TIGTA Releases Annual Report on IRS Compliance Trends

The Treasury Inspector General for Tax Administration (TIGTA) released its annual report on IRS compliance trends yesterday.  The key takeaway from the report is TIGTA’s finding that the total amount of revenue received and collected by the IRS increased for the third year running, despite the fact that the IRS had fewer employees and decreased funding levels.  However, the IRS conducted fewer examinations, and its Collection function continued to receive more delinquent accounts than it closed, the report concluded.

“Budget reductions contributed to a decrease in the number of examinations and an increase in the number of delinquent taxes being assigned to an inactive status at the Internal Revenue Service last year,” said J. Russell George, Treasury Inspector General for Tax Administration.  “However, overall enforcement revenue increased in 2013, due, in part, to several large appeal case settlements.”

Here are the key findings of TIGTA’s report:

  • The Internal Revenue Service’s appropriated budget decreased 7.4 percent between FY2010 and FY2013, from $12.1 billion to $11.2 billion after sequestration.  The budget cuts resulted in reductions in the number of employees available to provide services to taxpayers and enforce the tax laws.  Specifically, the number of full-time equivalents dropped by nearly 9 percent, from 94,618 at the end of FY2010 to 86,310 at the end of FY2013, including a 4 percent reduction between FY2012 and FY2013.  The number of enforcement personnel decreased by more than 1,000 employees during FY2013.
  • Despite these challenges, total dollars received and collected (gross collections) increased for the third straight year to $2.9 trillion (a 13 percent increase) in FY2013.  Enforcement revenue collected also increased from $50.2 billion in FY2012 to $53.3 billion in FY2013, due, in part, to several large Appeals case settlements.  Tax return filings continued to increase as did gross accounts receivable, which increased to $400 billion.
  • TIGTA found that the FY2013 Collection function activities showed mixed results. The amount collected on delinquent accounts by both the Automated Collection System and Field Collection decreased.  The Collection function continued to receive more delinquent accounts than it closed, although the number of delinquent accounts in the Collection queue decreased, due in part to the shelving of millions of accounts that were not resolved.  Fewer Notices of Federal Tax Lien were filed, fewer levies were issued, and fewer seizures were made.  Meanwhile, taxpayers’ use of payment options such as offers in compromise increased.

TIGTA’s report found that IRS Examination function conducted 6 percent fewer examinations in FY2013 than in FY2012.  The decline in examinations occurred across all tax return types, including individual, corporation, S corporation, and partnership. In particular:

  • Individual Income Tax Return Examinations – The number of individual income tax return examinations decreased for the third straight year.  The IRS examined 1,404,931 (one of every 104) tax returns in FY2013.  This is approximately 11 percent fewer examinations than the 1,581,394 reported in FY2010 (one of every 90). During FY2013, 81 percent of the examinations of individuals were performed by correspondence.  One of every 541 individual income tax returns filed received a face-to-face examination, which is a 4 percent decrease compared with FY 2012, when one of every 522 individual returns received a face-to-face examination.
  • Corporate Income Tax Return Examinations – Fewer corporate tax returns were examined during FY2013 than any of the past five years.  The number of examinations decreased in FY2013 to a five-year low of 27,480 (one of every 70 returns filed). Also in FY2013, there were fewer corporate tax filings than in any of the last five years (1,912,105).  Over the past five years, the number of corporate tax returns examined with assets of less than $10 million decreased 4 percent, from 18,298 in FY2009 to 17,604 in FY2013.  These examinations decreased by 17 percent in the past year alone, from the five-year high in FY2012 of 21,164. As examinations of these returns have reached lows, filings have also dropped over the past five years.  Corporate tax return filings with assets of less than $10 million have decreased nearly 14 percent since FY2009, with a 2 percent decrease since FY2012.
  • S Corporation Tax Return Examinations – The number of S corporation examinations decreased 14 percent from the 21,658 examinations conducted in FY2012.  However, the number of S corporation examinations in FY2013 (18,670) was nearly 7 percent more than the number examined in FY2009 (17,455).  In FY2012, one of every 206 S corporation returns filed were examined, compared with one of every 240 filed in FY 2013. S corporation return filings increased for the fifth straight year, reaching 4.5 million in FY2013.
  • Partnership Return Examinations – The number of partnership returns examined decreased 11 percent to 14,870 in FY2013 after increasing to 16,691 in FY2012.  One of every 211 returns filed in FY2012 were examined.  This decreased to one of every 239 in FY2013. Partnership return filings increased to 3.6 million in FY2013.
  • Other Tax Type Examinations (fiduciary, employment, excise, estate, and gift taxes) – The overall number of examinations in these five classes was 87,836 for FY2013.  This is a 13 percent decrease in examinations from FY2012, when the number of examinations was more than 101,000.  Each of the five other tax type returns experienced decreases in the number of examinations between FY2012 and FY2013.  Excise return examinations decreased by 25 percent and estate return examinations decreased by 14 percent.  During FY2012, only one of the five other tax types (estate) experienced decreases in the number of examinations.  The return filings increased for all five of these other tax type returns in FY2013.  Estate return filings and excise return filings increased 123 percent and 52 percent, respectively.

Another important measure of audit productivity is the percentage of audited tax returns that result in recommended adjustments to the tax return.  The IRS associates a high percentage of audited tax returns that result in recommended adjustments with greater audit productivity, while audits that result in no change are considered unproductive.  The no-change rates for:

  • Revenue agent examinations of individual tax returns reached a five-year low in FY2011 (8 percent).  Since then, the no-change rate gradually increased to 10 percent in FY2013.
  • Tax compliance officer examinations of individual tax returns continued to remain at either 9 or 10 percent between FY2009 and FY2013.
  • Revenue agent examinations of corporate tax returns increased to 29 percent during FY2013.
  • Revenue agent examinations of partnership returns increased during FY 2013 to 47 percent.  The no-change rate increased in FY2010 (44 percent) and FY2011 (48 percent) and decreased in FY2012 to 44 percent.
  • Revenue agent examinations of S corporations continue to decrease from 39 percent in FY2011 to 33 percent in FY2012 and 31 percent in FY2013.

The conclusion to TIGTA’s report is as follows:

The IRS faced many challenges during FY 2013, including implementing provisions related to new tax legislation and operating with fewer resources and employees.  Several indicators showed the negative effect of these challenges, including a continued increase in accounts receivable, an increase in the number of cases that might never be worked, and a decrease in the overall number of examinations of tax returns.  While some indicators are positive, including increases in gross collections, enforcement revenue, and dollar yield per hour on examinations of corporations, the negative trends continue to be cause for concern, especially given that diminished enforcement could also affect voluntary compliance over time.

Latest IRS Statistics Show Decline in Audit Rates, Uptick in Criminal Investigations

The Internal Revenue Service has released its FY 2013 “Enforcement and Service Results” (available here), which provide statistics as to the agency’s audit, collection, and enforcement activities.  FY 2103 began on Oct. 1, 2012, and ended on Sept. 30, 2013.  A number of interesting conclusions can be drawn from the data.

Audit Activity

The audit rate for individual tax returns in FY2013 was .96 percent, the lowest such rate since FY2006.  The total number of audits during FY2013 was 1.4 million, with over 1 million of that number consisting of correspondence audits.

The audit rate based upon amount of income also decreased in 2013 in all categories reported by the IRS.  For taxpayers with income of under $200,000, the FY2013 audit rate was .88 percent (as comparied to 1.04 percent in FY2010, 1.02 percent in FY2011, and .94 percent in FY2012).  For taxpayers with income between $200,000 and $1 million, the audit rate dropped to 3.26 percent (as compared to 3.93 percent in FY2011 and 3.70 percent in FY2012).  For taxpayers with income in excess of $1 million, the audit rate in FY2013 again decreased, to 10.85 percent (as compared to 12.48 percent in FY2011 and 12.14 percent in FY2012). 

For businesses, the audit rate also declined.  For all entity returns, the FY2013 audit rate was .61 percent (as compared to .63 percent in FY2011 and .71 percent in FY2012).  Audit rates also dropped in each category of business returns, as shown below:

  • Small corp returns (assets under $10 million):  .95 percent (FY2012 1.12 percent)
  • Large corp returns (assets over $10 million):  15.84 percent (FY2012 17.78 percent)
  • S corp returns:  .42 percent (FY2012 .48 percent)
  • Partnership returns:  .42 percent (FY2012 .47 percent)

Enforcement Results

The IRS collected over $53 billion in “enforcement revenue” in FY 2013, which includes taxes, interest, and penalties.  This was an increase over FY2012 ($50 billion) but a decrease as compared to FY2011 ($55 billion) and FY2010 ($57 billion).  A likely explanation for this decline in enforcement revenue is steadily decreasing levels of IRS enforcement personnel (revenue officers, revenue agents, and special agents).  In FY2013, the IRS had a total of 19,531 enforcement personnel, the lowest number in a decade.  Enforcement positions at the IRS have been diminishing as a result of budget cuts, retirements, attrition, and the like, as the following figures demonstrate:

  • FY2010 enforcement personnel:  22,710
  • FY2011 enforcement personnel:  22,184
  • FY2012 enforcement personnel:  20,868

In FY2013, the IRS undertook fewer collection activities as well, again likely due to staffing reductions, as the following figures demonstrate:

  • Levies:  1.8 million (compared to 2.9 million in FY2012)
  • Liens:  602,005 (compared to 707,768 in FY2012)
  • Seizures:  547 (compared to 733 in FY2012)

On the criminal investigation side, the statistics generally show an uptick in activity by the IRS.  In FY2103, there was a spike in the number of criminal prosecutions recommended, to 4,364, as compared to 3,701 in FY2012.  The overall conviction rate for tax and tax-related cases remained generally flat, at 93.1 percent.  The average jail sentence for tax and tax-related case also remained flat, at 31 months.  Finally, the total number of criminal investigations initiated in FY2013 increased to 5,314 (as compared to 5,125 in FY2012) and the total number of taxpayers who were criminally charged in FY2013 also increased, to 3,865 (as compared to 3,390 in FY2012).

TIGTA Audit Report: Budget Cuts Devastate IRS Enforcement Activities

The Treasury Department’s Inspector General for Tax Administration (TIGTA) has issued a report entitled “Trends in Compliance Activities Through Fiscal Year 2012″ which confirms that cuts to the Internal Revenue Service budget have taken a severe toll on the agency’s ability to carry out its enforcement mission.  The report studies the IRS’s collection and examination functions during FY2011 and FY2012.

The report opens by noting that while the “Tax Gap” — the difference between what is owed in taxes each year and what is paid voluntarily — is steadily growing, both the IRS’s budget and enforcement revenue are decreasing.  (In a separate audit report, TIGTA has criticized the IRS calculation of the Tax Gap as well.  That report is available here.)  For tax year 2001, the IRS estimated the Tax Gap at $345 billion.  For tax year 2006 (the most recent estimate available), the IRS estimates the Tax Gap to be $450 billion, an increase of 30 percent.  Meanwhile, the IRS budget has decreased from FY2010 to FY2012, with a further reduction of $600 million in FY2013 due to the sequester.  These budget cuts have caused a reduction of approximately 8,000 full-time IRS positions since FY2010, including 5,000 from what TIGTA describes as “front-line enforcement personnel.”  In addition, the report notes that over 30 percent of executives, and 20 percent of non-executive managers, are currently eligible for retirement. 

The audit report notes that enforcement revenue has declined for two straight years, and is currently 13 percent less than the FY2010 level.  TIGTA concluded that this decline correlates directly with the 14 percent reduction in the number of IRS enforcement personnel.  At the same time, the number of tax returns being filed has steadily increased.

On the collection front, the TIGTA report notes that revenue collection decreased by 7 percent from FY2011 to FY2012.  In addition, the overall use of key collection mechanisms — liens, levies,and seizures — has decreased.  Between FY2011 and FY2012, the use of tax liens dropped a whopping 32 percent, but that decline is likely attributable to the new Fresh Start Initiative which limited the IRS’s ability to impose liens in certain circumstances in order to help individuals and small businesses meet their tax obligations without adding unnecessary burdens. 

On the audit front, the IRS has experienced a 13 percent reduction in the number of personnel who conduct examinations of tax returns.  In FY2012, the IRS conducted 4 percent fewer audits, and 70 percent of those examinations were conducted by correspondence.  In FY2012, the number of individual tax returns that were examined decreased for the second straight year, while the number of corporate tax returns that were selected for audit increased to a five-year high.  Gift tax examinations have increased every years since FY2009, and have nearly tripled since FY2008. 

The TIGTA report concludes as follows:

The IRS faced many challenges during Fiscal Years 2011 and 2012, including implementing provisions related to new tax legislation and operating with fewer resources and employees.  Several indicators showed the effect of these challenges, including a decrease in enforcement revenue, a continued increase in accounts receivable, an increase in the number of cases that might never be worked, and a decrease in the overall number of examinations.  Nevertheless, many indicators increased, including gross collections and the examinations of certain tax returns.  Some of these trends are cause for concern, especially given that diminished enforcement could also affect voluntary compliance over time.

Internal Revenue Service’s Proposed Budget Reveals Enforcement Priorities for FY2014

On April 10, the President released his budget for FY2014.  As part of that budget, the Internal Revenue Service is seeking an appropriation of $12.9 billion, an increase of over $1 billion, or 8.84%, from the FY2012 enacted level. 

On the enforcement front, the FY2014 request provides funding for a number of initiatives, including prevention of fraud and identity theft, addressing offshore tax evasion, utilizing new information reporting requirements to reduce underreporting, strengthening examination and collection activities, expanding enforcement efforts among corporate and high-wealth taxpayers, and strengthing return preparer compliance. 

The FY2014 budget request specifically includes funding for implementation of the Foreign Account Tax Compliance Act (FATCA), the implementation of which is gradually phasing in.  Specifically, the request seeks funding of $35 million to hire 233 new FTE’s to implement FATCA.  According to the budget request, FATCA will produce additional annual enforcement revenue of $115 million by FY2016.

The IRS budget request also seeks $49 million in new funding to hire 329 FTE’s to address international and offshore compliance issues.  This particular initiative, if funded, is expected to generate additional annual enforcement revenue of $193 million by FY2016.

On the examination front, the IRS seeks an increase of $111 million to hire 797 FTE’s to handle audits of individual and entity taxpayers.  This funding increase will restore examination resources to prior levels and will allow the IRS to increase staffing levels in traditional field examinations, expand correspondence audits, increase voluntary compliance of tax exempt organizations, and address an increasing Appeals workload.  This funding level, if approved, is estimated to generate annual enforcement revenue of $295 million by FY 2016.

Another enforcement priority addressed in the FY2016 budget request is audits of high-wealth individuals.  Several years ago, the IRS established a special unit — dubbed the “wealth squad” — to focus on audits of high net worth individuals.  The IRS seeks additional funding of $34 million (to hire 242 FTE’s) in order to continue its focus on the wealthiest taxpayers.  In its budget request, the IRS states that it increased “high income audits” by 2.6 percent from FY2011 to FY2012.  (Note, however, that in a prior post, I noted that audit rates for wealthy taxpayers have actually decreased slightly.)

The FY2014 also seeks to strengthen another IRS priority:  tax return preparer compliance.  The IRS states that this compliance initiative — which started in 2009 — is “core to the IRS tax gap strategy” and seeks $18 million in new funding to hire 124 FTE’s to carry out this effort.