Making the IRS Work Jonathan B. Forman University of Oklahoma College of Law Roberta F. Mann University of Oregon School of Law
Our Focus Our Paper considers how to redesign the federal tax system so that the IRS can better administer it given that, in the best of times, Congress is only willing to allow the IRS around 85,000 employees and a $12 billion budget The Paper provides overviews of the tax system and of tax administration And offers recommendations for change 2
Presentation Outline Introduction The role of the IRS The other important players in the tax system The problems facing the IRS Shrinking budgets Increasing complexity of tax system Changing the IRS s role Solutions Congress Tax reform Improving legislative process Controversy Litigation Appeals Third party reporting Private debt collection Administrative Simplifying regulations Re-allocate resources Change the mission 3
Tax Players 4
Percent 60 Percentage Composition of Federal Receipts by Source, 1940-2013 50 Individual income tax 40 Corporate income tax 30 20 10 Social insurance and retirement receipts Excise taxes Year 0 1940 1950 1960 1970 1980 1990 2000 2010 5
Trends in Compliance Activities Through Fiscal Year 201 Gross Collections Figure 1: Gross Collections by Type of Tax 1 Source: TIGTA analysis of the IRS Data Book. 6
FY2013 Tax Returns Number (thousands) United States, total 240,076 Income taxes, total 185,035 C or other corporation 2,248 S corporation, Form 1120 S 4,566 Partnership, Form 1065 3,686 Individual 145,996 Individual estimated tax 3,192 Estate & trust, Form 1041 3,192 Estate & trust estimated tax, Form 1041-ES 541 Employment taxes 29,958 Estate tax 32 Gift tax, Form 709 313 Excise taxes 909 Tax-exempt organizations 1,463 Supplemental documents 22,365 7
Return Processing IRS processed more than 240 million tax returns (Fiscal Year 2013) collected $2.9 trillion ($0.41 to collect $100) issued $364 billion in refunds to combat refund fraud suspended or rejected more than 5.7 million suspicious returns & worked with victims of identity fraud to close more than 899,000 cases. 8
Audits and Examinations IRS sent 2.0 million math error notices IRS examined 1,558,057 returns (0.8%) 1.0 % of individuals 2.5% of corporations 0.42% of partnerships and of S corporations 2006 net Tax Gap, $385 billion 83.1% voluntary compliance 9
Yield from Examination 10
Trends in Compliance Activities Through Fiscal Year 2013 Focusing on Automated Audits Figure 50: Other Compliance Contacts Forms 1040 Coverage Rate Fiscal Year 2009 2010 2011 2012 2013 Math Error 12,049,948 8,445,374 4,998,266 2,042,458 1,957,031 Coverage Rate 7.81% 5.86% 3.54% 1.42% 1.34% Automated Underreporter 3,621,000 4,336,000 4,703,000 4,525,000 4,116,000 Coverage Rate 2.35% 3.01% 3.33% 3.15% 2.81% Automated Substitute for Return 1,385,000 1,175,000 1,395,000 803,000 589,000 Coverage Rate 0.90% 0.82% 0.99% 0.56% 0.40% Source: TIGTA analysis of the IRS Data Book. 11
IRS Enforcement Efforts (FY2013) IRS collected $47.2 billion from taxpayers with returns filed with additional tax due $1.8 billion with respect to returns that were not timely filed IRS filed 602,005 federal tax liens & served 1,855,095 notices of levy IRS assessed 37 million civil penalties & initiated 5,314 criminal investigations 12
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Appeals and Litigation IRS Appeals handles 120,000 cases a year Courts: Tax Court, U.S. District Courts, the U.S. Court of Federal Claims; Bankruptcy Court; U.S. Courts of Appeal Tax Court handles some 30,000 cases a year Other Courts (U.S. Department of Justice, Tax Division) handles most of the rest 6,600 civil tax cases, 700 tax appeals 1,300 to 1,800 criminal tax cases each year 14
IRS Guidance & Other Activities Forms and publications (every year) Regulations, revenue rulings, revenue procedures, and other formal guidance Private letter rulings 450 million hits on www.irs.gov in FY2013 & more than 90 million taxpayers got assistance through the toll-free hotline or at walk-in sites 15
Problem 1: Shrinking Budgets 16
IRS Funding History 17
Problem 1: Shrinking Budgets 18
IRS Costs Trends in Compliance Activities Through Fiscal Year 2013 (Fiscal Year 2013) Figure 1: Fiscal Year 2013 Funding by Core Appropriation (in Billions) Source: TIGTA analysis of IRS budget appropriations. 19 Decreases in funding continue to affect the number of IRS employees available to meet the IRS
Trends in Compliance Activities Through Fiscal Year 2013 IRS staff decreasing Figure 2: Enforcement Personnel by Fiscal Year Source: TIGTA analysis of Collection Activity Report 5000-2 and Table 37 Examination Time Reports. Enforcement personnel decreased almost 8 percent from FY 2012 to FY 2013. Since FY 2010, the combined number of enforcement personnel has decreased by 20 percent, from 17,206 in FY 2010 to 13,696 at the end of FY 2013. Resources were used to implement new tax legislation during FY 2013 20
xamination employees. In FY 2013, the IRS conducted 6 percent fewer examinations than onducted in FY 2012. The decline in examinations occurred across all tax return types. IRS staff decreasing igure 7 shows that the total number of field examinations declined for the second straight yea fter reaching a five-year high in FY 2011. The decrease in employees beginning in FY 2010 ontinued to affect the number of field examinations in FY 2013. Figure 7: Percentage Change in the Number of Field Examiners and Examinations Since Fiscal Year 2009 Source: IRS Data Book and Examination Table 37. S examinations can range from the issuance of an IRS notice asking for clarification of a 21 ngle tax return item that appears to be incorrect (correspondence examination) to a face-to-fa
Returns up, Exams down Source: TIGTA analysis of Examination Table 37. Figure 26: Percentage Change From FY 2009 of All Tax Returns Filed and Examined Source: TIGTA analysis of the IRS Data Book. 22
IRS Training Budget 23
PROBLEM 2: THE TAX CODE IS TOO COMPLICATED Endless legislation adds to complexity 15,000 tax code changes since 1986 Late in the year tax legislation is the worst Expiring provisions The IRS has increasing responsibilities Increasing number of tax expenditures a wide variety of economic, health & social welfare programs ACA, FBAR, first-time homebuyer credits 24
addition, in order to mitigate implementation changes that may occur to ACA tax provisions, IRS has developed an oversight and monitoring process to identify ACA-related actions that m affect its operations. Changing Figure 3 shows role: the effective ACA legislation dates for ACA provisions affecti the IRS. Figure 3: Number of Affordable Care Act Provisions by Fiscal Year Source: TIGTA analysis of the ACA Provisions. 25
Changing role: tax expenditures 26
Ten Largest Tax Expenditures ($ billions) Provision 2015 Exclusion of employer-provide medical care 207.2 Deductibility of home mortgage interest 73.9 Exclusion of net imputed rental income 79.8 Capital gains (except agriculture, timber, iron ore, and 56.6 coal) Defined contribution employer plans 61.1 Deferral of income from controlled foreign 75.5 corporations Capital gains exclusion on home sales 56.5 Deductibility of nonbusiness State and local taxes 49.3 other than on owner-occupied homes Deductibility of charitable contributions, other than 46.6 education and health Accelerated depreciation of machinery and equipment 15.5 27
Problem 3: Tax Controversy Process is Unnecessarily Complicated Many administrative appeal mechanisms Many litigation choices 28
Recommendations Increase IRS Funding For every $1 spent on IRS operations, $244 was collected ($2.9 trillion revenue $11.6 trillion IRS budget) While much comes in voluntarily, each additional dollar spent on enforcement should raise at least $6 or $7 Alternatively, we need to restructure the IRS to work within its current budget 29
What could Congress do? Tax Reform Comprehensive Modified base broadening Improving legislative process Other legislative action Increase third party reporting Private debt collection Penalty reform Streamline controversy 30
Improve the Legislative Process Permanent Loophole-closing Commission Make Congress write the details a co-dependent relationship Treasury and the IRS have become enablers of sloppy legislation Congress is not good at writing the details Consider King v. Burwell (Affordable Care Act, cert. granted November 7, 2014) 31
Streamline Dispute Procedures IRS & Justice spend a great deal of their resources on dispute resolution and litigation Streamline procedures so taxpayers get one bite of the apple Expand Tax Court jurisdiction U.S. Court of Federal Claims? National appellate tax court? 32
Effect of Information Reporting on Taxpayer Compliance 33
Components of the Tax Gap 34
Tax Gap Data 2006 35
Private debt collection 36
Administrative Changes by Treasury/IRS Issue Simplifying Regulations Improve the IRS s Allocation of Resources Encourage More Enforcement Efforts Increase Transparency to Increase Compliance Change the IRS Mission Alternative Dispute Resolution & IRS Appeals 37
Trends in Compliance Activities Through Fiscal Year 2013 Large Corp examinations Figure 38: Percentage of Corporate Income Tax Returns Examined Corporations With Assets of $10 Million and Greater Source: TIGTA analysis of the IRS Data Book. 38
Automated exams down Source: IRS Data Book. Figure 49: Number of Other Compliance Contacts on Forms 1040 10 Source: IRS Data Book. ASFR = Automated Substitute for Return. 39
Encourage More IRS Enforcement Efforts A recent TIGTA report found that IRS employees could take more action to collect outstanding taxpayer liabilities before closing cases as currently not collectible E.g., file more notices of federal tax lien 40
Increase Transparency to Increase Compliance Professor George Yin recently recommended increasing disclosure of the IRS s decisions in the exempt organization area Public disclosure of the tax returns of corporations 41
Current mission To provide America s taxpayers top quality service by helping them understand and meet their tax responsibilities by applying the tax law with integrity and fairness to all. Proposed mission (Olson) Mission should reflect IRS s dual role as part tax collector, part benefits administrator. IRS Mission 42
Current mission To provide America s taxpayers top quality service by helping them understand and meet their tax responsibilities by applying the tax law with integrity and fairness to all. Proposed mission (Caplin) To collect the proper amount of revenue in a fair, efficient, and impartial manner. IRS Mission 43
Final Thoughts We continue to believe that taxpayers & the fisc would be best served by increasing the IRS budget, in line with its increasing responsibilities. Failing that, we offered ways the IRS could better cope with its limited budget. But if Congress continues to beat up on the IRS, respect for the agency and compliance are both likely to continue to decline. 44
About the Authors Jon is the Alfred P. Murrah Professor of Law at the University of Oklahoma College of Law and the author of MAKING AMERICA WORK (Urban Institute Press, 2006). He can be reached at jforman@ou.edu, 405-325-4779, www.law.ou.edu/faculty/forman.shtml. Roberta is the Loran L. Stewart Professor of Business Law at the University of Oregon School of Law and the author of Economists are from Mercury, Policymakers are from Saturn: The Tax Policy Implications of Communication Failure, 5 WILLIAM & MARY POLICY REVIEW 1 (2013). She can be reached at rfmann@uoregon.edu, 541-346-3854, http://law.uoregon.edu/faculty/rfmann. 45