Are IRS Correspondence Audits Really Less Burdensome for Taxpayers?
The National Taxpayer Advocate explores the impact of correspondence examinations on taxpayer rights.
In my last blog posting, I discussed how the IRS’s growing use of “unreal” audit “touches” both increases its compliance coverage of individual taxpayers and, in my opinion, potentially violates taxpayers’ rights by subjecting them to repetitive audits of a particular tax return. In this posting, I explore the impact on individual taxpayers of the IRS’s increasing use of correspondence examinations.
In early January, the IRS reported that it had conducted and closed 1,564,690 audits of individual income tax returns in FY 2011. Seventy-five percent of those audits were conducted by correspondence. Instead of the localized, face-to-face office and field audits that used to dominate IRS examination activities, correspondence exams (or “corr exams” in IRS parlance) are centralized and automated in large IRS campuses. These audits use batch processing, an approach that fully automates the initiation, processing, and closing of corr exam cases. In fact, by using the Automated Correspondence Exam (ACE) system, the IRS can process corr exam cases with minimal to no involvement by a Tax Examiner – i.e., a human perspective – until a taxpayer reply is received.
At first glance, it might seem like an IRS audit-by-mail would be a lot less burdensome for the taxpayer than a face-to-face audit. But for the reasons I discuss below, it turns out that surveys of low income, small business, and self-employed taxpayers show taxpayers themselves prefer face-to-face audits, or at least want to speak to an IRS employee, rather than merely correspond with the agency.
So, if a taxpayer gets an audit notice from the IRS, one might think the taxpayer would call the IRS right away. In a perfect world, that should happen. In the IRS world, however, about 10% of IRS mail is undeliverable. In addition, nearly 45% of corr exams involve taxpayers who claimed the Earned Income Tax Credit (EITC), a refundable tax credit for the working poor. A Taxpayer Advocate Service (TAS) survey of taxpayers who were audited on the EITC found that more than 25% of them did not understand the IRS audit notice was telling them they were under audit, and about half didn’t understand what they needed to do in response to the audit letter. (For more information about this survey, see our study: “IRS Earned Income Credit Audits – A Challenge to Taxpayers.”)
Even when a taxpayer submits documentation in response to a corr exam notice, the IRS often is slow to associate the taxpayer’s response with the actual case. When I speak to groups of tax practitioners, their number one complaint is that in corr exams, the IRS ignores the documentation they send in. Instead, the IRS issues the Statutory Notice of Deficiency, which generally gives the taxpayer 90 days to petition the United States Tax Court, or else the additional tax will be assessed and collected. Of course, litigating a case in the Tax Court creates expense and burden for both the taxpayer and the government. Anecdotal evidence suggests that an increasing number of these cases could have been resolved in corr exam if only the IRS tax examiner had picked up the phone and talked to the taxpayer, or at least looked at the mail.
This last statement, however, points up the real problem with corr exam: there is no tax examiner assigned to the case. As noted earlier, most corr exams are selected automatically, the audit notice is mailed automatically, the response timeframes are tracked automatically, and the Notice of Deficiency is issued automatically. If the taxpayer is unable to insert him or herself successfully into this automated process, no tax examiner will ever look at the case.
So what happens if an enterprising taxpayer decides to pick up the phone and call the corr exam unit? First, the average wait time on the corr exam lines was 9.5 minutes in FY 2011 (not counting an additional 12 minutes or more if you tried to reach corr exam through the main IRS toll-free number).
Second, even if you get through, the person you speak with has not seen your case before and most likely will never see it again after you hang up. And although tax examiners are supposed to take good notes during your call, they usually have another call waiting to be answered so they understandably use shortcuts and abbreviations that may be undecipherable to anyone answering a follow-up call. In fact, an IRS study found that 62% of corr exam callers are repeat callers, and 13% call more than eight times to resolve their issues. In focus groups, Tax Examiners reported that they are “…told to work the paper and get off the phone quickly.” It comes as no surprise, then, that 42% of corr exams are closed without any personal taxpayer contact. (We discuss this in greater detail in my 2011 Annual Report to Congress study, “An Analysis of IRS Examination Strategy: Suggestions to Maximize Compliance, Improve Credibility, and Respect Taxpayer Rights.”)
But here is the real kicker. In the IRS Restructuring and Reform Act of 1998 (RRA 98), Congress required the IRS to include in all manually-generated correspondence the name, telephone number, and unique identifying number of the employee the taxpayer may contact regarding correspondence. (See RRA 98, § 3705(a) (1).) RRA 98 also required the IRS to develop procedures that would assign one employee to handle an issue from start to finish, if practical for the IRS and beneficial to the taxpayer. (See RRA 98, § 3705(b).) I believe corr exam procedures may violate these requirements.
The IRS defines “manually-generated correspondence” as “correspondence issued as a result of an IRS employee exercising his/her judgment in working/resolving a specific taxpayer case or correspondence, or where the employee (Tax Examiner, Revenue Agent, Revenue Officer, etc.) is asking the taxpayer to provide additional case-related information.” (IRM 220.127.116.11.17.1(1).) This means that the initial audit notification letter – which is automatically generated and is usually the only letter other than the Notice of Deficiency a taxpayer receives in corr exam – will list only a main IRS toll-free number, “tax examiner” as the person to contact, and an identification number for the IRS site that issued the letter (as opposed to the employee). (IRM 18.104.22.168.6(6).)
How does this legalistic definition impact taxpayers? Well, let’s say a Tax Examiner reviews documentation and determines the IRS needs additional information from the taxpayer. Here, the employee exercised judgment in making this determination and is requesting more information as a result. To most reasonable people, the subsequent request would fall within the definition of “manually-generated correspondence.” However, because the employee will use Letter 565, Acknowledgement and Request for Additional Information, through an automated system, the IRS considers this a computer-generated letter and does not include any identifying information for the employee who made the determination.
The IRS’s narrow interpretation of what constitutes manually-generated correspondence subverts RRA 98 and means that as the IRS increasingly harnesses the benefits of automation to generate correspondence, it will effectively obliterate this taxpayer protection. It will also eliminate accountability from its correspondence examination function. No one employee must follow up on his or her actions or decisions with respect to a case or speak with the taxpayer about those decisions. Thus, it becomes easier for Tax Examiners to reduce taxpayers to mere paper to be processed or calls to be answered. In turn, it is easier to be careless or to succumb to the pressure to move on to the next case because Tax Examiners know the taxpayers will not be able to reach them again to follow up on promised actions.
I started this discussion by noting the huge volume of IRS correspondence examinations. No one questions that the IRS needs to use automation to handle this amount of work. But using automation to impede the taxpayer’s ability to communicate effectively with the IRS undermines core taxpayer rights. I should also stress that automation and advanced technology can be harnessed in positive ways to increase effective communication – for example, by using videoconferencing and computers to hold “virtual face-to-face” examinations. In my next posting, I’ll discuss an interesting pilot initiative the IRS is conducting in this area, and why I think this approach has the potential to address many of the shortcomings in the corr exam process.