Continued
Progress Is Needed to Improve the Timeliness of Providing Legal
Advice in Large and Mid-Size Business Division Examinations
December 2002
Reference
Number: 2003-30-021
This report has cleared the Treasury
Inspector General for Tax Administration disclosure review process and
information determined to be restricted from public release has been redacted
from this document.
December
3, 2002
MEMORANDUM FOR
ACTING COMMISSIONER WENZEL
FROM: Gordon C Milbourn III /s/ Gordon C.
Milbourn III
Acting Deputy Inspector
General for Audit
SUBJECT: Final Audit Report - Continued Progress
Is Needed to Improve the Timeliness of
Providing Legal Advice in Large and Mid-Size Business Division Examinations (Audit
#200130038)
This
report presents the results of our review to
assess how timely legal advice is requested by and delivered to Large and
Mid-Size Business (LMSB) Division examiners.
In summary, the LMSB Division has been working to improve the timeliness of providing legal advice in LMSB Division examinations. The LMSB Division has made positive organizational changes and implemented new initiatives that show promise in reducing the length of LMSB Division examinations. However, the length of time it takes to provide legal advice to examiners is substantial and may hamper the Division’s ability to meet its Fiscal Year (FY) 2003 goal for timely completing examinations. In evaluating why providing legal guidance in examinations can be lengthy, we noted opportunities for improvement in the processes for both requesting and delivering legal services.
One opportunity for
improvement lies with requiring that Internal Revenue Service (IRS) attorneys
assist examiners in the risk analysis process to better ensure the need for
legal advice is identified and requested in the early stages of
examinations. Although the LMSB
Division currently requires examiners to request legal advice as soon as
possible, it left the definition of “as soon as possible” to the discretion of
examiners. Having neither a clear
definition of “as soon as possible,” nor an adequate process to ensure legal
advice is sought as soon as possible, makes it difficult to determine if this
requirement is being met.
Another opportunity for
improvement involves ensuring that the data in the Office of Chief Counsel’s
management information system is complete.
Management’s ability to identify and address problems is currently
hampered because data elements designed to be captured by the system are often
missing. For example, key dates for
measuring the length of time it takes to deliver legal advice were not captured
in 58 percent of the legal advice requests listed on the system.
Management’s
Response: IRS management agreed with the
recommendations presented in the report.
The LMSB Division Commissioner will issue a memorandum to field
examination personnel clarifying instructions about requests for legal
assistance early in the audit process.
The LMSB Division Counsel also submitted a system change request to
Information Technology Services to bring the now-required data fields to the
forefront of the Technical Management Information System database. Management’s complete response to the draft
report is included as Appendix IV.
Copies of this
report are also being sent to IRS officials who are affected by the
recommendations. Please contact me at
(202) 622-6510 if you have questions or your staff may contact Parker F.
Pearson, Acting Assistant Inspector General for Audit (Small Business and
Corporate Programs), at (410) 962-9637.
Internal Revenue Service Attorneys Are Poised to Increase
Their Involvement in Examinations
Legal Advice Needs to Be More Timely Requested by and Delivered to Examiners
Appendix I – Detailed Objective, Scope, and Methodology
Appendix II – Major Contributors to This Report
Appendix III – Report Distribution List
Appendix IV – Management’s Response to the Draft Report
The Internal Revenue Service (IRS) and its stakeholders have long been concerned about the length of time it takes to start and complete examinations of the nation’s largest corporations. Large corporate examinations may not start for several years after the corporate return is filed and then take several more years to complete. In 1994, the General Accounting Office (GAO) documented that the IRS began studying large corporate examinations in the 1970s and on the basis of these studies announced numerous changes to its examination processes in July 1990. Among others, the changes were intended to promote better coordination among its attorneys and examiners, and to provide examiners with prompt legal and technical assistance from the start of examinations so that tax issues can be resolved earlier in the process.
While the IRS has experienced some successes in implementing the changes, more progress could be made. For example, in testimony before the IRS Oversight Board in January 2002, the president of the Tax Executives Institute stated that:
Some of the most significant burdens imposed on taxpayers relate to the
requirement that extensive records be maintained in respect of taxable years
subject to audit. Although taxpayers
clearly have a responsibility to maintain records to support positions taken on
their tax returns, much can be done to minimize the burden that currently
exists (especially for those taxpayers that have many years open for IRS
examinations). Record retention burdens
can best be reduced by increasing the currency of audits; if taxable years are
closed in a more timely manner, there will be less need to retain records
relating to those years.
Today, the IRS’ Large and Mid-Size Business (LMSB) Division has the responsibility of conducting large corporate examinations. To carry out its responsibilities, the LMSB Division is organized around five industry segments: Financial Services; Heavy Manufacturing and Transportation; Natural Resources & Construction; Retail, Food, Pharmaceuticals & Healthcare; and Communications, Technology & Media. An industry director, who reports directly to the LMSB Division Commissioner, heads each industry segment. Among other benefits, the LMSB Division structure is intended to result in a less time-consuming examination process.
Due to the complexity of the tax issues in large corporate examinations, IRS attorneys are available to advise LMSB Division examiners on tax law matters and issue-development. Their legal advice to examiners is often provided informally during meetings or by telephone. However, attorneys also provide more formal, written advice to examiners. Our analysis of the IRS’ Fiscal Year (FY) 2001 information shows that IRS attorneys provided informal and/or formal guidance in approximately 540 LMSB Division examinations.
This audit included database analysis, interviews of IRS
officials, and in-depth case studies assessing the timeliness of requests for
and delivery of legal advice in LMSB Division examinations. We performed our audit in accordance with Government
Auditing Standards at the LMSB Division Headquarters in Washington, DC, and
offices in the Chicago, Illinois; Philadelphia, Pennsylvania; and San
Francisco, California, metropolitan areas from October 2001 to May 2002.
Detailed information on our audit objective, scope, and methodology is presented in Appendix I. Major contributors to the report are listed in Appendix II.
Ongoing organizational changes and initiatives involving IRS attorneys show promise in shortening lengthy large corporate examinations. A new IRS Chief Counsel was recently appointed and has indicated that involving IRS attorneys earlier in the examination process is being considered to help examiners identify and develop tax issues. Since examiners have historically been criticized for examining the entire tax return rather than focusing on specific material issues, early involvement by the IRS’ attorneys may help examiners better focus on only the important issues.
The new Chief Counsel is also focusing attention on speeding up the delivery of written legal advice to examiners and taxpayers. For example, a new type of written legal advice is now being tested that avoids having examiners and taxpayers reach agreement on the facts over a disputed tax issue. The agreement process between examiners and taxpayers can be lengthy, thereby extending the time it takes to conduct examinations. Chief Counsel is also considering other changes in how written advice is provided to examiners.
The establishment of an LMSB Division Counsel is another important organizational change that provides dedicated legal support to the five industry directors. The LMSB Division Counsel has a staff of about 275 attorneys that are geographically located in the cities headquartering the five LMSB Division Industry Directors.
For example, LMSB Division Counsel attorneys in the western United States are located in Oakland, California, where the Communications, Technology, & Media Industry Director is located. Figure 1 shows the geographic and headquarters locations of these five industry segments.
Figure 1 was removed due to its size. To see Figure 1, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.
The LMSB Division Counsel structure is intended to foster a closer working relationship between attorneys, examiners, and taxpayers so that tax issues that arise in a particular industry can be addressed more timely. Taking advantage of these closer working relationships are the Industry Issue Resolution (IIR) and Pre-filing Agreement (PFA) Programs, which are two new initiatives aimed at shortening lengthy examinations.
The IIR Program encourages industry associations and taxpayer representatives to suggest ways of resolving, other than through an examination, contentious issues impacting a significant number of taxpayers. The end result of the process is to provide guidance to a large group of taxpayers within an industry or across industry lines.
The PFA Program allows taxpayers to request examination of specific issues relating to a tax return before it is filed. This process can resolve some tax issues more effectively and efficiently than a post-filing examination because the taxpayer and the IRS have more timely access to the relevant records and personnel. It can also shorten post-filing examinations because there will be fewer issues left to examine. We reviewed the PFA pilot in a report titled, The Pre-filing Agreement Pilot Project Was Successful, But Faces Challenges in Converting to an Operational Program (Reference Number 2001-30-125, dated August 2001).
Despite positive organizational changes and promising new initiatives, reducing the time to request and deliver legal advice in LMSB Division examinations remains a challenge. Our analysis of 59 examinations from the Chicago, Philadelphia, and San Francisco metropolitan areas in FY 2002 showed that the time it takes to provide legal advice in examinations is substantial and may hamper the Division’s ability to meet its goal for timely completing examinations.
For example, in 14 (24 percent) of the 59 cases, more than 1,650 days, or about 55 months, elapsed from the date the return was filed until written legal advice was delivered to the examiner. Other trend information in our analysis showed that:
Ø In 22 (37 percent) of the 59 cases, more than 18 months elapsed for examiners to identify the need for legal advice after an examination was started.
Ø In 13 (22 percent) of the 59 cases, examiners took more than 12 months to complete the request for legal advice once the need for the guidance was recognized.
Ø In 23 (39 percent) of the 59 cases, attorneys took more than 7 months to provide written advice once the request for guidance was received.
The GAO’s Standards for Internal Control in the Federal Government describe control activities as the policies, procedures, techniques, and mechanisms that enforce management’s directives. We applied these standards in evaluating why providing legal guidance in examinations can be lengthy, and noted opportunities for improvement in the processes for both requesting and delivering legal services.
One reason for the delays is that the LMSB Division requires examiners to request legal advice as soon as possible. However, it left the definition of “as soon as possible” to the discretion of examiners. The uncertainty of the requirement and the absence of an adequate process to ensure legal advice is sought as soon as possible make it difficult to determine if this requirement is being met. Figure 2 illustrates our analysis of 196 requests for legal advice during examinations of 536 returns that the LMSB Division closed in FY 2001.
Figure 2 was
removed due to its size. To see Figure 2,
please go to the Adobe PDF version of the report on the TIGTA Public Web Page.
Despite the requirement for examiners to request legal advice as soon as possible, Figure 2 shows that almost 50 percent of the requests for legal advice were made 20 or more months after the examination was started. Our interviews with examiners and managers confirmed the pattern shown in Figure 2. The examiners and managers told us that legal assistance is generally not sought until late in the examination process when disagreements surfaced over tax issues that had been presented to taxpayers.
Another reason for the delays, and hence an opportunity for improvement, lies with ensuring the data in management’s information system are complete, so delays and other problems in the delivery of legal advice can be quickly identified and addressed. The Office of Chief Counsel uses an automated, nationwide management information system to control, manage, and monitor its workload, including requests for legal advice. However, the data elements the system was designed to capture are not always complete.
For example, key dates for measuring the length of time it takes to deliver legal advice, such as when the advice request was received and when it is due, were not captured in 58 percent of the requests listed on the system. In addition, important information that allows for locating and tracking requests were not always entered into the system. The missing data items included the source of the request, the taxpayer identification numbers, and the tax year involved.
One disadvantage of not having complete data was evident in May 2001, when IRS attorneys were unable to provide advice timely to an examination team manager who sought advice on a tax issue that involved a $78.2 million corporate merger. The examination team manager stated that:
On this issue, the delay, …
which postponed the closing of this audit significantly, was caused by National
Office. First they lost the FSA, and
did not assign it to anyone. We finally
closed the case without having a response from National Office.
1. The LMSB Division Industry Directors should coordinate with the LMSB Division Counsel in establishing a requirement that IRS attorneys assist in the risk analysis process to better ensure the need for legal advice is identified and requested earlier in examinations.
Management’s Response: The LMSB Division Commissioner will issue a memorandum to field examination personnel clarifying instructions about requests for legal assistance early in the audit process. As appropriate, examiners will consult with LMSB Division Counsel during the risk analysis process and on issues that may require legal assistance to expedite development and resolution of issues.
2. The Office of Chief Counsel should better ensure its management information system is complete so delays and other problems in the delivery of legal advice can be quickly identified and addressed. This could be accomplished by conducting data validation checks in upcoming Business Performance Reviews.
Management’s Response: The Office of Chief Counsel submitted a systems change request to Information Technology Services to bring the now-required data fields to the forefront of the Technical Management Information System database. The LMSB Division Counsel will develop procedures to require attorneys to ask for necessary information from the examination teams and submit it for data entry into the database.
Appendix I
Our objective was to assess how timely legal advice is requested by and delivered to Large and Mid-Size Business (LMSB) Division examiners. To meet our objective, we relied on the IRS’ internal management reports and databases. We did not establish the reliability of this data because extensive data validation tests were outside the scope of this audit. Except as noted above, our work was conducted in accordance with Government Auditing Standards. Our specific audit tests included the following:
I. Defined the purpose, scope, inputs, outputs, and customer needs for legal advice by reviewing the LMSB Division’s and the Office of Chief Counsel’s guidelines; and interviewing executive level, mid-level, and front line managers.
II. Analyzed the LMSB and Chief Counsel inventory tracking systems to evaluate examination results involving IRS attorneys.
III. Analyzed the Chief Counsel inventory control system data and reviewed a judgmental sample of 59 of the approximately 275 written requests for legal advice from the Chicago, Illinois; Philadelphia, Pennsylvania; and San Francisco, California, metropolitan areas to determine how much time was involved in requesting and delivering the advice.
IV. Verified whether specific time periods and other performance measures had been established for requesting and delivering legal advice.
V. Reviewed the General Accounting Office’s (GAO) Executive Guide: Effectively Implementing the Government Performance and Results Act and prior reports issued by the Treasury Inspector General for Tax Administration to assess the applicability of performance measures for legal advice.
VI.
Applied the
GAO’s Standards for Internal Control in the Federal Government to
existing controls over requests for and delivery of legal advice and evaluated
whether risks were sufficiently minimized.
Appendix
II
Major Contributors to This Report
Parker Pearson, Acting
Assistant Inspector General for Audit (Small Business and Corporate Programs)
Phil Shropshire, Director
Frank Dunleavy, Audit Manager
Robert Jenness, Senior Auditor
Stanley Pinkston, Senior Auditor
Debra Mason, Auditor
Appendix III
Chief Counsel CC
Commissioner, Large and Mid-Size Business Division LM
Deputy Commissioner, Large and Mid-Size Business Division LM
Division Counsel, Large and Mid-Size Business Division CC:LM
Deputy Division Counsel, Large and Mid-Size Business Division CC:LM
Director, Communications, Technology, and Media Industry, Large and Mid-Size Business Division LM:CTM
Director, Financial Services Industry, Large and Mid-Size Business Division LM:F
Director, Heavy Manufacturing and Transportation Industry, Large and Mid-Size Business Division LM:HMT
Director, Natural Resources and Construction Industry, Large and Mid-Size Business Division, LM:NRC
Director, Retail, Food, Pharmaceuticals & Healthcare Industry, Large and Mid-Size Business Division, LM:RFPH
National
Taxpayer Advocate TA
Director, Legislative Affairs CL:LA
Director, Office of Program Evaluation and Risk
Analysis N:ADC:R:O
Office of Management Controls N:CFO:F:M
Audit Liaisons:
Chief Counsel CC
Commissioner, Large and Mid-Size Business
Division LM
Appendix
IV
The response was removed due to its size. To see the complete response, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.