2011 Tax Filing: Processing Gains, but Taxpayer Assistance Could Be Enhanced by More Self-Service Tools
Released: 2012-01-17T00:00:00

Letter

Background

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

Taxpayers can call IRS to speak directly with a customer service representative (CSR), or use automated telephone lines to obtain information quickly. IRS has 10 automated telephone lines, which allow, for example, taxpayers to interactively inquire about the status of a refund, order a transcript of their return or account information, and request a personal identification number (PIN) to file electronically. IRS’s 149 Teletax lines provide prerecorded messages on tax law topics ranging from alternative filing methods to what a taxpayer can itemize.

CSRs are also responsible for responding to paper correspondence.

IRS tries to minimize the percent of overage paper correspondence (generally correspondence that is more than 45 days old). IRS staff provides face-to-face assistance at 401 walk-in sites or Taxpayer Assistance Centers (TAC) where taxpayers can get basic tax law questions answered, review their accounts, and have returns prepared if their annual income is $49,000 or less. IRS also has volunteer partners that staff over 12,000 volunteer sites. Volunteers at these Volunteer Income Tax Assistance (VITA) and Tax Counseling for the Elderly (TCE) sites prepare tax returns for traditionally underserved taxpayers, including the elderly, low-income, disabled, and those with limited English proficiency. These sites also provide other services such as helping taxpayers without a bank account get into the banking system and financial literacy education.

In addition to the services IRS provides to taxpayers during the filing season, paid tax preparers and tax software development companies play an important role answering taxpayers’ questions and filing tax returns. In 2011, for the first time, paid preparers who expected to prepare 100 or more returns were generally required to file the returns electronically.

As part of IRS’s Business System Modernization (BSM) program, over the next few years IRS plans to make major changes to how it processes individual income tax returns to facilitate faster refund processing and maintain more up-to-date account information. For example, IRS is replacing the legacy Individual Master File (IMF) and current Customer Account Data Engine (CADE) systems that it uses to process individual income tax returns with CADE 2. IRS plans to implement its CADE 2 program in three phases beginning in 2012. The first phase includes two projects: (1) processing tax returns daily, rather than weekly, using the IMF (known as IMF daily); and (2) implementing the CADE 2 database. IRS is also replacing its legacy e-filing system with the Modernized e- File (MeF) system, and it plans to retire the legacy e-file system in October 2012. IRS cannot accept electronically filed returns directly from taxpayers. Rather, IRS authorizes e-file providers, such as large tax preparation firms, to transmit returns to IRS electronically using either the legacy e-file or MeF system. The benefits of MeF include accepting or rejecting individual tax returns faster, providing a clearer explanation of why a return was rejected, and accepting prior-year returns. The system also allows taxpayers to attach portable document format (PDF) files to their tax returns (the legacy e-filing system cannot accept additional documentation, requiring such returns to be submitted on paper).

Last year we reported that IRS has been taking actions to improve its website by identifying steps to enhance taxpayer service.effort, IRS plans to spend $320 million to upgrade and maintain its website over the next 10 years. These plans include introducing a new website by the 2013 filing season.

IRS’s 5-year strategic plan for improving service to taxpayers identified five website-management control gaps, such as content management, website design and usability, and frequently asked questions.IRS has three existing web portals accessible to the public at large, registered users, and IRS employees, respectively. According to IRS, its new portal environment investment will replace the current environment that has reached the end of its useful life, and provide streamlined, web-based services to taxpayers, business partners, IRS employees, and other government agencies. IRS plans to begin phasing in the new portal environment in 2012.

While processing returns, IRS validates key pieces of information and corrects returns before issuing refunds, which allows it to avoid auditing taxpayers after returns have been processed and refunds sent to Such audits, which are costly to IRS and burdensome for taxpayers.taxpayers, may result in the assessment of interest and penalties, and may require IRS to collect amounts due. Correcting errors may result in taxpayers receiving larger refunds. Prerefund compliance checks help ensure that taxpayers submit required information to the IRS with their returns. In conducting prerefund compliance checks, IRS does the following:

Completes automated and relatively low-cost (compared to audits)

MEA is statutory authority granted to IRS by Congress to correct calculation errors and other obvious instances of noncompliance, such as claims above income and credit limits, and assess additional tax based on such errors without having to issue a statutory notice of deficiency.

Electronic Fraud Detection System (EFDS), which detects returns at a high risk for fraud. IRS is currently replacing EFDS with the Return Review Program (RRP).

In addition, millions of taxpayers may choose to obtain their tax refunds through a RAC or RAL, which are offered to taxpayers by paid preparers or banks in connection with federal or state tax refunds, or both. RACs are a refund delivery option where refunds are directly deposited into a temporary bank account set up by a financial institution or tax preparer on behalf of the taxpayer. The tax return preparation fee, along with other fees, is generally withheld from the refund and the remaining funds are available to the taxpayer. RALs are short-term, high-interest-rate bank loans that allow taxpayers to get their refunds faster and also allow taxpayers to pay return preparation and other fees out of their refunds. In contrast to RALs, RACs are not loans.

During 2011, taxpayers also could choose to receive their tax refund from IRS through (1) their banks’ direct deposit program, (2) paper checks, or (3) debit cards, which could be obtained from a participating bank, through Treasury’s pilot program on debit cards, or at VITA/TCE sites. Since 2009, IRS has worked with partner organizations at VITA/TCE sites to encourage taxpayers not requesting a direct deposit of their refund to opt to receive it on a debit card sponsored by a participating financial institution. Last year we reported that less than 3 percent of eligible taxpayers at VITA/TCE sites elected to receive refunds on debit cards. Separately, in 2011, Treasury launched a pilot program offering about 800,000 low-income taxpayers tax refunds on debit cards. Although targeting the same demographic group, the VITA site offers are made in person and the Treasury offer was made through the mail. Even though both programs are relatively small in scale, they are important because they are intended to identify ways to reduce the cost of delivering refunds to taxpayers, provide faster refunds compared to paper checks, reduce transaction costs, and provide individuals who might not otherwise have access to a bank account with banking services.

Processing of Returns Was Timely, but Opportunities to Improve Taxpayer Service Exist

During the 2011 filing season, the percentage of returns e-filed increased considerably and IRS expects new systems to speed refunds to taxpayers. As a result of these improvements, IRS’s refund timeliness measure and goal, which relates only to paper returns, is outdated. In addition, the high call volume and amount of paper correspondence highlight the need to improve taxpayer service through providing additional self-service tools. Although fewer taxpayers receive face-to- face assistance than in other ways, IRS is taking steps to improve service at TAC and VITA sites.

E-Filing Increased and the Shift to New Processing Systems Continues

IRS processed about 140 million returns and almost reached its e-file goal of 80 percent (78 percent of individual returns were e-filed and 22 percent filed on paper), established by Congress in 1998. E-filing increased about 13 percent compared to last year, as table 1 shows. E- filing has many benefits for taxpayers, such as higher accuracy rates and faster refunds, and it also provides IRS with significant cost savings through eliminating the need for manual transcription of paper returns, which is labor intensive and introduces errors. According to IRS, in fiscal year 2010, it cost 17 cents to process an e-filed return and $3.66 for returns filed on paper. IRS officials and representatives from major tax preparation firms attributed the increase in the e-file rate to factors including the e-filing requirement for paid preparers and the fact that IRS did not mail out hard-copy tax forms to taxpayers.the states also have e-file mandates, which may also encourage taxpayers to e-file federal returns. Further, IRS met all eight returns processing goals, summarized in appendix IV.

IRS’s Refund Timeliness Measure and Goal Do Not Reflect Processing Performance and Capabilities

IRS’s current refund timeliness measure and goal, which it routinely uses in budget justification documents and to assess its performance, do not include e-filed returns. The IRS Restructuring and Reform Act of 1998 requires IRS to report to Congress on how it has maintained processing times of 40 days or less for paper returns, in addition to implementing a plan to increase electronic filing, and IRS maintains a goal of issuing Due to improvements refunds for returns filed on paper within 40 days.in the percentage of e-filed returns (nearly 80 percent of returns are now filed electronically) the measure does not apply to the majority of returns filed by taxpayers. IRS last made significant changes to the refund timeliness measure in 2003. Since that time IRS has made important changes to facilitate faster refund processing. For example, the number of e-filed returns has more than doubled, IRS implemented new systems including current CADE, and, in 2012, IMF daily processing should allow IRS to issue refunds within 4 business days for direct deposit and 6 business days for paper checks after it processes the return and posts the return data to the taxpayer’s account. As a result, the goal of issuing 97 percent of refunds within the 40 days for paper returns does not give IRS a meaningful indicator of how quickly it is disbursing refunds.

According to IRS officials, the refund timeliness goal captures the percentage of refunds issued for returns filed on paper within 40 days, which is 5 days before IRS generally must begin paying interest on the refund. However, as we previously reported, performance measures and goals should provide useful information for decision-making to track how programs can contribute to attaining the organization’s goals and mission. We have also stressed that agencies need to consider differing needs of various stakeholders, including Congress, to ensure that performance information will be both useful and used. IRS has a variety of options for updating its refund timeliness measure. For example, more meaningful measures could include identifying the percentage of refunds issued during given periods (such as the percentage of refunds issued in 10 or 20 days) or creating separate measures for returns filed on paper and returns filed electronically. Doing so would not preclude IRS from continuing to meet its requirement of reporting the percentage of refunds for returns filed on paper issued within 40 days. Without developing a new refund timeliness measure and goal to more appropriately reflect current capabilities, IRS is missing opportunities to better measure its actual performance and provide useful information to Congress for decision- making purposes.

High Call Volume Drives the Need to Expand Self- Service Telephone Lines

Since 2007, IRS has struggled to respond to high call volume, which has adversely affected access to telephone service. In 2011, IRS received 83 million calls as of June 30, compared to about 57 million through the same date in 2007 (see app. VI). Over the same years, as table 2 shows, taxpayers’ ability to gain access to CSRs, IRS’s live telephone assistors, deteriorated. In 2011, 72 percent of taxpayers seeking live telephone assistance got through to a CSR, compared to 81 percent in 2007. The deterioration in access is also reflected in the length of time taxpayers must wait before speaking to a CSR. In 2011, average wait time was almost 12 minutes; in 2007 it was less than 5 minutes. IRS officials attribute the higher call volume over the years to a number of factors including tax law changes made very late in the year that generated a lot of taxpayer questions Table 2 also shows that, as performance declined, IRS reduced its goals for access to CSRs and increased its goal for telephone wait time. Despite less chance of getting through to CSRs and longer wait times, this year IRS met its goal for providing live assistance and almost met it for wait time. IRS sets its telephone performance goals based on the expected volume and complexity of calls (complexity affects the time required to respond to a taxpayer), resource availability, and the anticipated volume of paper correspondence that CSRs handle. Even though IRS has reduced its goals for phone service, the number of full- time equivalents (FTE) dedicated to answering the phones has actually increased from about 8,000 in fiscal year 2007 to about 8,800 in fiscal year 2011.

A positive aspect of IRS’s telephone service in 2011 was the accuracy of CSRs answers. As shown in table 2, IRS’s accuracy rate estimates for CSR answered calls remained well over 90 percent. In the past we have reported that IRS officials attribute these high accuracy rates to automated interactive tax law assistance tools that CSRs use to provide answers to taxpayers. IRS also attributes the high accuracy rate to the use of contact analytics—a tool used to identify reasons why taxpayers call IRS and evaluate how CSRs interact with taxpayers.

Key to improving telephone access, given the high volume of taxpayers calling the IRS and resource constraints, is shifting as many calls as appropriate to self-service tools, such as interactive automated telephone lines or the IRS website. Providing automated answers to taxpayer questions reduces the demand to speak to a CSR and also reduces IRS’s costs. In 2011, through June 30, CSRs answered over 22 million calls at a cost of about $30 per call, for a total of about $660 million. Conversely, IRS said this year it cost $0.36 to answer an automated phone call.

We identified two types of calls that could likely be answered through automation, but are instead answered by CSRs—calls about the status of amended tax returns and callers asking for the location of a TAC or VITA site.

GAO, 2009 Tax Filing Season: IRS Met Many 2009 Goals, but Telephone Access Remained Low, and Taxpayer Service and Enforcement Could Be Improved, GAO-10-225 (Washington, D.C.: Dec. 10, 2009).

Where’s My Refund online self-service tool. However, taxpayers who filed an amended return must speak to a CSR.

Last year, IRS assessed the need to create an automated telephone line that gives taxpayers the status of their refund if they filed an amended return, similar to the current Where’s My Refund automated line. IRS officials do not track the exact number of calls they receive related to amended returns, but believe it to be a significant number. IRS received over 4.3 million amended returns in fiscal year 2011 alone, and according to IRS’s assessment, an automated self-service tool for checking on the status of a refund from an amended return could potentially serve as many as 5 million taxpayers annually. IRS officials acknowledged that creating this line would free up CSRs to answer other lines, and submitted an internal request to create such an automated line to allow taxpayers to determine the status of their amended return refund, which has yet to be funded. IRS officials were uncertain exactly how much it would cost to develop the line but said that it would probably cost less than $1 million.

In addition, from January 1 through June 30, 2011, CSRs answered over 60,000 calls from taxpayers inquiring about the location of a TAC or VITA site. During the same time period last year, IRS received over 35,000 calls to the lines and, in 2009, IRS received more than 60,000 calls to these lines. However, IRS does not have an automated telephone line for those taxpayers to call. As a result, taxpayers must go online or call IRS and wait to speak to a CSR.

Without offering an automated phone line for taxpayers inquiring about the status of their amended return or the location of a TAC or VITA site, CSRs will continue to answer calls that could be addressed through automation. In determining whether to create additional automated lines and which lines to prioritize, IRS would need to compare the up-front costs associated with creating such applications with the projected benefits over time. IRS is unsure how much it would cost to automate the amended return telephone line, but IRS’s preliminary estimates suggest that the benefits may outweigh the cost. IRS officials acknowledged they have not determined whether the cost of automating the TAC and VITA locator lines would be worth the benefits. As a result, IRS may be missing opportunities to provide taxpayers with more self-service tools, save resources, and provide better access to taxpayers.

IRS Has Received about the Same Amount of Paper Correspondence as in 2010, but Overage Paper Correspondence Increased

Managing the trade-offs between responding to paper correspondence and providing live telephone service illustrates the challenges IRS faces in improving taxpayer service. In 2011, IRS dedicated about 4,700 FTEs to providing paper correspondence. We previously reported that the age of taxpayer paper correspondence had risen steadily since 2005, and recommended that IRS establish a performance measure that includes providing timely correspondence service to taxpayers. IRS agreed, but the recommendation has not been fully implemented. Table 3 shows that the overall amount of paper correspondence is about the same as last year and the percentage of overage inventory (paper correspondence older than 45 days) increased again in 2011. The volume and percentage of overage paper correspondence further highlight the need to provide additional automated services and maximize resources.

Although far fewer taxpayers visit TAC and volunteer sites than call IRS or use its website, these sites represent an important service. As of April 30, 2011, IRS received 2.85 million taxpayer contacts at its 401 TACs, compared to about 2.78 million contacts during the same period last year. The accuracy of accounts and tax law assistance provided at TACs stayed about the same as last year, as table 4 shows.

IRS is implementing service improvements, including self-service tools, at TAC sites intended to increase access, reduce wait time, and extend the effectiveness of its employees. IRS expanded its pilot program of extended Saturday and evening hours to 36 TACs to increase taxpayer access. IRS officials said they would like to expand this program but need to renegotiate a letter of understanding with the National Treasury Employees Union so they can adjust employee schedules without incurring overtime costs. To reduce wait time and improve customer service, IRS officials told us there were 100 Facilitated Self Assistance kiosks located at 37 TAC sites to encourage clients with less complex questions to use them. For 2011, the number of taxpayer contacts at the TAC kiosks more than doubled to about 21,500 from about 9,550 in 2010.

For 2012, as part of IRS’s efforts to increase self-service and improve the productivity of its employees, IRS is piloting a virtual assistance program at 12 TACs that would allow employees to interact with walk-in clients through a video terminal at other sites when the employee is not occupied at their home site. Also beginning in 2012, IRS will be able to measure wait time at TAC sites on a nationwide basis.

Highlights of VITA/TCE site performance include the following:

The number of volunteers at VITA/TCE sites increased slightly to over 88,500, up from about 87,600 last year.

Volunteers prepared 3.2 million tax returns, up from 2.9 million last year.

Return preparation accuracy by volunteers increased to 87 percent, a gain from 85 percent in 2010.IRS placed employees at 31 VITA sites to assist with return preparation and answer questions from about 6,800 taxpayers, up from 27 sites and about 5,500 taxpayers in 2010. Due to budgetary constraints, IRS does not plan to expand the number of IRS employees or sites supported in 2012.

IRS is supporting its volunteer site partners as they work with taxpayers to promote financial education and asset building, which includes efforts to bring taxpayers without a bank account into the banking system. The number of taxpayers requesting direct deposit at VITA sites has risen in each of the last 5 years, and by a total of about 50 percent since 2007 (from about 970,000 in 2007 to about 1.5 million in 2010). Later in this report, we discuss the options available for taxpayers, particularly those without bank accounts, to receive refunds.

Website Use Continues to Grow, but IRS Does Not Have a Comprehensive Internet Strategy

Visits to IRS’s website (www.irs.gov) and the use of self-service tools continue to increase since last year, as table 5 shows.

IRS officials believe that the increase in the use of the search tool over the years is due in part to site visitors not being able to easily locate the information they are seeking. IRS acknowledged that the existing manner in which IRS manages content on its website contributes to more searches because of duplicative and outdated information. Currently, content is developed on IRS’s website by about 300 employees throughout IRS, and Content Area Administrators provide oversight. In September 2011, IRS developed a draft business case for a new content management strategy that is expected to significantly reduce duplication and greatly improve user search results. According to IRS, centralizing certain elements of content management is a key piece of its Internet strategy, and removing old content should make the site more efficient and improve content consistency, quality control, and the user experience.

IRS Is Developing an Internet Strategy, but Fundamental Elements Are Missing

As we noted earlier, IRS has begun spending a planned $320 million on its website over a 10-year period. IRS awarded the contract for the new website in August 2011 and has begun developing the website, which it plans to introduce in 2013. IRS’s investment plans include, among other things, introducing new, more secure portals for taxpayers to access information. However, IRS does not have concrete plans that define what additional online services the new website will ultimately provide and how much the services will cost. To their credit, IRS officials have begun developing a roadmap that identifies some online services they would like to provide, and IRS has periodically added new online services in the past. However, the roadmap omits several fundamental elements. For example, it does not include an assessment of the costs and benefits for new services identified, time frames for when these online services would be created and available for taxpayer use, or specific plans to periodically revisit the strategy and make revisions based on IRS’s priorities. Online tools, much like automated telephone lines, are a partial substitute for calling IRS and perhaps speaking to a CSR. The extent to which taxpayers can be diverted to the web will allow IRS to assist them at a much lower cost and more quickly.

Federal guidance suggests that a strategy to guide website development within an agency is important. For example, the guidance states that a strategic plan is an essential part of web management; performance goals and time frames are necessary elements to be included within the strategic plan; cost estimates are necessary to support decisions about funding one program over another, evaluate resource requirements at key decision points, and develop performance measurement baselines; and agencies should also revisit plans periodically and update them to reflect changes in priorities and capabilities.

Recent organizational changes within IRS, including the addition of a Director of Online Services at the agencywide level and a reorganization of IRS’s online management team, offer opportunities to develop a more comprehensive approach to website development. The Director of Online Services told us that he plans to further develop the strategy based on taxpayers’ needs and develop online services in an iterative manner. However, IRS has not yet developed an initial schedule for implementing online services and it is not clear the IRS plans to develop a more comprehensive Internet strategy.

Without a comprehensive Internet strategy in place that IRS revisits on a regular basis, IRS risks not getting the greatest possible benefits from the $320 million and any additional funding for online services that it proposes to spend. In addition, taxpayers and Congress do not have complete information about the online services IRS intends to provide in return for making these investments.

Federal Taxpayers Are Unable to Access Account Information Online

Unlike online services offered by two states we identified, taxpayers who visit IRS’s website cannot view and update personal tax account information online. Online services are a substantially less expensive means for IRS to conduct business with taxpayers compared to telephone or paper correspondence, making it important for IRS to promote interactive website services. Table 6 compares online services offered by tax agencies in New York and California compared to IRS. New York and California state tax officials said they expect taxpayers to increasingly transition from the phones to the web for information, driving down their operating costs. In addition, officials from New York also reported that the anticipated savings greatly outweigh the up-front costs in their case.

According to IRS officials, they have not allowed taxpayers to view and update elements of their personal tax account online because of outdated technology and federal regulations requiring secure access to account information. However, IRS has recently taken steps that may allow it to meet federal requirements for electronically authenticating (e- authenticating) users online so that taxpayers can access information securely. By 2013, IRS plans to have online security features in place that would allow taxpayers to access more account information online. Nevertheless, IRS has not assessed the need for allowing taxpayers to view and update elements of their personal account information online nor has it conducted an assessment of the risks associated with doing so—all of which could be completed in conjunction with the development of a more comprehensive Internet strategy discussed above. Without making these determinations, IRS is missing opportunities to reduce costs and provide the most beneficial online services to taxpayers.

Expanding Prerefund Compliance Checks Appears Feasible, but Depends on System Upgrades and Process Changes

In April 2011, the Commissioner of Internal Revenue said that IRS should develop a long-term vision to perform more prerefund checks of returns by requiring earlier submission of information provided by third parties to match the data with taxpayer returns. He acknowledged that implementing such a strategy would require a fundamental shift in how IRS conducts its business and would likely need to take place over a significant period of time. In more recent remarks in October 2011, the Commissioner stated that after conducting an initial review of the steps IRS would need to take to achieve his long-term vision, he believes that implementing the vision may be even more feasible than initially thought.

Figure 2 illustrates IRS’s current prerefund process for e-filed and paper returns. As we mentioned earlier, the key information systems that support the process are further outlined in appendix III.

As IRS develops this strategy, it is also undertaking shorter-term initiatives, including upgrading information systems, expanding data collection, and identifying areas where it could use additional MEA or make changes to existing processes to enhance prerefund compliance checks.

Upgrading Information Systems: In 2012, IRS plans to implement IMF daily processing and, in 2013, to make MeF the sole system for accepting electronic returns, and transition to CADE 2 for returns processing at a future date. IRS also plans to replace the EFDS— which applies specific fraud criteria to tax returns filed with the IRS to identify questionable tax returns with refunds—with RRP. RRP is a more modern database that IRS views as a critical piece in its prerefund compliance activities because it will allow IRS to more effectively identify fraudulent schemes early in the filing season. Although IRS believes that EFDS is obsolete and too risky to maintain past 2014, procurement delays and a change in vendors will likely result in extending the implementation of RRP beyond 2014. We plan to further assess RRP’s progress as part of our annual budget and information systems reviews.

Expanding Data Collection: We reported earlier that IRS does not transcribe all data from paper filed returns due to cost constraints. As IRS only runs automated compliance checks on data present in both e-filed and transcribed paper returns, the amount of data for enforcement activities is limited. In October 2011, we reported that because an increasing percentage of returns are e-filed, IRS could be at the point where the benefits of digitizing additional data from paper returns are greater than costs.

Identifying Additional MEA or Process Changes: IRS works with Treasury on a case-by-case basis to identify areas where it may need MEA. Although we have suggested that granting IRS broader MEA would help ensure compliance before refunds are issued, we recognize that MEA may not always be the most effective or appropriate prerefund compliance tool (see apps. I and II for a list of current and proposed MEA for IRS). For example, in our October 2011 report on IRS’s administration of the adoption tax credit, we recommended that IRS determine whether existing processes could be used to reduce the number of costly audits conducted rather than obtain MEA.

Although these short-term efforts to enhance prerefund compliance checks are important, the potential long-term benefits of matching information provided to IRS by third parties to tax return data during the filing season may generate benefits to taxpayers and IRS that far exceed those from current prerefund compliance checks.

RACs Have Largely Replaced RALs, and Treasury Is Continuing to Study Alternatives for Providing Refunds

In 2010 (the last year with data available), RACs greatly outnumbered RALs, 18 million to 2 million, as shown in figure 3. Since 2005 the total number of RACs and RALs issued has not changed much but the distribution has.

Although less is known about RACs than controversial RALs, some have expressed concerns that RACs have similar features to RALs and are used by the same categories of taxpayers. For example, consumer advocacy groups have noted that the fees associated with a RAC may be high, lack transparency, and taxpayers may not always fully understand the refund product to which they are agreeing—similar to concerns previously raised with respect to RALs. A 2010 Urban Institute report developed at the request of Treasury noted that RAC and RAL usage is common across similar population groups. For example, RAC and RAL usage is highly concentrated in America’s poorest communities, and RAC and RAL users frequently do not have bank accounts to receive direct deposits. RAC and RAL users also tend to be similar to consumers of other alternative financial services, including pawnshop loans and payday loans.explained, in part, by the fact that allowing the return preparer to deduct tax preparation fees from the refund (as opposed to being paid for out-of- pocket when the return is prepared) is the primary benefit of a RAC.

The high use of RACs and RALs in low-income areas may be The total average cost of a RAC is difficult to calculate because pricing varies considerably across providers, and fees beyond the flat fee for setting up the RAC account are difficult to calculate. Figure 4 provides an example of potential fees incurred by taxpayers when filing a return and receiving a refund through a RAC. For example, most tax preparers we observed charge a flat fee of about $30 to $35 for setting up a RAC account. Tax preparers may also charge an additional fee for issuing a paper check and taxpayers may incur fees when using debit cards supplied by tax preparers. In addition, preparers charge standard fees for tax preparation, including for document preparation and e-filing. Taxpayers may also incur other fees not charged by the preparer, such as check-cashing fees.

Despite the fact that many taxpayers still need to pay for tax preparation services out of their refunds, the fees associated with RACs and the concerns noted above raise questions about whether taxpayers understand the benefits and all the fees of RACs. Federal rules require tax preparers to inform taxpayers that they are receiving a RAC or a RAL, and some states have issued additional regulations requiring more disclosures that must be provided to taxpayers when signing up for a RAC. For example, Arkansas, California, Maine, and Maryland require preparers to post a RAL and RAC fee schedule.

One step that could help taxpayers make more informed decisions about RAC use is improving the relevance of IRS’s refund timeliness performance measure, which we previously discussed. A refund timeliness measure that gave taxpayers a clearer picture of how long it normally takes to get a refund from IRS could help them decide whether it is worth paying RAC fees.

Treasury and IRS Are Exploring Lower-Cost Options to Deliver Refunds to Taxpayers

In part to address concerns about costly refund delivery mechanisms, in January 2011 Treasury launched a pilot program that offers low- and medium-income taxpayers the option to receive their federal tax refund on a debit card, which could be delivered to taxpayers more quickly and at a lower cost to IRS. In part, the program was intended to measure whether providing such options to taxpayers would reduce reliance on costly refund products and offer safer and more secure refunds to taxpayers without bank accounts. Treasury designed the program to test a variety of fee structures and marketing techniques to determine whether taxpayers would likely use the cards if the program were expanded on a national The preliminary results indicate that taxpayers are most sensitive basis.to pricing of a refund debit card, opting for the card with no fees the most frequently. The Urban Institute is working on the final assessment of the Treasury program, which is scheduled to be released in December 2011.

According to a Treasury official, because the program was a pilot to test taxpayers’ responsiveness to different debit card offers, Treasury does not expect to continue the program in 2012. However, it is exploring other options to test out products in future filing seasons. Treasury is also determining whether refunds could be deposited on Direct Express cards—cards on which citizens already receive federal benefit payments—at a future date.

Separately, IRS is trying to encourage taxpayers who may not have an account at a bank or other financial institution to receive their refunds through direct deposit on a debit card issued by one of IRS’s four national bank partners.VITA sites and IRS’s national banking partners issued just over 6,000 prepaid cards—a small percentage of potentially eligible taxpayers. In In 2011, refunds on debit cards were available at all August 2011, IRS completed a study to determine how to appropriately market debit cards and other services provided at VITA sites. IRS concluded that, among other things, low-cost options, such as continuing to work through VITA/TCE partners to promote the cards, exist to increase the use of debit cards at VITA/TCE sites.

IRS officials anticipate that these two efforts may result in reduced taxpayer use of RACs and RALs by providing taxpayers without bank accounts a low-cost or no-cost option to receive refunds quickly.

Conclusion

IRS is processing tax returns in a rapidly changing environment. In 2011, IRS met a number of its filing season performance goals, and e-filing increased to nearly 80 percent—a target that IRS has worked to reach over more than a decade. Moving forward, new systems, including CADE 2 and MeF, should allow IRS to issue refunds much more quickly and provide other benefits. In this context, opportunities exist for IRS to revisit how it measures its performance in processing tax returns and refunds and make related goals more meaningful.

The continued low level of telephone service combined with the high cost of assistor answered calls highlights the importance of implementing additional self-service tools for both IRS’s telephones and its website. This is especially important in an era of tight budgets when federal agencies will be expected to do more with less. By developing an Internet strategy and implementing e-authentication, IRS is taking important steps to identify and provide additional online services, including starting to spend a planned $320 million on its website over 10 years. However, developing a more comprehensive strategy should help ensure that IRS gets the most benefit for taxpayers from this investment.

Recommendations for Executive Action

We recommend that the Commissioner of Internal Revenue take the following four actions: develop a new refund timeliness measure and goal to more appropriately reflect current capabilities; offer an automated telephone line that gives taxpayers the status of their amended tax return, unless IRS has a convincing cost-benefit analysis to suggest that the costs exceed the benefits; assess the costs and benefits of automating the TAC/VITA location telephone lines, and automate these lines if the benefits exceed the costs; and complete an Internet strategy that provides a justification for the implementation of online self-service tools and includes an assessment of providing online self-service tools that allow taxpayers to access and update elements of their account online; acknowledges the cost and benefits to taxpayers of new online services; sets the time frame for when the online service would be created and available for taxpayer use; and includes a plan to update the strategy periodically.

Agency Comments and Our Evaluation

We provided a draft of this report to the Commissioner of Internal Revenue. In written comments on a draft of this report (which are reprinted in app. VIII) the IRS Deputy Commissioner for Services & Enforcement agreed with three of our four recommendations.

IRS agreed that automating the ability to locate TAC and VITA sites could enhance service and convenience, but said that resources are not currently available to support it. We acknowledge that IRS is facing tough choices in an environment of constrained resources. However, we recommended that IRS assess the costs and benefits of automating the TAC/VITA location telephone lines, and automate these lines if the benefits exceed the costs. Since 2007, IRS telephone service has continued to suffer and we believe that a rigorous assessment of the costs and benefits of automating the TAC/VITA telephone line will give IRS better information on how to allocate scarce resources.

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. In addition, the report will be available at no charge on the GAO website at http://www.gao.gov.

If you or your staff have any questions about this report, please contact me at (202) 512-9110 or 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 key contributions to this report are listed in appendix IX.

Appendix I: IRS’s Existing Math Error Authorities

Table 7 summarizes the Internal Revenue Service’s (IRS) 13 areas of existing math error authority (MEA). As early as the first codification of the Internal Revenue law in 1926, Congress granted IRS MEA so that IRS does not have to provide taxpayers with a statutory notice of deficiency for math errors. A 1976 statutory revision defined the authority to include not only mathematical errors, but other obvious errors, such as omissions of data needed to substantiate an item on a return, and provided a statutory right to file a request for abatement of the assessment within 60 days after the notice is sent. In the 1990s, Congress extended the authority multiple times, and more recently it has added other provisions to help determine eligibility for certain tax exemptions and credits, such as the First-Time Homebuyer Credit.

Appendix II: Status of Prior GAO Matters for Congressional Consideration and TIGTA Recommendations for MEA

For almost a century, Congress has been expanding the Internal Revenue Service’s (IRS) math error authority (MEA) on a case-by-case basis. In 2010, we suggested that authorizing the use of MEA on a broader basis with appropriate controls to protect taxpayer rights could help IRS address compliance problems with newly created tax credits. In the absence of broader MEA, we have also suggested that Congress expand MEA for more limited purposes as shown in table 8. The Treasury Inspector General for Tax Administration (TIGTA) also made several recommendations to IRS to request expanded MEA from Congress.

Appendix III: Key IRS Prerefund Compliance Check and Tax Processing Systems

Table 9 summarizes the key systems the Internal Revenue Service (IRS) uses to conduct prerefund compliance checks and process tax returns.

Appendix IV: IRS’s Processing Performance Relative to 2007 and 2011 Goals

As shown below in table 10, the Internal Revenue Service (IRS) met all of its processing performance goals in 2011.

Appendix V: Status of Modernized E-Filing (MeF) by State

Appendix VI: Call Volume, Composition, and Level of Service, 2007 through 2011

The Internal Revenue Service (IRS) receives millions of phone calls each year, some of which are answered by live assistors and some of which are handled through automated services, as figure 5 shows. In 2011, IRS received 83 million calls as of June 30 compared to about 57 million through the same date in 2007.

Appendix VII: IRS’s Prerefund Compliance Process

Figures 6 through 8 show the Internal Revenue Service’s (IRS) process for conducting prerefund compliance checks for all individually filed tax returns, returns filed electronically, and returns filed on paper, respectively. An interactive graphic illustrating this process is shown in figure 2 of this report.

Appendix VIII: Comments from the Internal Revenue Service

Appendix IX: GAO Contact and Staff Acknowledgments

GAO Contact

Staff Acknowledgments

In addition to the contact named above, Joanna Stamatiades, Assistant Director; Steven J. Berke; Abbie David; David Fox; Tom Gilbert; Matt Johlie; Inna Livits; Kirsten Lauber; Karen O’Conor; and Sabrina Streagle made key contributions to this report.