Tax Administration: IRS's Efforts to Improve Compliance With Employment Tax Requirements Should Be Evaluated
Published: 2002-01-15T00:00:00

Fast Facts:

Highlights:
section_title: What GAO Found
paragraphs: Employers are required to withhold amounts from their employees' salary to cover individual federal income tax, Social Security, and Medicare taxes; match the amounts for Social Security and Medicare taxes; and deposit these amounts with the U.S. Treasury. In fiscal year 2000, the Internal Revenue Service (IRS) collected $1.3 trillion in this manner. Most employers withhold and deposit these taxes as required; however, the amount of unpaid employment taxes, penalty, and interest has grown significantly. IRS data show that in 1997, 1998, 1999, and 2000, delinquent employers owed about $3.2, $3.5, $4.4, and $5 billion, respectively, in unpaid employment taxes, penalties, and interest. The time IRS takes to notify employers of delinquent payment of employment taxes varies. On average, IRS takes about five weeks to initially notify employers regarding employment tax delinquencies after the Form 941 return is received. When employers fail to file Form 941 returns, IRS normally takes from 14 to 28 weeks to notify them of this delinquency. Aside from its usual efforts to educate and inform taxpayers of their responsibilities, IRS has four programs to prevent or reduce employers' tax delinquencies. Two of these programs were designed to achieve early contact with employers, and two were designed to identify employers with existing, multiple employment tax delinquencies and help them to return to compliance. To evaluate the effectiveness of these programs and to support informed judgments about whether to adopt new ones, IRS planned to compare compliance rates of test and control groups and to use customer surveys and focus groups. IRS' efforts to evaluate these programs are being adversely affected by, among other things, delays in obtaining reliable data. IRS officials did not identify any specific programs to improve employment tax intervention under IRS' ongoing effort to modernize its organizational structure, management processes, and information technology systems. However, certain aspects of its modernization effort have some future potential to improve intervention.

section_title: Letter
paragraphs: Employers are required to withhold amounts from their employees’ salary to cover individual federal income tax, Social Security, and Medicare taxes; match the amounts for Social Security and Medicare taxes; and deposit these amounts with the U.S. Treasury. In fiscal year 2000, the Internal Revenue Service (IRS) collected $1.3 trillion in this manner. Although the majority of employers withholds and deposits these taxes as required, for those who fail to do so, the amount of unpaid employment taxes, penalty and interest has grown significantly. As of September 30, 2001, IRS data show that in 1997, 1998, 1999, and 2000, delinquent employers owed about $3.2, $3.5, $4.4, and $5.0 billion, respectively, in unpaid employment taxes, penalties, and interest.
Although its data systems do not track what percentage of these unpaid employment taxes are attributable to small businesses, IRS considers employment tax compliance to be among the most challenging issues for small businesses. Small businesses may be challenged because their owners may not have sufficient capital or may lack experience or training in business tax obligations, making it difficult for these businesses to remain economically viable. According to Small Business Administration data, about 50 percent of new businesses fail to remain open for at least 4 years following their creation. When confronted with a choice between paying necessary operating expenses or depositing employment taxes, struggling businesses may opt to pay business expenses instead of taxes.
Employers who do not deposit employment taxes may gain an unfair advantage over those employers who comply voluntarily. Furthermore, noncompliant employers can accumulate substantial unpaid taxes with associated interest and penalties. Over time, these unpaid balances may compound beyond the employers’ ability to pay—ultimately placing their  businesses in greater financial jeopardy.
Because of your interest in IRS’ timely intervention to help employers-­ particularly those with a small business--avoid the pyramiding of taxes,  interest, and penalties, you asked us to review various aspects of IRS’  efforts to notify and intervene with employers concerning delinquent  employment taxes. Accordingly, this report discusses (1) how long IRS  takes to notify employers of employment tax delinquencies; (2) what types  of intervention programs and initiatives IRS uses for employers with  delinquent employment taxes and how IRS evaluates the effectiveness of  these efforts; and (3) what new intervention programs or initiatives IRS is  developing as part of its modernization efforts.
As described further in this report, the employment tax deposit  requirements vary by the amount of employment taxes an employer owes.  Employers with the smallest employment tax liabilities pay on a quarterly  basis; those with the largest liabilities pay the next banking day; and those  with intermediate-sized liabilities pay on a monthly or more frequent basis.  Generally, small businesses would tend to be heavily concentrated in the  employment tax deposit categories calling for less frequent payments.  Although employment taxes for many employers must be paid throughout  a calendar quarter, IRS’ ability to determine whether employers have paid  as frequently as required and in the amounts required is dependent on  employers filing the Employer’s Quarterly Federal Tax Return (Form 941  return).
subsections: section_title: Background
paragraphs: All employers must file their Form 941 returns quarterly, although some  are to make employment tax deposit on differing schedules during a  quarter. The form contains information concerning the tax deposits made  for a quarter and is generally due by the end of the month after the close of  the quarter. Until IRS receives and processes the Form 941 returns, it  cannot match tax deposits reported on the returns with its records of  deposits received. Once it matches this information, IRS notifies  employers of any delinquencies using a written notice. This is the  employers’ first statutory notice of the delinquency. If the employer fails to  respond to this first notice, IRS sends follow-up notices and may later  contact the employer by phone or, eventually, make a personal visit.  Although this entire process can take years for those employers who do  not respond, under IRS’ processing procedures, initial notices are sent  within several weeks after IRS receives the Form 941 return.
IRS provides a variety of outreach efforts to help employers understand  how to meet their tax obligations, many of which are designed to explain  requirements and to meet other needs of small business taxpayers. For  example, IRS makes tax forms with instructions and publications that  explain requirements available to taxpayers in a variety of formats  including hard copy, CD-ROM, and electronic form on the Internet. In  addition to conducting various workshops and seminars, many of which  are tailored to the needs of small businesses, IRS also recently established  a Web site specifically designed to address the needs of small business  taxpayers. Beginning in September 2001, IRS’ Web site allows employers  nationwide to use the Internet to deposit employment taxes via the  Electronic Federal Tax Payment System On-Line.
Current IRS strategies and program plans call for providing more services  to taxpayers, including employers, to prevent noncompliance. To that end,  IRS has shifted its focus from addressing compliance issues after returns  are filed to addressing them as early as possible, often through efforts to  better educate taxpayers about their tax responsibilities and to improve  forms, guidance, and other information available to taxpayers. This is  consistent with IRS’ strategic objectives to reduce taxpayer burden,  uncertainty, and errors by clarifying tax law responsibilities and resolving  issues early in the process. IRS believes that its efforts to reduce taxpayer  burden will show significant progress over the next 2 years and will be  further enhanced by its plans for long-term business systems  modernization.
section_title: Scope and Methodology
paragraphs: To determine how long IRS takes to contact employers after an  employment tax delinquency occurs, we analyzed the time between (1) the  receipt of a quarterly Form 941 return and IRS’ mailing of an initial  delinquency notice, (2) when a Form 941 was due and IRS’ mailing of a  delinquency notice when the employer fails to file a Form 941, and (3)  when the employers should have deposited employment taxes during a  quarter and IRS’ mailing of an initial delinquency notice. For all three  situations, we interviewed cognizant officials from IRS’ Small Business  and Self-Employed Division (SB/SE), IRS’ National Office, and various  field offices, and we obtained related documentation.
To determine the time between when a Form 941 return was due but not  filed and IRS’ mailing of initial delinquency notices and the time between  when an employer fails to make a deposit during a quarter and IRS’  mailing of a notice, we relied on the flowchart of IRS’ processes and  associated timeframes that we developed. We confirmed our summaries of  IRS’ processes and related timeframes necessary to notify employers of  delinquencies with appropriate IRS officials at the National Office, Atlanta  Service Center and the Martinsburg Computer Center. IRS did not have  data in its BMF One Percent Sample File that we could use to estimate  these timeframes.
To determine the length of time between when IRS receives the Form 941  return and the issuance of the initial notice to the employer, we analyzed data extracted from IRS’ Business Master File (BMF). The  data we used in this time analysis was extracted from an IRS data file  entitled the BMF One Percent Sample File. IRS uses this data file to  perform its own analysis of BMF information and to verify system  performance and output. IRS considers the results of analysis from the  BMF One Percent Sample data to be valid and uses the data file to  perform comparable analyses, however it does not use the data file to  make estimates projectable to the entire BMF. In addition, because we  did not have access to taxpayer data, we were not able to  independently verify taxpayer information contained in the data file.  IRS officials did not have programming resources available to extract a  random sample of employment tax-related delinquencies from the  BMF, thus IRS’ BMF One Percent Sample File provided the best  alternative for obtaining the data for the time analysis. In providing  delinquent employment tax information for the time analysis, IRS  extracted Form 941 return records and associated transaction date  information from the BMF One Percent Sample File. After removing  the employee identification numbers (EIN) from the file, IRS provided  us with a file containing transaction date information for the delinquent  Form 941 returns selected. The data used in the time analysis reflects  taxpayer account information from the BMF as of September 2001. For  tax years 1999 and 2000, over 66,000 account records were used in the  analysis. About 25,000 records were eliminated from the time analysis  because they were not posted to the BMF as normal Form 941 quarterly  returns. We also developed flowcharts to describe IRS’ processes and  associated timeframes for initially contacting delinquent employers to  further validate the BMF sample timeframe analysis; and verified the  accuracy of the flowchart with IRS officials. we reviewed and analyzed statistical information related to  employment taxes—including the number of Form 941 returns filed  based on amounts paid to determine the frequency of deposits. We also  reviewed and analyzed IRS employment tax-related collection policies  and procedures, obtained relevant publications and instructions, and  reviewed relevant IRS web pages and related reports.
To identify IRS’ current employment tax intervention programs and  program evaluation efforts, we interviewed appropriate IRS officials within SB/SE and other  operational groups who identified the following four intervention  programs: Mentoring and Monitoring, Federal Tax Deposit (FTD) Soft  Letter, ABC’s of FTDs, and FTD Alert Program; and obtained and discussed pertinent program documentation including  plans, progress reports, and schedules with IRS officials.
To determine IRS’ plans under modernization as they related to  employment tax intervention and evaluation efforts, we interviewed and discussed with cognizant IRS officials IRS’ business  system modernization efforts; and obtained and reviewed relevant documentation including IRS’ Strategic  Plan (Fiscal Year 2000-2005), and 2000 Progress Report-IRS Business  Systems Modernization Program .
You expressed interest in the level of resources IRS uses to contact  taxpayers with employment tax delinquencies. We researched this by  interviewing IRS officials and reviewing past reports by IRS and us. On the  basis of this work, we advised you that IRS’ financial and data systems do  not collect or produce such specific information. Currently, IRS cannot  isolate the resources it uses to notify employers having employment tax  delinquencies for specific form types such as the Form 941 return. As a  result, you suggested that we not pursue the resource issue at this time.
You also expressed interest in whether there are intervention programs  and initiatives in use at other federal agencies or relevant nonfederal  organizations that could serve as best practice models for IRS. We are not  reporting on this topic because during our review of eight federal agencies  and five state tax authorities we did not find any intervention programs or  initiatives that could serve as best practice models. The primary reason for  this is that many of the organizations under review had significantly  different procedures than IRS for formally identifying a delinquency. For  example, these organizations often have shorter collection cycles than IRS  which enables them to notify delinquent parties in less time than IRS. IRS’  collection cannot begin until after it receives the quarterly Form 941  returns.
This review primarily focuses on IRS’ intervention efforts as they relate to  the initial notification of employment tax delinquencies. In addition, the  review covers IRS’ efforts to intervene with taxpayers in order to educate  and inform them of their tax obligations and to expedite compliance. The  review did not cover IRS’ subsequent enforcement and collection activities  such as contacting delinquent employers through IRS’ Automated  Collection System (ACS) or contacts made by IRS’ collection  representatives in the field.
We performed our work from June 2000 through December 2001 in  accordance with generally accepted government auditing standards.
section_title: Time Taken to Initially Notify Employers Of Delinquencies Can Vary
paragraphs: The time IRS takes to notify employers of deposit or return delinquencies  and the amount of interest and penalty assessed is affected if employers  fail to meet two major employment tax responsibilities. Employers must  make periodic employment tax deposits during each quarter and file Form  941 returns by the last day of the month following the close of each  calendar quarter. The periodic deposits made throughout the quarter are  subsequently reported on the Form 941 returns. Filing these returns is  crucial because IRS determines compliance by matching its accounting  records of deposits made throughout the quarter with the deposit  information reported on the return. Consequently, failure to file Form 941  returns necessitates additional IRS processing and can further delay  employer notification of delinquencies thus increasing employers’ interest  and penalty charges. Based on IRS data and our discussions with IRS  officials, we found the following:  Our analysis of IRS’ data containing delinquent employment tax accounts  shows that IRS took an average of about 5 weeks from the date the Form  941 returns were filed to notify employers of a missed, late, or underpaid  deposit.
Based on our analysis of the steps IRS follows to detect and notify  employers of a failure to file a 941 return, which we confirmed with IRS  officials, we found that IRS normally takes from 14 to 28 weeks. During  the first two quarters of the calendar year, individual return processing  demands affect the time IRS takes to process these notices.
Following a similar analysis confirmed by IRS, we found that when  employers have delinquent deposits, IRS notification reaches most  employers from 3 to 23 weeks from the due date of the delinquent  deposit the exact time is primarily dependent upon when the deposit  involved was due. From the employers’ standpoint, the date of any missed  or underpaid deposit is important because IRS computes interest and  penalties from the date of the delinquent deposit.
subsections: section_title: IRS Takes Several Weeks to Notify Employers of Employment Tax Delinquencies
paragraphs: Our analysis of IRS’ delinquent employment tax data indicates that once  IRS receives Form 941 returns, it takes about 5 weeks to notify employers  of employment tax delinquencies. The time required to notify employers is  contingent on the date that employers file their Form 941 returns and the  ensuing IRS processing workload. Employers generally have until the end  of the month after the quarter closes to file their returns. During calendar  years 1999 and 2000, IRS received and processed about 5.7 million Form  941 returns per quarter. Using the 4th quarter of calendar year 2000 as an  example, IRS service centers began receiving and processing Form 941  returns in mid-January 2001, although most were received in the surge of  returns arriving at IRS service centers following the due date of January  31. Figure 1 shows the multiple steps involved in IRS’ weekly batch  processing of the Form 941 returns and the related time frames for each  step of processing 4th quarter returns.
section_title: Not Filing a Form 941 Return Further Delays Notification
paragraphs: When employers fail to file Form 941 returns, IRS takes longer to notify  them because it first processes timely-filed returns before it begins to  identify missing returns. In that regard, we found that IRS normally takes  from 14 to 28 weeks after the due date to notify employers of their failure  to file a Form 941 return. IRS officials concurred with that timeframe for  IRS to notify employers of these delinquencies. IRS officials added that the  time variance is due to differences of tax quarter workloads with the  heaviest workload falling in the first two quarters of the calendar year. In  response to increased workloads, IRS prioritizes the processing of  taxpayer notices by notifying employers with the greatest liability and with  repeated return delinquencies first.
These notices do not assess penalties or interest against the employers but  rather advise them that IRS has not received the Form 941 returns and ask  the employers for explanations. For employers who also have failed to  deposit taxes due, interest and penalties continue to accrue until they  become compliant.
section_title: Time From Date of Delinquent Deposit Affects Interest and Penalties
paragraphs: Although the receipt date of the Form 941 returns is key to IRS’ processing  and employer notification, interest and late penalties accrue from the date  of the employers’ delinquent deposits. Accordingly, delinquent deposits  from early in a quarter will result in higher interest and penalties than  delinquent deposits from later in the quarter.
Employers owing smaller amounts of employment taxes are allowed to  make less frequent deposits. As shown in table 1, in calendar year 2000,  about 71 percent of employers owed employment taxes of $50,000 or less  annually and could make deposits on a quarterly or monthly basis.  Conversely, 29 percent of employers owing more than $50,000 annually  had to deposit employment taxes more frequently. Employers who are in  this deposit category made 95 percent of the total employment tax  deposits.
Beginning January 1, 2001, more employers were allowed to pay  employment taxes quarterly as opposed to monthly or more frequently.
From that date, employers owing less than $2,500 (rather than $1,000)  could pay when they file their returns, reducing employer burden and  decreasing the chance for delinquencies and other mistakes. Had this  change been in effect during calendar year 2000, the number of employers  depositing quarterly would have increased from about 19 percent to about  37 percent.
Because these employers pay when they file their Form 941 return,  interest and penalties have less time to accrue before they receive a notice  concerning delinquencies. Therefore, these depositors would be subject to  less interest and penalty than employers who fail to make deposits during  the quarter before the form 941 return is due.
A reduction in the frequency of required deposits can decrease the amount  of time that interest and penalties can accrue. However, for employers  who are required to deposit employment taxes more frequently than either  monthly or quarterly, missing or underpaying their first payment in the  quarter allows interest and penalties to accumulate for a longer period of  time.
Table 2 shows the interest and penalty consequences for a hypothetical  monthly depositor and a depositor who pays more frequently during the  quarter, both of whom miss their first and last deposit due in the 4th  quarter. The table demonstrates the increased interest and penalty  amounts for missing deposits early in the quarter for both types of  depositors. It also shows that the impact is greater on depositors who pay  more frequently, as their deposits are due earlier in the quarter.
If employers fail to respond to the initial notice of a delinquency, interest  and penalty amounts can pyramid. For example, if employers fail to  deposit the correct amount within 10 days of receiving the notice, the  penalty increases from 10 to 15 percent of the delinquent deposit. Interest  continues to accrue until the deposit is paid. Generally, the late pay  penalty can accumulate up to 25 percent of the delinquent amount. Had  these employers also failed to file Form 941 returns, they would be subject  to an additional penalty of 4.5 percent per month, which could also  compound to 22.5 percent.
section_title: Efforts to Evaluate IRS Programs to Prevent or Reduce Tax Delinquency Have Monitoring, (2) Federal Tax Deposit (FTD) Soft Letter, (3) ABC’s of FTDs, Experienced Problems
paragraphs: IRS has developed several specific programs designed to intervene with  employers to help prevent employment tax delinquencies and reduce the  pyramiding of additional tax, interest, and penalty charges. IRS officials  identified four programs that specifically seek to intervene with employers  to prevent or reduce delinquent employment taxes: (1) Mentoring and and (4) FTD Alert. While the first three programs are in various stages of  completion, the fourth is an established program that is undergoing changes intended to improve it. To evaluate the effectiveness of these  programs, IRS planned to compare compliance rates of test and control  groups and to use customer surveys and focus groups. IRS has  experienced difficulties in completing performance evaluations for such  reasons as time delays in obtaining the data required to determine the  programs’ effectiveness. The programs and IRS’ evaluations of them are  discussed below.
Mentoring and Monitoring Program. This pilot program is IRS’ largest  recent effort to prevent employment tax delinquencies among new  employers. Under the program new employers are given special  educational materials at the time they receive their employer identification  number and some of these new employers receive follow-up monitoring.  IRS conducted this pilot program for more than 13,000 new employers in  four states (Kansas, New Mexico, Oklahoma, and Texas). The 2-year  program began in August 1999, and IRS expects to complete its evaluation  in early 2002.
IRS sent the special educational materials to two separate test groups of  new employers and offered additional services to the ones IRS considered  at higher risk of noncompliance. Every employer in the test groups  received educational materials that included a videotape, entitled “ABC’s  of FTDs;” a workbook concerning FTD requirements; and other  information to help new employers. Nearly 7,000 employers in test groups  considered higher risk were offered additional monitoring services, which  included assigning a Small Business Representative to act as a mentor to  to answer questions, provide forms and publications, and remind  employers of deposit and filing requirements during monthly monitoring  calls. Of the 1,716 employers that initially accepted IRS’ offer of these  services, about 800 remained in this part of the program at the time it was  discontinued in July 2001.
IRS planned a two-pronged evaluation, using customer surveys for the test  group and a comprehensive evaluation of compliance data comparing the  test and control groups. In contrast to the special materials and services  provided the test groups, employers in the control groups received only  the letter IRS normally sends when new employers request an EIN.
IRS planned to mail customer surveys to test employers in fiscal year 2000,  directly after the educational materials were delivered and the monitoring  services were under way. These surveys were designed to obtain the views  of test employers on the program materials and other services, but the  surveys were never conducted because of a lack of funding. As of October  2001, IRS had awarded a contract to have focus groups conducted in place  of the customer surveys; however, the focus groups were not expected to  be completed until mid-January 2002. The delays between the time that  materials and services were received and the time focus groups were to  provide their opinions could affect the usefulness of their responses.
IRS also plans to evaluate this program by comparing the compliance rate  of various risk categories of employees among the test group employers  and with corresponding categories within the control groups. Although it  has been delayed, IRS plans to begin evaluating the compliance data for  the test and control groups when they become available in late fall 2001.  The data will include such information as deposits made, returns filed,  delinquencies and resulting notices sent, and FTD penalties assessed. The  analysis of these data, along with a cost-benefit summary will be included  in the business analysis case that will be prepared to support  recommendations about the program’s future.
In an August 2001 audit report on the results of its review of the  Mentoring and Monitoring pilot, the Treasury Inspector General for Tax  Administration (TIGTA) reported that the program should help new  business taxpayers with their federal employment tax responsibilities.  TIGTA expressed concerns, however, about the program’s sampling  methodology, cost-effectiveness, and level of management oversight and  raised certain questions about expanding it nationwide at this time. Among  other things, TIGTA recommended that SB/SE Division management  should provide oversight for the remainder of the project, including the  planned business case analysis of the compliance results achieved under  the pilot.
FTD Soft Letter. This pilot program seeks to improve employers’  voluntary compliance through intervening much earlier than IRS’ long- standing FTD Alert Program allows. The FTD Soft Letter was sent only to  employers required to make deposits more frequently than monthly and  who appeared to have underpaid tax deposits during the quarter. Before  their quarterly Form 941 return was due, IRS sent these employers a letter  advising them of the potential discrepancy. IRS sent letters only to those  employers identified nationwide who had historically been compliant but  were assessed an FTD penalty in one of the past four quarters and paid it  but appeared to have made smaller than expected tax deposits in the  current quarter.
In October 2000, IRS sent a soft letter to 1,806 employers nationwide who  met the criteria. The letter included a phone number they could call to  request assistance, and a tear-off portion to notify IRS if they were no  longer in business or had no employees. In response, 339 of the 1,806  informed IRS that their businesses were defunct or no longer had  employees.
IRS originally planned to evaluate the compliance of the test group against  a control group of similar employers that had not received a soft letter. IRS  was to begin the evaluation in January 2001, with the final report due by  July 2002. As of October 2001, IRS had not begun the evaluation, and no  decision had been made on whether or not to proceed with it.
According to IRS officials, evaluation plans were disrupted as the result of  IRS’ ongoing reorganization. In that regard, responsibility for the soft letter  program was transferred from the now defunct Small Business Lab to the  SB/SE Division, established in October 2000. Although the program was  transferred in early 2001, IRS did not assign formal program responsibility  to the division until August 2001. In October 2001, newly assigned program  officials decided to evaluate the program to determine the program’s  effectiveness and possible future use. Current plans call for a report based  on four quarters of compliance data to be completed by April 2002.
The ABC’s of FTDs. This 2-hour class on FTD, including videotape  entitled “The ABC’s of FTDs” and a course workbook, was designed to  assist employers who experienced difficulties in staying compliant with  their federal tax deposit obligations. Employers were invited to attend  classes that were held in September 1998, February 1999, and June 1999 in  the Seattle metropolitan area. If employers attended the class and  remained compliant for two subsequent quarters, IRS excused them from  paying up to three tax quarters of the FTD penalties they had previously  incurred. However, only 28 of 315 employers invited to attend classes  actually did so, according to IRS data.
To analyze the pilot program, IRS established both a test group consisting  of those employers who attended the educational classes and received the  materials and various control groups that did not. IRS had planned to track  payment compliance for these groups through June 2001, but instead  concluded the evaluation in June 2000, using compliance data from five  quarters. IRS’ evaluation of the program revealed that employers made  more FTD deposits and filed fewer delinquent returns after attending the  classes; however, IRS could not attribute these improvements to class  attendance. The evaluation made several other points regarding the  program:
Low class attendance diminished the impact of the program.
The test group tended to make more deposits than the control groups,  even before they were invited to attend.
The employers who attended chose to come and, therefore, may have been  more motivated to be compliant.
The evaluation made several recommendations that have apparently not  been acted upon. The educational videotape and course workbook also  were used, however, as part of the Mentoring and Monitoring program  materials in an effort not only to educate employers but also to further  evaluate the materials’ effectiveness. As previously discussed, however,  the evaluation of this program, expected to be completed in mid-January  2002, is to be based on input from employer focus groups held more than a  year after IRS’ originally planned customer surveys.
FTD Alert. IRS’ FTD Alert program has existed since 1972 and is intended  to improve overall employment tax compliance. The current program’s  selection criteria identifies only those depositors who owe more than  $50,000 per year, have delinquencies resulting in FTD penalties in recent  quarters, and appear to have underpaid the current quarter. If the  employers have FTD penalties in the four previous quarters, IRS Revenue  Officers are required to contact them to help them understand deposit  requirements and the cost and consequences of not depositing as required.  Although the program provides IRS with an opportunity to intervene with  these employers concerning their delinquencies, several aspects of the  program have been criticized. IRS is in the early stages of addressing these  weaknesses, as discussed below.
Over the years, both our reports and IRS internal audit reports have been  critical of several aspects of the FTD Alert Program. For example, we  stated in a 1991 report that IRS lacked a tracking system to determine the  result of contacts made with delinquent employers, and IRS echoed this  same criticism in TIGTA’s 1998 internal report. Without such a system,  IRS cannot assess the effectiveness of the program. The IRS National  Office FTD analyst responsible for the program stated that a meeting is  planned in January 2002 to begin development of such a system.
As recommended by TIGTA in 1998, IRS’ research organization has been  exploring ways to improve the FTD Alert Program that may result in  current selection criteria being replaced. According to IRS, earlier efforts  have demonstrated some success in identifying the most collectible  delinquencies and prioritizing the workload to target those delinquencies.  IRS’ effort to improve employer selection criteria was to be completed in  mid-2000, but its information systems staff was unable to provide the  required data when it was originally requested owing to competing  priorities. IRS requires the data to develop algorithms based on the current  selection criteria that will, if successful, allow IRS to identify and prioritize  employers nationwide who are at risk of becoming delinquent. According  to IRS officials, the needed data were to be delivered by August 30, 2001.  IRS plans to test the algorithms during the winter, using test and control  groups, and evaluate them by spring 2002. By the end of June 2002, IRS  plans to prepare a final report detailing the methodology, findings, and  recommendations regarding the selection criteria.
section_title: IRS’ Ongoing Modernization Could Improve Intervention With Employers
paragraphs: IRS’ ongoing modernization efforts do not currently include any programs  specifically designed to improve IRS’ notification to employers with tax  delinquencies. However, sweeping organizational changes and information  system improvements may in the future reduce taxpayer burden and  improve compliance. These changes are not expected to be completed in  the near term but will be phased in over the next several years.  Information system improvements may help IRS to notify employers of tax  delinquencies more quickly and effectively, but implementation is not  expected to begin for business returns, such as the Form 941 returns, until  at least 2005.
subsections: section_title: Organizational Changes Could Begin to Help Employers
paragraphs: IRS is making major organizational changes designed to reduce taxpayer  burden and improve services. For example, it has created four new  operating divisions tailored to more effectively meet the needs of specific  groups of taxpayers. Similarly, IRS is also designating that only certain  service centers will receive and process business tax returns and related  tax information, and officials believe this specialization could eventually  expedite processing. As part of its strategic plan, IRS will emphasize  providing assistance to taxpayers before tax returns are filed and  providing earlier intervention with taxpayers when problems arise.
One of IRS’ four new operating divisions is dedicated to serving the needs  of small business and self- employed taxpayers, while another serves large  and mid-sized businesses. According to IRS’ plans, taxpayers in each of  these divisions should benefit from IRS’ handling of all their respective tax  issues within a single organization. IRS management and staff are  expected to provide more tailored products and services to help their  respective taxpayer segments comply with applicable tax laws. Although  the new divisions officially began operations on October 1, 2000, they are  still developing processes and operating procedures. The SB/SE Division,  in particular, is not yet fully staffed.
In addition, IRS is shifting its workload to allow certain locations to  specialize in processing business returns. For example, instead of all 10  IRS service centers processing Form 941 returns, IRS plans to have only  two service centers doing this work. IRS does not expect this change to be  completed until at least 2002. Furthermore, according to an IRS  modernization official, the specialized services centers are not expected to  initially impact the current IRS processing time for Form 941 returns,  although the processing time could be reduced as IRS gains experience in  these two service centers.
Under the new structure, IRS also plans to place an increased emphasis on  prefiling activities, such as taxpayer education, outreach, and earlier  intervention with taxpayers. This new emphasis on preventing problems  instead of fixing them after the fact is one of modernization’s key changes  intended to help employers avoid, or at least minimize, tax delinquencies.
section_title: Major Information System Improvements for Business Taxpayers Will Not Be Available Until at Least 2005
paragraphs: Central to IRS’ achieving its modernization vision is replacing the multiple,  antiquated information systems it currently uses to maintain taxpayer  accounts and to provide customer service with a single, integrated system  known as the Customer Account Data Engine (CADE). IRS expects CADE  to greatly improve its customer service capabilities by providing  immediate updates of taxpayer accounts and expediting its processing of  returns and payments. For example, CADE is to replace the current once- a-week processing schedule that adds to the time IRS takes to notify  employers of employment tax delinquencies, with daily processing that  could reduce the time for this notification. These changes, however, are  not expected to be available for business processes for many years. IRS  plans to incrementally phase CADE in, beginning with the simplest  individual tax accounts. Accordingly, IRS will begin by processing the  form 1040EZ using the CADE system and progress eventually to using the  system for more complex forms, such as business returns. As a result, IRS’  plans do not call for CADE to begin processing Form 941 returns until at  least 2005.
section_title: Conclusions
paragraphs: Early notification can help businesses that have failed to pay in a timely  manner their full employment tax liability or to timely file a Form 941  quarterly return by minimizing the penalty and interest charges associated  with delinquent deposits and tax returns. Until IRS improves its computer  systems, there does not appear to be much that can be done to further  decrease the time that IRS’ processes require for routinely notifying all  businesses of their employment tax delinquencies.
In the interim, IRS has developed three new programs designed to prevent  or reduce employment tax delinquencies by speeding up or enhancing the  notification to certain groups of businesses. However, IRS has not  successfully followed through on its plans to evaluate these programs. It  has also experienced delays in evaluating its efforts to improve its long- standing FTD Alert program. We believe IRS needs to properly evaluate  whether the benefits to be derived from expansion of the pilot programs  and retention of the FTD Alert program justify the program costs.
section_title: Recommendation for Executive Action
paragraphs: We recommend that the IRS Commissioner require the SB/SE  Commissioner to develop and execute a plan for evaluating the  effectiveness of the employment tax early intervention programs. The plan  should address the resources needed to evaluate the interventions, ensure  the clear and timely assignment of responsibility for the evaluations, and  include milestones for completing the efforts.
section_title: Agency Comments and Our Evaluation
paragraphs: On January 3, 2002, we received written comments on a draft of this report  from the Commissioner of Internal Revenue (see app.I).  The  Commissioner said that IRS has researched measurement practices used  by public and private sector institutions in conjunction with SB/SE’s  efforts to develop plans for outreach measurement.  The Commissioner  also said that the intervention programs we identified have already  provided valuable insight into the needs of small business taxpayers.  He  agreed with our recommendation and said that the Commissioner, SB/SE,  will review each of the programs in our report and determine the extent of  evaluation required.  Further, when the review is completed, each SB/SE  office responsible for a program will evaluate the specific intervention  effort and make recommendations for implementation.
As agreed with your office, unless you publicly announce its contents  earlier, we plan no further distribution of this report until 30 days from the  date of this letter.  At that time, we will send copies to the Commissioner  of Internal Revenue and other interested parties.  We will also make copies  available to others upon request.
If you have any questions regarding this report, please contact me or  Joseph E. Jozefczyk at (202) 512-9110. The major contributors to this  report were Marvin McGill, Linda Standau, Tom Bloom, and Grace  Coleman.