Tax Administration: IRS' 1997 Tax Filing Season
Released: 1997-12-29T00:00:00

Letter

Objective, Scope, and Methodology

Our objective was to assess IRS’ performance during the 1997 filing season, with particular emphasis on those areas that were identified as problematic in our reviews of past filing seasons. To achieve our objective, we interviewed IRS National Office officials and IRS officials in the Atlanta, Cincinnati, Fresno, and Kansas City service centers responsible for the various activities we assessed; analyzed filing season related data from various management information systems, including IRS’ Management Information System for Top Level Executives; analyzed IRS data relating to its telephone assistance and conducted a test of IRS’ telephone accessibility during the last 2 weeks of the filing season (see app. I for information on our test methodology); analyzed IRS data on alternative filing methods, including IRS surveys of TeleFile users and nonusers; visited two lockbox banks, one in Atlanta and one in St. Louis, to review remittance processing procedures; interviewed staff from FMS, which is responsible for negotiating and administering lockbox contracts, about the use of lockboxes to process Form 1040 tax payments and analyzed cost/benefit data related to lockbox processing; interviewed officials from IRS’ Taxpayer Advocate’s Office about the impact of various filing season activities on taxpayers; analyzed activity data for IRS’ Internet World-Wide Web site and forms distribution centers; and reviewed relevant IRS internal audit reports.

We did our work from January through October 1997 in accordance with generally accepted government auditing standards. We obtained written comments on a draft of this report from the Deputy Commissioner of Internal Revenue. Those comments are discussed at the end of this letter and are reprinted in appendix II.

Filing Season Goals Were Generally Met

IRS uses various indicators to measure its filing season performance. Those indicators relate to workload, like the number of returns processed; timeliness, like the number of days needed to process and issue refunds; and quality, like the accuracy of IRS’ answers to taxpayers’ questions and the accuracy with which IRS processes individual income tax returns and refunds. As shown in table 1, those indicators show that IRS met or exceeded most of its performance goals for the 1997 filing season.

Accessibility to IRS’ Telephone Assistance Improved Substantially

During each filing season, millions of taxpayers call IRS with questions about the tax law, their refunds, or their accounts. The number of callers who get through to an IRS assistor is an important indicator of filing season performance. According to IRS data, as shown in table 2, telephone accessibility, as we have defined it in the past, increased substantially during the 1997 filing season. Results of our independent test also pointed to an improvement in accessibility. Despite the improvement, however, accessibility is still low.

To check whether accessibility had increased, we conducted an independent test to measure taxpayer access to IRS’ telephone system from March 31 through April 15, 1997. Our results, compared with the results of a similar test we conducted in 1995, showed that accessibility had improved. For example, during the 1997 test, we had to make 584 calls to gain access to a live assistor 211 times—a 36-percent accessibility rate. That was a significant improvement over 1995, when we had to make 1,655 calls to gain access 98 times—a 6-percent accessibility rate. Also, of the 584 calls placed during the 1997 test, 288 resulted in busy signals—a 49-percent busy rate. That compares favorably with a 92-percent busy rate during the 1995 test. Our test methodology and detailed results are described in appendix I.

Despite the significant increase in 1997, telephone accessibility is still too low. The National Commission on Restructuring IRS made that point in its June 25, 1997, report. After noting how accessibility had improved to 51 percent, the Commission noted that “the level of access continues to be unacceptable and inferior to service performance in private sector service organizations.”

As table 2 showed, the increase in IRS’ telephone accessibility between the 1996 and 1997 filing seasons was due to a combination of more calls being answered and fewer calls coming in (i.e., “call attempts”).

Increase in Number of Calls Answered

Two primary reasons for the increase in the number of calls answered were (1) a revision to IRS’ procedures for handling calls involving complex tax issues and (2) more staff assigned to answer the telephone, some of whom were detailed from other IRS functions. IRS’ decision to detail staff from other functions resulted in some opportunity costs because these staff were not available to perform their normal duties, such as auditing tax returns.

In an effort to increase the number of calls answered, IRS conducted a study to analyze the subject and length of taxpayer telephone calls. According to IRS, the study showed that several areas of complicated tax law involved 20- to 30-minute telephone conversations and that an assistor could answer about 5 simpler calls within the same amount of time. Thus, for the 1997 filing season, IRS revised its procedures so that callers with questions in certain complex tax areas were automatically connected to a voice messaging system. Those callers were asked to leave their name, telephone number, and the best time for IRS to call back, and they were told that someone would be calling back within 2 working days.

According to IRS, it received 619,310 calls to the voice messaging system during the filing season and contacted 451,051 taxpayers in response to those calls. IRS said that there are several reasons why it may not have responded to a message. For example, the message may have been garbled, thus preventing IRS from deciphering the caller’s telephone number; callers may have failed to include an area code; or IRS attempts to contact the caller may have gone unanswered.

To help return calls to the messaging system, IRS detailed staff from the Examination function, which is the IRS organization primarily responsible for auditing tax returns. IRS data show that staff who were detailed from the Examination function spent about 125 full-time-equivalent staff years returning calls received by the messaging system. A cognizant official in the Examination function estimated that the use of Examination staff to answer taxpayer questions resulted in about $55 million in foregone revenue because those staff were not available to audit returns. We did not assess the validity of that estimate.

Another factor that contributed to the increase in the number of calls answered was IRS’ decision to assign more staff to answer the telephone. Nationwide, according to data provided by IRS’ Customer Service function, IRS dedicated 2,546 full-time-equivalent staff years to answer taxpayers’ telephone calls between January 1 and April 30, 1997. This was an increase of 605 staff years over the 1,941 staff years dedicated during the same period in 1996. In addition, some field offices, including the three service centers we visited, temporarily detailed staff to help answer the telephone, some of whom came from functions other than Customer Service. According to IRS, some of these staff were used only as needed, while others were detailed for a few months.

Decrease in Call Attempts

The increase in the number of calls answered contributed to the decrease in the number of call attempts. As IRS improves its ability to answer the telephone, taxpayers should encounter fewer busy signals. Fewer busy signals reduce the need for taxpayers to redial, which reduces the number of call attempts. In that regard, IRS’ telephone data showed that the number of busy signals dropped from 86.0 million during the 1996 filing season to 22.7 million during the 1997 filing season and that the average number of call attempts per taxpayer dropped from 2.5 during the 1996 filing season to 1.4 during the 1997 filing season.

IRS cited two other contributors to the decrease in call attempts—the elimination of certain notices and the availability of information through other IRS sources, such as the Internet. Before the 1997 filing season began, IRS eliminated 23 notices that it deemed unnecessary, which, in turn, reduced the need for persons to call IRS with questions about these notices. IRS estimated that its action eliminated the issuance of about 7.5 million notices, but IRS could not estimate how many calls might have been eliminated because every notice does not necessarily generate a telephone call to IRS. IRS has a World-Wide Web site on the Internet that was first available during the 1996 filing season. The Web site provides, among other things, some interactive applications that answer tax questions, IRS regulations with “plain English” summaries, answers to the most frequently asked tax questions, and tax forms. IRS data showed a significant growth in the use of IRS’ Web site in 1997. For example, taxpayers accessed the Web site about 117 million times between January 1 and April 20, 1997, compared with about 102 million accesses throughout 1996, and taxpayers downloaded about 6.3 million files during the 1997 filing season compared with about 2.4 million files for the same period in 1996.

Measuring Telephone Accessibility

As noted earlier, the data in table 2 reflect our traditional way of measuring telephone accessibility. Over the last few years, IRS has used another indicator, which it calls “level of access,” to measure its performance in providing telephone assistance to taxpayers. IRS defines level of access as the number of calls answered divided by the number of callers (i.e., the number of taxpayers seeking assistance). Because IRS’ indicator is based on the number of callers, it shows a higher level of performance than does our indicator, which is based on the number of call attempts. Nonetheless, IRS’ indicator, like ours, showed a significant improvement in performance during the 1997 filing season. IRS reported its level of access as 71 percent through April 19, 1997, compared with 51 percent during a comparable period in 1996.

We have been working with IRS to establish one mutually agreeable measure of telephone accessibility. As a result, we have reached agreement on a measure to be used in future filing seasons. That measure defines accessibility as the number of calls that get into IRS’ automatic call distribution system, including those that are answered and those that are abandoned by the caller before getting assistance, divided by the total number of call attempts, which would consist of calls answered, calls that are abandoned, and calls that receive a busy signal. As part of that measure, IRS agreed to show, for the calls that got into the automatic call distribution system, how many were answered and how many were abandoned by the caller before receiving assistance.

Using IRS data as of April 19, 1997, the new measure shows that taxpayers calling IRS were able to gain access 64 percent of the time (39.8 million calls that got into IRS’ automatic call distribution system divided by 62.4 million call attempts). Of the 39.8 million calls that got into IRS’ system, 31.8 million (80 percent) were answered and 8 million (20 percent) were abandoned by the caller before getting assistance.

Number of Returns Filed Through Alternative Methods Increased

As of October 31, 1997, IRS had received 120.9 million individual income tax returns, an increase of 1.8 percent compared to the 118.8 million received at the same time last year. Although the increase in the overall number of returns filed was small, the increase in the number filed through alternative methods was significant—about 25 percent higher than last year. IRS offers three alternatives—electronic filing, TeleFile, and 1040PC—to the filing of traditional paper returns. Among other benefits, returns filed through these alternatives involve fewer errors and are presumed to be less costly for IRS to process. As shown in table 3, of the three alternatives, TeleFile had the largest percentage change, by far, in 1997.

Telefile

There were three changes to TeleFile in 1997 that most likely contributed to the large increase in filings: the eligibility criteria were expanded to include certain married persons filing joint returns, persons using TeleFile could request that any refund be directly deposited to their bank account, and IRS changed the tax package sent eligible TeleFile users in an attempt to encourage their use of the system. IRS data show that about 191,000 TeleFile returns were filed jointly by married couples, thus accounting for about 10 percent of the growth in 1997. The amount of growth due to the other two changes could not be quantified.

IRS’ decision to change the TeleFile tax package was the subject of some disagreement within IRS. In past years, IRS sent taxpayers who appeared eligible to use TeleFile a package that included not only TeleFile materials but also a Form 1040EZ and related instructions. Thus, taxpayers who could not or did not want to use TeleFile had the materials they needed to file on paper, assuming they were still eligible to file a Form 1040EZ. For the 1997 filing season, IRS eliminated the Form 1040EZ and related instructions from the package sent to taxpayers who were apparently eligible to use TeleFile—hoping that more taxpayers would be inclined to use TeleFile if they received only the TeleFile materials.

Officials from the Taxpayer Advocate’s Office said that they did not agree with IRS’ decision. They said that they were originally led to believe that IRS would be sending the revised TeleFile package only to persons who had used TeleFile in 1996 and to a sample of other taxpayers. By the time they learned that IRS was going to send the package to all apparently eligible TeleFile users, it was too late to effect a change. According to the officials, their concern centered on the extra burden the revised package would impose on taxpayers who wanted a Form 1040EZ, as well as the extra costs IRS might incur in filling additional mail and telephone orders for Form 1040EZ from those taxpayers. Internal Audit expressed similar reservations in communications with IRS management before the start of the filing season. Management responded by saying that (1) their intent was to increase the use of TeleFile, which would actually reduce taxpayer burden for those who used it and (2) they expected few of the affected taxpayers to contact IRS’ form distribution centers for copies of Form 1040EZ.

Officials from the Taxpayer Advocate’s Office told us that they did not receive many complaints from taxpayers and found no evidence that the number of taxpayer orders for Form 1040EZ was significantly higher than in past years. Nonetheless, they said that they continue to be concerned about this procedure, which IRS has indicated will remain unchanged for the 1998 filing season.

For the 1997 filing season, IRS sent about 26 million TeleFile tax packages to taxpayers who, based on the tax returns they filed in 1996, would be eligible to use TeleFile in 1997. After allowing for the fact that some of those taxpayers might no longer be eligible to use TeleFile because they no longer met the qualifying criteria, IRS estimated that about 15.6 million of the taxpayers would be eligible to use TeleFile in 1997. As of October 31, 1997, about 4.7 million taxpayers had filed their returns using TeleFile (about 30 percent of the number IRS estimated to be eligible). Assuming the validity of IRS’ estimate of eligible users, about 10.9 million of those taxpayers chose not to use TeleFile in 1997.

IRS conducted three TeleFile surveys in 1997—one electronic and one written survey of users and one written survey of nonusers—that shed some light on taxpayers’ reactions to the revised tax package and the reasons why more people did not use TeleFile.

Results of the electronic user survey showed that 30.3 percent of the TeleFile users in 1997 were repeat customers, while the rest were using it for the first time. The results also show that 84.5 percent of the users were able to complete their filing with one call to IRS, and 98.8 percent would use TeleFile again. When questioned about the new tax package, 85.2 percent of the respondents said that the package “encouraged” them to use TeleFile, 2.9 percent said that it “frustrated” them, and 2.5 percent said that it forced them to use TeleFile. Results of the written user survey showed that 88 percent of the users were very satisfied with TeleFile and another 10 percent were somewhat satisfied. Also, 97 percent of the users said they would use TeleFile again if they could, and about 96 percent said that they were very satisfied or somewhat satisfied with the new TeleFile tax booklet.

Results from the nonuser survey are critical, in our opinion, if IRS is to identify and effectively deal with barriers that are preventing eligible taxpayers from using TeleFile. In past surveys, IRS learned that most nonusers preferred filing on paper. But IRS did not solicit more specific information on the reasons for that preference. In our report on the 1996 filing season, we recommended that IRS conduct a survey of nonusers during the 1997 filing season that included some specific questions on why they prefer to file on paper. The questionnaire IRS used for the nonuser survey in 1997 solicited more specific data on why taxpayers did not use TeleFile, which, we believe, make the results more useful than earlier surveys.

From a list of several potential reasons provided on the questionnaire, respondents were asked to identify the main reason they did not use TeleFile. The main reasons they cited were: filed a Form 1040 or 1040A, which made them ineligible to use TeleFile (25 percent); did not receive the TeleFile tax package (17 percent); used a tax preparer or accountant (15 percent); got help from a friend or family member in filing their return (15 percent); preferred a paper copy of the return for their records (12 percent).

In response to questions about the revised TeleFile package and its impact, 12 percent of the nonusers said that the package caused a great deal of inconvenience. Remembering the Taxpayer Advocate’s concern that the absence of a Form 1040EZ in the revised package might significantly increase the number of mail and telephone orders for that form, IRS also asked nonusers who prepared their own returns where or how they got the tax form. Only 2 percent said that they called or wrote IRS. The vast majority (about 82 percent) said that they got the form from a post office, library, or bank. The remaining (about 16 percent) mentioned other methods, such as visiting an IRS walk-in site or downloading a form from IRS’ Internet World-Wide Web site.

IRS plans few changes to TeleFile for the 1998 filing season. For example, the TeleFile package for 1998 will again not include a Form 1040EZ. However, one change that might eventually make TeleFile more attractive to taxpayers is a pilot program with Indiana and Kentucky that will allow TeleFile users to submit their state returns at the same time they file their federal return. In that regard, responses to the TeleFile nonuser survey showed that about 44 percent of the nonusers might be encouraged to use TeleFile if they could also use it to file their state tax returns.

Electronic Filing

Electronic filing began as a pilot test in 1986, and the number of individual income tax returns filed electronically continued to grow each year until a drop in 1995. IRS attributed that drop to the various steps it took to deal with refund fraud. As shown in figure 1, electronic filing recovered somewhat in 1996 and continued to grow in 1997, establishing a new high of about 14.5 million returns as of October 31, 1997.

One impediment to even more growth in electronic filing is the fact that the method is not completely paperless. Taxpayers must still send IRS their W-2s and a signature document (Form 8453) after their returns have been electronically transmitted. IRS must then manually input these data and match them to the electronic returns.

In an attempt to eliminate the paper associated with electronic returns, IRS began testing the use of digitized signatures at three locations during the 1996 filing season. IRS planned to expand the test to seven locations in 1997. The seven locations included three private tax return preparation offices and four sites that were part of IRS’ Volunteer Income Tax Assistance Program. Because of some technical problems with the software, however, IRS delayed its distribution to the seven test sites until April 1, 1997. Because one of the four volunteer sites prepared very few returns after April 1, it did not participate in the test.

The test consisted of preparers offering eligible taxpayers the option of signing with a stylus “pen” on an electronic signature pad in place of signing a Form 8453. The electronic signature would then be attached to the taxpayer’s electronic return and both would be transmitted to IRS. From April 1 through April 17, 1997, the test generated 435 returns that were submitted with electronic signatures. IRS did not collect information on the number of taxpayers who were offered the chance to participate in the test but declined. According to IRS, the six participating locations provided feedback that was overwhelmingly positive, including the reduced cost or burden from not having to store the Forms 8453 and not having to pay someone to batch, mail, and track the forms. IRS plans to conduct the test again in 1998 at the same seven locations.

New Procedures Enable IRS to Protect More Revenue

An important change for the 1997 filing season involved IRS’ implementation of new procedures for handling returns filed with missing or incorrect SSNs. The amount of revenue protected as a result of these new procedures greatly exceeded the amount protected under the previous procedures.

Correct SSNs help ensure that taxpayers are entitled to the credits and dependency exemptions they claim. While missing or incorrect SSNs are often the result of honest taxpayer errors, they have also been linked to fraudulent attempts to reduce tax liabilities and obtain refunds and/or Earned Income Credits. Accordingly, over the last few years, IRS has become more vigilant in checking SSNs.

During the last few filing seasons before 1997, when IRS identified a missing or incorrect SSN, it was to delay the taxpayer’s refund and correspond with the taxpayer to resolve the issue. This procedure often required multiple correspondence and months to resolve. As we reported in 1996, IRS did not have enough resources to pursue all of the cases involving missing or incorrect SSNs and ended up releasing many of the refunds associated with those cases.

IRS’ SSN error procedures changed in 1997 as a result of a provision in the Welfare Reform Act of 1996. That provision authorized IRS to treat missing or incorrect SSNs as math errors, similar to the way it has historically handled computational mistakes. Under the new procedures, if IRS identifies a missing or incorrect SSN while processing a return, it can immediately adjust the return. For example, if a taxpayer claims one dependent and the child care credit, but lists an incorrect SSN for the dependent, IRS is to increase the taxable income by the personal exemption amount claimed for the dependent and not allow the child care credit. IRS then is to adjust the taxpayer’s tax liability and reduce the taxpayer’s refund, if any. The taxpayer is to receive a notice explaining the change to his or her tax liability and/or refund. The standard notice IRS used in 1997 provided a special toll-free telephone number that taxpayers could call if they wanted to discuss IRS’ changes and/or provide corrected information to support their claims. Taxpayers could also write to IRS to resolve the issue. If taxpayers do not respond to IRS’ notice, there is to be no further correspondence unless they fail to pay any additional tax that was assessed as a result of IRS’ change.

In planning for this new procedure, IRS estimated that it would send about 2.4 million notices to affected taxpayers in 1997 and that those notices would generate about 1.68 million responses (telephone calls or letters) from taxpayers. As of September 1, 1997, IRS had sent about 2.2 million notices, which generated about 876,000 calls and letters. IRS said that based on those responses, it subsequently allowed some of the claims it had originally disallowed. As of September 1, after netting out adjustments made in response to taxpayers’ calls and letters, IRS reported that it had protected about $1.46 billion in revenue (i.e., claimed refunds or credits not paid and additional taxes assessed). That is about 150 percent more than the amount of revenue IRS reported as having been protected as a result of the procedures used in 1996. That year, according to IRS, it sent out about 629,000 notices that resulted in the protection of about $590 million.

We asked officials in the Taxpayer Advocate’s Office whether the new SSN error procedures posed any problems for IRS and/or taxpayers. They said that they did have concerns about the procedures, which they voiced to IRS management before the start of the filing season. They were concerned, for example, that (1) the procedures may lead to an unmanageable workload for IRS and (2) the notices were not clear. According to the officials, as a result of their input, some changes were made before the filing season began. They also told us that they had not received a significant number of complaints from taxpayers nor had there been an increase in the number of problem resolution program cases or hardship requests for refunds.

Even though significant problems did not arise, officials of the Taxpayer Advocate’s Office believed that some additional changes are needed. For example, they said that some individuals have problems obtaining an SSN or some other taxpayer identification number either because of religious affiliations or questionable alien status. Officials also think the notices should be revised to provide the taxpayer with specific information about the error.

Lockbox Processing for Form 1040 Remittances May Not Be Cost Effective

In an effort to improve remittance processing and deposit tax receipts more timely, IRS has been using lockboxes to process tax payments, including the payments associated with individual income tax returns (Forms 1040). IRS and FMS assume that the use of lockboxes is beneficial to the government because, in general, banks can get the payment processed and the money deposited to a Treasury account quicker than service centers can. This means that Treasury would not have to borrow as much to pay government obligations, thereby avoiding interest charges.

In our report on the 1996 tax filing season, we expressed our concern about the way IRS was using lockboxes for Form 1040 payments. Our concern then was not with the processing of the payments but with IRS’ decision to have taxpayers send their tax returns along with their tax payments to the lockboxes and to have the banks sort those returns before shipping them to IRS service centers for processing. Information we received from FMS, which has been paying the lockbox fees, and IRS indicated that having banks sort and ship tax returns increased the cost of the lockbox service by about $4.7 million during the first 8 months of 1996. For example, FMS said that it paid the banks an average of 92 cents per return to sort the 7 million returns received during those 8 months—a function that, according to IRS, service centers performed at an average cost of 37 cents per return. FMS also paid the banks 13 cents per return to ship the tax returns to IRS for processing.

Our concern about the Form 1040 lockbox program has intensified since last year. We are no longer concerned only about having lockboxes receive and sort tax returns but about the use of lockboxes to process the Form 1040 payments themselves. Information we obtained this year called into question a key assumption used to calculate the interest cost avoidance figures that IRS and FMS have cited to support the use of lockboxes to process those payments.

IRS’ Decision to Have Taxpayers Send Their Returns to Lockboxes Is Based on Inconclusive Evidence

For the last several years, IRS has been testing the use of lockboxes to process Form 1040 remittances. Those test results and various studies done for IRS led to the decision to have certain taxpayers send their returns and tax payments to lockboxes. Under the current procedure, many taxpayers receive a tax package with one envelope and two differently colored mailing labels. If their return involves a payment, they are to use one label that directs their return and payment to a lockbox. If their return does not involve a payment, they are to use the other label that directs their return to an IRS service center.

In explaining the decision to have persons who were making payments send their returns along with their payments to a lockbox, IRS officials responsible for the lockbox program said that they believed an increase in taxpayer burden would result if taxpayers were required to separate their payments from their returns and mail each to a different address. They cited the results of taxpayer surveys done in 1993 and 1994, which, they said, showed that taxpayers preferred to keep their payment and return together. IRS interpreted this preference as an indicator that asking taxpayers to separate their return from their payment would impose a burden.

We reviewed the taxpayer surveys and considered the results to be inconclusive as they relate to burden—45.9 percent of the taxpayers surveyed said that they felt uneasy about mailing their checks and returns in separate envelopes while 41.2 percent said that they did not feel uneasy (the other 12.9 percent did not know). Even for those respondents who said they felt uneasy, it was unclear whether they considered the use of separate envelopes an unreasonable burden when weighed against the extra cost to the government associated with sending returns to lockboxes.

We realized, in preparing our report on the 1996 filing season, that it was too late to do anything to change IRS’ lockbox plans for the 1997 filing season. Thus, we recommended that IRS take action that would be effective for filing seasons after 1997. Specifically, we recommended that if the government was unable to negotiate lockbox fees that were more comparable to service center costs and in the absence of more compelling data on taxpayer burden, IRS should either discontinue having returns sorted by the banks or reconsider the decision to have taxpayers send their tax returns to the lockboxes along with their tax payments. As noted earlier, the combined fee paid banks for sorting and shipping tax returns dropped only slightly from 1996. And, as discussed below, IRS still does not have conclusive data on taxpayer burden.

In May 1997, an IRS/FMS task force that had been formed to identify a solution to this issue for 1998 and beyond recommended that IRS have taxpayers separate their returns from their payments—mailing the former to an IRS service center and the latter to a lockbox. While recognizing the extra burden on taxpayers (e.g., the extra postage associated with mailing two envelopes and possible confusion over which envelope to use), the task force said that such a procedure would minimize lockbox costs and would enable the banks to deposit remittances faster because they would no longer have to handle tax returns.

Despite the task force’s recommendation, IRS decided that lockboxes would continue to receive and sort tax returns in 1998. The IRS official responsible for the lockbox program told us that IRS continues to believe that an increase in taxpayer burden would result if taxpayers were required to separate their payments from their returns and mail each to a different address, a view shared by representatives from the Taxpayer Advocate’s Office. To support its position, IRS cited the results of several focus groups that became available after the task force had completed its work.

IRS held 8 focus groups in 4 cities involving a total of 29 taxpayers who prepared their own federal income tax returns and 31 tax practitioners. According to IRS, “even though there was not a dominant trend from the , taxpayers noted the cost of two stamps and the confusion of two envelopes as burden issues.” Although focus groups are useful in providing insight on a particular issue, they are not statistically representative of the population and should not, in and of themselves, provide the basis for far-reaching conclusions. Given that and after reviewing transcripts of the focus groups and a July 7, 1997, summary report on the focus group results, we believe that IRS still does not have conclusive evidence that the additional taxpayer burden that may be caused by requiring the use of two envelopes would outweigh the millions of dollars in additional costs the government is incurring to have banks sort and ship tax returns.

For example, although the report noted that participants were concerned about the extra postage associated with using two envelopes, it went on to say that taxpayers participating in the focus groups viewed the extra cost “as something that would be accepted” and that “some taxpayers were willing to accept additional burden so that IRS could operate more effectively.” In that regard, focus group participants were not told about the amount of additional cost being incurred by the government to have banks sort and ship the tax returns. The report also said that “several participants voiced concern about the check being separated from the return prior to receipt by the IRS.” However, there is no evidence that participants were told how the two-envelope procedure compares to the current procedure and that, even under the current procedure, the tax return and check get separated. Under the current procedure, even though returns and payments are mailed in one envelope to one location (the lockbox), they are separated at the bank. The return is shipped to IRS for processing while the bank processes the payment.

In a July 15, 1997, memorandum to the then Acting Commissioner of Internal Revenue, Treasury’s Fiscal Assistant Secretary provided his views on the processing of Form 1040 tax payments. He noted that he had sought IRS’ support for having taxpayers mail their returns and payments separately but that IRS had rejected that option because of the perceived taxpayer burden. That left only two viable options in the Assistant Secretary’s opinion—continue the current arrangement or return the processing of Form 1040 tax payments to IRS’ service centers. The Assistant Secretary noted, however, that it was his understanding that equipment, personnel, and space issues and the lack of sufficient planning time made it infeasible to move processing back to the service centers for fiscal year 1998. Thus, he concluded that it would be in the best interest of the government to continue the current lockbox arrangement for at least 1 more year. He said that this issue should be reviewed in March/April 1998 to make decisions about fiscal year 1999 and that IRS should continue to seek ways to reduce the cost of this program, by either changing processing procedures or by continuing its search for a resolution on how to direct the Form 1040 returns to the service centers without causing significant taxpayer burden.

IRS Study Calls Into Question the Validity of Interest Cost Savings

Our concerns about the Form 1040 lockbox program were heightened this year by new information relating to the interest cost avoidance figures that IRS and FMS have used to show the program’s cost effectiveness. This new information calls into question not just the decision to have tax returns sent to the banks but the more basic decision to use lockboxes to process Form 1040 payments.

As part of its review, the lockbox task force compared how much various procedural options for processing Form 1040 remittances would cost IRS and FMS in 1998. Assuming a volume of 11,373,133 items, the task force estimated that the current lockbox procedure would cost about $23.3 million, compared with about $14.5 million if two envelopes were used and about $12.8 million if IRS decided to stop using lockboxes to process Form 1040 remittances and return that function to the service centers. Although this comparison would seem to argue against the use of lockboxes, IRS and FMS assume that having lockboxes process Form 1040 remittances generates savings, in the form of interest cost avoidance, that more than offset the increased IRS and FMS costs.

According to FMS, for example, lockboxes processed about 9.7 million Form 1040 tax payments from October 1996 through July 1997, which resulted in an interest cost avoidance of about $23.8 million. As in past years, the interest cost avoidance was calculated on the basis of a general assumption that lockboxes can process and deposit tax payments an average of 3 days faster than IRS service centers during peak workload periods. The validity of that assumption is critical because, according to the lockbox task force, if lockboxes are not processing payments at least 2 days faster than service centers, the amount of interest cost avoidance would be insufficient to offset the additional costs associated with having lockboxes handle tax returns.

In that regard, the results of an IRS-commissioned study, issued in March 1997, show that, on average, lockboxes processed payments only about 1 day faster than service centers. However, that comparison covered peak and nonpeak workload periods; there was not a similar comparison just for the peak workload period (April 13 to May 1, 1995), when most of the Form 1040 payments are received and when differences in processing times might be more pronounced. Although the reported study results are insufficient to make an informed judgment, they do raise questions about the assumption that lockboxes process payments 3 days faster than service centers. FMS had planned to commission another study to assess the comparative processing times for lockboxes and service centers. However, those plans have been deferred, and FMS could give us no assurance when such a study would be done.

SCRIPS Processing Rates Decline

One of IRS’ major business objectives is to move away from a labor-intensive tax return processing system that relies on thousands of employees transcribing data from paper tax returns and move to an electronic system that reduces processing costs and eliminates transcription errors. One strategy for achieving that objective is to reduce the number of paper returns by increasing the number of returns filed electronically. We discussed IRS’ progress in that area earlier in this report. For returns that will continue to be filed on paper, IRS planned to achieve its objective through document imaging and optical character recognition systems. SCRIPS is one such system.

IRS uses SCRIPS, which was implemented in 1994, to process tax returns filed on Form 1040EZ, Federal Tax Deposit (FTD) coupons, and information returns (e.g., Forms 1099). In January 1997, we reported that one of the major problems with SCRIPS was slow processing rates (i.e., the number of documents processed per hour). As the data in table 4 show, this problem intensified with respect to Forms 1040EZ and FTD coupons in 1997.

An IRS official in the SCRIPS project office attributed the decline in the processing rate for Forms 1040EZ, at least in part, to IRS’ decision, as discussed earlier, to issue TeleFile packages that did not have a Form 1040EZ. Because the package contained no form that the taxpayer could use to file on paper, it also contained no preprinted label for the taxpayer to affix to a paper form. Successful optical character recognition operations depend, in part, on the kind of clearly printed data provided by a label. In that regard, IRS estimated that about 95 percent of the Forms 1040EZ processed through SCRIPS in 1997 did not have the scannable preprinted address label, compared with about 50 percent in 1996, causing a significant increase in the amount of data IRS had to manually transcribe.

IRS attributed the decrease in the processing rate for FTD coupons to a problem associated with the way in which blocks of data are transferred throughout the system. In those instances where characters on the document cannot be identified correctly by the scanner, the electronic block of work that contains those documents is sent to a workstation operator. That operator retrieves the block of work, reviews the image of the document to determine what corrections are needed, then updates the file, which is sent back to the file server. Each time a block of work is moved from one component of SCRIPS to another, a time delay results. According to IRS, the contractor provided a software solution to this problem and, since then, processing times have improved, except on those days when the service centers have to process the largest volumes of FTD coupons.

Conclusions

IRS made noteworthy progress in several critical areas during the 1997 filing season. It achieved significant increases in telephone accessibility and alternative filings, and it implemented a major change in dealing with missing or incorrect SSNs, all without any noticeable major problems. A couple of these successes involved trade-offs. By detailing staff to answer telephone calls, IRS improved accessibility but, according to IRS, the detailing of that staff caused it to forgo some enforcement revenue. By not including a Form 1040EZ in the tax package sent potential TeleFile users, IRS apparently encouraged some taxpayers to file their returns by telephone. But, in doing so, IRS imposed some burden on recipients of the TeleFile package who needed or wanted a Form 1040EZ and caused a reduction in SCRIPS processing rates. Such trade-offs are inevitable, given the fact that IRS does not have unlimited resources, and we saw nothing to indicate that either trade-off was inappropriate.

We are concerned, however, about the cost effectiveness of IRS’ use of lockboxes rather than service centers to receive and process Form 1040 tax payments. On the basis of the data currently available, we do not believe IRS is in a position to make an informed decision on whether to continue to use lockboxes for that purpose.

The results of an IRS-commissioned study suggest that the interest cost avoidance figures IRS and FMS have cited to support the use of lockboxes to process Form 1040 payments may not be valid. Although FMS had planned another study to further assess the comparative processing times and costs for lockboxes and service centers, those plans have been deferred, and it is unclear when such a study will be done. As a result, it is unclear whether the government actually realizes savings, and if so how much, through the use of lockboxes.

Because IRS has decided to continue the use of lockboxes for the 1998 filing season and it is too late to alter that decision, it seems that IRS and FMS have an opportunity during that filing season to develop the definitive data needed to make more informed decisions on the future use of lockboxes. Such data would include the average amount of time needed by both banks and IRS to process Form 1040 tax payments during both peak and off-peak periods and the average interest costs to the government of borrowing during those periods. It seems that such data would be readily available and there is still time to make any arrangements that might be needed to capture these data during the 1998 filing season.

We are equally concerned that IRS’ decision to continue having taxpayers send both tax returns and payments to lockboxes is also based on inconclusive evidence. Another option would be to have taxpayers mail their payments to a lockbox and their tax returns to IRS. An IRS/FMS task force studied these two options and recommended the latter because it would save the government millions of dollars in payments to banks for processing the tax returns. Although Treasury’s Fiscal Assistant Secretary also supported this recommendation, IRS decided against this change because of the added taxpayer burden, including mailing cost.

However, our review indicated that IRS did not have persuasive evidence on the amount of taxpayer burden, how this burden would compare with the government’s savings, or whether taxpayers considered the burden to be unreasonable. The new evidence available to IRS in making its decision for the 1998 filing season was from taxpayer focus groups. The number of taxpayers participating in the focus groups was small, and the information they provided on burden was inconclusive. In that regard, the participants were not provided all of the information needed to make an informed response about the burden associated with mailing tax returns in one envelope and tax payments in another. Specifically, they were not told that mailing both tax returns and tax payments to lockboxes is costing the government, and thus taxpayers, millions of extra dollars. Had the focus group participants been informed about all the relevant factors—the additional postage and burden involved in separating returns from payments and mailing them in two envelopes versus the savings that would accrue to taxpayers overall in the form of savings to the government if this were done—we believe that they would have been in a better position to assess the trade-offs involved in deciding on the reasonableness of the burden involved.

IRS has three basic options concerning the use of lockboxes for Form 1040 tax payments: (1) continue the existing practice, (2) discontinue the use of lockboxes altogether, or (3) revise the existing practice to have taxpayers send their returns to service centers and their payments to lockboxes. In deciding which option to select, IRS faces the following two basic issues. First, in deciding between options 1 and 2, IRS needs to know whether using lockboxes to process Form 1040 tax payments generates a net savings to the government. Second, if the use of lockboxes generates significant savings, which would remove option 2 from the equation, IRS needs to know, in choosing between options 1 and 3, whether the additional savings to the government of having taxpayers send their tax returns to IRS service centers outweigh the taxpayer burden associated with taxpayers sending two different envelopes to two locations. Although these issues would involve different analyses, the results and related decisions are intertwined. That is, if the analysis for the first issue shows that using lockboxes for Form 1040 tax payments does not result in a significant net savings to the government and IRS decides to stop using lockboxes, the second issue would become moot.

Recommendations to the Commissioner of Internal Revenue

We recommend that the Commissioner of Internal Revenue require the appropriate IRS officials to conduct, during the 1998 tax filing season, the analyses necessary to determine (1) whether there are net savings to the government attributable to the use of lockboxes to process Form 1040 tax payments and (2) whether the potential savings of requiring affected taxpayers to mail their tax returns to IRS and their tax payments to lockboxes in separate envelopes outweigh the estimated additional cost and other burden that this could be expected to cause taxpayers. In doing these analyses, the officials should collect definitive data on (1) the actual time and interest cost differences between sending tax payments to lockboxes and sending them to IRS during peak and off-peak periods and (2) whether taxpayers believe, given the processing cost savings to the government, that it would cause them an unreasonable burden to mail tax returns and tax payments to different locations. If the analyses indicate that using lockboxes does not produce a net savings to the government, we recommend that the Commissioner take steps to have IRS service centers process all Form 1040 payments starting with the 1999 tax filing season. If the analyses indicate that the use of lockboxes produces savings and that taxpayers would support the practice of mailing returns and payments to different locations, we recommend that the Commissioner change the current lockbox procedures as soon as possible and instruct taxpayers to send their returns to IRS and their payments to lockboxes.

Agency Comments and Our Evaluation

We obtained written comments on a draft of this report from the Deputy Commissioner of Internal Revenue (see app. II). He said that IRS generally agreed with our findings and recommendations and that the ultimate determination of the benefit of using lockboxes to the taxpaying public requires information and analysis by both IRS and FMS. He said that IRS would pursue a study with FMS during fiscal year 1998 to reach a long-term decision about lockbox processing and that IRS would welcome the opportunity to assist FMS in analyzing the savings to the government attributable to the use of lockboxes to process Form 1040 tax payments.

The Deputy Commissioner also said that (1) it would be impossible to determine conclusively whether any savings from having taxpayers mail their returns and payments in separate envelopes outweighed the additional cost and other burden to taxpayers because “the perceived burden of this new way of paying and filing may involve intangibles which cannot be measured (e.g., a negative reaction to changes in procedures)” and (2) a broad-based study to determine taxpayers’ perception of burden and their willingness to accept that burden would be necessary to satisfy our recommendation. In addition, the Acting Chief of Customer Service, at a meeting to discuss IRS’ comments, told us that IRS would always come down on the side of reduced burden.

We agree that burden cannot be measured conclusively. However, it is not necessary to conclusively measure burden before deciding whether to use two envelopes. In fact, IRS has made other decisions involving new ways of paying and filing without measurable data on burden. For example, the decision to not include a Form 1040EZ in the TeleFile tax package involved a change in procedures that caused additional taxpayer burden by requiring taxpayers who could not or did not want to use TeleFile to find a Form 1040EZ elsewhere. IRS made that decision although it could not measure the impact of the additional burden on taxpayers. In the TeleFile case, IRS did not come down on the side of reduced burden but decided, instead, that the additional burden, though unmeasured, was acceptable given the expected benefits. In fact, IRS plans to send out the same kind of abbreviated TeleFile tax package for the 1998 filing season even though 12 percent of the TeleFile nonusers indicated that the package IRS sent out for the 1997 filing season caused a great deal of inconvenience. We believe that asking taxpayers to use two envelopes might be another instance where IRS might accept a small amount of burden, if the potential savings to the government are significant.

It is unclear what, if anything, IRS intends to do to get better information on burden. However, if it decides to obtain more definitive data, it is important that it structure its data collection to get specific input from taxpayers on their willingness to assume the additional burden of dealing with two envelopes in light of the savings to the government. Among other things, that would mean asking them to compare the two-envelope approach with the current approach and making sure, for both approaches, that they know the government’s costs and benefits.

With respect to our second recommendation, the Deputy Commissioner indicated that necessary studies could not be done and analyzed in time to make changes for the 1999 filing season, given the lead time needed in awarding contracts for the printing of tax packages. We do not understand why this would be the case. It seems to us that at least the first stage of the analysis sought by our recommendation—whether the government saves money by using lockboxes—can be made in time. Our prior analyses of IRS data indicate that the key data needed to make that determination—the comparative time it takes lockboxes and service centers to process and deposit Form 1040 payments—should be readily available and can be compiled and analyzed relatively quickly. There is no reason we are aware of that such analysis could not be done using data from the 1997 filing season, rather than waiting for new data from the 1998 filing season. Thus, if the analysis shows that the government is not benefiting from the use of lockboxes, IRS should have time to make the necessary changes to the tax packages for 1999.

The second part of the analysis, which considers burden, would only be needed if the first part shows that using lockboxes to process Form 1040 payments saves the government money. If the analysis shows that it does not save the government money, IRS could change the procedure for handling Form 1040 tax payments without further analyzing burden. The revised procedure would still involve one envelope, but the envelope would be mailed to a service center rather than a lockbox. Since that change would result in all returns (remittance and nonremittance) being mailed to IRS, it would not only avoid the additional burden of having taxpayers deal with two envelopes but also reduce existing burden by negating the need for taxpayers to deal with two mailing labels.

We revised our second recommendation to recognize the different decisions that will confront IRS depending on the results of the analyses called for in our first recommendation. As part of that revision, the reference to the 1999 filing season now applies only if the first part of the analysis shows that the government is not saving money by using lockboxes to process Form 1040 payments.

In commenting on this report, the Deputy Commissioner identified a number of actions IRS took during the 1997 filing season and asked that we include the information in our report (see app. II). Some of the actions identified by the Deputy Commissioner, such as those relating to electronic tax administration, level of access, and complex tax law questions, are discussed in our report. However, we did no audit work on several other actions mentioned by the Deputy Commissioner and thus cannot comment on their effectiveness.

We are sending copies of this report to the Subcommittee’s Ranking Minority Member, the Chairmen and Ranking Minority Members of the House Committee on Ways and Means and the Senate Committee on Finance, various other congressional committees, the Secretary of the Treasury, the Commissioner of Internal Revenue, the Director of the Office of Management and Budget, and other interested parties.

Major contributors to this report are listed in appendix III. Please contact me on (202) 512-9110 if you have any questions.

Toll-Free Telephone Accessibility Test

To assess the ability of taxpayers to reach IRS by telephone to ask a question about the tax law or their accounts, we conducted a nonstatistical test of IRS’ toll-free telephone assistance system. Our results relate just to the test calls; they cannot be projected. To conduct the test, we placed telephone calls at various times during each workday from March 31 through April 15, 1997. We made our calls from five metropolitan areas—Atlanta, Chicago, Kansas City, San Francisco, and Washington, D.C. Each attempt to contact IRS consisted of up to five calls spaced 1 minute apart. If we reached IRS during any of the five calls and made contact with an assistor, we considered the attempt successful. If we reached IRS during any of the five calls but were put on hold for more than 7 minutes without talking to an assistor, we abandoned the call, did not dial again, and considered the attempt unsuccessful (abandoned). If we received a busy signal, we hung up, waited 1 minute, and then redialed. If after four redials (five calls in total) we had not reached IRS, we considered the attempt unsuccessful. In conducting our test, we did not ask questions of the assistors because it was not our intent to assess the accuracy of their assistance.

We attempted to contact IRS 330 times. Of 330 attempts to contact an assistor, 211 (64 percent) were successful—162 on the first call, 22 on the second call, and 27 after 3 to 5 calls. When the 16 calls that resulted in access to IRS’ voice messaging system were added, accessibility to IRS assistance increased to 69 percent. In another 69 cases (21 percent), we accessed IRS’ system but were put on hold more than 7 minutes and thus hung up before making contact with an assistor. The remaining 34 attempts (10 percent) were aborted after we received busy signals on each of our 5 dialing attempts. Our 330 attempts to contact an assistor required a total of 584 calls to IRS’ toll-free telephone number. Of those 584 calls, we succeeded in contacting an IRS assistor 211 times—a 36-percent accessibility rate.

We followed the above methodology to conduct our 1995 test, but we placed telephone calls from two additional metropolitan areas (Cincinnati and New York) and for two separate 2-week periods (January 30 through February 11, 1995, and April 3 through April 15, 1995). Results of the 1995 test cited in the body of this report are only for the 2-week period from April 3 through April 15, 1995.

Comments From the Internal Revenue Service

The following are GAO’s comments on IRS’ letter dated November 26, 1997.

GAO Comments

1. IRS says that lockbox payments of $213 billion were deposited during fiscal year 1997. That figure covers all tax payments processed by the lockbox banks. The lockbox discussion in our report focuses only on the processing of Form 1040 tax payments. 2. IRS says that the SCRIPS sites succeeded in processing over 90 percent of the Forms 1040EZ through SCRIPS. However, only 5 of IRS’ 10 service centers have SCRIPS. The 90-percent figure cited by IRS means that SCRIPS was used to process 90 percent of the Forms 1040EZ filed at those 5 centers. The other five centers used the traditional keypunching system to process the Forms 1040EZ they received. Also, as noted in our report, while the 5 SCRIPS centers may have processed 90 percent of the Forms 1040EZ they received, they did so at a slower rate than in 1996. 3. IRS says that the number of telephone calls answered increased from 99.2 million in fiscal year 1996 to 103.9 million in fiscal year 1997. These numbers differ from the numbers cited in table 2 of our report because (1) our numbers are for the filing season (January 1 through mid-April) while IRS’ numbers are for the fiscal year (October 1 through September 30) and (2) our numbers include just those calls answered by IRS assistors, while IRS’ numbers include calls answered by assistors and by automated systems, such as TeleTax (a system that has prerecorded information on about 150 topics). 4. IRS cites an initial contact resolution rate of above 95 percent. However, as IRS says, that rate only covers walk-in contacts and correspondence. It does not reflect the extent to which telephone inquiries are resolved with one contact.

Major Contributors to This Report

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