Expanded Access to Wage and Withholding Information Can Improve Identification of Fraudulent Tax Returns
September 30, 2010
Reference Number: 2010-40-129
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.
Redaction Legend:
2(f) = Risk circumvention of Regulation or Statute
Phone
Number | 202-622-6500
Email Address | inquiries@tigta.treas.gov
Web Site |
http://www.tigta.gov
HIGHLIGHTS
EXPANDED ACCESS TO WAGE AND
WITHHOLDING INFORMATION CAN IMPROVE IDENTIFICATION OF FRAUDULENT TAX RETURNS
Highlights
Final
Report issued on September 30, 2010
Highlights of Reference Number:
2010-40-129 to the Internal Revenue Service Commissioner for the Wage and Investment Division.
IMPACT ON TAXPAYERS
As of April 17, 2010, the Internal Revenue Service (IRS)
identified 249,185 tax returns with $1.51 billion being claimed in fraudulent
refunds. While the IRS has shown a
significant increase in the number of fraudulent tax returns identified and
refunds stopped, it needs expanded and expedited access to wage and withholding
information to assist in its efforts.
WHY TIGTA DID THE AUDIT
This
audit was initiated because unscrupulous individuals continue to submit tax
returns with false income documents to the IRS for the sole purpose of
receiving a fraudulent refund. In October
2009, the IRS transferred responsibility for its pre-refund fraudulent tax
return detection activities to its Accounts Management function. Management noted that transferring these activities
will capitalize on opportunities to complete this work more efficiently. Our overall objective was to assess the IRS’ Taxpayer
Assurance Program processes to identify potentially fraudulent tax returns for
screening.
WHAT TIGTA FOUND
Expanded and expedited access to wage and withholding information would significantly increase the IRS’ ability to more efficiently and effectively verify wage and withholding information reported on a tax return when processed. Our analysis of the 151,776 Tax Year 2008 tax returns sent to an examiner for screening and then released for processing identified that 96,178 (63 percent) of these tax returns had valid wages reported. TIGTA estimates that the IRS needlessly expended 22,110 hours screening these tax returns. Currently, the law limits IRS access to the United States Department of Health and Human Services wage information. In addition, processes have not been developed to expedite the use of wage and withholding data received from the Social Security Administration.
In
addition, TIGTA found that the majority of tax returns the IRS identifies as
being filed by prisoners are not being sent to screening to assess fraud
potential. Our review identified 253,929 (88 percent) of
the 287,918 tax returns filed by a prisoner as of March 24, 2010, were not
selected for screening. Of those tax
returns not screened, 48,887 individuals had no wage information reported to
the IRS by employers. These 48,887 prisoners
claimed refunds totaling more than $130 million including Earned Income Tax Credit
(EITC) claims of $78.5 million. Some of these
refunds may have been stopped by other compliance activities. For example, TIGTA determined that the IRS
prevented the issuance of nearly $18.1 million in EITC claims for 4,532 of the
48,887 prisoner tax returns.
WHAT TIGTA RECOMMENDED
Legislation
is needed to expand IRS access to the United States Department of Health and
Human Services wage information. TIGTA
recommended that the Commissioner, Wage and Investment Division, obtain wage
information for ***2(f)***returns with EITC claims and develop a process to expedite
the availability of wage and withholding information received from the Social
Security Administration. The
Commissioner should also verify whether the 48,887 tax returns with tax refunds
that were filed by prisoners with no reported wages were fraudulent and
identify revisions that could be made to data mining criteria to better
identify fraudulent tax returns filed by prisoners.
In
their response to the report, IRS officials fully agreed with three
recommendations and partially agreed with the other. The IRS plans to first examine the benefits of
obtaining wage information for ***2(f)***returns with EITC claims prior to
implementing any process modifications.
September 30, 2010
MEMORANDUM FOR COMMISSIONER, WAGE AND INVESTMENT DIVISION
FROM: Michael R. Phillips /s/ Michael R. Phillips
Deputy Inspector General for Audit
SUBJECT: Final Audit Report – Expanded Access to Wage and Withholding Information Can Improve Identification of Fraudulent Tax Returns (Audit # 201040003)
This report presents the results of our review of the
Internal Revenue Service’s (IRS) Taxpayer
Assurance Program processes to identify potentially fraudulent tax returns for
screening. This audit is included
in our Fiscal Year 2010 Annual Audit Plan and addresses the major management
challenge of Erroneous and Improper Payments and Credits.
IRS management disagreed with our computation of potential savings from expanded and expedited access to Social Security Administration (SSA) data. The IRS raises concerns regarding the completeness of SSA data received early in the filing season. We agree that the volume of SSA data received increases as the filing season progresses. However, as detailed in our report, the IRS begins receiving SSA wage and withholding information on a daily basis in late January ***2(f)***
In addition,
management disagreed with our potential savings related to our recommendation
on improving verification of prisoner tax returns. Management indicated that verification of
prisoner tax returns must be weighed against available IRS resources. We agree that post-refund compliance efforts
are costly and the IRS has limited resources.
This is precisely the reason we recommended the IRS identify revisions
that could be made to its screening process to stop fraudulent refunds from
being sent to prisoners at the time tax returns are processed. Our outcome measure reflects the potential
revenue that could be protected at the time tax returns are processed.
Finally, the IRS
disagreed with our revenue protection outcome measure related to the 2,716
tax returns that resulted in $6.7 million in erroneous refunds being issued for
tax returns in which examiners confirmed fraud potential. The IRS provided no explanation
to support its disagreement. In our
opinion, there is no basis for IRS’ disagreement as the IRS has initiated or
plans to initiate programming changes that once in place will prevent the
release of the types of erroneous refunds we identified. Our outcome measure reflects the amount of
revenue that will be protected once this programming has been completed.
Management’s complete response to the draft report is included in Appendix V.
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 Michael E. McKenney, Assistant Inspector General for Audit (Returns Processing and Account
Services), at (202) 622-5916.
Improvements
Are Needed to More Effectively Identify and Stop Fraudulent Refunds
Some Fraudulent Tax Returns Were Not Retained for Possible Use As
Evidence
Appendices
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 – Management’s Response to the Draft Report
Abbreviations
|
CADE EFDS EITC HHS IRS NDNH OMM SSA TAP |
Customer Account Data Engine Electronic Fraud Detection
System Earned Income Tax Credit Health and Human Services Internal Revenue Service National Directory of New Hires Operation Mass Mail Social Security Administration Taxpayer Assurance Program |
The IRS Taxpayer Assurance Program is responsible for identifying
fraudulent tax returns and stopping the release of fraudulent tax refunds.
In January 1977,
the Internal Revenue Service (IRS) established a nationwide, multifunctional detection
program designed to identify fraudulent tax returns
and prevent the payment of fraudulent refunds.
However, unscrupulous individuals continue to submit tax returns with
false income documents to the IRS for the sole purpose of receiving a
fraudulent refund. On October 11, 2009, the IRS transferred
responsibility for its pre-refund fraudulent tax return detection activities
from its Criminal Investigation Division to its Accounts Management
function. Subsequent to the transfer, the
IRS renamed its fraud detection program to the Taxpayer Assurance
Program (TAP).
The TAP is responsible for identifying fraudulent
tax returns and stopping the release of the related refunds. IRS
management noted that transferring detection, verification activities, and
resources to the Accounts Management function will capitalize on opportunities
to complete this work more efficiently and allow the Criminal
Investigation Division to use resources on the development of fraudulent refund
schemes.[1]
The Electronic Fraud
Detection System (EFDS) is used to identify potentially fraudulent tax returns
The EFDS is
the primary tool used by the IRS to identify potentially fraudulent tax
returns. The EFDS includes a process
called “data mining,” which uses various formulas to identify potentially fraudulent paper and electronically filed tax
returns. Suspicious paper and electronically
filed tax returns are identified based on specific characteristics of the tax
return. An associated data mining score
(risk that tax return is fraudulent) is computed for the tax return. The
higher the data mining score given to a tax return, the greater the likelihood
that the tax return is fraudulent. Those potentially fraudulent tax returns that
meet the IRS criteria (data mining score and refund amount) are then forwarded
to TAP examiners for screening.
The TAP screening process is designed
to identify potentially fraudulent tax returns for verification
Screening individual tax returns to identify potentially fraudulent tax
returns is the first step in the IRS’ pre-refund fraud detection process. Once
a questionable tax return is identified, the following takes place:
· A hold is placed on the individual’s tax account for 2 weeks to prevent the issuance of any refund. This delay allows TAP examiners to evaluate the tax return for fraud potential.
· The tax return is assigned to a TAP examiner for screening. The examiner reviews the income and withholding information reported on the tax return including comparing the information reported on the current tax year[2] return to previous tax year returns to identify inconsistencies. If the TAP examiner concludes that the tax return is potentially fraudulent, the tax return is sent for verification. Verification is the process in which TAP examiners attempt to contact the employer to confirm wages and withholding detailed on the Wage and Tax Statement (Form W-2) and/or Miscellaneous Income (Form 1099-MISC) associated with the potentially fraudulent tax return. For those tax returns determined as having no fraud potential, the tax return is released for processing and issuance of any associated tax refund.
Figure 1 provides statistical information on tax returns screened and/or verified for Processing Years 2008 through 2010.
Figure 1:
Comparison of Screening and Verification Results for the Filing Season[3] in Processing Years 2008 Through 2010
|
Filing Season |
Tax Returns Sent to Screening |
Tax Returns Sent to Verification |
Tax Returns Verified as Fraudulent |
|
2008 |
287,318 |
255,688 |
154,648 |
|
2009 |
243,907 |
200,477 |
113,740 |
|
2010 |
326,398 |
232,634 |
127,868 |
Source: Questionable Refund Program Workload Comparison
Summary Report for Processing Years 2008 through 2010.
This review was performed at the Wage and Investment
Division Office of Customer Account Services in
Expanded Access to Wage and Withholding Information Would Improve Identification of Fraudulent Tax Returns
As of April 17, 2010, the IRS
prevented the issuance of $1.48 billion in fraudulent tax refunds.
As of April 17, 2010, the IRS had
identified 249,185 tax returns with $1.51 billion being claimed in fraudulent
refunds and was able to prevent the issuance of $1.48 billion (98 percent) of
the fraudulent refunds being claimed.
This represents a 50
percent increase in the number of fraudulent tax returns identified as of this same
period last processing year. This
increase is in part the result of the Accounts Management function effectively
monitoring workload and adjusting data mining tolerances during the filing
season to increase the identification of potentially fraudulent tax returns for
screening. For example, the Accounts
Management function lowered the data mining tolerances for 17 of the 25 EFDS
data mining models through March 5, 2010, to increase the number of potentially
fraudulent tax returns for screening. As
of April 17, 2010, a total of 326,398 tax returns were identified for screening
which represented a 34 percent increase of tax returns identified for screening
when compared to the same period last processing year.
While the IRS has shown a significant increase in the number of fraudulent tax returns identified and refunds stopped, it needs expanded and expedited access to wage and withholding information during the filing season. This information would significantly increase the IRS’ ability to more efficiently and effectively verify wage and withholding information reported on a tax return at the time a tax return is processed.
The law limits IRS access to the United States Department of Health and Human Services wage information
The United States
Department of Health and Human Services (HHS) maintains the National Directory
of New Hires (NDNH). The NDNH is a
national repository of wage and employment information. NDNH data contain quarterly wage information
submitted by Federal agencies and State workforce agencies to the HHS. The Social Security Act[4]
and Federal regulations[5]
require wage information on individual
employees be provided to the HHS within 4 months of the end of a calendar
quarter. The following information for
each individual is required:
However, the law only allows the IRS to access NDNH wage information
for tax returns in which the individual is claiming the Earned Income Tax
Credit (EITC). The Social Security Act[6]
grants authority to the Secretary of the Treasury to obtain quarterly wage
information from the NDNH for the purpose of administering the EITC and the
advance payment of EITC, and verifying claims with respect to employment on a
tax return. NDNH wage information assists the TAP examiner in determining whether
the refund and EITC claim associated with the tax return are fraudulent. The TAP examiner compares the wages reported
to the HHS against what is included on the tax return and if the wage amounts
are not consistent, the TAP examiner will send the tax return to an examiner
for wage and withholding verification.
Although the law grants the IRS the authority to obtain NDNH wage information for tax returns with EITC claims, ***2(f)***
Despite the authority provided under the Social Security Act, ***2(f)***. As of April 17, 2010, approximately 2.3 million Tax Year 2009 tax returns were filed by ***2(f)*** and included more than $4.3 billion in claims for the EITC.
***2(f)*** In addition, the IRS continues to explore alternatives such as the development of an automated verification process that would compare the wage information on the tax return with the NDNH wage information. ***2(f)***
Legislation has been repeatedly proposed to expand IRS access to NDNH wage data. Most recently, the IRS Fiscal Year 2010 budget request again included a legislative proposal to strengthen tax administration by expanding IRS access to NDNH information. The proposal would revise 42 United States Code Section 653(i)(3) by deleting the phrase “Section 32 of” and deleting all verbiage after “1986.” The amended section would read as follows:
The Secretary of
the Treasury shall have access to the information in the
National Directory of New Hires for purposes of administering the Internal
Revenue Code of 1986.
The IRS begins receiving wage and withholding information in late January each year from the SSA. ***2(f)*** Our discussions with representatives from the SSA identified that during the 2010 Filing Season, the IRS began receiving Form W-2 wage and withholding information on a daily basis on January 23, 2010. ***2(f)***
As shown in Figure 2, the IRS could benefit from expediting the availability of SSA wage and withholding information on the EFDS because this information could be used to ensure tax returns with valid wages are not being screened needlessly. TAP examiners could use this information as it is being received from the SSA to improve the efficiency and effectiveness of the IRS process to identify potentially fraudulent tax returns.
Figure 2: Cumulative
Tax Year 2009 Wage Documents Processed by the SSA and Tax Returns Processed by the
IRS During the 2010 Filing Season
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.
Expanded access to wage and withholding information could enable the
IRS to transfer resources used for screening to other compliance efforts
Expanded and expedited access to wage and withholding
information would allow the IRS to eliminate its screening process and send potentially
fraudulent tax returns directly to verification. Our analysis of the 151,776 Tax Year
2008 tax returns sent to a TAP examiner for screening and then released for
processing (TAP examiner concluded no fraud potential) identified that 96,178 (63
percent) of the screened tax returns had valid wages reported. We estimate that the IRS needlessly expended
22,110 hours screening these tax returns only to conclude that the tax returns
were not fraudulent. As shown in Figure
3, transferring these 22,110 hours would allow the IRS to transfer resources
totaling $329,439[7]
to other compliance activities.
Figure
3: Transferring Resources for Additional
Compliance Efforts
|
Description |
Results |
|
Tax Returns Screened |
326,398 |
|
Average Tax Returns Screened per Hour |
9 |
|
Percent We Determined to Have Valid Wages on Tax Return – No Fraud
Potential |
63% |
|
Hours That Could Be Transferred to Other Compliance Activities[8] |
22,110 |
Source:
Treasury Inspector General for Tax Administration
analysis of Tax Year 2008 tax return data
and IRS Calendar Year 2010 reports through the end of the 2010 Filing Season.
Legislative Recommendation
Recommendation 1: As put forth in the IRS Fiscal Year 2010 budget
proposal, legislation is needed to expand IRS access
to NDNH wage information for tax administration purposes not limiting
use of this information to just those tax returns with a claim for the EITC.
Management’s Response: IRS management agreed with this
recommendation. Legislation which will
expand the use of data in the NDNH to returns without the EITC was included in
the President’s Fiscal Year 2011 budget.
On April 9, 2010, the IRS met with HHS officials to brief them on the
proposal. The IRS will continue to
follow the progress of the proposed legislation. The IRS is analyzing the benefits the NDNH
data will have on the TAP and the potential for other compliance efforts.
Recommendations
The Commissioner,
Wage and Investment Division, should:
Recommendation 2: Obtain NDNH wage information for individuals
claiming the EITC on ***2(f)*** tax returns.
Management’s
Response: IRS management partially agreed with this
recommendation. They will examine the
benefits of obtaining NDNH information for individuals claiming the EITC on
***2(f)***
tax returns, including the effect on cycle time and improved accuracy of
verification. If NDNH information
expedites the scanning process and increases the accuracy of determinations, the
IRS will consider a plan to request the data for ***2(f)*** and the
associated process modifications.
Recommendation
3: Develop
a process to expedite the availability of wage and withholding information received
from the SSA for use by the EFDS and TAP examiners in the identification of potentially
fraudulent tax returns.
Management’s
Response: IRS management agreed with this
recommendation. They continue to take
strategic steps to accelerate access to information return data toward goals of
refund verification at time of filing and upfront issue detection. The IRS has already initiated a pilot project
to accelerate its access to SSA wage data.
The IRS is working with the SSA to analyze the costs and benefits of
accelerated transfer, perfection, and integration of SSA data into IRS systems.
Office of Audit Comment: The IRS disagreed with the potential savings associated with expanding and expediting access to SSA data, and raised concerns regarding the completeness of SSA data received early in the filing season. We agree that the volume of SSA data received from the SSA increases as the filing season progresses. However, the IRS begins receiving SSA data on a daily basis in late January ***2(f)***.
Improvements Are Needed to More Effectively Identify and Stop Fraudulent Refunds
Improvements
can be made to more effectively identify potentially fraudulent tax returns
filed by prisoners. We found that the
majority of tax returns identified as being filed by prisoners are not sent to a
TAP examiner for screening to assess the potential that the tax return is
fraudulent. Our review identified that 253,929 (88 percent) of the
287,918 tax returns identified by the IRS through March 24, 2010,[9] as having been filed by a prisoner
were not selected for screening. Using
prisoner Social Security Numbers, we matched the file the IRS obtained from the
SSA with wage and withholding information and identified that 48,887 of the prisoners filing these tax
returns had no wage information reported by employers. These 48,887 individuals claimed refunds
totaling more than $130 million, including EITC claims of $78.5 million. Some of these refunds may have been stopped
by other compliance activities. For
example, we determined that the IRS prevented the issuance of EITC claims of
nearly $18.1 million for 4,532 of the 48,887 prisoner tax returns.[10] However,
it should be noted that the identification of erroneous EITC claims for
these 4,532 individuals was caught via IRS compliance efforts and not its TAP process
that is supposed to identify fraudulent refunds when the tax returns are
received.
In Fiscal Year 2005, the Treasury Inspector General for
Tax Administration conducted an audit to determine the effectiveness of IRS
procedures for detecting potentially fraudulent prisoner refund tax returns.[11] Our review concluded that there may be other
fraudulent prisoner tax returns of which the IRS is not aware. The
total number of tax returns screened is based on two factors: 1) the likelihood that fraud is present and 2)
the availability of resources to work the cases. Each refund tax return is given a “data
mining score” based on certain criteria.
The higher the score, the greater the chance the refund could be
fraudulent. The Criminal Investigation Division
also used other criteria to screen tax returns.
The number of tax returns screened is based on these criteria and the
resources available. If a tax return
filed by a prisoner does not meet these criteria, it will not be reviewed to
determine if it is fraudulent.
The IRS continues to identify tax returns filed by prisoners during tax return processing. However, the IRS has established selection criteria that result in the majority of these tax returns never being sent to screening to assess fraud potential. Following a Treasury Inspector General for Tax Administration report on First-Time Homebuyer Credit fraud,[12] the IRS in a June 23, 2010, release urged Congress to pass legislation giving the agency up-to-date prisoner information and pledged to take other steps to reduce improper claims of the credit by prisoners. We agree that up-to-date prisoner information would enable the IRS to better identify tax returns filed by prisoners. However, we have concerns about whether the IRS is effectively using the prisoner information it currently receives. We have initiated an audit to further analyze and evaluate IRS efforts to identify tax returns filed by prisoners and its attempts to reduce prisoner fraud.
Our review identified 2,716 tax returns that resulted in $6.7
million[13]
in erroneous refunds being issued for tax returns in which TAP examiners confirmed
fraud potential requiring verification of wage and withholding information.
Specifically, we found:
· Tax refunds in excess of the amount of the EITC claimed being erroneously refunded - We identified 2,451 screened tax returns sent to verification through April 17, 2010, that were also sent to pre-refund examination as a result of filters identifying the EITC as a probable erroneous claim. However, the amount of the refund in excess of the EITC claimed ($5.4 million) did not remain frozen until a TAP examiner verified the wages and withholding. We brought this concern to management’s attention on March 2, 2010. On March 11, 2010, management stated that a computer programming change request had been submitted to prevent the release of the tax refunds in excess of the EITC for those cases sent to both verification and pre-refund examination beginning in Processing Year 2011.
Recommendation
The Commissioner,
Wage and Investment Division, should:
Recommendation 4:
Verify whether the 48,887 tax returns with tax refunds that were
filed by prisoners with no reported wages were fraudulent. Based on actions taken on these cases, the
Commissioner should identify revisions that could be made to data mining
criteria to better identify fraudulent tax returns filed by prisoners.
Management’s Response: IRS management agreed with this
recommendation. They will work with the Small
Business and Self-Employed Division to review these 48,887 returns for
potential inclusion in IRS post-refund compliance efforts. These returns will be sampled and reviewed to
identify improvement opportunities for their data mining models. In addition, the IRS is evaluating an
improved process to acquire and manage prisoner information from Federal and
State prison systems.
Office of Audit Comment: The IRS
disagreed with our potential savings related to improving verification of
prisoner tax returns. Management
indicated that verification of prisoner tax returns must be weighed against
available IRS resources. We agree that
post-refund compliance efforts are costly and the IRS has limited
resources. However, our outcome measure
reflects the potential revenue that could be protected at the time tax returns
are processed if improvements are made to data mining criteria to better identify fraudulent tax returns filed
by prisoners. Further, the IRS disagreed with our outcome
measure related to erroneous refunds being issued for tax returns in
which examiners confirmed fraud potential. The IRS provided no explanation
to support its disagreement. In our
opinion, there is no basis for the IRS’ disagreement as the IRS has initiated
or plans to initiate programming changes that once in place will prevent the
release of the types of erroneous refunds we identified. Our outcome measure reflects the amount of
revenue that will be protected once this programming has been completed.
Some Fraudulent Tax
Returns Were Not Retained for Possible Use As Evidence
As of April 7, 2010, the IRS reported that it identified a
total of 43,067 fraudulent Operation Mass Mail (OMM) tax returns and stopped $296
million in associated fraudulent tax refunds.
These fraudulent tax returns are
part of an extensive tax refund fraud scheme. ***2(f)*** These fraudulent tax returns were first
identified in Processing Year 1999 by the
Procedures instruct IRS employees to
destroy unprocessed OMM tax returns without any retention period after
inputting limited information into a computerized database. On
April 22, 2010, we issued an email alert to the Director, Customer
Account Services, Wage and Investment Division, expressing our concerns with
the destruction of OMM tax returns. We
recommended that a decision be obtained from the Records and Information Management Services Program office as to the filing and retention of unprocessed
OMM tax returns and recommended that OMM tax returns be retained for a period
consistent with the statute of limitations on fraud against the Government because
these tax returns could be used as potential evidence in a civil or criminal
case. In addition, we requested
management to provide us with a detailed explanation as to the process
developed and used to verify the accuracy of tax return volumes and refund dollars
being reported as part of their OMM accomplishments.
Management Actions
In addition, management responded that a
number of actions were taken to ensure the accuracy of OMM data, including data
matching and consistency checks between the OMM tax return information
contained in the database and the Integrated Data Retrieval System.[16] Our
limited review of the database showed entries with incomplete or blank fields. Management acknowledged that mismatches were
identified with a small number of records in the OMM database. However, the mismatches were addressed and the
database was modified to improve the accuracy and completeness of the OMM tax
return information. Because of
management actions taken during our review, we are making no recommendations at
this time.
Appendix I
Detailed Objective, Scope, and Methodology
The overall
objective of this review was to assess the IRS’ TAP processes to identify
potentially fraudulent tax returns for screening. To accomplish this objective, we:
I.
Determined whether the EFDS is operating as
intended.
A. Assessed
whether all tax returns that should be sent through the EFDS were in fact
processed through the EFDS.
1.
Reviewed
the EFDS User Manual and other system documentation to identify the criteria
for EFDS processing.
2.
Obtained
an extract from the EFDS containing all tax returns scored by the System and
matched the records against the Returns Transaction File[17]
containing all tax returns posting to Master File[18]
during Processing Year 2010. We
conducted tests to assess the reliability of data, including comparing the
volume of records on the extract to IRS tax return filing statistics for Processing
Year 2010 and ensuring that the data extracted met the required criteria.
3.
Determined
the volume and refund amounts for the tax returns that should have been processed through the EFDS but were not and
measured the impact on tax administration.
4.
Identified the number of tax returns not
processed through the EFDS as intended based on established EFDS selection by
querying the Returns Transaction File for the 2010 Filing Season and measured the impact on tax
administration.
B.
Assessed
whether all tax returns meeting the screening selection criteria are being
included in the screening inventory as intended.
1.
Obtained
EFDS tolerances (data mining and refund amount) established for screening
selection during the 2010 Filing Season.[19]
2.
Analyzed
the EFDS extract obtained in Step I.A.2.
and determined whether tax returns meeting EFDS data mining scoring and refund
tolerances were included in the screening workload.
C.
Assessed whether the EFDS is identifying all prisoner
tax returns and sending them to screening if meeting the data mining tolerance.
1.
Obtained a copy of the prisoner data file for
Processing Year 2010.
2.
Compared the data file to the EFDS extract
obtained in Step I.A.2. and determined if all prisoner tax returns included a
prisoner indicator.
II.
Determined
if the screening process is effective and efficient.
A. Evaluated the use of HHS wage information by the
TAP to prevent refund fraud for tax returns claiming the EITC.
1.
Reviewed the process by which States collect
wage information from employers and forward it to the HHS.
2.
Identified the content of the wage
information collected and determined if it includes withholding information and
nonemployee compensation.
3.
Reviewed HHS Inspector General reports to
determine whether any reports were issued assessing the accuracy and
completeness of the wage information provided by the States.
4.
Determined the potential impact on tax
administration where ***2(f)***.
B.
Identified the volume of tax returns that
could systemically bypass the screening process based upon more current
reporting of wage and withholding information to the IRS.
1.
Obtained a Master File computer extract of
all Tax Year 2008 tax returns that were screened and refiled and screened and
verified “good.” We conducted
tests to assess the reliability of data, including verifying the data against
amounts reflected on the Integrated Data Retrieval System.[20]
2.
Matched the file obtained in Step II.B.1. against
the Tax Year 2008 Wage and Tax Statement (Form W-2) file and compared the wage
and withholding information for both the primary and secondary Social Security Numbers.
3.
Determined the volume of tax returns that
could have bypassed the screening process for both categories (tax returns
screened and refiled, and tax returns screened and verified “good”) based upon
consistent wage information reported by the employer.
C.
Identified the staffing resources that could
be shifted to other compliance activities based upon the reduction in the
screening workload determined in Step II.B.
III.
Determined
whether the TAP will have sufficient resources to effectively identify and stop
fraudulent refunds in Processing Year 2010.
A. Reviewed
the staffing by activity for each TAP site and assessed the proficiency of staffing, availability of workstations, and
effectiveness of management to ensure the quality of the screening process.
B.
Reviewed
program performance measures and quality review techniques and procedures
established for the screening process.
C.
Identified
management information reports and reviewed managerial requirements for
monitoring the caseload and evaluating the efficiency and effectiveness of the
screening process.
D. Assessed
any impact to the program resulting from the transition due to a decrease in
the number of tax returns screened, the number of tax returns referred for
verification, the number of tax returns verified false, and the amount of
refunds stopped.
E.
Assessed whether internal controls were
effective to prevent the release of the refund after the tax returns were selected
for screening during the 2010 Filing Season.
Internal controls methodology
Internal controls
relate to management’s plans, methods, and procedures used to meet their
mission, goals, and objectives. Internal
controls include the processes and procedures for planning, organizing,
directing, and controlling program operations.
They include the systems for measuring, reporting, and monitoring
program performance. We determined the
following internal controls were relevant to our audit objective: Accounts Management function TAP policies,
procedures, and practices for screening potentially fraudulent tax returns in
campus[21] operations.
We evaluated these controls during the audit planning activity by
reviewing the Internal Revenue Manual and lesson plans for screening procedures
and reviewing a judgmental sample of screened tax returns. We also evaluated the controls that are
incorporated directly into the EFDS to ensure that it was operating as intended
during processing of tax returns for the 2010 Filing Season.
Appendix II
Major Contributors to This Report
Michael
E. McKenney, Assistant Inspector General for Audit (Returns Processing and
Account Services)
Russell
P. Martin, Director
Edward
Gorman, Audit Manager
Van
A. Warmke, Lead Auditor
Karen
C. Fulte, Senior Auditor
Jeffrey R. Stieritz, Auditor
Arlene Feskanich, Information Technology
Specialist
Appendix III
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,
Customer Account Services, Wage and Investment Division SE:W:CAS
Director,
Strategy and Finance, Wage and Investment Division SE:W:S
Director,
Accounts Management, Wage and Investment Division SE:W:CAS:AM
Chief,
Program Evaluation and Improvement, Wage and Investment Division SE:W:S:PRA:
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
Internal Control OS:CFO:CPIC:IC:
Audit Liaison: Chief, Program Evaluation and Improvement,
Wage and Investment Division SE:W:S:PRA:
Appendix IV
This appendix presents detailed information on the measurable impact that our recommended corrective actions will have on tax administration. These benefits will be incorporated into our Semiannual Report to Congress.
Type and Value of Outcome
Measure:
· Inefficient Use of Resources – Potential; $1.6 million over 5 years. This estimate is based on transferring 22,110 hours that the IRS expended screening tax returns with valid wages to additional compliance efforts, which could result in $329,439 in available funding from the transferred resources each year (see page 4).
Methodology Used to Measure
the Reported Benefit:
Of the 151,776 Tax Year 2008 tax returns refiled (the reviewer of the tax return concluded it was not fraudulent), we identified 96,178 (63 percent) tax returns that were selected for screening that had valid wages reported. These included:
·
70,865 tax returns
refiled after screening.
·
25,313 tax
returns refiled after verification.
By reducing the volume of tax returns unnecessarily
sent to screening, the IRS could transfer 22,110 hours expended screening tax
returns with valid wages to other compliance activities.
To
compute the inefficient use of resources, we:
Type and Value of Outcome Measure:
· Revenue Protection – Potential; $560.4 million over 5 years. This estimate is based on $130.2 million in tax refunds associated with 48,887 prisoner Tax Year 2009 tax returns identified by the IRS in Calendar Year 2010 through March 24, 2010, less the $18.1 million in EITC claims that were stopped on 4,532 of the 48,887 prisoner tax returns, which were sent to pre-refund examination as a result of filters identifying the EITC as a probable erroneous claim (see page 9).
Methodology Used to Measure the Reported Benefit:
From the data provided by the IRS, we determined that 253,929 Tax Year 2009 tax returns identified by the EFDS as prisoner tax returns through March 24, 2010, were not selected for screening.
To compute the revenue protection, we:
· Matched the 253,929 prisoner tax returns against the IRS Returns Transaction File to identify the 225,851 prisoner tax returns that had a filing status other than married filing jointly.
· Matched the 225,851 prisoner tax returns that had a filing status other than married filing jointly against the IRS W-2 file which resulted in the identification of 48,887 prisoner tax returns that had no wage information reported by employers.
· Computed the potential revenue loss of $130.2 million by identifying the total refunds claimed for the 48,887 prisoner tax returns.
· Computed the reduction in potential revenue loss of $18.1 million in EITC claims that were stopped by identifying the 4,532 prisoner tax returns that were sent to pre-refund examination as a result of filters identifying the EITC as a probable erroneous claim.
· Calculated the revenue loss total of $560.4 million over 5 years by multiplying the annual loss ($130,150,118 – $18,065,269) x 5 years.
Type and Value of Outcome Measure:
· Revenue Protection – Potential; $6.7 million in tax refunds related to 2,716 tax returns processed in Calendar Year 2010 through April 17, 2010 (see page 9).
Methodology Used to Measure the Reported Benefit:
We identified 2,716 tax returns processed in Calendar Year 2010 through April 17, 2010, and sent to verification after screening that had refunds erroneously issued totaling $6.7 million.[23] These included:
· 2,451 tax returns that were sent to pre-refund examination as a result of filters identifying the EITC as a probable erroneous claim. For these cases, the overpayment amount in excess of the EITC was systemically refunded. A system change request was submitted to prevent the release of the refunds beginning in Processing Year 2011.
· 265 tax returns processed on the CADE that had refunds erroneously issued. A system change was implemented to prevent future refunds from releasing.
To compute the revenue protection, we:
· Identified the issuance of potentially fraudulent refunds totaling $5.4 million for the 2,451 screened tax returns that were sent to pre-refund examination.
· Identified the issuance of potentially fraudulent refunds totaling $1.4 million for the 265 tax returns processed on the CADE.
Appendix V
Management’s Response to the Draft Report
DEPARTMENT OF THE TREASURY
INTERNAL REVENUE SERVICE
ATLANTA. GA 30308
Commissioner
Wage and Investment Division
September 10, 2010
MEMORANDUM
FOR MICHAEL R. PHILLIPS
DEPUTY INSPECTOR GENERAL
FOR AUDIT
FROM: Richard Byrd, Jr. /s/ Richard Byrd, Jr.
Commissioner, Wage and
Investment Division
SUBJECT: Draft Audit Report -
Expanded Access to Wage and Withholding Information Can Improve Identification
of Fraudulent Tax Returns (Audit # 201040003)
We have reviewed
the subject draft report and
appreciate your findings regarding the identification of returns reporting
fraudulent wage and withholding information. The IRS continually strives to
improve our abilities to identify these fraudulent returns and prevent the
associated loss of revenue. Thank you for recognizing our efforts in this important
area and for presenting additional opportunities for improvement.
As reflected
in your report, the Taxpayer Assurance
Program (TAP) was transferred to the Wage and Investment Division Accounts
Management function in October 2009. This allows the Criminal Investigation
Division to pursue tax schemes and investigate criminal tax fraud while
Accounts Management focuses on cases with questionable refunds. The realignment
also provided multiple opportunities to reevaluate and improve our processes.
For example, we made process and data mining tolerance changes that
significantly increased the identification of potentially fraudulent tax returns
in the TAP. We particularly appreciate your acknowledgement of our success in preventing
$1.48 billion of fraudulent refunds, which was 98 percent of all questionable refunds
claimed. This represents a 50 percent increase in the number of fraudulent returns
identified during the prior year.
Your report
addresses IRS' efforts to identify fraudulent returns filed by prisoners and prevent
the associated erroneous refunds. In this regard, it should be noted that our data
mining models and Internal Revenue Manual procedures currently give special scrutiny
to prisoner returns. We also appreciate your support for legislation giving IRS
access to up-to-date prisoner information that will further enhance these
efforts. We will continue to explore improvements to maximize the screening and
verification of prisoner returns in the TAP. Additionally, any prisoner returns
not identified for screening will continue to be subject to IRS post-refund
compliance programs.
We also
welcome your observations regarding the limitations of the National Directory of
New Hires with regard to wage verification and your support for legislation to
expand our access to this data. With regard to your comments related to
the timely availability of wage and withholding information from the Social
Security Administration (SSA), the IRS actively, and continually explores
strategies to improve our access to this data, and to better utilize the data
that is available.
While your
report focuses on the efforts of the TAP with regard to pre-refund identification
of questionable returns, the IRS believes it is important to recognize that we
also have extensive post-refund compliance programs that address potentially fraudulent
returns. Despite these pre- and post-refund efforts, we recognize there are opportunities
for improvement and we agree with most of your recommendations.
However, the
IRS does not agree with the potential savings computation associated with the
outcome measure for the inefficient use of resources. The methodology TIGTA
utilized included SSA wage and withholding data for the 2008 Tax Year that was complete.
In fact, during the early Filing Season processing of tax returns, SSA data is incomplete
and results in a lower percentage of returns identified as having valid wages.
This lower percentage will result in a lower figure for potential savings.
Further, the
IRS does not agree with the outcome measures related to revenue protection.
These outcome results are not achievable, since it is not practical for IRS to verify
every return submitted by a prisoner. Verification of such returns must be weighed
against available IRS resources and other, potentially more productive work. In
addition, these outcome measures do not account for IRS post-refund compliance results.
Attached are
our comments to your recommendations. If you have any questions, please contact
me, or a member of your staff may contact Peter Stipek, Director, Customer
Account Services, Wage and Investment Division, at (404) 338-8910.
Attachment
Attachment
Legislative Recommendation
RECOMMENDATION 1: As.
put forth in the IRS Fiscal Year 2010 budget proposal, legislation is needed to
expand IRS access to NDNH wage information for tax administration purposes not
limiting use of this information to just those tax returns with a claim for the
EITC.
CORRECTIVE ACTION
We agree with
this recommendation. Legislation which will expand the use of data in the
National Directory of New Hires (NDNH) to returns without the Earned Income Tax
Credit (EITC) was included in the President's Fiscal Year 2011 budget. On April
9, 2010, IRS met with Health & Human Services officials to brief them on
the proposal. The IRS will continue to follow the progress of the proposed
legislation. We are analyzing the benefits the NDNH data will have on the
Taxpayer Assurance Program (TAP), and the potential for other compliance
efforts.
IMPLEMENTATION DATE
N/A
RESPONSIBLE OFFICIAL
N/A
The
Commissioner, Wage and Investment Division, should:
RECOMMENDATION 2: Obtain
NDNH wage information for individuals claiming the EITC on ***2(f)***tax returns.
CORRECTIVE ACTION
We partially agree with this recommendation.
We will examine the benefits of obtaining the NDNH information for individuals
claiming the EITC on ***2(f)*** tax returns, including the effect on cycle
time and improved accuracy of verification. If NDNH information expedites the
scanning process and increases the accuracy of determinations, IRS will consider
a plan to request that data for ***2(f)***, and the associated process
modifications.
IMPLEMENTATION DATE
January 15,
2012
RESPONSIBLE OFFICIAL
Director,
Earned Income Tax Credit, Wage and Investment Division
Director,
Accounts Management, Wage and Investment Division
RECOMMENDATION 3: Develop
a process to expedite the availability of wage and withholding information
received from the SSA for use by the EFDS and TAP examiners in the
identification of potentially fraudulent tax returns.
CORRECTIVE ACTION
We agree with
this recommendation. We continue to take strategic steps to accelerate access
to information return data toward goals of refund verification at time-of-filing
and upfront issue detection. We have already initiated a pilot project to
accelerate our access to Social Security Administration (SSA) wage data. The
IRS is working with SSA to analyze the costs and benefits of accelerated
transfer, perfection, and integration of SSA data into IRS systems.
IMPLEMENTATION DATE
June 15, 2012
RESPONSIBLE OFFICIAL
Director,
Earned Income Tax Credit, Wage and Investment Division
Director,
Accounts Management, Wage and Investment Division
RECOMMENDATION 4: Verify
whether the 48,887 tax returns with tax refunds that were filed by prisoners with
no reported wages were fraudulent. Based on actions taken on these cases, the
Commissioner should identify revisions that could be made to data mining criteria
to better identify fraudulent tax returns filed by prisoners.
CORRECTIVE ACTION
We agree with
this recommendation. We will work with Small Business and Self-Employed
Division to review these 48,887 returns for potential inclusion in IRS post-refund
compliance efforts. These returns also will be sampled and reviewed to identify
improvement opportunities for our data mining models. In addition, we are
evaluating an improved process to acquire and manage prisoner information from
Federal and State prison systems.
IMPLEMENTATION DATE
January 15,
2012
RESPONSIBLE OFFICIAL
Director,
Earned Income Tax Credit, Wage and Investment Division
Director,
Accounts Management, Wage and Investment Division
Director, Reporting Compliance, Wage and
Investment Division
[1] Schemes involve people who engage in, facilitate, or promote tax fraud (e.g., claiming fictitious deductions on tax returns).
[2] The tax year for most individual tax returns covers a calendar year, which is the 12 months from January 1 through December 31.
[3] The filing season is the period from January through mid-April when most individual income tax returns are filed.
[4] 42
[5] 45 CFR Section 303.108(c).
[6] 42
[7] The $329,439 in available funding for staffing was calculated by multiplying the 22,110 hours by $14.90 per hour (the hourly wage for a General Schedule-5 tax examiner).
[8] Because of rounding, the 22,110 hours that could be transferred to other compliance activities will not equal the 326,398 tax returns screened multiplied by 63 percent and divided by 9 tax returns screened per hour.
[9] We were only able to obtain the data extract for tax returns processed on the EFDS through March 24, 2010.
[10] To determine whether the prisoners had actually earned wages in Tax Year 2009, we excluded 26,805 prisoners filing as married filing jointly because the income could have resulted from the individual who was not incarcerated. We matched the Social Security Numbers for the remaining 225,851 tax returns not sent to screening to the Form W-2 information the IRS received from the SSA.
[11] The Internal Revenue Service Needs to Do More to Stop the Millions of Dollars in Fraudulent Refunds Paid to Prisoners (Reference Number 2005-10-164, dated September 28, 2005).
[12] Additional Steps Are Needed to Prevent and Recover Erroneous Claims for the First-Time Homebuyer Credit (Reference Number 2010-41-069, dated June 17, 2010).
[13] Because of rounding, the total amount of $6.7 million does not equal the two separately rounded amounts of $5.4 million and $1.4 million when added together.
[14] The CADE is a major component of the IRS Modernization program. It consists of current and planned databases and related applications that work with the IRS Master File. The Master File is the IRS database that stores various types of taxpayer account information. This database includes individual, business, and employee plans and exempt organizations data.
[15] The data processing arm of the IRS. The campuses process paper and electronic submissions, correct errors, and forward data to the Computing Centers for analysis and posting to taxpayer accounts.
[16] IRS computer system capable of retrieving or updating stored information. It works in conjunction with a taxpayer’s account records.
[17] A file that contains data for individual tax returns and accompanying forms and schedules processed by the IRS.
[18] The IRS database that stores various types of taxpayer account information. This database includes individual, business, and employee plans and exempt organizations data.
[19] The filing season is the period from January through mid-April when most individual income tax returns are filed.
[20] IRS computer system capable of retrieving or updating stored information. It works in conjunction with a taxpayer’s account records.
[21] The data processing arm of the IRS. The campuses process paper and electronic submissions, correct errors, and forward data to the Computing Centers for analysis and posting to taxpayer accounts.
[22] Because of rounding, the 22,110 hours that could be transferred to verification will not equal the 326,398 tax returns screened multiplied by 63 percent and divided by 9 tax returns screened per hour.
[23] Because of rounding, the total amount of $6.7 million does not equal the 2 separately rounded amounts of $5.4 million and $1.4 million when added together.