Earned Income Tax Credit
Implementation of Three New Tests Proceeded Smoothly, But Tests and Evaluation Plans Were Not Fully Documented
Gao ID: GAO-05-92 December 30, 2004
Research has shown that the Earned Income Tax Credit (EITC) has helped lift millions of individuals out of poverty. In recent years, the Internal Revenue Service (IRS) has paid approximately $30 billion annually to about 20 million EITC recipients. However, the program also has experienced a high rate of noncompliance. IRS estimated that EITC overclaim rates for tax year 1999, the most recent data available, were between 27 and 32 percent of dollars claimed or $8.5 billion and $9.9 billion, respectively. We were asked to describe the three tests IRS has begun to reduce overclaims and how the funds appropriated for them were spent; assess how well IRS implemented the tests and describe planned refinements for the 2005 tests; and assess whether IRS's evaluation plans had sufficient documented detail to facilitate managerial review and stakeholder oversight and describe the status of the 2005 evaluation plans.
IRS implemented three tests in 2004 to address leading sources of EITC errors: a qualifying child test, where selected taxpayers were asked to document that their child lived with them for more than half the year in 2003; a filing status test, where selected taxpayers were asked to provide documentation to prove the accuracy of their 2003 filing status, and an income misreporting test, where a new screening process was used to select EITC returns that identify taxpayers likely to have the most significant changes in their assessments due to underreporting of income on their tax return. IRS's implementation of the tests proceeded smoothly and largely as planned. However, some information, such as a key change in the filing status test, was not well documented and the level and quality of some services provided to test participants were not measured. This lack of documentation hindered monitoring, oversight, and did not foster a common understanding of the tests. For the 2005 tests, IRS made key changes to the qualifying child test to encourage taxpayers to certify in advance of filing their return and to attempt to simulate what might happen with nationwide implementation. IRS also changed the sample selection criteria for the filing status test to better target noncompliant taxpayers. IRS's plans for evaluating the 2004 tests generally lacked documentation and detail for many key issues, which undermined their value to managers and stakeholders. For example, IRS did not specify how it planned to analyze some qualifying child survey data. In essence, an evaluation plan is the management plan or roadmap for the evaluation endeavor and well-developed plans facilitate test management and oversight. Despite the importance of having evaluation plans prior to implementation, IRS had not completed its plans for the 2005 tests before two of the tests had begun.
Recommendations
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GAO-05-92, Earned Income Tax Credit: Implementation of Three New Tests Proceeded Smoothly, But Tests and Evaluation Plans Were Not Fully Documented
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entitled 'Earned Income Tax Credit: Implementation of Three New Tests
Proceeded Smoothly, But Tests and Evaluation Plans Were Not Fully
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Report to Congressional Requesters:
December 2004:
EARNED INCOME TAX CREDIT:
Implementation of Three Tests Proceeded Smoothly, But Tests and
Evaluation Plans Were Not Fully Documented:
GAO-05-92:
GAO Highlights:
Highlights of GAO-05-92, a report to Congressional Requesters:
Why GAO Did This Study:
Research has shown that the Earned Income Tax Credit (EITC) has helped
lift millions of individuals out of poverty. In recent years, the
Internal Revenue Service (IRS) has paid approximately $30 billion
annually to about 20 million EITC recipients. However, the program also
has experienced a high rate of noncompliance. IRS estimated that EITC
overclaim rates for tax year 1999, the most recent data available, were
between 27 and 32 percent of dollars claimed or $8.5 billion and $9.9
billion, respectively.
We were asked to describe the three tests IRS has begun to reduce
overclaims and how the funds appropriated for them were spent; assess
how well IRS implemented the tests and describe planned refinements for
the 2005 tests; and assess whether IRS‘s evaluation plans had
sufficient documented detail to facilitate managerial review and
stakeholder oversight and describe the status of the 2005 evaluation
plans.
What GAO Found:
IRS implemented three tests in 2004 to address leading sources of EITC
errors: a qualifying child test, where selected taxpayers were asked to
document that their child lived with them for more than half the year
in 2003; a filing status test, where selected taxpayers were asked to
provide documentation to prove the accuracy of their 2003 filing
status, and an income misreporting test, where a new screening process
was used to select EITC returns that identify taxpayers likely to have
the most significant changes in their assessments due to underreporting
of income on their tax return.
Leading Sources of EITC Errors Contributing to Overclaims in Tax Year
1999:
[See PDF for image]
[End of figure]
IRS‘s implementation of the tests proceeded smoothly and largely as
planned. However, some information, such as a key change in the filing
status test, was not well documented and the level and quality of some
services provided to test participants were not measured. This lack of
documentation hindered monitoring, oversight, and did not foster a
common understanding of the tests. For the 2005 tests, IRS made key
changes to the qualifying child test to encourage taxpayers to certify
in advance of filing their return and to attempt to simulate what might
happen with nationwide implementation. IRS also changed the sample
selection criteria for the filing status test to better target
noncompliant taxpayers.
IRS‘s plans for evaluating the 2004 tests generally lacked
documentation and detail for many key issues, which undermined their
value to managers and stakeholders. For example, IRS did not specify
how it planned to analyze some qualifying child survey data. In
essence, an evaluation plan is the management plan or roadmap for the
evaluation endeavor and well-developed plans facilitate test management
and oversight. Despite the importance of having evaluation plans prior
to implementation, IRS had not completed its plans for the 2005 tests
before two of the tests had begun.
What GAO Recommends:
GAO recommends that the Commissioner of Internal Revenue ensure the
rationale for key decisions is documented; information on the quality
and use of all types of taxpayer assistance is obtained; limitations
are clearly stated when disseminating results; and development of
detailed evaluation plans for the 2005 tests is completed. The
Commissioner agreed with the recommendations.
www.gao.gov/cgi-bin/getrpt?GAO-05-92.
To view the full product, including the scope and methodology, click on
the link above. For more information, contact Mike Brostek at (202)
512-9110 or brostekm@gao.gov.
[End of section]
Contents:
Letter:
Results in Brief:
Background:
IRS Implemented Three Tests on Leading Sources of EITC Noncompliance
and Reported Spending Most of the Funding Received on the Tests:
Tests Implemented Smoothly, and Refinements for the Fiscal Year 2005
Tests Made:
IRS's 2004 Evaluation Plans Lacked Sufficient Documented Detail to
Allow for Oversight; Evaluation Plans for 2005 Tests Were Not Completed
Before Two of the Tests Had Begun:
Conclusions:
Recommendations for Executive Action:
Agency Comments and Our Evaluation:
Appendixes:
Appendix I: Scope and Methodology:
Appendix II: Updated Results from the Income Misreporting Test as of
September 30, 2004:
Appendix III: Comments from the Internal Revenue Service:
Appendix IV: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Staff Acknowledgments:
Tables:
Table 1: EITC Requirements for Tax Year 2003:
Table 2: Description of the Qualifying Child Certification Test and
Subtests:
Table 3: Criteria for Assessing IRS's Test Implementation:
Table 4: Status of Income Misreporting Test, June 26, 2004 and
September 30, 2004 Results:
Figures:
Figure 1: Leading Sources of EITC Errors Contributing to Overclaims in
Tax Year 1999:
Figure 2: Characteristics of the Test Sample for the Qualifying Child
Test:
Figure 3: The Qualifying Child Certification Test Process:
Figure 4: The Filing Status Test Process:
Figure 5: Characteristics of the Taxpayers in the Income Misreporting
Test by Filing Status:
Figure 6: The Income Misreporting Test:
Letter December 30, 2004:
The Honorable Amo Houghton:
Chairman, Subcommittee on Oversight:
Committee on Ways and Means:
House of Representatives:
The Honorable Earl Pomeroy:
Ranking Minority Member, Subcommittee on Oversight:
Committee on Ways and Means:
House of Representatives:
Researchers generally consider the Earned Income Tax Credit (EITC), a
federal program providing tax relief to low-income workers, to be a
successful antipoverty program. The Council of Economic Advisers
reported that because of the EITC, an estimated 4.3 million
individuals--including 2.2 million children--were lifted out of poverty
in 1997.[Footnote 1] In recent years, IRS has paid about $30 billion
annually to about 20 million EITC recipients. However, the EITC program
has long experienced high rates of noncompliance. IRS's most recent
EITC compliance study estimated that between $8.5 billion and $9.9
billion of the EITC claims filed for tax year 1999 should not have been
paid. This amount represents an estimated rate of EITC overclaims--
total erroneous claims less any amount that IRS recovered or expects to
recover--of between 27 and 32 percent of EITC dollars claimed.
In February 2002, when the most recent compliance study was released, a
task force of IRS and Treasury officials was convened to find ways of
reducing EITC overclaims. The IRS/Treasury task force found that the
three leading errors were responsible for about $7 billion of
overclaims each year. These errors resulted from taxpayers (1) claiming
children who were not a qualifying child, meaning they do not meet
certain requirements, primarily that the child did not live with them
for more than half the tax year ($3 billion in overclaims); (2) using
an incorrect filing status of either single or head of household, when
the correct status was married filing jointly or married filing
separately ($2 billion in overclaims); and (3) misreporting, primarily
underreporting, their income ($2 billion in overclaims). In all three
cases, these errors resulted in taxpayers receiving a larger credit
than they should have received.
IRS received about $52 million in fiscal year 2004 for a new EITC five-
point initiative to improve service, fairness, and compliance with the
EITC program. Included in that amount were funds for three EITC tests
to evaluate new methods for reducing the overclaim rate in the three
leading problem areas identified by the IRS/Treasury task force--
qualifying child, filing status, and income misreporting. After
designing the tests and evaluation plans to guide the agency in its
assessment of the tests, IRS implemented them beginning in fiscal year
2004. Although the tests and evaluation of them continued into fiscal
year 2005, IRS issued a status report to Congress on the tests in
August 2004[Footnote 2] to comply with a legislative mandate.[Footnote
3] IRS also decided to begin another round of EITC tests in fiscal year
2005 in the same three areas, but with some refinements. The qualifying
child and income misreporting tests started in the first quarter of
fiscal year 2005 and the filing status test will begin in the second
quarter of 2005.
Because IRS's plans surrounding the tests have garnered much
attention,[Footnote 4] you asked us to review each of the fiscal year
2004 tests and (1) describe the tests and how funds appropriated for
them were spent, (2) assess how well IRS implemented the tests and
describe IRS's planned refinements for the fiscal year 2005 tests, and
(3) assess whether IRS's plan for evaluating the tests contained
sufficient documented detail to facilitate managerial review and
stakeholder oversight and describe the status of IRS's evaluation plan
for the fiscal year 2005 tests.
To describe the tests and determine how the funds appropriated for them
were spent, we analyzed IRS documents and interviewed IRS officials.
Our assessment of IRS's implementation of the tests and documentation
of its evaluation plans for the tests was based on IRS's stated goals
for them, which were that the tests reduce overclaims and, for the
qualifying child test, also maintain EITC participation for eligible
participants and minimize taxpayer and IRS administrative burden.
To assess how well IRS implemented the tests and describe IRS's planned
refinements for the 2005 tests, we developed criteria to evaluate IRS's
implementation (i.e., the execution and day-to-day management) of the
tests. Those criteria included whether IRS sent correspondence to the
taxpayers' correct address, where taxpayers could go to receive
assistance about the tests and the quality of that assistance, IRS's
hiring and training of staff, and other aspects of administering the
tests. To assess the implementation based on these criteria, we
analyzed IRS's status reports; reviewed policies and procedures;
observed test operations in Kansas City, Missouri; Atlanta, Georgia;
and Fresno, California and selected those locations based on a variety
of reasons, including the location of key managers and work;
interviewed IRS officials; and reviewed a judgmentally selected sample
of cases for each test at those locations in order to review a variety
of case types.
To assess whether IRS's plans for evaluating the tests contained
sufficient documented detail to facilitate managerial review and
stakeholder oversight, we used GAO guidance and the social science
evaluation literature to identify key attributes of an evaluation. We
shared these attributes with IRS officials and they generally agreed to
their relevance. These attributes included the research design, outcome
measures,[Footnote 5] target and sample populations, data collection
activities, analyses, and dissemination of results. We obtained all
available documentation on IRS's evaluation plans for each of the tests
and reviewed that documentation to determine whether we could
understand from the documentation alone how IRS planned to address the
key attributes. Where we could not, we interviewed IRS officials to
further understand whether and how the officials planned to address
those key attributes. Written documentation should be complete,
facilitate tracing of events, and be readily available for examination
to foster a common understanding of the program and facilitate
oversight.[Footnote 6] To describe the status of IRS's evaluation plan
for the fiscal year 2005 tests, we primarily relied on interviews with
IRS officials. Appendix I provides more detail on the scope and
methodology, including a more detailed description of the
implementation criteria used in conducting our work.
We reviewed documentation and interviewed IRS officials to ensure that
the data that we received from IRS were reliable for the purposes used
in this report and determined they were. As we conducted our work, IRS
continued to collect and analyze significant amounts of data from each
test. The tests continued into fiscal year 2005, primarily to finish
cases where taxpayers had either not responded to IRS's request for
substantiation or the substantiation provided was deemed insufficient
by IRS. Thus, the analyses presented in this report are based on work
that we performed while the tests were ongoing. Final conclusions about
the impact of the tests on overclaim rates, burden, and participation
should not be made until all data are collected and analyzed and IRS
publishes its final report, which is due to Congress by June 30, 2005.
We performed our work from October 2003 to December 2004 in accordance
with generally accepted government auditing standards.
Results in Brief:
IRS implemented three tests--qualifying child, filing status, and
income misreporting--to evaluate the potential for reducing the EITC
overclaim rate beginning in fiscal year 2004. For the qualifying child
test, selected taxpayers were asked to document, when filing their 2003
tax return, that their qualifying child lived with them for more than
half the tax year. The filing status test had selected taxpayers
provide documentation to prove the filing status claimed on their 2003
tax return. For the income misreporting test, IRS employed a new
screening process to select EITC tax returns from an existing program
to identify taxpayers likely to have the most significant
underreporting of income on their tax return and, therefore, the
highest potential EITC overclaim amount. IRS reported spending about
$17.5 million on the three EITC tests--about $3.2 million less than
planned because expected workloads did not materialize. Because IRS
spent less than planned on the tests themselves, it was able to fund
some activities under the five-point initiative that otherwise would
have gone unfunded.
Implementation of the tests generally proceeded smoothly. IRS addressed
the major issues that arose during implementation and based planned
refinements for the 2005 tests primarily on lessons learned from the
2004 tests. Some of the strengths of the tests' implementation include
that they were conducted largely as planned and IRS hired and provided
staff with training. An example of an issue that arose and IRS
subsequently addressed was when some examiners mistakenly required
taxpayers who were part of the filing status test to complete
documentation required for the qualifying child test. Once this problem
was identified, according to IRS officials, internal quality reviews
helped ensure it was no longer occurring. Although implementation
generally proceeded smoothly, some important information about the
tests, including the basis for a key policy change, was not well
documented and the level and quality of some services offered to
taxpayers were not measured. As a result, it was difficult for
management or staff to gain a common understanding of the program and
rationale for changes and to fully monitor the implementation. Further,
developing and documenting such information would enable others to
review the methodology. IRS made refinements to all three tests for the
subsequent round of fiscal year 2005 tests. Two of the most significant
refinements were to the qualifying child test, including that (1)
taxpayers would be encouraged to certify in advance of filing their
return that their child met the EITC residency requirement and (2) a
portion of the taxpayers would be drawn from a single
community.[Footnote 7] According to IRS officials, earlier
certification could help them process cases more quickly and get
eligible taxpayers their refund faster. Targeting one community would
simulate what might happen if a certification requirement were imposed
nationwide. Another key refinement was related to the filing status
test, whereby IRS would change the sample selection criteria to better
target noncompliant taxpayers.
IRS's plans for evaluating the three 2004 tests had critically
important strengths such as identifying test goals and linking
evaluation objectives and outcome measure to these goals. However,
IRS's evaluation plans were generally not in sufficient detail to
facilitate managerial review and stakeholder oversight and help ensure
that the evaluations' results would be communicated in such a manner
that others could understand and judge their strengths and limitations.
In essence, an evaluation plan is the management plan or roadmap for
the evaluation endeavor and would facilitate oversight. As such, the
more completely a plan is developed, the more likely it will be useful
to managers in ensuring that the evaluation is well-executed. IRS's
evaluation plans lacked detail, for example, about key planned analyses
that IRS intended to conduct. For example, IRS did not specify how it
planned to analyze some qualifying child survey data. Despite the
importance of having detailed plans prior to implementation, IRS has
not completed its evaluation plans for the fiscal year 2005 tests even
though two of those tests have begun.
We are recommending that the Commissioner of Internal Revenue ensure
that the rationale for key policy decisions and other significant
events be documented; obtain some information on the quality and level
of service for all types of taxpayer assistance provided as part of the
EITC tests; when disseminating the test results ensure they clearly
state test and evaluation limitations and complete the development of
comprehensive and adequately detailed evaluation plans for the 2005
tests.
We requested comments on a draft of this report from the Commissioner
of Internal Revenue. We received written comments, which are reprinted
in appendix III. In his comments, the Commissioner said that IRS agreed
with the recommendations. We further discuss the Commissioner's
comments in the "Agency Comments and Our Evaluation" section of the
report and in other sections where appropriate.
Background:
The EITC, enacted in 1975,[Footnote 8] was originally intended to
offset the burden of Social Security taxes and provide a work incentive
for low-income taxpayers. The credit has been modified several times
since its introduction, and three laws[Footnote 9] have been enacted in
recent years aimed at resolving some concerns with EITC rules. Despite
modifications, the original goal of the credit remains intact and the
EITC continues to provide a substantial benefit to millions of American
families.
The EITC is a refundable tax credit, meaning that qualifying working
taxpayers may receive a refund greater than the amount of income tax
they paid for the year. EITC payments have a (1) phase-in range in
which higher incomes yield higher EITC amounts, (2) plateau phase in
which EITC amounts remain the same even as income rises, and (3) phase-
out range in which higher incomes yield lower EITC amounts. The amount
of credit a taxpayer receives is based on several other factors, such
as the presence and number of qualifying children. In general,
taxpayers with one or more qualifying children receive a higher credit
than taxpayers without qualifying children. For tax year 2003, the
amount of EITC that could be claimed with two qualifying children
ranged from $0 to $4,204 per tax return filed, depending on income and
filing status.
EITC requirements for tax year 2003 include rules for all taxpayers
claiming the credit and additional rules that differ depending on
whether or not a taxpayer has qualifying children (see table 1).
Table 1: EITC Requirements for Tax Year 2003:
Rules for all taxpayers claiming the EITC: Must have a valid Social
Security number;
Additional rules for taxpayers with a qualifying child: Income less
than: If one child: $29,666 (or $30,666 if married filing jointly). If
more than one child: $33,692 (or $34,692 if married filing jointly);
Additional rules for taxpayers without a qualifying child: Income less
than: $11,230 (or $12,230 if married filing jointly).
Rules for all taxpayers claiming the EITC: Cannot use married filing
separately status;
Additional rules for taxpayers with a qualifying child: Child must meet
age, relationship, and residency tests [A];
Additional rules for taxpayers without a qualifying child: Must be at
least 25 years old, but under 65.
Rules for all taxpayers claiming the EITC: Must be a U.S. citizen or
resident alien all year;
Additional rules for taxpayers with a qualifying child: Child can be
claimed by one taxpayer only;
Additional rules for taxpayers without a qualifying child: Cannot be
the dependent of another person.
Rules for all taxpayers claiming the EITC: Cannot file form 2555 or
2555-EZ;
Additional rules for taxpayers with a qualifying child: Cannot be a
qualifying child of another taxpayer;
Additional rules for taxpayers without a qualifying child: Cannot be a
qualifying child of another taxpayer.
Rules for all taxpayers claiming the EITC: Must have investment income
of $2,600 or less.
Rules for all taxpayers claiming the EITC: Must have earned income.
Source: IRS.
[A] In general, a qualifying child must be under 19 years old at the
end of the tax year and have lived with the taxpayer for more than half
the year. To meet the relationship test, the qualifying child had to be
a son, daughter, adopted child, stepchild of the taxpayer, or a
descendent of any such individual. Sisters, brothers, stepsisters,
stepbrothers, and descendents of any such individuals also qualify if
the taxpayer cares for the individual as they would their own child. In
addition, a foster child can qualify for the relationship test if
certain conditions are met.
[End of table]
IRS has periodically measured EITC compliance.[Footnote 10] For tax
year 1999, (the most current data available), IRS estimated the EITC
overclaim rates at 27 to 32 percent of EITC dollars claimed, or $8.5
billion to $9.9 billion.[Footnote 11] IRS has limited data on
underclaims, which for tax year 1999 were estimated to be $710 million
to $765 million. Because of the persistently high rates of
noncompliance, we also have identified the EITC program as a high-risk
area for IRS since 1995.[Footnote 12]
In February 2002, the compliance study was released and the Assistant
Secretary of the Treasury, Tax Policy, and IRS Commissioner convened a
joint IRS/Treasury task force to identify ways of reducing EITC
overclaims, while maintaining participation among eligible claimants
and minimizing taxpayer and IRS's administrative burden. The task force
found that the leading causes of errors resulting in EITC overclaims
were due to taxpayers (1) claiming children who were not a qualifying
child, (2) using an incorrect filing status, and (3) misreporting their
income. With this information, the task force designed what ultimately
became initial versions of the three tests, as show in figure 1. As
envisioned by the task force, even if fully implemented, IRS does not
plan to apply the test requirements to the entire EITC population
because IRS can use available data to verify the eligibility of certain
taxpayers.
Figure 1: Leading Sources of EITC Errors Contributing to Overclaims in
Tax Year 1999:
[See PDF for image]
[End of figure]
Because a new analysis of EITC compliance using 2001 tax return
information is not expected to be complete until spring 2005, IRS did
not know whether compliance has significantly changed since 1999 when
developing the EITC tests. However, IRS officials do not think EITC
compliance has improved substantially since then. In October 2004,
Congress passed a new law to make the definition of a qualifying child
uniform in various IRS provisions, but those changes are not effective
until tax years after December 31, 2004. In general, the revised
definition appears to mainly affect other tax situations, such as
claiming dependents, more than just affecting the EITC.[Footnote 13]
IRS is studying whether the change would affect any testing that may be
done in 2006.
Having a Complete Evaluation Plan Before Implementation Helps to Ensure
Success:
IRS completed its initial evaluation plans for the three EITC tests in
December 2003. In September 2003, we recommended that IRS accelerate
the development of its qualifying child evaluation plan to help ensure
the success of the test. [Footnote 14]
An evaluation plan ideally should be completed and disseminated for
review and feedback before beginning the research activity (or in this
case, test). As we reported, although an evaluation plan need not
precisely identify all issues and how they will be evaluated before
implementation, the more complete a plan is, the more likely the
evaluation will be sufficient and support future decisions. IRS's
Internal Revenue Manual[Footnote 15] also recognizes the desirability
of having an evaluation plan in place before a project is implemented;
for example, it requires such plans before reorganizations.
IRS Implemented Three Tests on Leading Sources of EITC Noncompliance
and Reported Spending Most of the Funding Received on the Tests:
In an effort to implement the joint IRS/Treasury task force
recommendations, IRS implemented three new tests--qualifying child
certification, filing status, and income misreporting--in 2004. IRS
reported spending about $17.5 million on the three EITC tests--about
$3.2 million less than planned. Because IRS spent less than planned on
the tests, it was able to fund some activities under the five-point
initiative that otherwise would have gone unfunded.
Qualifying Child Certification Test Required Substantiation of Child
Residency:
The purpose of the qualifying child certification test was to evaluate
the impact on the test goals of asking taxpayers to substantiate--when
filing their tax return--that their qualifying child lived with them
for more than half the tax year, as required by the EITC (see table 1).
Under current rules, taxpayers are only required to substantiate that
their child satisfied this residency requirement if they are being
audited by IRS on this issue.
This test involved two random samples of 25,000 taxpayers who claimed
one or more qualifying children for tax year 2002: a test sample, whose
members were asked to substantiate their qualifying child's residency,
and a control sample, whose members had similar characteristics to the
test sample, but were not asked for any substantiation. Both samples
were designed to include taxpayers (1) most likely to make errors and
(2) whose qualifying child eligibility could not be verified from
information available to IRS. IRS used prior research results to
determine which taxpayers would be most likely to incorrectly claim a
qualifying child.
The research showed that with those taxpayers most likely to make
errors, the errors often correlated with the taxpayer's relationship to
the child and the taxpayer's gender and filing status. Taxpayers most
frequently making qualifying child errors included both fathers and
males and females who were not the child's parents and who filed as
single or head of household.
IRS also used available data to obtain evidence about taxpayers and
whether their qualifying children met residency and relationship
requirements. For example, a child's residency could be established
with some certainty by using the Department of Health and Human
Services' Federal Case Registry, and a child's relationship to the
taxpayer could be established with some certainty using the Social
Security Administration's KIDLINK.[Footnote 16] When this available
evidence supported the taxpayers' EITC claim that they had a qualifying
child, those taxpayers were excluded from the qualifying child test.
Prior research showed that taxpayers who comply with the residency
requirement also comply in most cases with the relationship
requirement. Thus, if a taxpayer's child met the residency requirement,
there was a high probability that the relationship requirement would be
met as well. Given this analysis and difficulties IRS encountered in
identifying documents that taxpayers could readily obtain to prove
their relationship to the child, any taxpayer whose EITC eligibility
was not verified from available data became eligible to be selected for
the qualifying child test in which they would be asked to substantiate
that the child lived with the taxpayer for more than 6 months during
the year. Our September 2003 report contains a more detailed
explanation on how the sample was designed.[Footnote 17]
As figure 2 shows, males filing as single or head of household
comprised the majority of the test sample. The control group had
characteristics similar to the test group.
Figure 2: Characteristics of the Test Sample for the Qualifying Child
Test:
[See PDF for image]
[End of figure]
The qualifying child test had three components--a general test and two
subtests. Under the general test, taxpayers received test documentation
in English only[Footnote 18] and could have provided substantiation in
one or any combination of three ways--records, letters, or a Schedule
A, also known as the general affidavit.[Footnote 19] Records that a
taxpayer could provide included school, medical, landlord, or child-
care provider documentation. Letters were statements from certain
individuals, such as a member of the clergy or a community based
organization official, on official letterhead. Affidavits were legal
documents in which an individual attests that the taxpayer's qualifying
child resided with the taxpayer for a certain period of time. To be
accepted, the document(s) had to contain various data, such as the
names of the qualifying children and the dates the child lived with the
taxpayer.
In response to concerns that taxpayers may have difficulty obtaining
certification through the official sources cited on the Schedule A,
such as through an attorney or landlord, and that English-only
documents might weaken participation among taxpayers with limited
English proficiency, IRS also implemented two subtests. The Schedule B,
also known as the friends and neighbors affidavit subtest, for 1,000 of
the 25,000 taxpayers, broadens the definition of the individuals
allowed to certify the child's residency to include those who have
personal knowledge of a taxpayer's circumstances, such as certain
family members.[Footnote 20] The purpose of this subtest was to
determine whether such individuals could facilitate an increase in
residency certification for eligible taxpayers. The taxpayers in the
Spanish subtest, 1,000 of the remaining 24,000, received documents in
both English and Spanish. The purpose of this subtest was to determine
whether Spanish language documents would increase the number of
taxpayers attempting to certify their child's residency. Table 2
describes the test and subtests.
Table 2: Description of the Qualifying Child Certification Test and
Subtests:
Test or Subtest: General Test; (23,000 taxpayers);
Description of Test:
* Documentation sent in English only;
* Only General Affidavit (Schedule A) provided.
Test or Subtest: Schedule B Subtest; (1,000 taxpayers);
Description of Test:
* Documentation sent in English only;
* Friends and Family Affidavit (Schedule B) provided.
Test or Subtest: Spanish Subtest; (1,000 taxpayers);
Description of Test:
* Documentation sent in English and Spanish;
* Only General Affidavit (Schedule A) provided.
Source: GAO analysis of IRS data.
[End of table]
IRS sent the selected taxpayers[Footnote 21] five documents in December
2003 informing them about the test, including:
1. Notice 84-A, a letter informing the taxpayer about the new
certification requirements;
2. Form 8836, Qualifying Children Residency Statement, to be completed
by the taxpayer and returned to IRS;
3. Schedule A or B (an affidavit) that could be used for certification;
4. Publication 3211M, Earned Income Tax Credit Questions and Answers;
and:
5. Publication 4134, Free/Nominal Cost Assistance Available for Low
Income Taxpayers.
Under the test and subtests, once taxpayers received the documents from
IRS, they were supposed to obtain supporting documents to prove their
qualifying child's residency and send that documentation back to IRS in
the same envelope as their 2003 tax return. IRS would withhold, or
"freeze," the EITC portion of the taxpayers' refund until acceptable
documentation proving a child's residency was received. Once IRS
received the documentation, IRS examiners in Kansas City, Missouri,
would review it and send a letter to the taxpayer accepting the claim,
asking for additional information, or rejecting the claim. If the
taxpayers provided acceptable documents, IRS would release the
taxpayer's EITC portion of their refund.
If acceptable documentation was not provided or if no response was
provided following a second notification letter, the taxpayer's EITC
claim would be denied and the taxpayer would be informed of his or her
right to appeal to the U.S. Tax Court.[Footnote 22] This process is
depicted in figure 3.
Figure 3: The Qualifying Child Certification Test Process:
[See PDF for image]
[End of figure]
Filing Status Test Required Substantiation That the Correct Filing
Status Was Used:
Another cause of EITC errors is when taxpayers claim an incorrect
filing status. EITC filing status errors occur when married taxpayers
incorrectly use single or head of household. Married taxpayers who
incorrectly file individually as single or head of household could
qualify for a larger EITC than they would otherwise be entitled to if
they claimed the correct filing status. This is because, pursuant to
statute,[Footnote 23] IRS considers the combined income of married
taxpayers who file jointly for purposes of determining the amount of
EITC for which the taxpayer(s) qualifies.[Footnote 24] Using combined
income may result in taxpayers exceeding the EITC income ceiling,
therefore receiving no credit at all, or qualifying for a lesser credit
amount. For example, in tax year 2003, married taxpayers filing jointly
with $17,500 of income each, or a combined earned income of $35,000,
and four qualifying children would not be eligible for the EITC.
However, if each taxpayer incorrectly filed as head of household,
claimed two qualifying children, and their $17,500 income, they would
each receive a credit of $3,405 or a combined total of $6,810. IRS's
databases offer limited ability to independently or systematically
identify taxpayers who may be claiming an incorrect filing status.
The primary purpose of the filing status test was to evaluate the
impact on overclaims of requiring taxpayers whose filing status has
changed from married to single or head of household any time between
1999 through 2002 to substantiate the filing status they claimed on
their 2003 tax return. To select the population for the filing status
test, IRS started with a computer file of approximately 1.6 million
taxpayer returns, or a 10 percent sample of all taxpayers who claimed
the EITC with one or more qualifying children on their 2002 return. IRS
eliminated the qualifying child and income misreporting test
populations and, applied other exclusions, such as taxpayers subject to
an audit examination, or taxpayers with more than one potential EITC-
related issue. From that population, IRS selected taxpayers whose
returns showed a filing status of married at least once in the previous
3 years. This resulted in a sample of 69,000 taxpayers, which IRS
sorted by gender, zip code and filing status. Using a random sampling
method, IRS selected 36,000 of these taxpayers for this sample who
filed as single or head of household on their 2003 tax return. Females
filing as single or head of household comprised 96.9 percent of the
test sample.
The taxpayers in the 36,000 sample who filed a 2003 tax return claiming
the EITC received a letter from IRS about 2 weeks after filing their
return informing them that the EITC portion of their refund would be
delayed until IRS reviewed their return. Within 30 days, IRS sent a
second letter asking taxpayers to verify their filing status, using the
enclosed Form 886-FS, Filing Status Information Request and send it
back to the IRS. This form requires taxpayers to provide documentation
as to why they did not file as married for tax year 2003. Taxpayers
were asked to provide IRS with documentation that they were divorced or
legally separated as of December 31, 2003, they did not live with their
spouse for the last 6 months of the year, the spouse was deceased, or
some other reason existed to warrant a change of filing status.
[Footnote 25] IRS examiners reviewed the form and accompanying
documentation and sought clarification or additional proof, if needed.
If IRS examiners accepted the documentation, they released the EITC
portion of the taxpayer's refund and closed the case.
If a taxpayer did not respond or IRS found the taxpayer's documentation
unacceptable, then IRS sent the taxpayer a notice stating that IRS (1)
changed the taxpayer's filing status from single or head of household
to the married filing separate status, (2) disallowed the EITC, and (3)
changed the taxpayer's standard deduction to the appropriate amount. In
addition, IRS forwarded the taxpayers a letter informing them of their
right to appeal the changes to U.S. Tax Court.[Footnote 26] This
process is depicted in figure 4.
Figure 4: The Filing Status Test Process:
[See PDF for image]
[End of figure]
The filing status test also included a subtest to gather additional
information on EITC claimants who used the head of household filing
status. The IRS/Treasury task force found that taxpayers using the head
of household filing status were more likely to misstate their filing
status than taxpayers using a different one. IRS selected 500 taxpayers
who filed as head of household on their 2003 tax return. The sample of
500 taxpayers showed 99 percent females and 1 percent males with the
head of household filing status.
Unlike the test for the 36,000 sample, IRS did not ask taxpayers in the
subtest of 500 who filed a 2003 return to provide supplemental
documentation to support their filing status until after they had
received their EITC refunds. And, unlike taxpayers in the 36,000
sample, where IRS had some information they had filed as married at
least once from 1999 - 2002, IRS did not have such information on the
taxpayers in the 500 sample. In fact, IRS could not determine whether
these taxpayers were ever married. As a result, IRS asked these
taxpayers to confirm their eligibility for the head of household filing
status, which they claimed on their 2003 tax return, by either (1)
calling IRS on a special toll-free number and stating that they used
the correct filing status or (2) completing a stub that was attached to
the letter they received, checking yes or no, and mailing or faxing it
to IRS. IRS did not ask these taxpayers to provide substantiation to
support the filing status they claimed. This was, in part, because IRS
had not identified any documentation that would be available to support
a taxpayer's claim that he or she had never been married. If taxpayers
indicated they were not eligible to use the head of household filing
status, they could correct their filing status by sending in an amended
tax return either by mail or fax.[Footnote 27] IRS asked taxpayers to
provide the information within 45 days from the date on the letter. All
taxpayers who did not respond would be subject to an examination before
their 2004 EITC refund would be released.
In another aspect of the filing status test, IRS planned to determine
whether a third-party service that attempted to locate the address of
taxpayers could be as reliable as the filing status test in identifying
taxpayers who had used an incorrect filing status. The locator service
used information from credit bureaus to determine whether taxpayers
were living together and possibly married. The information from the
locator service had no impact on taxpayers for this year's filing
status test.
Income Misreporting Test Used New Screening Process to Find Cases
Likely to Yield the Highest Assessments:
Although some taxpayers could receive a larger EITC by over-reporting
their income, misreporting of income for EITC is generally an
understatement, according to IRS, resulting in the taxpayer receiving a
higher credit amount than entitled. The purpose of the income
misreporting test was to evaluate the impact on the test goal of a new
screening process to select EITC tax returns [Footnote 28] that
identify taxpayers likely to have the most significant changes in their
tax assessments due to underreporting of income on their tax return.
Income misreporting is a component of an existing program known as
Automated Underreporter (AUR).[Footnote 29] Under that program, IRS
attempts to match income information as reported by the taxpayer on the
tax return to information reported by third-party sources, such as a
taxpayer's employer or bank. In instances where this matching process
identifies discrepancies, IRS may assess additional taxes on the
taxpayer. The annual AUR matching program identifies far more cases
than IRS has staff to work. In determining which cases to work, IRS
selects not only cases that it believes will generate the highest
probable assessment, but also cases involving taxpayers who underreport
different types of income (e.g., wages, interest). In the past, some of
those cases--roughly 300,000 per year--involved the EITC. However, EITC
was not one of the different types of categories from which IRS
historically had chosen cases.
For the income misreporting test, IRS attempted to select---from all
the EITC cases for which AUR found an income mismatch on 2002 tax
returns--300,000 EITC cases expected to provide the highest EITC
assessments. IRS employed a computer selection tool that used variables
such as the taxpayer's filing history, filing status, and number of
children to rank the cases in terms of the highest probable EITC
assessments.
Additionally, IRS designed the test to determine whether certain
characteristics of the selected cases made them more likely to yield
higher assessments. Thus, IRS placed each of the selected cases in one
of four groups: (1) "repeater egregious," cases in the same income
category for the third year in a row and were assessed an additional
tax for the previous 2 years; (2) "repeater worked," cases worked at
least once during the last 3 years; (3) "repeater not worked," cases in
the income misreporting inventory at least once in the last 3 years,
but not worked; and (4) "other criteria," cases randomly selected from
the other three categories and other criteria, such as first-time
underreporters.
As figure 5 shows, the majority, 62 percent, of the taxpayers selected
for the income misreporting test filed their return using the head of
household filing status, while 30 percent claimed married filing
jointly and 8 percent claimed a single filing status.
Figure 5: Characteristics of the Taxpayers in the Income Misreporting
Test by Filing Status[A]:
[See PDF for image]
[A] IRS was unable to provide characteristics by gender.
[End of figure]
IRS added the income misreporting test cases back into the general AUR
inventory, and examiners in Atlanta, Georgia; Austin, Texas; and
Fresno, California worked the test cases using the same processes as
for all other AUR cases. Examiners manually screened all cases for
simple math errors or errors that could not be picked up by a computer
(e.g., placing an amount on the wrong line). If such an error was found
and resolved, the tax return was accepted, and the case was closed. If
the examiner could not resolve the discrepancy, the examiner sent a
notice[Footnote 30] to the taxpayer explaining that IRS found a
discrepancy on his or her return. The taxpayer was given 30 days to
respond to the notice. If no response was received, IRS sent another
notice informing the taxpayer that the IRS had determined there was a
deficiency in the return and the taxpayer must pay an assessment based
on the deficiency or file a petition with the U.S. Tax Court within 90
days. If IRS received a response that took issue with IRS's assessment,
the examiner would then determine whether the response was sufficient
to support the taxpayer's original tax return.[Footnote 31] If the
response was sufficient, the examiner would close the case with no
additional tax assessed. If the response was not sufficient or a
response was not received, the IRS examiner would assess the taxpayer
the additional tax. This process is depicted in figure 6.
Figure 6: The Income Misreporting Test:
[See PDF for image]
[End of figure]
IRS Reported Spending Less on Tests Than Anticipated:
IRS reported spending about $17.5 million on the three EITC tests--
about $3.2 million less than planned.[Footnote 32] This funding was
part of the Consolidated Appropriations Act of 2004,[Footnote 33] which
provided IRS with $52 million in fiscal year 2004 for a five-point
initiative to improve service, fairness, and compliance with the EITC
program. IRS announced the new initiative in June 2003. The initiative
addresses:
* reducing the backlog of pending EITC examinations to ensure that
eligible taxpayers whose returns are being examined receive their
refunds quickly;
* minimizing burden and enhancing the quality of communications with
taxpayers by improving the existing audit process;
* encouraging eligible taxpayers to claim the EITC by increasing
outreach efforts and making the requirements for claiming the credit
easier to understand;
* ensuring fairness by refocusing compliance efforts on taxpayers who
claimed the credit, but were ineligible because their income was too
high (or filing status was incorrect); and:
* piloting a certification effort to substantiate qualifying child
residency eligibility for claimants whose returns are associated with a
high risk of error.
Of the $52 million budgeted, IRS reported spending or obligating $51.8
million in fiscal year 2004. Of that, IRS officials said they spent
about $17.5 million on the tests---$7.4 million was spent on the income
misreporting test, $5.6 million on the filing status test, and $4.5
million on the qualifying child test. IRS officials noted that, in some
cases, the amounts they reported spending differed from what they
budgeted. For example, IRS originally budgeted $7.2 million on the
filing status test, but reported spending $5.6 million on direct costs
for that test.
According to IRS officials, they spent about $3.2 million less than
anticipated on the tests primarily because some planned work did not
materialize. For example, for the filing status test, IRS originally
planned to work more cases but about 10,000 taxpayers who were
originally selected for the filing status test were not included for
various reasons, such as they did not claim the EITC. IRS officials
said that, as a result, they redirected funding to improvement projects
within the five-point initiative that would otherwise have gone
unfunded.
Tests Implemented Smoothly, and Refinements for the Fiscal Year 2005
Tests Made:
IRS's implementation of the tests generally proceeded smoothly because
of IRS actions including use of a detailed project plan and management
involvement. IRS addressed most of the major issues that arose during
implementation and released a status report to Congress in August 2004.
IRS's plans for most refinements for the 2005 tests are based on the
lessons that it learned from the 2004 tests.
Tests Were Executed Largely as Planned, Thus Meeting the Original
Intent:
The implementation plans for all three tests generally followed the
recommendations of the IRS/Treasury task force, and IRS's only
significant departure from those recommendations was based on an
informed decision. The task force recommended that taxpayers claiming
the EITC (1) provide IRS with documentation to prove a qualifying
child's residency prior to payment of the credit (the qualifying child
test), (2) submit additional data to establish that they are claiming
the correct filing status (the filing status test), and (3) use a new
screening process to select tax returns from an existing program to
identify taxpayers likely to have the most significant underreporting
of income on their tax return and, therefore, the highest potential
EITC overclaim amount (income misreporting test). In all three tests,
IRS gathered information needed to determine whether the task force
recommendations have potential for reducing the EITC overclaim rate
without undue adverse effects. It was important that IRS followed the
task force recommendations; otherwise, the validity of those
recommendations would remain unknown.
IRS made an informed choice in not implementing one recommendation. The
task force had also recommended that taxpayers certify the child's
relationship to the taxpayer. However, IRS determined that this was a
lesser compliance problem than residency and that it could be difficult
for taxpayers to provide some of the documentation that IRS planned to
request for certification of the relationship. In addition, since both
residency and relationship requirements had to be met to claim the
EITC, if taxpayers fail residency certification, which is more likely
according to the compliance study, there would be no need to test for
relationship.
To implement each test, IRS prepared a detailed project plan with time
frames for numerous action items such as developing notices, creating
organization charts, hiring staff, developing training materials,
working on systems needs, and determining samples. We found that IRS
officials used these plans extensively. For example, initially, IRS
managers checked the plan daily to determine if the schedule was being
followed and less often as the tests progressed. For a task to be
marked as completed, certain information had to be provided to the
person in-charge of monitoring the plan, including validation from a
senior manager that the task had been completed. According to IRS
officials, the extensive use of the project plan helped them execute
and effectively monitor the implementation of the tests.
Through Hiring, Training, and Management Actions, IRS Facilitated a
Smooth Implementation:
Implementation went smoothly, in part because IRS hired sufficient
numbers of staff and provided adequate training to them. IRS hired
about 410 staff, primarily examiners who processed cases and answered
telephones, to implement the three EITC tests in total. About 260 of
the staff were for the qualifying child and filing status test, while
about 150 were for the income misreporting test. The majority of the
qualifying child and filing status test staff were new to IRS, were
hired on a temporary appointment, and worked in Kansas City, Missouri.
The income misreporting staff worked in Atlanta, Georgia; Austin,
Texas; and Fresno, California. According to IRS officials, these
staffing levels were appropriate to manage the workload, thus
contributing to the overall smooth implementation of the tests.
IRS provided specific training for the qualifying child and filing
status tests. Among other things, the training included a history
leading up to the tests, a description of the test processes, the roles
and responsibilities of staff, several examples of how to determine
whether taxpayer substantiation was acceptable, and information on how
to use the Earned Income Credit Proof of Concept (EICPC) database, the
database IRS used to manage the qualifying child and filing status
tests. Examiners we met with in Kansas City told us the training was
sufficient. However, there was a gap between the time examiners first
received training and when they actually started doing the work.
According to IRS officials, this gap caused the staff to lose some
knowledge before they were able to apply it. To remedy this problem,
IRS provided the staff refresher training and a staff-developed job
aid. Examiners we interviewed said, that as a result, they felt
confident in making decisions to accept or reject taxpayer
substantiation.
IRS did not provide specific training for the income misreporting test,
and instead relied upon the AUR program training because the process
for working cases remained the same--only how IRS selected the cases
changed. In our visits to Atlanta and Fresno, we found consistency in
the training that staff received for the income misreporting test,
including how the procedures were used when screening and working
cases.
Management took steps to foster staff members' understanding of the
importance of the tests. Once the current EITC program director was
installed in late 2003, management oversight became more apparent for
the tests. Senior IRS management responsible for EITC were involved in
managing many details of implementation of the tests. To help garner
staff support, when the tests first began, IRS managers held meetings
with the examiners and took action based on their expressed concerns,
such as making key revisions to the EICPC system. In addition, front-
line managers with whom we spoke in Kansas City said the EITC
director's involvement helped marshal staff support at that location.
Managers said this was critical for smooth implementation of the tests,
since they were the ones dealing directly with the taxpayers. The
examiners we interviewed also said team meetings with managers helped
them understand and effectively convey information about the tests to
taxpayers.
IRS Monitored Undeliverable Mail and Attempted to Resend It to
Corrected Addresses to Help Ensure Taxpayers' Response to Tests:
IRS tracked undeliverable mail, mail that was sent to taxpayers and
returned to IRS by the U.S. Postal Service, which was critical to the
success of the tests. If taxpayers did not receive IRS's
correspondence--letters, forms, and notices--they would not have known
they needed to respond. And, had there been large volumes of
undeliverable mail, the feasibility of the tests could have been
undermined. Ensuring that those selected for the tests received the
correspondence could have been particularly difficult because research
has shown that some EITC claimants are highly mobile.
Although IRS used the most current address for test populations--in
most cases the address taxpayers provided on their 2002 tax returns--
IRS officials anticipated some mail being returned as undeliverable
because the taxpayer no longer lived at that address. IRS first learned
that it had a taxpayer's incorrect address when it received the
undeliverable mail from the U.S. Postal Service. As it typically does
for undeliverable mail, IRS employed a locater service to attempt to
find the taxpayer's new address by using other kinds of information,
such as addresses associated with any credit cards. When the locator
service found a new address, IRS resent correspondence to the affected
taxpayer.
IRS Provided Several Means to Help Answer Taxpayers' Questions and
Found Strong Performance Where Data Were Available:
IRS provided several means for taxpayers selected for any of the three
tests to contact the agency for assistance. For example, in the initial
contact letter for the qualifying child test, taxpayers were informed
that they could get help from a toll-free telephone number where
examiners could answer their questions, any local IRS office--commonly
known as walk-in sites, and any of the approximately 200 low-income
taxpayer clinics (LITCs) in the U.S. In addition, the National Taxpayer
Advocate[Footnote 34] was prepared to assist taxpayers selected for all
three tests as needed.
Determining whether taxpayers received the correct information is an
important aspect of implementation. IRS's performance in terms of the
percentage of callers getting through to the agency and the quality of
the answers given was strong and comparable to similar IRS operations.
IRS received about 100,000 telephone calls from taxpayers about the
qualifying child test and about 75,000 calls about the filing status
test, as of September 30, 2004.[Footnote 35] Common questions about the
qualifying child certification test included "What documentation is
acceptable?" and "When will my refund be released?" According to IRS's
telephone data, about 86 percent of callers got through and received
service. Based on historical data, IRS officials considered this level
acceptable. Based on our annual reviews of IRS's telephone performance
during the filing season,[Footnote 36] we have reported comparable
levels of service. For example, in 2003, 85 percent of taxpayer's
calling IRS's main toll-free telephone lines got through and received
service. IRS's internal quality reviews showed that, as of September
30, 2004, test examiners provided accurate responses to taxpayers
seeking assistance for the EITC tests via the telephone about 96
percent of the time, which was somewhat higher than the quality of
IRS's responses on its toll-free telephone lines.
Because outside stakeholders expressed much concern about the tests,
the National Taxpayer Advocate decided to assist any taxpayer selected
for the tests, even if the assistance did not meet its established
criteria.[Footnote 37] The Advocate expected to assist about 2,600
taxpayers based on a needs assessment, which was rooted in historical
data. However, as of September 30, 2004, the Taxpayer Advocate assisted
a total of 837 EITC taxpayers participating in these tests. Most of the
assistance provided included helping taxpayers receive an expedited
refund due to a financial hardship. Internal quality reviews showed
that the Advocate met its quality standards 100 percent of the time for
the test cases selected as part of those reviews.
Steps Taken to Ensure Procedures Used by Examiners Led to Consistent
Decisions:
For each test, IRS took several steps that were designed to ensure
consistency among the examiners making decisions about whether to
accept taxpayers' substantiation. The qualifying child and filing
status cases were worked in one location--Kansas City, Missouri--to
make it easier to ensure consistency among examiners. The income
misreporting test cases were worked in three locations--Atlanta,
Georgia; Fresno, California; and Austin, Texas. IRS officials said they
did not believe there would be a consistency problem in having the
income misreporting test conducted across these locations because the
test was not a significant departure from the general AUR work that had
been done in these locations for the past several years. Other examples
of steps IRS took to ensure consistent decision-making by examiners
included holding multiple team meetings with staff, sending out notices
to staff when errors were noted, having certain groups work only
certain kinds of cases, preparing a job aid for examiners, and
conducting extensive quality reviews. According to IRS managers and
examiners we spoke with, these steps helped examiners make consistent
decisions in the cases they were reviewing.
Another step IRS took to ensure consistency was to have managers in
Kansas City review all those cases where taxpayers provided
substantiation for the qualifying child test prior to filing their tax
return--a total of about 800 reviews. This review helped IRS identify
and correct problems that arose early in the tests. IRS officials
stated that the review helped provide for a smooth implementation
because it identified problems, which IRS corrected, and enabled IRS to
issue supplemental guidance to ensure repeat errors did not occur. For
example, for the qualifying child test, taxpayer substantiation did not
always clearly indicate the exact dates of a child's residency with the
taxpayer--for example, some may have shown "July through December
2003." Some examiners interpreted that to mean July 1 through December
31, giving taxpayers the time needed to certify for the qualifying
child's residency. Other examiners interpreted this same information to
mean July 1 through December 1, therefore not giving taxpayers the time
needed to qualify their child. This review identified the inconsistent
interpretation of dates, and IRS developed a policy decision and issued
guidance on how to interpret the dates when the dates provided were
vague.
IRS Internal Reviews Showed Few Significant Implementation Problems:
The several on-going internal quality reviews during the tests
generally found few significant implementation problems. IRS managers
conducted reviews at the test sites, which examined accuracy,
timeliness, and staff professionalism. For the qualifying child and
filing status tests, these reviews showed generally high performance--
case file documentation was correct 87 percent and 93 percent of the
time, respectively, as of September 30, 2004. IRS did not capture this
data for the income misreporting test; however, IRS data show that, as
of September 30, 2004, 95 percent of all AUR cases, which included the
income misreporting cases, contained correct documentation. The EITC
Program Office also conducted a review that assessed whether policies
and procedures for the qualifying child and filing status cases were
being timely, accurately, and consistently followed. According to IRS,
the review showed good results. For example, for the filing status
test, the time between an examiner's decision to accept taxpayers'
documentation and the issuance of the taxpayers' refund averaged fewer
than 30 days.
IRS Addressed All But One Significant Problem That Arose During
Implementation:
Although several problems surfaced during implementation, particularly
in the qualifying child test, IRS officials said that because they were
able to take quick actions to address the problems, the problems did
not adversely affect the tests or taxpayers selected for them to any
great extent. It was not surprising that most of the problems involved
the qualifying child test because it was a greater departure from past
practice than were the other two tests. For example, although IRS had
previously asked taxpayers to provide documents substantiating their
qualifying child upon audit, IRS has not previously allowed taxpayers
to provide affidavits to prove their claim; therefore, examiners had
never reviewed such documents. In contrast, IRS considers the filing
status and income misreporting tests expansions of existing IRS
programs.
Examples of problems and IRS's actions to address them include:
* Early in the implementation of the test, some examiners advised
taxpayers who had called about letters received from IRS to complete
documentation for the qualifying child test even though they were
selected for the filing status test. Examiners were instructed via an
e-mail alert to use the EICPC database to determine the test for which
the taxpayer was selected.
* Some qualifying child and filing status case files (paper and
electronic) had documentation deficiencies, such as not getting a
taxpayer's phone number for the case file or not obtaining complete/
required information for cases where the taxpayer agreed with IRS's
proposed changes. Through an e-mail alert, IRS officials reminded
examiners of the procedures they must follow to properly document
files.
* Some files were missing for the qualifying child and filing status
tests. IRS established a new procedure that when a file could not be
located within 2 weeks after the taxpayer had submitted correspondence,
a new file would be created and marked "Possible Duplicate Folder."
In all three cases, IRS officials stated that the on-going quality
reviews helped ensure that examiners followed the correct procedures.
Although IRS addressed problems that arose during the implementation of
the tests, one significant problem still lingers. Some important
information about all three tests, including a key policy decision
regarding the filing status test, were either not well documented or
not documented at all. Internal control standards state that
significant decisions and events should be documented and readily
available for examination.[Footnote 38] When documentation is lacking,
it is difficult for management or staff to gain an understanding of the
program, refine work processes, or fully monitor the implementation.
Further, developing and documenting such information would help ensure
that test results are accurately determined and would enable others to
review the methodology.
IRS developed various management documents to organize, direct, and
monitor the test operations. However, while some important decisions
about the tests were made after these documents were developed and
after test implementation began, IRS did not explain the decisions by
making additions to the documents. For example, IRS's initial plan
required that the filing status subtest involving taxpayers who had
never filed as married, but had filed as head of household on their
2003 return, include 5,000 taxpayers. Several months later, IRS reduced
the sample to 500, but did not document the rationale for this decision
until much later and at our request. Also, certain other key
information, such as when and how information from a third-party
locator service for the filing status test would be used, was not fully
developed or sufficiently detailed. The Treasury Inspector General for
Tax Administration (TIGTA) found similar deficiencies in IRS's
documentation about the tests occurring during
implementation.[Footnote 39] As a result, this lack of documentation
hindered not only test monitoring and oversight, but also did not
foster a common understanding of the tests.
According to IRS officials, time or other priorities caused some
significant decisions about the test not to be documented at the time
those decisions were made. Further, they said that changes to tests are
common during implementation and that they focused attention on
ensuring the tests were carried out correctly, rather than on
documenting the reasons for changes and other decisions as the tests
proceeded. However, IRS officials acknowledged that documenting
significant events was important.
In some correspondence to taxpayers about the tests, IRS referred
taxpayers to LITCs or walk-in sites for assistance. However, IRS did
not gather information on or measure the level or quality of assistance
provided to test participants at LITCs or walk-in sites. IRS officials
said they did not collect these data because they thought taxpayer use
of this assistance would be minimal and there was no practical or cost
effective way to gather the information. In his response to our draft
report, the Commissioner echoed this sentiment, noting that because
qualifying child test participants were randomly selected from around
the country, efforts to measure services would be extremely difficult.
Further, IRS officials did not view this as an implementation problem,
but instead viewed it as a limitation of the tests. Whether it is a
problem with implementation or test design, there are some important
reasons why it would be useful to know the level and quality of
services provided. For example, our prior work found that the quality
of service IRS walk-in sites provided taxpayers was unknown.[Footnote
40] Further, face-to-face assistance is costly, especially when
compared to telephone services, which were used extensively in the 2004
tests. Recognizing that options for providing taxpayer assistance and
outreach efforts are important, if IRS had data on the level and
quality of service provided, it would be in a better position to
determine the cost and benefit of providing this assistance. Officials
recognize that information on use of these forms of assistance would be
useful and indicate that they will collect information in conjunction
with a planned 2005 simulation of a nationwide test. The simulation is
discussed later in this letter.
Lessons Learned from 2004 Tests Prompt Most Refinements for New Round
of Tests:
IRS officials identified lessons learned from the 2004 tests that were
implemented to help improve the 2005 tests. For example, IRS officials
plan to use of its automated telephone responses, which is important
because most taxpayers contacted IRS by telephone to obtain information
about the tests.
Changes to forms and letters based on case reviews and examiner input.
IRS officials told us that their modifications to letters and forms for
the qualifying child and filing status tests to be used for the 2005
tests were primarily based on case file reviews and discussions with
IRS examiners who interacted with the taxpayers selected for the 2004
tests. In April 2004, for example, EITC program officials reviewed case
files and met with examiners to discuss common taxpayer errors and
questions about letters and forms for the qualifying child and filing
status tests. Examples of taxpayer questions were: "How do I prove I
did not live with my spouse?" or "Who can fill out the affidavit?"
Examples of taxpayer errors on forms included no signature, incomplete
dates to prove residency, and either no Social Security number listed
on the form or an incorrect number. As a result of their review, IRS
officials revised the forms containing such information (Form 8836,
Qualifying Children Residency Statement and the accompanying
affidavit). For example, IRS changed the layout of the affidavit to
help reduce taxpayer errors involving dates and the amount of time a
child resided with the taxpayer. IRS did not make changes to the
letters and forms for the income misreporting test because they were
the same ones used under the general AUR program.
Improvements to key database based on examiner suggestions. Examiners
in Kansas City, the site responsible for the qualifying child and
filing status cases, suggested about 30 updates or other improvements
to the EICPC system that they said would either reduce errors in the
database, help IRS better manage the cases and workload, or improve
subsequent data analyses. For example, examiners noted they were
lacking computer fields to record certain information such as the
taxpayer's telephone number, whether the case was worked by the
Taxpayer Advocate's Office, or if an amended return had been received.
As a result, examiners suggested ways to capture these data, which have
been incorporated into the EICPC. IRS is continuing to update and make
improvements to the EICPC.
Use of automated telephone voice response expanded. For the fiscal year
2004 qualifying child and filing status tests, IRS did not use
automated responses to answer routine telephone calls and did not have
a mechanism in place to obtain taxpayers' views about telephone
services provided. Both options were available for the income
misreporting test and are available for users of IRS's other toll-free
telephone numbers. Officials recognized that commonly asked questions,
such as "Where do I mail the required documentation?" or "Who can sign
an affidavit?" could be answered via automated responses, and plan to
provide this option for the fiscal year 2005 tests, leaving only the
more difficult questions to be answered by an examiner. IRS also
decided to implement a random feedback survey of taxpayers on the
quality of service they received for the qualifying child and filing
status tests when they called the toll-free number. The survey is a
modified version of the one that IRS uses for its regular toll-free
telephone operations.
Changes made to the qualifying child test encourage early certification
and simulate implementation across the country. There are two major
changes to the qualifying child test for 2005: (1) taxpayers will be
encouraged to certify in advance of filing their return that their
child met the EITC residency requirement; and (2) a portion of the
taxpayers will be drawn from a single community--Hartford, Connecticut,
while the rest will be drawn randomly from across the nation.
IRS officials contend that an early certification could help reduce
delays in releasing EITC refunds because examiners would be able to
validate cases before the start of the tax filing season when workloads
reach their peak. Eligible taxpayers who provide acceptable
documentation before the start of the tax filing season could get their
EITC refund more expeditiously, IRS officials say, because the
documentation would already be validated at the time taxpayers file
their tax returns. IRS has some evidence that taxpayers are willing to
certify in advance of the filing season because about 800 taxpayers did
so as part of the 2004 qualifying child test, even though they were
only asked to do so when filing their returns.
Regarding the targeting of the single Hartford, Connecticut community,
IRS officials told us that they intend to simulate what might happen if
an early certification requirement were imposed across the country.
This change was the result of a recommendation from a contractor's
review of the 2004 test's sampling methodology. As part of this test,
IRS plans to mount an outreach campaign to include partnering with
local governmental and community-based entities to provide taxpayers
assistance.
Need for refinement prompts reduction in filing status sample size.
Based on its experience with the sample selected for the 2004 filing
status test, IRS decided to dramatically reduce the sample size for
next year's test, while simultaneously trying to improve the criteria
for selecting the sample. As this year's test was implemented, IRS
officials realized that the test was yielding a high number of
taxpayers claiming the correct filing status, suggesting that the
criteria for selecting them could be improved and the burden on
taxpayers to prove their filing status was high, relative to the
benefits gained. As a result, IRS officials reduced the sample size
from 36,000 to 5,000 for the 2005 test to minimize taxpayer burden as
IRS works to improve the selection criteria.
IRS also is testing two refinements in the sample selection criteria
for the 2005 filing status tests to determine whether the selection
criteria can be improved. First, IRS plans to apply TIGTA's finding,
which IRS officials said that they had also identified, that IRS could
better use information it possesses to verify the filing status of some
taxpayers, such as those whose spouses have died or those who have
submitted an amended return. Any such taxpayers whose filing status
could be verified using such information would not be included in the
sample. Second, IRS also plans to refine the sample selection to not
include taxpayers whose filing status of single or head of household
can be corroborated by information from the third-party locator
service, which was tested in 2004.
Income misreporting changes designed to improve sample selection. IRS
has planned minimal changes for the 2005 income misreporting test
because it found few issues that needed to be addressed. Changes were
made to selection criteria to help identify cases with a potentially
higher assessment amount. For example, IRS will no longer select cases
where the taxpayer's adjusted gross income is over the maximum amount
for claiming the EITC and EITC is claimed anyway because IRS found
those cases yielded a lower assessment than other cases.
IRS's 2004 Evaluation Plans Lacked Sufficient Documented Detail to
Allow for Oversight; Evaluation Plans for 2005 Tests Were Not Completed
Before Two of the Tests Had Begun:
IRS's plans for evaluating the three 2004 tests lacked sufficient
documented detail to facilitate managerial review and stakeholders'
oversight and thereby help ensure that the evaluation of the tests'
results would be as sound as possible and the results would be
communicated with full recognition of their strengths and limitations.
For many aspects of IRS's evaluation plans, we were able to discern IRS
intentions by piecing together information from multiple sources,
including interviews with IRS officials. In essence, an evaluation plan
is used to manage the evaluation endeavor. As such, the more completely
a plan is developed, the more likely it will be useful to managers in
ensuring that the evaluation is well-executed. Despite the importance
of having detailed plans prior to implementation, IRS had not completed
its evaluation plans for the 2005 tests before two of those tests had
begun.
Evaluation Plans Had Strengths Including Linkage Among Test Goals,
Evaluation Objectives, and Outcome Measures:
Considering the written evaluation plans themselves, interviews with
IRS officials, IRS's status report to Congress and other documents, we
found that IRS's plans for assessing the three tests had important
strengths. For instance, IRS's evaluation plans:
* had clear goals for each the three tests. The primary goal of all
three tests was to reduce overclaim rates. There were additional goals
for the qualifying child test--maintaining EITC participation for
eligible participants and minimizing taxpayer and IRS administrative
burden.
* linked evaluation objectives and outcome measures--which determine
the extent to which the goals were met--to the test goals. For example,
the income misreporting test had outcome measures that included the
percentage of cases where an EITC claim was reduced or disallowed and
the average amount of the change. These measures were clearly linked to
the test's goal of reducing EITC overclaim rates.
* selected samples to provide information that could be generalized to
the EITC population being targeted. Both TIGTA and an outside
consultant reviewed the samples for the qualifying child test and found
that the 23,000 sample for the general test was sufficient--a
conclusion with which we also agree. TIGTA also reviewed the samples
for the income misreporting test and found that it should provide
reliable results.[Footnote 41]
Lack of Detail and Documentation in Evaluation Plans Undermined Their
Value:
IRS's evaluation plans for the 2004 tests lacked sufficient documented
detail for us to determine how IRS planned to conduct key aspects of
the evaluations. When we were able to determine how key aspects of the
evaluations would be conducted, we often did so based on interviews and
analyses of various documents. The general lack of detail and
documentation undermined the value of the plans by, for example,
limiting IRS's and stakeholders' ability to oversee the evaluations,
identify and address limitations in the evaluations, and ensure that
limitations will be clearly communicated when the results are
disseminated.
IRS's written evaluation plans for the three tests were essentially
outlines that were not comprehensive, meaning that they did not fully
document all key aspects of the evaluation. For example, IRS's written
plans did not provide information on the sampling methodologies used in
all three tests. These were not articulated until IRS issued its August
2004 status report to Congress. In addition to the status report, which
also provided additional insights into the types of analyses IRS plans
to conduct, we relied on multiple other sources to gain a complete
understanding of IRS's planned evaluation activities. We interviewed
IRS officials and reviewed other information and documents they
provided, such as the contractor's report on the qualifying child
test's sampling methodology. According to IRS officials, the lack of
comprehensive and detailed written plans was due to other priorities,
such as undertaking the numerous steps needed to implement the tests
themselves.
While we recognize competing demands on the EITC program office,
striking a balance between documenting evaluation plans and
implementing and evaluating the tests helps ensure all parties
understand the evaluations and the managers and stakeholders are able
to oversee implementation and evaluations. Well-developed evaluation
plans have a number of benefits, perhaps most importantly, increasing
the likelihood that evaluations will yield methodically sound results,
thereby supporting effective policy decisions. Such plans help (1)
ensure that the agency has addressed the principal aspects of the
evaluation, including the research design, outcome measures, target and
sample populations, data collection activities, analyses, and
dissemination of results, (2) officials monitor changes to tests and
assess the impact of those changes on the planned evaluations, and (3)
facilitate management and stakeholder review. Having comprehensive and
detailed evaluation plans helps ensure that all those working directly
on the evaluation have a common understanding of how data will be
collected, analyzed and impacts assessed. Concerns or weaknesses can be
identified and corrected, and plans can be updated to reflect any
changes during implementation and afterwards, as the evaluation plan
could be considered to be a "living document." Finally, a well-
developed plan helps ensure that evaluation results can be communicated
with appropriate recognition of the evaluation's strengths and
limitations so stakeholders can better understand how to use the
results when making decisions.
The following are illustrations of the overall lack of detail and
documentation in IRS's evaluation plans for the 2004 tests.
* Evaluation objectives were not documented in one place. Although we
found that IRS's evaluation plans had objectives linked to the test
goals, the objectives were not identified in any single location for
any of the three tests nor specifically identified as objectives. Thus,
we pieced together the information from multiple sources, including
interviews with IRS officials. For example, we had difficulty
identifying the evaluation objectives pertaining to the use of the
third-party locator service for the filing status test.
* Key outcome measures lacked important detail. IRS's evaluation plans
lacked important information for all the key outcome measures, such as
their definition and purpose, formula/methodology, data source and
collection method. For example, IRS's evaluation plans for the
qualifying child test did not identify the specific data that would be
used to produce the outcome measure--the number of taxpayers who claim
(or do not claim) the EITC. IRS has provided this type of information
about its measures for other programs. For example, for its telephone
and other operations, IRS annually prepares a comprehensive document
known as a data dictionary, which includes items such as the definition
and purpose of the measure and its formula/methodology. IRS officials
agreed that providing such information in the evaluation plans could
have been valuable in managing the EITC tests. Without knowing details
on outcome measures, stakeholders do not have enough information about
a measure to know whether it is valid and reliable.
* Limited information was provided on planned analyses. The evaluation
plans also lacked specificity with regard to the key analyses planned
and what those analyses were intended to accomplish. For example, IRS
conducted a survey to obtain information about a taxpayer's experience
with the qualifying child test. IRS originally planned to survey these
taxpayers in April 2004. The survey was not conducted until September
2004, primarily due to delays in selecting a contractor and developing
the survey instrument. The 5-month delay may substantially reduce the
number of taxpayers who accurately remembered the actions they took and
thus affect the quality of the responses (i.e., recall bias). The
accuracy of individuals' survey responses declines the further away
those responses are from the date of the actual events. IRS and the
contractor are aware that such recall bias could exist and stated that
they will consider it when analyzing the survey results, but no detail
was available on how they would do so. This is critical because the
potential utility of the survey results could be in question.
The lack of detail in IRS's evaluation plans also increased the risk
that reports disseminating the results of the tests would not fully
disclose the evaluations' potential limitations. In its August status
report to Congress, IRS did not make clear that the qualifying child
test results could only be generalized to taxpayers IRS had reason to
believe were most likely to make an erroneous claim for the EITC when
filing for the EITC in 2002. Absent such clarity, stakeholders might
incorrectly assume that test results apply to all taxpayers claiming
qualifying children for the EITC. Also, IRS did not describe potential
limitations of the outcome measures, specifically, how non-respondents
would be accounted for in measure calculations.
IRS officials recognize that their final 2005 report will need to
include information on the evaluation limitations, and expect to
provide sufficient detail and explanation of limitations in that
report.
Evaluation Plan for 2005 Tests Not Completed Before Two of the Tests
Began:
As of early December 2004, IRS had not completed evaluation plans for
the 2005 testing, even though the qualifying child and income
misreporting tests began in November. According to IRS officials, they
had not yet completed an evaluation plan for the 2005 tests because
final decisions about the testing were still being deliberated in
October. In their view, it was less important to finish an evaluation
plan for these tests by the time testing began, because IRS could use
the 2004 evaluation plans in the interim. IRS officials acknowledge
that evaluation plans are important and have started to develop them
for the 2005 tests.
IRS can build upon the 2004 evaluation plans for all three tests.
However, IRS made substantial changes for the qualifying child and
filing status tests, which would need to be taken into account in
developing comprehensive and detailed evaluation plans for the 2005
tests. Therefore, while we recognize that there will be similarities
with the 2004 evaluation plans, the importance of having evaluation
plans in place as testing begins or soon thereafter is heightened
because of planned changes to the test.
Conclusions:
The EITC program lifts millions of low-income taxpayers and their
families out of poverty. However, its high rates of noncompliance--
overclaims for the credit--could potentially undermine the credibility
of the program because billions of dollars are annually paid out that
should not have been. IRS's three tests--qualifying child
certification, filing status, and income misreporting--are major
initiatives to reduce overclaims by addressing the leading errors
taxpayers make. Given the importance of the EITC to many low-income
households and concerns about high overclaims, these tests are being
closely watched by numerous stakeholders.
Although IRS has generally implemented each of the tests smoothly, it
did not fully document some key management decisions and other
significant events. Documentation supports a common understanding among
staff about the program they are administering--particularly one as
complicated as the EITC--and helps managers monitor whether a program
is implemented as planned. Having adequate documentation during the
2005 tests could help foster a better understanding of the tests,
ensure results are accurately determined, and facilitate review and
oversight. In addition, while IRS told taxpayers selected for the
qualifying child test they could visit various physical locations for
assistance, including LITCs and IRS walk-in sites, IRS did not collect
information from those sites to determine the level and quality of
services provided. Because officials believe relatively few taxpayers
used these sites, collecting information from the sites may not have
been practical. However, the single city simulation of nationwide
implementation may offer an opportunity to gather some information on
these services.
The evaluations that IRS is conducting of each test are likely to yield
some useful information and results that will help IRS officials and
other stakeholders judge whether and how to proceed with further
implementation of the new approaches to reducing EITC overclaims.
Nevertheless, the lack of detail and documentation in the evaluation
plans impeded officials' ability to manage the evaluations as well as
external stakeholders' ability to review and understand the
evaluations' strengths and limitations.
As of early December 2004, IRS had not completed its 2005 evaluation
plans, although testing was underway for the qualifying child and
income misreporting tests. A well-developed and timely plan would help
IRS to improve on the 2004 evaluation plans and take into account
changes in the tests themselves.
Recommendations for Executive Action:
The Commissioner of Internal Revenue should:
* adopt a policy of documenting the rationale for key policy decisions
and other significant events as the 2005 tests are implemented;
* develop a means of gathering information during the 2005 tests on the
use of such locations as LITCs and walk-in sites on the level and
quality of service provided by those sites, particularly in light of
IRS's plans to draw its sample from a single community for the
qualifying child test;
* ensure that reports disseminating the results of the 2004 and 2005
test evaluations clearly outline aspects of test design and evaluation
shortcomings that limit the interpretation and utility of the results;
and:
* complete the development of comprehensive and adequately detailed
evaluation plans for the 2005 tests.
These actions should be done as soon as possible, with any significant
changes to the evaluation plan appropriately documented as the
evaluation unfolds.
Agency Comments and Our Evaluation:
In his December 21, 2004 letter, the Commissioner of Internal Revenue
agreed with our recommendations. Regarding the issue of documenting
significant policy decisions, he noted competing demands that can often
affect the quality of documentation, which we acknowledge in our
report, and that IRS has implemented a process to meet this
recommendation. The Commissioner noted that providing taxpayers with
assistance is a top IRS priority. As such, the Commissioner reported
that IRS has plans to identify the level and quality of services
provided to taxpayers at LITCs and walk-in sites in the single test
community. Regarding dissemination of results, the Commissioner
reported that IRS is committed to ensuring all aspects of the test
design and evaluation will be clearly described to stakeholders.
Finally, the Commissioner reported that IRS intends to complete the
2005 evaluation plans, in part, based on GAO's recommendations about
what a plan should contain. He also noted that IRS may need to assess
whether any modifications to the 2004 qualifying child test criteria
are appropriate in light of public events and community leadership
reaction in the single test community.
We are sending copies of this report to the Chairmen and Ranking
Minority Members of the Senate Committee on Finance and the House
Committee on Ways and Means. We are also sending copies to the
Secretary of the Treasury; the Commissioner of Internal Revenue; the
Director, Office of Management and Budget; and other interested
parties. We will make copies available to others on request. In
addition, the report will be available at no charge on the GAO Web site
at [Hyperlink, http://www.gao.gov].
This report was prepared under the direction of Joanna Stamatiades,
Assistant Director. Other major contributors are acknowledged in
appendix IV. If you have any questions about this report, contact Ms.
Stamatiades at (404) 679-1900 or me on (202) 512-9110.
Signed by:
Michael Brostek:
Director, Strategic Issues:
[End of section]
Appendixes:
Appendix I: Scope and Methodology:
For all three objectives, we reviewed and analyzed documents including
Treasury's EITC compliance study of 1999 tax returns; a joint IRS/
Treasury task force report; monthly status reports for each of the
tests; draft and final letters, forms, and notices for each of the
tests; implementation and evaluation plans; our prior reports; status
results of the tests reported by IRS and its contractors; and reports
and EITC literature by external stakeholders. We also interviewed
Department of the Treasury and IRS officials involved in the EITC
tests, including the National EITC Director, National Taxpayer
Advocate, Director of Research Analysis and Statistics, and other IRS
officials involved with implementing the tests. Additionally, we
interviewed external stakeholders such as individuals at the TIGTA,
Center for Budget and Policy Priorities, and Urban Institute, and
reviewed and analyzed their reports.
We took steps to ensure that the data we received from IRS were
reliable for the purposes of this report and determined that they were.
Some of those steps included interviewing IRS officials knowledgeable
about the computer systems where the data we obtained came from and
reviewing documentation, such as system manuals and flowcharts. We
identified and assessed potential data limitations and compared those
results to our data reliability standards, noting no significant
weaknesses.[Footnote 42]
In addition, to describe the three tests and determine how IRS was
spending the money appropriated it for the tests, we interviewed
managers and budget officials in the EITC Program office and reviewed
and analyzed IRS's fiscal year 2004 budget request and compared its
planned to actual EITC spending plan. Because IRS does not have an
adequate cost accounting system, we could not verify the accuracy of
the figures IRS provided to describe how funds appropriated for the
tests were spent.
We identified attributes of sound program implementation based on
reviews of the social science literature, our prior work, and
interviews conducted with IRS research and program management officials
and external stakeholders, such as the Urban Institute.[Footnote 43] We
tailored these attributes to apply them specifically to IRS's tests as
shown in table 3. Finally, to assess how well IRS implemented the tests
and determine IRS's planned refinements for further testing in fiscal
year 2005, we reviewed policies, procedures, and training documents;
observed procedures and operations in Kansas City, Missouri; Atlanta,
Georgia; and Fresno, California; and interviewed front line IRS
managers and examiners in these locations. We reviewed several case
files for each test. Additionally, we analyzed relevant interim reports
prepared by IRS and its contractors; and identified key results, and
discussed them with IRS officials.
Table 3: Criteria for Assessing IRS's Test Implementation:
Did IRS implement the test largely as planned?
Did IRS provide the necessary staff and training to accomplish the
workload associated with each test?
Did IRS monitor the delivery of taxpayer correspondence?
Were taxpayers provided with a way to contact IRS or another entity if
they had questions and, if they did, did IRS assess the quality of the
interactions and the accuracy of the information provided?
Did IRS implement quality control procedures to ensure the quality of
decisions IRS staff made?
Source: GAO.
[End of table]
To assess whether IRS's plan for evaluating the tests contained
sufficient documented detail to facilitate managerial review and
stakeholder oversight, we used GAO guidance and the social science
evaluation literature to identify key attributes of an evaluation.
These attributes included the research design, outcome measures, target
and sample populations, data collection activities, analyses, and
dissemination of results. We obtained all available documentation on
IRS' s evaluation plans for each of the tests and reviewed that
documentation to determine whether we could understand from the
documentation alone how IRS planned to address the key attributes.
Where we could not, we interviewed IRS officials to further understand
whether and how the officials planned to address those key attributes.
Written documentation should be complete, facilitate tracing of events,
and be readily available for examination to foster a common
understanding of the program and facilitate oversight. To describe the
status of IRS's evaluation plan for the fiscal year 2005 tests, we
primarily relied on interviews with IRS officials.
[End of section]
Appendix II: Updated Results from the Income Misreporting Test as of
September 30, 2004:
In August 2004, IRS issued a status report to Congress, which was
mandated by the Consolidated Appropriations Act of 2004.[Footnote 44]
The report presents an overview of each of the three EITC tests, along
with the design, status, and preliminary findings as of June 2004.
According to the EITC National Director, the report contained some of
the types of information that will be needed to support future
decisions about the full implementation of the tests. Additionally, the
EITC National Director noted that IRS also used the status report to
provide information on such items as the sampling strategy that have
been lacking in other documents.
IRS had updated results for the income misreporting test as of
September 30, 2004. Updated results were not available for the
qualifying child or filing status tests. As IRS stated in its status
report, which showed data as of June 26, 2004, it is important to note
that because the results are interim, no conclusions should be drawn
from the information provided and no analyses about the impact of the
tests were included.
As table 4 shows, IRS has screened all 300,000 tax returns for the
income misreporting test, and slightly more than half have been closed
with taxpayer agreement.
Table 4: Status of Income Misreporting Test, June 26, 2004 and
September 30, 2004 Results:
Total number of cases in AUR EITC test;
June 26, 2004: Number: 300,000;
June 26, 2004: Percent: 100%;
September 30, 2004: Number: 300,000;
September 30, 2004: Percent: 100%.
Number of notices sent;
June 26, 2004: Number: 261,169;
June 26, 2004: Percent: 87%;
September 30, 2004: Number: 261,188;
September 30, 2004: Percent: 87%.
Total number of cases closed [A];
June 26, 2004: Number: 102,545;
June 26, 2004: Percent: 34%;
September 30, 2004: Number: 196,600;
September 30, 2004: Percent: 66%.
Number of cases closed with taxpayer agreement [B];
June 26, 2004: Number: 66,981;
June 26, 2004: Percent: 22%;
September 30, 2004: Number: 155,446;
September 30, 2004: Percent: 52%.
Number of cases screened out[C];
June 26, 2004: Number: 38,831;
June 26, 2004: Percent: 13%;
September 30, 2004: Number: 38,812;
September 30, 2004: Percent: 13%.
Number of cases closed with no change[D];
June 26, 2004: Number: 35,564;
June 26, 2004: Percent: 12%;
September 30, 2004: Number: 41,154;
September 30, 2004: Percent: 14%.
Source: GAO analysis of IRS data.
[A] Total number of cases closed includes the number of cases closed
with taxpayer agreement and number cases closed with no change.
[B] Number of cases closed with taxpayer agreement includes cases when
an examiner determines a discrepancy in the case, and after sending a
notice to the taxpayer, an additional tax assessment is made and the
taxpayer agrees with this assessment.
[C] Number of cases screened out includes cases when an examiner
reviews the case and determines the computer mismatch (i.e., a math or
other error) can be resolved and thus closes the case without a change
to the tax. According to IRS officials, the number of cases declined
slightly during the period shown because some of the cases were
transferred to examination.
[D] Number of cases closed with no change includes cases when the
taxpayer is able to provide substantiation and thus the change is
closed without a change.
[End of table]
[End of section]
Appendix III: Comments from the Internal Revenue Service:
DEPARTMENT OF THE TREASURY:
INTERNAL REVENUE SERVICE:
WASHINGTON, D.C. 20224:
COMMISSIONER:
December 22, 2004:
Mr. Michael Brostek:
Director, Tax Issues:
U.S. Government Accountability Office:
441 G Street, N.W.
Washington, D.C. 20548:
Dear Mr. Brostek:
I am responding to your draft report titled, EARNED INCOME TAX CREDIT.
Implementation of Three New Tests Proceeded Smoothly, But Tests and
Evaluation Plans Were Not Fully Documented (GAO-05-92). The
implementation of these tests will provide us with valuable information
about key components of our long-term vision for this critical program.
As a result, we are pleased that your review showed that the
implementation of these tests had proceeded smoothly.
We agree with your recommendation to increase documentation, though as
we have noted, much of this problem stemmed from managing the competing
needs of documenting our evaluation plans while actually planning,
implementing and refining the tests. When issues arose, we responded to
them quickly and decisively. As a result, documentation may not be as
robust as it might otherwise be. Nonetheless, as you noted, the tests
themselves and the evaluation efforts associated with them proceeded
smoothly and will provide valuable information on a potential
certification process.
Your report notes we did not measure the level and quality of services
provided to test participants in the walk-in sites and Low Income
Taxpayer Clinics. Because these 25,000 certification test participants
were randomly selected from around the country, efforts to measure
services and support provided to these specific taxpayers in each
location would be extremely difficult and unlikely to produce
meaningful results. However, we are capturing telephone and walk-in
traffic at IRS' offices and plan to expand these efforts for future
tests.
We agree that measuring "third party" impact - burden on community-
based organizations and institutions (e.g., schools) - is an important
aspect of certification testing. That is why we have included it in our
evaluation plans for our 2005 test. That test includes a single
community or geographic area in which all individuals who met the
certification criteria are asked to certify.
In terms of the 2005 evaluation plan, we are working to finalize key
elements. However, our efforts have been delayed by two factors. First,
we want to assess whether any modifications to the 2004 criteria are
appropriate in light of public events and community leadership reaction
to certification in our test community. Second, while much of our 2004
plan is quite strong, your report provides valuable insights and
opportunities for improvement, which we want to incorporate prior to
finalizing a 2005 version.
Responses to your specific recommendations are enclosed. I appreciate
your observations on the implementation of our EITC tests. If you have
any questions, please contact Floyd Williams, Director, Legislative
Affairs, at (202) 622-3720.
Sincerely,
Signed by:
Mark W. Everson:
Enclosure:
Recommendation for the Commissioner:
Adopt a policy of documenting the rationale for key policy decisions
and other significant events as the 2005 tests are implemented.
Response:
We agree that better documentation is needed to show the basis for all
significant policy decisions, and in response, we have developed a
process and implemented it for the 2005 tests. While historical
documentation about some aspects of the tests was somewhat lacking,
these policy decisions were made by senior IRS executives after careful
consideration. We believe this degree of oversight was instrumental in
successfully implementing the 2004 tests. To this end, we are pleased
that your review also identified that these tests generally followed
the recommendations of the IRS/Treasury Task Force with departures
based on informed decisions.
Recommendation for the Commissioner:
Develop a means of gathering information during the 2005 tests on the
use of such locations as LITCs and walk-in sites on the level and
quality of service provided by those sites, particularly in light of
IRS' plans to draw its sample from a single community for the
qualifying child test.
Response:
Our EITC mission is twofold - reduce erroneous payments while
increasing participation by eligible taxpayers. As such, providing
taxpayers with the assistance they need to accurately complete the
certification process has been, and will continue to be, one of our top
priorities. We accomplished this during the 2004 qualifying child test,
in part, by providing test participants with a dedicated, toll-free
number to quickly and accurately obtain assistance. We also provided
all of our employees who interact with taxpayers, including those in
the walk-in sites, relevant information about the certification test.
Since the 25,000 test participants lived throughout the country, it is
unlikely that many walk-in sites received requests for this type of
assistance. Since a portion of our 2005 certification test is
geographically concentrated in a single community, we have expanded our
tracking system to identify taxpayer contacts regarding the
certification test. This tracking process includes both walk-in and
LITC sites in the selected community. We will use this information as
well as information from our quality assurance system to evaluate the
level of customer service provided to test participants.
Recommendation for the Commissioner:
Ensure that reports disseminating the results of the 2004 and 2005 test
evaluations clearly outline aspects of test design and evaluation
shortcomings that limit the interpretation and utility of the results.
Response:
We are committed to engaging stakeholders throughout this process to
obtain their suggestions and to address their questions and concerns.
To this end, we will clearly describe all aspects of the test, from
design through execution and evaluation, in our report of the 2004/2005
test results.
Recommendation for the Commissioner:
Complete the development of comprehensive and appropriately detailed
evaluation plans for the 2005 tests.
Response:
The IRS developed a detailed methodology to evaluate the 2004 test
results. This evaluation included independent analysis by contractors
who reviewed key programmatic components, including the design of the
qualifying child test and a follow-up survey of test participants. Many
of the 2004 evaluation criteria will be carried forward to the
subsequent test along with enhancements derived from lessons learned
during the 2004 test. However, as previously noted, before we completed
our 2005 evaluation plan we wanted to ensure that we included all
components of your recommended evaluation criteria.
[End of section]
Appendix IV: GAO Contacts and Staff Acknowledgments:
GAO Contacts:
Michael Brostek (202) 512-9110 Joanna Stamatiades (404) 679-1900:
Staff Acknowledgments:
In addition to those named above, Tom Beall, Evan Gilman, Veronica
Mayhand, Susan Mak, Donna Miller, Libby Mixon, Chris Moriarity, Ed
Nannenhorn, Cheryl Peterson, Michael Rose, and Robyn Trotter made key
contributions to this report.
(450249):
FOOTNOTES
[1] Council of Economic Advisers, Good News for Low Income Families:
Expansions in the Earned Income Tax Credit and the Minimum Wage
(Washington, D.C.: December 1998). The Council of Economic Advisers
gives advice directly to the President and other senior members of the
administration on fiscal policy.
[2] Internal Revenue Service, IRS Earned Income Tax Credit (EITC)
Initiative: Status Report to Congress (Washington, D.C.: August, 2004).
[3] Pub. L. No. 108-199, 118 Stat. 3 (2004).
[4] We reported on this topic in 2003, focusing on the test relating to
qualifying child errors. See GAO, Earned Income Credit: Qualifying
Child Certification Test Appears Justified, but Evaluation Plan Is
Incomplete, GAO-03-794 (Washington, D.C.: Sept. 30, 2003).
[5] Outcome measures are used to assess the tests' impact. Well-defined
outcome measures clearly name and define a measure as well as the
methodology used in its calculation.
[6] See GAO, Internal Control Management and Evaluation Tool, GAO-01-
1008G (Washington, D.C.: August 2001); GAO, Standards for Internal
Controls in the Federal Government, GAO/AIMD-00-21.3.1 (Washington,
D.C.: November 1999); and GAO, Designing Evaluations, GAO/PEMD-10.1.4
(Washington, D.C.: May 1, 1991).
[7] Although IRS mailed letters to sampled taxpayers in this community,
some uncertainty exists about implementation because of a lawsuit that
was filed to block the test as we were finalizing our report.
[8] 26 U.S.C. Sec. 32.
[9] Pub. L. No. 107-16, 115 Stat. 38 (2001), Pub. L. No. 106-170, 113
Stat. 1860 (1999), and Pub. L. No. 105-34, 111 Stat. 788 (1997).
[10] IRS measured EITC overclaim rates in the past using differing
methodologies. In 1997, IRS estimated the overclaim rate at 23.8 to
25.6 percent of EITC dollars claimed.
[11] Department of the Treasury, Internal Revenue Service, Compliance
Estimates for Earned Income Tax Credit Claimed on 1999 Returns
(Washington, D.C.: Feb. 28, 2002).
[12] Prior to 2001, EITC was part of a broader IRS tax filing fraud
high-risk area that we defined. Beginning in 2001, the focus of that
designation was narrowed to EITC. GAO, High-Risk Series: An Update,
GAO-01-263 (Washington, D.C.: January 2001).
[13] Pub. L. No.108-311, 118 Stat. 1166 (2004).
[14] GAO-03-794.
[15] See Internal Revenue Manual 1.1.4.
[16] The Federal Case Registry compiles court and other records that
indicate who is the custodian for a child. IRS assumes that children
live with the custodian of record. KIDLINK ties parents' and children's
Social Security numbers for children born after 1998 in U.S. hospitals.
[17] GAO-03-794.
[18] Taxpayers were told on the forms that they could request that
documents be provided in Spanish.
[19] Schedule A, referred to as the general affidavit, can be signed by
parties including an attorney, child care provider, clergy, court
official, employer, health care provider, Indian tribal official,
landlord, school official, or social service agency or other government
official.
[20] The Schedule B affidavit, referred to as the friends and neighbors
affidavit, differs from the Schedule A affidavit in that it broadens
the list of individuals who can sign the affidavit to anyone who has
records or personal knowledge, other than the taxpayer's spouse,
dependent, qualifying child, or parent of the qualifying child.
[21] Some taxpayers were removed from the 25,000 sample and not
replaced because IRS learned that they had mitigating situations, such
as serving in combat or living in a disaster zone. The true sample size
(i.e., the number of taxpayers IRS required documentation from) was
actually 24,711.
[22] IRS allowed for internal appeal hearings only if the taxpayer
maintained contact with IRS and requested such a hearing. In the
original contact letter, IRS told taxpayers they could request an
internal appeal hearing.
[23] I.R.C. Section 32(b)(2)(B).
[24] Taxpayers who file as married filing separate are not eligible for
the EITC.
[25] This is the same documentation IRS would request in an audit if
filing status were an issue.
[26] Similar to the qualifying child test, IRS allowed for internal
appeal hearings only if the taxpayer maintained contact with IRS and
requested such a hearing.
[27] IRS did not assess any penalties, interest, or additional tax due
if the taxpayer sent an amended return. This decision was for the 2004
test only.
[28] Unlike the other two tests, the income misreporting test was based
on 2002 tax returns. This was because IRS does not match information
returns from third parties until several months after April 15TH.
[29] During fiscal year 2003, the AUR program assessed taxpayers about
$2.9 billion.
[30] In most of these cases, a CP-2000 notice, "We Are Proposing
Changes to Your Tax Return", is sent to the taxpayer; however, IRS
sends a different notice in rare instances, such as when there was an
income discrepancy of at least $100,000.
[31] IRS officials said the Internal Revenue Manual guides this
determination and that examiners receive months of training in how to
make this determination.
[32] We could not verify these figures because IRS does not have a cost
accounting system. See GAO, Financial Audit: IRS's Fiscal Years 2004
and 2003 Financial Statements, GAO-05-103 (Washington, D.C.: Nov. 10,
2004).
[33] Pub. L. No. 108-199, 118 Stat. 3 (2004). The Act did not earmark a
specific amount for the tests.
[34] The National Taxpayer Advocate is available to help taxpayers when
a hardship arises or when their problem has not been resolved in a
reasonable time period.
[35] IRS received calls about the income misreporting test on the
general AUR telephone line. IRS did not think it was necessary to track
the test calls separately from the general AUR because taxpayers were
treated the same under both the test and the program.
[36] GAO, Tax Administration: IRS's 2003 Filing Season Performance
Showed Improvements, GAO-04-84 (Washington, D.C.: Oct. 31, 2003) and
GAO, IRS's 2002 Tax Filing Season: Returns and Refunds Processed
Smoothly; Quality of Assistance Improved, GAO-03-314 (Washington, D.C.:
Dec. 20, 2002).
[37] The Taxpayer Advocate uses seven criteria to categorize and
determine the severity and level of attention that taxpayers require to
resolve their tax issue. For example, some issues, such as eviction or
bankruptcy, are categorized as imminent hardships for taxpayers and
receive the most prompt attention.
[38] GAO-01-1008G and GAO/AIMD-00-21.3.1.
[39] Treasury Inspector General for Tax Administration, The Statistical
Sampling Method Used in the Earned Income Tax Credit Proof of Concept
Test Appears Valid, 2004-40-100 (Washington, D.C.: May 2004).
[40] See GAO-04-84.
[41] TIGTA 2004-40-100.
[42] GAO, Assessing the Reliability of Computer-Processed Data, GAO-03-
273G (Washington, D.C: October 2002).
[43] The three key sources we used to develop our implementation and
evaluation plan criteria were: P.H. Rossi, and H.E. Freeman.
Evaluation: A Systematic Approach, 4th ed. Newbury Park, Calif.: Sage,
1989, P.H. Rossi, H.E. Freeman, and M.W. Lipsey. Evaluation: A
Systematic Approach, 6th ed. Thousand Oaks, Calif.: Sage, 1999, and
GAO/PEMD-10.1.4.
[44] Pub. L. No. 108-199, 118 Stat. 3 (2004).
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