oversight

The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved

Published by the Office of the Treasury Inspector General for Tax Administration on 2021-09-02.

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

 TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION




                   The Earned Income Tax Credit Examination
                     Compliance Strategy Can Be Improved


                                          September 2, 2021

                                 Report Number: 2021-30-051




This report has cleared the Treasury Inspector General for Tax Administration disclosure review process and
    information determined to be restricted from public release has been redacted from this document.
                                                                                                 1
                           TIGTACommunications@tigta.treas.gov | www.treasury.gov/tigta
    HIGHLIGHTS: The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved

Final Audit Report issued on September 2, 2021                                 Report Number 2021-30-051

Why TIGTA Did This Audit              What TIGTA Found
This audit was initiated to assess    The EITC is an anti-poverty provision of the tax code that keeps
the current state of the IRS’s        millions of families out of poverty every year. The EITC, however, also
Earned Income Tax Credit (EITC)       accounts for an estimated $27 billion, or 11 percent, of the individual
examination strategy, including       income underreporting Tax Gap and has accounted for almost
whether returns with the highest      31 percent of all IRS audits in the last 10 years. The IRS’s EITC
risks were being selected for         examination strategy is not part of a larger IRS examination strategy
examination, whether additional       that encompasses all examinations by which resources devoted to
efficiencies could be identified in   EITC examinations can be more easily assessed in the context of
the audits that the IRS does          other challenges to taxpayer noncompliance. Also, due to IRS
conduct, and whether                  processing limitations, the IRS does not prioritize certain high-risk
disproportionate audits were being    EITC claims for examination. Lastly, the IRS’s examination rates for
conducted upon EITC claimants in      EITC claims appear disproportionate with respect to certain Southern
certain States.                       States; however, the examinations are aligned with tax returns
                                      flagged by IRS compliance filters.
Impact on Taxpayers
                                      What TIGTA Recommended
The Payment Integrity Information
Act of 2019 and subsequent            TIGTA made four recommendations to the IRS to improve its
legislation strengthened agency       detection and prevention of EITC claims with the highest tax
reporting requirements and            compliance risks. These recommendations include 1) considering
redefined “significant improper       how refundable credits could fit into the IRS’s traditional analysis
payments” in Federal programs.        of how taxpayers’ noncompliance contributes to the Tax Gap,
The Office of Management and          2) evaluating the current programming for prerefund EITC selection
Budget has declared the EITC          to ensure that cases are prioritized, 3) evaluating and revising the
Program a high-risk program that      scoring process to ensure that the highest risk cases are available for
is subject to reporting in the        examination, and 4) tailoring EITC-related educational efforts for the
Department of the Treasury            States with disproportionate error rates.
Agency Financial Report. The IRS
                                      The IRS agreed with three of the four recommendations. The IRS
estimated that 23.5 percent
                                      stated that significant investments in the IRS have been proposed to
($16 billion) of EITC payments
                                      address the Tax Gap, i.e., modernizing information technology,
were issued improperly in Fiscal
                                      improving data analytic approaches, and hiring and training staff
Year 2020. Without proper
                                      dedicated to complex enforcement activities. In addition, the IRS
controls, billions of taxpayer
                                      agreed to evaluate the current EITC programming and scoring
dollars are vulnerable to erroneous
                                      process by submitting a Lean Business Case evaluation to determine
claims and fraudulent tax schemes.
                                      if cases are being properly prioritized and the highest risk cases are
                                      available for examination.
                                      The IRS disagreed with the recommendation to tailor its EITC
                                      educational efforts for the States with disproportionate error rates,
                                      stating it already has extensive outreach and education strategy in
                                      place. However, TIGTA believes that tailoring the IRS’s EITC
                                      educational outreach, in conjunction with audit results or
                                      concentration of filter breaks, would be beneficial and reduce the
                                      disproportionate error rate in certain Southern States.
                                         U.S. DEPARTMENT OF THE TREASURY
                                                  WASHINGTON, D.C. 20220



TREASURY INSPECTOR GENERAL
  FOR TAX ADMINISTRATION



                                           September 2, 2021


MEMORANDUM FOR: COMMISSIONER OF INTERNAL REVENUE



FROM:                        Michael E. McKenney
                             Deputy Inspector General for Audit

SUBJECT:                     Final Audit Report – The Earned Income Tax Credit Examination
                             Compliance Strategy Can Be Improved (Audit # 201930012)

This report presents the results of our review to determine whether the Internal Revenue
Service’s procedures for selecting returns with Earned Income Tax Credit claims for audit are
effective for determining the highest tax compliance risks. This review is part of our Fiscal
Year 2021 Annual Audit Plan and addresses the major management and performance challenge
of Improving Tax Reporting and Payment Compliance.
Management’s complete response to the draft report is included as Appendix VI.
Copies of this report are also being sent to the Internal Revenue Service managers affected by
the report recommendations. If you have any questions, please contact me or Matthew A. Weir,
Assistant Inspector General for Audit (Compliance and Enforcement Operations).
                          The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved




Table of Contents
Background .....................................................................................................................................Page   1


Results of Review .......................................................................................................................Page          5

            The IRS Has Proposed Removing Refundable Tax Credits
            From the Reporting Requirement for Improper Payments ..................................Page 5
            The EITC Examination Strategy Is Not Part of a Larger IRS
            Examination Strategy ..........................................................................................................Page 7
                         Recommendation 1: ................................................................... Page 14

                         Recommendations 2 and 3: ..................................................... Page 15

            Examination Rates Among the States Are Aligned With
            Tax Returns Flagged by Compliance Filters ...............................................................Page 16
                         Recommendation 4: ................................................................... Page 18


Appendices
            Appendix I – Detailed Objective, Scope, and Methodology ................................Page 19
            Appendix II – Wage and Investment Division Refundable Credits
            Program Management’s Refundable Credits Strategy ..........................................Page 21
            Appendix III – Ranking of EITC Claims in the 50 U.S. States ................................Page 26
            Appendix IV – Analysis of EITC Claims and Examinations for
            the 50 U.S. States .................................................................................................................Page 27
            Appendix V – Analysis of EITC DDb Filter Breaks for the 50 U.S. States .........Page 28
            Appendix VI – Management’s Response to the Draft Report .............................Page.29
            Appendix VII – Abbreviations ..........................................................................................Page.36
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved




Background
The Earned Income Tax Credit (EITC) is a refundable credit created in 1975 that was designed to
supplement the income of low- to moderate-income workers and families by providing a credit
intended to help offset payroll taxes. According to the Internal Revenue Service (IRS), the EITC
has become one of the Government’s largest anti-poverty programs for working families. In
2017, it was estimated that the EITC helped 5.7 million people, including 3 million children, out
of poverty. 1 The EITC encourages work, as earned income is a requirement to obtain the EITC,
and generally the amount of the EITC increases with additional earned income up to a certain
income threshold, creating a greater incentive to work. 2
While the EITC makes important contributions to reducing poverty, the EITC program has also
been identified by the Office of Management and Budget (OMB) as a high-risk and high-priority
program due to the high improper payment rate, and as a result, the IRS is required on an
annual basis to determine an improper payment rate based on statistical sampling. 3 The
Payment Integrity Information Act of 2019 4 (which amended earlier improper payment–related
legislation such as the Improper Payments Information Act of 2002, 5 as amended by the
Improper Payments Elimination and Recovery Act of 2010, 6 and the Improper Payments
Elimination and Recovery Improvement Act of 2012 7) increased Federal agencies’ requirements
to report improper payments.
The IRS must develop and submit a corrective action plan to the OMB annually that includes
improper payment root cause identification, reduction targets, and identification of accountable
officials. The IRS estimated that 23.5 percent, or $16 billion, of EITC payments were improperly
paid in Fiscal Year (FY) 2020. 8 The IRS has identified two root causes for improper payments of
the EITC as:
       1) The inability to authenticate eligibility – data needed does not exist. These errors include
          those that arise from the lack of data to verify qualifying child eligibility requirements
          and the accuracy of the income reported by the taxpayer when the income is not also
          reported by third parties, such as an employer.




1
    Center for Disease Control, www.cdc.gov/policy/hst/hi5/taxcredits.
2
  IRS, Publication 596, Earned Income Credit (EIC). Reference to the EITC Tables for Tax Year 2020 reflects that the
credit increases as additional income is earned and then begins to decrease gradually (depending on the number of
qualifying children) starting at earned income levels between $19,350 to $19,400 for taxpayers filing as single, head of
household, or qualifying widow(er) and $25,200 to $25,250 for taxpayers filing as married filing jointly.
3
  An improper payment is one that should not have been made, was made in an incorrect amount, or was made to an
ineligible recipient.
4
    Pub. L. No. 116-117, 134 Stat. 113.
5
    Pub. L. No. 107-300, 116 Stat. 2350.
6
    Pub. L. No. 111-204, 124 Stat. 2224.
7
    Pub. L. No. 112-248, 126 Stat. 2390.
8
    Department of the Treasury, Department of the Treasury Agency Financial Report Fiscal Year 2020 p. 247-248.
                                                                                                               Page 1
                      The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


       2) Program design or structural issues. 9 These errors occur because the information
          needed to confirm accuracy of information reported on the tax return is not available
          when the tax return is processed.
The inability to authenticate eligibility was by far the biggest root cause, making up
approximately 94 percent of total improper payments. 10 These root cause categories were
identified based on the framework the OMB provided in its guidance for implementing
improper payment reporting. However, in the past, the IRS and other stakeholders have
identified other causes for improper payments; prime among them is the complexity of EITC
law. 11
Some members of Congress have expressed concerns that EITC return filers are
disproportionally among the most audited individuals despite being responsible for a small
percentage of the Tax Gap, while other members of Congress have expressed concerns about
the high rate of improper payments (estimated at $16 billion in the Department of the Treasury
Agency Financial Report Fiscal Year 2020). As we subsequently describe in further detail, due to
resource limitations, all IRS examinations have been significantly reduced in recent years,
including EITC audits.

Taxpayer eligibility for the EITC
Pursuant to Internal Revenue Code (I.R.C.) § 32, for EITC eligible taxpayers, the amount of the
credit depends on the taxpayer’s filing status, earned income, adjusted gross income, and
number of qualifying children. In order to receive the EITC, taxpayers must file a Form 1040,
U.S. Individual Income Tax Return, or Form 1040-SR, U.S. Tax Return for Seniors, whether or not
they are required by law and must meet the following requirements:

                                                Eligibility Requirements 12

                           Must have earned income from employment or self-employment.
                           Cannot file Form 2555, Foreign Earned Income.
                           Investment income for the year must be $3,650 or less for Tax Year 2020.
                           For Tax Year 2020, the EITC phases out entirely for taxpayers with an adjusted
          Income           gross income of:
                                 $15,820 with no Qualifying Children ($21,710 if married filing jointly).
                                 $41,756 with one Qualifying Child ($47,646 if married filing jointly).
                                 $47,440 with two Qualifying Children ($53,330 if married filing jointly).
                                 $50,954 with three or more Qualifying Children ($56,844 if married filing
                                  jointly).


9
 Department of the Treasury, Department of the Treasury Agency Financial Report Fiscal Year 2019 p. 205. Program
design or structural errors occur due to information not available at the time the return is processed to confirm
payment accuracy.
10
   Payment Accuracy, Department of the Treasury, Earned Income Tax Credit, 2020 Q4,
https://www.paymentaccuracy.gov/payment-accuracy-high-priority-programs/ (last visited Feb. 8, 2021).
11
   John Koskinen, IRS Commissioner, Improper Payments, Committee on House Oversight and Government Reform
Subcommittee on Government Operations (July 9, 2014). Commissioner Koskinen identified complexity of the law as
the primary cause of EITC errors. He also cited cash payments and a lack of third-party data that would allow the IRS
to authenticate payments as causes.
12
     Eligibility requirements described in this chart are those in effect for Tax Year 2020.
                                                                                                              Page 2
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                          Filing Status cannot be married filing separately.
                          Taxpayer, spouse (if married filing jointly), and any qualifying children claimed must
                          each have a valid Social Security Number.
                          Must be a U.S. citizen or resident alien for the whole year or a nonresident alien
         Filing           married to a U.S. citizen or resident alien and filing a joint return.
      Requirements        Cannot be the qualifying child (for EITC purposes) of another person.
                          If claiming a credit without a qualifying child, the taxpayers must:
                              Be at least 25 but younger than 65 at the end of the tax year.
                              Live in the United States for more than half the year.
                              Not be the dependent of another person.

The American Rescue Plan Act of 2021 made a number of temporary and permanent
amendments to expand the EITC so that more taxpayers could qualify for the credit. 13
Temporary changes for Tax Year 2021 only included expanding the EITC to make it available so
more childless workers and couples qualify for the EITC, e.g.:
       •   Lowered the minimum age to claim the childless EITC from 25 to 19 (except for certain
           full-time students) and eliminated the upper age limit entirely.
       •   Raised the credit percentage from 7.65 percent to 15.30 percent and increased the
           income at which the maximum credit amount is reached to $9,820. As a result, the
           maximum credit increases for taxpayers with no dependents from $538 to $1,502.
       •   Raised the earned income range over which the credit is phased out from $5,280 to
           $11,610.
       •   Childless workers and families with dependents can choose to use their 2019 income to
           figure the EITC as long as it was higher than their 2021 income. In some instances, this
           option will give them a larger credit.
Permanent changes expanding the EITC for 2021 and future years include:
       •   Singles and couples who have Social Security Numbers can claim the credit even if their
           children do not have Social Security Numbers. In this instance, they would get the
           smaller credit available to childless workers. In the past, these filers did not qualify for
           the credit.
       •   More workers and working families who have investment income can get the credit.
           Starting in 2021, the limit on investment income is increased to $10,000. After 2021, the
           $10,000 limit is indexed for inflation. The current limit is $3,650.
       •   Married but separated spouses can choose to be treated as not married for EITC
           purposes. To qualify, the spouse claiming the credit cannot file jointly with the other
           spouse, cannot have the same principal residence as the other spouse for at least
           six months of the year, and must have a qualifying child living with them for more than
           half the year.




13
     Pub. L. No. 117-2.
                                                                                                         Page 3
                   The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


If taxpayers are claiming a qualifying child for EITC purposes, they must attach a Schedule EIC,
Earned Income Credit, to the Form 1040 listing the children. In addition, the qualifying children
need to meet the following requirements:

                                      Qualifying Children Requirements
 Qualifying children for the EITC cannot be used by more than one person to claim the EITC and must
 pass all of the following tests:
        Relationship
          • Son, daughter, stepchild, foster child, or a descendant of any of them (for example,
              taxpayer’s grandchild).
          • Brother, sister, half-brother, half-sister, stepbrother, stepsister, or a descendant of any of
              them (for example, taxpayer’s niece or nephew).
          • Adopted child. The term “adopted child” includes a child who was lawfully placed with the
              taxpayer for legal adoption.
        Joint Return
         The child cannot file a joint return for the tax year unless neither the child nor the child's spouse
         would have had a separate filing requirement and they filed the joint return only to claim a refund
         of withheld or estimated taxes.
         Age A qualifying child must be:
          • Under age 19 at the end of the tax year and younger than the taxpayer (or the taxpayer’s
             spouse if filing jointly);
          • Under age 24 at the end of the tax year, a student, and younger than the taxpayer (or the
             taxpayer’s spouse if filing jointly); or
          • Permanently and totally disabled at any time during the year, regardless of age.
        Residency
         The child generally must have the same main home as the taxpayer (or the taxpayer’s spouse if
         filing a joint return) in the United States for more than half of the tax year.


IRS compliance activities for the EITC
In general, IRS examinations are an important part of the IRS’s overall taxpayer compliance
strategy, in part because examinations have been shown to have ripple effects across tax
compliance. 14 The IRS believes that EITC audits and other refundable credit audits play an
important role in deterring noncompliance with EITC provisions and in protecting revenue. Due
to resource limitations, all IRS audits have been decreasing over recent years. In FY 2019, the
IRS conducted 81,000 fewer EITC examinations than in FY 2018; however, all other IRS audits
also decreased, leaving the percentage of EITC audits to overall audits approximately the same.

IRS education and outreach efforts for the EITC
The IRS has numerous educational and outreach efforts for taxpayers who might qualify for the
EITC but do not claim the EITC and for those who claim the EITC but are not entitled. Each year,
the IRS sponsors an EITC Awareness Day and has also held multiple stakeholder engagement
summits to discuss outreach and communication strategies related to the EITC and refundable
tax credits for the upcoming year. In the summer of 2016, the IRS organized a two-day Summit

14
  National Tax Association, 95th Annual Conference on Taxation, The Impact of the IRS on Voluntary Tax Compliance:
Preliminary Empirical Results (Nov. 14–16, 2002).
                                                                                                           Page 4
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


conference focused on the EITC. In The Earned Income Tax Credit Summit, the IRS indicated
that it wanted input to help improve its administration of the EITC:
           The objective of the Summit is to solicit suggestions for new strategic and tactical
           approaches that will improve EITC administration and increase participation by eligible
           taxpayers. The Service is reaching out to EITC stakeholders in all sectors—tax industry
           professionals, State and Federal agencies, consumer advocates, and non-government
           organizations—to discuss ways to reduce EITC errors, mitigate compliance risks, increase
           participation for eligible EITC populations, and ease taxpayer and government burden. 15
Additionally, after several newspaper articles appeared in tax-related publications asserting that
certain Southern States with disproportionate minority and low-income taxpayers were being
audited at greater rates, we were asked by a member of Congress to consider incorporating
further research into the area in this report.16 This audit was conducted to assess: 1) the current
state of the IRS’s EITC examination strategy, 2) whether additional efficiencies could be
identified in EITC audits that the IRS does conduct, and 3) whether disproportionate audits are
being conducted with respect to certain Southern States and, if so, why.



Results of Review
The IRS Has Proposed Removing Refundable Tax Credits From the Reporting
Requirement for Improper Payments
The Treasury Inspector General for Tax Administration (TIGTA) has performed annual reviews (as
required by law) in order to report on the IRS’s efforts to protect revenue and improve EITC
compliance with a goal to reduce improper payments below 10 percent. Because the OMB has
identified the EITC as being at high risk for improper payments, the IRS is required to report
annually on its efforts to reduce EITC improper payments. However, due to the complexities of
the EITC program, the OMB advised the IRS that the IRS’s reduction target may remain constant
as long as the complexities are clearly explained.
Each year, TIGTA issues a report on the IRS’s refundable credit improper payment rate, including
not just the EITC but also the Additional Child Tax Credit and American Opportunity Tax Credit.
Given the significant amount of EITC payments each year, as well as the relatively high EITC
improper payment rate, and the legislative intent behind the EITC as an anti-poverty measure,
this report focuses only on EITC-related issues. Over the last five years, TIGTA has made many
recommendations to protect revenue and improve EITC compliance, and the IRS has worked
cooperatively to do so, including recommendations, as follows:




15
     Internal Revenue Service, Earned Income Tax Credit Briefing p. 3 (2016).
16
  Paul Kiel and Hannah Fresques, Where in the U.S. Are You Most Likely to Be Audited by the IRS?, April 1, 2019,
https://projects.propublica.org/graphics/eitc-audit. Presenting estimates from Kim M. Bloomquist, Regional Bias in
IRS Audit Selection, Tax Notes Today Federal, March 19, 2019.
                                                                                                             Page 5
                   The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


     •   The IRS should use the erroneous refund penalty (I.R.C. § 6676) more effectively. 17 TIGTA
         previously reported that the IRS was not making use of the erroneous refund penalty,
         which is assessed (unless there was reasonable cause) based on “excessive” refund claims
         (pursuant to I.R.C. § 6676(b), excessive means the denied portion of the refund was
         excessive in relation to the refund to which the taxpayer was entitled).18 The IRS
         reported in its FY 2020 Progress Report on Efforts to Reduce Refundable Credit Errors
         that it has ongoing compliance efforts to reduce improper payments by proposing
         return preparer penalties for failure to exercise due diligence. The IRS stated that, for the
         2021 Filing Season, the Wage and Investment (W&I) Division implemented the I.R.C.
         § 6676 penalty, which is being applied to specific populations with repeat or potentially
         egregious filing behavior.
     •   The majority of taxpayers who are recertified are not verified by the IRS. 19 TIGTA
         previously reported that the IRS was not verifying the majority of EITC claims by
         taxpayers whose previous EITC was denied. 20 TIGTA recommended that the IRS ensure
         that a systemic process is implemented to set the recertification indicator on taxpayers’
         accounts when refundable credit claims are disallowed as part of the IRS’s Automated
         Questionable Credit program, and the IRS agreed.
     •   Bans were not being used effectively to address refundable tax credit noncompliance
         and ensure efficient use of limited examination resources. TIGTA recommended that the
         IRS make more effective use of the two-year bans from claiming the EITC for those
         taxpayers who claimed and were denied the EITC (as well as the Additional Child Tax
         Credit or the American Opportunity Tax Credit) for reckless or intentional disregard. 21
         The IRS reported in its FY 2020 Progress Report on Efforts to Reduce Refundable Credit
         Errors that it has ongoing compliance efforts to impose the bans in appropriate cases.
         The IRS stated that, in February 2021, the W&I Division Campus Exam function expanded




17
  The Small Business and Work Opportunity Tax Act of 2007 (Pub. L. No. 110-28, §§ 8201-8248) provides the IRS with
the ability to assess the erroneous claim for refund or credit penalty (referred to as the erroneous refund penalty).
18
  TIGTA, Report No. 2020-40-025, Improper Payment Reporting Has Improved; However, There Have Been No
Significant Reductions to the Billions of Dollars of Improper Payments p. 7 (Apr. 2020). TIGTA found that, for Tax
Years 2015, 2016, and 2017, the IRS disallowed more than $1.7 billion in refundable tax credit claims but did not
assess more than $341 million in erroneous refund penalties.
19
  I.R.C. § 32(k)(2) requires individuals whose EITC claim has been reduced or disallowed to recertify their eligibility
before they can receive the credit again.
20
  TIGTA, Report No. 2020-40-008, Authorities Provided in the Internal Revenue Code Are Not Effectively Used to
Address Erroneous Refundable Credit and Withholding Credit Claims (Feb. 2020). TIGTA identified
289,059 (93 percent) returns for which the IRS did not verify the taxpayers’ eligibility before recertifying them to
receive a refundable tax credit. These taxpayers received more than $532 million in refundable tax credits. IRS
management stated that, to determine whether a taxpayer is eligible to again claim a tax credit after it was disallowed
on a prior tax return, an audit must be conducted. Moreover, the absence of an audit does not mean that the
taxpayers were not entitled to claim the credit. TIGTA’s review identified 311,883 tax returns for which the taxpayers’
tax accounts had a recertification indicator that either were processed during Calendar Year 2018 (as of July 31, 2018)
or had an examination that was closed during FY 2018.
21
  TIGTA, Report No. 2020-40-008, Authorities Provided by the Internal Revenue Code Are Not Effectively Used to
Address Erroneous Refundable Credit and Withholding Credit Claims p. 15 (Feb. 2020). TIGTA identified
3,934 taxpayers who were allowed to claim more than $12.9 million in credits despite having the same credit
disallowed in the two prior tax years (Tax Years 2015 and 2016).
                                                                                                                   Page 6
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


           assertion of the two-year ban by implementing systemic assertion of the ban for the
           Additional Child Tax Credit.
Other efforts have been made by the IRS to reduce improper payments. For example, the IRS
implemented a Return Preparer Strategy conducted in coordination with the Small Business/
Self-Employed Division that conducts due diligence visits and issues compliance letters to tax
return preparers with a history of unsupported EITC claims as well as other claims.
Notwithstanding the IRS’s efforts to address EITC noncompliance, the rate of EITC improper
payments has remained consistently high (although each year the IRS is able to protect
significant amounts of revenue through its compliance efforts). Figure 1 shows the IRS’s EITC
improper payment rates and amounts for FYs 2018 through 2020.
                   Figure 1: EITC Improper Payments for FYs 2018 Through 2020

                                                        FY 2018           FY 2019           FY 2020

               Total Improper Payment Amount         $73.6 Billion      $68.7 Billion     $68.2 Billion
               EITC Improper Payment Rate                25.1%             25.3%             23.5%
               EITC Improper Payment Amount          $18.4 Billion      $17.4 Billion     $16.0 Billion
              Source: Department of the Treasury Agency Financial Report for FYs 2018
              through 2020.

The Department of the Treasury and the IRS believe refundable credits should not be
treated as improper payments
In their Business Case to Eliminate Redundant Reporting of Refundable Tax Credits, dated
October 30, 2020, the Department of the Treasury (hereafter referred to as Treasury
Department) and the IRS informed the OMB that the tax system is primarily a collection system
and not a payment program. The Treasury Department and the IRS contend that refundable tax
credits do not meet the definition of payments in the traditional sense and, therefore, should be
reported only under the Tax Gap framework that comprehensively assesses the tax collection
system. On December 1, 2020, officials at the Treasury Department and the IRS met with OMB
officials to further discuss the business case and request that erroneous claims for refundable
tax credits no longer be reported under improper payment requirements. The Treasury
Department and the IRS reported in the Department of the Treasury Agency Financial Report
Fiscal Year 2020 that the necessary compliance dollars to reach an improper payment rate goal
of 10 percent is impractical and would deprive the IRS of resources necessary to pursue larger
components of the Tax Gap. 22 The OMB has not decided whether to grant this request.


The EITC Examination Strategy Is Not Part of a Larger IRS Examination
Strategy
To better understand the IRS’s EITC examination strategy, we asked IRS officials whether the
EITC and other refundable credit examination strategies are part of a larger IRS examination
strategy or plan that assesses the entire tax noncompliance risk when selecting EITC claims for
examination. We were told that there is no overarching IRS examination plan that includes the

22
     Department of the Treasury, Department of the Treasury Agency Financial Report Fiscal Year 2020 p. 248.
                                                                                                               Page 7
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


EITC. The IRS does not have a larger examination plan at its Deputy Commissioner for Services
and Enforcement level. Examination planning is performed in each of the divisions that conduct
examinations (i.e., Large Business and International Division, Small Business/Self-Employed
Division, Tax Exempt and Government Entities Division, and W&I Division,). The EITC
examination strategy is part of the W&I Division’s Refundable Credits Strategy and is not part of
a larger integrated IRS examination strategy or plan.
After learning that the EITC strategy is not part of a larger IRS examination plan at the IRS’s
Deputy Commissioner for Services and Enforcement level, we asked W&I Division officials for an
explanation of their EITC examination strategy and whether there was a single document or
series of documents that reflect what constitutes the W&I Division’s EITC compliance strategy.
We were provided a five-page, high-level PowerPoint document (attached as Appendix II) titled
Refundable Credits Strategy. The document addresses six general strategic goals as well as
four primary goals. 23 One of the primary goals is compliance, which includes a number of
different programs, including audits of tax returns and amended returns that claim refundable
credits. 24 Audits of EITC claims generally comprise 75 to 78 percent of all W&I Division audits.
W&I Division officials explained that the size of EITC noncompliance and the need to reduce
improper payments warrant this predominate percentage of their audit work devoted to EITC
audits.
The majority of W&I Division’s work is correspondence examinations related to EITC claims. The
W&I Division meets throughout the year to discuss EITC strategies and develop plans to work
examinations for the upcoming year. W&I Division leadership communicates those plans to the
Deputy Commissioner for Services and Enforcement. In developing the EITC workplan, W&I
Division officials determine a total closure target for W&I Division examinations based on the
available resources of full-time equivalents. This target is divided between EITC and non-EITC
work based on resources, work available, and coverage. This percentage is usually around 75 to
78 percent for the EITC and 22 to 25 percent for non-EITC. 25 The IRS has a number of
compliance tools to utilize in its EITC workplan, such as: math error authority, recertification,
two- and 10-year bans, Dependent Database (DDb) (pre and post-refund), pick-ups, Schedule C
EITC, Questionable Refund Program (QRP), and Duplicate Taxpayer Identification Number
(DUPTIN). 26


23
  The listed strategic goals are empower taxpayers, protect the tax system, collaborate with partners, cultivate our
workforce, advance data and analytics, and drive efficient operations. The listed primary goals are education,
outreach, compliance, and administration.
24
   The other compliance programs include math error notices, document matching, Return Preparer Strategy, due
diligence visits to tax preparers, and an audit improvement team.
25
     EITC examinations may also include review of the Child Tax Credit.
26
   Recertification inventory consists of taxpayers claiming the EITC after being disallowed under examination in a prior
year. The IRS is authorized pursuant to I.R.C. § 32(k)(1)(B)(i)–(ii) to ban taxpayers from claiming the EITC for 10 years if
it determines during an audit that they claimed the credit improperly due to fraud or ban taxpayers from claiming the
EITC for two years if it is determined that the claim was due to reckless or intentional disregard of the rules. The DDb
is a rules-based selection application designed to identify potentially ineligible tax returns claiming the EITC and other
refundable credits. The DDb filters tax returns and applies a set of business rules to identify and select the most
productive returns for examination. The Pick-Up Program consists of returns selected for audit when the prior year
audit is still open at the time a subsequent return is filed while meeting specific IRS filtering criteria. The QRP consists
of individuals filing false returns claiming questionable income or withholding (false or inflated). Cases with the EITC
in addition to the false/inflated income or withholding will be referred to Examination. The DUPTIN program consists
of claims in which the same qualifying child has been used to claim the EITC on multiple returns.
                                                                                                                   Page 8
                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


W&I Division Examination uses the Exam Planning Scenario Tool to develop the workplan. The
Exam Planning Scenario Tool uses historical data, which include no-change, agreement, default,
and response rates, to help determine the volumes to be worked in each category based on the
available inventory.
Figure 2 shows that the EITC remains an overall productive audit issue for the IRS.
                        Figure 2: EITC Examination Results in the W&I Division

                                            FY 2017                  FY 2018                    FY 2019

            Returns Examined                326,197                  329,937                    256,513

         Total Dollars Assessed 27     $1,544,386,447           $1,503,968,805              $1,105,729,992
        Average Hours per Return              1.3                       1.3                        1.6
        Average Dollars per Hour            $3,696                   $3,577                      $2,774
        Average Dollars Assessed
               per Return                   $4,735                   $4,558                      $4,311
             No-Change Rate                   9.7%                    10.4%                      13.3%
      Source: IRS W&I Division statistics of EITC closures for FYs 2017 through 2019.
Due to resource restraints, EITC examinations continued to decline in FY 2020; only 157,490 EITC
audits were conducted. As Figure 2 shows, EITC examinations are productive in that relatively
little time is spent on the exams with significant adjustments identified within that time frame.
These examinations are generally correspondence examinations conducted by tax examiners
and are considered to be relatively low complexity. Most of these examinations are conducted
on a prerefund basis, i.e., before the credits are paid out to the taxpayers.
As such, the resources dedicated to EITC audits are not currently considered as part of a larger
integrated framework together with the other compliance risks that make up the Tax Gap. As
the IRS reported in the Department of the Treasury Agency Financial Report Fiscal Year 2020, the
most recent annual gross Tax Gap estimate is $441 billion ($381 billion, after enforcement
efforts and other late payments, is referred to as the net Tax Gap). The largest portion of the net
Tax Gap is due to underreporting by individual taxpayers and is estimated to be $245 billion.
The EITC makes up about $27 billion, 28 or about 11 percent, of the individual taxpayers’ share of
the underreporting component of the Tax Gap, and according to IRS Statistics of Income data,
on average over the past 10 years, EITC examinations accounted for almost 31 percent of all IRS
audits. 29 However, during our review, we found that the IRS is not always selecting the most
productive cases for examination.




27
     This represents total dollars assessed during the examination, which may include other non-EITC adjustments.
28
   Department of the Treasury, Department of the Treasury Agency Financial Report p. 193 (2020). This amount
reflects the IRS’s estimate for the portion of the Individual Income Tax Underreporting Tax Gap for Tax Years 2011
through 2013 attributed to the EITC. TIGTA has previously reported the IRS’s estimate of improper payment amount
for the EITC to be $16 billion for FY 2020 in TIGTA Report No. 2021-40-036, Improper Payment Rates for Refundable
Tax Credits Remain High p. 3 (May 2021). This reflects EITC payments that should not have been made, were made in
an incorrect amount, or were made to an ineligible recipient.
29
     Tax Gap estimates are cited from IRS Publication 1415, Federal Tax Compliance Research: Tax Gap Estimates for
Tax Years 2011–2013 (Rev. 9-2019).
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               The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


The IRS’s current programming does not prioritize certain high-risk EITC claims
The IRS selects approximately 85 percent of all EITC examinations from tax returns identified
through DDb or QRP compliance filters. The majority of EITC examinations are completed
before the refund is issued, i.e., prerefund examinations. The IRS also audits a limited number of
tax returns claiming the EITC after the refund is already paid (post-refund examinations), i.e.,
client preparer and DUPTINs claiming the EITC.
When a return claiming the EITC is filed, the tax return is screened with both QRP and DDb
compliance filters at the same time. DDb and QRP filters are designed to identify different types
of risks on a tax return.
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Depending on the filtering rules that a tax return breaks, the return can end up in either the QRP
or DDb prerefund selection pool. If the tax return is identified by both QRP and DDb filters, the
DDb scoring is not considered for prerefund examination, and the tax return will remain in the
QRP population of potential cases for selection. Figure 3 shows that tax returns are evaluated
independently for prerefund examination. If a tax return is not selected for a prerefund
examination through its respective system, the tax return is processed and could be selected for
a post-refund examination.




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                The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                               Figure 3: EITC Return Processing
                            and Correction for the DDb and the QRP
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           Source: TIGTA’s analysis of IRS procedures and processing for DDb and QRP
           correction streams.
IRS management noted that cases flagged by both QRP and DDb compliance filters are
generally expected to be more productive, i.e., cases result in higher assessments when
compared to cases flagged by QRP filters alone. However, the IRS stated that the verification of
the income process in the QRP selection pool may take several months, making it difficult to
merge these two processes. Although refunds for these returns are frozen and prevented from
issuance when flagged, *****************************2********************************************
******************************************************2**********************************************
*******2******* The IRS states that all returns in the QRP pool meeting selection criteria may be
referred to Examination based on the order in which returns are filed. ***********2*********
******************************************************2**********************************************
**********2******** Therefore, the current process is not designed to allow the IRS to weigh the
risk of returns identified in both the QRP and DDb workstreams to prioritize the most productive
QRP cases for examination.



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                   The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


Our review of cases flagged by both the QRP and the DDb in FY 2019 identified 21,589 tax
returns that were identified by both systems but not ultimately selected for prerefund
examination because they were not selected for examination through the QRP system.
Therefore, these 21,589 tax returns were identified as problematic by two separate systems of
compliance filters but were not selected for examination before the refund was issued. Figure 4
shows that we analyzed the population of QRP audits closed during FYs 2017 through 2019 and
determined that cases which broke both QRP and DDb filtering criteria were more productive
than QRP returns that did not break any DDb filtering rules.
                           Figure 4: Analysis of QRP Examination Results

                     QRP Audits With No DDb Filter Breaks               QRP Audits With DDb Filter Breaks
     Examination
        by FY                                Average Audit                                     Average Audit
                   QRP Audits Closed          Assessment            QRP Audits Closed           Assessment

        2017             3,592                  $2,993                    2,233                   $3,733
        2018            18,084                  $4,697                   16,078                   $5,329
        2019            29,373                  $3,768                   35,239                   $4,872
Source: TIGTA’s analysis of the Audit Information Management System and the DDb for QRP
examinations.
As mentioned previously, the IRS’s goal is to select the most productive and highest risk EITC
returns for examination. All returns screened for QRP and DDb examination consideration that
break a DDb filter rule will receive a DDb risk score. IRS management agreed that prioritizing
cases with both QRP and DDb filter rule breaks would be more productive; ********2***********
*********************************************2*******************************************************
**********************2************************** Additional programming would be needed to
allow *****2************ that could be used during the selection process.
Recently, the IRS has taken steps to address part of this issue by creating a test process for cases
that were identified in both workstreams, the QRP and the DDb, to be matched for examination
consideration. The IRS made programming additions to track the cycle of returns breaking QRP
and DDb filtering rules for further analysis. Depending on the results of that analysis, the IRS
intends to incorporate programming changes, starting in FY 2022, ************2***********
*****************************************************2***********************************************
*******************2******************************** Additionally, starting in February 2019, the
IRS implemented and tested programming to address certain totally fraudulent income or
withholding cases through the Automated Questionable Credit program, reducing the burden
on Examination. 30 Although the IRS has taken steps to address part of this problem, additional
programming and prioritization of the cases with both QRP and DDb issues is essential to
ensure that the IRS is working the most productive cases.




30
  The Automated Questionable Credit program is for certain types of workstreams that do not meet the traditional
examination workload. Letters are issued to taxpayers proposing tax assessments. If taxpayers do not respond, the
IRS will make an immediate adjustment reflecting the claim disallowance/assessment.
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                  The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


Multiple taxpayers are using the same dependent Taxpayer Identification Numbers (TIN)
to claim the EITC, and some have been doing so for numerous years without correction
Our review of EITC claims filed during Processing Years (PY) 2017 through 2019 identified
616,444 individuals who received nearly $2 billion in potentially erroneous EITCs by using a
dependent TIN used by other taxpayers for the same purpose. These taxpayers’ returns were
not corrected or selected for examination by the IRS. Figure 5 shows the number of EITC claims
made during PYs 2017 through 2019 using a DUPTIN that were allowed.
                              Figure 5: PYs 2017 Through 2019 DUPTINs
                               Identified and Not Corrected or Examined

                                        Number of EITC Claims            Total Amount of
                            PY
                                          Using a DUPTIN                the EITC Claimed

                          2017                 196,726                   $634,895,369
                          2018                 218,588                   $706,829,890
                          2019                 201,130                   $657,584,413
                           Total               616,444                 $1,999,309,672
                     Source: TIGTA’s analysis of the Individual Return Transaction File,
                     Individual Master File, and Audit Information Management System
                     databases.
The IRS has implemented processes to identify and prevent revenue loss and to change taxpayer
behavior resulting from multiple uses of dependent TINs. This process starts with the IRS’s
maintenance of the DUPTIN database, where information on duplicate uses of a dependent’s
TIN are stored for review. 31 Using information from the DUPTIN database, the IRS has
developed correction streams to address these instances, which include:
     •   Issuance of soft notices. 32
     •   Prerefund DDb DUPTIN filtering for potential DDb examination.
     •   Annual post-refund DUPTIN review for potential examination.
Figure 6 shows the number of DUPTINs identified in the different correction streams for
PYs 2017 through 2019.




31
  The DUPTIN database contains information on duplicate uses of an individual’s TIN. It includes a record of how
each Social Security Number was used on a Form 1040 return.
32
  A soft notice is sent for information purposes only to inform the taxpayer they may have claimed one of several tax
benefits in error.
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                The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                          Figure 6: PYs 2017 Through 2019 DUPTINs
                         Identified in the Different Correction Streams

               Number of DDb Filter     Number of Soft                                  Number of
        PY      Breaks Identified       Notices Issued      Number of Prerefund        Post-Refund
                 With a DUPTIN           for a DUPTIN         DUPTIN Audits           DUPTIN Audits

    2017             330,494               135,792                 4,821                 13,941
    2018             311,850               128,887                 2,708                       0
    2019             335,058               121,989                 1,377                  8,050
Source: IRS DUPTIN statistics for PYs 2017 through 2019.
However, the IRS’s DUPTIN correction streams do not prevent taxpayers from engaging in the
same behavior in subsequent years. While the IRS DUPTIN correction streams intend to
discourage taxpayers from claiming erroneous EITCs using a DUPTIN, our analysis determined
that current IRS controls in place may not be preventing some taxpayers from continuing
these erroneous claims. Of the 616,444 unique taxpayers identified for PYs 2017 through 2019
whose claim using DUPTINs was not corrected or selected for examination, 75,645 (12 percent)
taxpayers continued to use a DUPTIN for multiple years to claim the EITC without correction.
    •    62,355 taxpayers claimed a DUPTIN for at least two consecutive years.
    •    13,290 taxpayers claimed a DUPTIN for at least three consecutive years.
The IRS tracks DUPTIN repeaters for two years; however, there is no additional weight for
examination selection placed on repeaters. We believe DUPTINs filed in multiple years pose a
high risk, and the IRS should prioritize these cases in the selection process by weighting repeater
DUPTIN returns higher to increase the chance of selection.

Recommendation 1: The Deputy Commissioner for Services and Enforcement and related
examination planning and research staff should consider how refundable credits, including the
EITC, would be examined to a different extent if the claims are considered for compliance
purposes closer to the proportion that they contribute to the Tax Gap.
         Management’s Response: The IRS agreed with this recommendation. IRS management
         stated that examinations are a critical piece of their compliance efforts to help ensure
         fairness in the tax system. Significant investments in the IRS have been proposed to
         address the Tax Gap. This includes a sustained, multiyear commitment that provides
         certain funding to make investments in modernizing information technology, improving
         data analytic approaches, and hiring and training staff dedicated to complex
         enforcement activities, like large corporations; large, multitiered partnerships; and
         high-wealth/high-income individuals. The IRS stated that it is developing plans to hire
         and train employees in these complex enforcement activities as well as increasing audit
         coverage in these areas. At the same time, the IRS stated that its plan will also include
         increasing the coverage achieved in recent years across all areas of noncompliance and
         income distribution among the filing population. However, the IRS stated that the
         funding appropriations for FY 2022 and beyond are unknown, as are the resources that
         will be available to address all aspects of the Tax Gap.




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                  The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


The Commissioner, W&I Division, should:

Recommendation 2: Evaluate the current programming for the prerefund selection process to
ensure that cases identified by both QRP and DDb selection pools are prioritized for DDb
prerefund selection.
         Management’s Response: The IRS agreed with this recommendation. IRS management
         stated that they would review the potential programming needed to identify QRP
         referrals with DDb rule breaks and submit a request for a Lean Business Case evaluation,
         as appropriate. 33 However, the IRS stated that all programming updates are subject to
         limited resources, budgetary constraints, and competing priorities.

Recommendation 3: Evaluate and revise the scoring process to ensure that the cases with the
highest risk are scored as such. This process should include adding weight to cases with higher
QRP and DDb scores and DUPTIN repeaters.
         Management’s Response: The IRS agreed with this recommendation. IRS management
         stated they would review the requirements to determine if any additional changes could
         be made to the audit populations. DUPTIN returns are primarily worked as post-refund
         audits, not prerefund audits, and some of the duplicates may be taxpayers who are
         entitled to the refundable credit. In addition, the IRS stated that QRP returns cannot be
         scored for audit selections. *************2*******************************************
         *******************************************2*************************************************
         *******************************************2*************************************************
         *******************************************2*************************************************
         *******************************************2*************************************************
         *******************************************2*************************************************
         *******************************************2****************************. IRS management
         stated that they will review the potential programming needed to identify QRP referrals
         with DDb rule breaks and submit a request for a Lean Business Case evaluation for
         applicable programming updates. However, the IRS stated that all programming
         updates are subject to limited resources, budgetary constraints, and competing priorities.




33
  A Lean Business Case is used in the prioritization of digital capable services. When changes are desired for a
system, a Lean Business Case evaluation is completed to prioritize the requested changes and allocate the resources
needed for implementation of approved changes.
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                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


Examination Rates Among the States Are Aligned With Tax Returns Flagged by
Compliance Filters
We were asked by U.S. Representative Charlie Crist to assess whether there is a disproportionate
number of IRS audits in certain Southern States with a disproportionate percentage of EITC
audits. Similar concerns about this issue have been expressed in the past.34 On April 10, 2019,
during a hearing before the Committee on Finance, members of Congress expressed concern
that certain Southern States were being disproportionately audited.35
Our analysis of the IRS’s examinations of EITC claims shows that its audit selection process
appears disproportionate with respect to certain Southern States. However, the IRS’s audit
selection process focuses on areas where there appear to be the most errors based on the IRS’s
compliance filters, and there are more indications of noncompliance in these States. In PY 2019,
the IRS received 25,972,193 claims for the EITC in the 50 U.S. States.36 The percentage of claims
examined from each State ranged from 2.5 percent to 0.31 percent.37 Our review of the number
of examinations completed in each State found that some States had a higher percentage of tax
returns with EITC selected for examination. For example, Figure 7 identifies the 10 States that
had the highest percentage of EITC claims examined compared to the respective percentage of
claims in those States. Figure 7 shows that the top States with the highest percentage of EITC
claims examined did not always rank as the States with the highest percentage of overall claims
filed.




34
   For example, in 1998, Congressman Bob Etheridge of North Carolina made the following statement, following the
issuance of a GAO report:
    The GAO reports that 47 percent of the random tax audits during the past 3 years were in 11 Southern states
    that represent only 29 percent of the population. More than 85 percent of those audits had incomes of less
    than $25,000, many of whom depend upon the Earned Income Tax Credit for our working poor. Why should
    an individual be three times more likely to be audited in North Carolina than in the State of Massachusetts?
    North Carolinians are honest people. Why should they be subjected to this kind of treatment? As a former
    small businessman and a Southern taxpayer, I am outraged at this report and call for immediate action to
    reform the IRS. 144 Cong. Rec. H761-03, Proceedings and Debates of the 105th Congress, Second Session,
    Reform the IRS, March 4, 1998.
35
   The 2019 Tax Filing Season and the 21st-Century IRS, Hearing before the Committee on Finance United States
Senate, 116 Cong. (Apr. 10, 2019) (Statement of Hon. Michael F Bennet).
36
     See Appendix III for the ranking and total number of EITC claims listed for the 50 U.S. States.
37
     See Appendix IV for the ranking and total EITC examinations compared to EITC claims for the 50 U.S. States.
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                     The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                             Figure 7: Analysis of EITC Claims and Examinations
 Ranking of EITC
                                                                                   Percentage of          Ranking of
  Examinations                         Number of           Number of EITC
                          State                                                     EITC Claims          Overall EITC
  Compared to                          EITC Claims          Examinations
                                                                                     Examined            Claims Filed
     Claims
              1            MS             363,784                9,081                 2.50%                    24
              2            LA             499,644               11,236                 2.25%                    16
              3            AL             479,490               10,201                 2.13%                    18
              4              GA         1,065,401               17,401                 1.63%                     5
              5              TN           615,528                8,788                 1.43%                    11
              6              SC           475,935                5,540                 1.16%                    19
              7              NC           909,445               10,449                 1.15%                     7
              8              TX         2,655,273               27,859                 1.05%                     2
              9              AR           287,705                2,998                 1.04%                    29
           10                NV           260,139                2,698                 1.04%                    31
Source: TIGTA’s analysis of PY 2019 claims and FY 2019 examinations using the Individual Return
Transaction File, Individual Master File, and Audit Information Management System databases.
However, the percentage of examinations in each State corresponded with the number of tax
returns flagged by the IRS’s filters in each State. Figure 8 shows that the top States with the
highest percentage of examinations also ranked at or near the top of all States in percentage of
filter rule breaks.38
                    Figure 8: Analysis of EITC Examinations and DDb Filter Breaks
  Ranking of
                                                       Percentage                        Percentage of
     EITC                                                               Number of                           Ranking of
                                  Number of EITC         of EITC                          EITC Claims
 Examinations          State                                             EITC DDb                           DDb Filter
                                   Examinations          Claims                            With DDb
 Compared to                                                           Filter Breaks                         Breaks
                                                        Examined                         Filter Breaks
    Claims
       1                MS             9,081             2.50%            14,094             3.87%                   1
          2             LA            11,236             2.25%            18,281             3.66%                   2
          3             AL            10,201             2.13%            14,235             2.97%                   3
          4             GA            17,401             1.63%            28,799             2.70%                   4
          5             TN             8,788             1.43%            14,387             2.34%                   7
          6             SC             5,540             1.16%            11,835             2.49%                   5
          7             NC            10,449             1.15%            20,584             2.26%                   8
          8             TX            27,859             1.05%            55,133             2.08%               10
          9             AR             2,998             1.04%             6,993             2.43%                   6
         10             NV             2,698             1.04%             5,223             2.01%               13
Source: TIGTA’s analysis of FY 2019 examinations using the Individual Return Transaction File, Individual
Master File, and Audit Information Management System databases along with IRS-provided counts of
DDb filter breaks.
The IRS conducts correspondence audits nationwide at different IRS campuses. A taxpayer’s
geographic location is not a factor in selecting an EITC return for audit. As previously noted, the
EITC examination inventory is primarily selected systemically using risk-based scoring criteria



38
     See Appendix V for the ranking and total number of DDb EITC filter breaks listed for the 50 U.S. States.
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               The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


from the DDb and the QRP. Tax returns with potentially erroneous EITC claims are flagged and
placed in the IRS’s inventory.
According to IRS management, the examination selection criteria are not based on geographic
location. However, EITC claims from some States break exam filtering rules and meet exam
selection criteria at a greater rate. Additionally, the IRS does not use examination results or
concentration of these filtering rule breaks in its strategies for targeting EITC educational and
outreach efforts. Although the IRS has completed limited research to review variances in
geographic locations, IRS management noted that they could complete a more in-depth review
to better understand why some States have a larger number of tax returns with EITC claims
flagged for review. This type of analysis could provide additional insight to identify the reasons
for these variances and develop strategies to mitigate noncompliance.
It is clear, however, that the IRS’s audit selection methodology results in more EITC audits in
certain Southern States, whose populations may be disproportionately low-income and minority.
Additionally, enhancing EITC educational campaigns may be warranted in areas that tend to be
audited more often due to apparent noncompliance.

Recommendation 4: The Commissioner, W&I Division, should tailor EITC-related educational
efforts for the States with disproportionate error rates.
       Management’s Response: The IRS disagreed with this recommendation. IRS
       management stated that they already have an extensive outreach and education strategy
       in place tailored to reach EITC taxpayers in all communities, including those who may be
       potentially eligible but do not currently claim the credit. IRS management stated that
       they would continue to include all communities in their outreach areas.
               Office of Audit Comment: Although the IRS states that all communities are
               included in their outreach areas, the disproportionately higher error rate in
               certain Southern States indicates that the current outreach is not working in these
               States. Without targeted outreach, based on examination results or
               concentration of filter rule breaks, disproportionate error rates will continue in
               these areas.




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               The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                                                                                     Appendix I
                 Detailed Objective, Scope, and Methodology
The overall objective of this review was to determine whether the IRS’s procedures for selecting
returns with EITC claims for audit are effective for determining the highest tax compliance risks.
To accomplish our objective, we:
   •   Determined how Examination resources were allocated, how compliance risks were
       assessed, and whether there was an overall IRS Examination plan that encompasses all of
       the examinations conducted by the IRS.
   •   Determined the applicable policies, procedures, and controls that are in place for
       selection and examination of EITC claims.
   •   Analyzed the IRS’s approach to the selection of EITC claims for examination and
       determined whether areas of highest risk of noncompliance were being identified,
       including identifying geographical areas of audit disparity.
   •   Determined if the IRS was effectively identifying erroneously claimed credits and the
       actions the IRS had taken to correct them.
   •   Evaluated data and determined whether additional filters were needed to prevent
       potentially erroneous EITC claims from going undetected. We analyzed the applicable
       criteria and evaluated whether the filters in place were adequately designed to identify
       taxpayers who did not meet such criteria.

Performance of This Review
This review was performed with information obtained from the W&I Division Headquarters in
Atlanta, Georgia; the Small Business/Self-Employed Division Headquarters in Lanham, Maryland;
and the Large Business and International Division Headquarters in Washington, D.C., during the
period August 2019 through May 2021. We conducted this performance audit in accordance
with generally accepted government auditing standards. Those standards require that we plan
and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis
for our findings and conclusions based on our audit objective. We believe that the evidence
obtained provides a reasonable basis for our findings and conclusions based on our audit
objective.
Major contributors to the report were Matthew Weir, Assistant Inspector General for Audit
(Compliance and Enforcement Operations); Linna Hung, Director; Glen Rhoades, Director;
Tim Greiner, Acting Director; Michele Jahn, Audit Manager; Antony Shang, Lead Auditor; and
Kim McMenamin, Senior Auditor.

Validity and Reliability of Data From Computer-Based Systems
We reviewed and analyzed computerized information obtained from IRS systems to include the
Individual Return Transaction File, Individual Master File, DDb, and Audit Information
Management System. We evaluated the data by 1) performing electronic testing of required
data elements, 2) reviewing existing information about the data and the system that produced

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               The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


them, and 3) interviewing agency officials knowledgeable about the data. We determined that
the data were sufficiently reliable for purposes of this report.

Internal Controls Methodology
Internal controls relate to management’s plans, methods, and procedures used to meet their
mission, goals, and objectives. Internal controls include the processes and procedures for
planning, organizing, directing, and controlling program operations. They include the systems
for measuring, reporting, and monitoring program performance. We determined that the
following internal controls were relevant to our audit objective: IRS policies, procedures, and
practices to identify, select, and process EITC claims for audit. We evaluated these controls by
reviewing and analyzing relevant data, interviewing IRS management, and performing analysis
on IRS individual taxpayer data related to the preparation of these credits.




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                                                                                     Appendix II
            Wage and Investment Division Refundable Credits
           Program Management’s Refundable Credits Strategy
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                   The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                                                                                               Appendix III
                     Ranking of EITC Claims in the 50 U.S. States1
    Ranking of Total EITC Claims      State        Number of EITC Claims        Percentage of Overall Claims Filed
                 1                     CA              2,916,473                           11.20%
                 2                     TX              2,655,273                           10.20%
                 3                     FL              2,169,204                             8.33%
                 4                     NY              1,661,611                             6.38%
                 5                     GA              1,065,401                             4.09%
                 6                      IL               942,309                             3.62%
                 7                     NC                909,445                             3.49%
                 8                     PA                905,130                             3.48%
                 9                     OH                900,845                             3.46%
                 10                    MI                761,357                             2.92%
                 11                    TN                615,528                             2.36%
                 12                    NJ                597,523                             2.29%
                 13                    VA                594,391                             2.28%
                 14                    AZ                571,640                             2.20%
                 15                    IN                517,586                             1.99%
                 16                    LA                499,644                             1.92%
                 17                    MO                486,454                             1.87%
                 18                    AL                479,490                             1.84%
                 19                    SC                475,935                             1.83%
                 20                    WA                413,619                             1.59%
                 21                    MD                404,593                             1.55%
                 22                    MA                391,580                             1.50%
                 23                    KY                385,335                             1.48%
                 24                    MS                363,784                             1.40%
                 25                    WI                357,538                             1.37%
                 26                    CO                341,855                             1.31%
                 27                    OK                328,735                             1.26%
                 28                    MN                323,118                             1.24%
                 29                    AR                287,705                             1.10%
                 30                    OR                263,345                             1.01%
                 31                    NV                260,139                             1.00%
                 32                    CT                220,856                             0.85%
                 33                    NM                203,454                             0.78%
                 34                    KS                199,780                             0.77%
                 35                     IA               198,104                             0.76%
                 36                    UT                184,259                             0.71%
                 37                    WV                142,928                             0.55%
                 38                    NE                128,704                             0.49%
                 39                    ID                127,091                             0.49%
                 40                    HI                  96,913                            0.37%
                 41                    ME                  96,509                            0.37%
                 42                    RI                  81,231                            0.31%
                 43                    MT                  75,885                            0.29%
                 44                    DE                  73,238                            0.28%
                 45                    NH                  71,782                            0.28%
                 46                    SD                  59,638                            0.23%
                 47                    AK                  45,886                            0.18%
                 48                    ND                  42,716                            0.16%
                 49                    VT                  41,543                            0.16%
                 50                    WY                  35,091                            0.13%
          Total 50 States                             25,972,193                           99.75%
Source: TIGTA’s analysis of PY 2019 claims using the Individual Return Transaction File, Individual
Master File, and Audit Information Management System databases.


1
 The other 0.25 percent of the EITC claims are from State codes that are something other than the 50 U.S. States,
such as the District of Columbia (D.C.) and the Armed Forces (AP and AE).
                                                                                                            Page 26
                The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                                                                                    Appendix IV
   Analysis of EITC Claims and Examinations for the 50 U.S. States
 Ranking of EITC Examinations             Number of         Number of EITC       Percentage of EITC
                                State
     Compared to Claims                  EITC Claims         Examinations         Claims Examined
               1                MS          363,784              9,081                 2.50%
               2                LA          499,644             11,236                 2.25%
               3                AL          479,490             10,201                 2.13%
               4                GA        1,065,401             17,401                 1.63%
               5                TN          615,528              8,788                 1.43%
               6                SC          475,935              5,540                 1.16%
               7                NC          909,445             10,449                 1.15%
               8                TX        2,655,273             27,859                 1.05%
               9                AR          287,705              2,998                 1.04%
              10                NV          260,139              2,698                 1.04%
              11                 IL         942,309              9,722                 1.03%
              12                FL        2,169,204             21,941                 1.01%
              13                MI          761,357              7,603                 1.00%
              14                DE           73,238                708                 0.97%
              15                MD          404,593              3,509                 0.87%
              16                AZ          571,640              4,832                 0.85%
              17                OH          900,845              7,606                 0.84%
              18                NJ          597,523              4,879                 0.82%
              19                OK          328,735              2,592                 0.79%
              20                CT          220,856              1,699                 0.77%
              21                KY          385,335              2,921                 0.76%
              22                VA          594,391              4,437                 0.75%
              23                NY        1,661,611             12,342                 0.74%
              24                IN          517,586              3,782                 0.73%
              25                MO          486,454              3,550                 0.73%
              26                CA        2,916,473             21,264                 0.73%
              27                RI           81,231                587                 0.72%
              28                PA          905,130              6,257                 0.69%
              29                NM          203,454              1,358                 0.67%
              30                WI          357,538              2,198                 0.61%
              31                WV          142,928                845                 0.59%
              32                KS          199,780              1,120                 0.56%
              33                MA          391,580              2,150                 0.55%
              34                WA          413,619              2,264                 0.55%
              35                HI           96,913                523                 0.54%
              36                SD           59,638                315                 0.53%
              37                ND           42,716                218                 0.51%
              38                CO          341,855              1,677                 0.49%
              39                NE          128,704                623                 0.48%
              40                OR          263,345              1,210                 0.46%
              41                UT          184,259                846                 0.46%
              42                MT           75,885                347                 0.46%
              43                MN          323,118              1,439                 0.45%
              44                 IA         198,104                872                 0.44%
              45                AK           45,886                199                 0.43%
              46                WY           35,091                144                 0.41%
              47                ID          127,091                480                 0.38%
              48                NH           71,782                262                 0.36%
              49                ME           96,509                313                 0.32%
              50                VT           41,543                129                 0.31%
       Total 50 States                   25,972,193            246,014
Source: TIGTA’s analysis of PY 2019 claims and FY 2019 examinations using the Individual Return
Transaction File, Individual Master File, and Audit Information Management System databases.


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                The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                                                                                        Appendix V
         Analysis of EITC DDb Filter Breaks for the 50 U.S. States
 Ranking of Percentage            Number of EITC                              Percentage of EITC Claims
                         State                        Number of EITC Claims
  of DDb Filter Breaks           DDb Filter Breaks                             With DDb Filter Breaks
            1            MS                 14,094                 363,784             3.87%
            2            LA                 18,281                 499,644             3.66%
            3            AL                 14,235                 479,490             2.97%
            4            GA                 28,799               1,065,401             2.70%
            5            SC                 11,835                 475,935             2.49%
            6            AR                   6,993                287,705             2.43%
            7            TN                 14,387                 615,528             2.34%
            8            NC                 20,584                 909,445             2.26%
            9            DE                   1,600                 73,238             2.18%
            10           TX                 55,133               2,655,273             2.08%
            11           MD                   8,298                404,593             2.05%
            12           AZ                 11,555                 571,640             2.02%
            13           NV                   5,223                260,139             2.01%
            14           OH                 18,073                 900,845             2.01%
            15            IL                18,078                 942,309             1.92%
            16           FL                 41,498               2,169,204             1.91%
            17           NM                   3,813                203,454             1.87%
            18           KY                   7,182                385,335             1.86%
            19           PA                 16,851                 905,130             1.86%
            20           OK                   6,067                328,735             1.85%
            21           MI                 13,542                 761,357             1.78%
            22           MO                   8,171                486,454             1.68%
            23           IN                   8,645                517,586             1.67%
            24           VA                   9,909                594,391             1.67%
            25           SD                     990                 59,638             1.66%
            26           NY                 27,393               1,661,611             1.65%
            27           WV                   2,278                142,928             1.59%
            28           NJ                   9,515                597,523             1.59%
            29           CT                   3,459                220,856             1.57%
            30           RI                   1,269                 81,231             1.56%
            31           CA                 43,380               2,916,473             1.49%
            32           HI                   1,421                 96,913             1.47%
            33           ND                     593                 42,716             1.39%
            34           AK                     604                 45,886             1.32%
            35           KS                   2,595                199,780             1.30%
            36           WA                   5,175                413,619             1.25%
            37           MA                   4,875                391,580             1.24%
            38           WI                   4,324                357,538             1.21%
            39           NE                   1,546                128,704             1.20%
            40           MT                     844                 75,885             1.11%
            41           CO                   3,683                341,855             1.08%
            42           MN                   3,450                323,118             1.07%
            43            IA                  2,075                198,104             1.05%
            44           OR                   2,751                263,345             1.04%
            45           UT                   1,882                184,259             1.02%
            46           WY                     325                 35,091             0.93%
            47           NH                     619                 71,782             0.86%
            48           ME                     822                 96,509             0.85%
            49           ID                   1,081                127,091             0.85%
            50           VT                     267                 41,543             0.64%
     Total 50 States                       490,062              25,972,193
Source: TIGTA’s analysis PY 2019 claims using the Individual Return Transaction File and Individual
Master File databases along with IRS-provided counts of DDb filter breaks.


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                                                                    Appendix VI
 Management’s Response to the Draft Report




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****************2******************* We will review the potential programming needed to
identify the QRP referrals with DDb rule breaks and submit a request for an LBC
evaluation to for applicable programming updates. However, all programming updates
are subject to limited resources, budgetary constraints, and competing priorities.

IMPLEMENTATION DATE:
March 15, 2023




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         The Earned Income Tax Credit Examination Compliance Strategy Can Be Improved


                                                                            Appendix VII
                                  Abbreviations

DDb                    Dependent Database
DUPTIN                 Duplicate Taxpayer Identification Number
EITC                   Earned Income Tax Credit
FY                     Fiscal Year
I.R.C.                 Internal Revenue Code
IRS                    Internal Revenue Service
OMB                    Office of Management and Budget
PY                     Processing Year
QRP                    Questionable Refund Program
TIGTA                  Treasury Inspector General for Tax Administration
TIN                    Taxpayer Identification Number
W&I                    Wage and Investment




                                                                                        Page 36
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