In recent years, steep declines have occurred in some of IRS’s compliance programs for individual taxpayers, as have broad declines in its efforts to collect delinquent taxes. These trends have triggered concerns that taxpayers’ motivation to voluntarily comply with their tax obligations could be adversely affected. Taxpayers’ willingness to voluntarily comply with the tax laws depends in part on their confidence that their friends, neighbors, and business competitors are paying their fair share of taxes. IRS’s compliance programs, including audits, document matching, and other efforts, are viewed by many as critical to maintaining the public’s confidence in our tax system. Looking across all four of IRS’s major enforcement programs between fiscal years 1993 and 2002 reveals a somewhat mixed picture, as shown in figure 1. The four programs and their trends are as follows: The math error program that identifies obvious errors such as mathematical errors, omitted data, or other inconsistencies on the filed tax return. Using only the math error count, which is consistent throughout the 10 years, the math error contact rate rose 33 percent (from 3.59 to 4.79 percent). The document matching program that identifies unreported income using information returns filed by third parties such as employers and banks. Document matching rates went up and down at various times but ended 45 percent lower (from 2.37 percent to 1.30 percent) in 2002 compared to 1993. The nonfiler program that identifies potential nonfilers of tax returns by using information return and historical filing data. The nonfiler rates also went up and down but ended in 2002 about where they were in 1993. The audit program that checks compliance in reporting income, deductions, credits and other issues on tax returns through correspondence or in face-to-face meetings with an IRS auditor. Comparing 1993 to 2002, the audit contact rate dropped 38 percent (from 0.92 to 0.57 percent) even though it rose significantly between 1993 and 1995. Figure 2 shows compliance program trends based on income ranges. Although audit rates for individual taxpayers in higher and middle-income ranges rose slightly in 2002, overall they were significantly lower in 2002 than in 1993, while the rate for the lowest income range was virtually the same in 2002 as in 1993. The audit contact rates for the highest and lowest income individuals essentially converged at around .8 percent in fiscal years 2001 and 2002. Most of the audits of the lowest income individuals dealt with EIC claims. Document matching contact for all three income ranges rose somewhat between 2001 and 2002. However, rates for all three income ranges ended significantly lower in 2002 than 1993 following similar patterns of change over the years. Data on contact rates by income level were not available for the math error and nonfiler programs. As we reported in May 2002, between fiscal years 1996 and 2001 trends in the collection of delinquent taxes showed almost universal declines in collection program performance, in terms of coverage of workload, cases closed, direct staff time used, productivity, and dollar of unpaid taxes collected. Although IRS’s workload generally declined for two of those indicators, workload and cases closed, the collection work it completed declined more rapidly creating an increasing gap as show in figure 3. During that 6-year period, the gap between the new collection workload and collection cases closed grew at an average annual rate of about 31 percent. The increasing gap between collection workload and collection work completed led IRS in March 1999 to start deferring collection action on billions of dollars in delinquencies. IRS’s inventory of delinquent accounts was growing and aging and the gap between its workload and capacity to complete work was increasing. Officials recognized that they could not work all collection cases, and they believed that they needed to be able to deal with taxpayers more quickly, particularly taxpayers who were still in business and owed employment taxes. By the end of fiscal year 2002, after the deferral policy had been in place for about 3 and one-half years, IRS had deferred taking collection action on about $15 billion in unpaid taxes, interest, and penalties. IRS’ deferral of collection action has declined somewhat since the deferral policy was adopted. Although the rate has declined from 45 percent in 2000 to about 32 percent in 2002, IRS is still deferring collection action on about one out of three collection cases. Many parties have expressed concern about these trends in IRS’s compliance and collection programs. Since the mid-1990s, we have issued six reports on IRS compliance and collection trends in response to congressional concerns. During annual oversight hearings on IRS, Congress often raises questions about the declining audit rate and possible effects on compliance. In recent years, congressional concerns as well as IRS’s requests have resulted in efforts to augment IRS’s staffing levels. In fact, the former IRS Commissioner’s report to the IRS Oversight Board during September 2002 made what was perhaps the most explicit case for additional staffing to address IRS’s compliance and collection performance. Although the Commissioner recognized that IRS needed to improve the productive use of its current resources, he cited a need for an annual 2 percent staffing increase on top of planned productivity increases over 5 years to help reverse the trends. In terms of the collection of tax debts, the IRS Commissioner estimated that an almost 60 percent gap exists between IRS’s collection workload and the work it has completed. Closing this gap, according to the Commissioner, would require 5,450 new full-time staff. IRS also has been looking for ways to free resources for compliance programs by boosting productivity or reducing workload in other areas. In our recent Performance and Accountability Series report on the Treasury Department, we cite the collection of unpaid taxes as one of the management challenges facing IRS. In that report, we state that IRS is in various stages of planning and implementing management improvements, including reengineering compliance and collection practices. However, as of September 30, 2002, IRS’s inventory of known unpaid taxes totaled $249 billion, of which $112 billion has some collection potential, and is at risk. Since 2001, IRS's budget requests have made increasing its compliance and collection staff one of several key priorities. For example, in its 2001 budget request IRS asked for funding for the Staffing Tax Administration for Balance and Equity initiative, which was designed to provide additional staff for examination, collection, and other enforcement activities. However, as shown in figures 4 and 5, staffing in two key compliance and collection occupations were lower in 2002 than in 2000. This continues a general trend of declining staffing in these occupations for a number of years. The declines in compliance and collection staffing occurred for several reasons, including increased workload and unbudgeted costs. In September 2002, the Commissioner attributed the decline in compliance staffing to increases in workload in other essential operations, such as processing returns, issuing refunds, and answering taxpayer mail. In the most recently completed fiscal year, 2002, IRS faced unbudgeted cost increases, such as rent and pay increases, of about $106 million. As a result, IRS had to delay hiring revenue agents and officers. IRS noted in its 2002 budget request that any major negative changes in the agency's financial posture, such as unbudgeted salary increases, will have a negative effect on staffing levels. For fiscal year 2004, IRS is requesting $10.4 billion, an increase of 5.3 percent over fiscal year 2003 requested levels, and 100,043 full-time equivalents (FTE). Also, IRS's 2004 budget request is its second in a row to propose increased spending for higher priority areas that would be funded, in part, with internal savings redirected from other areas. Specifically, IRS proposes to devote an additional $454 million and 3,033 more FTEs to enhance programs, including compliance and some customer service areas. As shown in figure 6, $166 million of the enhancements would be funded from internal savings with the remainder funded from the budget increase. We commend IRS for identifying savings to be reinvested in operations to improve IRS performance. This approach implements a key principle of IRS's long-term modernization effort. Under this approach, the reengineering of IRS's work processes, much of which depends on investments in computer modernization, would automate or eliminate work, improve productivity, and free staff time that could then be redirected to higher priority customer service and compliance activities. Some caution is appropriate, however, in considering whether the additional FTEs will be realized. In addition to the potential that some cost increases may not be funded as in prior years, revised projections developed since the 2004 budget request was prepared raise questions about IRS's ability to achieve all the savings projected and shift resources to compliance as planned. IRS has revised the savings associated with several reengineering efforts identified in the 2004 budget request. Revisions this far in advance of the start of the fiscal year are not a surprise. They do indicate some uncertainty associated with the budget request's savings projections. For example, most significant reengineering efforts planned for fiscal year 2004, in terms of FTEs and dollars to be saved, will not achieve all of their projected savings because the efforts were based on assumptions that will not be realized, according to IRS data and officials. IRS's effort to improve the efficiency of compliance support activities, the single most significant effort, depended partially on IRS implementing individual compliance savings projects in 2003. This effort was projected to save 394 FTEs and almost $26 million. However, due in part to delays until 2004 to allow for additional testing, this effort is now expected to save about 30 percent of the original projections through the end of fiscal year 2004. IRS now projects that the seven most significant efforts will save 1,073 FTEs and $60.5 million, down from original projections of 1,356 FTEs and $77.7 million. Reengineering efforts may not achieve all of their savings goals, in part, because of the long time lag between when IRS begins developing its budget request and when the fiscal year begins.