United States General Accounting Office Washington, DC 20548 November 6, 2003 The Honorable Mark W. Everson Commissioner of Internal Revenue Subject: IRS’s Use of Information on Taxpayers Claiming Many Allowances or Exemption From Federal Income Tax Withholding Dear Mr. Everson: In September 2003, we responded to a request from Representative Elton Gallegly to provide information on the number of taxpayers who claimed more than 10 withholding allowances and taxpayers who claimed exemption from federal income tax withholding. The Internal Revenue Service (IRS) calls such claims questionable Form W-4s. However, in the course of performing our work, we became concerned about the reliability of the information that IRS maintains on these taxpayers and decided that we could not use it to answer Representative Gallegly’s questions. For background, see our letter to Representative Gallegly in enclosure 1. The objectives of this letter are to summarize our findings about the reliability of the information IRS maintains on taxpayers who claimed more than 10 withholding allowances or exemption from federal tax withholding and to bring to your attention some resulting questions about the value of IRS continuing to collect the information. Results We have two concerns about the information that IRS maintains on taxpayers who claimed more than 10 withholding allowances or exemption from federal tax withholding that precluded us from using it to respond to Representative Gallegly’s questions. First, we are concerned about the completeness of the information because a significant number of employers may not send IRS the required forms. According to IRS’s information, about 75 percent of the large employers with 1,000 or more employees in its Large and Medium-Size Business (LMSB) and Small Business/Self-Employed (SB/SE) divisions that filed employment tax returns in tax year 2001 did not send IRS any forms. Although the number of questionable Form W-4s IRS might receive from individual employers can vary, it seems unlikely that 75 percent of employers with 1,000 or more employees could have no employees who submitted questionable Form W-4s. Second, some of the information may not be current—it may not reflect the current withholding status of some taxpayers. If an employee who previously claimed more than 10 allowances or claimed exemption GAO-04-79R IRS’s Questionable Form W-4 Program from federal income tax withholding submitted a new Form W-4 claiming 10 or fewer allowances or not claiming exemption from withholding, the database would continue to show the earlier information. There is no requirement for employers to submit Form W-4s other than those claiming 10 or more allowances or exemption. We could not quantify the significance of our concerns about the reliability of IRS’s data; however, the uncertainty about how complete and current the data were precluded us from using them to respond to Representative Gallegly’s questions. While acknowledging the limitations of the information in the Questionable Form W-4 database, IRS’s Wage and Investment (W&I) Division officials stated that the information in the database was useful to them for tax compliance purposes. The officials said that they use the database to identify useful leads in determining possible underwithholding issues that can lead to noncompliance. For example, tax examiners at IRS’s Fresno Computing Center routinely review the withholding information of certain taxpayers to substantiate their claims. If the taxpayers cannot substantiate their claims, the examiners would require that the taxpayers’ withholdings be adjusted to appropriate levels. According to the Treasury Inspector General for Tax Administration, about 70 percent of the cases closed by the examiners in fiscal year 2001 resulted in no changes to the taxpayers’ withholding claims.1 However, considering what we learned about the reliability of the data, questions may be raised about the value and fairness of IRS’s enforcement efforts that rely on the database. One question is whether it is worth devoting IRS’s resources to maintaining a database of questionable reliability. According to information IRS provided us in July 2003, 32 full time equivalent staff was dedicated to the Questionable Form W-4 program. A related question is whether it is worth the burden borne by those taxpayers who send IRS forms. Another question is about the evenhandedness of IRS’s use of the database as a compliance tool. Taxpayers whose employers are not submitting questionable Form W-4s are less likely to face compliance checks under the program than taxpayers whose employers do submit the forms. IRS has reengineering efforts underway to improve the Questionable Form W-4 database, which we discuss in our report to Representative Gallegly. Based on information from program officials, these efforts were being implemented when we were preparing this report. Although we did not assess IRS’s reengineering plans, it was not clear to us that the plans would address the data reliability concerns we discussed in this report and in our report to Representative Gallegly. The reengineering efforts address database improvements to enhance compliance checks. In addition to summarizing our concerns, our letter to Representative Gallegly contains details of the scope and methodology of the work that we performed from October 2002 through June 2003 in accordance with generally accepted government auditing standards. 1 Treasury Inspector General for Tax Administration, Improvements to the Questionable Form W-4 Program Are Needed to Determine Program Impact on Taxpayer Compliance, Reference Number: 2003-40-006 (Washington, D.C.: October 2002). Page 2 GAO 04-79R IRS’s Questionable Form W-4 Program Conclusions and Recommendation We have questions about the value and fairness of using the Questionable Form W-4 program database for compliance purposes because of uncertainties about the extent that the data are complete and current. Because of these questions we recommend that you assess the value of IRS’s Questionable Form W-4 program and determine whether the program should continue in its current form. Agency Comments and Our Evaluation On October 28, 2003, we received comments from the Commissioner of Internal Revenue on a draft of this report. The Commissioner agreed with our recommendation, stating that he will undertake a comprehensive review of the Questionable Form W-4 Program to determine its effectiveness and relevancy in the current environment. Further, he said that the Commissioner of the W&I Division is to lead the effort. The Commissioner’s comments are reprinted in enclosure 2. - - - - - This report contains a recommendation to you. The head of a federal agency is required by 31 U.S.C. 720 to submit a written statement on actions taken on this recommendation. You should send your statement to the Senate Committee on Governmental Affairs and the House Committee on Government Reform within 60 days after the date of this report. A written statement also must be sent to the House and Senate Committees on Appropriations with the agency’s first request for appropriations made over 60 days after the date of this report. We are sending copies of this report to the Secretary of Treasury and to interested congressional committees. This report will also be available at no charge on GAO’s Web Site at http:www.gao.gov. If you have any questions about this report, please contact me at (202) 512-9110 or by E-mail at email@example.com. Key contributors to this assignment were Charlie Daniel and Arthur L. Davis. Sincerely yours, James R. White Director, Strategic Issues Enclosures Page 3 GAO-04-79R IRS’s Questionable Form W-4 Program Enclosure 1: Report to Representative Elton Gallegly Page 4 GAO 04-79R IRS’s Questionable Form W-4 Program Page 5 GAO-04-79R IRS’s Questionable Form W-4 Program Page 6 GAO 04-79R IRS’s Questionable Form W-4 Program Page 7 GAO-04-79R IRS’s Questionable Form W-4 Program Page 8 GAO 04-79R IRS’s Questionable Form W-4 Program Page 9 GAO-04-79R IRS’s Questionable Form W-4 Program Enclosure 2: Comments from the Internal Revenue Service Page 10 GAO 04-79R IRS’s Questionable Form W-4 Program (450248) Page 11 GAO-04-79R IRS’s Questionable Form W-4 Program The General Accounting Office, the audit, evaluation and investigative arm of GAO’s Mission Congress, exists to support Congress in meeting its constitutional responsibilities and to help improve the performance and accountability of the federal government for the American people. 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IRS's Use of Information on Taxpayers Claiming Many Allowances or Exemption From Federal Income Tax Withholding
Published by the Government Accountability Office on 2003-11-06.
Below is a raw (and likely hideous) rendition of the original report. (PDF)