Testimony 

Before Congressional Committees

United States Government Accountability Office

GAO 

For Release on Delivery 

Expected at 3:00 p.m. EDT 

Thursday, May 19, 2005 IRS MODERNIZATION

Continued Progress 

Requires Addressing 

Resource Management 

Challenges 

Statement of James R. White, Director 

Strategic Issues 

David A. Powner, Director 

Information Technology Management Issues 

Steven J. Sebastian, Director 

Financial Management and Assurance 

Gregory C. Wilshusen, Director 

Information Security Issues 

GAO-05-707T 
What GAO Found

United States Government Accountability Office

Why GAO Did This Study

Highlights

Accountability Integrity Reliability

www.gao.gov/cgi-bin/getrpt?GAO-05-707T.

To view the full product, including the scope 

and methodology, click on the link above. 

For more information, contact James R. White 

at (202) 512-9110 or whitej@gao.gov. 

Highlights of GAO-05-707T, a testimony 

before congressional committees 

May 19, 2005

IRS MODERNIZATION

Continued Progress Requires Addressing 

Resource Management Challenges 

IRS’s most noticeable progress has been in IRS’s taxpayer service, which has 

been of special concern to the Congress. Since the passage of RRA 98, 

improvements in access to IRS by telephone, the accuracy of answers given 

to taxpayer inquiries, and the growth of IRS’s Web site, which now provides 

a variety of services, have been noteworthy accomplishments. 

IRS experienced declines in enforcement staffing after 1998, but recently 

stopped the declines and begun to show increases. Despite this, enforcement 

remains a high risk area because of the continued need to improve 

enforcement and make progress towards reducing the tax gap. 

IRS has made significant progress in establishing management controls and 

acquiring infrastructure as part of the BSM program, as well as significant 

progress in addressing financial management issues. However, BSM remains 

at risk because of the scope and complexity of modernization activities and 

the need for better management capacity to avoid repeating the program’s 

history of schedule delays and cost overruns. 

Looking ahead, continuing the progress described above depends on IRS 

addressing resource constraints and realizing efficiency and systems 

improvements. We highlight several such opportunities: 

• Developing long-term goals would help IRS and Congress assess agency 

performance and make budget decisions. 

• Considering additional funding enhancements such as user fees and 

private debt collection which may help mitigate budget constraints. 

• Leveraging nonfederal partners such as states to assist with tax law 

enforcement and volunteers to help provide taxpayer service. 

• Prioritizing taxpayer service activities could help IRS minimize the 

impact of budget cuts. 

• Targeting enforcement resources could help IRS make more efficient use 

of available resources and help the agency make progress towards 

reducing the tax gap. 

• Creating the necessary systems to enable IRS to develop accurate cost 

accounting information would help IRS make resource allocation 

decisions. 

• Developing and using better productivity data would help IRS make 

productivity improvements and thereby make better use of available 

resources. 

• Making needed management improvements would help IRS bring 

planned new information systems on-line in a timely and cost-effective 

manner. 

• Making needed improvements to assure information systems security 

would reduce vulnerabilities. 

Since the passage of the IRS 

Restructuring and Reform Act of 

1998 (RRA 98), the Internal 

Revenue Service (IRS) has faced 

the challenge of managing its 

resources to simultaneously 

improve service to taxpayers, 

assure taxpayers’ compliance with 

the tax laws, and modernize its 

antiquated information systems. 

As requested, this statement 

provides our assessment of IRS’s 

current performance in the areas 

of taxpayer service, tax law 

enforcement, and systems 

modernization. Looking ahead, this 

statement also describes the 

challenges that IRS faces in 

addressing resource constraints as 

well as realizing efficiency and 

information systems 

improvements. 

What GAO Recommends

GAO is not making any new 

recommendations, but has 

recommendations outstanding 

related to taxpayer service, tax law 

enforcement, Business Systems 

Modernization (BSM), and systems 

security. 

IRS is in general agreement with 

our recommendations and is in the 

process of implementing many of 

them. 
Page 1 GAO-05-707T 

Mr. Chairman and Members of the Committees: 

Mr. Chairman, we are pleased to participate in this joint review of the 

Internal Revenue Service (IRS). Since passage of the IRS Restructuring 

and Reform Act of 1998 (RRA 98), IRS has faced the challenge of managing 

its resources to simultaneously improve service to taxpayers, assure 

taxpayers’ compliance with the tax laws, and modernize its antiquated 

information systems. As you are well aware, making these improvements 

is important. IRS is responsible for collecting the roughly $2 trillion in tax 

revenue used to fund the government and annually touches more 

Americans than any other federal agency. IRS’s service and enforcement 

efforts influence Americans’ confidence in the fairness of the tax system 

and their perception of the effectiveness of their government. 

As requested, this statement provides our assessment of IRS’s current 

performance in all three areas. We then look ahead, describing the 

challenges that IRS faces in addressing resource constraints as well as 

realizing efficiency and information systems improvements. 

Our discussion of both recent progress and challenges facing IRS is based 

primarily on recently issued GAO products. We used our recent reports 

and testimony on IRS’s budget, the tax gap, filing season reviews, financial 

audits, systems modernization activities, Business Systems Modernization 

(BSM) expenditure plans, and information security. Our work was 

performed in accordance with generally accepted government auditing 

standards. 

In summary, IRS has made progress in improving service and modernizing 

operations, but the gains have not been uniform. The most noticeable 

progress has been in IRS’s taxpayer service, an area that has been of 

special concern to the Congress. Access to IRS by telephone, the accuracy 

of answers given to taxpayer inquiries, and the growth of IRS’s Web site, 

which now provides a variety of services, including forms and 

instructions, information on the status of refunds, and answers to 

frequently asked questions, have been noteworthy accomplishments in the 

years since passage of RRA 98. With respect to tax law enforcement, IRS 

experienced declines in enforcement staffing after 1998 but has recently 

stopped the declines and begun to show increases. However, tax law 

enforcement remains a high-risk area because of the need to improve 

enforcement and make progress towards reducing the tax gap—the 
Page 2 GAO-05-707T 

difference between taxes owed and taxes paid on time.1 As for systems 

modernization, IRS has made significant progress in establishing longoverdue management controls and in acquiring foundational system 

infrastructure and applications as part of the BSM project, as well as 

significant progress in addressing financial management issues. However, 

BSM remains at risk because of the scope and complexity of 

modernization activities and the need for better management capacity to 

avoid repeating the program’s history of schedule delays and cost 

overruns. 

Looking ahead, continued progress depends on IRS addressing resource 

constraints and realizing efficiency and systems improvements. Long-term 

goals would help stakeholders, including the Congress, evaluate the 

adequacy of IRS’s budget. Further, additional resources might be brought 

to bear by, perhaps, additional user fees or the leveraging of nonfederal 

partners beyond what is now done with states and volunteers. Efficiency 

gains may be possible by, for example, prioritizing taxpayer services in 

order to focus on those that provide greater benefit, targeting enforcement 

by using better data on noncompliance, collecting more accurate cost 

information to improve day-to-day and long-term decision making, and 

realizing productivity improvements. Finally, IRS needs to bring planned 

new systems on line in a timely and cost-effective manner while also 

assuring systems security. GAO has outstanding recommendations related 

to taxpayer service, tax law enforcement, BSM, and systems security. IRS 

is in general agreement with our recommendations and is in the process of 

implementing many of them. 

 1

 In April 2005, we discussed the tax gap in testimony before the Senate Committee on 

Finance (GAO-05-527T). In our statement, we reported that IRS recently released its tax 

gap estimate for tax year 2001. IRS estimated that the difference between taxes owed and 

taxes paid on time was between $312 billion and $353 billion. After tax law enforcement 

recovers a portion of the unpaid taxes, IRS estimates it will eventually recover some of this 

tax gap, resulting in a net tax gap of between $257 billion and $298 billion in tax year 2001. 
Page 3 GAO-05-707T 

IRS has made noticeable progress in improving taxpayer service since 

passage of RRA 98. While progress has also been made in the tax law 

enforcement and BSM areas, however, serious ongoing issues have kept 

both on our high-risk list.2

IRS has made meaningful progress in four key taxpayer service areas; 

paper and electronic processing, telephone assistance, IRS’s Web site, and 

walk-in assistance. Table 1 shows IRS performance in these areas since 

2002. While the progress is widespread, table 1 also shows that there are 

some areas of performance that merit attention, especially in light of 

current and proposed cuts to IRS’s taxpayer service budget. In fiscal year 

2005 and in its proposed 2006 budget, IRS is shifting priorities by reducing 

taxpayer service and increasing resources for enforcement. 

 2

 GAO, High Risk Series: An Update, GAO-05-207 (Washington, D.C.: January 2005). 

IRS Has Improved 

Taxpayer Service 

but Enforcement 

and BSM Remain 

High Risk 

IRS Has Improved 

Taxpayer Service but 

Is Shifting Priorities 
Page 4 GAO-05-707T 

Table 1: IRS Performance in the First Weeks of the Filing Season, 2002-2005 

Volume in thousands 

Actual returns processeda 2002 2003 2004 2005 

Paper 24,491 22,117 20,232 17,607

Electronic 35,067 38,627 42,988 45,848

Telephone assistance 

Total callsb 34,489 27,905 29,058 23,340

Answered by assistors 9,208 9,434 10,116 9,421 

Answered by automation 25,281 18,471 18,942 13,919 

Customer service representative level of service 62% 82% 84% 83% 

Average speed of answerc 227 seconds 183 seconds 199 seconds 235 seconds 

Accounts accuracy rate estimatesd 88%

+/- 1%

88%

+/- 1%

89%

+/- 1%

92%

+/- 1%

Tax law accuracy rate estimatesd 84%

+/- 1%

81%

+/- 1%

76%

+/- 1%

87%

+/- 1%

Internet assistance 

Forms and publications downloadede N/A N/A N/A 70,321

Refund status inquiriesf N/A 9,300 14,300 16,400

Walk-in assistance 

Total walk-in contactsg N/A 2,740 2,433 2,163

Returns prepared at IRS walk-in sitesh 436 291 186 145

Returns prepared at volunteer sitesi 466 594 741 915

Source: IRS. 

a

From January 1 to March 22, 2002; March 21, 2003; March 19, 2004; and March 18, 2005. 

b

Total calls (i.e., calls answered by assistors and automation) and CSR level of service are based on 

actual counts from January 1 to March 16, 2002; March 15, 2003; March 13, 2004; and March 12, 

2005. The 2002 totals include increased call demand as a result of the Economic Growth and Tax 

Relief Reconciliation Act of 2001 (Pub. L. No. 107-16 (2001)). 

c

From January 1 to March 16, 2002; March 15, 2003; March 13, 2004; and March 12, 2005. 

d

Based on a representative sample estimated at the 90 percent confidence level from January to 

February 2002, 2003, 2004, and 2005. 

e

As of February 28, 2005. 
Page 5 GAO-05-707T 

f

From January 1 to March 20, 2003; 2004; and 2005. 

g

From January 1 to March 15, 2003; March 13, 2004; and March 12, 2005. 

h

From January 1 to March 16, 2002; March 15, 2003; March 13, 2004; and March 12, 2005. 

i

From January 1 to March 9, 2002; March 8, 2003; March 13, 2004; and March 12, 2005. 

As shown in table 1, electronic filing has increased while paper filing has 

dropped. The increase in electronic filing has allowed IRS to reduce the 

resources devoted to processing. As shown in figure 1, IRS reduced the 

staff devoted to processing paper returns between 1999 and 2004 by just 

over 1,100 staff years. The figure also shows that as the number of e-filed 

returns has increased, the number of staff years used to process those 

returns has not increased. The decline in paper processing staff allowed 

IRS to close its Brookhaven processing center in 2003.3

 In addition, IRS is 

in the process of closing its paper processing operation in Memphis. 

 3

 In March 2005 we reported that IRS successfully completed the rampdown at Brookhaven 

without any significant disruptions in service. (GAO-05-319R) 

Returns Processing 
Page 6 GAO-05-707T 

Figure 1: Change in Methods of Tax Return Filing Since 1999 

a

Fiscal years 2005 and 2006 are IRS projections and, given the current lower e-file growth rates, the 

estimates may be optimistic. 

In addition to saving IRS resources, electronic filing offers benefits to 

taxpayers in that it allows taxpayers to receive refunds faster and is less 

error prone. IRS employees manually transcribe paper tax return 

information into IRS’s computer systems, which can introduce errors. 

As shown in table 1, by several measures IRS’s telephone service has 

improved since 2002. One measure of access, the customer service 

representative (CSR) level of service (the percentage of taxpayers who 

attempted to reach CSRs and actually got through and received service) 

increased from 62 percent to 83 percent. Accuracy also showed some 

improvement; accounts accuracy (accuracy of answers to taxpayer 

questions about their accounts) exceeded 90 percent in 2005. However, 

taxpayers are waiting somewhat longer in 2005 to get answers than in 

2002, 2003, and 2004. 

Telephone Assistance 

0

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

5,000

Staff years devoted to electronic filing

Staff years for selected major paper processing activities

2006a 2005a 1999 2000 2001 2002 2003 2004

Source: GAO analysis of IRS data.

Staff years

Fiscal year

0

20

40

60

80

100

120

Electronic returns processed

Paper returns processed

Individual tax returns (in millions)

IRS projections
Page 7 GAO-05-707T 

IRS’s Web site is performing well. A relatively recent addition to IRS’s 

menu of services, the Web site first became available during the 1996 filing 

season. We found it to be user friendly because it was readily accessible 

and easy to navigate. An independent weekly study ranked it in the top 4 

out of 40 federal government web sites in terms of accessibility. 

The site is used extensively. In the early weeks of the 2005 filing season 

the IRS Web site was visited about 83 million times by users who viewed 

about 628 million pages and downloaded about 70.3 million forms and 

publications. IRS’s Web site continues to provide two very important tax 

service features: (1) “Where’s My Refund,” which enables taxpayers to 

check on the status of their refund and (2) Free File, which provides 

taxpayers the ability to file their tax return electronically for free. This 

filing season IRS provided new functionality for “Where’s My Refund” 

whereby taxpayers whose refunds could not be delivered by the Postal 

Service (i.e., returned as undeliverable mail), could change their addresses 

on the Web site. 

Taxpayer use of IRS’s walk-in sites has decreased while use of volunteer 

sites has increased. As shown in figure 2, IRS projects it will see about 

3.4 million visits to its 400 walk-in sites this year, down from over 

3.5 million in 2004 and about 4.3 million in 2001. Over the same period, IRS 

expects taxpayer visits to volunteer sites to increase to just over 2 million 

visits in 2005; a substantial increase over about 1.6 million visits in 2004 

and fewer than 1 million in 2001. IRS continues to encourage taxpayers to 

use volunteer sites for return preparation. 

Web Site 

IRS and Volunteer Walk-in Sites 
Page 8 GAO-05-707T 

Figure 2: Assistance Provided by IRS Walk-in and Volunteer Sites, 2001-2006 

Filing Seasons 

Note: “Other walk-in contacts” includes assistance for account notices, tax law inquiries, forms, and 

compliance work, but not return preparation. For the walk-in sites, the time periods covered are 

December 31, 2000, through April 28, 2001; December 30, 2001, through April 27, 2002; 

December 29, 2002, through April 26, 2003; and December 28, 2003, through April 24, 2004. For 

volunteer sites, the time period covered for 2001 is January 1, 2001, through April 21, 2001; all other 

periods are the same as those for IRS walk-in sites. 

a

Fiscal years 2005 and 2006 are IRS projections. 

This shift is important because it transfers time-consuming services, 

particularly return preparation, to volunteers and allows IRS to 

concentrate on services that only it can provide, such as account 

assistance or compliance work. While it reduces the demand on IRS 

resources, the shift from IRS to volunteer sites has raised concerns about 

the quality of service provided. We and the Treasury Inspector General for 

Tax Administration (TIGTA) have called attention to the quality of service 

at both IRS walk-in and volunteer sites. IRS has separate quality initiatives 

under way at both IRS walk-in and volunteer sites, although data remain 

limited and cannot be compared to prior years. 

IRS 

projections

0

1

2

3

4

5

6

Other walk-in contacts

Return preparation at walk-in sites

2006a 2005a 2001 2002 2003 2004

IRS 

projections

0

1

2

3

4

5

6

Return preparation at volunteer sites

2006a 2005a 2001 2002 2003 2004

Source: GAO-05-416T page p.33, and GAO of IRS data.

Millions at IRS walk-in sites

Fiscal year

Millions at volunteer sites

Fiscal year

4.27

4.32

3.86

3.54 3.42

2.75

0.95 1.07 1.37 1.59

2.02 2.22

0.79 0.67 0.47 0.31 0.25 0.20
Page 9 GAO-05-707T 

Another concern is post-filing service to taxpayers when IRS has 

undertaken compliance or collection actions. An example of this is the 

release of federal tax liens against taxpayers’ property. IRS is required to 

release a federal tax lien within 30 days after the date the tax liability is 

satisfied or has become legally unenforceable or the Secretary of the 

Treasury has accepted a bond for the assessed tax but, as have we 

reported for several years as part of our financial audits, most recently in 

November 2004, IRS has not always met this standard.4

We have long been concerned about tax noncompliance and IRS efforts to 

address it. Collection of unpaid taxes was included in our first high-risk 

series report in 1990, with a focus on the backlog of uncollected debts 

owed by taxpayers. In 1995, we added Filing Fraud as a separate high-risk 

area, narrowing the focus of that high-risk area in 2001 to Earned Income 

Credit Noncompliance because of the particularly high incidence of fraud 

and other forms of noncompliance in that program. We expanded our 

concern about the Collection of Unpaid Taxes in our 2001 high-risk report 

to include not only unpaid taxes (including tax evasion and unintentional 

noncompliance) known to IRS, but also the broader enforcement issue of 

unpaid taxes that IRS has not detected. In our high-risk update that we 

issued in January,5

 we consolidated these areas into a single high-risk 

area—Enforcement of Tax Laws—because we believe the focus of 

concern on the enforcement of tax laws is not confined to any one 

segment of the taxpaying population or any single tax provision. 

Tax law enforcement is a high-risk area in part because of the size of the 

tax gap. IRS’s recent estimate of the difference between what taxpayers 

timely and accurately paid in taxes and what they owed ranged from 

$312 billion to $353 billion for tax year 2001. IRS estimates it will 

eventually recover some of this tax gap, resulting in a net tax gap from 

$257 billion to $298 billion. The tax gap arises when taxpayers fail to 

comply with the tax laws by underreporting tax liabilities on tax returns; 

underpaying taxes due from filed returns; or “nonfiling,” which refers to 

the failure to file a required tax return altogether or in a timely manner. 

 4

 GAO, Financial Audit: IRS’s Fiscal Years 2004 and 2003 Financial Statements, 

GAO-05-103 (Washington, D.C.: Nov. 10, 2004). 

5 GAO-05-207. 

Post-Filing Taxpayer Service 

IRS Has Stopped Declines 

In Enforcement Staffing, 

but Enforcement Remains 

High Risk 
Page 10 GAO-05-707T 

Tax law enforcement is also high risk because past declines in IRS’s 

enforcement activities threatened to erode taxpayer compliance. In recent 

years, the resources IRS has been able to dedicate to enforcing the tax 

laws have declined. For example, the number of revenue agents (those 

who examine complex returns), revenue officers (those who perform field 

collection work), and special agents (those who perform criminal 

investigations) decreased over 21 percent from 1998 through 2003. 

However, IRS achieved some staffing gains in 2004 and expects modest 

gains in 2005. IRS’s proposal for fiscal year 2006, if funded and 

implemented as planned, would return enforcement staffing in these 

occupations to their highest levels since 1999.6

Concurrently, IRS’s enforcement workload—measured by the number of 

taxpayer returns filed—has continually increased. For example, from 1997 

through 2003, the number of individual income tax returns filed increased 

by about 8 percent. Over the same period, returns for high-income 

individuals grew by about 81 percent.7

 Due to their income levels, IRS 

believes that these individuals present a particular compliance risk. In 

light of declines in enforcement staffing and the increasing number of 

returns filed, nearly every indicator of IRS’s coverage of its enforcement 

workload has declined in recent years. Although in some cases workload 

coverage has begun to increase, overall IRS’s coverage of known workload 

is considerably lower than it was just a few years ago. Figure 3 shows the 

trend in examination rates—the proportion of tax returns that IRS 

examines each year—for field, correspondence, and total examinations 

since 1995. Field examinations involve face-to-face examinations and 

correspondence examinations are typically less comprehensive and 

complex, involving communication through written notices. IRS 

experienced steep declines in examination rates from 1995 to 1999, but the 

examination rate has slowly increased since 2000. However, as the figure 

shows, the increase in total examination rates of individual filers has been 

driven mostly by correspondence examinations, while more complex field 

examinations continue to decline. 

 6

 GAO, Internal Revenue Service: Assessment of Fiscal Year 2006 Budget Request and 

Interim Results of the 2005 Filing Season, GAO-05-416T (Washington, D.C.: Apr. 14, 2005). 

7

 High-income individuals are those reporting $100,000 or more of “total positive income,” 

which is, in general, the sum of all positive amounts shown for the various sources of 

income reported on individual tax returns and thus excludes net losses. 
Page 11 GAO-05-707T 

Figure 3: Audit Rate of Individual Income Tax Returns, Fiscal Years 1995-2004 

Further, IRS’s workload has grown ever more complex as the tax code has 

grown more complex. IRS is challenged to administer and explain each 

new provision, thus absorbing resources that otherwise might be used to 

enforce the tax laws. Concurrently, other areas of particularly serious 

noncompliance have gained the attention of IRS and the Congress, such as 

abusive tax shelters and schemes employed by businesses and wealthy 

individuals that often involve complex transactions that may span national 

boundaries. Given the broad declines in IRS’s enforcement workforce, 

IRS’s decreased ability to follow up on suspected noncompliance, and the 

emergence of sophisticated evasion concerns, IRS is challenged in 

attempting to ensure that taxpayers fulfill their obligations. 

On the collection front, IRS’s use of enforcement sanctions, such as liens, 

levies, and seizures, dropped precipitously during the mid and late 1990s. 

In fiscal year 2000, IRS’s use of these three sanctions was at 38 percent, 

7 percent, and 1 percent, respectively, of fiscal year 1996 levels. However, 

beginning in fiscal year 2001, IRS’s use of liens and levies began to 

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

Total

Correspondence

Field

1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

Audit rate

Fiscal year

Source: GAO analysis of IRS data.
Page 12 GAO-05-707T 

increase. By fiscal year 2004, IRS’s use of liens, levies, and seizures 

reached 71 percent, 65 percent, and 4 percent of 1996 levels, respectively. 

IRS is working to further improve its enforcement efforts. In addition to 

recent favorable trends in enforcement staffing, correspondence 

examinations, and the use of some enforcement sanctions, IRS has 

recently made progress with respect to abusive tax shelters through a 

number of initiatives and recent settlement offers that have resulted 

in billions of dollars in collected taxes, interest, and penalties. In addition, 

IRS is developing a centralized cost accounting system, in part to obtain 

better cost and benefit information on compliance activities, and is 

modernizing the technology that underpins many core business processes. 

It has also redesigned some compliance and collections processes and 

plans additional redesigns as technology improves. Finally, the recently 

completed National Research Program (NRP) study of individual 

taxpayers not only gives us a benchmark of the status of taxpayers’ 

compliance but also gives IRS a better basis to target its enforcement 

efforts. 

IRS has long relied on obsolete automated systems for key operational and 

financial management functions, and its attempts to modernize these aging 

computer systems span several decades. Modernization has encountered a 

long history of continuing delays and design difficulties and the impact of 

these problems on IRS’s operations led GAO to designate IRS’s systems 

modernization as a high-risk area in 1995 and it remains so today. 

IRS’s current modernization program, BSM, is a highly complex, 

multibillion-dollar program that is the agency’s latest attempt to modernize 

its systems. BSM is critical to supporting IRS’s taxpayer service and 

enforcement goals. For example, BSM includes projects to allow taxpayers 

to file and retrieve information electronically and to provide technology 

solutions to help reduce the backlog of collections cases. BSM is also 

important to allow IRS to provide the reliable and timely financial 

management information needed to account for the nation’s largest 

revenue stream and better enable the agency both to determine and to 

justify its resource allocation decisions and congressional budgetary 

requests. 

IRS Has Made Progress in 

Implementing BSM, but 

Program Has History of 

Cost Overruns and 

Schedule Delays and Is 

High Risk 
Page 13 GAO-05-707T 

Over the past year, IRS has deployed initial phases of several modernized 

systems under its BSM program. The following provides examples of the 

systems and functionality that IRS implemented in 2004 and the beginning 

of 2005. 

• Modernized e-File (MeF). This project is intended to provide electronic 

filing for large corporations, small businesses, and tax-exempt 

organizations. The initial releases of this project were implemented in 

June and December 2004, and allowed for the electronic filing of forms 

and schedules for the form 1120 (corporate tax return) and form 990 

(tax-exempt organizations’ tax return). IRS reported that, during the 2004 

filing season, it accepted over 53,000 of these forms and schedules using 

MeF. 

• e-Services. This project created a Web portal and provided other 

electronic services to promote the goal of conducting most IRS 

transactions with taxpayers and tax practitioners electronically. IRS 

implemented e-Services in May 2004. According to IRS, as of late 

March 2005, over 84,000 users have registered with this Web portal. 

• Customer Account Data Engine (CADE). CADE is intended to replace 

IRS’s antiquated system that contains the agency’s repository of taxpayer 

information and, therefore, is the BSM program’s linchpin and highest 

priority project. In July 2004 and January 2005, IRS implemented the initial 

releases of CADE, which have been used to process filing year 2004 and 

2005 1040EZ returns, respectively, for single taxpayers with refund or 

even-balance returns. According to IRS, as of March 16, 2005, CADE had 

processed over 842,000 tax returns so far this filing season. 

• Integrated Financial System (IFS). This system replaced aspects of IRS’s 

core financial systems and is ultimately intended to operate as its new 

accounting system of record. The first release of this system became fully 

operational in January 2005. 

In prior years, IRS deployed several systems, including (1) Customer 

Communications 2001, to improve telephone call management, call 

routing, and customer self-service applications; (2) Customer Relationship 

Management Examination, to provide off-the-shelf software to IRS 

revenue agents to allow them to accurately compute complex corporate 

transactions; and (3) Internet Refund/Fact of Filing, to improve taxpayer 

self-service by providing to taxpayers via the Internet instant refund status 

information and instructions for resolving refund problems. 

Although IRS is to be applauded for delivering important BSM 

functionality, the BSM program is far from complete. Future deliveries of 

additional functionality of deployed systems and the implementation of 

other BSM projects are expected to have a significant impact on IRS’s 
Page 14 GAO-05-707T 

taxpayer services and enforcement capability as well as its efforts to 

continue to improve its financial management. For example, IRS has 

projected that CADE will process about 2 million returns in the 2005 filing 

season. However, the returns being processed in CADE are the most basic 

and constitute less than 1 percent of the total tax returns expected to be 

processed during the current filing season. IRS expects the full 

implementation of CADE to take several more years. Another BSM 

project—the Filing and Payment Compliance (F&PC) project—is expected 

to increase (1) IRS’s capacity to treat and resolve the backlog of 

delinquent taxpayer cases, (2) the closure of collection cases by 10 million 

annually by 2014, and (3) voluntary taxpayer compliance. As part of this 

project, IRS plans to deliver an initial limited private debt collection 

capability in January 2006, with full implementation of this aspect of the 

F&PC project to be delivered by January 2008 and additional functionality 

to follow in later years. Finally, full implementation of CADE, as well as 

the successful implementation of future releases of IFS and efforts to 

address the impact of IRS’s decision to discontinue the Custodial 

Accounting Project (CAP) will be critical to addressing many of IRS’s 

remaining and long-standing financial management issues. 

For IRS to build on the gains made since passage of RRA 98, the agency 

must address numerous challenges related to resource management. IRS 

faces budgetary constraints that may be addressed in part through the 

development of goals for assessing performance and to help in making 

budget decisions, looking for opportunities to enhance its funding, and 

leveraging the resources of nonfederal partners. IRS also faces the 

challenges of improving efficiency in taxpayer service and tax law 

enforcement, developing useful cost accounting tools, and improving 

productivity. Finally, IRS faces information systems challenges in both 

BSM and systems security shortfalls. 

For IRS, the Congress, and IRS’s other stakeholders, long-term goals can 

be used to assess performance and progress towards these goals, and 

determine whether budget decisions contribute to achieving those goals. 

Without long-term goals, the Congress and other stakeholders are 

hampered in evaluating whether IRS is making satisfactory long-term 

progress. Further, without such goals, the extent to which IRS’s 2006 

budget request would help IRS achieve its mission over the long term is 

less clear. 

Continued Progress 

Depends on IRS 

Addressing Resource 

Constraints and 

Realizing Efficiency 

and Systems 

Improvements 

Long-term Goals Would 

Help IRS Assess 

Performance and Make 

Budget Decisions 
Page 15 GAO-05-707T 

A recent Program Assessment Rating Tool (PART) review conducted by 

the Office of Management and Budget (OMB) reported that IRS lacks longterm goals.8

 As a result, IRS has been working to identify and establish 

long-term goals for all aspects of its operations for over a year. 9

 IRS 

officials said these goals will be finalized and provided publicly as an 

update to the agency’s strategic plan in the near future. 

Long-term goals and results measurement are a component of the 

statutory strategic planning and management framework that the Congress 

adopted in the Government Performance and Results Act of 1993.10 As a 

part of this comprehensive framework, long-term goals that are linked to 

annual performance measures can help guide agencies when considering 

organizational changes and making resource decisions. For example, longterm goals would provide IRS with a framework for assessing budgetary 

tradeoffs between taxpayer service and enforcement and whether IRS is 

making satisfactory progress towards achieving those goals. Similarly, 

long-term goals could help identify priorities within the taxpayer service 

functions (e.g., if the budget for taxpayer service were to be cut and 

efficiency gains did not offset the cut, long-term goals could help guide 

decisions about whether to make service cuts across a broad or target 

selected services). 

Perhaps most important, long-term compliance goals coupled with 

periodic measurement of compliance levels would provide IRS with a 

better basis for determining to what extent its various day-to-day service 

 8

 The PART was applied during the fiscal year 2004 budget cycle to “programs” selected by 

OMB. The PART includes general questions in each of four broad topics to which all 

programs are subjected: (1) program purpose and design, (2) strategic planning, 

(3) program management, and (4) program results (i.e., whether a program is meeting its 

long-term and annual goals). OMB also makes an overall assessment on program 

effectiveness. 

9

 IRS has one long-term goal set by the Congress in RRA 98 for IRS to have 80 percent of all 

individual income tax returns filed electronically. 

10 Pub. L. No. 103-62 (1993). The Government Performance and Results Act of 1993 seeks to 

improve the management of federal programs, as well as their effectiveness and efficiency, 

by requiring executive agencies to prepare multiyear strategic plans, annual performance 

plans, and annual performance reports. Under the act, strategic plans are the starting point 

for setting goals and measuring progress towards them. The act requires executive 

agencies to develop strategic plans that include an agency’s mission statement, long-term 

general goals, and the strategies that the agency will use to achieve these goals. The plans 

should also explain the key external factors that could significantly affect achievement of 

these goals, and describe how long-term goals will be related to annual performance goals. 
Page 16 GAO-05-707T 

and enforcement efforts contribute to compliance in the long run. 

Furthermore, long-term, quantitative goals may help IRS consider new 

strategies to improve compliance, especially since these strategies could 

take several years to implement. For example, IRS’s progress toward the 

goal of having 80 percent of all individual tax returns electronically filed 

by 2007 has required enhancement of its technology, development of 

software to support electronic filing, education of taxpayers and 

practitioners, and other steps that could not be completed in a short time 

frame. Focusing on intended results can also promote strategic and 

disciplined management decisions that are more likely to be effective 

because managers who use fact-based performance analysis are better 

able to target areas most in need of improvement and select appropriate 

interventions. 

Identifying potential new sources of funds could be an opportunity for 

helping to mitigate IRS’s budget constraints. Current examples of resource 

enhancers—user fees and private debt collection—may provide useful 

models for IRS and Congress to consider. User fees are collected from 

identifiable recipients of special benefits beyond those accruing to the 

general public. In 2004, IRS collected over $137 million in user fees for a 

wide range of services, including installment agreements, offers in 

compromise, and Freedom of Information Act (FOIA) requests.11 In fiscal 

year 2004, about 82 percent of all user fees collected by IRS were for 

installment agreements or Employee Plans and Exempt Organizations 

letter rulings and determination letters.12 The 1995 Treasury Appropriation 

Act specifies that IRS can keep a maximum of $119 million per year of the 

user fees it collects, with the rest of the user fees going into the Treasury 

 11 Installment agreements are for taxpayers who cannot pay the full amount owed on their 

tax returns when due. IRS charges a one-time fee to these taxpayers, and allows them to 

make monthly installment payments. An offer in compromise (OIC) is an agreement 

between a taxpayer and IRS that resolves the taxpayer’s tax liability for less than the full 

amount owed for taxes, interest, and penalties. IRS charges a one-time fee. FOIA 

requestors are charged a one-time fee and are provided with agency records as requested, 

with some exceptions. 

12 A letter ruling is a written determination issued in response to a written inquiry from an 

individual or an organization about its status for tax purposes or the tax effects of its acts 

or transactions, prior to the filing of returns or reports that are required by the revenue 

laws. A determination letter is a written determination that applies the principles and 

precedents previously announced by IRS to a specific set of facts. It is issued only when a 

determination can be made based on clearly established rules in a statute, a tax treaty, the 

regulations, a conclusion in a revenue ruling, or an opinion or court decision that 

represents the position of IRS. 

Considering Funding 

Enhancements Could 

Help Mitigate Budget 

Constraints 
Page 17 GAO-05-707T 

general fund. In 2004, IRS retained about $90 million from the user fees 

collected (see table 2). In comparison, IRS’s total spending in 2004 was 

$10.7 billion. 

Table 2: User Fees and Reimbursable User Fees Collected by IRS, Fiscal Year 2004 

Dollars in millions 

Fee type 

Fiscal year 2004 user 

fees collected 

User fees to 

General Fund 

User fees retained 

by IRS

Installment agreements 69.4 0.0 69.4

Offers in compromise 6.6 0.0 6.6

Employee plans and exempt organizations 

letter rulings and determination letters 

43.1 41.2 1.9

Chief Counsel letter rulings and 

determination letters 

9.3 5.5 3.8

Photocopy reimbursable user fees 6.4 0.0 6.4

Other 2.8 1.2 1.6

Total 137.6 47.9 89.7

Source: IRS officials. 

In setting certain user fees, IRS must follow Internal Revenue Code (IRC) 

Section 7528, which authorizes user fees for letter rulings, opinion letters, 

determination letters, and similar requests.13 IRC Section 7528 requires that 

user fees (1) vary according to categories or subcategories, (2) take into 

account the average time and difficulty of requests by categories or 

subcategories, (3) be payable in advance, and (4) be subject to appropriate 

exemptions and reduced fees within limits specified by Section 7528. IRS 

is precluded from expending any fees collected pursuant to IRC Section 

7528 unless provided by an appropriations act. As mentioned earlier, the 

1995 Treasury Appropriation Act specifies that IRS can keep a maximum 

of $119 million per year in user fee collections. 

 13 Section 7528 was added to the Code by section 202 of the Temporary Assistance 

for Needy Families Block Grant Program, Pub. L. 108-89, and was extended to 

September 30, 2014, by section 690 of the American Jobs Creation Act of 2004, 

Pub. L. 108-357. 
Page 18 GAO-05-707T 

OMB Circular A-25, User Charges, establishes general federal policy for 

user fees assessed for government services by executive branch agencies.14

A-25 requirements include (1) identifying services and activities that 

convey special benefits; (2) determining their full cost or market price, as 

appropriate; (3) biennial reviews of user fees for unanticipated cost or 

market price changes; and (4) biennial reviews of agency programs not 

subject to user fees to determine if such fees should be assessed. 

Private debt collection provides another example of a revenue 

enhancement model that may be useful for IRS. The 2004 American Jobs 

Creation Act permitted IRS to contract with private collection agencies 

(PCA) to collect some federal tax debts and allows IRS to keep a portion 

of the funds collected by PCAs.15 PCAs will not replace IRS’s own 

collection resources, but will handle cases that do not require enforcement 

action or discretion in resolving tax liabilities. According to IRS, the 

private debt collection program will help reduce the significant and 

growing amount of uncollectable cases that are not currently collected, 

and enable IRS to focus existing resources to address more difficult cases. 

IRS will begin a limited implementation phase of the private debt 

collection in 2005, and full implementation is planned for 2007. The law 

allows IRS to retain and use up to 25 percent of any amounts collected to 

pay for collection services and IRS collection enforcement activities. IRS 

expects to retain $10 million of PCA collections in fiscal year 2007 and 

more in later years. 

IRS has leveraged nonfederal resources to make improvements to 

taxpayer service and tax law enforcement. The examples below highlight 

the variety of such leveraging and could provide a basis for exploring 

whether additional such opportunities exist. 

One example involving taxpayer service is the Free File Alliance. In 2003 

IRS entered into a 3-year agreement with the Free File Alliance, a 

consortium of tax preparation companies that provides free electronic 

filing to taxpayers who access any of the companies via a link on IRS’s 

 14 Circular A-25 applies to executive branch agencies assessing charges under the general 

user fee statute enacted in the Independent Offices Appropriations Act of 1952 and codified 

at 31 U.S.C. 9701. The circular also provides guidance to agencies imposing user fees under 

other statutes to the extent that the circular is not inconsistent with the statute in question. 

15 The American Jobs Creation Act of 2004, P.L. 108-357. 

Leveraging Nonfederal 

Partners Is Another Way to 

Accomplish More 
Page 19 GAO-05-707T 

Web site. IRS has benefited from this partnership because it encourages 

electronic filing of tax returns. For example, as of March 16, 2005, 

3.6 million tax returns had been filed via Free File, which represents a 

44 percent increase over the same time period last year. 

IRS has also established partnerships with states and several cities to 

assist in combating abusive tax schemes.16 In September 2003, IRS 

announced the establishment of a nationwide partnership to combat 

abusive tax avoidance. Under agreements with individual states, IRS 

shares information on abusive tax avoidance transactions and those 

taxpayers who participate in them. The agreements creating this 

partnership were designed to enable States and IRS to move more 

aggressively in addressing this tax compliance problem. The partnership 

also includes joint public outreach activities to more effectively counter 

the claims of those marketing tax schemes. 

Another example of IRS’s effort to leverage nonfederal resources is the 

over 13,500 volunteer sites run by community-based coalitions. IRS awards 

grants, trains and certifies volunteers, and provides reference materials, 

computer software and, in some cases, computers to these volunteer 

organizations to assist primarily low-income and elderly taxpayers prepare 

their returns. Since 2001, the number of taxpayers seeking return 

preparation assistance at volunteer sites has increased an average of 

19 percent per year. During the 2004 filing season, taxpayers had over five 

times more returns prepared at volunteer sites than at IRS walk-in sites. 

This trend reflects IRS’s strategy to shift return preparation to sites staffed 

by volunteer and community-based coalitions that are overseen by IRS. 

IRS has encouraged the shift by advertising the locations of these sites. 

As we noted earlier, the shift of taxpayers from walk-in to volunteer sites 

is important because it has transferred time-consuming services, 

particularly return preparation, from IRS to volunteer sites and allowed 

IRS to concentrate on services that only it can provide, such as account 

assistance or compliance work. However, as we also noted earlier, there 

have been concerns raised about the quality of service at both walk-in and 

 16 Abusive tax schemes encompass distortions of the tax system such as falsely describing 

the law (saying, for example, that the income tax is unconstitutional), misrepresenting 

facts (for instance, promoting the deduction of personal expenses as business expenses), 

or using trusts or offshore bank accounts to hide income. 
Page 20 GAO-05-707T 

volunteer sites. In addition, in her January 2005 report,17 the Taxpayer 

Advocate expressed concern about the reduction of face-to-face services, 

such as those offered at walk-in sites. She stated that IRS’s plan does not 

adequately provide for the segment of the population that continues to rely 

on the interaction provided by walk-in sites. Better data about the quality 

of service at volunteer sites would provide a baseline for making decisions 

about how to better manage quality. 

For at least two reasons, this is an opportune time to review the menu of 

taxpayer services that IRS provides. First, IRS’s budget for taxpayer 

services was reduced in 2005 and an additional reduction is proposed for 

2006. These reductions have forced IRS to propose scaling back some 

services, including the hours of telephone contact availability. Second, as 

we have reported, IRS has made significant progress in improving the 

quality of its taxpayer services. For example, IRS now provides many 

Internet services that did not exist a few years ago, and has noticeably 

improved the quality of telephone services. This opens up the possibility of 

maintaining the overall level of taxpayer service but with a different menu 

of service choices. Cuts in selected services could be offset by the new and 

improved services. 

Generally, as indicated in the budget, the menu of taxpayer services that 

IRS provides covers assistance, outreach, and processing. Assistance 

includes answering taxpayer questions via telephone, correspondence, and 

face to face at its walk-in sites. Outreach includes educational programs 

and the development of partnerships. Processing includes issuing millions 

of tax refunds. 

When considering program reductions, we support a targeted approach 

rather than across-the-board cuts.18 A targeted approach helps reduce the 

risk that effective programs are reduced or eliminated while ineffective or 

lower priority programs are maintained. 

With the above reasons in mind for reconsidering IRS’s menu of services, 

we have compiled a list of options for targeted reductions in taxpayer 

 17 National Taxpayer Advocate, 2004 Annual Report to Congress (Washington, D.C.: 

Dec. 31, 2004) 

18 GAO, 21st Century Challenges: Reexamining the Base of the Federal Government, 

GAO-05-325SP (Washington, D.C.: February 2005). 

Prioritizing Taxpayer 

Service Could Minimize 

Impacts of Budget Cuts 
Page 21 GAO-05-707T 

service. The options on this list are not recommendations, but are 

intended to contribute to a dialogue about the tradeoffs faced when setting 

IRS’s budget. The options presented meet at least one of the following 

criteria that we generally use to evaluate programs or budget requests.19

These criteria include that the activity: 

• duplicates other efforts that may be more effective and/or efficient; 

• historically does not meet performance goals or provide intended results 

as reported by GAO, TIGTA, IRS, or others; 

• experiences a continued decrease in demand; 

• lacks adequate oversight, implementation and management plans, or 

structures and systems to be implemented effectively; 

• has been the subject of actual or requested funding increases that cannot 

be adequately justified; or 

• has the potential to make an agency more self-sustaining by charging user 

fees for services provided. 

We recognize that the options listed below involve tradeoffs. In each case, 

some taxpayers would lose a service they use. However, the savings could 

be used to help maintain the quality of other services. We also want to give 

IRS credit for identifying savings, including some on this list. The options 

include the following: 

• Closing walk-in sites. As discussed previously, taxpayer demand for walkin services has continued to decrease and staff answer a more limited 

number of tax law questions in person than staff answer via telephone. 

• Limiting the type of telephone questions answered by IRS assistors. IRS 

assistors still answer some refund status questions even though IRS 

provides automated answers via telephone and its Web site. 

• Mandating electronic filing for some filers such as paid preparers or 

businesses. As noted, efficiency gains from electronic filing have enabled 

IRS to consolidate paper processing operations. 

• Charging for services. For example, IRS provides paid preparers with 

information on federal debts owed by taxpayers seeking refund 

anticipation loans. 

 19 The derivation of these criteria is detailed in our earlier testimony, Internal Revenue 

Service: Assessment of Fiscal Year 2006 Budget Request and Interim Results of the 2005 

Filing Season, GAO-05-416T (Washington, D.C.: Apr 14, 2005). 
Page 22 GAO-05-707T 

Multiple enforcement strategies could help IRS reduce the tax gap. Given 

its size, even small or moderate reductions in the net tax gap could yield 

substantial returns. For example, based on IRS’s most recent estimate, a 

1 percent reduction in the net tax gap would likely yield more than 

$2.5 billion annually. 

Although reducing the tax gap may be an attractive means to improve the 

nation’s fiscal position, achieving this end will be a challenging task given 

persistent levels of noncompliance. IRS has made efforts to reduce the tax 

gap since the early 1980s; yet the tax gap is still large—although without 

these efforts it could be even larger. Also, IRS is challenged in reducing the 

tax gap because the tax gap is spread across the five different types of 

taxes that IRS administers, and a substantial portion of the tax gap is 

attributed to taxpayers who are not subject to withholding or information 

reporting requirements. Moreover, as we have reported in the past,20

closing the entire tax gap may not be feasible or desirable, as it could 

entail more intrusive recordkeeping or reporting than the public is willing 

to accept or more resources than IRS is able to commit. 

Although much of the tax gap that IRS currently recovers is through 

enforcement actions, a sole focus on enforcement will not likely be 

sufficient to further reduce the net tax gap. Rather, the tax gap must be 

attacked on multiple fronts and with multiple strategies on a sustained 

basis. For example, efforts to simplify the tax code and otherwise alter 

current tax policies may help reduce the tax gap by making it easier for 

individuals and business to understand and voluntarily comply with their 

tax obligations. For instance, reducing the multiple tax preferences for 

retirement savings or education assistance might ease taxpayers’ burden 

in understanding and complying with the rules associated with these 

options. Also, simplification may reduce opportunities for tax evasion 

through vehicles such as abusive tax shelters. For any given set of tax 

policies, IRS’s efforts to reduce the tax gap and ensure appropriate levels 

of compliance will need to be based on a balanced approach of providing 

service to taxpayers and enforcing the tax laws. 

Furthermore, providing quality services to taxpayers is an important part 

of any overall strategy to improve compliance and thereby reduce the tax 

 20 GAO, Taxpayer Compliance: Analyzing the Nature of the Income Tax Gap, 

GAO/T-GGD-97-35 (Washington, D.C.; Jan. 9, 1997). 

Targeting Enforcement 

Could Make More Efficient 

Use of Resources 
Page 23 GAO-05-707T 

gap. As we have reported in the past,21 one method of improving 

compliance through service is to educate taxpayers about confusing or 

commonly misunderstood tax requirements. For example, if the forms and 

instructions taxpayers use to prepare their taxes are not clear, taxpayers 

may be confused and make unintentional errors. One method to ensure 

that forms and instructions are sufficiently clear is to test them before use. 

However, we reported in 2003 that IRS had tested revisions to only five 

individual forms and instructions from July 1997 through June 2002, 

although hundreds of forms and instructions had been revised in 

2001 alone.22

Finally, in terms of enforcement, IRS will need to use multiple strategies 

and techniques to find noncompliant taxpayers and bring them into 

compliance. One pair of tools has been shown to lead to high levels of 

compliance: withholding tax from payments to taxpayers and having third 

parties report information to IRS and the taxpayers on income paid to 

taxpayers. For example, banks and other financial institutions provide 

information returns (Forms 1099) to account holders and IRS showing the 

taxpayers’ annual income from some types of investments. Similarly, most 

wages, salaries, and tip compensation are reported by employers to 

employees and IRS through Form W-2. Preliminary findings from NRP 

indicate that more than 98.5 percent of these types of income are 

accurately reported on individual returns. 

Regularly measuring compliance can offer many benefits, including 

helping IRS identify new or major types of noncompliance, identify 

changes in tax laws and regulations that may improve compliance, more 

effectively target examinations of tax returns or other enforcement 

programs, understand the effectiveness of its programs to promote and 

enforce compliance, and determine its resource needs and allocations. For 

example, by analyzing 1979 and 1982 compliance research data, IRS 

identified significant noncompliance with the number of dependents 

claimed on tax returns and justified a legislative change to address the 

noncompliance. As a result, for tax year 1987, taxpayers claimed about 

5 million fewer dependents on their returns than would have been 

expected without the change in law. In addition, tax compliance data are 

 21 GAO/T-GGD-97-35. 

22 GAO, Tax Administration: IRS Should Reassess the Level of Resources for Testing 

Forms and Instructions, GAO-03-486 (Washington, D.C.: Apr. 11, 2003). 
Page 24 GAO-05-707T 

useful outside of IRS for tax policy analysis, revenue estimating, 

and research. 

IRS research officials have proposed a compliance measurement 

study that will allow IRS to update underreporting estimates involving 

flow-through entities. This study, which IRS intends to begin in fiscal 

year 2006, would take 2 to 3 years to complete. Because either individual 

taxpayers or corporations may be recipients of income (or losses) from 

flow-through entities, this study could affect IRS’s estimates for the 

underreporting gap for individual and corporate income taxes. 

While these data and methodology updates could improve the tax gap 

estimates, IRS has no documented plans to periodically collect more or 

better compliance data over the long term. Other than the proposed study 

of flow-through entities, IRS does not have plans to collect compliance 

data for other segments of the tax gap. Also, IRS has indicated that given 

its current research priorities, it would not begin another NRP study of 

individual income tax returns before 2008, if at all, and would not 

complete such a study until at least 2010. When IRS initially proposed the 

NRP study, it had planned to study individual income tax underreporting 

on a 3-year cycle. 

According to IRS officials, IRS has not committed to regularly collecting 

compliance data because of the associated costs and burdens. Taxpayers 

whose returns are examined through compliance studies such as NRP 

bear costs in terms of time and money. Also, IRS incurs costs, including 

direct costs and opportunity costs—revenue that IRS potentially forgoes 

by using its resources to examine randomly selected returns, which may 

include returns from compliant taxpayers, as opposed to traditional 

examinations that focus on taxpayer returns that likely contain 

noncompliance and may more consistently produce additional tax 

assessments. 

Although the costs and burdens of compliance measurement are legitimate 

concerns, as we have reported in the past, we believe compliance studies 

to be good investments. Without current compliance data, IRS is less able 

to determine key areas of noncompliance to address and actions to take to 

maximize the use of its limited resources. The lack of firm plans to 

continually obtain fresh compliance data is troubling because the 

frequency of data collection can have a large impact on the quality and 
Page 25 GAO-05-707T 

utility of compliance data. As we have reported in the past, the longer the 

time between compliance measurement surveys, the less useful they 

become given changes in the economy and tax law.23

In designing its recently completed NRP study, IRS balanced the costs, 

burdens, and compliance risk of studying that area of the tax gap. Any 

plans for obtaining and maintaining reasonably current information on 

compliance levels for all portions of the tax gap would similarly need to 

take into account costs, burdens, and compliance risks in determining 

which areas of compliance to measure and the scope and frequency of 

such measurement. 

The NRP survey had an added benefit of including the use of casebuilding 

to aid examiners in determining whether IRS needs to have any contact 

with taxpayers to verify the accuracy of information reported on their tax 

returns. The casebuilding tools consisted of data from both IRS and thirdparty sources. IRS’s NRP casebuilding included return information from 

the prior 3 years, audit history, payment and filing history, information 

return data reported by third parties (banks, lending institutions, and 

others), and bank reports on large cash transactions. NRP casebuilding 

tools also included data from third-party sources, such as external public 

database containing real estate and other asset ownership information 

(e.g., motor vehicle registrations and ownership of luxury items like 

watercraft and aircraft). Another third-party data source was the 

Dependent Data Base, which is a combination of Department of Health 

and Human Services and Social Security Administration data. These data 

were used to provide custody information that can be used to help 

determine the validity of dependent and Earned Income Tax Credit (EITC) 

claims. Use of these data helped IRS enforcement staff to rule out 

compliance issues that could be verified without contacting taxpayers. 

As IRS moves to further strengthen enforcement and introduce 

enforcement initiatives, one management challenge will be coordinating 

across IRS programs and offices. An initiative that identifies 

noncompliance has resource implications for downstream activities such 

as collections, criminal investigations, and appeals. Without appropriate, 

coordinated follow-up, compliance initiatives run the risk of becoming 

toothless. IRS has experienced this sort of imbalance in the past. For 

 23 GAO, IRS Plans to Measure Tax Compliance Can Be Improved, GAO/GGD-93-52

(Washington, D.C.: Apr. 5, 1993). 
Page 26 GAO-05-707T 

example, in 2002 we reported on the growing backlog of collections cases 

generated by the upstream exam and assessment functions that the 

downstream collections function lacked the capacity to pursue.24

Managing a federal agency as large and complex as IRS requires managers 

to constantly weigh the relative costs and benefits of different approaches 

to achieving the goals mandated by the Congress. Management is 

constantly called upon to make important long-term strategic as well as 

daily operational decisions about how to make the most effective use of 

the limited resources at its disposal. As constraints on available resources 

increase, these decisions become correspondingly more challenging and 

important. In order to rise to this challenge, management needs to have at 

its disposal current and accurate information upon which to base its 

decisions, and to enable it to monitor the effectiveness of actions taken 

over time so that appropriate adjustments can be made as conditions 

change. 

However, in its ongoing effort to make such increasingly difficult resource 

allocation decisions and defend those decisions before the Congress, IRS 

management has long been hampered by a lack of current and accurate 

information concerning the costs of the various options being considered. 

This has impaired management’s ability to properly decide which, if any, 

of the options at hand are worth the cost relative to the expected benefits. 

For example, accurate and timely cost information may help IRS consider 

changes in the menu of taxpayer services that it provides by identifying 

and assessing the relative costs, benefits, and risks of specific projects. 

Without reliable cost information, IRS’s ability to make such difficult 

choices in an informed, reasoned manner is seriously impaired. Similarly, 

IRS should periodically reassess the prices it charges taxpayers in user 

fees for various services, such as entering into installment agreements and 

making determinations about the tax exemption status of certain 

organizations. The cost of providing such services is supposed to be a 

major factor in setting the related fees. However, without timely and 

reliable cost information, the basis for the fees becomes problematic. 

The lack of reliable cost information also means that IRS cannot prepare 

cost-based performance measures to assist in measuring the effectiveness 

of its programs over time. 

 24 Tax Administration: Impact of Compliance and Collection Declines on Taxpayers, 

GAO-02-674 (Washington, D.C.: May 22, 2002). 

Accurate Cost Information 

Would Help IRS Make 

Resource Allocation 

Decisions 
Page 27 GAO-05-707T 

IRS lacks reliable and timely cost information because prior to fiscal year 

2005, it did not have a cost accounting system to accumulate and report 

the reliable cost information that managers needed to support informed 

decision making. Instead, management often relied on a combination of 

the limited existing cost information; the results of special analysis 

initiated to establish the full cost of a specific, narrowly defined task or 

item; and estimates based on the best judgment of experienced staff. In 

fiscal year 2005, IRS implemented a cost accounting module as part of the 

first release of its IFS. However, while this module has much potential and 

has begun accumulating cost information, management has not yet 

determined what the full range of its cost information needs are or how 

best to tailor the capabilities of this module to serve those needs. IRS has 

also not yet implemented a related workload management system 

intended to provide the cost module with detailed personnel cost 

information. In addition, because it generally takes several years of 

historical cost information to support meaningful estimates and 

projections, IRS cannot yet rely on this system as a significant planning 

tool. It will likely require several years and implementation of additional 

components of IFS before the full potential of IRS’s cost accounting 

module will be realized. In the interim, IRS decision making will continue 

to be hampered by inadequate underlying cost information. 

IRS needs to make the most use of its available resources and a key to this 

is improved productivity. Productivity is defined as the efficiency with 

which inputs are used to produce outputs. It is measured as the ratio of 

outputs to inputs. Productivity and cost are inversely related—as 

productivity increases, average costs decrease. Consequently, information 

about productivity can inform budget debates as a factor that explains the 

level or changes in the cost of carrying out different types of activities. 

Improvements in productivity either allow more of an activity to be carried 

out at the same cost or the same level of activity to be carried out at a 

lower cost. 

Sound productivity data are an important element of meaningful 

productivity improvement efforts. As part of our review of IRS process 

improvement initiatives,25 private sector executives we met with stressed 

the benefits of productivity analysis. They said that an inadequate 

 25 GAO, Tax Administration: Planning for IRS’s Enforcement Process Changes Include 

Many Key Steps But Can Be Improved, GAO-04-287 (Washington, D.C.: Jan. 20, 2004). 

Productivity 

Improvements Could Help 

Offset Budget Cuts 
Page 28 GAO-05-707T 

understanding of productivity makes it harder to distinguish processes 

with a potential for improvement from those without such potential. 

GAO’s Business Process Reengineering Assessment Guide also highlighted 

the importance of being able to identify processes that are in greatest need 

of improvement.26

Opportunities exist to improve enforcement productivity data and give 

IRS managers a more informed basis for decisions on how to make 

improvements. Statistical methods that are widely used in both the public 

and private sectors can be used to adjust productivity measures for quality 

and complexity. In particular, by using these methods, managers can 

distinguish productivity changes that represent real efficiency gains or 

losses from those that are due to changes in quality standards. These 

methods could be implemented using data currently available at IRS. The 

cost of implementation would be chiefly the staff time required to adapt 

the statistical models. Although the computations are complex, the 

methods can be implemented using existing software. We currently have 

under way a separate study that illustrates how these methods can be used 

to create better productivity measures at IRS. 

The BSM program has a long history of significant cost increases and 

schedule delays, which, in part, has led us to report this program as high 

risk since 1995.27 In January 2005 letters to congressional appropriation 

committees, IRS stated that it had showed a marked improvement in 

significantly reducing its cost variances. In particular, IRS claimed that it 

reduced the variance between estimated and actual costs from 33 percent 

in fiscal year 2002 to 4 percent in fiscal year 2004. However, we do not 

agree with the methodology used in the analysis supporting this claim. 

Specifically, (1) the analysis did not reflect actual costs, but instead 

reflected changes in cost estimates (i.e., budget allocations) for various 

BSM projects; (2) IRS aggregated all of the changes in the estimates 

associated with the major activities for some projects, such as CADE, 

which masked that monies were shifted from future activities to cover 

increased costs of current activities; and (3) the calculations were based 

on a percentage of specific fiscal year appropriations, which does not 

reflect that these are multiyear projects. 

 26 GAO, Business Process Reengineering Assessment Guide, GAO/AIMD-10.1.15

(Washington, D.C.: April 1997). 

27 GAO-05-207. 

Additional Management 

Improvements Needed for 

BSM Success 
Page 29 GAO-05-707T 

In February 2002 we expressed concern over IRS’s cost and schedule 

estimating and made a recommendation for improvement.28 IRS and its 

prime systems integration support (PRIME) contractor have taken action 

to improve their estimating practices, such as developing a cost and 

schedule estimation guidebook and developing a risk-adjustment model to 

include an analysis of uncertainty. These actions may ultimately result in 

more realistic cost and schedule estimates, but our analysis of IRS’s 

expenditure plans29 over the last few years shows continued increases in 

estimated project life-cycle costs (see fig. 4). 

 28 GAO, Business Systems Modernization: IRS Needs to Better Balance 

Management Capacity with Systems Acquisition Workload, GAO-02-356

(Washington, D.C.: Feb. 28, 2002). 

29 BSM funds are unavailable until the IRS submits to congressional appropriations 

committees for approval a modernization expenditure plan that (1) meets the OMB’s 

capital planning and investment control review requirements; (2) complies with IRS’s 

enterprise architecture; (3) conforms with IRS’s enterprise life-cycle methodology; (4) is 

approved by IRS, the Department of the Treasury, and OMB; (5) is reviewed by GAO; and 

(6) complies with acquisition rules, requirements, guidelines, and systems acquisition 

management practices. 
Page 30 GAO-05-707T 

Figure 4: Life-cycle Cost Estimates for Key BSM Projects 

The Assistant Chief Information Officer (CIO) for BSM stated that IRS’s 

cost and schedule estimating has improved in the past year. Our 

comparison of IRS’s reported project costs and milestone completion 

dates presented in the July 2004 and April 2005 expenditure plans shows 

that two BSM projects, CADE Releases 1.1 and 1.2, were delivered at the 

estimated cost and on or before the scheduled completion dates projected 

in the July 2004 expenditure plan. It is important to note that this recent 

success is based on project cost and schedule estimates that were rebaselined in the second quarter of fiscal year 2004 with delivery dates in 

late fiscal year 2004 and early fiscal year 2005. It is too early to tell whether 

this signals a fundamental improvement in IRS’s ability to accurately 

forecast project costs and schedules. 

The reasons for IRS’s cost increases and schedule delays vary. However, 

we have previously reported that they are due, in part, to weaknesses in 

management controls and capabilities. We have previously made 

recommendations to improve BSM management controls, and IRS has 

Estimates (dollars in millions)

Date expenditure plans submitted to the Congress (month/year) 

Source: GAO analysis of IRS data.

0

20

40

60

80

100

120

140

160

180

200

Integrated Financial System, Release 1

Custodial Accounting Project, Release 1

Modernized e-File, Release 1

e-Services

Customer Account Data Engine, Release 1

11/01 11/02 3/03 9/03 1/04 7/04
Page 31 GAO-05-707T 

implemented or begun to implement these recommendations. For 

example, in February 2002, we reported that IRS had not yet defined or 

implemented an information technology human capital strategy, and 

recommended that IRS develop plans for obtaining, developing, and 

retaining requisite human capital resources.30 In August 2004, the current 

Associate CIO for BSM identified the completion of a human capital 

strategy as a high priority. Among the activities that IRS is in the process 

of implementing are prioritizing its BSM staffing needs and developing a 

recruiting plan. IRS has also identified, and is in the process of addressing, 

other major management challenges. For example, poorly defined 

requirements have been among the significant weaknesses that have been 

identified as contributing to project cost overruns and schedule delays. As 

part of addressing this problem, in March 2005, the IRS BSM office 

established a requirements management office, although a leader has not 

yet been hired. 

The BSM program is undergoing significant changes as it adjusts to 

reductions in its budget. Figure 5 illustrates the BSM program’s requested 

and enacted budgets for fiscal years 2004 through 2006.31 For fiscal year 

2005, IRS received about 29 percent less funding than it requested (from 

$285 million to $203.4 million). According to the Senate report for the 

fiscal year 2005 Transportation, Treasury, and General Government 

appropriations bill, in making its recommendation to reduce BSM funding, 

the Senate appropriations committee was concerned about the program’s 

cost overruns and schedule delays. In addition, the committee emphasized 

that in providing fewer funds, it wanted IRS to focus on its highest priority 

projects, particularly CADE.32 In addition, IRS’s fiscal year 2006 budget 

request reflects an additional reduction of about 2 percent, or about 

$4.4 million, from the fiscal year 2005 appropriation. 

 30 GAO, Business Systems Modernization: IRS Needs to Better Balance Capacity With 

Systems Acquisition Workload, GAO-02-356 (Washington, D.C.: Feb. 28, 2002). 

31 IRS uses the appropriated funds to cover contractor costs related to the BSM program. 

IRS funds internal costs for managing BSM with another appropriation. These costs are not 

tracked separately for BSM-related activities. 

32U.S. Senate, Senate Report 108-342. 

IRS Is Adjusting the BSM 

Program in Response to 

Budget Reductions 
Page 32 GAO-05-707T 

Figure 5: Changes in the BSM budget (dollars in millions) 

Note: The BSM account authorizes funds to be obligated for 3 years. 

Source: IRS.

FY04

FY05

FY06

Management reserve

FY04

FY05

FY06

Customer Account Data Engine

FY04

FY05

FY06

No funds requested for FY05

No funds requested for FY06

Custodial Accounting Project

FY04

FY05

FY06

No funds requested for FY05

No funds requested for FY06

Integrated Financial System

FY04

FY05

FY06

Core infrastructure projects

FY04

FY05

FY06

Architecture, integration, 

and management 

FY04

FY05

FY06

Modernized e-File

FY04

FY05

FY06 No funds appropriated for FY05

Filing and Payment Compliance

FY04

FY05

FY06 No funds requested for FY06

e-Services

Requested

Millions of dollars

Enacted

0 10 20 30 40 50 60 70 80 90 100
Page 33 GAO-05-707T 

It is too early to tell what effect the budget reductions will ultimately have 

on the BSM program. However, the significant adjustments that IRS is 

making to the program to address these reductions are not without risk, 

could potentially impact future budget requests, and will delay the 

implementation of certain functionality that was intended to provide 

benefit to IRS operations and the taxpayer. For example, 

• Reductions in management reserve/project risk adjustments. In response 

to the fiscal year 2005 budget reduction, IRS reduced the amount that it 

had allotted to program management reserve and project risk adjustments 

by about 62 percent (from about $49.1 million to about $18.6 million).33

If BSM projects have future cost overruns that cannot be covered by the 

depleted reserve, this reduction could result in (1) increased budget 

requests in future years or (2) delays in planned future activities 

(e.g., delays in delivering promised functionality) to use those allocated 

funds to cover the overruns. 

• Shifts of BSM management responsibility from the PRIME contractor to 

IRS. Due to budget reductions and IRS’s assessment of the PRIME 

contractor’s performance, IRS decided to shift significant BSM 

responsibilities for program management, systems engineering, and 

business integration from the PRIME contractor to IRS staff. For example, 

IRS staff are assuming responsibility for cost and schedule estimation and 

measurement, risk management, integration test and deployment, and 

transition management. There are risks associated with this decision. To 

successfully accomplish this transfer, IRS must have the management 

capability to perform this role. Although the BSM program office has been 

attempting to improve this capability through, for example, 

implementation of a new governance structure and hiring staff with 

specific technical and management expertise, IRS has had significant 

problems in the past managing this and other large development projects, 

and acknowledges that it has major challenges to overcome in this area. 

• Suspension of the Custodial Accounting Project (CAP). Although the 

initial release of CAP went into production in September 2004, IRS has 

decided not to use this system and to stop work on planned improvements 

due to budget constraints. According to IRS, it made this decision after it 

evaluated the business benefits and costs to develop and maintain CAP 

versus the benefits expected to be provided by other projects, such as 

CADE. Among the functionalities that the initial releases of CAP were 

expected to provide were (1) critical control and reporting capabilities 

 33 We did not include in our calculations reductions to specific project risk adjustment 

amounts that were made for reasons other than the fiscal year 2005 budget reduction. 
Page 34 GAO-05-707T 

mandated by federal financial management laws; (2) a traceable audit trail 

to support financial reporting; and (3) a subsidiary ledger to accurately 

and promptly identify, classify, track, and report custodial revenue 

transactions and unpaid assessments. With the suspension of CAP, it is 

now unclear how IRS plans to replace the functionality this system was 

expected to provide, which was intended to allow the agency to make 

meaningful progress toward addressing long-standing financial 

management weaknesses. IRS is currently evaluating alternative 

approaches to addressing these weaknesses. 

• Reductions in planned functionality. According to IRS, the fiscal year 

2006 funding reduction will result in delays in planned functionality for 

some of its BSM projects. For example, IRS no longer plans to include 

form 1041 (the income tax return for estates and trusts) in the fourth 

release of Modernized e-File, which is expected to be implemented in 

fiscal year 2007. 

The BSM program is based on visions and strategies developed in 2000 

and 2001. The age of these plans, in conjunction with the significant delays 

already experienced by the program and the substantive changes brought 

on by budget reductions, indicates that it is time for IRS to revisit its longterm goals, strategy, and plans for BSM. As we have previously reported, 

such an assessment would include an evaluation of when significant future 

BSM functionality would be delivered.34 IRS’s Associate CIO for BSM has 

recognized that it is time to recast the agency’s BSM strategy because of 

changes that have occurred subsequent to the development of the 

program’s initial plans. According to this official, IRS is in the process of 

redefining and refocusing the BSM program, and he expects this effort to 

be completed by the end of this fiscal year. However, clear milestones for 

completing these activities have not been defined and we plan to address 

this in our ongoing 2005 BSM expenditure plan review for the 

appropriations committees. 

Information security is a critical consideration for any organization that 

depends on information systems and computer networks to carry out its 

mission or business. It is especially important for government agencies 

where maintaining the public’s trust is essential. In December 2002, the 

Congress enacted the Federal Information Security Management Act of 

2002 (FISMA) to strengthen security of information and systems within 

 34 GAO-05-416T. 

IRS Needs to Remedy 

Serious Information 

Security Weaknesses over 

Taxpayer and Bank 

Secrecy Act Information 
Page 35 GAO-05-707T 

federal agencies.35 FISMA requires each agency to develop, document, and 

implement an agencywide information security program to provide 

information security for the information and systems that support the 

operations and assets of the agency. IRS relies extensively on 

interconnected information systems to perform vital functions, such as 

collecting and storing taxpayer data, calculating interest and penalties, and 

generating refunds. In addition to processing its own financial and tax 

information, IRS provides information processing support to the Financial 

Crimes Enforcement Network (FinCEN), a Treasury bureau responsible 

for administering and enforcing the Bank Secrecy Act (BSA) and its 

implementing provisions. 

While IRS has made progress in correcting or mitigating previously 

reported information security control weaknesses, serious control 

weaknesses continue to exist over key financial and tax processing 

information systems. For example, during our review of information 

security at IRS facilities in 2004,36 we determined that IRS corrected or 

mitigated 32 of the 53 weaknesses that we reported as unresolved at the 

time of our last review in 2002. In addition to the 21 previously reported 

weaknesses that remained uncorrected, we identified 39 new information 

security control weaknesses during this review that placed sensitive 

taxpayer and BSA data—including information related to financial crimes, 

terrorist financing, money laundering, and other illicit activities—at 

significant risk of unauthorized disclosure, modification, and destruction. 

These include the following: 

• Access controls over the mainframe computing environment provided no 

logical separation between IRS’s taxpayer data and FinCEN’s BSA data, 

allowing all 7460 mainframe users—IRS employees, non-IRS employees, 

and contractors—regardless of their official duties, the ability to read and 

modify taxpayer and BSA data, including information about citizens, law 

enforcement personnel, and individuals subject to investigation. Thus, IRS 

users could read or copy BSA information, and law enforcement users 

could read or copy taxpayer information. 

• User accounts and passwords were not adequately controlled to ensure 

that only authorized individuals had access to IRS’s servers and networks, 

 35 FISMA was enacted as title III, E-Government Act of 2002, Pub. L. No. 107-347, 116 

Stat. 2946 (Dec. 17, 2002). 

36 GAO, Information Security: Internal Revenue Service Needs to Remedy Serious 

Weaknesses over Taxpayer and Bank Secrecy Act Data, GAO-05-482 (Washington, D.C.: 

Apr. 15, 2005). 
Page 36 GAO-05-707T 

thereby increasing the risk that unauthorized users could gain authorized 

user ID and password combinations to claim a user identity and then use 

that identity to gain access to sensitive taxpayer or BSA data. 

• Audit and monitoring of security-related events on IRS’s servers suffered 

from insufficient retention of security logs, heightening the risk of 

unauthorized system activity going undetected. 

• Security over access to sensitive areas was jeopardized due to the lack of 

accountability over the issuance of master keys at an IRS facility, thereby 

increasing the likelihood that an unauthorized person could gain 

possession of a master key and use it to unlock sensitive computing areas 

within the facility. 

These information security control weaknesses exist primarily because 

IRS has not fully implemented an agencywide information security 

program to effectively protect the information and information systems 

that support the operations and assets of the agency. Consequently, these 

identified weaknesses in information security controls impair IRS’s ability 

to ensure the confidentiality, integrity, and availability of sensitive 

financial, taxpayer and FinCEN’s BSA data hosted at its facility. 

We made recommendations to the Secretary of the Treasury to direct the 

IRS Commissioner to take several actions to fully implement a 

comprehensive agencywide information security program and to 

determine whether taxpayer data have been disclosed to unauthorized 

individuals.37 In addition, we recommended that the Secretary of the 

Treasury direct the FinCEN Director to perform an assessment to 

determine whether BSA data have been disclosed to unauthorized 

individuals. The Acting Deputy Secretary of the Treasury generally agreed 

with the recommendations and identified specific completed and planned 

corrective actions, which we did not verify. 

IRS is operating in a difficult budget environment. On the one hand, its 

workload—represented by the number of returns and the complexity of 

those returns—is growing. On the other hand, IRS faces pressure to hold 

down spending. 

Addressing the resource challenges summarized in this statement can help 

policy makers assessing IRS’s budget. Long-term goals can help determine 

 37 GAO-05-482. 

Concluding 

Observation 
Page 37 GAO-05-707T 

overall budgetary requirements. Revenue enhancements and the 

leveraging of nonfederal resources can help, to some extent, meet those 

requirements. Productivity gains and successful new investments in 

systems can help ensure that existing resources are used as efficiently as 

possible, helping minimize the need for additional funding. Addressing 

these resource challenges does not promise a painless way out of difficult 

budget decisions. However, it could provide a clearer picture of the 

tradeoffs involved. 

Mr. Chairman, this concludes my testimony. I would be happy to answer 

any questions you may have at this time. 

For further information on this testimony, please contact James White on 

(202) 512-9110 or whitej@gao.gov. Individuals making key contributions to 

this testimony include Perry Datwyler, George Guttman, Tonia Johnson, 

David Lewis, Neil Pinney, Jeffrey Schmerling, Henry Sutanto, and 

Jenniffer Wilson. 

Contact and 

Acknowledgments 

(450411) 
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