oversight

Internal Revenue Service: IRS Initiatives to Resolve Disputes Over Tax Liabilities

Published by the Government Accountability Office on 1997-05-09.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                United States General Accounting Office

GAO             Report to the Chairman, Subcommittee
                on Oversight, Committee on Ways and
                Means, House of Representatives


May 1997
                INTERNAL REVENUE
                SERVICE
                IRS Initiatives to
                Resolve Disputes Over
                Tax Liabilities




GAO/GGD-97-71
             United States
GAO          General Accounting Office
             Washington, D.C. 20548

             General Government Division

             B-260164

             May 9, 1997

             The Honorable Nancy L. Johnson
             Chairman, Subcommittee on Oversight
             Committee on Ways and Means
             House of Representatives

             Dear Chairman Johnson:

             Each year, thousands of disputes arise between taxpayers and the Internal
             Revenue Service (IRS) over billions of dollars in additional taxes
             recommended by auditors in IRS’ Examination Division (Examination). IRS
             eventually resolves most of these disputes over tax liability without
             litigation through negotiations with taxpayers in its Office of Appeals, but
             the resolution process can take years and hundreds of staff hours for
             disputes over large tax amounts because of the complex issues involved.

             Since 1990, IRS has made available to certain groups of taxpayers several
             initiatives to provide alternative ways for resolving certain tax disputes
             without litigation. We are addressing this report to you at your request
             because of your ongoing interest in IRS’ enforcement programs and IRS’ use
             of performance measures in striving to achieve its mission and program
             goals. Our objectives were to (1) analyze IRS’ design of these initiatives and
             taxpayers’ use of them to resolve disputes between IRS and taxpayers over
             tax liability, and (2) analyze IRS’ plans for evaluating the impacts of its new
             initiatives on the stated goals.


             The federal government and the private sector have long recognized that
Background   litigation is costly, time consuming, and destructive of cooperative
             relationships. Congress intended that federal agencies avoid these
             problems by offering prompt and inexpensive administrative processes for
             resolving disputes; yet, over the last 30 years, agency processes have
             grown more formal, costly, and time consuming.

             Seeking to counter this trend, the Administrative Conference of the United
             States (ACUS) began in 1982 to encourage federal agencies to use
             alternative dispute resolution (ADR) processes.1 Because use of ADR grew
             slowly among federal agencies, Congress passed the Administrative
             Dispute Resolution Act in 1990 to explicitly authorize and encourage



             1
              ACUS was an independent federal agency established in 1964 to promote efficient, adequate, and fair
             procedures in federal agencies. It was not funded in fiscal year 1995 and passed out of existence.



             Page 1                                       GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




agencies to use neutral third party ADR techniques (app. I describes these
types of ADR techniques).2

Well before the 1990 act, IRS offered an administrative dispute resolution
process through its Office of Appeals (Appeals) as an alternative to
litigation. Otherwise, a taxpayer dissatisfied with the tax adjustments
recommended by an IRS auditor can either take the dispute to Tax Court,
where IRS’ District Counsel initially transfers the dispute to Appeals, or pay
the additional taxes and claim a refund in the U.S. Court of Federal Claims
or a federal district court.

Organizationally located in the Office of the Commissioner, Appeals
operates independently from IRS functions such as the Examination
Division, which performs audits to determine the correct tax liability, and
the Office of Chief Counsel, which litigates Tax Court cases for IRS. Its
mission since 1927 has been to resolve tax controversies without litigation
on a basis that is fair and impartial to both the government and the
taxpayer and that will enhance voluntary compliance and public
confidence in IRS’ integrity and efficiency. With a staff of about 2,150
employees, Appeals is one of the oldest and largest dispute resolution
organizations in the United States.

Appeals’ process consists of an administrative review by an Appeals
officer and negotiations with the taxpayer, usually after an IRS audit, over
the tax treatment of one or more issues on the tax return. An Appeals
officer must first review the relevant facts, law, regulations, and court
cases. Then, through written submissions from the taxpayer and one or
more informal conferences, the Appeals officer must assess the relative
merits of the opposing views and determine an acceptable settlement
position for IRS. Unlike Examination, which is limited to applying the tax
code, Appeals is authorized to consider the hazards of litigation. Thus, the
Appeals officer can negotiate with the taxpayer and make concessions to
arrive at a settlement that attempts to approximate the probable results if
the case were to be tried in court.




2
 In recent years, Congress has encouraged federal agencies, including IRS, to use ADR techniques
instead of litigation or adversarial administrative procedures. The 1990 act serves as an example of this
encouragement. This act terminated in October 1995, but Congress reauthorized use of these
techniques in an October 1996 act. IRS’ initiatives, for the most part, do not involve neutral third
parties, and thus do not include the full range of ADR techniques encouraged by the act.



Page 2                                         GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                   B-260164




                   This appeals process handles an average inventory of about 53,500 dispute
                   cases.3 Appeals’ processing time for small cases (those with less than
                   $10 million in dispute) that are not docketed in the courts averages about 8
                   months.4 Larger, more complex cases average about 2.4 years to process.
                   While the larger cases comprise about 1 percent of all Appeals cases, they
                   account for about 88 percent of the tax dollars in dispute. Most large cases
                   come from IRS’ Coordinated Examination Program (CEP), under which IRS
                   audits the largest corporations. Overall, Appeals has been resolving about
                   85 percent of its large cases.

                   In addition to Appeals, which has the major role in dispute resolution, two
                   other IRS functions also have roles in dispute resolution. The Examination
                   Division attempts to resolve disagreements over additional tax
                   recommendations with taxpayers before they go to Appeals. The Office of
                   Chief Counsel also has a role, particularly when Appeals’ negotiations do
                   not resolve the disputes. All three functions have developed initiatives to
                   improve the resolution of disputes over tax liability.


                   Since 1990, IRS Appeals, Chief Counsel, and Examination5 have
Results in Brief   implemented at least eight initiatives to improve dispute resolution
                   between IRS and taxpayers over certain tax issues (app. II describes IRS’
                   initiatives). Each of the initiatives applies to specific groups of taxpayers,
                   generally large corporations. Two of these initiatives seek to prevent
                   disputes, three seek to resolve disputes before they reach Appeals, and
                   two seek to resolve disputes in Appeals more quickly. Only one initiative
                   uses a neutral third person as a mediator to help resolve disputes in
                   Appeals. Generally, the goals of these initiatives are to reduce the overall
                   time, costs, and taxpayer burden of dispute resolution.

                   In June 1996, IRS identified 276 taxpayers that had used or were using 1 of
                   IRS’ 8 initiatives to resolve tax disputes since 1990. As of November 30,
                   1996, IRS data showed that these taxpayers had used IRS’ initiatives to



                   3
                    The average inventory for Appeals cases is based on the fiscal year-end inventory for the 5-year period
                   ending September 30, 1995.
                   4
                    Appeals divides its case workload into two basic categories: nondocketed and docketed.
                   Nondocketed cases are those protested directly to Appeals by the taxpayer; docketed cases are those
                   entered on the calendar, called the docket, of the Tax Court and referred to Appeals by the District
                   Counsel.
                   5
                    Other IRS functions, such as Collection, have undertaken initiatives for resolving disputes other than
                   those involving the amount of income tax to be assessed.



                   Page 3                                         GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                     B-260164




                     resolve 209 disputes over tax issues.6 This is a small fraction of the
                     relevant disputed tax issues since 1990. Various reasons exist for the
                     limited use of the initiatives to date. For example, the initiatives were
                     relatively new and generally target disputes with very large corporations
                     for certain types of issues, such as employment taxes. Also, IRS officials
                     said use of the initiatives ultimately depends on the willingness of eligible
                     taxpayers.

                     IRS has established some performance measures intended to evaluate the
                     impacts of its initiatives on reducing the time, costs, and taxpayer burden
                     in dispute resolution. Our analysis indicated that many of these measures
                     will not allow IRS to directly gauge the initiatives’ impacts on these goals.
                     For example, Chief Counsel and Examination both have as a measure the
                     number of times the initiatives were used. Officials from these functions
                     believe that frequency of use means a reduction in time, costs, and burden.
                     But knowing how often initiatives were used does not answer the question
                     of how effectively they reduced time, costs, and burden. Appeals has
                     established some measures, such as the level of taxpayer satisfaction, that
                     are more directly related to its initiatives’ goals of reducing the time, costs,
                     and burden of dispute resolution.

                     IRS officials said they thought it was too early to assess the impacts of all
                     of their initiatives and it was difficult to obtain data that would isolate the
                     impacts, particularly when the issues being resolved are highly technical
                     and can carry over to future tax years. IRS officials described ongoing
                     efforts to develop other measures, in conjunction with a special IRS task
                     force, by the spring of 1998. We recognize the challenges of developing
                     measures and evaluating the initiatives as well as the importance of proper
                     timing of the evaluations. Even so, measures that more directly gauge the
                     impacts of the initiatives on their goals would help IRS determine, after
                     sufficient data are available over a period of time, whether and the extent
                     to which the initiatives had the intended effects of reducing the time,
                     costs, and burden of resolving tax disputes.


                     Focusing on tax disputes between IRS and taxpayers, our objectives were
Objectives, Scope,   to (1) analyze IRS’ design of its initiatives and taxpayers’ use of them since
and Methodology      1990 in resolving disputes over tax liability, and (2) analyze IRS’ plans for
                     evaluating the impacts of its new initiatives on their goals. To gain
                     perspective in doing work on both objectives, we first reviewed the 1990


                     6
                      This figure does not reflect the unknown number of disputes over transfer pricing issues that were
                     avoided by using one of the initiatives that focuses on those issues.



                     Page 4                                        GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




and 1996 acts, the Congressional Record, and various ACUS publications
including its 1995 report to Congress.

To address both objectives, we first asked IRS officials to identify
initiatives begun since 1990 to help resolve tax disputes between IRS and
taxpayers. They identified 11 initiatives, of which our review included 8.
Tax Court Rule 124 was excluded because it is under the jurisdiction of
the United States Tax Court. IRS’ Ombudsman was excluded because it has
existed since 1988 and its scope of disputes goes beyond issues of tax
liability. Simultaneous referral to Appeals/Competent Authority was
excluded because its stated purpose was to enhance the competent
authority process. According to the Assistant Commissioner
(International), the competent authority process addresses disputes
between the United States and treaty nations rather than disputes between
the IRS and taxpayers. Appendix II briefly describes these additional IRS
initiatives.

To analyze IRS’ design of its dispute resolution initiatives since 1990, we
first learned about IRS’ traditional dispute resolution method—the appeals
process—and the roles that the Examination and Chief Counsel had in the
dispute process. To do so, we reviewed published procedures and reports,
and interviewed officials in these functions at IRS’ National Office. To learn
about IRS’ new initiatives, we reviewed related authorizations and
procedures as well as written comments on proposed initiatives from
inside and outside of IRS. We interviewed IRS National Office officials in the
Examination Division, Office of Appeals, Office of Associate Chief Counsel
(International), and the Office of the Assistant Commissioner
(International).

To analyze taxpayer use of IRS’ initiatives, we asked IRS to identify
taxpayers that have used an initiative since 1990 by name and
identification number so we could develop profiles of those taxpayers. In
June 1996, IRS provided that information on 276 taxpayers, usually very
large corporations, that had used or were using 1 of the 8 initiatives. Using
this information, we queried IRS’ Statistics of Income (SOI) database on
corporate filers for 1993—the most recent data available. Being a sample
of all taxpayers, this database had profile information on 209 of the 276
taxpayers. We then identified the number of disputed tax issues that were
resolved under an initiative for the taxpayers through November 30, 1996.
Finally, we interviewed officials at the Tax Executives Institute (TEI) and
collected documentation on TEI’s views of IRS’ initiatives. Because TEI




Page 5                             GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                              B-260164




                              represents very large corporations—the major users of IRS’
                              initiatives—TEI’s views provided insights on the issue of taxpayer usage.

                              To analyze IRS’ strategy for evaluating the impacts of its new initiatives, we
                              reviewed ACUS guidance for evaluating ADR programs and IRS functions’
                              evaluation plans, questionnaires, and reports such as the 1995 Appeals’
                              Measurements and Standards Task Force report. We did not attempt to
                              evaluate the impacts of IRS’ initiatives because they generally were too new
                              and IRS data were not readily available.

                              We requested comments from IRS and TEI on a draft of this report. On
                              March 17, 1997, we obtained comments from representatives of the IRS
                              Commissioner. We received written comments from TEI on April 4, 1997.
                              As appropriate, we made changes in the report based on these comments.
                              The comments and our evaluation of them are discussed starting on page
                              27. We conducted our review from March through December 1996 at
                              Washington, D. C. and our Kansas City Office in Mission, KS, in
                              accordance with generally accepted government auditing standards.


                              IRS has implemented eight initiatives since 1990 to improve resolution of
IRS’ Initiatives Target       its disputes with taxpayers over certain tax issues. These initiatives
Specific Taxpayers            attempt to meet goals related to reducing the time, costs, and burden of
and Issues                    dispute resolution. IRS’ design and timing of these initiatives have, to date,
                              limited taxpayers’ use of the initiatives.


IRS’ Initiatives to Improve   Since 1927, IRS’ Appeals function has offered taxpayers an administrative
the Resolution of Disputed    process to resolve disputes over tax liability. This traditional process,
Income Tax Liability Issues   while resolving most tax disputes without litigation, can be
                              time-consuming, costly, and adversarial. In the process, the Appeals
                              officer acts more as an independent reviewer and negotiator on behalf of
                              IRS than as a neutral third party chosen by the disputants to help design
                              their own resolution. As such, Appeals’ process is best characterized as
                              settlement negotiations with the taxpayer.7

                              To improve the resolution of tax disputes between IRS and taxpayers, IRS’
                              Appeals, Chief Counsel, and Examination functions have implemented at
                              least eight initiatives since 1990. One of these initiatives—Appeals’

                              7
                               Unlike the 1990 act, the 1996 act did not include a reference to “settlement negotiations” in the list of
                              ADR techniques. The deletion was made to clarify Congress’ intent to encourage use of neutral
                              third-party methods. According to ACUS, settlement negotiations do not use a neutral third party, and
                              do not constitute an “alternative” resolution method because agencies already had been using them.



                              Page 6                                          GAO/GGD-97-71 IRS Dispute Resolution Initiatives
    B-260164




    mediation initiative—uses neutral parties to help resolve disputes. Two
    initiatives seek to prevent disputes, three seek to resolve disputes before
    they reach Appeals, and two seek to resolve Appeals cases more quickly.
    Generally, the goals of these initiatives are to reduce the overall time,
    costs, and taxpayer burden of resolving disputes without litigation. The
    following summarizes the initiatives across the three functions (see app. II
    for a fuller description).

•   Using Neutral Third Parties: In fiscal year 1996, Appeals completed a
    1-year test of mediation procedures for nondocketed CEP cases.8 Mediation
    has been designed to be an additional attempt to avoid litigation and to be
    available only after negotiations in Appeals are unsuccessful. Once IRS
    approves a request for mediation, Appeals and the taxpayer are to select a
    neutral third party from inside or outside IRS as mediator and to enter into
    a written agreement on the issues to be discussed and the location and
    dates of the mediation.
•   Preventing Disputes: In 1991, the Office of Chief Counsel (International)
    implemented its Advance Pricing Agreements (APA) Program to avoid
    disputes over intercompany transfer pricing issues. Transfer pricing refers
    to the amounts that affiliated members of a multinational corporation
    charge one another for goods and services. IRS developed the APA program
    to avoid transfer pricing disputes and the prolonged, expensive litigation
    that had been used to resolve the disputes. Under an APA, IRS avoids such
    disputes by reaching a prospective agreement with the taxpayer on an
    appropriate transfer pricing methodology, the factual nature of the
    transactions involved, and the expected results of the methodology.

    In 1996, Appeals began to offer taxpayers the option of receiving IRS
    valuations of art works for such purposes as estate and gift taxes and the
    charitable contribution deduction on an income tax return. These
    procedures permit a taxpayer to have an art valuation for tax purposes
    approved prior to filing the tax return, thus avoiding any dispute during an
    audit.9

•   Resolving Disputes Prior to Appeals: In 1994, Examination implemented
    the use of closing agreements between IRS and the taxpayer that were
    designed to extend the current resolution of a particular issue during a CEP
    audit to future audits of tax years ending prior to the date of the

    8
     IRS has extended the test period for another year beginning on January 13, 1997.
    9
     IRS has used a panel of outside experts since 1968 to evaluate appraisals submitted by taxpayers to
    support the fair market value claimed on federal income, estate, and gift tax returns for works of art.
    Disputes over the value of the art can affect tax liability.



    Page 7                                         GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                                  B-260164




                                  agreement. IRS called this Accelerated Issue Resolution (AIR). It avoids
                                  raising the same issue when those tax years are audited. IRS audits nearly
                                  all tax returns filed by CEP taxpayers.

                                  In 1990, IRS gave limited authority to CEP case managers to accept
                                  settlement offers on issues that “recur” or “rollover” across the tax years
                                  being audited by applying a previous Appeals settlement with the same
                                  taxpayer and issue.10 In 1996, IRS gave limited settlement authority to CEP
                                  case managers for particular issues in designated industries. These issues
                                  involve those for which (1) IRS’ position needs to be coordinated across
                                  its functions to promote consistent, nationwide treatment, and (2) Appeals
                                  has published issue papers containing settlement guidelines.

                              •   Resolving Disputes in Appeals: In 1994, Appeals started accepting the early
                                  referral of key disputed issues before the end of a CEP audit in the hopes
                                  that concurrent processing would reduce total processing times and that
                                  early resolution of a key issue would help resolve related issues in
                                  Examination. In 1996, Appeals started a similar initiative for employment
                                  tax audit disputes.


To Date, Use of Initiatives       As of November 30, 1996, IRS records showed that CEP and large corporate
Is Limited                        taxpayers had used 7 of IRS’ initiatives to resolve at least 209 tax issues in
                                  dispute between IRS and taxpayers since 1990.11 Compared to the tens of
                                  thousands of disputes we estimate are raised annually by the audits of
                                  these taxpayers, the number of resolutions achieved by IRS initiatives is
                                  small.12

                                  Several reasons, including IRS’ design and timing of the initiatives, help
                                  account for the limited use. First, IRS generally limited use of its initiatives

                                  10
                                    A “rollover” issue arises from a taxable event that impacts more than one tax period. A “recurring”
                                  issue arises from separate or repeated taxable events for which a taxpayer advances the same legal
                                  position. In 1996, IRS revised this limited authority to include any CEP audit issue for which Appeals
                                  had previously settled the same issue of the same taxpayer or of another taxpayer who was directly
                                  involved in the transaction or taxable event.
                                  11
                                   The 209 do not reflect the unknown number of disputes avoided through APAs; as of November 30,
                                  1996, IRS had completed 74 APAs. Appeals and Chief Counsel provided updated figures on the number
                                  of disputed issues resolved using many of their initiatives as of February 28, 1997. They identified 18
                                  more issues resolved by early referral and early referral for employment tax issues and 82 issued
                                  APAs.
                                  12
                                    IRS does not yet track the total number of disputed issues raised by its audits. Using IRS’ data, we
                                  conservatively estimate that CEP and other large corporation audits annually generate tens of
                                  thousands of disputes. IRS audits about 10,000 to 12,000 large corporations per year, of which about 70
                                  to 80 percent raise one or more tax issues; in 1996, CEP audits raised an average of 17 issues. And,
                                  large corporations dispute many audit issues, often those involving large tax amounts.



                                  Page 8                                         GAO/GGD-97-71 IRS Dispute Resolution Initiatives
    B-260164




    to CEP taxpayers to date. Although CEP and other taxpayers with large
    disputes account for about 88 percent of the dollars in dispute, they
    account for about only 1 percent of Appeals cases. Second, many of the
    initiatives began recently; three did not start until 1996. Third, IRS intended
    many of these initiatives to initially have limited applications, as illustrated
    below.

•   Mediation may be requested only when the case is not designated by IRS
    for litigation, is not docketed before the United States Tax Court, or does
    not involve certain tax issues, and only after negotiations in Appeals have
    failed to resolve the dispute.13
•   Early referral may be used only when the referred issue (1) is not
    designated by IRS for litigation; and (2) could be expected, if resolved
    early, to help resolve related issues in Examination.
•   Certain initiatives covered unique tax issues; for instance, the APA program
    dealt only with transfer pricing issues, art valuation dealt only with art,
    and one early referral initiative dealt only with employment tax issues.
•   Limited settlement authority targeted issues that recur in CEP audits.

    In acknowledging the limitation on eligibility, IRS officials also pointed out
    that the eligible population usually disputes very large tax adjustments
    that take a lot of time to resolve. If the initiatives work, they could reduce
    the time to resolve disputes, as well as related costs and burdens. We
    agree that the potential for such reductions exists. Even if IRS finds that the
    initiatives produce such reductions for some large dollar disputes, other
    taxpayers, disputing thousands of issues annually, would be unlikely to
    benefit from these reductions if they continue to not use the initiatives or
    to be ineligible. IRS officials said they plan to expand the pool of eligible
    taxpayers and encourage more usage by changing criteria such as user
    fees for an APA.

    IRS officials also noted that eligible taxpayers have the final say on whether
    to use the initiatives. Some taxpayers may be reluctant to use them
    because they are comfortable with the traditional Appeals process. TEI
    officials said their members generally are confident of Appeals’
    independence and ability to reach fair and practical resolutions; a 1993 TEI
    survey indicated that over 80 percent of the respondents were satisfied
    with the Appeals process. As discussed in our 1994 CEP report, IRS litigated
    relatively few CEP tax disputes and only assessed 22 percent of the taxes


    13
      About 69 percent of Appeals cases are nondocketed. The certain issues include those that involve
    (1) specialized industries, (2) coordination across IRS to ensure consistent treatment in the audit or
    appeals process, and (3) tax treaties with other nations.



    Page 9                                         GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                        B-260164




                        recommended in CEP audits after Appeals’ settlement process.14 TEI
                        officials also said CEP corporations may not yet be comfortable using
                        mediation because it is relatively new and IRS has rejected five of nine
                        requests that did not meet IRS’ eligibility guidelines for mediation.15 TEI
                        suggested that IRS mediation guidelines, while necessary, should not be too
                        restrictive and that IRS should better promote the use of its initiatives.

                        As for those that have used or were using the initiatives, we analyzed the
                        most recent IRS information about the types of users. As of June 1996, we
                        found information on 209 corporations that had elected to use an IRS
                        dispute resolution initiative since 1990.16 Appendix III contains tables that
                        profile users by type of initiative and the category of industry as well as
                        the average amounts that the users reported on their corporate income tax
                        return for total assets, total income, taxable income, and income tax.

                        For example, 50 percent of the 209 corporations were manufacturers.
                        Another 23 percent were involved in the financial, insurance, or real estate
                        industries, with banks being the most common users in this category.
                        Further, the average amounts of total assets, total and taxable incomes,
                        and net tax liability by type of dispute resolution initiative varied widely
                        but were relatively large because nearly all users were CEP taxpayers. To
                        illustrate, average total assets ranged from about $7 billion to about $57
                        billion, and average taxable income ranged from about $207 million to
                        about $1 billion by type of initiative.


                        IRS’goals for its initiatives include reducing the time and costs consumed
IRS’ Selected           by dispute resolutions and improving taxpayers’ satisfaction with the
Performance             process. The goals also address improvements to the outcomes of the
Indicators Will Not     resolution process, including voluntary compliance with the tax laws. IRS
                        officials also told us that an overarching goal of the initiatives is to resolve
Measure the Impacts     more disputes without litigation.17 However, IRS’ current performance
of Initiatives on All   indicators (or measures) are not designed to directly gauge the impacts of
                        the initiatives on all of these stated goals, particularly the time and costs.
Goals
                        14
                         Tax Administration: Compliance Measures and Audits of Large Corporations Need Improvement
                        (GAO/GGD-94-70, Sept. 1994).
                        15
                         Two requests did not involve CEP cases, two were premature, and one involved docketed years not
                        under Appeals’ jurisdiction. Of the four approved requests, two have been completed as of
                        November 1996.
                        16
                         Taxpayers involved in the 209 resolved disputes were not the same 209 taxpayers that IRS identified
                        as having used 1 of the 8 initiatives, including APAs, and that we found in IRS’ SOI sample; it is
                        coincidence that both populations total 209.
                        17
                         IRS officials also told us that litigation is necessary at times to ultimately resolve disputes over
                        selected tax issues.


                        Page 10                                          GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




ACUS  has provided guidance on possible ADR program goals and
performance measures (app. IV summarizes ACUS’ guidance on evaluating
ADR). The goals include (1) reducing the time and costs consumed by
dispute resolutions; (2) improving the outcomes of the resolution process,
such as reducing the dispute inventory or improving the rate at which
disputes are resolved; and (3) improving participants’ satisfaction with the
process and outcomes. To determine whether an ADR program is meeting
its goals, ACUS guidance advises ADR managers to collect and compare data
for performance measures under conditions with and without ADR.

In addition, the 1993 Government Performance and Results Act provides
guidance on the need to have program performance measures that allow
an agency to demonstrate a program’s effectiveness in achieving its goals.
Performance measures that effectively identify whether a program is
achieving its stated goals either (1) directly measure change (e.g., amount
of time required to resolve disputes with and without the initiative),
(2) use a reasonable proxy for the goal (e.g., taxpayer satisfaction with the
initiative as an indicator of reduced burden), or (3) provide the data
needed to evaluate specific research questions about the program and its
effectiveness.

Table 1 presents the goals and performance measures identified for the
various IRS initiatives.




Page 11                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                                            B-260164




Table 1: IRS’ Evaluation Measures for the Goals of the Initiatives by IRS Function
Function                            Initiative(s)                    Goal(s)                           Measure(s)
Associate Chief Counsel (Intl),     Advance pricing agreements      Improve voluntary compliance       Number of advance pricing
Office of Chief Counsel             program                         with international tax laws and    agreements
                                                                    treaty provisions
                                                                    Reduce the (1) time and costs      A comparison of average
                                                                    used to develop and resolve        lapse time and staff days to
                                                                    transfer pricing issues, and (2)   complete an advanced pricing
                                                                    rate of increase in resources      agreement and to complete an
                                                                    used on transfer pricing issues    audit involving transfer pricing
                                                                                                       issuesa
Examination                         Limited settlement authority;   Improve rate at which CEP          Number of times initiatives are
                                    accelerated issue resolution    taxpayers fully or partially       used
                                    closing agreements              agree with audit issues in
                                                                    Examination
                                                                    Reduce average calendar
                                                                    days for CEP audits
                                                                    Improve currency of CEP audits
                                                                    Improve voluntary complianceb
                                                                    Reduce taxpayer burden
Appeals                             Early referrals                 Reduce processing time in          Whether Examination case
                                                                    Examination and Appeals            managers and taxpayers
                                                                                                       perceive that early referral
                                                                                                       reduced audit hours and
                                                                                                       calendar days in Examinationc
                                                                    Improve the CEP agreement          Whether Appeals resolved the
                                                                    rate in Examination                referred issues and
                                                                                                       Examination resolved related
                                                                                                       issues
                                                                    Improve taxpayer satisfaction      Level of taxpayer satisfaction
                                    Mediation                       Improve Appeals’ rate for          Rate at which CEP disputes
                                                                    settling CEP disputes; resolve     are settled by Team Chiefs in
                                                                    nondocketed issues                 Appeals
                                                                    Reduce the costs of litigations    No measure selectedd
                                                                    Improve voluntary complianceb No measure selected
                                                                    Improve taxpayer satisfaction      Level of taxpayer satisfaction
                                    General                         Reduce taxpayer burden             Number of taxpayers using
                                                                                                       APAs /Appeals’ initiatives

                                                                                                              (Table notes on next page)




                                            Page 12                                  GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




a
  This is an interim measure. In addition, Appeals, which is a participant in Counsel’s negotiation of
an advance pricing agreement, will ask Appeals participants whether the agreement reduced the
time needed to resolve issues from open tax years prior to the agreement.
b
 According to the Director, Office of Dispute Resolution and Specialty Programs, improved
voluntary compliance is an indirect goal of Examination’s and Appeals’ initiatives. He said that the
initiatives have a relationship to voluntary compliance in that the taxpayers can choose to use an
initiative to help resolve disputes. However, IRS has not identified a measure for voluntary
compliance.
c
  Although not a selected measure of whether early referral reduced Appeals’ case/lapse time,
Appeals is also asking appeals officers for the number of hours used to resolve the early referral
issue.
d
Although Appeals has not selected a measure, Appeals officials believe that a successful
mediation avoids the costs of litigation.

Source: IRS data.



As table 1 indicates, some of the measures selected by the three functions
do not directly gauge the impacts of the initiatives on their stated goals.
For example, both Chief Counsel and Examination plan to measure how
often a taxpayer uses an initiative. While this is useful information, in
isolation it does not demonstrate or measure the effectiveness of the
initiatives in reducing dispute resolution time, costs, or taxpayer burden.
Also, initiatives in all three functions include voluntary tax compliance as
a goal but have not included a related direct measure. A prior director of
the APA program acknowledged that voluntary compliance is difficult to
measure; current IRS officials agreed and characterized taxpayers’ use of
an initiative as an indicator of their desire to voluntarily comply. Although
this may be true, signing any agreement does not necessarily mean full
voluntary compliance in the future. Under the APA program, IRS’ Revenue
Procedure 91-22 requires taxpayers to submit annual reports that IRS can
use in monitoring compliance.

Further, one goal of early referral is to reduce total processing time
(Examination and Appeals). However, Appeals’ evaluation planning
documents show that the primary performance measure addresses only
Examination’s processing time, and only the impact on Examination
processing time is reported to the National Director of Appeals. Appeals
plans to collect data about the impact on processing time by asking
Examination case managers and taxpayers (i.e., qualitative data) rather
than collecting and comparing quantitative data. In March 1997, Appeals
officials said that they also will be tracking the number of hours that
Appeals officers spend on early referral issues and that their evaluations of
early referral will consider the effect on Appeals processing time.




Page 13                                        GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




Table 1 also shows that Appeals’ planned measures go beyond counting
the number of disputes resolved and link more directly with the stated
goals of its initiatives. For instance, to assess the impact on the goal of
improving CEP taxpayers’ satisfaction with the examination and appeals
processes, Appeals plans to query taxpayers who use early referral or
mediation about their satisfaction with these initiatives.

Officials from Chief Counsel and Examination indicated that they have not
completed their evaluation design efforts to directly measure the impacts
of their initiatives on all their goals for various reasons. For instance, they
said (1) data on the time that field personnel spend working on an APA are
not always reliable because IRS has not yet devised a method for
distinguishing time spent by field personnel on APA negotiations from time
spent on pending examinations of the same taxpayer, and (2) Examination
tracks the time spent on the entire audit and tracks certain large dollar
issues but does not track all issues nor the time spent by issue.

Further, they pointed to the difficulty in evaluating the impacts, partly
because issues associated with initiatives such as APAs and AIRs are often
highly complex and extend years into the future. As a result, measuring
the impacts of an initiative may have to wait years. They also pointed to
the difficulty in isolating the impacts of an initiative when goals such as
those involving the number of days to complete a CEP audit or the currency
of the tax years being audited can be affected by many other factors (e.g.,
availability of information on an issue).

Even with these concerns about current data and indicators, it remains
important for IRS to measure the effectiveness of the initiatives in
achieving their goals. Without this information, IRS cannot know whether
the initiatives worked as intended (and if so, to what extent they worked),
need improvements, or merit being extended to other issues or groups of
taxpayers.

In addition, concerns about the time and costs consumed by dispute
resolution in IRS make evaluation of each initiative important. For
example, an article reporting a 1996 survey of CEP taxpayers, although
showing increased satisfaction with aspects of CEP audits, showed
continued dissatisfaction with Examination’s ability to resolve issues. In
the article, the Assistant Commissioner for Examination said the
satisfaction level was not as high as IRS had hoped, particularly given the
number of efforts to make CEP audits more efficient and less time




Page 14                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
              B-260164




              consuming. These efforts include Examination’s dispute resolution
              initiatives.

              At the time of our work, the three IRS functions had not yet evaluated the
              impacts of their initiatives using the measures and goals. In general,
              officials in these functions said the initiatives were too new or used too
              infrequently to have sufficient data for evaluation. These officials told us in
              March 1997 that they have made progress in developing more measures
              and tools to evaluate the impacts of the initiatives on the goals. They said
              they are working with a special task force that is developing measures
              across IRS. These officials said they hope to have sufficient measures by
              the spring of 1998 in order to more fully evaluate the initiatives. Even so,
              they believe that the initiatives have been helping to resolve issues without
              litigation and at reduced time, costs, and burden.

              For example, Chief Counsel officials discussed interim and planned
              measures such as (1) the average lapse time and staff days for completing
              an APA, (2) the impact of the APA on audit cases opened prior to it, (3) the
              quality of taxpayer information received while developing the APA, (4) the
              dollars and number of issues agreed/unagreed for cases with transfer
              pricing issues developed in Examination, (5) taxpayer satisfaction, and
              (6) the dollars spent on expert witnesses for litigations involving transfer
              pricing. Examination officials said they plan to develop a survey to collect
              feedback from their staff and taxpayers and to measure time spent on an
              initiative.


              For almost 70 years, IRS has relied on its Office of Appeals to resolve most
Conclusions   disputes over tax liability that arise after audits in Examination without
              involving Chief Counsel in litigation with the taxpayer. Even so, Appeals’
              resolution of tax disputes with large corporations can take years and
              hundreds of staff hours. Because these three IRS functions have a role in
              the disputes and their resolutions, each function has started initiatives to
              avoid disputes over tax liability or improve the resolution process. Since
              1990, the three functions have started at least eight initiatives, and
              Congress has encouraged federal agencies, including IRS, to use neutral
              third parties in resolving disputes to help reduce the time and costs. One
              of the eight dispute resolution initiatives that IRS has implemented since
              then uses a neutral third party to aid dispute resolution.

              IRS’
                 initiatives generally attempt to reduce the time, costs, and taxpayer
              burden of the dispute resolution process by avoiding disputes or



              Page 15                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                     B-260164




                     improving the existing process. IRS officials believe that their initiatives
                     have partially met these goals. However, IRS functions are not yet able to
                     show whether their initiatives are achieving these goals, partly because
                     many of the performance measures selected by the functions do not
                     directly gauge the impacts of the initiatives on these goals. Some IRS
                     officials have pointed to the difficulties in evaluating whether the
                     initiatives meet their stated goals. They cited problems in collecting
                     reliable data and isolating the impacts for highly complex tax issues that
                     may involve future tax years. These difficulties, while real, do not prevent
                     IRS from developing indicators that more directly measure the impacts of
                     the initiatives on the time, costs, and burden of dispute resolution.

                     IRS officials stated that a special IRS-wide task force is helping the IRS
                     functions to develop measures and an evaluation program for their
                     initiatives and that they believe that they are making progress. They said
                     they hope to have sufficient measures during the spring of 1998 to more
                     fully evaluate the initiatives’ impacts on the stated goals. Such efforts, if
                     successful, would help IRS to determine whether the initiatives worked as
                     intended and how they might be improved or expanded to other tax issues
                     or groups of taxpayers.


                     We recommend that the IRS Commissioner hold the IRS functions
Recommendations      accountable, in conjunction with the special measures task force, for
                     (1) completing the development of performance measures that directly
                     gauge the impacts of the dispute resolution initiatives on their stated goals
                     and (2) setting milestones to measure these impacts. Using these
                     measures, the functions should, after sufficient data are available over a
                     period of time, analyze whether each initiative reduces the time, cost, and
                     taxpayer burden of dispute resolution.


                     We obtained comments on a draft of this report in a meeting on March 17,
Agency Comments      1997, with IRS officials that represented the IRS Commissioner. These
and Our Evaluation   officials included the Assistant Commissioner of Examination and the
                     Director of CEP, the National Deputy Director of Appeals and the Director
                     of the Office of Dispute Resolution and Specialty Programs in Appeals, the
                     Director and Deputy Director of the APA Program in the Office of Associate
                     Chief Counsel (International), and representatives from the Office of
                     Associate Chief Counsel (Domestic) and the Office of Legislative Affairs.




                     Page 16                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




We discussed their comments on our findings, conclusions, and
recommendations as well as comments on technical aspects of the draft
report. We summarize these comments in this section and made technical
changes, where appropriate, in the related parts of the report.

First, in discussing the type of IRS initiatives, IRS officials asked us to
describe other initiatives that fall outside the scope of our work or that
have recently begun. We expanded our objectives, scope, and
methodology section to clarify the rationale for focusing on eight
initiatives and excluding three others—Tax Court Rule 124, Simultaneous
Referral to Appeals and Competent Authority, and IRS Ombudsman. We
describe these and other initiatives that have begun recently in appendix
II.

Second, in discussing the limited usage of the eight initiatives, IRS officials
said IRS plans to expand the pool of eligible taxpayers. These officials also
noted that taxpayers ultimately choose whether to use an initiative. If this
is true, any efforts to increase usage by expanding the eligibility pool
would not address those who are eligible but choose to bypass the
initiatives. We added these comments to the text of the report.

Third, IRS officials stated that they have been working to develop more
measures to evaluate the impacts of the initiatives on the stated goals.
They pointed to the difficulty in developing comprehensive measures and
evaluations, given disputed issues that are highly complex, technical, and
may need to be tracked for a number of years before sufficient data are
available for analysis, particularly for the APA and AIR initiatives. They
believe that they have made progress. They pointed to examples of interim
measures they have been developing and measures they plan to develop
through a special IRS-wide measurement and evaluation task force. They
hoped to have sufficient measures by the spring of 1998 to more fully
evaluate the initiatives’ impacts on the stated goals. They also offered
clarification about some existing goals and measures for mediation and
early referral. We have incorporated these comments and clarifications in
the section of this report dealing with measures and evaluations.

In discussing our conclusions and recommendations, the IRS officials
asked us to more specifically account for the difficulty in developing
measures and evaluations for the initiatives. They said, for example, these
initiatives address very complex issues that often have to be tracked years
into the future before enough data becomes available for an evaluation.
They also asked us to account for their efforts to further develop the



Page 17                             GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




measures. Accordingly, we have reworded our recommendations to
recognize the work of the measurement task force and the time frame
needed to develop sufficient measures. We also have revised our
conclusions to further recognize the difficulty in developing measures for
evaluation.

TEIofficials generally agreed with our description of the IRS efforts to
resolve disputes over tax liability, the appeals mission and process, and
the time to complete this process. TEI noted that its members are satisfied
with the appeals process and the independence of appeals staff,
recognizing that such staff are IRS employees and not neutral third parties.
While TEI favors initiatives to resolve disputes without litigation at reduced
time and costs, TEI did not want any initiative to detract from the historical
role Appeals has played in providing an alternative to costly,
time-consuming litigation. Given these views, TEI agreed with our
recommendation on performance measures, believing that revising the
measures would reflect the importance of dispute resolution techniques
and encourage their use.

In addition, TEI stated that it believed the report could provide a stronger
endorsement of IRS Appeals and IRS’ efforts to develop the initiatives. TEI
also believed that IRS should do more to promote use of the initiatives.
Given the scope and objectives of our work, we did not take positions on
these issues. Although Appeals generally plays a valuable role, we did not
design our study to evaluate Appeals; nor did we evaluate how well IRS
developed the initiatives and whether the initiatives worked well enough
to merit greater usage. TEI also provided technical comments that we have
incorporated in the appropriate sections of the report.


We are sending copies of this report to the Subcommittee’s Ranking
Minority Member, the Chairmen and Ranking Minority Members of the
House Committee on Ways and Means and the Senate Committee on
Finance, various other congressional committees, the Director of the




Page 18                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
B-260164




Office of Management and Budget, the Secretary of the Treasury, and
other interested parties. We also will make the report available to others
upon request. Major contributors to this report are listed in appendix V. If
you or your staff have any questions on this report, please contact me on
(202) 512-9110.

Sincerely yours,




Lynda D. Willis
Director, Tax Policy and Administration Issues




Page 19                            GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Contents



Letter                                                                                                   1


Appendix I                                                                                              22

What Is Alternative
Dispute Resolution?
Appendix II                                                                                             24
                         Other Initiatives to Resolve Tax Liability Disputes and Other                  26
IRS Dispute                Issues
Resolution Initiatives
Appendix III                                                                                            28

Profile Data on
Taxpayers That Have
Used IRS Dispute
Resolution Initiatives
Appendix IV                                                                                             31

Summary of ACUS
Guidance on Program
Evaluation
Appendix V                                                                                              34
                         General Government Division                                                    34
Major Contributors to    Kansas City Regional Office                                                    34
This Report
Tables                   Table 1: IRS’ Evaluation Measures for the Goals of the Initiatives             12
                           by IRS Function
                         Table II.1: IRS Dispute Resolution Initiatives as of March 1996 to             24
                           Resolve IRS and Taxpayer Disputes Over Income Tax Liability
                         Table III.1: Percent of 209 Corporations Using IRS Dispute                     28
                           Resolution Initiatives by Type of Initiative and Category of
                           Industry
                         Table III.2: Assets, Income, and Tax Reported by 209                           29
                           Corporations Using IRS Dispute Resolution Initiatives




                         Page 20                           GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Contents




Table III.3: Tax Credits and Net Operating Loss Deduction                     29
  Claimed by 209 Corporations Using IRS Dispute Resolution
  Initiatives
Table III.4: Tax Credits and Net Operating Loss Deduction                     29
  Claimed by 30 Corporations Using Limited Settlement Authority
Table III.5: Tax Credits and Net Operating Loss Deduction                     30
  Claimed by 47 Corporations Using Accelerated Agreements
Table III.6: Tax Credits and Net Operating Loss Deduction                     30
  Claimed by 22 Corporations Using Early Referrals and Mediation
Table III.7: Tax Credits and Net Operating Loss Deduction                     30
  Claimed by 110 Corporations Having or Seeking APA Agreements




Abbreviations

ACUS       Administrative Conference of the United States
ADR        alternative dispute resolution
AIR        Accelerated Issue Resolution
APA        Advance Pricing Agreement
CSP        Classification Settlement Program
CEP        Coordinated Examination Program
IRS        Internal Revenue Service
SOI        Statistics of Income
TEI        Tax Executives Institute


Page 21                          GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix I

What Is Alternative Dispute Resolution?1


               Alternative dispute resolution, or ADR, is a name for a group of
               problem-solving methods designed to resolve disputes consensually.
               These methods usually involve a neutral individual who works with the
               disputing parties to help them find mutually acceptable solutions. The
               various ADR methods can be viewed as points along a continuum, ranging
               from processes over which the parties have the most control (e.g.,
               conciliation, mediation) to processes over which they have the least
               control (e.g., binding arbitration). Here are some ADR methods:

               Conciliation is the attempt by a neutral individual to reduce tensions and
               improve communications among the parties so they can agree on a
               process for resolving their dispute.

               Facilitation uses a neutral individual to assist the parties in a meeting
               where the established process is used.

               Mediation uses a trained neutral individual to help the parties negotiate a
               mutually agreeable settlement. The mediator has no independent authority
               and does not render a decision or opinion; a decision must be reached by
               the parties themselves.

               Fact Finding is often used in technical disputes. It uses a neutral party
               with subject matter expertise to make findings of fact. This can be useful
               where disagreements about the need for or meaning of data are impeding
               resolution, or where the disputed facts are highly technical and would be
               better resolved by experts. The fact-finder usually prepares a
               report/advisory opinion based on an informal presentation by each party
               and independent research.

               Early Neutral Evaluation uses a neutral individual with substantive
               expertise to evaluate the relative merits of each party’s case. This process
               usually involves an informal presentation to the neutral of the salient
               points of each party’s position. The neutral provides a nonbinding opinion
               that can give the parties a more objective assessment of their positions,
               thereby increasing the chances that further negotiations will be
               productive.

               The Settlement Conference uses a neutral individual, generally a judge
               other than a presiding judge, to serve as a mediator and neutral evaluator
               in a case pending before an agency tribunal. The settlement judge may give

               1
                Federal Administrative Procedure Sourcebook, Administrative Conference of the United States, 2nd
               ed. (Washington, D. C.: 1992), pp. 227-229.



               Page 22                                     GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix I
What Is Alternative Dispute Resolution?1




an informal advisory opinion. If settlement is not reached, the case
continues before the presiding judge.

The Minitrial is a structured settlement process in which each side
presents a highly abbreviated summary of its case before senior
representatives of each party. Following the presentations, the senior
representatives seek to negotiate a settlement. A neutral advisor
sometimes presides over the proceeding, and can mediate or render an
advisory opinion if asked to do so.

The Summary Jury Trial is a structured settlement process in which
each side has a limited time to present its case before a peer jury. The
jury’s verdict is advisory and is used to facilitate negotiations.

Arbitration uses a neutral individual to decide disputed issues after
hearing evidence and arguments from the parties. The arbitrator’s decision
may be binding on the parties either through agreement or operation of
law, or it may be nonbinding or advisory. Arbitration may be voluntary, or
it may be mandatory and the exclusive means available for handling
certain disputes.

Partnering is a process used in contracting to avoid or simplify disputes.
At the start of a project, participants seek to identify common goals and
interests and establish clear lines of communication. The process may
involve a joint workshop, managed by a neutral facilitator, to develop a
team charter; follow-up meetings; and evaluation processes. A partnering
agreement usually includes a commitment by the parties to use ADR to
resolve disputes that arise during a project.




Page 23                                    GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix II

IRS Dispute Resolution Initiatives


                                            Table II.1 presents the dispute resolution initiatives begun by IRS since
                                            1990 that were included in our review. The table presents information on
                                            when the initiative was begun, a brief description, the limits inherent in or
                                            placed on the initiative’s use, and the number of times taxpayers have used
                                            the initiative as of November 30, 1996. Immediately following table II.1 are
                                            brief descriptions of additional IRS initiatives not addressed by this report.


Table II.1: IRS Dispute Resolution Initiatives as of March 1996 to Resolve IRS and Taxpayer Disputes Over Income Tax
Liability
Initiating                                                                                                     Use as of
function           Initiative           Year Initiated    Description                Limits                    November 1996
Appeals          Advance valuation   1996              Permits taxpayers to obtain     Limited to works of art.       2 completed
                 of works of art                       an IRS review of a
                                                       taxpayer’s valuation of a
                                                       work of art before filing a
                                                       return.
                 Mediation           October 1995      Permits taxpayers and           1. CEP cases only after        2 completed
                                                       Appeals to negotiate a          negotiations in Appeals.       5 requests
                                                       settlement assisted by                                         denied
                                                       neutral individuals who         2. Not available for issues    2 in process
                                                       have no authority to impose     designated for litigation,
                                                       a decision.                     docketed cases, or ISP,
                                                                                       ACIP, or Competent
                                                                                       Authority issues.

                                                                                       3. The mediator(s) are
                                                                                       either Appeals employees,
                                                                                       in which case IRS pays the
                                                                                       mediators’ costs, or outside
                                                                                       parties, in which case IRS
                                                                                       and the taxpayer share the
                                                                                       expense.
                 Early referral      March 1994        Allows taxpayers whose          1. CEP cases.                  23a
                                                       returns are being examined
                                                       to request the referral of a    2. Does not apply to issues
                                                       developed, unagreed issue       designated for litigation or
                                                       to Appeals while                for which the taxpayer has
                                                       Examination continues to        or intends to seek
                                                       develop other issues.           Competent Authority
                                                                                       assistance.
                 Early referral of   March 1996        Allows taxpayers whose     Limited to employment tax           2a
                 employment tax                        returns are being examined issues.
                 issues                                to request the referral of
                                                       one or more employment
                                                       tax issues to Appeals.
                                                                                                                            (continued)




                                            Page 24                                  GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                                        Appendix II
                                        IRS Dispute Resolution Initiatives




Initiating                                                                                                                  Use as of
function      Initiative           Year Initiated      Description                        Limits                            November 1996
Counsel       Advance pricing      March 1991          Taxpayers can request an           1. Limited to transfer pricing 74 agreements
              agreements                               agreement on the factual           issues.                        in forcea
                                                       nature of intercompany
                                                       transfers, a transfer pricing      2. $5,000 user fee.
                                                       methodology, and an
                                                       expected range of results
                                                       from the methodology.
                                                       Agreement may be applied
                                                       to prior tax years still in
                                                       dispute.
Examination   Limited settlement   November 1990;      Grants discretionary               1. Limited to CEP.                81
              authority            Rev. 2, March       authority to Examination
                                   1996                case managers to accept            2. The facts must be
                                                       settlement offers where a          substantially similar;
                                                       prior settlement has been          Appeals must have settled
                                                       negotiated by Appeals for          the subject issue on the
                                                       the same issue with the            merits independent of other
                                                       same taxpayer, or of               issues; and legal authority
                                                       another taxpayer who was           must be unchanged.
                                                       directly involved in the
                                                       taxable event.
              Limited settlement March 1996            Grants authority to                Applies to issues                 2
              authority for                            Examination case                   coordinated under the
              coordinated issues                       managers to accept                 Industry and International
                                                       settlement offers with             Field Assistance
                                                       respect to coordinated             Specialization Programs for
                                                       issues within the Industry         which Appeals has
                                                       and International Field            settlement guidelines.
                                                       Assistance Specialization
                                                       Programs on which Appeals
                                                       has coordinated issue
                                                       papers containing
                                                       settlement guidelines or
                                                       positions.
              Accelerated issue    October 1994        Allows district directors, in      1. Limited to CEP.                97
              resolution                               coordination with other IRS
                                                       functions, to execute              2. Not available for issues
                                                       closing agreements with            subject to an APA, issues
                                                       CEP taxpayers that cover           involving employee plans or
                                                       both the tax year under            exempt organizations or
                                                       audit and unaudited tax            partnership items under Tax
                                                       years ending prior to the          Equity & Fiscal
                                                       date of the agreement.             Responsibility Act of 1982,
                                                                                          issues for which resolution
                                                                                          would be contrary to an IRS
                                                                                          position, or issues
                                                                                          designated for litigation.

                                        a
                                          IRS officials provided updated figures as of February 28, 1997, on the use of some initiatives to
                                        resolve disputed issues. They identified 39 disputed issues resolved by early referral and 4
                                        resolved by early referral of employment tax issues. They also said 82 APAs were in force.

                                        Source: IRS.



                                        Page 25                                        GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                        Appendix II
                        IRS Dispute Resolution Initiatives




                        1. Tax Court Rule 124 — In 1990, the Tax Court promulgated Rule 124
Other Initiatives to    allowing voluntary binding arbitration of factual issues under the direction
Resolve Tax Liability   of the Tax Court. Arbitration has not been seriously considered to resolve
Disputes and Other      disputes between taxpayers and the IRS outside of docketed Tax Court
                        status.
Issues
                        2. Although no specific Tax Court mechanism for the use of mediation has
                        been developed, mediation can be used by the parties to resolve a Tax
                        Court case under existing Tax Court authority.

                        3. IRS Taxpayer Ombudsman/Advocate — The Taxpayer Ombudsman was
                        authorized by Congress in 1988 to issue Taxpayer Assistance Orders to
                        stop certain actions to alleviate a hardship faced by a taxpayer. The
                        Ombudsman was replaced by the Taxpayer Advocate, effective July 30,
                        1996. The Taxpayer Advocate has broad authority to require action or to
                        stop an action with respect to a taxpayer.

                        4. Simultaneous Appeals/Competent Authority Procedures — Taxpayers
                        may request competent authority assistance when they believe actions of
                        the United States, a treaty country, or both, will result in taxation that is
                        contrary to treaty provisions. If the request is accepted, the U.S.
                        Competent Authority generally will consult with the appropriate foreign
                        competent authority in an attempt to reach an agreement that is
                        acceptable to all parties. According to the Assistant Commissioner
                        (International), the competent authority process addresses
                        intergovernmental disputes between the United States and treaty nations
                        rather than disputes between the IRS and taxpayers and does not meet the
                        definition of ADR.

                        Revenue Procedure 96-13 established a new competent authority
                        procedure whereby taxpayers may seek simultaneous competent authority
                        assistance and Appeals consideration of the competent authority issue.
                        This procedure coordinates the two processes and is intended to reduce
                        the time required to resolve disputes by allowing taxpayers more proactive
                        involvement. Taxpayers may request simultaneous Appeals/competent
                        authority procedures in four situations: after Examination has proposed
                        an adjustment, after the taxpayer files a protest against the adjustment,
                        after the dispute goes to Appeals, and after a competent authority request
                        has been made.

                        5. Environmental Cleanup Costs — IRS is developing a revenue procedure
                        that will provide special procedures for requesting written guidance on the



                        Page 26                              GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix II
IRS Dispute Resolution Initiatives




tax treatment of environmental cleanup costs incurred over several years.
The procedures will attempt to facilitate resolution of issues involving the
capitalization or deduction of such cleanup costs for prior and future years
of a single environmental cleanup transaction.

6. Classification Settlement Program (CSP) — The Commissioner
announced the CSP on March 5, 1996, to help resolve audit disputes over
the classification of workers as either employees or independent
contractors. Under the CSP, IRS auditors will offer pro forma settlements to
taxpayers under audit using a standard closing agreement developed in the
National Office.




Page 27                              GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix III

Profile Data on Taxpayers That Have Used
IRS Dispute Resolution Initiatives

                                            Based on identifying information provided by IRS, we located 1993 SOI data
                                            for 209 corporations that have used 1 of 6 IRS dispute resolution initiatives
                                            as of June 24, 1996.1 Table III.1 indicates that the largest number of users
                                            by industry are manufacturers. Within IRS’ industry codes, the heaviest
                                            users were banks (15 percent) and chemical companies (12 percent).


Table III.1: Percent of 209 Corporations Using IRS Dispute Resolution Initiatives by Type of Initiative and Category of
Industry
                                                               IRS dispute resolution initiative
                                          Limited
                                       settlement          Accelerated           Early referrals
Industry category                       authority      issue resolution          and mediation                      APA           All initiatives
Construction                                     0%                      0%                      5%                     1%                         1%
Manufacturing                                   50                     53                      55                      48                         50
Transportation and public                       13                     15                        4                      1                          6
utilities
Wholesale trade                                 10                       2                       9                     19                         13
Retail trade                                    13                       6                       4                      2                          5
Finance, insurance, and real                    13                     21                      23                      26                         23
estate
Services                                         0                       2                       0                      3                          2
Total                                           100%                  100%                    100%                   100%                    100%
                                            Source: GAO analysis using IRS data.



                                            As shown below, income varied substantially by industry for the 209
                                            corporations. The average income for all corporations was over $3 billion.
                                            This is not surprising because mostly very large corporations are given the
                                            opportunity to use IRS’ dispute resolution initiatives. The table also shows
                                            that the average taxable income was $443 million and average income tax
                                            paid was $76 million. However, 64 of the corporations (31 percent) had no
                                            taxable income and paid no taxes. Another 52 corporations (25 percent)
                                            paid no taxes on their net income.




                                            1
                                             Does not include taxpayers that requested advance valuation of works of art and limited settlement
                                            authority for coordinated issues. As of the date of our request, only one or two taxpayers had used
                                            these methods.



                                            Page 28                                       GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                                       Appendix III
                                       Profile Data on Taxpayers That Have Used
                                       IRS Dispute Resolution Initiatives




Table III.2: Assets, Income, and Tax
Reported by 209 Corporations Using     Dollars in millions
IRS Dispute Resolution Initiatives                                        Average      Average     Average      Average
                                                                             total         total    taxable      income     Average
                                       IRS initiative                      assets       income      income           tax     net tax
                                       Limited settlement authority           $9,700     $2,100       $247            $86       $77
                                       AIRs                                   23,200      4,700        704            246       112
                                       Early referrals and mediation          56,700     10,200      1,200            435       186
                                       APAs                                    6,900      1,700        207            72         38
                                       All corporations                       16,200      3,300        443            151        76
                                       Source: GAO analysis using IRS data.



                                       The use of tax credits and net operating losses of corporations using IRS
                                       initiatives may explain why many of the corporations paid few taxes. Many
                                       of the corporations claimed tax credits. For instance, 116 of 209 (56
                                       percent) of the corporations claimed credits totaling about $17 billion.
                                       Most of these corporations either had or were seeking APA agreements.

Table III.3: Tax Credits and Net
Operating Loss Deduction Claimed by                                                                           In millions
209 Corporations Using IRS Dispute                                                                                          Average
Resolution Initiatives                                                                  No. of     Total amount             amount
                                       Type of credit                             corporations           claimed            claimed
                                       Foreign tax credit                                    84          $14,700               $175
                                       General business credit                               85                914               11
                                       Alternative minimum tax credit                        31                779               25
                                       Total credits                                        116           16,600                144
                                       Net operating loss deduction                          57               4,200              74
                                       Source: GAO analysis using IRS data.



Table III.4: Tax Credits and Net
Operating Loss Deduction Claimed by                                                                           In millions
30 Corporations Using Limited                                                                                               Average
Settlement Authority                                                                    No. of     Total amount             amount
                                       Type of credit                             corporations           claimed            claimed
                                       Foreign tax credit                                    13               $215              $17
                                       General business credit                                9                 47                5
                                       Alternative minimum tax credit                         8                 82               10
                                       Total credits                                         30                382               17
                                       Net operating loss deduction                          10                148               15
                                       Source: GAO analysis using IRS data.




                                       Page 29                                    GAO/GGD-97-71 IRS Dispute Resolution Initiatives
                                        Appendix III
                                        Profile Data on Taxpayers That Have Used
                                        IRS Dispute Resolution Initiatives




Table III.5: Tax Credits and Net
Operating Loss Deduction Claimed by                                                                     In millions
47 Corporations Using Accelerated                                                                                     Average
Agreements                                                                           No. of    Total amount           amount
                                        Type of credit                         corporations          claimed          claimed
                                        Foreign tax credit                               24           $5,800              $242
                                        General business credit                          26              335            12,900
                                        Alternative minimum tax credit                    7              302                43
                                        Total credits                                    35            6,500               186
                                        Net operating loss deduction                     16              292                18
                                        Source: GAO analysis using IRS data.



Table III.6: Tax Credits and Net
Operating Loss Deduction Claimed by                                                                     In millions
22 Corporations Using Early Referrals                                                                                 Average
and Mediation                                                                        No. of    Total amount           amount
                                        Type of credit                         corporations          claimed          claimed
                                        Foreign tax credit                               13           $5,200              $400
                                        General business credit                          12              406                34
                                        Alternative minimum tax credit                    6              280                47
                                        Total credits                                    14            5,900               421
                                        Net operating loss deduction                     11            3,100               282
                                        Source: GAO analysis using IRS data.



Table III.7: Tax Credits and Net
Operating Loss Deduction Claimed by                                                                     In millions
110 Corporations Having or Seeking                                                                                    Average
APA Agreements                                                                       No. of    Total amount           amount
                                        Type of credit                         corporations          claimed          claimed
                                        Foreign tax credit                               38           $3,500               $92
                                        General business credit                          28              126                 5
                                        Alternative minimum tax credit                   10              116                12
                                        Total credits                                    45            3,700                82
                                        Net operating loss deduction                     20              624                31
                                        Source: GAO analysis using IRS data.




                                        Page 30                                GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix IV

Summary of ACUS Guidance on Program
Evaluation1

               ADR program evaluation is simply a way to determine whether an ADR
              program is meeting its goals and objectives. ACUS recommended
              systematic planning for program evaluation at the time an ADR program
              was set up because this allows agencies to establish data collection
              mechanisms early in the program.

              ACUS guidance outlined three phases to program evaluation: (1) planning;
              (2) design and implementation; and (3) presentation, dissemination, and
              use of results. This summary addresses the planning and
              design/implementation phases.

              For the planning phase, ACUS guidance noted four planning steps:
              (1) determining the evaluation’s goals, (2) identifying the audience(s) and
              their needs, 3) considering issues of timing and expense, and (4) selecting
              an evaluator.

              ACUS guidance stated that the evaluation’s goals should be tied closely to
              the goals of the program being evaluated. Ideally, the agency will have
              established the ADR program’s goals in the program design phase. Although
              terminology differs, evaluations are commonly characterized as either
              “program effectiveness” or “program design and administration”
              evaluations. Program effectiveness evaluations, also known as impact or
              outcome evaluations, focus on whether a program is meeting its goals
              and/or having the desired impact. Program design and administration
              evaluations, also known as process evaluations, examine how well a
              program is operating.

              Usually, a variety of people have an interest in the results of a program
              evaluation. These audiences may be interested in different issues and seek
              different types of information. Potential audiences should be identified
              early and kept in mind in planning the evaluations so that their questions
              will be addressed. For example, program (such as Appeals) officials and
              legal staff may be interested in the ADR program’s impact on case inventory
              and the nature of settlements, how long it takes to resolve cases, and
              whether ADR promotes long-term compliance; budget officers may be
              interested in whether ADR has achieved cost savings; and members of
              Congress may be interested in how the use of ADR affects budgets.

              Evaluation can be undertaken at different times during the life of an ADR
              program. Among the factors to consider are whether the program has been

              1
               Evaluating ADR Programs: A Handbook for Federal Agencies, Administrative Conference of the
              United States, Dispute Systems Design Working Group (Washington, D. C.: 1995).



              Page 31                                    GAO/GGD-97-71 IRS Dispute Resolution Initiatives
    Appendix IV
    Summary of ACUS Guidance on Program
    Evaluation1




    in operation long enough to have sufficient cases available for analysis,
    and whether the program has resolved early implementation problems.
    The agency also needs to (1) identify budget and resource constraints,
    organizational opposition, and operational difficulties; and (2) develop
    strategies for dealing with them. The agency should also consider the
    qualifications of objectivity, experience, technical expertise, and
    understanding the context in which the ADR program operates in selecting
    the evaluator(s).

    For the design and implementation phase, ACUS guidance laid out broad
    steps for an effective ADR program evaluation. These included

•   understanding ADR program design and operation,
•   translating evaluation goals into measurable performance indicators,
•   determining data needs and availability,
•   selecting an appropriate design strategy,
•   deciding how to collect the data,
•   collecting the data, and
•   analyzing and interpreting the data.

    Once the evaluation’s goals have been established, evaluators can select
    appropriate performance indicators. Performance indicators represent the
    questions being asked in the evaluation and serve as the basis for data
    collection and analysis. According to ACUS, measuring all aspects of an ADR
    program is neither easy nor necessary. Some types of data are harder to
    obtain, and some areas of a program are more important than others to
    examine.

    ACUS’ evaluation guidance included a list of performance indicators, which
    it intended as a “sampling” from which agencies could select as they
    formulated ADR program goals and identified measures of program
    effectiveness. For program effectiveness evaluations, the list presented
    indicators under three categories—efficiency, effectiveness, and customer
    satisfaction.

    Indicators of efficiency included measures of cost and time.

    Indicators of effectiveness included measures of dispute outcomes,
    durability of outcomes, and impact on the dispute environment. Suggested
    measures of dispute outcomes include (1) the number of settlements
    achieved through ADR; (2) the number of cases going beyond ADR to
    litigation; (3) the nature of monetary and other outcomes; and (4) the



    Page 32                               GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix IV
Summary of ACUS Guidance on Program
Evaluation1




relationship between outcomes and other factors, such as complexity,
number of issues, or number of disputants. Suggested measures of
durability included (1) rate of compliance with negotiated agreements,
(2) rate of dispute recurrence, and (3) impact on organizational
environment. Suggested measures of impact on dispute environment
included (1) size of case inventory, (2) types of disputes, (3) timing or level
of dispute resolution, (4) management or public perceptions, and
(5) negative impacts.

Indicators of customer satisfaction included measures of participants’
satisfaction with the process, impact on relationships, and participants’
satisfaction with outcomes. Measures of participants’ satisfaction with the
process included perceptions of fairness, appropriateness, usefulness, and
control.

A variety of research designs are available for use in evaluating ADR
programs. Possible design strategies include case studies, time series
analysis, and group comparisons. Evaluation planners should consult
persons with research methodology expertise when selecting a design
strategy.

Once the evaluators determine what to measure, the next consideration is
what data to collect. In a program effectiveness evaluation, evaluators
need to be able to describe the situation without the ADR program
(sometimes referred to as the baseline) to serve as a basis for comparison.
Comparison information is not always easy to obtain, especially if the
agency does not keep ongoing records reflecting the relevant information.
Ideally, evaluators collect comparison data by using a control group. If a
control group is not available, alternatives must be used, although they
may not provide as good a comparison. For example, comparison data can
be collected by looking at the historical period before the ADR program
began.




Page 33                               GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Appendix V

Major Contributors to This Report


                       Tom Short, Assistant Director, Tax Policy and Administration Issues
General Government
Division
                       Royce L. Baker, Tax Issue Area Coordinator
Kansas City Regional   Patricia M. Crown, Evaluator-in-Charge
Office                 James Slaterbeck, Evaluator
                       Thomas N. Bloom, Computer Specialist




(268656)               Page 34                          GAO/GGD-97-71 IRS Dispute Resolution Initiatives
Ordering Information

The first copy of each GAO report and testimony is free.
Additional copies are $2 each. Orders should be sent to the
following address, accompanied by a check or money order
made out to the Superintendent of Documents, when
necessary. VISA and MasterCard credit cards are accepted, also.
Orders for 100 or more copies to be mailed to a single address
are discounted 25 percent.

Orders by mail:

U.S. General Accounting Office
P.O. Box 6015
Gaithersburg, MD 20884-6015

or visit:

Room 1100
700 4th St. NW (corner of 4th and G Sts. NW)
U.S. General Accounting Office
Washington, DC

Orders may also be placed by calling (202) 512-6000
or by using fax number (301) 258-4066, or TDD (301) 413-0006.

Each day, GAO issues a list of newly available reports and
testimony. To receive facsimile copies of the daily list or any
list from the past 30 days, please call (202) 512-6000 using a
touchtone phone. A recorded menu will provide information on
how to obtain these lists.

For information on how to access GAO reports on the INTERNET,
send an e-mail message with "info" in the body to:

info@www.gao.gov

or visit GAO’s World Wide Web Home Page at:

http://www.gao.gov




PRINTED ON    RECYCLED PAPER
United States                       Bulk Rate
General Accounting Office      Postage & Fees Paid
Washington, D.C. 20548-0001           GAO
                                 Permit No. G100
Official Business
Penalty for Private Use $300

Address Correction Requested