Forms and Publications for Tax Year 2003 Properly Explain Specific Tax Law Changes Affecting Individual Taxpayers

 

March 2004

 

Reference Number:  2004-40-069

 

 

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.

 

March 9, 2004

 

 

MEMORANDUM FOR COMMISSIONER, WAGE AND INVESTMENT DIVISION

 

FROM:     Gordon C. Milbourn III /s/ Gordon C. Milbourn III

                 Acting Deputy Inspector General for Audit

 

SUBJECT:     Final Audit Report - Forms and Publications for Tax Year 2003 Properly Explain Specific Tax Law Changes Affecting Individual Taxpayers  (Audit # 200440015)

 

This report presents the results of our review of the update of Tax Year (TY) 2003 tax forms, instructions, and publications for new tax legislation.  The overall objective of this review was to determine if the Internal Revenue Service (IRS) identified new tax legislation affecting individual taxpayers and ensured all relevant forms, instructions, and publications were updated for TY 2003.

Each year, the IRS faces the challenge of incorporating new tax legislation into many of its publications and processes. Implementing new legislation becomes more challenging when there are numerous provisions with effective dates that extend over several years.  An important element within these required changes is the revision to the various tax forms, instructions, and publications (i.e., tax products).

There are 31 provisions in the Jobs and Growth Tax Relief Reconciliation Act of 2003, the Trade Act of 2002, and the Taxpayer Relief Act of 1997 that will affect individual taxpayers during TY 2003.  We reviewed 10 of the provisions we believe could have the most significant impact on taxpayers.  Overall, the IRS did a good job of clearly and accurately updating the tax forms and publications relating to the provisions we reviewed. The impact of the legislation was properly identified, changes to the forms, instructions, and publications were adequately controlled, and the revised products were clearly and accurately updated to reflect the changes to the tax laws.  We did, however, observe a few situations that could lead to some confusion or errors on tax returns.  While we do not believe these situations are significant enough to warrant corrective actions at this time, we do suggest the IRS monitor the situations and take actions if needed.  

Management’s Response:  IRS management reviewed the draft report and provided their concurrence with its contents via email.  Since there were no recommendations requiring a formal response, the IRS agreed the report should be issued with no formal written response.

Copies of this report are also being sent to the IRS managers affected by the report.  Please contact me at (202) 622-6510 if you have questions or Michael R. Phillips, Assistant Inspector General for Audit (Wage and Investment Income Programs), at (202) 927-0597.

 

Table of Contents

Background

Tax Year 2003 Provisions Were Adequately Controlled and Related Tax Products Were Accurately Updated

Appendix I – Detailed Objective, Scope, and Methodology

Appendix II – Major Contributors to This Report

Appendix III – Report Distribution List

Appendix IV – Significant Tax Year 2003 Tax Law Changes for Individual Taxpayers

Appendix V – List of Tax Products Reviewed

 

Background

Each year the Internal Revenue Service (IRS) faces the challenge of incorporating new tax legislation into many of its publications and processes.  Implementing new legislative changes becomes more challenging when there are numerous provisions with effective dates that extend over several years.  An example of this is the Economic Growth and Tax Relief Reconciliation Act of 2001, which contains 85 major provisions that will require 441 changes to the Internal Revenue Code effective over a 10-year period.

Controlling the overall implementation of new tax legislation is the responsibility of the IRS Office of Tax Administration Coordination.  This Office coordinates with IRS functional areas to identify and control the changes that are necessary to implement new legislation. These changes are controlled and monitored on the Legislative Implementation Tracking System (LITS). An important element within these required changes is the revision to the various tax forms, instructions, and publications (i.e., tax products). 

The IRS function responsible for tax products is the Tax Forms and Publications Division.  The Tax Forms and Publications Division uses a program called the Tax Forms and Publications Oracle Program Tracking System to manage the tax product development process. This Program tracks milestone dates, computes taxpayer burden, and tracks legislation implementation plans for more than 800 tax products.

Tax Law Specialists in the Tax Forms and Publication Division are assigned specific tax products and are responsible for interpreting the tax law, determining the needed changes, and making the changes the Congress intended in the legislation.

This review was performed in the Tax Forms and Publications Division and the Office of Tax Administration Coordination in the National Headquarters in Washington, D.C.  The audit was conducted from October 2003 through January 2004 in accordance with Government Auditing Standards.  For the purpose of this review, only those tax products the IRS had made available in draft form or had finalized prior to January 16, 2004, were reviewed.

Detailed information on our audit objective, scope, and methodology is presented in Appendix I. Major contributors to the report are listed in Appendix II.

Tax Year 2003 Provisions Were Adequately Controlled and Related Tax Products Were Accurately Updated

Overall, the IRS did a good job of clearly and accurately updating the tax forms and publications relating to the provisions we reviewed.  The impact of the legislation was properly identified, changes to the forms, instructions, and publications were adequately controlled, and the revised products were clearly and accurately updated to reflect the changes to the tax laws.

For Tax Year (TY) 2003, the Jobs and Growth Tax Relief Reconciliation Act of 2003, the Trade Act of 2002, and the Taxpayer Relief Act of 1997 contained 31 provisions that will affect taxpayers. We reviewed 10 of the provisions we believe could have the most significant impact on taxpayers.  These provisions include changes to the rules for dividends and capital gains, the child tax credit, the health care tax credit, the lifetime learning credit, and the general tax rates.  A brief summary of the provisions we reviewed for TY 2003 can be found in Appendix IV.

The IRS identified 594 action items on the LITS that were required to effectively update the related tax products for the 10 provisions we reviewed.  Of the 594 action items, we reviewed 137 that dealt with updates for dividends and capital gains, the child tax credit, the health care tax credit, the lifetime learning credit, and the general tax rates.  We reviewed these action items to determine if the changes to the related tax products were clear and accurate. 

The 137 action items required changes to 47 tax products (16 forms, 13 instructions, and 18 publications).  A list of the 47 tax products we reviewed can be found in Appendix V.  Examples of the tax products we reviewed included the 2003:

·        United States (U.S.) Individual Income Tax Returns (Form 1040, 1040A, and 1040EZ) and related instructions.

·        Capital Gains and Losses (Schedule D) and related instructions.

·        Your Federal Income Tax (Publication 17).

·        Highlights of 2003 Tax Changes (Publication 553).

Revisions to each of the tax products affected by the 137 action items must be consistent with the statute enacted by the Congress.  Comparison of each tax product with the related legislation determined that all of the tax products we reviewed were properly revised.  There were also changes made to the tax products that are not specifically listed on the LITS or the Tax Forms and Publications Oracle Program Tracking System.  Our review showed these changes were also accurate. 

While the tax products related to the provisions we reviewed were adequately controlled and clearly and accurately updated, we did make several observations that could affect how accurately taxpayers complete their TY 2003 tax returns.

·        The 2003 tax law changes for the child tax credit are very complex. The IRS did a good job of explaining the changes and making information available to taxpayers to help them avoid problems similar to those encountered with the rate reduction credit in the 2002 Filing Season.  However, the complexity of this area may still cause unavoidable tax return errors for the IRS to resolve for the 2004 Filing Season.  As part of the tax law change, taxpayers were issued an advance payment of the increase in the child tax credit for TY 2003.  Taxpayers must deduct this advance payment when calculating the amount of the credit on their 2003 child tax credit worksheets. 

·        The IRS had not created action items on either of its legislative tracking systems for TY 2003 changes in the lifetime learning credit. Additional Child Tax Credit (Form 8812) and Volunteer Assistor’s Guide, Volunteer Income Tax Assistance (VITA) Student Text (Publication 678) were also not included on either database as tax products that needed to be revised for the provisions that we reviewed.  Although the tax products related to the lifetime learning credit and the two tax products mentioned above were accurately updated for TY 2003 changes, not controlling all significant action items on established tracking systems increases the risk that future necessary updates will not be made. 

·        The Form 1040, Form 1040A, and Education Credits (Form 8863) instructions are those to which taxpayers are most likely to turn for information on the lifetime learning credit.  The sections within these instructions intended to highlight significant changes for TY 2003 may encourage taxpayers to make errors on their returns because the instructions focus on a maximum credit amount of $2,000 instead of the increase in the allowable expenses from $5,000 to $10,000.  However, if taxpayers use Form 8863 to calculate the credit, they will calculate the correct amount. 

We discussed this issue with the IRS and were advised that the highlight of the lifetime learning credit changes made in the “What’s New for 2003?” sections of the instructions we reviewed was intended to be short because of space limitations.  The IRS also believes that focusing on the maximum credit amount rather than the maximum expenses allowed will not cause taxpayers to erroneously claim the full $2,000 credit on their returns because the instructions state to attach a Form 8863 to the returns.  We agree space in the tax products is limited and the IRS must choose the best message to provide in that space.  We also agree using the Form 8863 will result in the proper credit. However, the focus on the maximum credit could encourage taxpayers to claim the maximum lifetime learning credit of $2,000 instead of completing Form 8863.  The IRS pointed out that, if the Form 8863 is not attached to the return, the return will be flagged as an error and the taxpayer will not be allowed to claim the credit.  We suggest the IRS monitor tax return errors during the filing season to determine if this issue resulted in increased taxpayer errors for the lifetime learning credit.

While we do not believe these situations are significant enough to warrant corrective actions at this time, we do suggest the IRS monitor the situations and take actions if needed.

 

Appendix I

 

Detailed Objective, Scope, and Methodology

 

The overall objective of this review was to determine if the Internal Revenue Service (IRS) identified new tax legislation affecting individual taxpayers and ensured all relevant forms, instructions, and publications were updated for Tax Year (TY) 2003.

The audit focused on dividends and capital gains, the child tax credit, the lifetime learning credit, the health care tax credit, and the tax rate provisions in the Jobs and Growth Tax Relief Reconciliation Act of 2003, the Trade Act of 2002, and the Taxpayer Relief Act of 1997.  To accomplish our objective, we:

I.                    Identified the tax law changes that had a significant impact on returns filed by individual taxpayers during TY 2003 by relying on work performed by our planning team.  The planning team had prepared a Tax Law Matrix that identified the new tax law provisions and provided a comparison of the number of individual taxpayers and tax dollars affected by the tax law changes.

II.                 Determined whether the IRS identified and controlled the significant tax law changes affecting individual taxpayers. 

A.     Validated the process the IRS uses to identify and track new and expiring tax legislation provisions. 

B.     Reviewed the Office of Tax Administration Coordination Legislative Implementation Tracking System (LITS) to determine if significant legislation identified in Subobjective I had been controlled.  When legislation was not controlled on the LITS, we reviewed reports from the Tax Forms and Publications Oracle Program Tracking System and contacted various Tax Law Specialists in the Tax Forms and Publications Division.

C.     Reviewed Tax Forms and Publications Division action plans and web resources to determine if the tax products were being updated as necessary.

III.               Determined if the planned changes to forms, instructions, and publications were clear and accurate.

A.     Reviewed the final copies of 47 electronic tax products to determine if the tax law changes relating to dividends and capital gains, the child tax credit, the lifetime learning credit, the health care tax credit, and the updated tax rates were clear and understandable. 

B.     Reviewed the printed tax products, when available. 

C.     Compared the forms and instructions for the above provisions to the statute to determine if they are consistent with the law.

 

Appendix II

 

Major Contributors to This Report

 

Michael R. Phillips, Assistant Inspector General for Audit (Wage and Investment Income Programs)

Scott A. Macfarlane, Director

Deann L. Baiza, Audit Manager

Linda L. Bryant, Senior Auditor

Sharla J. Robinson, Senior Auditor

Steven Vandigriff, Senior Auditor

Sandra L. Hinton, Auditor

 

Appendix III

 

Report Distribution List

 

Commissioner  C

Office of the Commissioner – Attn:  Chief of Staff  C

Deputy Commissioner for Services and Enforcement SE

Deputy Commissioner, Wage and Investment Division SE:W

Director, Tax Administration Coordination  SE:OTAC

Director, Customer Assistance, Relationships, and Education  SE:W:CAR

Director, Strategy and Finance  SE:W:S

Director, Stakeholder Partnerships, Education, and Communication  SE:W:CAR:SPEC

Director, Product and Partnership Development SE:W:CAR:SPEC:PPD

Chief Counsel  CC

National Taxpayer Advocate  TA

Director, Office of Legislative Affairs  CL:LA

Director, Office of Program Evaluation and Risk Analysis RAS:O

Office of Management Controls  OS:CFO:AR:M

Audit Liaison:  GAO/TIGTA Liaison, Wage and Investment Division  SE:W:S:PA

 

Appendix IV

 

Significant Tax Year 2003 Tax Law Changes for Individual Taxpayers

 

Jobs and Growth Tax Relief Reconciliation Act of 2003 

Sec. 301. Reduction in capital gains rates for individuals; repeal of 5-year holding period requirement.

The 10 and 20 percent rates on the adjusted net capital gain are reduced to 5 and 15 percent, respectively, effective in taxable years ending on or after May 6, 2003, and beginning before January 1, 2009.

For taxable years that include May 6, 2003, the lower rates apply to amounts properly taken into account for the portion of the year on or after that date. This generally has the effect of applying the lower rates to capital assets sold or exchanged (and installment payments received) on or after May 6, 2003.

Sec. 302. Dividends of individuals taxed at capital gains rates.

Dividends received by an individual shareholder from domestic corporations are taxed at the rates for net capital gain (5 or 15 percent per the above reduction in the capital gains rate), effective for taxable years beginning after December 31, 2002.

Sec. 101. Increase in child tax credit.

For Tax Years (TY) 2003 and 2004, the amount of the child tax credit is increased to $1,000.  An advance payment of the increase of up to $400 per child for TY 2003 will be paid starting in July 2003.

Sec. 102. Acceleration of 15 percent individual income tax rate bracket expansion for married taxpayers filing joint returns. 

For TYs 2003 and 2004, the 15 percent income tax bracket for joint filers is increased to twice the amount of the 15 percent bracket for the single filer.

Sec. 104. Acceleration of 10 percent individual income tax rate bracket expansion.

For TYs 2003 and 2004, the taxable income levels are raised to $7,000 for single and $14,000 for joint filers.  Taxable income levels revert to the current tax brackets after TY 2004.

Sec. 105. Acceleration of reduction in individual income tax rates.

The tax rate reductions scheduled to phase in for TYs 2004 and 2006 will be accelerated to apply to TY 2003.  The regular income tax rates in excess of 15 percent are 25 percent, 28 percent, 33 percent, and 35 percent for TYs 2003 and thereafter.  Most individual taxpayers will be affected by the acceleration of these reduced tax rates.

Trade Act of 2002

Sec. 124. Demonstration project for alternative trade adjustment assistance for older workers.

This section requires the establishment of an alternative trade adjustment assistance program for older workers.  Workers participating in the program are eligible to receive a credit for health insurance costs for a period of up to 2 years.

Sec. 201. Credit for health insurance costs of individuals receiving a trade readjustment allowance or a benefit from the Pension Benefit Guaranty Corporation.

This section amends Internal Revenue Code (I.R.C.) § 6429 to cover the Trade Adjustment Assistance Health Insurance Credit.  It allows certain taxpayers to claim a refundable tax credit of 65 percent of their health insurance premiums.  This is limited to a select number of taxpayers and became effective for premiums paid in December 2002.  The legislation also provides for taxpayers to receive the credit in advance.

Sec. 202. Advance payment of credit for health insurance costs of eligible individuals.

This section amends I.R.C. § 7527 to cover Advance Payment of Trade Adjustment Assistance Health Insurance Credit.

Taxpayer Relief Act of 1997

Sec. 201. Hope and lifetime learning credits.

We looked only at the lifetime learning credit.  Beginning in TY 2003, the amount of qualified tuition and related expenses increases from $5,000 to $10,000.  The credit equals 20 percent of these qualified expenses, with the maximum credit being $2,000. 

Appendix V

 

List of Tax Products Reviewed

 

Tax Forms

 

Tax Product

(* Indicates draft)

Title

1.

Form 1040

United States (U.S.) Individual Income Tax Return

2.

Form 1040A

U.S. Individual Income Tax Return

3.

Form 1040 ES

Estimated Tax for Individuals

4.

Form 1040 ES-NR

U.S. Estimated Tax for Nonresident Alien Individuals

5.

Form 1040 Schedule D

Schedule D (Form 1040) Capital Gains and Losses

6.

Form 1099-B

Proceeds From Broker and Barter Exchange Transactions

7.

Form 1099-DIV

Dividends and Distributions

8.

Form 1099-G

Certain Government Payments

9.

Form 1099-H

Health Coverage Tax Credit (HCTC) Advance Payments

10.

Form 4797

Sale of Business Property

11.

Form 4952

Investment Interest Expense Deduction

12.

Form 6251

Alternative Minimum Tax - Individuals

13.

Form 6781*

Gains and Losses From Section 1256 Contracts and Straddles

14.

Form 8812

Additional Child Tax Credit

15.

Form 8863

Education Credits

16.

Form 8885

Health Coverage Tax Credit

 

Tax Instructions

 

Tax Product

(* Indicates draft)

Title

1.

Form 1040

Instructions for Form 1040 U.S. Individual Income Tax Return

2.

Form 1040A

Instructions for Form 1040A U.S. Individual Income Tax Return

3.

Form 1040EZ

Instructions for Form 1040EZ U.S. Individual Income Tax Return

4.

Form 1040 Schedule D

Instructions for Schedule D Capital Gains and Losses

5.

Form 1040NR

Instructions for Form 1040NR U.S. Nonresident Alien Income Tax Return

6.

Form 1040NR-EZ

Instructions for Form 1040NR-EZ U.S. Income Tax Return for Certain Nonresident Aliens With No Dependents

7.

Form 1040-SS

Instructions for Form 1040-SS U.S. Self-Employment Tax Return (Including the Additional Child Tax Credit for Bona Fide Residents of Puerto Rico)

8.

Form 1099-DIV

Instructions for Form 1099-DIV

9.

Form 1116

Instructions for Form 1116 Foreign Tax Credit (Individual, Estate, or Trust)

10.

Form 4684

Instructions for Form 4684 Casualties and Thefts

11.

Form 6251

Instructions for Form 6251 Alternative Minimum Tax - Individuals

12.

Form 8812

Instructions for Form 8812 Additional Child Tax Credit

13.

Form 8863

Instructions for Form 8863 Education Credits

 

Tax Publications

 

Tax Product

(* Indicates draft)

Title

1.

Publication 3

Armed Forces’ Tax Guide

2.

Publication 17

Your Federal Income Tax (for Individuals)

3.

Publication 225

Farmer’s Tax Guide

4.

Publication 502

Medical and Dental Expenses (Including the Health Coverage Tax Credit)

5.

Publication 505*

Tax Withholding and Estimated Tax

6.

Publication 514*

Foreign Tax Credit for Individuals

7.

Publication 519*

U. S. Tax Guide for Aliens

8.

Publication 544

Sales and Other Disposition of Assets

9.

Publication 553*

Highlights of 2003 Tax Changes

10.

Publication 554

Older Americans’ Tax Guide

11.

Publication 559

Survivors, Executors, and Administrators

12.

Publication 564

Mutual Fund Distributions

13.

Publication 678

Volunteer Assistor’s Guide, Volunteer Income Tax Assistance (VITA) Student Text

14.

Publication 678M

Military Volunteer Income Tax Assistance Student Text

15.

Publication 919

How Do I Adjust My Withholding?

16.

Publication 970

Tax Benefits for Higher Education

17.

Publication 972

Child Tax Credit

18.

Publication 1346

Electronic Return File Specifications and Record Layouts for Individual Income Tax Returns