Most Serious Problems

Every year, the National Taxpayer Advocate’s Annual Report to Congress identifies at least 20 of the nation’s most serious tax problems. These issues can affect taxpayers’ basic rights and the ways they pay taxes or receive refunds, even if they’re not involved in a dispute with the IRS.

As your voice at the IRS, the National Taxpayer Advocate uses the Annual Report to elevate these problems and recommend solutions to Congress and the highest levels of the IRS.

The IRS reports “enforcement” revenue more routinely than it reports “service” revenues from alternative treatments. As a result, it may be more likely to use coercive treatments than to implement effective alternatives that rely on the latest behavioral science insights (e.g., insights from psychology and behavioral economics). However, the taxpayer’s right to privacy, which includes the right to expect that any IRS inquiry or enforcement action will “be no more intrusive than necessary,” require the IRS to try alternative treatments before resorting to coercion. Further, when coercion is unnecessary, it wastes resources, burdens taxpayers and probably reduces voluntary compliance and overall tax revenue indirectly (i.e., in future years or due from other taxpayers).

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In the light of a budget cut of about 19 percent from fiscal year 2010 to FY 2016, the IRS, as an integral part of its “Future State” design, plans significant shifts to online channels, particularly online taxpayer accounts, to deliver taxpayer service. The IRS, like tax administrations elsewhere, has reacted to budgetary constraints in recent years by shifting taxpayer services to online channels. Best practices in taxpayer service begin with considering taxpayers’, as opposed to the tax administration’s, needs and preferences. However, the IRS bases its approach on information and surveys that are not designed to elicit diverse taxpayer perspectives and do not distinguish between simple tasks and highly emotional, complex transactions. The IRS’s vision of how taxpayers will interact with it through their online accounts may be unrealistic, conveying to taxpayers a lack of interest in engaging with them.

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The IRS Restructuring and Reform Act of 1998 (RRA 98) required the IRS to give organizational units end-to-end responsibility for providing service to specific taxpayer segments. After RRA 98, the IRS created national operating divisions named after four broad taxpayer population segments: Small Business/Self-Employed, Wage and Investment, Tax Exempt and Government Entities, and Large Business and International. The IRS’s functional structure is a barrier to multi-functional coordination. As a result, enforcement functions focus on completing tasks quickly without sufficient regard for the downstream consequences to other functions or taxpayers. Moreover, the root cause of noncompliance and the appropriate treatment is not the same for every taxpayer population segment. Thus, without multi-functional coordination the IRS is likely to miss opportunities to prevent noncompliance by addressing its root causes.

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Prior to the IRS Restructuring and Reform Act of 1998 (RRA 98), the IRS served every taxpayer at one of ten centralized IRS service centers and 33 local district offices. Post RRA 98, the IRS shifted its community-based resources to campuses relying on national “one-size-fits-all” service and “enforcement” policies for each category of taxpayer. This centralization has resulted in the IRS not addressing the particular attributes of local taxpayer populations. The overriding purpose of tax administration is to enable voluntary compliance. This goal can be significantly furthered by providing service, creating a culture of trust, and promoting an understanding of the role taxes play “in a civilized society.” The RRA 98 required the IRS to replace its geographic-based structure with organizational units serving specific groups of taxpayers. In doing so, the importance of having a local, engaged presence in taxpaying communities was minimized. Failing to maintain a robust geographic presence hinders the IRS’s ability to achieve its mission.

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The IRS has incorporated taxpayer rights into some of its training courses and has disseminated messages to IRS employees emphasizing the importance of observing the Taxpayer Bill of Rights (TBOR). However, it has not issued any kind of operating division-wide or service-wide guidance on incorporating the TBOR into training materials, resulting in taxpayer rights information being inserted in a piecemeal and boilerplate manner. In 2014, the IRS officially adopted the TBOR, on the National Taxpayer Advocate’s recommendation. Congress followed in late 2015, by adding to the Internal Revenue Code the list of fundamental rights and a requirement for the Commissioner to “ensure that employees of the Internal Revenue Service are familiar with and act in accord with taxpayer rights as afforded by other provisions of this title.” Although the IRS has commendably done much to make the public aware of the TBOR, it has not fulfilled Congress’s mandate internally.

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As a part of its “Future State” vision, the IRS is currently pursuing a solution to unify these disparate case management systems through an enterprise case management project intended to deal with the issues of automation, records management, and integration. The IRS currently has between 60 and approximately 200 different case management systems. The age, number, and lack of integration across these systems, as well as the lack of digital communication and record keeping, cause waste, delay, and make it difficult for IRS employees, including those in TAS, to perform their jobs efficiently and provide quality service to taxpayers.

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A main component of the IRS’s Future State vision is the development of an online taxpayer account application. While the National Taxpayer Advocate has proposed for years that the IRS develop an online account for taxpayers, we are concerned the IRS is now doing so without first developing an overarching long-term service strategy that focuses on taxpayer needs and preferences. The current vision focuses on business needs rather than taxpayer and practitioner needs. To properly focus on taxpayer and practitioner needs, the IRS must rely on research, including third party and TAS research. If the IRS does not do “digital right” from the start, it may build a system that few will choose to use.  In addition, the online strategy must acknowledge that the necessary strict e-authentication standards means about one-third of taxpayers will be able to create such an account.

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The Earned Income Tax Credit (EITC) has become one of the government’s largest means-tested anti-poverty programs. In tax year 2014, 27.5 million taxpayers received about $66.7 billion in EITC benefits. However, the IRS recently announced its intention to pursue a “Future State” plan. Major goals of the plan are to improve tax-processing systems, increase electronic filing and payment options, and expand services available on irs.gov. The IRS’s Future State, which emphasizes a reliance on technology and taxpayer self-help as opposed to one-on-one communication, will do a disservice for many low income taxpayers by compounding existing obstacles facing this population.

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Over the past decade, the IRS has been significantly impacted by fraud and identity theft. To detect and prevent identity theft and other tax refund fraud, the IRS has established a complicated screening process. Although these systems do identify improper returns and prevent improper refunds from being issued, they also have a high degree of inaccuracy – with false positive rates (FPRs) between 38 and 55 percent in its most prevalent fraud detection systems. IRS systems that improperly flag legitimate tax returns and delay refund issuance can create a financial hardship for taxpayers, expend unnecessary IRS resources to resolve the issues, and negatively impact taxpayers' voluntary compliance.

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The speed with which a tax agency issues refunds requires the balancing of two compelling interests. That is, there is an inherent tension between the need to get refunds out to taxpayers quickly and the need to protect against refund fraud. The IRS processes more than 150 million tax returns each year and issues refunds to taxpayers in about 70 percent of the returns received. Although the IRS is delivering 90 percent of refunds in less than 21 days, this waiting period can cause significant hardship to taxpayers (with an average refund of $2,800) who rely on this refund. Low income taxpayers are particularly affected by any refund delays, with refunds constituting 16 percent of their total positive income, on average.

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With over 68 million adults in the U.S. either unbanked or “underbanked,” taxpayers can request that the IRS load their tax refund onto a reloadable debit card, rather than to a conventional bank account. Because the IRS receives little information about the owner of the prepaid debit card (compared to a traditional savings or checking account), identity thieves and perpetrators of refund schemes may opt to avoid detection by requesting refunds via prepaid debit cards. By the time the IRS learns of the refund fraud, the money is already loaded onto prepaid debit cards, leaving the IRS with little chance of recouping those funds.

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In 2015, Congress enacted legislation requiring the IRS to assign certain delinquent tax accounts to private collection agencies (PCAs). Under the law, PCAs are permitted to offer taxpayers installment agreements not to exceed five years. The IRS plans to implement the PDC program in ways that are inconsistent with the law and plans to assign to PCAs the accounts of taxpayers the IRS itself would not subject to Federal Payment Levy Program levies.

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Internal Revenue Code § 7122(d)(2)(A) mandates that the IRS develop allowances designed to provide that taxpayers entering into an offer in compromise have an adequate means to provide for basic living expenses. The resulting Allowable Living Expense (ALE) standards have come to play a major role in IRS collection cases. However, the current standards are based on outdated measurements and are implemented in a way that keeps some taxpayers in or near poverty in order to meet their taxpayer obligations.

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In several Annual Reports to Congress, the National Taxpayer Advocate has detailed a variety of concerns regarding programs and policies adopted by the IRS Office of Appeals (Appeals) that continue to disadvantage taxpayers. Among other things, taxpayers are experiencing limitations on their ability to obtain in-person conferences, and are encountering Appeals proceedings with narrowing scopes of substantive review. Appeals’ proposed five-year trajectory is set forth in its preliminary design for a Future State. However, this Concept of Operations (CONOPS) is limited by its reliance on a “one size fits all” model that is primarily bureaucratic-and enforcement-oriented.

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The IRS acknowledges that alternative dispute resolution (ADR) can play a useful role as part of its operations. Nevertheless, the IRS is underutilizing this potentially valuable tool and administering ADR in a way that is unattractive to taxpayers. Taxpayers can reasonably question the accessibility, cost effectiveness, and impartiality of IRS ADR proceedings. These concerns, together with unfamiliarity and a lack of demonstrably positive outcomes, cause taxpayers to overlook ADR as a means of resolving their tax controversies. To this point, the IRS is failing to take advantage of what could be a highly effective mechanism for administrative dispute resolution. 

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The IRS has adopted an enforcement-oriented regime with respect to international taxpayers. Its operative assumption is that all such taxpayers should be suspected of fraudulent activity, an outlook that causes the IRS to mistrust stakeholders, dismiss useful comments and suggestions, and misallocate resources. The Foreign Account Tax Compliance Act (FATCA) was passed in 2010 in response to IRS and congressional concerns that U.S. taxpayers were not fully disclosing the extent of financial assets held abroad. The IRS’s approach to implementing FATCA and related international provisions has created significant compliance burdens and risk exposures to a variety of impacted parties including non-resident aliens, U.S. citizens living abroad, and foreign financial institutions.

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The IRS is authorized by law to enter into an agreement with a taxpayer to pay any tax due in installments to facilitate full or partial collection of the tax. Installment Agreements (IAs) are offered as a collection alternative mutually beneficial to taxpayers and the IRS. Taxpayers can make payments to the IRS over time and spread out the burden of paying their tax accounts, and the IRS can increase revenue by collecting portions of tax due rather than collecting nothing. However, certain types of IAs result in higher rates of taxpayers failing to make payments as agreed (defaulting) while other taxpayers are being placed in IAs where their income is less than the living expenses permitted by the IRS, and potentially not meeting their basic needs in order to pay the IRS instead.

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Each year, approximately 4.6 million taxpayers ineligible for Social Security numbers require Individual Taxpayer Identification Numbers (ITINs) to comply with their tax filing and payment obligations, claim dependents, and receive tax benefits. Changes in application requirements, program administration, and insufficient staffing have contributed to delays in obtaining ITINs for thousands of taxpayers in recent years. A new law passed in late 2015 made major changes to the ITIN program, which create significant challenges for taxpayers and the IRS if an ITIN is not issued timely. Despite the flexibility allowed under the law, the IRS has not exercised discretion to expand what is considered acceptable documentation for an ITIN application and to extend the timeframe for filing all applications throughout the year.

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Treasury regulations generally require IRC § 501(c)(3) organizations to pass an “organizational test” by including acceptable purpose and dissolution clauses in their organizing documents. Form 1023-EZ, Streamlined Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code, requires applicants to merely attest that they meet the requirements for qualification as Internal Revenue Code (IRC) § 501(c)(3) organizations. Most applications for such status are now submitted on Form 1023-EZ and the IRS approves 94 percent of Form 1023-EZ applications. The IRS erroneously approves Form 1023-EZ applications at an unacceptably high rate. The IRS agreed to revise Form 1023-EZ to require a narrative statement of applicants’ activities, but additional information is needed.

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In order to ensure that taxpayer rights are protected, TAS has been actively involved with the implementation of the tax provisions of the Patient Protection and Affordable Care Act of 2009 (ACA). Premium Tax Credit cases rose to become the fourth highest category of TAS case receipts during fiscal year 2016. In addition to the existing provisions impacting individuals, some provisions of the ACA impacting employers became effective in tax year 2015. We are particularly concerned with whether employees in the newly established ACA Business Exam unit would receive appropriate training on relevant topics. In addition, we will monitor IRS preparedness to handle the additional volume of information-reporting data expected for the 2017 filing season.

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