2009 Tax Filing Season: IRS Met Many 2009 Goals, but Telephone Access Remained Low, and Taxpayer Service and Enforcement Could Be Improved
Released: 2010-01-11T00:00:00

Letter

Scope and Methodology

To meet our three objectives, we took the following steps.

Reviewed and analyzed IRS reports, testimonies, budget submissions, and other documents and data, including performance and workload data, and compared these to IRS’s goals and past performance to identify trends and anomalies in performance. We also tested for statistically significant differences between annual performance rates based on IRS sample data.

Observed operations at the Joint Operations Center (which manages IRS’s telephone services) and IRS’s walk-in sites in Atlanta, Ga. and Baltimore, Md. and a volunteer site in Washington, D.C. We selected these particular offices for a variety of reasons, including the location of key IRS managers; Analyzed staffing data for paper and electronic filing, telephone assistance, and walk-in assistance.

Reviewed information from other organizations who compile information pertinent to our objective, such as Keynote Systems, which evaluates Internet performance.

Reviewed IRS reports and analyzed IRS data on RALs and RACs to identify trends and opportunities to reduce taxpayers’ reliance on them.

Reviewed IRS data and analyzed methods IRS currently employs to identify taxpayer compliance with eligibility requirement for higher education tax benefits.

Reviewed MEA-related statutes to determine IRS’s existing and possible new authorities. Interviewed IRS officials about current operations, trends, and significant factors and initiatives that affected performance; efforts to reduce reliance on RALs and RACs; and monitoring and oversight of compliance issues, including higher education credit claims. Interviewed representatives of some of the larger private and nonprofit organizations that prepare tax returns, including H&R Block and trade organizations that represent both individual paid preparers, tax preparation companies, and professional associations, including the American Institute of Certified Public Accountants.

Reviewed Treasury Inspector General for Tax Administration (TIGTA) reports and interviewed a TIGTA official about IRS’s performance and initiatives.

Reviewed prior GAO reports and followed up on our recommendations made in filing season and related reports.

This report discusses numerous filing season performance measures and data covering the quality, accessibility, and timeliness of IRS’s services that, based on our prior work, we consider sufficiently objective and reliable for purposes of this report. To the extent possible, we corroborated information from interviews with documentation and data and where not possible, we attribute the information to IRS officials in our report. We reviewed IRS documentation, interviewed IRS officials about computer systems and data limitations, and compared those results to our standards of data reliability. Data limitations are discussed where appropriate. Finally, we conducted our work primarily at IRS headquarters including at the Small Business/Self-Employed Division in Washington, D.C., and the Wage and Investment Division headquarters in Atlanta, Ga. as well as the other sites mentioned earlier. We conducted this performance audit from January 2009 through December 2009 in accordance with generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives.

We received technical and written comments on a draft of this report, which we addressed. A letter from the IRS Deputy Commissioner for Services and Enforcement providing those comments is reprinted in appendix I. In that letter, the Deputy Commissioner explicitly agreed with five of our recommendations and described the steps IRS is taking with respect to our two other recommendations.

Background

Most taxpayers file their individual income tax returns electronically, although millions still mail paper returns. Compared to paper, electronic filing allows taxpayers to receive refunds faster, is less prone to transcription and other errors, and provides IRS with significant cost savings. Last year we reported that IRS estimated it used 39 percent fewer staff years for processing tax returns in 2007 than in 1999 for a savings of $85 million.

The Free File program provides taxpayers below an income ceiling with access to a consortium of tax preparation companies that offer free on-line tax preparation and filing services for qualifying taxpayers.

CADE, part of IRS’s high-risk Business System Modernization program (BSM), is intended to eventually replace IRS’s antiquated Master File legacy processing system and facilitate faster refund processing and provide IRS with more up-to-date account information.

Primarily through its telephone, Web site, and, to a much lesser extent, through its face-to-face assistance, IRS also provides tax law and account assistance, limited return preparation, tax forms and publications, and outreach and education.

IRS staff provides assistance at 401 walk-in sites where taxpayers can receive basic tax law assistance, receive assistance with their accounts, and have returns prepared by IRS if their annual income is $42,000 or less. IRS also has volunteer partners that staff over 12,000 sites, which help serve traditionally underserved taxpayer segments, including elderly, low-income, and disabled taxpayers, and taxpayers with limited English proficiency.

IRS developed the Taxpayer Assistance Blueprint (TAB), a 5-year plan designed to assist the agency in providing, evaluating, and improving taxpayer services at lower cost. TAB also provided estimates of the cost- per-service contact for different types of taxpayer services and conducted preliminary research about the effect of taxpayer service on compliance. IRS delivered an update of TAB to Congress in October 2009.

Millions of taxpayers who do not want to wait for their tax refunds from IRS choose to obtain RALs, which are offered by paid preparers or banks to taxpayers in connection with federal and/or state tax refunds.

RALs are short-term, high interest rate bank loans. We found that the annual percentage rate on RALs can be over 500 percent, RALs offer taxpayers the benefit of receiving cash quickly based on an expected refund. Combined with tax preparation fees, RALs may considerably reduce a taxpayer’s refund. However, RALs remain popular, especially among low-income taxpayers.

RAL providers might also offer RACs, which are not loans, but instead are a refund delivery option where IRS direct deposits a refund into a temporary account set up by a financial institution, which withdraws the tax return preparation fee, and then makes the remaining funds available to the taxpayer. RALs and RACs allow taxpayers to pay return preparation and fees out of their refunds.

IRS uses its many tools to identify and correct noncompliance, whether intentional or unintentional.

Over the years, Congress granted IRS statutory authority to cover specific areas so that the agency could correct tax return errors during processing, including calculation errors and entries that are inconsistent or exceed statutory limits, without having to issue the taxpayer a statutory notice of deficiency (see app. II for details). Math error checks are automated and low-cost relative to audits. Prompt compliance checks, such as math error checks, increase the likelihood of IRS collecting all or part of the amount owed. However, IRS must be granted MEA from Congress by statute for specific purposes, and as noted above, we recently suggested areas where IRS could benefit from new authorities. IRS gets most of the information returns during the filing season. These returns are provided by third parties, such as employers, banks, or educational institutions, file returns with IRS and taxpayers that provide information on a variety of taxpayer transactions. IRS tries to match information from the information returns filed by third parties against taxpayers’ income tax returns to see if taxpayers have filed returns and reported their income and expenses. This approach tends to lead to high levels of taxpayer compliance.

Access to Telephone Assistors Remained Low, and IRS Has a Limited Understanding of Why Taxpayers Call and Has Not Clearly Integrated TAB into Its Planning Documents

As of October 2, 2009, IRS processed 139 million individual income tax returns. As shown in table 1, 94 million taxpayers (68 percent) electronically filed their returns compared to 88 million (62 percent) last year, excluding the 9 million stimulus-only returns. Electronic filing provides IRS with significant cost savings—IRS estimates the cost savings of electronic filing to be $2.71 per return over the costs in 2008. It helps taxpayers to receive their refunds faster and aids IRS in achieving the electronic filing goal of having 80 percent of all federal tax and information returns filed electronically by 2012. IRS issued approximately 109 million refunds, up 4 million from last year, for $298 billion. Approximately 66 percent of all refunds were directly deposited, 9 percent more than last year. This increase is important, because direct deposit is faster, more convenient for taxpayers, and less expensive for IRS than mailing paper checks.

IRS attributes the increase in electronic filing, in part, to a 19 percent increase in people filing from home computers, which may be related to the elimination of separate fees for electronic filing. According to IRS, the elimination of fees by some paid preparers also contributed to the decline in the Free File program—as of September 20, 2009, the number of taxpayers who filed through Free File decreased to 3 million, down 37 percent from last year. IRS also attributed part of the decrease to the migration of taxpayers to other free offers in the marketplace. The Free File program offered a new option this year, fillable forms, that allow taxpayers to download forms from IRS and fill them in on a home computer without using tax preparation software. About 270,000 taxpayers used this option.

Finally, IRS met or exceeded its goals for six out of eight of the processing measures (see app. II for details). For example, IRS exceeded its goals for refund timeliness, and deposit timeliness and accuracy. The one measure where performance was significantly below IRS’s goal and last year’s level was the correspondence error rate, which is the percentage of incorrect notices and letters issued to taxpayers. According to IRS officials, this resulted from a high number of erroneous notices sent to taxpayers during the filing season related to the recovery rebate credit. In our interim report, we noted that millions of tax returns had these types of errors, which resulted in a delay in refund timeliness from 1 day to a week. IRS took actions to address the errors, including developing an automated tool to correct the errors more quickly.

Work to Increase CADE Functionality Has Been Suspended While IRS Develops a New Strategy for Modernizing Taxpayer Accounts

IRS’s CADE processed 40 million tax returns and 35 million refunds worth $59 billion. This accounts for about 29 percent of all returns processed. CADE processes returns and refunds between 1 and 8 days faster than legacy systems. Additionally, for the first time this year, CADE processed returns with payments to IRS—7 million returns with payments of $9 billion.

After over 5 years and $400 million, CADE is only processing about 15 percent of the functionality originally planned for completion by 2012. In addition, each successive release of the system was expected to process more complex returns and several technical challenges had not been addressed. Given this, IRS estimated that full implementation of CADE would not be achieved until at least 2018 or possibly as late as 2028. As a consequence, IRS decided to stop development of new CADE functionality and rethink its strategy for modernizing individual taxpayer accounts to determine whether an alternative approach could deliver improvements sooner. IRS also stopped its plans for adding new functionality to a CADE- related system that allows its telephone assistors to access and work with taxpayer accounts. According to IRS officials, the need to enhance computer security and the availability of new technologies also influenced the decision to rethink the CADE strategy.

Stopping CADE development has trade-offs in that IRS will not be able to materially increase the number of returns processed on CADE during the 2010 filing season, which, in turn, means that the number of taxpayers benefiting from faster refund processing will not increase.

On the other hand, IRS’s new strategy for modernizing individual taxpayer accounts is intended to address the risks and challenges of the initial approach. Importantly, IRS officials responsible for implementing this new strategy told us that they expect to provide all taxpayers with faster refund processing by the 2012 filing season. IRS plans to do this by continuing daily processing of the roughly 40 million taxpayer accounts currently on CADE while converting the legacy Individual Master File system from weekly to daily processing for the roughly 100 million remaining accounts. IRS also plans to develop a new database that would be the single authoritative source of taxpayer account information and use the new database for daily processing by 2014.

IRS established a program management office to guide the implementation of the new strategy and developed a preliminary road map and high-level cost estimates for the effort. It also defined the overall business benefits the strategy is expected to provide. IRS officials also stated that they are working on a more detailed plan for the strategy, including milestones, deliverables, and detailed costs for the first phase of the strategy and expect to have them completed in December. These documents as well as plans for fully implementing the new strategy are critical to justifying IRS’s change in direction and we plan to evaluate them as part of the review of IRS’s fiscal year 2010 Business Systems Modernization expenditure plan, which we recently initiated.

Access to Telephone Assistors Remained Low for the Second Year in a Row and IRS Decreased Its 2010 Access Goal

As shown in table 3, taxpayers’ access to IRS’s telephone assistors was better than last year, but was below IRS’s original goal for 2009 and remains well below 2005 through 2007 performance.

IRS reduced its 2009 goal for providing assistor services from the goals for 2005 through 2008, as shown in table 3. IRS initially set the fiscal year 2009 goal for the percentage of taxpayers seeking assistor service who actually received it at 77 percent. Perhaps more importantly, IRS reduced the goal for 2010 to 71 percent. According to IRS officials, the goals were reduced because of resource trade-offs related to call volume increases starting in 2008.

As shown in table 4, IRS’s call volume in 2008 and 2009 was substantially higher than in prior years. Although IRS received 40 million fewer calls in 2009 than in 2008, the volume was still well above earlier years. While IRS’s automated call systems answered an increasing number of calls, the number of calls abandoned by taxpayers, busy signals, and calls disconnected by IRS also went up substantially. This may have limited many taxpayers from reaching IRS assistors with questions.

IRS attributed the heavier-than-anticipated call volume in part due to stimulus-related questions and taxpayers needing authentication information. Taxpayers had to provide their last year’s adjusted gross income (AGI) or personal identification number (PIN) to authenticate their identity in order to electronically file. Taxpayers who did not know their AGI or PIN and tried to get it from IRS had to call an assistor or visit an IRS walk-in site. While IRS took actions to minimize the effect of these calls, heavy volume continued through the filing season. According to IRS, its assistors answered 3 million calls from taxpayers needing their AGI, nearly 10 percent of all assistor calls, at a cost of $36 million through June 2009.

We recently reported that IRS is developing an automated Web and phone application to provide taxpayers with authentication information for electronic filing in the 2010 filing season. In that report, we also made recommendations to improve telephone service by reducing the volume of telephone calls, which could improve taxpayer access to IRS assistors. For example, in addition to recommending ways to reduce the number of rejected returns, which often lead to taxpayers calling IRS, we recommended that IRS develop a low-cost automated method to respond to taxpayer questions about volunteer site locations and hours of operation. IRS is in the process of addressing those recommendations.

Despite the heavy call volume, the accuracy of the telephone assistors’ responses to tax law and account questions was higher by a statistically significant amount compared to the same period last year and exceeded IRS’s fiscal year 2009 goals (see table 5). Since 2005, IRS has maintained a level of accuracy of about 90 percent or more. According to IRS officials, the high accuracy is due to training and the introduction of new tools, particularly the Interactive Tax Law Assistant (ITLA), which is a Web- based probe and response guide to help assistors provide more accurate and consistent responses to specific tax law questions.

IRS has limited information on why taxpayers call to speak IRS assistors. To help obtain better information on why taxpayers call, IRS recently implemented a major data collection effort called Contact Analytics at all its 26 call sites. According to IRS, Contact Analytics is a significant investment that will allow IRS to search recorded telephone interactions between taxpayers and IRS assistors for key words or phrases. It is intended to improve service by providing IRS with a research tool to better understand why taxpayers are calling and take corrective action if necessary as well as identify areas to reduce costs, such as identifying calls that can be moved to self-service.

However, the agency does not have a comprehensive and detailed analysis plan for effectively using Contact Analytics data to determine how to improve taxpayer service or reduce costs. According to IRS officials, because Contact Analytics is a new program and data is only beginning to be collected, IRS has not yet considered a plan to analyze the data produced by the program. IRS officials recently indicated that now that Contact Analytics has been implemented, they intend to eventually develop an analysis plan. However, a standard approach for major data collection efforts is to develop a research plan before data collection begins. Such a plan helps ensure that necessary data is collected and that resources are not wasted collecting information that will not be needed. Now that IRS is actually collecting the data, the lack of a research plan delays the time when improvements to taxpayer service, based on the results of the research, could be implemented. Having a comprehensive and detailed analysis plan that includes, for example, a research design, dissemination of results, and involvement of relevant stakeholders, provides a number of benefits, perhaps most importantly, increasing the likelihood that the analysis will yield methodologically sound results, thereby supporting effective policy decisions.

While many taxpayers require service from live assistors, diverting calls to automated services is also important because of the costs involved—IRS assistors answered about 26 million calls between January 1, 2009 and June 30, 2009 at a cost of $25.75 per call, for a total of $670 million. Also, taxpayers would benefit from reduced wait times and having the capability to obtain information immediately and without having to speak to an assistor.

IRS Added Features to Its Web Site that Potentially Diverted Calls

IRS continues to launch new features on its Web site to provide better access to information and reduce taxpayer burden, including the “How Much Was My 2008 Stimulus Payment” application and the recovery rebate check calculator that used the economic stimulus payment amount from 2008 along with several other factors to determine eligibility for recovery rebate credit and the appropriate amount to claim; the Online Payment Agreement application that provides taxpayers with an online, interactive payment agreement process that reduces the need for contact with an assistor and eliminates paper processing. a “What if” page on IRS.gov that describes different scenarios for taxpayers on the possible impact of, for example, loss of job or house, on the taxpayers ability to pay taxes; and information on the new tax credits provided in the Recovery Act with details on, for example, claiming the first-time homebuyer credit and tax breaks for vehicle purchases.

As table 6 shows, compared to before 2008, visits to IRS’s Web site are substantially higher than in the last 4 years with the exception of 2008. The year 2008 was anomalous, in part, because of the high number of visits to stimulus-related features on IRS’s Web site in 2008.

One measure of the quality of IRS’s Web site is its ranking in the Keynote Systems top 40 government Web sites. During each week of the 2009 filing season, IRS ranked fourth and fifth in response time out of the top 40 government Web sites in the Keynote Government Index weekly ratings, compared to ranging between first or second last filing season.

Finally, IRS is working on a Web portal strategy to expand taxpayers’ access to self-assistance tools for account and tax law issues. Both the TAB and IRS’s 2009-2013 strategic plan focus on enhancing features on IRS’s Web site.

IRS Improved Its Ability to Assess the Quality of Assistance at Volunteer Sites and Accuracy Improved at IRS’s Walk-in Sites

As of June 28, 2009, IRS’s volunteer partners prepared 3 million tax returns, a slight increase of 1 percent over last year. IRS provides training and certification for volunteer staff to help ensure quality. However, assessing the quality of assistance at volunteer sites is a challenge for IRS because of the large number of volunteer sites and staff providing return assistance. IRS officials stated that the agency partnered with community- based organizations to run 12,160 sites in 2009, 320 sites more than last year, staffed with nearly 83,000 volunteers.

Despite these challenges, IRS conducted several types of quality reviews, including site and tax return reviews as well as mystery shopping reviews in both 2008 and 2009. For 2009, IRS combined site and return reviews into its Quality Statistical Sample (QSS) reviews. According to IRS officials, QSS reviews were based on a statistically valid sample of sites. IRS reported that it collected data from 240 site reviews and 679 return reviews, generally reviewing 3 tax returns per site visit. As of mid-April, return preparation accuracy was 78 percent. In contrast, IRS’s mystery shopping reviews resulted in a 68 percent accuracy rate. However, IRS officials stated that the QSS reviews are statistically valid and, therefore, provide a better overall assessment of return accuracy than mystery shopping. Consequently, IRS officials reported they will not conduct mystery shopping in 2010.

While we acknowledge that the QSS reviews represent an important advancement in IRS’s assessment of the accuracy of return assistance at volunteer sites, it is important to consider how the data are collected and how the results will be used. The results of the QSS return reviews could be biased because of volunteers’ awareness of the presence of IRS officials. According to IRS officials, since site visits were unannounced, volunteer staff may have been unaware of IRS’s presence while observing the first return, but were likely to have noticed IRS’s presence by the second and third return. As a result, volunteers could be more quality conscious while preparing the later returns, adhering to the quality process encouraged by IRS more than they might have been otherwise. IRS officials stated that they understand the limitations of how the results were obtained.

In contrast to a slight increase at volunteer sites, as of April 30, 2009, the total number of taxpayers’ contacts at IRS’s 401 walk-in sites was 2.7 million, down 12 percent compared to previous year. Further, as of June 30, 2009, the accuracy of account assistance improved to 88 percent compared to 83 percent last year, and the accuracy of tax law assistance also improved to 76 percent from 67 percent last year. According to IRS officials, this increase is due in large part to management’s focus on the consistent use of IRS tools available to assistors. They identified IRS’s ITLA in particular, for the increase in accuracy in tax law and return assistance, which is used by both IRS’s telephone and walk-in site assistors to provide more accurate and consistent answers to taxpayers’ questions. While IRS officials acknowledged that using ITLA may take longer to get the answer, assistors properly using the tool will provide the right answer(s) to customer specific tax law questions more often than when ITLA is not used.

The Relationship between TAB and IRS’s Budget and Strategic Plan Is Not Clear

TAB is IRS’s 5-year strategic plan for improving service to taxpayers and helping guide the agency’s budget and resource allocation decisions. However, the linkage between TAB and the 2010 budget request for IRS or IRS’s agency wide 2009–2013 strategic plan is not clear. TAB is mentioned once in the budget document and not at all in IRS’s strategic plan. This lack of transparency obscures the link between TAB and IRS’s overall strategic plan and budget. IRS officials acknowledged that while TAB is not specifically included and integrated in IRS’s budget and other planning documents, IRS considers TAB to be a guiding principle.

According to the Office of Management and Budget and our own work, it is important to link general goals communicated in strategic plans with cross-cutting initiatives, such as those listed in TAB because they work together to form a budget and implementation framework. Without more explicit connections between TAB and IRS’s planning documents, Congress and other stakeholders may not be able to understand the priority that IRS places on improving taxpayer service.

RAL Usage Declined in 2009 and IRS Could Further Reduce Usage by Issuing Faster Refunds

According to IRS, depending on the tax refund amount, RAL and RAC fees may range from $39 to over $600, which includes the account set-up fee, tax preparation, and interest. In a recent report, we noted that these charges may amount to an annual percentage interest rate of over 500 percent. IRS officials told us that IRS’s continued efforts to reduce RALs and RACs focus on increasing electronic filing with direct deposit, and improving refund timeliness.

Table 7 shows that 8 million taxpayers applied for RALs from banks or other financial institutions, a decline of 20 percent compared to last year.

One reason for this decline may have been reluctance by some lenders to offer RALs early in the filing season due to taxpayer errors related to recovery rebate credit claims. Because taxpayer’s anticipated refund is the collateral for a RAL, lenders could not be certain the collateral existed when many refund claims were in error. In contrast, the number of RAC requests increased by 10 percent to 11 million. RACs are less risky for the return preparer because the taxpayer receives no money until the preparer receives the refund and deducts associated fees.

IRS’s 2006 RAL report to Congress provides valuable information on taxpayer use of RALs and RACs, benefits of improving refund timeliness on reducing taxpayers’ reliance on RALs and RACs, the cost associated with RALs and RACs, and information on RAL alternatives offered by both IRS and tax preparers.

However, IRS has not released this report to the public nor has IRS updated it. Further, according to IRS officials, there is no requirement to do so. By not public releasing and updating the report, IRS is missing an opportunity to provide Congress and taxpayers with important information on how tax law changes, such as the economic stimulus package, might have affected taxpayers’ reliance on RALs and RACs and potentially reduce taxpayers’ reliance on them.

IRS and Other Entities Share Responsibility for Issuing Refunds, and More Could Be Done to Improve Refund Timeliness

Most refunds are claimed on electronically filed returns and then electronically deposited because taxpayers and preparers know that electronic filing and depositing speeds up refund processing. Refunds take 5 to 15 days, as shown in figure 1. Figure 1 also shows that refund processing time varies by day of the week and is shorter for refunds processed on CADE than on IRS’s legacy individual master file, three entities--IRS, Treasury’s Financial Management Service (FMS) and Automated Clearing House (ACH)—share responsibility for issuing refunds (see table 8 below). IRS runs pre-refund tax law compliance checks, FMS checks for non tax debt owed to the federal government, and ACH distributes the funds. IRS accounts for a varying proportion of the total processing time. In a number of cases, IRS accounts for less than half the time it takes to process and issue a refund.

Improving refund timeliness is a goal of IRS, with the effort focused on shifting tax return processing to CADE. Figure 1 suggests that another approach would be to try to reduce the time taken by the other two entities involved in issuing refunds, particularly ACH. While IRS officials reported that they meet at least annually with FMS officials to discuss issues related to refunds and communicate intermittently to address issues as needed, they also said that they have not aggressively explored with the other two entities whether opportunities exist to shorten refund processing time. This is a timely issue because as IRS has shifted 40 million of tax returns to CADE, t he IRS proportion of overall refund processing time has decreased.

IRS Has Not Studied the Use of Debit Cards for Unbanked Taxpayers

While IRS offers paper check and direct deposit options for delivering refunds to taxpayers, it has not studied the feasibility of distributing refunds electronically through debit cards. Further, IRS has not determined the costs of issuing debit cards nor the benefit for taxpayers. Although tens of millions of taxpayers receive paper checks, they are less secure than electronic distribution of benefits. Further, many unbanked taxpayers may not have the benefit of faster refunds associated with direct deposit and, instead, receive their tax refund by checks, often incurring transaction costs, such as check cashing fees.

Debit card programs are well established in a variety of state and federal government programs. For example, FMS’s Direct Express debit cards allow beneficiaries to receive their benefits as quickly as direct deposit while avoiding transaction fees associated with receiving check payments. Similarly, debit cards could provide taxpayers with a low- or no-cost refund option for receiving refunds quickly. According to a recent survey conducted by TIGTA, 63 percent of RAL applicants indicated a preference for receiving a debit card from IRS instead of purchasing a RAL. Finally, in its RAL report to Congress, IRS noted that transitioning unbanked taxpayers to debit cards would allow them to receive their refund in the same amount of time as taxpayers that have direct deposit.

Without researching the benefits and costs of debit cards, IRS does not know whether direct distribution of cards is a viable option to distribute refunds, improve refund timeliness and reduce taxpayer reliance on RALs, and provide electronic payment options for unbanked taxpayers.

We have previously reported that Treasury’s role as the federal government’s leader for payments and its experience with electronic payment methods suggests that it could provide valuable information and assistance to IRS, particularly when working with other entities to improve service. However, without aggressively collaborating with FMS and ACH to improve refund timeliness and explore other refund options, IRS may be missing an opportunity to further reduce the time taxpayers wait for refunds and taxpayers’ reliance on RALs.

During Returns Processing IRS Could Reduce Taxpayer Confusion and Better Ensure Compliance with Higher Education Tax Benefits

We identified higher education tax benefits as one area where an expansion of MEA and revisions to information returns might reduce taxpayer confusion and increase compliance (see app. V). Millions of taxpayers claim the Hope and Lifetime Learning tax credits to offset qualified education expenses. However, these tax provisions are complicated and may lead taxpayers to under claim benefits or unknowingly claim more benefits than they are entitled to claim.

IRS faces challenges ensuring compliance with the eligibility requirements of the higher education credits. IRS relies on audits and limited MEA to ensure compliance. However, audits may not be an efficient method for enforcement in this case. Audits are labor intensive, and therefore costly, for IRS. According to IRS officials, the maximum amount most taxpayers can claim per student each year—$1,800 per student for the Hope credit and $2,000 per return for the Lifetime learning credit for tax year 2008— may not yield sufficient revenue to justify expanded enforcement. Because of the relatively high costs and small revenue gain, IRS does relatively few audits of the millions of education credit claims.

IRS has MEA to verify compliance with some of the higher education credit eligibility requirements. However, IRS lacks the statutory authority to use MEA to verify compliance with the limit on the number of years that taxpayers can claim the Hope credit. If IRS had authority to use information from prior years’ returns to check taxpayers’ eligibility, it could correct claims during processing, before refunds are issued, and enhance compliance.

Eligible educational institutions are required to report information on qualified expenses for higher education to both taxpayers and IRS so that taxpayers can determine the amount of educational tax benefits that can be claimed (see app. V). However, the information currently reported by educational institutions on tuition statements sent to IRS and taxpayers (on Form 1098-T) may be confusing for taxpayers who use the form to prepare their tax returns and not very useful to IRS.

IRS requires institutions to report on Form 1098-T either the (1) amount of payments received, or (2) amount billed for qualified expenses. IRS officials stated that most institutions report the amount billed and do not report payments. However, the amount billed may not equal the amount that can be claimed as a credit. For example, the amount billed may not account for all scholarships or grants the student received. In such cases, the Form 1098-T may overstate the amount that can be claimed as a credit, confusing taxpayers. Conversely, if institutions are not providing information on other eligible items, such as books or equipment, taxpayers might be understating their claims.

In addition to confusing taxpayers, the existing Form 1098-T is not very useful to IRS in its enforcement efforts. According to IRS officials, because the amount billed may not be the amount taxpayers are eligible to claim as a credit, IRS does not compare tuition statement information to the information reported on a tax return. IRS officials stated that a change in legislation, which TIGTA recommended in a recent report, would be needed to require institutions to report only the amount paid. However, IRS does not currently use some of the more basic information from the tuition statement to verify eligibility for the credit. For example, a tuition statement includes the student’s SSN that could be matched to tax return information. Additionally, IRS does not use the location of the institution to determine whether it is located in a federal disaster area, which substantially increases the amount of the eligible credit. Using IRS’s compliance computer matching systems to automatically compare information on statements to taxpayers’ claims could be a low-cost enforcement tool for IRS to verify certain aspects taxpayers’ eligibility for of the credit.

While changing the requirements for how higher education institutions report qualified expenses on tuition statements would likely impose some burden on those institutions, the additional burden could be low because the institutions are already required to fill out Form 1098-T. Further, this form could be revised to more clearly provide additional information about qualified expenses, such as for books, supplies, and equipment— information institutions might already collect—and potentially reduce taxpayer confusion and noncompliance.

Conclusions

IRS met many of its 2009 filing season goals. The major exception was telephone service, where, for a second year in a row, unanticipated increases in call volume significantly reduced performance, in part, because of inquires related to tax law changes. However, IRS does not have a research plan for conducting analyses of its telephone contacts that could identify areas for more automated services. The declines in telephone performance also highlight the importance of TAB, which is intended to provide the strategy for improving service to taxpayers, and how TAB is integral to IRS’s overall strategic plan.

Millions of taxpayers continue to use expensive RALs and RACs. By not coordinating more closely with FMS and ACH, IRS may be missing opportunities to improve refund timeliness and expand options for refund delivery, both of which might reduce taxpayers’ demand for RALs and RACs. Further, by not updating its RAL report and studying the feasibility of debit card options, IRS may be missing other opportunities to reduce the transaction costs imposed on taxpayers, particularly low income taxpayers, when they receive tax refund payments.

Finally, steps could be taken by Congress to provide IRS with the statutory authority to automatically verify some aspects of higher education credits claims and by IRS to improve and better utilize information reported by higher education institutions. Without such steps, taxpayers may remain confused by the information reported to them, and IRS will not make use of some low-cost, less intrusive tools for helping ensure compliance.

Matters for Congressional Consideration

Congress should consider providing IRS with MEA to use prior years’ tax return information to automatically verify taxpayers’ compliance with the limit on the number of years the Hope credit can be claimed.

Recommendations for Executive Action

Related to improving IRS’s performance during the filing season, the Commissioner of Internal Revenue should Develop as soon as possible an analysis plan for using the data IRS captures through Contact Analytics; and Explicitly integrate the TAB in strategic planning documents.

To further improve refund timeliness and reduce reliance on RALs and RACs, IRS should Update and publicly release a report on RAL and RAC use; Work more proactively with FMS and ACH to help improve refund Determine the feasibility of offering debit cards for refunds.

To reduce taxpayer confusion and enhance compliance with the eligibility requirements for higher education benefits, IRS should Determine the feasibility of using current information reported on Form 1098-T, such as school location and taxpayer identification number or SSN, in IRS’s compliance programs; and Revise Form 1098-T to improve the usefulness of information on qualifying education expenses.

Agency Comments and Our Evaluation

In written comments on a draft of this report (which are reprinted in appendix I), the IRS Deputy Commissioner for Services and Enforcement explicitly agreed with five of our recommendations and described the steps IRS is taking with respect to our two other recommendations. IRS officials also provided technical comments which we incorporated as appropriate.

IRS agreed to develop a comprehensive and detailed evaluation plan for Contact Analytics, work to define the scope and objectives for potentially updating and releasing a RAL/RAC report, and work with FMS and ACH to improve refund timeliness. IRS also agreed to consider the feasibility of using current information on Form 1098T in its compliance programs, and develop a plan to address possible changes to that form.

With respect to our recommendation to explicitly integrate TAB in strategic planning documents, the Deputy Commissioner said that although they are not repeated verbatim in IRS’s Strategic Plan, TAB’s guiding principles resonate throughout the document. We acknowledged IRS’s position in making our finding and recommendation. However, TAB is not mentioned once by name in IRS’s strategic plan. Without an explicit and transparent connection between TAB and IRS’s other planning documents, Congress and other stakeholders may not be able to understand the priority that IRS is giving to improving taxpayer service.

Concerning our recommendation to determine the feasibility of offering a debit card option for refunds, the Deputy Commissioner said that the agency is exploring options for debit card use including an option to provide debit cards directly. Because the Deputy Commissioner’s letter does not provide any detail on what exploring options means, we want to reiterate the basis for our recommendation. A small debit card pilot program was conducted at several volunteer sites around the country, but that pilot did not provide information on the benefits or costs of IRS issuing debit cards directly. Given the large number of unbanked taxpayers, we believe IRS should determine the feasibility of directly issuing debit cards.

As agreed with your offices, unless you publicly announce the contents of this report earlier, we plan no further distribution until 30 days from the report date. At that time, we will send copies to the Chairmen and Ranking Members of other Senate and House committees and subcommittees that have appropriation, authorization, and oversight responsibilities for IRS. We will also send copies to the Commissioner of Internal Revenue, the Secretary of the Treasury, the Chairman of the IRS Oversight Board, and the Director of the Office of Management and Budget. The report also will be available at no charge on the GAO Web site at http://www.gao.gov. If you or your staff have any questions or wish to discuss the material in this report further, please contact me at (202) 512-9110 or at whitej@gao.gov. Contact points for our Offices of Congressional Relations and Public Affairs may be found on the last page of this report. GAO staff who made contributions are listed in appendix VI.

Appendix I: Comments from the Internal Revenue Service

Appendix II: IRS’s Existing and Suggested Math Error Authority for Enhancing Compliance

Table 8 below summarizes the Internal Revenue Service’s (IRS) existing math error authority (MEA) as well as authorities we recently suggested that Congress provide to enhance compliance, including for certain tax credits. In addition, last year we recommended that the IRS Commissioner use existing MEA to identify and correct child and dependent care credit claims on “Married Filing Separately” returns and assess the effectiveness of combining the Federal Case Registry and other data on taxpayer characteristics to verify the eligibility of Earned Income Tax Credit claims from noncustodial parents.

Appendix III: IRS’s Processing Performance Relative to 2004 Through 2008 and 2009 Goals

As shown in table 9, the Internal Revenue Service (IRS) met or exceeded goals for six out of eight of its goals for the percentage of errors included in deposits and correspondence (which was separated into letter and notice errors in previous years); deposit and refund timeliness (i.e., interest foregone by previous years); productivity; and individual master file (IMF) efficiency.

One measure where performance was significantly below IRS’s goal and below last year’s level was the correspondence error rate, the percentage of incorrect notices and letters issued to taxpayers. According to IRS officials, this resulted from a high number of erroneous notices sent to taxpayers claiming the recovery rebate credit early in the filing season.

Appendix IV: IRS Toll-Free Calls and Percentage of Callers Seeking and Receiving Live Assistance for 2009 and 2008

During the 2009 filing season, the Internal Revenue Service (IRS) received most of the calls early on, with the heaviest call volume during February (see fig. 2 below). Most of the calls were related to taxpayers’ need for authentication information and tax law changes. In contrast, during the 2008 filing season IRS received most of the calls after the filing season, between April and June and were primarily stimulus-related questions.

Appendix V: Key Facts on Selected Tax Benefits for Higher Education

Taxpayers can generally claim tax benefits to help offset qualified higher education expenses for an eligible student if the eligible student is the filing taxpayer, their spouse, or a dependent for whom they claim an exemption on a tax return. Tax benefits include credits, deductions, as well as a number of other programs to help taxpayers offset qualified education expenses. Unlike other student aid programs such as federal grants that offer assistance to the taxpayer in determining their entitlements, tax benefits require the taxpayer to understand the pertinent rules and, ultimately, choose the option that provides the most benefit.

Information reported by educational institutions on the tuition statement (Form 1098-T) assists taxpayers in determining the amount of benefits to which they are entitled. Consequently, inaccurate information on the tuition statement may contribute to taxpayer confusion and result in taxpayers making less-than-optimal claims or being unintentionally noncompliant.

Table 10 below provides information on tax benefits for education that are available to qualifying taxpayers for the 2008 and 2009 tax years.

Appendix VI: GAO Contact and Staff Acknowledgments

James R. White, (202) 512-9110 or whitej@gao.gov.

Acknowledgments

In addition to the contact named above, Joanna M. Stamatiades, Assistant Director; Vida Awumey; John P. Dell’Osso; Kara Eusebio; Melanie D. Helser; Lina Khan; Kirsten B. Lauber; Angela Leventis; Natalie Maddox; Paul B. Middleton; Karen V. O’Conor; Sabine R. Paul; Neil Pinney; Sabrina C. Streagle; and Jessica Thomsen made key contributions to this report.