Office of Audit
ACTIONS CAN BE TAKEN TO BETTER
ADDRESS POTENTIAL NONCOMPLIANCE FOR
ROTH INDIVIDUAL RETIREMENT ARRANGEMENT CONVERSIONS
Final Report issued on August 30, 2016
Highlights of Reference Number: 2016-10-054 to the Internal Revenue Service Commissioner for the Small Business/Self‑Employed Division.
IMPACT ON TAXPAYERS
For Tax Year 2011, IRS records show that approximately 400,000 taxpayers converted more than $10 billion in assets from Traditional to Roth Individual Retirement Arrangements (IRA). The IRS uses its Automated Underreporter (AUR) Program to systemically match third-party documents with tax returns to identify potential retirement plan discrepancies, such as tax noncompliance issues associated with Roth IRA conversions. Underreported taxes due on these conversions result in lost revenue to the Government.
WHY TIGTA DID THE AUDIT
This audit was initiated to assess whether the IRS has sufficient processes in place to address taxpayers who underreport taxes due when converting assets to Roth IRAs.
WHAT TIGTA FOUND
The IRS has processes in place to address taxpayers who underreport taxes due when converting assets to Roth IRAs; however, AUR Program employees did not always follow these processes, and improvements can be made to lessen taxpayer burden. TIGTA identified a population of 18,382 potential Roth IRA conversion compliance cases worked by the AUR Program in Tax Year 2011 and reviewed a random sample of the cases. The IRS correctly followed its processing guidance in the Internal Revenue Manual for 335 (87 percent) of 383 sampled cases. For the remaining cases, the procedures that are designed to ensure accuracy and consistency in working Roth IRA conversion cases were not followed. The resulting 13 percent error rate for these Roth IRA conversion cases is higher than the 7.4 percent error rate estimated by the IRS for all types of cases worked by the AUR Program. This occurred because, in some instances, guidance for processing Roth IRA conversions was unclear and, in others, the guidance was not followed by AUR Program personnel. In addition, IRS management stated that Roth IRA conversions are one of the more complex issues handled by AUR Program personnel.
TIGTA also determined that the IRS could improve its procedures to reduce taxpayer burden by eliminating unnecessary notices. For 97 (25 percent) of the 383 sampled cases, the IRS could have researched information on IRS systems that would have enabled AUR Program personnel to correctly conclude that minimal or no taxes were due on the Roth IRA conversions. However, the Internal Revenue Manual did not require AUR Program personnel to consider this information. As a result, the IRS issued unnecessary notices to taxpayers who owed minimal to no taxes on their Roth IRA conversions.
WHAT TIGTA RECOMMENDED
TIGTA recommended that the IRS: 1) clarify guidance and educate AUR Program personnel on Roth IRA conversion issues; and 2) update processes and procedures to consider available information prior to issuing notices to taxpayers.
In its response, the IRS agreed with the first recommendation and plans to update procedures, develop education materials, and provide training. The IRS disagreed with the second recommendation stating that much of the information TIGTA recommends reviewing is unavailable when AUR personnel initially review cases. In addition, matches are performed using a single tax year. TIGTA continues to believe that alternatives exist to adjust processes to reduce the number of unnecessary notices that result in minimal or no taxes due.
READ THE FULL REPORT
To view the report, including the scope, methodology, and full IRS response, go to:
Phone Number / 202-622-6500
E-mail Address / TIGTACommunications@tigta.treas.gov
Website / https://www.treasury.gov/tigta