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MSP #23: Earned Income Tax Credit (EITC)

The IRS Is Not Adequately Using the EITC Examination Process as an Educational Tool and Is Not Auditing Returns With the Greatest Indirect Potential for Improving EITC Compliance

TAS Recommendations and IRS Responses

1
1.

TAS RECOMMENDATION #23-1

Conduct an EITC pilot with three different treatments: a regular correspondence examination, an office audit, and a correspondence examination with one auditor assigned.  The pilot should measure the following: direct time on case, no response/drop-out rate, agreed to rate, audit reconsideration rate, and future compliance rate.

IRS RESPONSE TO RECOMMENDATION: This recommendation proposes that the IRS replace the correspondence audit program with face-to-face audits as conducted during the National Research Program (NRP) process, and use the method for selection of NRP for selection of EITC audits rather than a rule-based selection scoring model. The NRP audits and the Correspondence Exam audits have very different purposes.  NRP audits are conducted to determine the compliance in relation to a range of tax provisions including the EITC. The tax returns selected for NRP audits are randomly selected to provide statistically valid information on compliance and help us estimate improper payment rates. These examinations are not selected for non-compliance or ineligibility but to determine risk. Correspondence audits are selected using risk-based scoring models utilizing data from other agencies such as Social Security Administration or Health and Human Services to select returns that have a high probability of not being eligible for the EITC. Replacing correspondence audits with face-to-face audits would significantly decrease the audit coverage on refundable credits and potentially allow billions of dollars of erroneous refundable credits to be paid.

CORRECTIVE ACTION: N/A

TAS RESPONSE: The IRS has misconstrued the National Taxpayer Advocate’s recommendation here.  She is not recommending that the IRS use the NRP selection criteria.  Rather, she is recommending that the IRS develop a pilot that tests the effectiveness and accuracy of the different methods of auditing EITC taxpayers.  In light of survey results that show low income taxpayers prefer in-person interaction and given the primary purpose of audits as educational, the IRS should be willing to expend a small amount of resources to explore whether its current processes promote or erode compliance, help or harm taxpayers.  The fact that the IRS is unwilling to undertake this study indicates it is not really serious about understanding the needs of and educating EITC taxpayers.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Not Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

2
2.

TAS RECOMMENDATION #23-2

When an EITC taxpayer calls the IRS with information in response to an audit, one employee should be assigned to the taxpayer’s case until it is resolved.  If the taxpayer calls back, he or she could have the option to speak to the next available employee or wait for the assigned employee to call back.  The IRS should hire employees with a social work background or train existing auditors to conduct the audits.

IRS RESPONSE TO RECOMMENDATION: NTA Recommendation Not Adopted as Written, but IRS Actions Taken to Address Issues Raised by NTA.  IRS assigns one tax examiner to the same taxpayer’s correspondence in four of our five correspondence exam operations that conduct EITC audits. We expect the fifth operation will transition to this method by October 2016. Since all of our phone assistors are very knowledgeable about EITC and other refundable credits and can pull up the notes from the previous phone call, IRS believes moving the taxpayer’s call to the next available assistor provides the most effective customer service and gets the taxpayer’s question answered quicker and more efficiently. Otherwise, the taxpayer may have to wait for a call back as the assigned examiner may be performing other duties.

CORRECTIVE ACTION: N/A

TAS RESPONSE: TAS is pleased with the response to this issue and would like to be notified when the final group transitions to the one tax examiner to the same taxpayer model the other four groups are following. Since the IRS is now assigning one person to work an EITC exam, the National Taxpayer Advocate expects that employee’s name to appear on all correspondence about that exam.  Moreover, the IRS can provide the taxpayer with that employee’s extension so that when the taxpayer calls with questions or to provide information, he or she can punch in the extension and get immediately to the examiner or his or her voice mail.  If the employee is unavailable, the taxpayer can be given an option to speak to the next available assistor.  This approach has worked well in TAS, and it will bring great accountability and better communication to the EITC audit process.  EITC taxpayers are adults and can make the decision for themselves whether they want a call back from their examiner or they need to speak immediately to someone.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

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3.

TAS RECOMMENDATION #23-3

Use NRP data to design a formula for workload selection in addition to (or incorporated into) the DDb that will reach the audits with the most impact for taxpayer education and improvement to future compliance.  This would include qualifying child errors that involve the residency test.

IRS RESPONSE TO RECOMMENDATION: We agree that an emphasis on outreach, education, and providing taxpayers with options to self-correct errors made on tax returns are important to IRS as we transition to our future state. Many of the IRS’s “Future State” initiatives seek to improve the way taxpayers can use technology to securely interact with us.  The Future State initiatives reflect how the business of tax administration will change over time for both the taxpayer and the IRS. We continually work to make improvements to processes, tools or the realignment of operations to select better work and tailor compliance treatment streams. One such example is the information received from Compliance Studies for Tax Years 2006-2008, which are based on NRP data.  This information was reviewed to determine if our current risk based scoring models to select EITC returns for audit are in need of revision. These studies confirmed that IRS’s emphasis on residency and relationship is still appropriate and supported by research. The study also showed that similar EITC errors for self-prepared and paid preparer returns supported our efforts to address compliance from a taxpayer as well as a preparer standpoint. These studies also provide us with important information on the key causes of EITC error which is used to drive our outreach and education efforts. Each year with the help of our partners we conduct significant outreach and education activities to make taxpayers aware of the EITC and help them determine eligibility.

CORRECTIVE ACTION: N/A

TAS RESPONSE: The IRS responded that outreach, education, and taxpayer self-correction are important features of its Future State initiative.  TAS believes that these goals are important now, as well as in the future.  While an IRS Future State “vignette” portrays a taxpayer self-correcting her return after the IRS questioned her EITC claim, we believe a better goal is to prevent the erroneous claim from ever occurring.   Moreover, we challenge the IRS’s assumption that ‘self-correction’ is appropriate for this category of taxpayers.

The Future State assumes an idealized EITC taxpayer that is far-divorced from reality.  At every single one of the National Taxpayer Advocate’s Public Forums, the IRS Future State EITC vignette, which involves self-correction, has been criticized on fairness, taxpayer rights, and due process grounds.   IRS audits are not only a method of preventing the loss of improper EITC claims, but they are also a way to prevent future incorrect claims by educating the taxpayer about EITC rules.  We urge the IRS to minimize this “self-correction” approach to EITC taxpayers in its Future State planning.

The IRS does not audit a large segment of noncompliant EITC claims, but, instead selects most EITC returns for audit based on their DDb score.  However, an analysis of TY 2008 NRP audits shows that 86 percent of the returns where at least some EITC was disallowed did not break a DDb rule regarding that child.   Therefore, the IRS has no significant audit presence with those taxpayers who are responsible for most improper EITC claims.  Without changes to the selection method for EITC audits the IRS will miss an opportunity to address EITC noncompliance by those taxpayers who do not break DDb rules and, more importantly, to prevent their future EITC noncompliance.

TAS does not dispute that the IRS’ selection of EITC returns for audit where one of more of the claimed qualifying children have broken DDb residency and relationship rules produces good audit results. Nevertheless, the IRS’ failure to have an audit presence with returns not breaking DDb rules omits a sizeable portion of the noncompliant EITC population, which is likely to remain noncompliant.  Unless the IRS adapts its audit selection methods to detect, to the extent possible, these other improper claims, it may have good current year audit statistics, but will have failed to prevent ongoing noncompliance in a large segment of taxpayers claiming EITC, ultimately resulting in a greater loss of revenue.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Partially Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

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4.

TAS RECOMMENDATION #23-4

Revise the IRM with the list of additional documentation listed in the TAS IGM, as well as IRM updates about accepting alternative EITC substantiating documentation.

IRS RESPONSE TO RECOMMENDATION: The Audit Improvement Team, made up of IRS staff and members of the Taxpayer Advocate Service, identified some additional documentation that taxpayers may provide and the IRS will accept to support EITC eligibility during an examination.

Update: Internal Revenue Manual (IRM) 4.19.14.5.4 EITC Qualifying Child (QC) was updated on 07/29/16 with instructions for examiners to consider other documentation submitted by taxpayers to support their eligibility.  Additionally, a new exhibit was added to this IRM, Exhibit 4.14-1, (Examples of Acceptable Documentation for EITC Claims (not all-inclusive)), which includes these six additional documents.

  1. Social service records (relationship)
  2. Earnings statement/Check Stub (residency)
  3. Bank statements (residency)
  4. Military records (relationship)
  5. Parole Office files (residency, relationship, citizenship)
  6. Eviction Notice (residency)

CORRECTIVE ACTION: The IRS will update the IRM to permit tax examiners to accept some of the additional documentation identified. The IRM will also be updated to inform tax examiners that they should consider any other information presented by the taxpayer to strengthen eligibility, even if that information is not reflected in the IRM.  An example will be provided.

TAS RESPONSE: TAS accepts the IRS response as long as an IGM is issued to cover the change while waiting for the IRM to be updated.  We will continue to advocate for inclusion of all of the recommended types of alternate documentation.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

5
5.

TAS RECOMMENDATION #23-5

Publish and accept Form 8836, Third Party Affidavit, for purposes of substantiating the residency requirement for a qualifying child.

IRS RESPONSE TO RECOMMENDATION: NTA Recommendation Not Adopted as Written, but IRS Actions Taken to Address Issues Raised by NTA.  In February 2016, IRS’s Research Analysis and Statistics published the results of a three-year study, for tax years 2009 – 2011, on the use of third party affidavits.  This study was conducted as a follow-up to the 2005 EITC Qualifying Child Residency Certification Study mentioned in the National Taxpayer Advocate’s (NTA) report. Although the use of third party affidavits had shown promise in the prior study, as that study itself cautioned, the results regarding affidavits could not be generalized to the audit process. The goal of testing third-party affidavits in the audit process motivated the study and was in response to the NTA’s prior recommendations.

The study published in 2016 suggested that affidavits could potentially benefit some taxpayers if the option to use them were carefully directed to an appropriate subset of audited taxpayers. The study concluded that IRS must consider whether those benefits outweighed other considerations (such as additional IRS costs).

Update: IRS is implementing the use of the affidavit beginning with Tax Year 2018 returns.  The IRS has identified the audit population and revised Form 14086, Qualifying Children Residency Statement Third Party Affidavit.  The IRS will issue the Third-Party Affidavit to the limited audit population in Fiscal Year 2019.  The IRS added the selection criteria to the Filing Season 2019 Dependent Database Unified Work Request.  Additional efforts underway include updating IRM 4.19.14.3 and 4.19.14.7.3, providing a Counsel approved paragraph on Third Party Affidavits to be issued through the Report Generating Software (RGS) during the audit, and updating the training material.

CORRECTIVE ACTION: The IRS will identify a population of EITC taxpayers for limited use of a third party affidavit and we will make the affidavit available to that population, taking the impact to resources and available information technology into consideration.

TAS RESPONSE: TAS believes that the IRS should allow the use of these affidavits in all EITC audits, not in only certain audits.  We have previously expressed our concerns to the IRS about its findings regarding the use of affidavits in its study of a sample of IRS audits from TYs 2009, 2010, and 2011.  While we previously conveyed numerous concerns to the IRS about its study, including data quality issues and the process used to evaluate the accuracy of the affidavits, one of our most serious concerns is that affidavits were subjected to mandatory evaluation as the IRS attempted to contact the affiant to verify the accuracy of the claim.  However, the IRS did not validate other records and documents submitted by taxpayers to substantiate that the child resided with the taxpayer at least half of the year.  Therefore, we are not surprised that records and documents were more likely to substantiate residency when compared to affidavits in this study.

In the 2005 EITC Qualifying Child Residency Certification Study, the IRS also subjected records and documents to the same verification process as affidavits.  Subsequent to IRS verification, the affidavits were actually more likely to substantiate residency than either records or documents.  The option to use an affidavit to establish the residency of a child claimed for EITC purposes should be available to all taxpayers whose EITC claim is audited by the IRS.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Partially Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

6
6.

TAS RECOMMENDATION #23-6

Collaborate with TAS to draft IRM guidance requiring correspondence examiners to adjust accounts for the childless worker credit when the taxpayer is ineligible for the EITC with children.  This should be done automatically without requiring the taxpayer to request the credit.

IRS RESPONSE TO RECOMMENDATION: Correspondence Exam Tax examiners are already required to consider and adjust taxpayer accounts for the childless worker credit without receiving a request from the taxpayer when the taxpayer responds and they are not eligible for the EITC with children. The IRM (4.19.14.5.5) requires examiners working an EITC audit to determine if the taxpayer meets the requirements. If so, they are instructed to send the taxpayer an audit report reflecting the appropriate childless worker EITC amount. This process cannot be automated due to the different legal requirements and the research required determining eligibility.

CORRECTIVE ACTION: N/A

TAS RESPONSE: TAS is pleased that Correspondence Exam tax examiners are required to consider and adjust taxpayer accounts for the childless worker credit without receiving a request to do so. However, TAS studies have found that examiners do not, in fact, do so in many instances. Therefore, we will continue to monitor the implementation of this important authority.

ADOPTED, PARTIALLY ADOPTED or NOT ADOPTED: Adopted

OPEN or CLOSED: Closed

DUE DATE FOR ACTION (if left open): N/A

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