The Internal Revenue Service is taking steps to increase its audit rates of higher-income taxpayers after coming under sharp criticism in Congress over its lagging audit numbers.
In conjunction with the release last week of its annual Date Book for 2021which contains a wealth of statistics on examination rates, the IRS response to the COVID-19 pandemic, the provision of advance Child Tax Credits and Economic Impact Payments, along with the usual information on the number of returns processed, revenue collected and tax refunds issued, the IRS released a separate statement providing an update on its latest audit numberspointing to how it is increasing its audits of higher-income taxpayers.
The move comes after recent reports from the Treasury Inspector General for Tax Administration (TIGTA) and Syracuse University’s Transactional Records Access Clearinghouse (TRAC) found audit rates plummet for wealthier taxpayers (see story† For lower-income taxpayers, the IRS is often able to use technology to spot discrepancies between the tax returns filed by individual taxpayers and the information returns filed by their employers and other businesses to target them for examination. In the statement the IRS highlighted recent data showing an uptick in audit rates.
“In fact, it is useful to take a look at what more recent data reflect, particularly on higher-income taxpayers where examination activity is often initiated later in the statutory period (new exams can be initiated up to at least three years after a tax return has been filed),” the IRS said. “The additional figures below show 2019 audit rates doubling in the last seven months for taxpayers in every income category above $100,000. For example, based on ongoing examination activity, audit rates for income categories between $500,000 and $1 million doubled to 0.6%. Audit rates for the $1 million to $5 million category more than doubled to 1.3% and taxpayers earning more than $10 million jumped four times — reaching 8%.”
The IRS included the following chart to bolster its argument, indicating that the IRS began stepping up its audit rate of wealthier taxpayers more recently than the Data Book suggests:
While the audit rates for EITC recipients and those earning less than $50,000 remained stable, the audit rate for those with over $10 million in positive income jumped from 2.0% in the fiscal year ending Sept. 30, 2021, to 8.7% in recent months.
However, the IRS acknowledged that it is facing resource constraints, with fewer employees available with the necessary expertise to conduct audits of high-income taxpayers who may have sophisticated, complex tax strategies.
“While these statistics provide a more real-time estimate of the ongoing work that the IRS is taking steps toward addressing high-end noncompliance, resource constraints limit the work that the agency is able to do,” said the IRS. “There are only about 6,500 front-line, revenue agents who are in the field performing these types of exams. These resource limitations result in levels of enforcement activity at the high-end of the distribution, particularly for global high net-worth individuals, large corporations, and complex structures like partnerships are far lower than in the past. Indeed, overall audit rates for those high-end returns have substantially declined over a seven-year period.”
The next table provided by the IRS indeed shows a much bigger disparity between its audit rates for upper-income and lower-income taxpayers, echoing the findings of the TIGTA and TRAC reports that prompted complaints from lawmakers in Congress:
IRS Commissioner Chuck Rettig argued during an oversight hearing in March that the IRS was not targeting lower-income taxpayers, pointing to the IRS Data Book, the latest edition of which had not been released at that point (see story†
“I’m tired of having to deal with this issue,” he said. “We audit high-income taxpayers more than any other category in the Internal Revenue Service. Taxpayers reflecting on $10 million of income are audited at a rate exceeding 7%. Taxpayers at the $25,000 level, which is primarily the Earned Income Tax Credit taxpayer, would be the only people we would look at, are audited at 1.1%. Those are correspondence audits.”
He blasted Syracuse University’s TRAC report, and in turn, TRAC called on the IRS to release the latest numbers. The release last week of the fiscal year 2021 Data Book, which covers the period from Oct. 1, 2020, to Sept. 30, 2021, and the additional statement from the IRS sheds light on the moves the IRS has been making to counter the argument that it is targeting lower-income taxpayers for audits.
In a statement last week in conjunction with the Data Book release, Rettig also highlighted the hard work the agency had been performing to respond to the pandemic and the various forms of tax relief and stimulus payments delivered by the IRS.
“During Fiscal Year 2021, the COVID-19 pandemic continued to present the IRS with some of the greatest challenges in our agency’s history, and the way our employees responded illustrates the significant role that the IRS plays in the overall health of our country,” Rettig said in a statement. “The IRS was called on to provide economic relief during this national crisis while also fulfilling our agency’s core responsibilities of tax administration; IRS employees answered Congress’ call to deliver two more rounds of Economic Impact Payments and also implemented changes to the Earned Income Tax Credit, the Child Tax Credit and other refundable credits as part of the American Rescue Plan. The breadth of these missions has strengthened my belief that a fully functioning IRS is critical to the success of our nation.”
In the Data Book, the IRS reported that overall, net revenue through enforcement by the collection function equaled almost $60 billion, an increase of 54% over the prior year. As part of its collection activities, the IRS saw an increase in the use of payment plans† Nearly 2.4 million taxpayers set up new payment plans and installment agreements with the IRS during fiscal year 2021, an increase of 29% compared to FY 2020. The IRS collected nearly $13.7 billion through installment agreements in 2021, up 9% from the prior fiscal year .
The IRS also came under criticism by National Taxpayer Advocate Erin Collins about how it handles correspondence audits of low-income taxpayers. In a recent blog post she explained how the IRS correspondence audit program fails to reach and properly serve low-income taxpayers by not considering the complex realities facing this population.
“The correspondence audit process is meant to create efficiency; however, these audits can present a host of challenges for our nation’s most vulnerable taxpayers and have downstream consequences for taxpayers and the IRS,” Collins wrote. “The IRS should provide low-income taxpayers more direct access to personalized IRS service in an effort to increase low-income taxpayer audit participation, build trust, and engage and educate low-income taxpayers. Instead, low-income taxpayers generally experience difficulty reaching the IRS for assistance.”
Some of the complexities facing low-income taxpayers and efforts to get responses to correspondence audits include taxpayers claiming the EITC that require factors like income, marital status, relationships to dependents and children claimed. Other complex factors include lower literacy rates, limited English proficiency, unbanked households, transitory households, and single parent, multigenerational, and cohabiting households with shared custody agreements.
In addition, taxpayers who are subjected to correspondence audits are only given a toll-free phone number and many low-income taxpayers don’t receive any professional tax assistance during the correspondence audit process.