMT, we had to sell most of our stock at a much lower
price than what we were taxed on. We also had to sell all of the stock
in our retirement funds and cash-in our girls' college tuition savings.
Meanwhile the AMT overpayment sits as an interest-free loan with U.S.
Treasury while we are out $100,000 in retirement savings and college
funds! This makes NO logical sense and we feel that we are be penalized
for being good tax paying citizens.
``It hurts every day to feel that we have been unfairly taxed by
our government when I have spent a good part of my life working for
that same government. I have been trying for six years to figure out
how the IRS is using our money while we struggle each and every day.''
Actually we were some of the lucky people who were able to sell the
stock and pay the tax. I have met hundreds of people who have been
financially devastated and are now in fear of losing their houses and
cannot hope to pay the tax in a lifetime.
Please help to fix this insidious tax.
Janine Valdivieso
Statement of Nancy L. Shoemake, Burnsville, Minnesota
I would like to share with you a first-hand encounter into the
culture and abuse of the IRS.
I have been preparing tax returns for the past 20 years. I
predominately serve airline employees and handle specific issues
pertaining to the travel industry. In July, 2005 many of my clients
began receiving audits out of the Fresno, California IRS Service
Center. After 300+ clients received these letters requiring
substantiation of all Schedule A deductions, it became apparent that
this was no ordinary procedure. A ``Freedom of Information Request''
was filed and the report identified an ``informant'' had precipitated
this action. Upon further investigation it was evident that my ``former
husband and his new wife'' had launched a smear attack to discredit and
destroy my business to coerce me to cease pending child support
litigation.
Most of these audit clients sought the assistance of my office. The
IRS requested an initial response within 30 days of receipt of the
audit letter. Consequently, my small staff was inundated with over 300
``correspondence audits'' initiated by a Service Center halfway across
the country. Over 30,000 documents were copied and faxed to Fresno from
my Minnesota-based office. Fresno basically ignored this documentation
and issued ``deficiency'' letters to approximately 80% of these
taxpayers. The letters required that if the Tax Court Petition was not
filed within 90 days, then the tax recomputed by the Service Center
(computed basically with the disallowance of all employee expenses and
itemized deductions) would be assessed and collected. In essence, these
taxpayers were given two choices: take their case to Tax Court or
accept the disallowance of their deductions and pay the balance due.
Under these circumstances, the majority of the taxpayers elected to
go to Tax Court. Unfortunately, this infuriated a number of people at
the IRS St. Paul offices since what should originally have been
conducted as 300 ``office audits'' at the initial audit level had now
been transferred to being 300 ``office audits'' conducted at the
``Appeals'' or ``IRS Counsel'' level. Each department has been more
than ready to voice their hostility to this procedure since it is
clearly not a customary practice to handle an audit in this manner. The
taxpayers had sought to compromise and limit the cost and inconvenience
of the representation and required appearances before the IRS by the
taxpayers and their representatives versus paying the actual proposed
deficiency. Some of my clients (as anticipated by the IRS Service
Center) had concluded that the cost of paying the deficiency is less
than the cost and inconvenience of the actual trial. However, with the
guidance of the Taxpayer Advocate Office in St Paul, it was decided
that to encourage this course of action was a disservice to the
taxpayer.
What caused this problem? According to the IRS Commissioner's most
recent numbers, there are now approximately 12,500 IRS audit personnel
(as opposed to 15,000 FBI agents). Since the IRS audit and enforcement
personnel and budget has been slashed by such drastic and substantial
amounts, in order to maintain the appearance of anything like
``adequate'' audit coverage (in the ?70's and ?80's approximately 3% of
the tax returns were audited whereas today less than 1 in 2000 is
audited), the definition of an ``audit'' has been changed from the
previous procedure of an actual office auditor or IRS agent making face
to face contact and actually examining items of substantiation related
to a return in their possession to a ``new definition'' of an
``audit''. Today the IRS defines an ``audit'' as any piece of paper
generated by the Service Center and directed to the taxpayer in
relation to their tax return. In essence, if you receive a letter from
the Service Center that your return was ``accepted as filed'', you have
been ``audited'' and this entitles the Commissioner to appear before
congress and allege that this administration has conducted
substantially more audits with much less in the way of resources. Of
course, this is bogus, but the majority of the public and congress is
totally in the dark that what has changed is not the efficiency of the
IRS but rather the definition of an ``audit''.
In summary, it appears that the administration, in their quest to
generate a large number of ``audits'' without the expenditure of any
manpower or resources, chose to spray 300 Statutory Notices of
Deficiencies without ever having conducted an actual ``audit''. When
this process blew up in their face, they just walked away from it and
left the taxpayers and my office to deal with the problem of conducting
real audits at the Tax Court level.
When these several hundred cases docketed for trial reached St.
Paul, an effort was made to resolve them all without the necessity of
trial. However, District Counsel stated that it was their intent to
``try them all''. Once it had become apparent that the IRS had no
interest in settling these cases on a basis that was fair and equitable
to both the taxpayers and the government and the government's position
was basically ``bring' em on'', the taxpayers proceeded to trail. In
April 2006, (8) taxpayer cases were tried in Tax Court with a
cumulative deficiency (after amending a few of the tax returns due to
subsequent corrected interest amortization and other adjustments) of
$735.50 per client. The Tax Court decisions were more favorable to the
taxpayers than what the taxpayers had offered to settle for in order to
avoid the time, trouble, cost and inconvenience of an actual Tax Court
trial.
Not at all chastened by this outcome, the IRS proceeded to trial
again with more of these cases in October of 2006, but this time with a
more favorably disposed Judge. A handful of clients are still awaiting
the determination of the October, 2006 Tax Court.
It should be noted that the Judge brought in to handle these
October, 2006 ``S'' cases was a local lady who started the proceedings
by stating to the taxpayers (and made the same comment for the record
numerous times) they had been ``duped'' by their tax preparer and the
deductions they had claimed were bogus and not allowable. The Judge was
making these pronouncements prior to having received or heard any
evidence whatsoever. Furthermore, this Judge had previously stated
during telephone conferences held with the taxpayers who had pending
cases prior to trial that she knew the District Counsel attorney and
that the taxpayers should ignore what their CPA was telling them and
rely instead upon what the IRS attorney advised them was an allowable
deduction because she knew the attorney to be ``trustworthy and
reliable''. Keep in mind that this Judge is giving this advice to
pending litigants when the results of the identical cases tried the
previous April resulted in the allowance of the expenses claimed far in
excess of what the IRS alleged was ``allowable''.
Since this Judge had absolutely no prior dealings with me in the
past and had no first hand knowledge of me, it would appear that there
were exparte discussions being held between the Judge and the Office of
District Counsel which this Judge had accepted as ``gospel''. She made
the decision to shed the robes of a judge and had assumed instead the
mantel of the advocate prior to ever setting foot in the courtroom.
Hence, several of the taxpayers have written the Chief Judge of the Tax
Court expressing their dismay at the conduct of the Court. The
taxpayers were looking for a Judge who was impartial and not so
blatantly biased.
The Judge in the October ``S'' Court Trial Calendar having made the
above remarks prior to the start of the trials moved the other
taxpayers who had pending ``S'' cases to request that their cases be
removed from the S calendar and tried as a regular Tax Court case since
the Court had basically rendered her decision prior to the cases having
even started and in essence told the taxpayers they were ``going to
lose''.
This past year and a half has opened my eyes as well as many
taxpayers to a system and process that drastically needs accountability
and change. The mission statement of the IRS is ``To provide America's
taxpayers with top quality service by helping them understand and meet
their tax responsibilities and by applying the tax law with integrity
and fairness to all.'' The responsible parties are now telling us
``mission accomplished'? However, everyone who has witnessed and
experienced this process would take issue with that mission statement.
To hold taxpayers accountable for providing proof of their
deductions is a necessary and reasonable expectation. In order to
maintain voluntary compliance a certain level of audit verification is
essential. However, this administration, in order to distort the level
of audit compliance actually in effect has changed the definition of an
``audit'' to allow the Service Centers to contact and spray Statutory
Notices of Deficiencies to allow the Commissioner to claim that he has
maximized the efficiency of the IRS to conduct a massive increase in
audits with much lower manpower and resources. In order to attempt to
maintain this bogus claim it is necessary to use intimidation tactics
and then to create such a cumbersome, exhausting and expensive process
for the purpose of exchanging information at the Service Center level
that taxpayers become exhausted both financial and emotionally. This is
not reasonable.
While it appears that IRS reform began in the late 1990's to create
an environment that was conducive for communication, it appears as
though this ``reformation'' did not reach the Appeals and General
Counsel Level. Many of my clients desire an opportunity to share their
experiences concerning ``abuse of power'' and ``techniques of
manipulation'' by both employees in the St. Paul Appeals and Counsel
divisions. Unfortunately, the accountability that is needed to promote
change has not reached the upper levels of the IRS. This is apparent in
the communication and actions of these departments.
As stated above, I have been in the business of tax preparation for
over 20 years and have filed close to 30,000 tax returns. This entire
debacle has been one of harassment since the IRS could not find wrong
doing with the 300+ returns that were audited. The IRS acted on behalf
of a dubious informant with malicious intent and has invested numerous
dollars into my demise.
As Mr. Paul Ferber, IRS Officer, EIN 41-03970, stated during an
October 17, 2006 meeting at my office the ``typical investigative
protocol'' is 15-20 audits to see if there were truly any patterns of
tax preparer misconduct. This was not followed.
Unfortunately, this whole investigation was skewed with the
intention of finding some form of misconduct attributed to me instead
of choosing to look at the reasons the IRS resorted to the ``mass mail
audit method'' initiating over 300 audits based on a spiteful ex-
spouse. This has been an exhausting ordeal to the taxpayers and I can
only estimate the cost to the American public is in excess of seven
digits.
Thank you for the opportunity to communicate this pernicious and
prejudicial experience. In addition to my statement there are many of
these 300+ taxpayers that would welcome the opportunity to share the
injustice perpetrated by the IRS.
Statement of William David Kebshull
The purpose of this statement is to bring to the attention of the
Subcommittee on Oversight Internal Revenue Service misconduct
concerning instructions that produce illegal ``Double or Nothing
Taxation'' of the income and recovery related to an itemized deduction.
Because IRS instruction are not consistent with section 111(a) of the
Internal Revenue Code, some taxpayers are defrauded by numerous IRS
instructions, at least one of which, the instruction for the
calculation of taxable Social security benefits, goes back to 1984. On
the other hand, the bollixed IRS instruction for Line 7 on Form 6251,
Alternative Minimum Tax--Individuals, has caused the loss of billions
of dollars to the United States Treasury since 1988.
IRS's Bollixed Interpretation of Section 56(b)(1)(D): A Multi-billion
Fraud on the United States Treasury
In 1999, two letters from me to IRS and two letters from IRS to me
were released by IRS as Tax Correspondence and published in Tax
Analyst.\i\ The letter from a respondent in the IRS Office of Chief
Counsel presented a detailed response to my concerns about the tax
treatment of itemized deduction recoveries. Unfortunately, the
respondent seemed to subscribed to the philosophy of John Sears, an
advisor to Ronald Regan, ``reality is an illusion that can be
overcome.'' Here is how the respondent tried to justify the IRS
instruction (currently line 7 on Form 6251) that has produced a multi-
billion dollar fraud on the United States Treasury.
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\i\ Tax Analyst,Tax Notes Today,March 18, 1999 Thursday,
Department: Official Announcements, Notices, and News Releases; IRS Tax
Correspondence, Cite: 1999 TNT 52-53. HEADLINE: 1999 TNT 52-53 Taxpayer
Irate About IRS's Position on AMT and Tax Benefit Rule (Section 111--
Tax Benefit Recovery Items;) (Release Date: DECEMBER 08, 1998) (Doc
1999-10275 (28 original pages))
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As stated in prior correspondence we disagree with your assertion
that recoveries of taxes described in paragraphs (1), (2), or (3) of
section 164(a) should only be excluded from gross income in computing
AMTI to the extent deduction of the taxes did not reduce the taxpayer's
income tax liability. Under your interpretation section 56(b)(1)(D)
would be unnecessary; it would only apply to exclude items from gross
income when such items are already excluded from gross income under
section 111.
Comment:
When the respondent's letter was published in 1999 his assertion
that a tax deduction taken in a year that the Alternative Minimum
Tax(AMT) was paid could not have reduced a taxpayer's income tax
liability and therefore the refund should not be included in gross
income on Form 1040 was no longer true. In fact, beginning in 1997, a
tax deduction claimed on Schedule A (Form 1040) could have reduced a
taxpayer's tax liability when the AMT was paid as a result of what I
have described below as the limited long-term capital gains rate-based
tax benefit which results from the two tier capital gains rate
structure. See page 2 of Form 6251. The benefit of a tax overpayment is
revealed by application of IRS instructions in Publication 525.
The IRS respondent then stated:
Section 56(b)(1)(D) provides that no recovery of any tax to which
section 56(b)(1)(A)(ii) applied shall be included in gross income for
purposes of computing AMTI. By its terms section 56(b)(1)(A)(ii) denies
any deduction in computing AMTI for taxes described in section
164(a)(1)-(3). It does not limit its application to taxable years in
which the taxpayer is liable for AMT. Because these taxes are never
deductible in computing AMTI, recoveries of such taxes are always
excluded from gross income, under section 56(b)(1)(D), for purposes of
computing AMTI.
Comment:
What the IRS respondent is saying is that section 56(b)(1)(D)
provides that refunds of taxes that were allowed as itemized deductions
under section 164(a) and as such produced a tax benefit when the
regular tax was paid are excluded from AMTI in addition to the taxes
that were not allowed as a deduction under section 56(b)(1)(A)(ii) and
therefore produced no tax benefit because the AMT was paid.
When the respondent stated, It does not limit its application to
taxable years in which the taxpayer is liable for AMT, he was simply
wrong. Section 56(b)(1)(D) means exactly what it says: no recovery of
any tax to which subparagraph (A)(ii) applied shall be included in
gross income for purposes of determining alternative minimum taxable
income. For subparagraph (A)(ii) to have applied to the tax being
refunded, payment of the AMT would have been required. Section
56(b)(1)(D) is necessary to appropriately preclude the inclusion in
AMTI of a refund of a tax overpayment that produced a limited long-term
capital gains rate-based tax benefit in a year the AMT was paid. When
the tax benefit is the result of paying tax on less taxable income
rather than the result of paying tax at a lower rate on a portion of
capital gains, the tax refund must be included in AMTI based on a
rational interpretation of the tax benefit rule.
If it were the intent of Congress not to include the refunds of all
taxes claimed as itemized deductions on Schedule A (1040), section
56(b)(1)(D) would state the following:
Treatment of certain recoveries
No recovery of any tax claimed as a itemized deduction under
subparagraphs (1), (2), or (3) of section 164(a) shall not be included
in gross income for purposes of determining alternative minimum taxable
income.
But that is not what 56(b)(1)(D) states.
This is a question for the Internal Revenue Service and the
Treasury Department to answer:
If a tax overpayment is allowed as a deduction and produces a tax
benefit in a year that the regular tax is paid and the refund of that
overpayment is to be excluded from alternative minimum taxable income
in a year the AMT is paid as indicated by the IRS respondent, just when
is the income/refund taxed directly?
IRS's Defective Interpretations of the Tax Benefit Rule, Section
111(a) of the Internal Revenue Code, Produces Double Taxation of
Itemized Deductions Recoveries.
Section 111(a) of the Internal Revenue Code provides: Deductions.
Gross income does not include income attributable to the recovery
during the taxable year of any amount deducted in any prior taxable
year to the extent such amount did not reduce the amount of tax imposed
by this chapter.
Here are two fundamental facts related to the impact of itemized
deductions on the taxes paid on an individual's federal income tax
return.
An itemized deduction included on Schedule A (Form 1040)
does not reduce the amount of gross income reported on Form 1040.
The reduction in taxable income attributable to an
itemized deduction cannot reduce taxable income by more than the amount
of the itemized deduction.
Here are some of the results of instructions related to the
Internal Revenue Service's erroneous interpretation of section 111(a)
of the Internal Revenue Code:
Inclusion of an itemized deduction recovery in the
calculation of taxable Social Security benefits can result in the gross
income attributable to a recovery being up to 1.85 times the amount of
the recovery. (Remember, the income used for the payment of the
deductible expense could have produced a similar result the a prior
year.)
Inclusion of itemized deduction recoveries in the
calculation of taxable Social Security benefits and in adjusted gross
income (AGI) or one of the numerous versions of modified adjusted gross
income, when calculating deductions, credits, exemptions, exclusions,
or eligibilities, can result in the taxable income attributable to a
recovery being more than twice the amount of the recovery.
In the case of some credits, the reduction in the
allowable tax credit attributable to a itemized deduction recovery may
be many times the amount of the recovery. Take the retirement savings
contribution credit for example where a tax refund of only a few
dollars can eliminate a $400 credit.
The National Taxpayer Advocate 2006 Annual Report to Congress lists
23 provisions, in addition to those cited above with income-based
phase-outs.\ii\ In addition, there is now the refundable AMT credit
provision that was included in late 2006 legislation that is subject to
a MAGI phase-out. The effect of including an itemized deduction
recovery in the calculation of these items are adverse to the interest
of the individual taxpayer in every case.
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\ii\ National Taxpayer Advocate 2006 Report to Congress, Table
2.4.1, pp. 473-476.
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Here is how the Internal Revenue Service defined the ``tax benefit
rule'', section 111 of the Internal Revenue Code in IRS Publication
525:
Tax benefit rule. You must include a recovery in your income in the
year you receive it up to the amount by which the deduction or credit
you took for the recovered amount reduced your tax in the earlier year.
For this purpose, any increase to an amount carried over to the current
year that resulted from the deduction or credit is considered to have
reduced your tax in the earlier year.
The Internal Revenue Service omitted a very important word in
defining the tax benefit rule. The rule should read to be consistent
with the language in section 111(a). You must include a recovery in
your taxable income in the year you receive it up to the amount by
which the deduction or credit you took for the recovered amount reduced
your tax in the earlier year. --
Parsing the language in section 111(a) of the Internal Revenue Code
yields the inescapable conclusion that it must be applied to every
provision in the Internal Revenue Code that affects the determination
of taxes. When this is done, taxable income will be increased by a
recovery by the amount that IRS instructions indicate that is to be
entered on either line 10 or line 21 of Form 1040. The Subcommittee
should find the 1994 law review article by Professor Matthew J. Barrett
of interest with respect to the application of the tax benefit rule.
\iii\
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\iii\ Matthew J. Barrett, ``Determining an Individual's Federal
Income Tax Liability When the Tax Benefit Rule Applies: A Fifty-Year
Checkup Brings a New Prescription for Calculating Gross, Adjusted
Gross, and Taxable Incomes'' Tax Analyst, Tax Notes Today Cite: 94 TNT
87-34, May 5, 1994
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If the Oversight Subcommittee of the House Ways and Means has any
concern about IRS conduct here is a question that the subcommittee must
demand that IRS and Treasury officials answer.
Precisely, what is about the language in section 111(a) of the
Internal Revenue Code that permits the Internal Revenue Service to
issue instructions can result in the gross income attributable to an
itemized deduction recovery exceeding the amount of the recovery?
(Remember the inclusion of itemized deduction recoveries in the
calculation of taxable Social Security benefits!)
IRS's Interpretation of Section 56(b)(1)(D) Yields a Multi-billion
Fraud on the Treasury
While the Internal Revenue Service abuses taxpayers with
instructions that result in taxes in excess of those permitted under
the Internal Revenue Code as described above, other taxpayers are the
beneficiaries of a bollixed IRS interpretation of a code section that
defrauds the Treasury of the United States.
Here are the applicable sections of the Internal Revenue Code that
are relevant to the tax treatment of deductible taxes and tax refunds
when payment of the AMT is involved..
Section 56(b)(1)(a)(ii) and 56(b)(1)(D)
(b) Adjustments applicable to individuals In determining the amount
of the alternative minimum taxable income of any taxpayer (other than a
corporation), the following treatment shall apply (in lieu of the
treatment applicable for purposes of computing the regular tax):
(1) Limitation on deductions
(A) In general No deduction shall be allowed
(ii) for any taxes described in paragraph (1), (2), or (3) of
section 164(a). Clause (ii) shall not apply to any amount allowable in
computing adjusted gross income.
(D) Treatment of certain recoveries No recovery of any tax to which
subparagraph (A)(ii) applied shall be included in gross income for
purposes of determining alternative minimum taxable income.
Section 164(a)
(a) General rule Except as otherwise provided in this section, the
following taxes shall be allowed as a deduction for the taxable year
within which paid or accrued:
(1) State and local, and foreign, real property taxes.
(2) State and local personal property taxes.
(3) State and local, and foreign, income, war profits, and excess
profits taxes
Here two fundamental facts related to tax deductions reported on
Schedule A when the alternative minimum tax is paid:
Deductions claimed for taxes reported on Schedule A (Form
1040) are not allowed as deductions in determining alternative minimum
taxable income (AMTI).
Deductions claimed for taxes reported on Schedule A (Form
1040) may provide a limited long-term capital gain rate-based tax
benefit in a year the AMT is paid if the tax deduction increases the
portion of capital gains being tax at 5 percent and reduces the portion
being taxed at 15 percent. This tax benefit is reveal by application of
instructions in IRS Publication 525.
Here are the result of IRS instructions when the AMT is paid in the
year of a tax overpayment and the year that the refund of the
overpayment is received.
Provided there is no long-term capital gains rate-based
tax benefit, a tax overpayment would have not have produced a tax
benefit and the refund in a subsequent year is not included in gross
income based on section 111(a) of the Internal Revenue Code.
However, if there was a limited long-term capital gains
rate-based tax benefit, when the AMT is paid, the portion of the refund
that produced the benefit would be included in gross income and then
appropriately excluded from AMTI by the instruction on line 7 of Form
6251. The refund amount included in gross income would flow to regular
taxable income and thus increase the portion of long-term capital gains
taxed at 15 percent and reduce the portion taxed at 5 percent thus
offsetting the tax benefit from the tax overpayment in the prior year.
When there is a long-term capital gains rate-based tax
benefit from a tax overpayment in a year that the AMT is paid, IRS
instructions erroneously include the refund of the overpayment in AGI
when calculating a medical expense deduction thus reducing the
deduction.
Now consider the result of IRS instructions when there is a tax
overpayment and refund and the regular tax is paid in one of the years
and the AMT is paid in the other.
When an itemized deduction is claimed for a tax
overpayment in a year that only the regular tax is paid and the refund
of the overpayment is received in a year that the alternative minimum
tax (AMT) is paid, neither the income used for the overpayment nor the
refund of the overpayment is taxed directly because of IRS's bollixed
interpretation of section 56(b)(1)(D) of the Internal Revenue Code. The
instruction that results from this bollixed interpretation is currently
on line 7 of Form 6251. The consequence of this instruction has been
the loss to the United States Treasury of billions of dollars since
1988. My estimate of the loss for tax year 2006 is about $500,000,000.
Even though neither the income nor the refund related to
a tax overpayment are tax directly under the circumstances described
above, both the income used for the overpayment and the refund can
reduce medical expense deductions. Inclusion of the refund in AGI when
calculating medical expense deductions violates section 111(a) of the
Internal Revenue Code.
When an itemized deduction is claimed on Schedule A (Form
1040) for a tax overpayment in a year that the AMT is paid and there is
a limited long-term capital gains rate-based tax benefit (under the
circumstances described above) and the regular tax is paid in the year
that the tax refund is received, the refund will be included in gross
income per IRS instructions. Thus the income used for the tax
overpayment will be taxed at the AMT rate and the refund will be taxed
at the regular tax rate. Based on section 111(a) the refund of a tax
overpayment that produced a limited long-term capital gains rate-based
benefit should only be include in gross income for the purpose of
determining the capital gains portion of a person's income tax in the
refund year.
To summarize, based on IRS instructions when the regular tax is
paid in one year and the AMT is paid in the other, and there is a tax
benefit as a result of a tax overpayment included on Schedule A, the
sequence in which the regular tax and the AMT is paid determines
whether the income/refund related to the tax overpayment is taxed
``Double or Nothing''. I believe that it was Nina Olsen, the National
Taxpayer Advocate, who described the tax treatment of income under the
AMT as being ``counterintuitive''. I believe that because of IRS
instructions a better term would be fraudulent.
The IRS Mission: ``Provide America's taxpayers top quality service
by helping them understand and meet their tax responsibilities and by
applying the tax law with integrity and fairness to all''.
Based on its mission, IRS would have us to believe that under the
law all taxpayers are created equal. The reality is based on IRS's
conduct, to paraphrase George Orwell, all taxpayers are created equal,
but some taxpayers are more equal than others in the eyes of the
Internal Revenue Service. If this assessment of IRS attitude were not
true, there would be no ``Double or Nothing Taxation '' of the income/
recovery related to an itemized deduction.
Anecdotal Experience--Eliminating Double Taxation With an Amended
Return
On March 8, 2004, I amended the 2000 and 2001 Federal Income Tax
returns for my father, who had died in early 2002, to reduce the
taxable income attributable to state income tax refunds on those
returns from being more than twice the amount of the refunds to being
equal to the refunds. Tax professional were responsible for determining
estimated taxes and preparing his tax returns.
Before receiving the second of the two refunds, I received Letter
3175 SC (Rev. 1999).
I believe this letter was in response to information that I
provided the IRS Office of Chief Counsel and which was reviewed by the
Office of Treasury Inspector General for Tax Administration. The letter
closed with ``Federal courts have consistently ruled against the
arguments you have made. Therefore, we will not respond to future
correspondence concerning these issues.'' If the courts have
consistently ruled against my arguments, why did I subsequently receive
a refund based on my arguments? Examination of the Title 26, United
States Code, Annotated section 111 suggests that the courts have ruled
in favor of my arguments.
Two days after I filed the two amended returns, March 10, 2004,
Newsday reported that Commissioner Mark Everson had announced that he
had paid the AMT for the first time. Taxpayers, especially Social
Security recipients who have been double taxed on their tax refunds,
can only wonder if Commissioner Everson was the beneficiary of the
fraudulent instruction on line 7 of Form 6251.
Any continuing failure of the Subcommittee on Oversight to reign-in
IRS's misconduct related to ``Double or Nothing Taxation'' under
sections 111(a) and 56(b)(1)(D) will bring into question the commitment
of the Subcommittee to effective oversight of the Internal Revenue
Service.
______
Here is Letter 3175 (SC) (Rev. 2-1999) with notations of errors in
the heading.
Department of the Treasury
Internal Revenue Service
1973 North Rulon White Blvd.
Ogden, UT 84404
Date: Ddecember 14, 2004 (yes, Ddecember)
William D Kiebschull (Correct spelling is Kebschull)
Churchville, Maryland 21028
Dear Taxpayer(s):
This is in reply to you recent correspondence. Federal tax laws are
passed by Congress and signed by the President. The Internal Revenue
Service is responsible for administering Federal tax laws fairly and
ensuring that taxpayers comply with the laws. We do not have authority
to change the laws.
The Internal Revenue Service strives to collect the proper amount
of revenue at the least cost to the public, and in a manner that
warrants the highest degree of public confidence in our integrity,
efficiency, and fairness. In accomplishing this, we continually strive
to help taxpayers resolve legitimate account problems as effectively as
possible. While tax collection is not a popular function of government,
it clearly is a necessary one. Without it all other function would
cease.
There are people who encourage others to deliberately violate our
nation's tax laws. It would be unfortunate if you were to rely on their
opinions. These persons take legal statements out of context and claim
that they are not subject to tax laws. Many offer advice that is false
and misleading, hoping to encourage others to join them. Generally,
their advice isn't free. Taxpayers who purchase this kind of
information often wind up paying more in taxes, interest, and penalties
than they would have paid simply by filing correct tax returns. Some
may subject themselves to criminal penalties, including fines and
possible imprisonment.
Federal courts have consistently ruled against the arguments you
have made. Therefore, we will not respond to future correspondence
concerning these issues.
Sincerely yours,
Facsimile signature for Dennis Parizek
Operations Manager
Exam SC Support
Enclosure
Publication 2105
Letter 3175 (SC) (Rev. 2-1999)
Cat. No. 26859J
April 3, 2007
My submittal to the Oversight Subcommittee of the House Ways and
Means Committee concerning the Hearing on Internal Revenue Service
Operations and the Tax Gap represents my opinions and only my opinions.
William David Kebschull