GAO Says IRS Should Re-evaluate Taxpayer Penalties

The IRS needs to create a plan to comprehensively evaluate the administration of civil tax penalties and their impact on voluntary compliance, recommended a new report from the Government Accountability Office.

The GAO suggested that the IRS’s Office of Service-wide Penalties should collect information to evaluate penalties and penalty administration, and to determine the effectiveness of the penalties in promoting voluntary compliance.

The report came in response to a request from the Senate Finance Committee, which expressed interest in the process that the IRS follows when administering penalties and the effectiveness of the penalty regime. The committee also wanted to know more about the IRS’s implementation of a penalty for failing to disclose reportable transactions, similar to tax avoidance transactions, and whether the penalty was being appropriately assessed.

The GAO noted that the Tax Code contains more than 150 penalties. In fiscal year 2007, the IRS assessed more than 37.6 million civil penalties, totaling more than $29.5 billion. On the other hand, the IRS rescinded in whole or in part more than 4.9 million civil penalties totaling more than $11.1 billion. Major reforms to civil tax penalties haven’t been made since 1989.

“Twenty years after Congress and an IRS task force said that [the] IRS needs to conduct more continuous and comprehensive analyses of the penalties it administers and their effect on voluntary compliance, and after having designated an office with those responsibilities, [the] IRS is not meeting this expectation,” said the GAO.

The report recommended that the IRS develop a plan to better focus its efforts and ensure that penalties are being administered efficiently, effectively, fairly and consistently to encourage voluntary compliance. The GAO also suggested that the IRS use its standard, low-cost methods of outreach to alert tax preparers and taxpayers about the need to properly report loss transactions to avoid penalties.

IRS Deputy Commissioner Linda Stiff agreed with the GAO’s recommendations. “We recognize that civil tax penalties are an important tool for encouraging compliance with tax laws,” she wrote. “Effective administration of penalty application is critical in ensuring fair and equitable treatment of taxpayers and ensuring voluntary compliance.”