Millions of dollars in Internal Revenue Service (IRS) Excess Collections Accounts could be credited to taxpayers. A computer analysis conducted in March 1999 identified an estimated one million taxpayers that had payments totaling $2.3 billion in the Excess Collections Accounts. Over the past several years, changes in IRS processing increased the number of payments transferred to the Excess Collections Accounts.

When a payment cannot be associated with a taxpayer’s account or a tax return is not filed, the IRS will, after meeting processing requirements, transfer the payment to its Excess Collections Accounts. Payments in Excess Collections also include unidentified remittances (where the identities of taxpayers are unknown), miscellaneous fees, and voluntary contributions.

The objective of the audit was to review the IRS’ program for managing its Excess Collections Accounts. The review focused on the approximately 240,000 taxpayers who had payments transferred to Excess Collections Accounts and also owed taxes. Many of these taxpayers made payments to the IRS, subsequently did not file their returns until long after the due date and, as a result, eventually had their payments transferred to the Excess Collections Accounts.

We estimate that $360 million in the Excess Collections Accounts represents tax payments transferred because these 240,000 taxpayers delayed filing their tax returns. Once the IRS transfers taxpayers’ payments to Excess Collections Accounts, the IRS does not always credit these taxpayers for the payments when tax returns are eventually filed.

The following projections are based on a statistically valid sample of the 426,000 payments made by these 240,000 taxpayers whose payments were transferred to Excess Collections Accounts. In each of these situations, the taxpayer and/or the IRS must take actions to ensure any payment(s) in the Excess Collections Accounts are credited when a tax return or claim for refund is filed.

• Seven percent of the payments involving $25 million needs to be credited to an outstanding liability or refunded as an overpayment, because tax returns were filed within statutory deadlines, but the IRS did not credit the taxpayers’ accounts.
• Forty-five percent of the payments involving $162 million was forfeited by taxpayers because tax returns were not filed within statutory deadlines and credit can only be given up to the amount of the liability for the same tax year. The IRS is prohibited from refunding or crediting any overpayment toward other outstanding liabilities.
• Forty-eight percent of the payments involving $173 million remains in the Excess Collections Accounts until the tax return is filed and a liability assessed for the same period for which the payments were submitted. Until the tax return or claim is filed, the IRS cannot credit the payments to other periods or refund an overpayment.

When taxpayers delayed filing their tax returns but filed within statutory requirements for a claim for refund or credit, the IRS did not always transfer payments in Excess Collections Accounts back to the taxpayers’ accounts. This occurred primarily because of computer systems limitations and processing procedures. This control weakness made it appear that these taxpayers had not made payments toward their tax liabilities. As a result, many taxpayers received inaccurate or erroneous balance due notices, sometimes taxpayers made additional payments in excess of their tax liabilities and, in a few instances, taxpayers were subjected to Federal Tax Liens.

Taxpayers who did not file tax returns or filed them after the refund statute date may have already forfeited, or are at risk of forfeiting, millions of dollars in payments. This occurs because the tax law prohibits the IRS from refunding or crediting overpayments to an outstanding tax liability in another tax period if statutory requirements for filing tax returns are not met.

We estimate that tax payments totaling $25 million in Excess Collections Accounts should be immediately credited to taxpayers’ accounts because the taxpayers filed their tax returns within the statutory requirements. These payments would reduce tax liabilities and, in some cases, result in refunds to taxpayers.

As indicated, once the IRS transfers taxpayer payments to Excess Collections Accounts, these payments are not always credited to taxpayers when tax returns are filed within statutory requirements. This occurs because the taxpayer information is stored in several unlinked computer systems and payments in Excess Collections Accounts are not automatically transferred back to the taxpayers’ accounts when overdue tax returns are filed. This control weakness made it appear that these taxpayers had underpaid their tax liabilities.

In these instances, taxpayers must contact the IRS to receive credit for their payments in the Excess Collections Accounts. This usually occurs after the IRS sends notices requesting payment. When taxpayers respond that they have previously sent in payments, the IRS must perform research before manually returning payments in the Excess Collections Accounts to the taxpayers’ accounts. As a result, these computing system and processing limitations actually increase the IRS’ operating costs as well as burden on taxpayers.

Many taxpayers who delay filing their tax returns may be relinquishing their rights to receive credit for their payments. This occurs because the Internal Revenue Code § 6511(a) requires that the taxpayer file a claim for credit or refund of an overpayment within three years from the date the tax return was filed or two years from the date the tax was paid, whichever period expires later. If no tax is due, the claim for refund of prepaid credits must be made within two years from the date of payment. This statutory requirement precludes the IRS from offsetting these overpayments (Refund Offset) to other tax periods for which the taxpayer has an outstanding tax liability.

Based on our sample, we estimate that $335 million in the Excess Collections Accounts could have been refunded or applied to taxpayers’ accounts with outstanding tax liabilities. However, these taxpayers either:

• Have already forfeited their rights to refunds or credits of $162 million in the Excess Collections Accounts because they filed their tax returns after the statute for refunding had expired for the tax years involved. The IRS could have refunded or credited the payments to other tax liabilities if only these taxpayers had filed their tax returns within applicable statutory requirements; or
• Are at risk of not receiving full credit for payments of $173 million in the Excess Collections Accounts if they do not take action to file their tax returns or claims for refund within the applicable statutory requirements.

In addition to tax law and operational limitations, IRS decisions to focus on other priorities reduced the number of contacts with taxpayers to secure overdue tax returns. These decisions contributed to the increase in payments transferred to Excess Collections Accounts and had an adverse impact on taxpayers. For example, one IRS study determined follow-up contacts with taxpayers for overdue tax returns were unproductive, so this practice was curtailed. In another instance, we found that IRS functions would sometimes transfer payments to the Excess Collections Accounts to periodically reduce active inventories.

In reference to the statutory requirements of the law, the National Taxpayer Advocate has identified concerns related to differences between the statute for collecting taxes versus the statute of limitations for issuing credits and refunds to taxpayers. For example, taxpayers who file tax returns late are often put in the position of owing tax for recent years while losing prepaid credits from earlier years. This does little to encourage delinquent taxpayers to re-enter the system. The National Taxpayer Advocate is currently pursuing legislative changes to address these statutory requirements.

There are no formalized program goals or performance measures for handling the payments in the Excess Collections Accounts. Further, there were no management information systems to specifically monitor the activities in these accounts.

Consequently, the problems we identified were not readily apparent to IRS management, and resources for resolving the accounts or for changing computer programs to link the payments in the Excess Collections Accounts with the IRS’ primary computer system (Masterfile) were not allocated. Based on prior year workloads, changes in the way Excess Collections Accounts cases are processed would result in reduced operating costs for the IRS by approximately $1.5 million over a 3-year period while reducing burden on taxpayers.

To protect taxpayer rights and reduce the risk of inappropriate collection actions being taken, the IRS needs to immediately credit taxpayers’ accounts where appropriate. To prevent future taxpayer payments from being unnecessarily transferred to Excess Collections Accounts, the IRS needs to develop a coordinated, cross-functional strategy to minimize payments being transferred to Excess Collections Accounts. This strategy needs to include interim and long-term measures that address systems and procedural limitations.

Finally, the IRS should correlate our audit results with other support for pending legislative suggestions by the National Taxpayer Advocate’s office, regarding statutory requirements for refunding and crediting.

Management’s Response: Management agreed with the recommendations in the report and has already taken steps to improve the process for managing Excess Collections Accounts. Based on briefings provided during the audit, the IRS initiated actions to address our concerns. The IRS, using the Treasury Inspector General for Tax Administration (TIGTA) developed database, established an adjustment program to ensure that eligible taxpayers had payments in Excess Collections files transferred to their primary accounts. The IRS also conducted a multi-functional Task Force study that accelerated implementation of several recommendations. In addition, the IRS will be modifying its information system to stop the transfer of taxpayer payments into Excess Collections until the Refund Statute Expiration Date has expired and will send periodic letters to taxpayers with credits to remind them to file a return to receive the credit or a refund.

The IRS concurred with the outcome measure that the potential exists for money to be refunded or credited to taxpayers’ accounts. However, the IRS did not fully concur with the projected $25 million that needed to be immediately credited to taxpayers' accounts. Rather, the IRS estimates the amount to be credited will be approximately $8.3 million, based on results of credits given to taxpayers in only 2 of the 10 service centers.

Management’s complete response to the draft report is included as Appendix VII.

Office of Audit Comment: Our audit work demonstrated significant differences between the service centers when crediting taxpayer accounts, which will affect the eventual outcome. The IRS is still in the process of tabulating the results from all service centers.

Further, differences can also be attributed to the six-month period that had elapsed from June 1999, when TIGTA notified the IRS of accounts which needed to be credited, to December 1999, when the IRS completed its corrective action. During these six months, many taxpayers would have responded to inaccurate balance due notices and the IRS would have adjusted these accounts prior to working the listing.