Four states have signed up for a new system aimed at combating the growing problem of identity theft-related tax fraud.

Andy Bucholz

The system, from LexisNexis, was pilot-tested last tax season in Georgia (see Georgia Launches Pilot Program to Catch Identity Theft-Related Tax Fraud). It has now expanded to Connecticut and South Carolina, as well as at least one other unidentified state.

The state revenue agencies are leveraging identity management systems that use public records to verify and authenticate the identity of the individual submitting the tax refund request.  If the identity seems suspicious, the system queries the individual by asking questions that only that individual could answer. Georgia has blocked 158,462 suspected fraudsters attempting to claim $98,698,097 in state tax refunds in just the past year by leveraging both the state’s existing efforts to crack down on tax refund fraud along with the new LexisNexis identity management initiative.

National Taxpayer Advocate Nina Olson released a report earlier this month that found identity theft-related tax refund fraud has increased 650 percent since 2008, with a 60 percent increase from fiscal year 2011 to fiscal 2012 (see IRS Isn’t Doing Enough to Help Identity Theft Victims). Similarly, in FY 2012, the agency’s specialized ID theft unit saw a 78 percent increase in identity theft-related tax refund fraud cases.  Those statistics only cover the federal government but do not factor in all the fraud taking place at the state level. 

Up to now, the IRS and the 41 states that have an income tax have mostly been using rules-based fraud filters to screen for identity theft. “They have a hard time seeing the full picture of the person,” said Andy Bucholz, director of tax and revenue markets at LexisNexis Risk Solutions. “An identity company like us will have a more complete view of a person. So when someone steals my identity, for instance, and asks for a refund with my name and Social Security number, typically the IRS will not see it if the address is bad. Let’s say the address is for Tampa, Fla., where I’ve never lived. The IRS is going to see there’s an Andrew Bucholz and that is his Social. OK, let’s send him his thousand dollars. Whereas we would see it as odd. We also see this Andrew Bucholz and we also see that Social, but he’s always lived in Virginia. At least he’s always lived at that address for 12 years. Why would he want his refund in Tampa? There’s a whole bunch of other ways like that.”

The system will look for mismatches on names, addresses and Social Security numbers, as well as other types of data. Georgia benefited from the system after discovering that 4 percent of the state’s tax refund requests turned out to be fraudulent.

“It’s not like Georgia just happens to be a more fraudulent state,” said Bucholz. “You don’t have to live in Georgia to ask for a refund fraudulently. If it’s 4 percent in Georgia, why wouldn’t it be 4 percent somewhere else? This crime is not a Georgia crime.”

Even before working with LexisNexis, Georgia had improved its own rules-based fraud filter in recent years, Bucholz acknowledged. Last year, the state's internal systems and processes blocked 114,304 tax refund claims totaling $75,214,227. On top of that, LexisNexis Tax Refund Investigative Solution then blocked 44,158 refund claims totaling $23,483,870.

After the system identified the refund requests as suspicious, Georgia sent the taxpayers a letter saying there was an issue with the refund request and asking them to go to the Georgia Department of Revenue’s Web site, log in and answer questions based on the public records supplied by LexisNexis. “Since we know so much about people, we’re able to ask them questions that only the real person would know,” said Bucholz. “For $23 million worth of refund requests, the fraudsters either said they didn’t know the answers and failed, or didn’t want to take the quiz.”

LexisNexis also plans to help states like South Carolina, which recently revealed that the tax information of millions of taxpayers had been exposed to foreign computer hackers (see S.C. Governor Urges Encryption of Taxpayer Information after Data Breach).

“South Carolina did have an unfortunate event hit them, but they’re moving mountains to make sure that their citizens don’t get ripped off this year,” said Bucholz. “They went with our solution in an effort to try to mitigate this pain that may happen because of this.”

Other states have also expressed intererest in the system, and Bucholz expects more states to sign up for it this year.