Procedures Regarding the Failure to Pay Tax Penalty Result in Inconsistent Treatment of Taxpayers and Hundreds of Millions of Dollars in Lost Revenue

 

March 2005

 

Reference Number:  2005-30-052

 

 

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 18, 2005

 

 

MEMORANDUM FOR DEPUTY COMMISSIONER FOR SERVICES AND ENFORCEMENT

 

FROM:     Pamela J. Gardiner /s/ Pamela J. Gardiner

                 Deputy Inspector General for Audit

 

SUBJECT:     Final Audit Report - Procedures Regarding the Failure to Pay Tax Penalty Result in Inconsistent Treatment of Taxpayers and Hundreds of Millions of Dollars in Lost Revenue (Audit # 200330041)

 

This report presents the results of our review to determine whether the Internal Revenue Service (IRS) could and should charge interest on taxpayer accounts containing accrued Failure to Pay (FTP) tax penalties. 

In summary, the Congress established the FTP tax penalty to encourage taxpayers to pay their Federal income taxes timely and authorized the IRS to charge this penalty on tax accounts for which taxes are not paid when due.  The FTP tax penalty generally accrues at a rate of one-half of 1 percent per month on the unpaid tax and continues to accrue until the penalty reaches a maximum of 25 percent.  This penalty is charged only on the unpaid tax and not on unpaid penalties and interest.

Currently, most calculations and assessments for the FTP tax penalty are made by the IRS computer system.  The computer makes an initial assessment of the penalty to the taxpayer’s account on the IRS Master File at the time the original tax liability is assessed.  After this, the penalty continues to accrue (grow) each month but is usually not assessed to the taxpayer’s account until all other assessed liabilities (tax, penalties, and interest which have actually been posted to the account) are paid in full and there is a credit available in the taxpayer’s account.  In other words, the computer keeps track of how much FTP tax penalty the taxpayer owes, but most of the penalty is never officially assessed to the taxpayer’s account on the Master File until there are funds in the account to pay all or part of the accrued penalty.  Even then, only the portion of the accrued FTP tax penalty that can be paid with the credit available in the account is officially assessed.  The rest remains accrued but not assessed. 

This is significant for two reasons.  First, IRS computers are not programmed to charge interest on accrued FTP tax penalties.  By not assessing these penalties periodically, the IRS has foregone the interest associated with them.  Internal Revenue Code (I.R.C.) Section (§) 6601(e)(2)(A) requires the IRS to charge interest on FTP tax penalties just as it does on other unpaid taxes and penalties.  It states “interest shall be imposed” on these penalties.  We estimate that, if the IRS had assessed all penalty accruals at least quarterly, it would have assessed over $817 million in interest on accrued penalties during Calendar Year (CY) 2002.  Second, this practice results in inconsistent treatment of some taxpayers who have to pay interest on the penalties.  These taxpayers, some in hardship situations such as victims of natural disasters or military personnel serving in combat zones, have accounts that have to be administered by the IRS manually (rather than by computer).  The FTP tax penalties on these accounts are computed manually because certain variables associated with the accounts are not programmed into IRS computers.  IRS personnel periodically calculate and manually assess the penalties.  Because the manually computed FTP tax penalties are periodically assessed, interest is charged on the FTP tax penalties on these accounts.  The IRS Mission Statement requires that it apply the tax law with integrity and fairness to all.  However, we estimate for those accounts for which the computer did not administer the penalties in CYs 2000 and 2001, the IRS charged $8.7 million in interest through December 31, 2003, on 126,061 manually administered taxpayer accounts.

To ensure all taxpayers are treated equitably and all monies owed the Federal Government are correctly assessed, we recommended the Commissioner, Small Business/Self-Employed (SB/SE) Division, request programming changes that would cause accrued FTP tax penalties to be assessed on a periodic basis.  We also recommended the Commissioner work with the Department of the Treasury Assistant Secretary for Tax Policy to request clarifying legislation regarding the need for separate notices to be issued to taxpayers each time FTP tax penalties are assessed and interest is charged on the penalties.  Finally, we recommended the Commissioner ensure notices include the proper wording to inform taxpayers that interest is being charged on the FTP tax penalties until they are fully paid.

Management’s Response:  The Commissioner, SB/SE Division, agreed with our conclusion that IRS computers are not assessing interest on monthly FTP penalty accruals and that these accruals would have to be assessed for related interest to be charged.  The Commissioner also acknowledged the inequity between interest assessments on manually computed accounts and those accounts for which the penalty is systemically generated.  Further, the Commissioner agreed to implement corrective actions for our three recommendations.  The Commissioner also concurred with our estimate of the potential increase in revenue, while stating that it is not possible to separately track additional dollars collected based on additional interest assessed on FTP tax penalty accruals.

However, the Commissioner disagreed that legislative changes are needed due to conflicting legal interpretations or that such legislation would be clarifying.  The Commissioner also stated that corrective action is significantly impaired by systemic limitations on account maintenance, retention, calculation, and overall capacity.  In addition, the Commissioner noted that the monthly assessment of FTP tax penalties and related interest is made more difficult because a notice and demand for payment of tax, interest, and penalty must be mailed to the taxpayer for the interest on the penalty to be legally due and payable.  In the Commissioner’s opinion, the volume of notices required would compromise the IRS’ notice issuance capacity and increase taxpayer call-ins, which would affect the IRS’ ability to respond to general inquiries.  Management’s complete response to the draft report is included as Appendix VII.

Office of Audit Comment:  Although the IRS generally agreed with our findings and recommendations, it disagreed that legislative changes are needed due to conflicting legal interpretations regarding I.R.C § 6601.  We do not necessarily disagree with the IRS’ legal interpretation that a notice must be issued on each FTP tax penalty before interest can be charged.  However, we do recognize, as the IRS Chief Counsel stated in a May 3, 2001, memorandum, that an argument could be made for assessing interest on additional penalty amounts without sending additional notices each time the penalty is assessed.  Regardless of the interpretation, the fact remains that the IRS’ procedure is to charge interest on the penalty only after a notice has been issued.  As long as the IRS does not have the capacity and resources to issue tax notices on FTP tax penalties as they become due each month, some taxpayers will be treated inconsistently and the IRS will not charge the proper amount of interest legally due on those accounts.  Assessing the FTP penalty accruals once a year in coordination with the reminder notices is a start, but a stronger commitment is necessary to correct the problems outlined in our report.  Because of this fact, we strongly emphasize that the IRS should work with the Department of the Treasury Assistant Secretary for Tax Policy to request legislation stating that an original notice and demand will suffice for putting taxpayers on notice for interest charges on future FTP tax penalty assessments.  Without an amendment or change to the I.R.C., the IRS’ ability to make periodic assessments, and thus charge interest on those assessments, will continue to be limited by the resources available to issue more notices.  While we believe our recommendation is worthwhile, we do not intend to elevate our disagreement concerning it to the Department of the Treasury for resolution.

Copies of this report are also being sent to the IRS managers affected by the report recommendations.  Please contact me at (202) 622-6510 if you have questions or Philip Shropshire, Acting Assistant Inspector General for Audit (Small Business and Corporate Programs), at (215) 516-2341.

 

Table of Contents

Background

The Internal Revenue Service Should Periodically Assess and Charge Interest on All Failure to Pay Tax Penalties

Recommendations 1 and 2:

Recommendation 3:

Appendix I – Detailed Objective, Scope, and Methodology

Appendix II – Major Contributors to This Report

Appendix III – Report Distribution List

Appendix IV – Outcome Measures

Appendix V – Master File Transcript for Computer Assessed Failure to Pay Tax Penalty

Appendix VI – Master File Transcript for Manually Assessed Failure to Pay Tax Penalty

Appendix VII – Management’s Response to the Draft Report

 

Background

To encourage taxpayers to pay their Federal income taxes timely, the Congress established the Failure to Pay (FTP) tax penalty and authorized the Internal Revenue Service (IRS) to charge this penalty on tax accounts for which taxes are not paid when due.  The FTP tax penalty is different from most other penalties in that it continues to accrue (grow) over time while other penalties are usually one-time assessments.  The FTP tax penalty generally accrues at a rate of one-half of 1 percent per month on the unpaid tax and continues to accrue until the penalty reaches a maximum of 25 percent.  This penalty is charged only on the unpaid tax and not on unpaid penalties and interest.

Currently, in administering the FTP tax penalty, most calculations and assessments are made by the IRS computer system.  The computer makes an initial assessment of the penalty to the taxpayer’s account on the IRS’ Master File at the time the original tax liability is assessed.  After this, the penalty continues to accrue each month but is usually never assessed to the taxpayer’s account until all other assessed liabilities (tax, penalties, and interest that have actually been posted to the account) are paid in full and there is a credit available in the taxpayer’s account. 

In other words, the computer keeps track of how much FTP tax penalty the taxpayer owes, but most of the penalty is never officially assessed to the taxpayer’s account on the Master File until there are funds in the account to pay all or part of the accrued FTP tax penalty.  Even then, only the portion of the accrued FTP tax penalty that can be paid with the credit available in the account is officially assessed.  The rest remains accrued but not assessed.  Appendix V shows a simulated transcript of a fictitious tax account for which the computer keeps track of the accruals and makes the assessments.

Table 1 reflects the volume and amount of accrued FTP tax penalties owed by taxpayers at the end of each quarter in Calendar Year (CY) 2002.  The information was taken from IRS Tax Records Categorization (TRCAT) files.  As can be seen, the volumes and amounts of these penalties are very substantial and fairly consistent from quarter to quarter.

Table 1:  FTP Tax Penalty Data (CY 2002)

 

Quarter Ending

Number of Taxpayer Accounts

Accrued FTP Tax Penalties

March 2002

18,093,631

$14,178,035,126

June 2002

19,100,646

$14,170,433,175

September 2002

18,960,234

$14,173,436,864

December 2002

18,768,418

$14,351,786,404

Source:  IRS TRCAT files.

This is significant for two reasons.  First, IRS computers are not programmed to charge interest on accrued FTP tax penalties.  By not assessing these penalties periodically, the IRS has foregone the interest associated with them.  Second, there are some taxpayers whose accounts have to be manually administered by the IRS (rather than by computer).  The FTP tax penalties on these accounts are computed manually because certain variables associated with the accounts are not programmed into IRS computers.  IRS personnel periodically calculate and manually assess the penalties.  Because the FTP tax penalties are periodically assessed on the manually administered accounts, interest is charged on the penalties from the time of their assessment.  This report discusses these two issues in depth.

This review was performed at the Ogden, Utah, IRS Campus during the period October 2003 through September 2004 using tax return information filed nationwide.  The audit was performed in accordance with Government Auditing Standards.  Detailed information on our audit objective, scope, and methodology is presented in Appendix I.  Major contributors to the report are listed in Appendix II.

The Internal Revenue Service Should Periodically Assess and Charge Interest on All Failure to Pay Tax Penalties

The IRS practice of accruing FTP tax penalties, rather than periodically assessing them, results in no interest charges for most of these penalties.  IRS computers are programmed to charge interest on the penalties only after they are assessed.  A credit must exist in an account before any accrued penalty is assessed.  Even then, the accrued penalty is only assessed to the extent of the credit in the account.  Interest is never charged on the accrued penalty, even after assessment, because the penalty is basically fully paid at the time it is assessed. 

Internal Revenue Code (I.R.C.) Section (§) 6601(e)(2)(A) requires the IRS to charge interest on FTP tax penalties just as it does on other unpaid taxes and penalties.  It states that “interest shall be imposed” (emphasis added) on these penalties.  In addition, the IRS Mission Statement requires that it apply the tax law with integrity and fairness to all.  However, the current procedure of not assessing accrued FTP tax penalties on a periodic basis, and thus not charging interest on the penalties, creates an inequity for those taxpayers who do pay the penalties timely and an even greater inequity for taxpayers whose accounts have to be manually administered by the IRS.

Some reasons why the IRS has not periodically assessed and charged interest on FTP tax penalties include the following: 

·         The IRS has asserted that assessing the accrued penalties periodically would create a capacity problem for its Master File computers.  However, we were advised by an IRS Computer Specialist that the penalties could be periodically assessed as often as every 6 weeks.

·         Even if the penalties are assessed periodically, there are still conflicting legal interpretations regarding whether interest can be charged without issuing new notices each time the penalties are assessed.  For example, the IRS Chief Counsel stated in a memorandum dated May 3, 2001, that an argument could be made for assessing interest on additional penalty amounts without sending additional notices each time the penalty is assessed.  There are also concerns regarding whether the IRS’ notice issuance facilities could meet the demand to issue these additional notices. 

I.R.C. § 6601(e)(2)(A) states “interest shall be imposed” on FTP tax penalties from the date of notice and demand to the date of payment.  However, it is not clear whether it was the Congress’ intent for the penalties, and the interest on those penalties, to begin with the initial notices sent to taxpayers by the IRS or whether subsequent notices are required each time the accrued penalties are assessed. 

To ensure the IRS is in strict compliance with the law, the IRS Office of Chief Counsel has determined that, until clarifying legislation is provided, the IRS should send new notices each time the FTP tax penalties are assessed before interest can be charged on the penalties.

As a result of IRS procedures regarding FTP tax penalties, the Federal Government loses hundreds of millions of dollars in interest each year and thousands of taxpayers are treated inconsistently from other taxpayers.

Interest lost

Based on information we obtained from IRS TRCAT files, over $14 billion in accrued FTP tax penalties existed on taxpayer accounts at the end of CY 2002.  The $14 billion figure was relatively constant at the end of each quarter in CY 2002.  If the IRS changed its present procedures from assessing accrued FTP tax penalties when a credit exists in an account to assessing the accruals on a quarterly basis, we estimate the IRS would have charged over $817 million in interest on accrued penalties that would have been assessed during CY 2002 (see Table 2). 

Table 2:  Potential Interest Charges (CY 2002)

 

 

Quarter Ending

Unassessed Accrued Penalties at Quarter’s End

 

Interest Rate for Subsequent Quarter

 

Potential Interest Charges

March 2002

$14,178,035,126

1.50% (4/02-6/02)

$212,670,527

June 2002

$14,170,433,175

1.50% (7/02-9/02)

$212,556,498

September 2002

$14,173,436,864

1.50% (10/02-12/02)

$212,601,553

December 2002

$14,351,786,404

1.25% (1/03-3/03)

$179,397,330

Total

 

 

$817,225,908

Source:  TRCAT files and IRS Interest Rate Tables.

Because our CY 2002 FTP tax penalty data may have contained some taxpayer liabilities that would never be collected, we selected a statistical sample of 385 tax accounts to determine how many taxpayer accounts had been fully paid or were still in an active collection status.  We found that 160 of the 385 accounts were fully paid, 17 were in current installment agreements, and 2 had at least 3 payments made in the last year.  Based on our analysis, we estimate that the IRS could expect to collect almost one-half of the interest it charges by assessing FTP tax penalties on a periodic basis.  Our margin of error for this estimate was +5 percent (41.5 to 51.5 percent).

As stated earlier, there are conflicting legal interpretations regarding whether new notices must be sent each time the FTP tax penalties are assessed to facilitate charging interest on the penalties.  In addition, concerns have been raised regarding whether the IRS’ notice issuance facilities could meet the demand to issue notices each time the accrued FTP tax penalties are assessed, if they are assessed periodically.  Currently, the IRS sends a number of balance due notices within the first few months of when a tax liability is established.  After that, only one notice is sent per year.  These notices now show the total FTP tax penalty amounts and do not distinguish between assessed and accrued amounts.  Even if the IRS determines it does not have the capacity to issue more notices for assessed FTP tax penalties, the penalties could be assessed at the time each of these notices is generated.

Inconsistent treatment of taxpayers

Normally, IRS computer programs automatically calculate the FTP tax penalty amounts.  However, there are situations in which penalties are prohibited or limited to specific periods and must be computed manually by IRS employees.  In these situations, an IRS employee enters a code into the computer to “restrict” the computer from calculating the penalty amounts.  For example, qualifying taxpayers affected by natural disasters or military personnel serving in combat zones receive an extension of time to file and pay their taxes, extending the FTP tax penalty start dates.  Taxpayers in bankruptcy status have the FTP tax penalties suspended from computation.  Appendices V and VI show simulated transcripts of fictitious tax accounts with FTP tax penalties accrued by the computer and manually assessed, respectively.

Because the FTP tax penalties on these restricted accounts are manually assessed and not computed by the IRS computers, there are no accrued penalties on the accounts.  The penalties are periodically calculated and manually assessed, and interest is charged on the periodic assessments.  This creates an inconsistency because these taxpayers are charged interest on the manually assessed penalties while taxpayers with computer accrued penalties are not charged interest. 

We identified a population of 126,061 Individual Master File (IMF) and Business Master File (BMF) taxpayer accounts that contained FTP tax penalties manually assessed in CYs 2001 and 2002 for amounts more than $50.  We selected and reviewed a statistically valid sample of 100 of these accounts and determined that $6,909 in interest was charged on the manually assessed FTP tax penalties through December 31, 2003.  Based on these results, we estimate that the 126,061 taxpayer accounts contained over $8.7 million in interest charges through December 31, 2003.  If these same accounts were not restricted, IRS computers would have accrued the FTP tax penalties, but interest would not have been charged on the penalties.

Recommendations

The Commissioner, Small Business/Self-Employed (SB/SE) Division, should:

1.      Request programming changes that would cause accrued FTP tax penalties to be assessed on a periodic basis (as often as possible based upon the IRS’ ability to issue additional notices).  This would cause interest to be charged on the assessed FTP tax penalties during the time period in which they are not paid and would be consistent with the way interest is charged on other unpaid liabilities.

Management’s Response:  The Commissioner, SB/SE Division, will submit a system change request to have FTP tax penalties assessed on BMF and IMF annual reminder notices, effective January 2006.

Office of Audit Comment:  Assessing the FTP tax penalty accruals once a year in coordination with the reminder notices is a start, but a stronger commitment is necessary to correct the problems outlined in our report. 

2.      Work with the Department of the Treasury Assistant Secretary for Tax Policy to request clarifying legislation regarding the need for separate notices to be issued to taxpayers each time FTP tax penalties are assessed and interest is charged on the penalties.  If and when such legislation is enacted, request programming changes that would cause accrued FTP tax penalties to be assessed quarterly or more often, if possible.

Management’s Response:  The Commissioner, SB/SE Division, and Office of Chief Counsel will review the applicable statutory provisions and IRS procedures for assessing interest on the FTP tax penalty and providing notices to taxpayers.  Following this review, they will discuss all available options, including possible statutory amendments, and proceed with a course that is in the best interest of sound tax administration.

Office of Audit Comment:  Regardless of the results of this review, the fact remains that the IRS’ procedure is to charge interest on the FTP tax penalty only after a notice has been issued.  As long as the IRS does not have the capacity and resources to issue tax notices on FTP tax penalties as they become due each month, some taxpayers will be treated inconsistently and the IRS will not charge the proper amount of interest legally due on those accounts.  We strongly emphasize that the IRS should work with the Department of the Treasury Assistant Secretary for Tax Policy to request legislation stating that an original notice and demand will suffice for putting taxpayers on notice for interest charges on future FTP tax penalty assessments.  Without an amendment or change to the I.R.C., the IRS’ ability to make periodic assessments, and thus charge interest on those assessments, will continue to be limited by the resources available to issue more notices.

3.      Ensure notices containing FTP tax penalty assessments include information informing taxpayers that interest is being charged on the FTP tax penalties until they are fully paid.  Currently, the stuffers (Information About Your Notice, Penalty and Interest, Notice 746; and Interest and Penalty Information, Notice 433) included with the notices do not inform the taxpayers that interest is charged on FTP tax penalties.

Management’s Response:  On the next scheduled revision, Notices 746 and 433 will be revised to indicate that interest is charged on assessed FTP tax penalties.

 

Appendix I

 

Detailed Objective, Scope, and Methodology

 

Our overall objective was to determine whether the Internal Revenue Service (IRS) could and should charge interest on taxpayer accounts containing accrued Failure to Pay (FTP) tax penalties.  To accomplish our objective, we:

I.                   Determined IRS policies and procedures for charging interest on FTP tax penalties and whether these procedures were consistent with applicable tax laws.  This was done through interviews with IRS management, analysis of relevant tax law, and analysis of IRS policies, procedures, and training material.

II.                Determined the amount of FTP tax penalties accrued on taxpayer accounts during the period January 1, 2002, through December 31, 2002.  This information was obtained through analysis of IRS Tax Records Categorization (TRCAT) files.

III.             Determined the amount of interest not being charged on taxpayer accounts with accrued FTP tax penalties.  This information was also obtained through analysis of IRS TRCAT files containing data during the period January 1, 2002, through December 31, 2002.

IV.             Determined whether the additional revenues were greater than the associated costs to establish procedures for charging interest on accrued FTP tax penalties.  We also estimated the collectibility of the additional revenues.  This was done by selecting a statistical sample of 385 taxpayer accounts from a population of 23,865,069 taxpayer accounts containing FTP tax penalties accrued during Calendar Year (CY) 2002.  In selecting our sample, we used a confidence level of 95 percent, a precision rate of +5 percent, and an expected error rate of 50 percent for the population of 23,865,069.  We reviewed the 385 taxpayer accounts and determined whether they were fully paid or in active collection status.

V.                Determined the number of taxpayer accounts for which the computer was restricted from assessing the FTP tax penalties during CY 2002.  This information was obtained through analysis of IRS Master File data for the period January 1, 2002, through December 31, 2002. 

VI.             Determined the amount of interest being charged on taxpayer accounts for which the FTP tax penalties were being manually assessed.  We selected a statistical sample of 100 taxpayer accounts from a population of 126,061 accounts for which the FTP tax penalties were manually assessed during CYs 2001 and 2002.  From this sample, we estimated that $8.7 million in interest was charged on manually assessed FTP tax penalties through December 31, 2003.  Our computed precision for this estimate was between $5.4 and $12 million.  In selecting our sample, we used a confidence level of 95 percent, a precision rate of +10 percent, and an expected error rate of 50 percent for the population of 126,061 accounts.

 

Appendix II

 

Major Contributors to This Report

 

Philip Shropshire, Acting Assistant Inspector General for Audit (Small Business and Corporate Programs)

Richard J. Dagliolo, Director

Parker F. Pearson, Director

Kyle R. Andersen, Audit Manager

Robert Jenness, Acting Audit Manager

Larry Madsen, Lead Auditor

Douglas C. Barneck, Senior Auditor

Roy E. Thompson, Senior Auditor

Arlene Feskanich, Information Technology Specialist

 

Appendix III

 

Report Distribution List

 

Commissioner  C

Office of the Commissioner – Attn:  Chief of Staff  C

Commissioner, Large and Mid-Size Business Division  SE:LM

Commissioner, Small Business/Self-Employed Division  SE:S

Commissioner, Wage and Investment Division  SE:W

Chief Information Officer  OS:CIO

Deputy Commissioner, Large and Mid-Size Business Division  SE:LM

Deputy Commissioner, Small Business/Self-Employed Division  SE:S

Deputy Commissioner, Wage and Investment Division  SE:W

Director, Communications, Government Liaison, and Disclosure, Small Business/Self-Employed Division  SE:S:CGL&D

Director, Accounts Management, Customer Account Services, Wage and Investment Division  SE:W:CAS:AM

Director, Payment Compliance, Small Business/Self-Employed Division  SE:S:C:CP:PC

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 Liaisons:

Commissioner, Large and Mid-Size Business Division  SE:LM

Commissioner, Small Business/Self-Employed Division  SE:S

Commissioner, Wage and Investment Division  SE:W

 

Appendix IV

 

Outcome Measures

 

This appendix presents detailed information on the measurable impact that our recommended corrective actions will have on tax administration.  This benefit will be incorporated into our Semiannual Report to the Congress.

Type and Value of Outcome Measure:

·         Increased Revenue – Potential; $1,873,454,946 in interest charges on 9,904,004 taxpayer accounts (see page 3).

Methodology Used to Measure the Reported Benefit:

We obtained Internal Revenue Service (IRS) Tax Records Categorization (TRCAT) files for the 4 quarters in Calendar Year (CY) 2002.  After analyzing this information, we determined the average quarterly accrued Failure to Pay (FTP) tax penalty amount was $14,218,422,892.  We also determined the average interest rate for the last 20 quarters (5 years) was 1.5875 percent (6.35 percent annual rate).  Multiplying the $14,218,422,892 by the 1.5875 percent interest rate for 20 quarters (5 years) equals $4,514,349,268.  This is the estimated interest amount the IRS could charge on the accrued FTP tax penalties if the penalties were assessed quarterly over a 5-year period. 

The CY 2002 data included accrued FTP tax penalties on 23,865,069 unique taxpayer accounts.  Because at least some of these accounts might not be collectible, we selected a statistical sample of 385 of the 23,865,069 taxpayer accounts.  We analyzed the 385 accounts to determine the numbers that were either fully paid or in an active collection status.  Of the 385 taxpayer accounts, 179 (46.5 percent) were fully paid or in an active collection status.  Our margin of error for this estimate was +5 percent (41.5 to 51.5 percent). 

To be conservative, we multiplied $4,514,349,268 by 41.5 percent to obtain a reduced figure of $1,873,454,946 in interest charges over a 5-year period.  We also reduced the 23,865,069 taxpayer accounts by the 41.5 percent figure to produce a new figure of 9,904,004 taxpayer accounts.

 

Appendix V

 

Master File Transcript for Computer Assessed Failure to Pay Tax Penalty

 

Explanatory text boxes were removed due to their size.  To see these boxes, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.

 

ACCOUNT NO 123-45-6789             

NAME CONT- ABCD                  

****************************************************************

 

 

************************** 

* TAX PERIOD 30   200112 *           

************************** 

                                          

 

MF MOD BAL-               3,295.00

ACCRUED INTEREST-           400.00  02162004        

ACCRUED PENALTY-            640.00  02162004        

 

                                   

     150 06032002      8,000.00  

                                       

     806 04152002      4,000.00- 

 

     170 06032002         50.00  

 

     166 06032002        175.00  

 

     276 06032002         40.00  

 

     196 06032002         30.00            

 

     670 03312003      1,000.00- 

 

    

 

This is a simulated Internal Revenue Service (IRS) taxpayer account transcript.  Although the taxpayer data are fictitious, the transcript illustrates how the IRS computer accrues and assesses Failure to Pay (FTP) tax penalties.  In this example, the taxpayer filed late and did not pay the amount due.  The IRS computer assessed an FTP tax penalty of $40 at the time the return was processed on June 3, 2002.  After that initial assessment, the FTP tax penalty amount grew to $640.  This $640 amount is shown separately from the assessed transactions.  The number 02162004 signifies that the $640 figure is computed to February 16, 2004.  The $640 figure will continue to accrue (grow) until the tax is fully paid or the 25 percent maximum penalty is reached.  The accrued amount will not be assessed until the module balance becomes negative.  For example, if a payment of $3,395.00 were made, $100.00 ($3,295 - $3,395 = -$100) in FTP tax penalty would be assessed and the accrued amount would be reduced to $540.  Interest is charged on the initial $40 assessment but is not charged after that point.  This is true because the IRS computer is not programmed to charge interest on penalties in an accrued status.  When the accrued penalties are assessed, they are only assessed to the extent that a credit exists in the account.  When the accrued penalty is assessed, it is basically already fully paid and is not subject to interest.

 

Appendix VI

 

Master File Transcript for Manually Assessed Failure to Pay Tax Penalty

 

Explanatory text boxes were removed due to their size.  To see these boxes, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.

 

ACCOUNT NO 123-45-6789            

NAME CONT- ABCD                   

****************************************************************

 

************************** 

* TAX PERIOD 30   200112 *           

************************** 

                                          

 

MF MOD BAL-               3,935.00

ACCRUED INTEREST-           400.00 02162004         

ACCRUED PENALTY-               .00 02162004        

 

                                   

     150 06032002      8,000.00  

                                       

     806 04152002      4,000.00- 

 

     170 06032002         50.00  

 

     166 06032002        175.00  

 

     270 06032002         40.00  

 

     196 06032002         30.00            

 

     270 07082002       20.00

 

     270 08122002       20.00

 

670 03312003      1,000.00-

 

270 02162004       600.00

 

This is a simulated Internal Revenue Service taxpayer account transcript.  Although the taxpayer data are fictitious, the transcript illustrates how the Failure to Pay (FTP) tax penalty is assessed when an account has been restricted from the computer.  In this example, the taxpayer filed late and did not pay the amount due.  Because it was determined the computer could not accurately compute the penalty on this account, the initial FTP tax penalty of $40 was manually assessed.  As the penalty accrues (grows), further manual computations and assessments must be made.  Because the amounts are being assessed periodically and not accrued by the computer, the computer is charging interest on the assessments from the time they are assessed until they are paid.  For example, interest is being charged on the $40 assessment from June 3, 2002, on the first $20 assessment from July 8, 2002, on the second $20 assessment from August 12, 2002, and on the $600 assessment from February 16, 2004.   

 

Appendix VII

 

Management’s Response to the Draft Report

 

The response was removed due to its size.  To see the response, please go to the Adobe PDF version of the report on the TIGTA Public Web Page.