Taxpayer Advocate: IRS Has 81 Percent False Positive Rate for Refund Fraud

Chris Gaetano
Published Date:
Dec 7, 2018

National Taxpayer Advocate Nina Olson, speaking at the Foundation for Accounting Education's IRS Practice and Procedures Conference on Dec. 7, said that the IRS is in dire need of a new fraud filtering system, as the current one has a false positive rate—the proportion of returns the IRS marked as potentially fraudulent that in fact came from legitimate taxpayers—of 81 percent. 

"We've talked to experts, and a ballpark [average] for false positives is 50 percent," she said. "That's still high, but you don't want to  let fraud go on. You need balance. But if you have 81 percent, there is something fundamentally wrong with your filters. You're stopping everyone, basically saying that everyone is suspect and we'll figure it out later, and if you keep that rate, you need people who can resolve this and sort the information out quickly, and neither of those things are happening."

However, this was just one issue among what Olson felt were deeper systemic problems in the IRS filing system. She illustrated by talking about the most recent filing season. She said that when the IRS receives a return, especially if it's requesting a refund, it is run through an income matching system that compares the information on the return to W-2s and 1099s connected with that taxpayer. If the information matches, the IRS releases the return and issues the refund. If there is no W-2 or 1099, then the return is set aside and retested with the next database update. 

Olson said that, this year, the system broke down on two levels. First, the IRS did not receive a lot of W-2s and 1099s by Feb. 15, the earliest it was able to send out refunds, and so a lot of returns were held back. Second, this fact was supposed to have been addressed by the return recycling process the following week, but this did not happen, so "all those returns went into a black hole." No one at the IRS was aware this had happened until her own office was deluged with calls regarding late refunds, with the number of people calling about this issue growing by 287 percent from January to October. Once her office began receiving these calls, the IRS investigated and found out that the returns were not being recycled back into the income matching system. This meant that the IRS would need to manually recycle the returns and manually upload incoming W-2 and 1099 data as it came. This had spillover effects that affected the rest of the IRS. 

"If you have manual work, what do you do? You turn to the phones, to the people processing correspondence; ... you take someone off there and put them on uploading this manually to get refunds out," she said, adding that it wasn't until the middle of July that "the IRS got through all the returns that had gone through the black hole to figure out if it was a legitimate return or something we needed to freeze." 

She said that, in order to avoid a repeat of this year's break-down, the IRS has switched to getting daily, rather than weekly, data updates from the Social Security Administration, so there will be less chance that a return will go unmatched for too long, which she said solves at least part of the problem. 

"We haven't solved the problem of whether the filters are overselecting, ... so you're not tormenting legitimate taxpayers who have to wait and wait and wait and wait," she said. 

She also said that the IRS had introduced changes to the private debt collection program as a result of her feedback. She said that her office had done a study which found that private debt collectors targeted mostly low-income taxpayers who likely would not be able to pay, which was evidenced by a higher default rate than IRS collections agents. She said that IRS regulations require the agency to release the levy if a taxpayer cannot afford basic living expenses, though said the private collectors don't have access to the databases that would tell the collectors whether this was the case for the taxpayers they're calling. So she asked the IRS commissioner to exclude from private debt collection people on supplemental security income and disability income, as well as any taxpayers whose income makes them unable to pay for basic living expenses. She said the commissioner agreed to the former but not the latter. 

"The people who are home answering the phone are low income and the elderly and the disabled. If you or I get a call from a number we don't recognize, we never pick up. So it's the most vulnerable people who are the ones picking up, and that is why they are the ones getting into [improper] installment agreements," she said. 

On the collections side, she said that her office has also pushed for the IRS to create an economic hardship template that agents could refer to when dealing with taxpayers. It would allow them to look at the taxpayer's income and compare it to what, under that income, would be allowable living expenses. 

Olson also talked about her concerns regarding the IRS field audit program. She said that the percentage of audits that call for no changes is between 35 and 42 percent. This means that the IRS wasted time and money on the audit, and the taxpayer wasted time and money on a CPA to deal with the audit 35 to 42 percent of the time. However the effects extend past just wasted money; she also said that, according to studies, when  taxpayers undergo an audit, their compliance behavior improves for the next five years. But when the audit  results in no change, or even the taxpayer getting money back from the government, she said, the taxpayer's compliance behavior actually gets worse. 

"So if you have a 32 to 45 percent no change rate in your field audits. If that pattern follows, you are, through your field audits, encouraging noncompliance going forward, which is the opposite of what audits should do," she said. 

She also talked about the resource issues at the IRS, and why she didn't find the agency's arguments that compelling as to why it cannot take action on certain issues. 

"By the time you finish telling me why you can't do this thing, you probably could have done the thing," she said. "And I'm at the point where I'm very sympathetic where resources [are needed] for the kinds of IT stuff we need to bring us into the 21st century rather than the 1960. But I'm really at the point now, when I get back the response saying, 'We don't have resources,' [that I want to say,] 'Just lock six really smart people in a room for three months and they can find a solution that can free up 50 people for the rest of their lives. Let's figure out what we can do in this situation.'"

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