The Internal Revenue Service could significantly increase the revenues it collects from taxpayers by targeting its enforcement resources better, especially by using correspondence exams, according to a new report.
The IRS spends most of its enforcement resources on examinations, the report from the Government Accountability Office noted. Correspondence exams of individual tax returns, which target fewer and simpler compliance issues, are significantly less costly on average than the broader and more complex field exams.
The GAO estimated that the average cost (including overhead) of correspondence exams opened in 2007 and 2008 was $274, compared to an average of $2,278 for field exams.
The IRS spent nearly 20 percent of the $1.6 billion per year that it devoted to exams on returns from taxpayers with positive income of at least $200,000, even though such returns accounted for only 3 percent of the 136 million individual returns filed per year. (Positive income, a measure that IRS uses to classify returns for exam planning purposes, disregards losses that may offset this income).
For the two years of cases reviewed by the GAO, exams (both correspondence and field) of taxpayers with positive incomes of at least $200,000 produced significantly more direct revenue per dollar of cost than exams of lower-income taxpayers, however.
Across income groups, correspondence exams were significantly more productive than field exams in terms of discounted direct revenue per dollar of cost. The GAO estimated that the average direct revenue yield per dollar of cost across all correspondence exams of individual taxpayers was $7. In contrast, the average direct yield per dollar for field exams of individual taxpayers was $1.80.
In its report, the GAO demonstrated how these estimates could be used to inform resource allocation decisions. For example, a hypothetical shift of a small share of resources (about $124 million) from exams of tax returns in less productive groups shown to exams in the more productive groups could have increased direct revenue by $1 billion over the $5.5 billion per year IRS actually collected (as long as the average ratio of direct revenue to cost for each category of returns did not change). These gains would recur annually, relative to the revenue that IRS would collect if it did not change its resource allocation. This particular resource shift would not reduce exam coverage rates significantly and, therefore, should have little, if any, negative effect on voluntary compliance.
In response to the report, IRS acting commissioner Steven T. Miller pointed out that it would take years to develop improved data systems and estimation techniques for using average direct revenue-to-cost ratios as the basis for resource allocation. “The IRS is committed to the optimal allocation of our enforcement resources,” he wrote. “That is why we select workload strategically. It is also why we account for factors other than just direct return on investment when allocating resources across programs or categories of work.”