oversight

Backup Withholding Noncompliance and Underreported Employment Taxes Continue to Contribute Billions of Dollars to the Tax Gap

Published by the Office of the Treasury Inspector General for Tax Administration on 2021-05-17.

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

TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION




                 Backup Withholding Noncompliance and
               Underreported Employment Taxes Continue to
                Contribute Billions of Dollars to the Tax Gap


                                                 May 17, 2021

                                    Report Number: 2021-40-030




 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: Backup Withholding Noncompliance and Underreported
               Employment Taxes Continue to Contribute Billions of Dollars to the Tax Gap
Final Audit Report issued on May 17, 2021                                        Report Number 2021-40-030

Why TIGTA Did This Audit               What TIGTA Found
Prior TIGTA reviews identified         Backup withholding noncompliance continues to result in payers
that, due to a lack of adequate        avoiding payment of billions of dollars in withholding each year. For
processes, billions of dollars in      Tax Year 2018, TIGTA identified 182,075 payers that submitted
underreported tax by employers         440,404 information returns for which the payee Taxpayer
were not addressed and taxpayers       Identification Number was either missing or incorrect, yet the payers
avoided payment of billions of         did not backup withhold $13.3 billion on $55.6 billion in reported
dollars in backup withholding.         income.
The overall objective of this
                                       In addition, payers continue to report billions of dollars in payments
review was to assess the IRS’s
                                       associated with Taxpayer Identification Numbers of deceased
progress in making improvements
                                       individuals. Our review identified 52,500 payers that submitted
to its Federal tax withholding
                                       2.7 million information returns for which the payee was deceased at
processes and procedures. In
                                       least three years prior to the issuance of the information return.
response to recommendations
                                       These 2.7 million information returns had reportable payments
included in the prior reviews, the
                                       totaling $3.7 billion. Generally, payers should not submit information
IRS enacted several corrective
                                       returns using the Taxpayer Identification Number of a deceased
actions. However, our analysis of
                                       taxpayer for identification of the payee. These deceased taxpayer
information return filings
                                       Social Security Numbers are likely being used because payers have
identified continued significant
                                       not been notified about the death of a payee, an estate Employer
backup withholding
                                       Identification Number has not been provided to the payer, ****2****
noncompliance and employer
                                       *************************************2**********************************
underreporting of employment
                                       *************************************2**********************************
tax, and discrepancy cases remain
                                       *******2*******.
unworked.
                                       Finally, due to a programming error, the IRS did not select Combined
Impact on Taxpayers
                                       Annual Wage Reporting discrepancy cases with the highest
The continued noncompliance            assessment potential. Our analysis of Tax Year 2017 IRS discrepancy
with backup withholding                cases determined that the IRS worked 21,372 cases and assessed
requirements and underreported         $58.8 million. However, for the 21,372 cases worked, TIGTA identified
taxes by employers and the IRS’s       that the IRS still did not select cases with the highest potential tax
lack of adequate actions to            assessment. Had the programming been working as intended, the
address this noncompliance             IRS could have selected and worked cases with a higher potential
contribute to the Tax Gap. The         assessment, resulting in an additional $133.1 million in assessments.
IRS’s most recent estimate of the      What TIGTA Recommended
Tax Gap was $441 billion
(published in September 2019),         TIGTA recommended that the IRS develop processes and procedures
which the IRS reports is the           to identify and address the reporting of income on information
amount of true tax liability that is   returns using a deceased payee Taxpayer Identification Number and
not paid voluntarily and timely.       conduct an analysis of additional worked discrepancy cases to
                                       evaluate the use of the repeater indicator as another characteristic to
                                       prioritize Combined Annual Wage Reporting discrepancy cases.
                                       IRS management agreed to develop necessary processes and
                                       procedures to identify and address the reporting of income on
                                       information returns using a deceased payee Social Security Number.
                                       However, management did not agree with the recommendation to
                                       conduct an analysis on the use of the repeater indicator on
                                       discrepancy cases. Management does not believe there is any
                                       evidence that such a study is worth the diversion of its limited
                                       resources.
                                         U.S. DEPARTMENT OF THE TREASURY
                                                  WASHINGTON, D.C. 20220



TREASURY INSPECTOR GENERAL
  FOR TAX ADMINISTRATION



                                             May 17, 2021


MEMORANDUM FOR: COMMISSIONER OF INTERNAL REVENUE



FROM:                        Michael E. McKenney
                             Deputy Inspector General for Audit

SUBJECT:                     Final Audit Report – Backup Withholding Noncompliance and
                             Underreported Employment Taxes Continue to Contribute Billions of
                             Dollars to the Tax Gap (Audit # 201940028)

This report presents the results of our review to assess the Internal Revenue Service’s progress in
making improvements to its Federal tax withholding processes and procedures. This review was
part of our Fiscal Year 2020 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 IV.
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
Russell P. Martin, Assistant Inspector General for Audit (Returns Processing and Account
Services).
                                   Backup Withholding Noncompliance and Underreported Employment
                                      Taxes Continue to Contribute Billions of Dollars to the Tax Gap




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


Results of Review .......................................................................................................................Page          2

            Backup Withholding Noncompliance Continues to
            Result in Payers Avoiding Payment of Billions of
            Dollars in Withholding Each Year...................................................................................Page 3
            Payers Continue to Report Billions of Dollars in
            Payments Associated With Taxpayer Identification
            Numbers of Deceased Individuals .................................................................................Page 8
                         Recommendation 1: ...................................................................Page 10

            Due to a Programming Error, Combined Annual
            Wage Reporting Discrepancy Cases With the
            Highest Assessment Potential Are Not Selected .....................................................Page 11
                         Recommendation 2: ...................................................................Page 12

            Improvements Have Been Made That Provide
            Flexibility When Working Wage Discrepancy Cases ...............................................Page 14


Appendices
            Appendix I – Detailed Objective, Scope, and Methodology ................................Page 16
            Appendix II – Outcome Measures .................................................................................Page 18
            Appendix III – Information Returns Requiring Backup Withholding ................Page.24
            Appendix IV – Management’s Response to the Draft Report .............................Page.25
            Appendix V – Abbreviations.............................................................................................Page.32
                           Backup Withholding Noncompliance and Underreported Employment
                              Taxes Continue to Contribute Billions of Dollars to the Tax Gap




Background
The Internal Revenue Code (I.R.C.) Section (§) 3402 requires employers to withhold taxes from
employees’ pay so that the employers pay taxes to the Department of the Treasury on a ratable
basis throughout the year. Employers use information returns, such as Form W-2, Wage and Tax
Statement, and payers 1 use Form 1099-MISC, Miscellaneous Income, to report income and tax
withholding. On an annual basis, employers are required to report to the Social Security
Administration (SSA) wage and withholding information for each employee through a process
called Annual Wage Reporting. Employers and payers are also required to report and submit to
the Internal Revenue Service (IRS) Federal taxes withheld from employees using one of the
following forms (collectively referred to hereafter as an employment tax return):
       •   Form CT-1, Employer's Annual Railroad Retirement Tax Return.
       •   Form 941, Employer’s QUARTERLY Federal Tax Return.
       •   Form 943, Employer’s Annual Federal Tax Return for Agricultural Employees.
       •   Form 944, Employer’s ANNUAL Federal Tax Return.
       •   Form 945, Annual Return of Withheld Federal Income Tax.
The IRS in turn uses the data from information returns to ensure compliance with withholding
rules. Figure 1 shows some of the compliance efforts and data available for reconciliation
related to withholding. 2
                  Figure 1: Compliance Efforts and Data Available for Withholding




Source: TIGTA review of withholding procedures. TIN is defined as Taxpayer Identification Number. 3


1
  A business entity, such as a bank or financial institution, is often required to backup withhold or withhold Federal
income tax when making payments to recipients.
2
    See Appendix III for a listing of the income documents that require backup withholding.
3
  A TIN is a nine-digit numbers assigned to taxpayers for identification purposes. Depending upon the nature of the
taxpayer, the TIN is either an Employer Identification Number, a Social Security Number, or an Individual TIN.
                                                                                                                 Page 1
                         Backup Withholding Noncompliance and Underreported Employment
                            Taxes Continue to Contribute Billions of Dollars to the Tax Gap


Results of Review
Prior Treasury Inspector General for Tax Administration (TIGTA) reviews 4 identified that a lack of
adequate processes resulted in billions of dollars in underreported taxes by employers not being
addressed and taxpayers avoiding payment of billions of dollars in backup withholding. 5 In
response to recommendations included in these reviews, the IRS has taken the following actions:
    •    Stood up two new groups in Calendar Year 2019 to address reporting and
         noncompliance issues relating to backup withholding and the IRS Combined Annual
         Wage Reporting (IRS-CAWR) program. The IRS assigned 13 tax examiners to the backup
         withholding group and 14 tax examiners to the IRS-CAWR group to work issues
         identified for Tax Year (TY) 2017. 6
    •    Updated forms, instructions, etc., to include Form 1099-G, Certain Government
         Payments, in backup withholding requirements. Payers that submit a Form 1099-G with
         a missing or incorrect payee TIN that reports taxable grants or agricultural payments are
         required to backup withhold.
    •    Initiated various outreach efforts (e.g., Tax Forum presentations) to increase awareness of
         backup withholding requirements and the IRS’s emphasis on enforcing these
         requirements.
    •    Coordinated with the SSA to revise the Memorandum of Understanding regarding the
         transfer of employment tax data between the agencies. The revisions made were an
         effort to streamline the transmission of data and adjust language on how each agency
         can use the data.
However, our analysis of TY 2018 information return filings identified continued significant
backup withholding noncompliance, with 182,075 payers not backup withholding approximately
$13.3 billion as required. We also continue to identify employment tax discrepancy cases that
remain unworked. We identified 65,166 TY 2017 discrepancy cases not worked, with potential
tax assessments totaling $220 million. 7 Another 83,570 TY 2017 discrepancy cases were also not
worked, with potential tax assessments of $2.3 billion involving employers that reported
information returns to the SSA but did not file an employment tax return with the IRS (i.e.,
nonfilers).
The noncompliance detailed above, and the IRS’s lack of adequate actions to address this
noncompliance, contributes to the Tax Gap, which the IRS reports is the amount of true tax



4
 TIGTA, Ref. No. 2017-40-038, Case Selection Processes Result in Billions of Dollars in Potential Employer
Underreported Tax Not Being Addressed (July 2017), and Ref. No. 2016-40-078, Due to the Lack of Enforcement,
Taxpayers Are Avoiding Billions of Dollars in Backup Withholding (Sept. 2016).
5
 There are many factors that contribute to whether backup withholding is applicable. For example, backup
withholding does not apply if the payer can document that the payment was not reportable or that the payer was in
possession of the payee TIN when the payments were made but failed to include it on the information return.
6
 The tax year is a 12-month accounting period for keeping records on income and expenses used as the basis for
calculating the annual taxes due.
7
  The tax year analyzed is the most current inventory the IRS is working for employment tax discrepancies. The IRS
works cases on an April through March schedule to allow time for taxpayers to file their information returns and tax
returns.
                                                                                                              Page 2
                            Backup Withholding Noncompliance and Underreported Employment
                               Taxes Continue to Contribute Billions of Dollars to the Tax Gap

liability that is not paid voluntarily and timely. The IRS’s most recent estimate of the Tax Gap
was $441 billion (published in September 2019). 8
In its April 2018 Strategic Plan, 9 the IRS stated that one if its goals is to protect the integrity of
the tax system by encouraging compliance through administering and enforcing the tax code.
The IRS planned to accomplish this by creating strategies to prevent and address
noncompliance in high-risk areas, developing early warning and notification systems to resolve
issues faster, and sharing data and coordinating on cases within and across relevant business
units. Further, the Small Business/Self-Employed (SB/SE) Division’s 2019 Annual Report10
highlights goals that align with the IRS Strategic Plan. While the actions taken by the IRS fit
within the goals of the strategic plans, these actions have not had a significant impact on
backup withholding compliance or employer underreporting of employment taxes.


Backup Withholding Noncompliance Continues to Result in Payers Avoiding
Payment of Billions of Dollars in Withholding Each Year
Since issuing our prior report in September 2016, management has made little improvement to
address payers not backup withholding billions of dollars as required. *************2*************
**************************************************2**************************************************
**************************************************2********************. The requirement for
backup withholding is not only outlined in the I.R.C. § 3406 but is also addressed in IRS
Publication 1281, Backup Withholding for Missing and Incorrect Names/TIN(s). As it relates
specifically to the actions a payer should take if a payee “refuses or neglects to provide a TIN,”
this publication instructs payers to “begin backup withholding immediately on any reportable
payments,” thus reaffirming the requirements provided in the I.R.C. For TY 2018, we identified
182,075 payers that submitted 440,404 information returns for which the payee TIN was either
missing 11 or incorrect, 12 yet the payers did not backup withhold $13.3 billion on $55.6 billion in
reported income. Figure 2 shows the number of TY 2018 information returns with reportable
payments that had a missing TIN or incorrect TIN/name combination.




8
    The IRS estimated the average annual Tax Gap for TYs 2011 through 2013.
9
    IRS, Publication 3744, Internal Revenue Service Strategic Plan Fiscal Years 2018–2022 (April 2018).
10
     IRS, Publication 5409, SB/SE Division 2019 Annual Report (June 2020).
11
  A missing TIN is one that is not provided, has more or less than nine numbers, or has an alpha character as one of
the nine positions.
12
  An incorrect TIN is one that is in the proper format, but the name/TIN combination does not match or cannot be
found on the IRS’s or SSA’s records.
                                                                                                             Page 3
                           Backup Withholding Noncompliance and Underreported Employment
                              Taxes Continue to Contribute Billions of Dollars to the Tax Gap

       Figure 2: Volume of Information Returns With a Missing or Incorrect TIN (TY 2018)

                                              Incorrect TIN 13            Missing TIN                Totals
                                            Unique      Number       Unique      Number       Unique      Number
                Form Type                   Payers      of Forms     Payers      of Forms     Payers      of Forms

     W-2G, Certain Gambling Winnings 14           0              0        366       1,821         366          1,821
     1099-B, Proceeds From Broker
                                             1,166          71,236        131       8,666       1,297         79,902
     and Barter Exchange Transactions
     1099-DIV, Dividends and
                                             1,308           5,802        410       1,229       1,718          7,031
     Distributions
     1099-INT, Interest Income               2,793           4,923       2,006      5,526       4,799         10,449
     1099-MISC, Miscellaneous Income        60,093          90,930   119,962     248,765      180,055     339,695
     1099-OID, Original Issue Discount          25            129          42           110         67            239
     1099-PATR, Taxable Distributions
                                               326            627         130           464       456          1,091
     Received From Cooperatives
     1099-G, Certain Government
                                                  6           140          22            36         28            176
     Payments
     Totals                                64,298 15    173,787      122,595     266,617      182,075     440,404

 Source: TIGTA analysis of TY 2018 information returns.

The I.R.C. requires payers to backup withhold at a rate of 24 percent on reportable
payments for a payee that refuses or neglects to provide a correct TIN
Our analysis of TY 2018 information returns identified that the number of information returns
with missing or incorrect TINs, as well as the amounts not backup withheld, decreased when
compared to our analysis of TY 2013 information returns in our last review. 16 However, payers
continue to report billions of dollars in payments without the required backup withholding.
Figure 3 provides the comparison of TY 2013 to TY 2018 for information returns with missing or
incorrect TINs. 17




13
  Our analysis of incorrect TINs is based upon instances in which the payer reported the same incorrect TIN for
four consecutive years (TYs 2015 through 2018).
14
     Form W-2G is subject to backup withholding only for missing TINs.
15
  The same payer can appear in multiple information returns and missing or incorrect TIN populations; as such, the
total does not sum.
16
  Effective January 1, 2018, the backup withholding rate was reduced from 28 percent to 24 percent through the
Tax Cuts and Jobs Act of 2017 (Pub. L. No. 115-97, 131 Stat. 2054).
17
     See Appendix II for details on the outcome measures.
                                                                                                               Page 4
                          Backup Withholding Noncompliance and Underreported Employment
                             Taxes Continue to Contribute Billions of Dollars to the Tax Gap

                          Figure 3: Comparison of Information Returns With
                           Missing or Incorrect TINs for TYs 2013 and 2018

                                       Number of                                 Backup
                    Number            Information          Reportable          Withholding         Actual Amount
     Tax Year       of Payers           Returns            Payments             Required              Withheld

                                      Information Returns With Missing TINs
     TY 2013       130,358             310,779            $145 billion          $41 billion          $5 million
     TY 2018       123,069             266,617              $44 billion         $11 billion          $6 million

                                    Information Returns With Incorrect TINs 18
     TY 2013         62,714            203,751              $17 billion           $5 billion         $1 million
     TY 2018         65,717            173,787              $12 billion           $3 billion         $3 million

Source: TIGTA analysis of TY 2013 and TY 2018 information returns.
Unlike information returns with missing TINs that require payers to immediately backup
withhold, payers submitting information returns with an incorrect TIN are not required to
backup withhold on payments to the payee until 30 business days after the IRS notifies the
payer of the incorrect payee TIN. If the IRS sends a second notice in a three–calendar-year
period to the payer, backup withholding must begin 30 business days after the notice is sent
and the payer does not receive a copy of the payee’s Social Security card or IRS letter validating
the TIN from the payee.
Furthermore, our analysis of TY 2018 payers with missing TINs identified five payers that each
should have backup withheld $10 million or more. These payers submitted a total of
683 information returns, which accounts for $396 million in potential backup withholding we
identified. Figure 4 identifies the payers with over $10 million in required backup withholding
for TY 2018.
                              Figure 4: Payers With Over $10 million in
                            Required Backup Withholding for Missing TINs

                Total Requiring                                                Actual          Potential Additional
                    Backup          Total Income       Potential Backup       Backup           Backup Withholding
                 Withholding          Reported           Withholding         Withholding            Required
     Payer 1        **1**              **1**                  **1**             **1**                   **1**
     Payer 2        **1**              **1**                  **1**             **1**                   **1**
     Payer 3        **1**              **1**                  **1**             **1**                   **1**
     Payer 4        **1**              **1**                  **1**             **1**                   **1**
     Payer 5        **1**              **1**                  **1**             **1**                   **1**
     Totals         683           $1,650,543,160        $396,130,358           $2,142            $396,128,206

Source: TIGTA analysis of TY 2018 information returns subject to backup withholding.




18
  Our analysis of incorrect TINs is based upon instances in which the payer reported the same incorrect TIN for
four consecutive years.
                                                                                                             Page 5
                      Backup Withholding Noncompliance and Underreported Employment
                         Taxes Continue to Contribute Billions of Dollars to the Tax Gap

Figure 5 identifies additional payers with over 1,000 information returns with missing or
incorrect TINs that have also not complied with the backup withholding requirements.
              Figure 5: Top Payers Submitting Over 1,000 Information Returns
                 Requiring Backup Withholding for Missing or Incorrect TINs

             Total Requiring                        Potential         Actual        Potential Additional
                 Backup         Total Income         Backup          Backup         Backup Withholding
              Withholding         Reported         Withholding      Withholding          Required
  Payer A         **1**            **1**              **1**               **1**               **1**
  Payer B         **1**            **1**              **1**               **1**               **1**
  Payer C         **1**            **1**              **1**               **1**               **1**
  Payer D         **1**            **1**              **1**               **1**               **1**
  Payer E         **1**            **1**              **1**               **1**               **1**
  Payer F         **1**            **1**              **1**               **1**               **1**
  Payer G         **1**            **1**              **1**               **1**               **1**
  Payer H         **1**            **1**              **1**               **1**               **1**
   Totals       15,903         $1,383,648,229     $332,075,574       $610,045          $331,465,530

Source: TIGTA analysis of TY 2018 information returns subject to backup withholding.
As the above figures show, these payers represent $728 million in backup withholding not
withheld as required. ***************************2**************************************************
**************************************************2**************************************************
**************************************************2******************. For example, one of the
goals reported in the SB/SE Division’s 2019 Annual Report and the IRS’s Strategic Plan is to
advance data access, usability, and analytics to inform decision-making and improve operational
outcomes. To accomplish this goal, the IRS will emphasize the use of data analytics, in
conjunction with qualitative information, to select high-priority work. The SB/SE Division’s
2019 Annual Report recently touted that its Examination program used data analytics and other
tools to identify the most noncompliant work and emerging high-risk issues—an effort which
we believe should be applied in furtherance of its backup withholding strategy and to ensure
that it maximizes its limited resources by focusing enforcement efforts on highly noncompliant
payers.
In response to the results of our analysis, management noted that there could be a number of
factors for which backup withholding is not applicable. For example, some taxpayers may use
the Form 4669, Statement of Payments Received, and Form 4670, Request for Relief of Payment
of Certain Withholding Taxes, process, which relieves the payer of their backup withholding
liabilities. Additionally, it is possible that income reported on an information return with a
missing payee TIN may have in fact been reported to the IRS on a subsequent information
return with the correct payee TIN and taxed accordingly. Furthermore, IRS management stated
**************************************************2**************************************************
**************************************************2**************************************************
**************************************************2**************************************************
**************************************************2***********************. However, no analysis
has been performed by the IRS that would determine to what extent this occurs.

                                                                                                   Page 6
                            Backup Withholding Noncompliance and Underreported Employment
                               Taxes Continue to Contribute Billions of Dollars to the Tax Gap

Functional areas initiated some efforts in an attempt to address backup withholding
noncompliance, but these efforts are fragmented and inconsistent
The I.R.C. provides the IRS with the authority to hold noncompliant payers liable for amounts
not withheld from payees by assessing payers the amount of backup withholding they failed to
withhold. 19 In addition to the noncompliance on the part of payers, enforcing payer backup
withholding requirements is essential to ensuring that the Government is able to collect taxes on
all appropriate income, particularly income that is not usually subject to withholding. 20
**************************************************2**************************************************
**************************************************2**************************************************
**************************************************2**************************************************
**************************************************2**************************************************
******************2****************, tax revenue may be lost each year.
In our September 2016 report, 21 we recommended that the Commissioner, SB/SE Division,
establish a Service-wide information returns backup withholding enforcement strategy. This
should include specific time frames and actions to identify and enforce payer noncompliance
with backup withholding provisions. The IRS agreed with this recommendation and noted that
it was already evaluating its backup withholding process, identifying improvement opportunities,
and determining overall oversight responsibility.
Although the IRS agreed with our recommendation, our review identified that a Service-wide
information returns backup withholding enforcement strategy has yet to be developed.
However, we did identify that efforts are being taken by some functional areas to address this
significant noncompliance, whereas other functional areas have no actions being taken.
Specifically, the SB/SE Division developed a multiyear strategy in Calendar Year 2018 to address
backup withholding compliance. For Calendar Year 2019, the IRS is working TY 2017 backup
withholding cases for which the payer submitted information returns with missing payee TINs,
**************************2*************************. To date, the IRS has mailed adjustment
letters to 1,845 taxpayers. These letters notify the payer that they have filed information returns
that are potentially subjected to backup withholding requirements **************2****************
****2****. Additionally, the taxpayer is instructed on where to send *************2****************
**************2************** to resolve the potential noncompliance with backup withholding
requirements. Results from these notifications remain unknown as the IRS had to halt work on
these cases due to the pandemic. In addition, the strategy identifies additional actions the
SB/SE Division plans to take. For example, in early Calendar Year 2021, the SB/SE Division plans
to address other identified areas of noncompliance (e.g., payers that submit information returns
reporting backup withholding ******************2**************************************************
**************************************************2*************.




19
  I.R.C. § 3406(h)(10) states that payments which are subject to backup withholding under § 3406 are treated as if
they were wages paid by the employer to an employee. Section 3403 provides that the employer shall be liable for
the payment of the tax required to be deducted and withheld under Chapter 24 (collection of income tax at source on
wages).
20
     Examples include interest income, rents, royalties, and certain gambling winnings.
21
     TIGTA, Ref. No. 2016-40-078, Due to the Lack of Enforcement, Taxpayers Are Avoiding Billions of Dollars in Backup
Withholding (Sept. 2016).
                                                                                                               Page 7
                             Backup Withholding Noncompliance and Underreported Employment
                                Taxes Continue to Contribute Billions of Dollars to the Tax Gap

Finally, we were informed by the Tax-Exempt/Government Entities Division that processes were
developed in Calendar Year 2017 to identify payers who previously received a backup
withholding notice to then prioritize these cases *************************2************************
**************************************************2************************. The Tax-Exempt/
Government Entities Division then works the backup withholding issue on the tax account to
ensure that the taxpayer is compliant with the backup withholding requirements. Alternatively,
the Large Business and International Division identifies backup withholding noncompliance as
part of its regular examinations and sends the employment tax issues to the SB/SE Division’s
Employment Tax group to address.
During our discussions with IRS management, they advised that implementation of the
Taxpayer First Act22 is expected to result in a reorganization that will bring all of the IRS’s
examination functions under one umbrella, thus facilitating the development of a uniform
compliance strategy to address backup withholding noncompliance. To that end, IRS
management stated they would be developing a cross-functional working group to analyze
current backup withholding policies and procedures and make recommendations to the
Taxpayer First Act Office for its consideration. As such, we will not be making a formal
recommendation.


Payers Continue to Report Billions of Dollars in Payments Associated With
Taxpayer Identification Numbers of Deceased Individuals
Our review of TY 2018 information returns identified 52,500 payers that submitted 2.7 million
information returns on 1.2 million payee TINs for which the individual was deceased at least
three years prior to the issuance of the information returns. These 2.7 million information
returns had reportable payments totaling $3.7 billion; however, only $9.5 million was withheld.
Figure 6 identifies the payers with more than 50,000 information returns that used a deceased
payee TIN.
                             Figure 6: Payers That Submitted More Than
                     50,000 Information Returns That Used a Deceased Payee TIN

                                      Total Information
                                       Returns With a           Total Income           Federal Tax
                                       Deceased TIN               Reported              Withheld
                   Payer A                154,892               $41,869,215              $54,030
                   Payer B                120,377                $9,573,926             $285,843
                   Payer C                110,076              $107,864,538             $208,594
                   Payer D                 95,601               $71,340,169             $148,522
                   Payer E                 91,269               $92,041,702              $45,078
                   Payer F                 80,821               $77,548,835             $146,003




22
     Pub. L. No. 116-25, 133 Stat. 981.
                                                                                                     Page 8
                            Backup Withholding Noncompliance and Underreported Employment
                               Taxes Continue to Contribute Billions of Dollars to the Tax Gap


                                     Total Information
                                      Returns With a              Total Income              Federal Tax
                                      Deceased TIN                  Reported                 Withheld
                  Payer G                  74,453                $146,836,420                 $42,797
                  Payer H                  74,367                $133,880,477               $689,299
                  Payer I                  66,558                 $80,411,376                 $65,854
                  Payer J                  51,317                 $28,927,433               $160,858

           Source: TIGTA analysis of TY 2018 information returns subject to backup withholding.
**************************************************2**************************************************
**************************************************2**************************************************
*******************2******************. As previously stated, the IRS and SB/SE Division both have
goals to advance data access, usability, and analytics to inform decision-making and improve
operational outcomes. As such, the IRS should incorporate *******************2******************
******************2**************** to maximize its limited resources by focusing its enforcement
efforts on highly noncompliant payers.

The majority of deceased payee TINs had no associated tax return reporting the income
Our analysis of the 1.2 million deceased payee TINs identified that only 59,649 (5 percent)
deceased payee TINs were used to file either a Form 1041, U.S. Income Tax Return for Estates
and Trusts; Form 1040, U.S. Individual Income Tax Return; or Form 706, United States Estate (and
Generation-Skipping Transfer) Tax Return. The 59,649 deceased payee TINs were used on
256,068 submitted information returns with $770 million in reportable payments.
We identified and reported this concern in our September 2016 report. Specifically, our review
of TY 2013 information returns identified 2.3 million returns submitted by payers for 1.6 million
individuals for whom the payee TIN was that of a deceased individual.23 These 2.3 million
information returns had reportable payments totaling $4 billion. We recommended that the IRS:
       •    Include specific actions to address information return reporting of income under a
            deceased individual TIN. The IRS agreed with this recommendation, citing that it would
            include specific actions to address information return reporting under a decedent TIN as
            it develops the information returns compliance strategy. However, as previously noted,
            ********************************2******************************, and as such, *******2*******
            ********************************2******************************.
       •   Add an indicator on the TIN Matching Program24 alerting a payer of a payee’s use of a
           deceased taxpayer’s Social Security Number (SSN). The IRS agreed with this
           recommendation, stating that it would first evaluate the use of a general indicator on the
           TIN Matching Program without violating disclosure rules. The IRS evaluated our previous
           recommendation but determined that alerting a payer of a payee’s use of a deceased
           taxpayer’s SSN is an improper disclosure and violates I.R.C. § 6103. However, the IRS also
           recognizes the potential significance of this issue and conducted research on TY 2015
           information returns with a deceased TIN. The IRS determined that, as TIGTA concluded,

23
     These individuals were deceased at least two years prior to the issuance of the information return.
24
 The TIN Matching Program is an Internet-based prefiling service that allows “authorized payers” the opportunity to
match Form 1099 payee information against IRS records prior to filing information returns.
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      ********************************************2************************************************
      ***********2**********.
      Management further stated that, in some cases, the payer appears to be issuing the
      income to the estate or trust but still using the decedent’s TIN. We do agree with the IRS
      that use of these TINs on a Form 1099-INT or Form 1099-DIV may be associated with
      estates, trusts, or joint accounts held at financial institutions. The majority of the
      information returns we identified were either Form 1099-B, Form 1099-DIV, or
      Form 1099-INT. Further, it would seem less likely, and in fact suspicious, for a decedent’s
      TIN to be used on a Form 1099-MISC or Form W-2G, which is used for reporting
      payments to individuals that are not employees and gambling winnings. Figure 7 shows
      that 169,411 Forms 1099-MISC and Forms W-2G were filed by payers using a deceased
      payee’s TIN that had reportable payments totaling approximately $1.7 billion and
      $2.5 million in withholding. Figure 7 provides a summary of all the information returns
      filed using deceased payee TINs.
          Figure 7: Types of TY 2018 Information Returns With Decedent TINs

                                Total Information
                                 Returns With a          Total Income          Federal Tax
                                 Deceased TIN              Reported             Withheld
         Form 1099-B                942,323             $936,828,376           $1,840,542
         Form 1099-DIV              989,031             $738,108,816           $4,831,588
         Form 1099-G                   4,670                 $467,723              $2,460
         Form 1099-INT              573,294             $236,574,845             $404,292
         Form 1099-MISC             168,144            $1,671,959,147          $2,127,660
         Form 1099-OID                 8,434               $2,536,245                $372
         Form 1099-PATR               11,947            $106,219,759               $6,488
         Form W-2G                     1,267               $3,938,167            $323,887
         Total                     2,699,110           $3,696,633,078          $9,537,289

        Source: TIGTA analysis of TY 2018 information returns subject to backup withholding.

Recommendation 1: The Deputy Commissioner for Services and Enforcement should develop
processes and procedures to identify and address the reporting of income on information
returns using a decedent TIN.
      Management’s Response: The IRS agreed with this recommendation but did not agree
      with the related outcome measure (see Appendix II for more detailed information on the
      reported outcome measure). IRS management plans to use data analytics to determine
      the size and scope of potential noncompliance of information returns using the SSN of a
      deceased person. Management will further develop processes and procedures necessary
      to identify and address this issue.




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Due to a Programming Error, Combined Annual Wage Reporting Discrepancy
Cases With the Highest Assessment Potential Are Not Selected
Our analysis of 86,538 TY 2017 IRS-CAWR discrepancy cases the IRS selected as of
March 31, 2019, determined that the IRS worked 21,372 (25 percent) cases, securing tax returns
or assessing additional tax totaling $58.8 million. 25 The remaining 65,166 (75 percent) cases
were not worked, with a potential underreported total tax difference of approximately
$220 million. 26 However, we identified that the IRS still did not select cases with the highest
potential tax assessment. Our review of TY 2017 IRS-CAWR discrepancy cases identified
240 discrepancy cases that the IRS did not work despite the potential tax assessment amounts
being higher than cases the IRS worked. The total potential tax associated with these 240 cases
is $12.1 million.
When we asked IRS management to explain why the IRS did not work the 240 discrepancy cases,
management stated that there was a computer programming error that resulted in the incorrect
case selection. The IRS incorrectly programmed the potential tax assessment field used to
prioritize IRS-CAWR selections. After we brought this to management’s attention, the IRS
updated the programming to ensure that the TY 2018 discrepancy cases were selected based on
the highest potential tax assessment. We reviewed the potential tax assessment field and
confirmed that the IRS updated the calculation. Thus, we will not be making a recommendation.
Using the IRS’s corrected program to select the discrepancy cases with the highest potential tax
assessment would have resulted in the IRS reviewing cases with an additional $133.1 million in
potential tax assessments.

Due to a lack of sufficient resources, the majority of nonfiler cases with potential tax
assessments of $2.3 billion are not addressed
Our review of 85,692 TY 2017 CAWR nonfiler cases 27 determined that the IRS worked
2,122 nonfiler cases (2 percent) and assessed a total of $50.6 million in tax. The remaining
85,692 cases had potential tax assessments totaling $2.3 billion. However, similar to the
IRS-CAWR program, the CAWR nonfiler program does not have enough resources to work the
majority of cases. The overall goal, as stated in the IRS’s May 2018 SB/SE Division’s Nonfiler
Strategic Plan, is to prioritize work that maximizes dollars collected, which the CAWR nonfiler
program appears to be following. CAWR nonfiler program employees also analyzed an
additional 3,115 prior tax years related to the 2,122 TY 2017 cases and made $67.8 million in
additional tax assessments. The tax assessments for these TY 2017 and related prior year
nonfiler cases totaled just over $118 million ($50.6 million plus $67.8 million). IRS management
stated that CAWR nonfiler cases are worked along with other inventory, and there are no
specific guidelines for focusing efforts on CAWR nonfiler cases.


25
   In April 2020, the IRS provided the status of TY 2017 discrepancy cases worked as of the program completion date
of March 2020. However, activity on cases can still occur after the program completion date.
26
  The IRS worked an additional 2,497 discrepancy cases after the initial selection of 86,538 discrepancy cases, which
resulted in additional tax assessed or tax returns secured totaling $5.9 million. These additional discrepancy cases
were selected when exclusionary criteria no longer were applicable. For example, the disaster indicator was active
during the initial selection, preventing it from being selected in the initial selection population of 86,538 discrepancy
cases; however, the indicator expired and the discrepancy was selected later in the period.
27
     Nonfiler cases are those of payers that filed information returns but did not file their employment tax return.
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The indicator that identifies a prior year employment tax discrepancy is still not used
during case selection in order to maximize limited resources
We previously recommended that the IRS upgrade its system to include prior year discrepancy
cases when current year discrepancy cases are selected for the same employer. The IRS
disagreed with the recommendation, but stated that it planned to evaluate its methods to
identify cases with the highest potential for adjustment, including the consideration of a prior
year discrepancy as a selection criterion. The IRS subsequently created a repeater indicator to
identify employers with both a current year and prior year discrepancy case. Additionally, there
are different indicators if the repeater is in the same potential tax assessment category from year
to year or in a different potential tax assessment category.
Although an indicator was developed, management stated that they do not use the indicator as
part of their case selection criteria because many of the repeater cases are repeaters for different
reasons (for example, the IRS identifies an employer in one year with underreported withholding
tax for its employees and identifies the same employer in another year because it did not send
in all its income documents). The IRS does not consider this a true repeater case because the
discrepancy was not the result of the same issue. The IRS reviewed fifteen cases with a repeater
indicator, which resulted in closing eight cases with no change and seven with assessments.
Management stated that these repeater cases look very similar to regular IRS-CAWR discrepancy
cases and felt that their normal criteria would select the highest potential assessment cases
regardless of the use of the indicator.
Our analysis of the 18,822 discrepancy cases that had the repeater indicator identified that the
IRS worked 4,917 (26 percent) cases with a repeater indicator and assessed $14.2 million
working the current year discrepancy case. Further analysis on the worked cases with a repeater
indicator identified that the IRS only had 571 discrepancy cases (12 percent) that resulted in no
assessment or no tax return secured by the IRS. Therefore, 4,346 discrepancy cases resulted in
an assessment during the initial phase or in the IRS securing a tax return. Additionally, there
were 13,905 discrepancy cases with a repeater indicator not worked with potential tax
assessments of $49.8 million. The IRS could use the repeater indicator as a characteristic to
prioritize and select cases within each discrepancy category. For example, the IRS would work
the highest potential tax assessment cases (i.e., case type “A”) with a repeater indicator, then the
IRS would move to the highest potential tax assessment case without a repeater indicator. Thus,
the IRS would prioritize first by highest potential tax assessment and then, within each case type
category, prioritize cases with the repeater indicator.
In response to our concern, IRS management analyzed their TY 2017 CAWR discrepancy cases to
simulate how those cases would have been prioritized using the repeater indicator. Their
analysis showed that the IRS potential tax assessments would be approximately $20 million less
when prioritizing with the repeater indicator. It is important to note that the IRS’s analysis was
based on one tax year, and each tax year creates a different mixture of discrepancy cases. To
better understand the value of adding the repeater indicator as a characteristic when prioritizing
cases, the IRS should conduct an analysis, similar to the one it performed on TY 2017, of
additional worked discrepancy cases (e.g., TYs 2018 and 2019) to make a determination on the
usefulness of the repeater indicator.

Recommendation 2: The Deputy Commissioner for Services and Enforcement should conduct
an analysis (i.e., similar to the one performed for TY 2017) of additional worked discrepancy
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cases to determine if the repeater indicator should be used as another characteristic to prioritize
IRS-CAWR discrepancy cases with the highest potential tax assessment within each case type.
       Management’s Response: The IRS disagreed with this recommendation. IRS
       management stated that TIGTA has not provided any data indicating that repeater cases
       are more productive or demonstrated that repeater cases yield assessments that are
       larger or more frequently sustained or collected. TIGTA has completed two audits of this
       program and has data for cases as far back as 2012. As a result of the July 2017 TIGTA
       report, repeater cases are marked with an indicator. Thus, TIGTA could have analyzed its
       own data as part of this audit to determine whether repeater cases are more productive
       work but has chosen not to do so. IRS management shared with TIGTA during the audit
       that they applied the recommended repeater criterion to TY 2017 closed cases to
       determine if it would have yielded more productive work; it did not. In fact, under the
       best case scenario, the use of that criterion would have reduced the TY 2017 potential
       tax assessments by approximately $20 million. As TIGTA acknowledged in this audit and
       its prior audit, the CAWR program does not have enough resources to work the majority
       of cases, and IRS management does not believe it is a good business decision to commit
       to perform an additional study when TIGTA has not presented any evidence that such a
       study is worth the diversion of its limited resources.
               Office of Audit Comment: The two prior audits to which IRS management
               refers identified flaws and actions that could be taken to improve the IRS’s case
               selection process overall. The corrective actions taken on the part of the IRS in
               response to our recommendations contribute to the improved performance of
               the IRS-CAWR program. Each of these reviews included quantitative analysis
               showing how the IRS’s limited resources could be further maximized. Specifically,
               the prior report determined that prior year discrepancy cases could be included
               when working current year discrepancy cases for the same noncompliant
               employer to maximize the IRS’s limited resources. In fact, the repeater indicator
               that management cites in its response was developed as a corrective action to
               address a TIGTA recommendation.
               Regarding IRS management’s statement that they found the use of the repeater
               criterion did not yield more productive work, they fail to note that this conclusion
               was based on the IRS’s review of fifteen cases. Their determination that the
               indicator was not useful was based on the fact that only seven of the 15 cases
               resulted in an assessment for the current tax year being worked. A primary
               reason we reported that the indicator to identify a prior year employment tax
               discrepancy should be used during case selection is to maximize limited
               resources. It is true that just looking at TY 2017 discrepancy cases using the
               repeater could have resulted in less potential assessments; however, each year,
               the mix of discrepancy cases can change. Therefore, the repeater criterion should
               be evaluated over the course of several years.




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Improvements Have Been Made That Provide Flexibility When Working Wage
Discrepancy Cases
In our July 2017 report, we recommended that the IRS evaluate the current agreement and
workload processes with the SSA, as required, and ensure that the IRS is expending resources to
work the most productive SSA-CAWR cases. 28 Management agreed and stated that they would
look for opportunities to reduce the number of SSA-CAWR cases that cannot be successfully
resolved prior to referral to the IRS. Figure 8 provides a comparison of IRS resources dedicated
to the SSA-CAWR program and IRS-CAWR program. Figure 8 also provides a comparison of the
assessments per case for each program.
                 Figure 8: Comparison of IRS-CAWR and SSA-CAWR Programs
                           for Fiscal Years (FY) 2017 Through 2019




Source: IRS report on SSA-CAWR and IRS-CAWR for Fiscal Years 2017–2019.
As part of its ongoing negotiations for a new Memorandum of Understanding, the IRS identified
areas that would help improve case identification. However, when we asked IRS management if
the SSA agreed to make these changes, management stated that the SSA could not currently
commit to make the changes as it is in the process of a modernization effort. The SSA informed
the IRS that it would consider these changes and any others the IRS identifies as they partner
through the modernization effort.
As we previously reported, in April 1988, the National Committee to Preserve Social Security
filed a lawsuit to force prompt resolution of the backlog of unreconciled cases (i.e., wage
information was not being timely recorded to earnings records) that resulted from a legislative
change in the wage recording system. In addition, the lawsuit sought the adoption of measures
to ensure that the problem does not recur in the future. As part of a settlement agreement
resulting from the lawsuit, the IRS is required to work all SSA-CAWR cases. However, IRS
Counsel recently determined that the 1988 National Committee to Preserve Social Security
lawsuit settlement that resulted in the requirement that the IRS work all SSA-CAWR cases


28
   The SSA-CAWR program includes a reconciliation to identify discrepancies for which earnings and tax withholdings
reported to the IRS on filed tax returns differs from amounts reported on Forms W-2 submitted to the SSA. A
discrepancy can indicate that employees’ earnings were not credited to their Social Security account.
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expired in December 1996. As a result, the IRS plans to assign resources to the SSA-CAWR
program based upon available resources and not based upon the SSA-CAWR inventory. This
should provide opportunities for the IRS to refocus resources to other areas, including the
IRS-CAWR program.




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                                                                                                   Appendix I
                        Detailed Objective, Scope, and Methodology
The overall objective of this review was to assess the IRS’s progress in making improvements to
its Federal tax withholding processes and procedures. To accomplish our objective, we:
       •   Assessed the status of the IRS’s CAWR and backup withholding programs and
           determined if the IRS implemented recommendations from the prior audit reports.
       •   Assessed the status of IRS resources available to work the IRS-CAWR and backup
           withholding programs. We also determined if the IRS is efficiently using available
           resources for each program.
       •   Assessed the status of the IRS’s information returns reporting strategy and determined if
           the IRS has taken appropriate actions to implement the strategy.

Performance of This Review
This review was performed with information obtained from the SB/SE Division in Covington,
Kentucky, during the period August 2019 through December 2020. 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 Russell Martin, Assistant Inspector General for Audit
(Returns Processing and Account Services); Diana Tengesdal, Director; Jonathan Lloyd, Audit
Manager; Jerry Douglas, Lead Auditor; and Jerome Antoine, Auditor.

Validity and Reliability of Data From Computer-Based Systems
We relied on data extracts from the IRS of all CAWR discrepancy cases for TY 2017 and TY 2018
and from TIGTA’s Data Center Warehouse1 copy of the Information Returns Master File 2 for
Forms 1099 and Forms W-2 for TY 2015, TY 2016, TY 2017, and TY 2018. We performed tests to
assess the reliability of data extracts by: 1) reviewing the data for obvious errors in accuracy and
completeness and 2) selecting a judgmental sample 3 of cases from each extract to verify that the
data elements extracted matched the taxpayer account information in the Integrated Data
Retrieval System. 4 We determined that the data extracts were valid and reliable for the purposes
of this audit.




1
    TIGTA’s centralized storage of IRS data files.
2
    An IRS database that contains third-party information returns documents for taxpayers, such as Forms W-2.
3
    A judgmental sample is a nonprobability sample, the results of which cannot be used to project to the population.
4
 IRS computer system capable of retrieving or updating stored information. It works in conjunction with a taxpayer’s
account records.
                                                                                                              Page 16
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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: 1) processes and procedures to
ensure that employers are reporting and paying the correct amount of employment taxes,
2) processes and procedures to identify noncompliance and enforce backup withholding
requirements, and 3) processes and procedures to identify information returns with decedent
TINs. We evaluated these controls by reviewing policies and procedures, interviewing
employees and management, and analyzing data from various sources.




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                                                                                      Appendix II
                                    Outcome Measures
This appendix presents detailed information on the measurable impact that our recommended
corrective actions will have on tax administration. These benefits will be incorporated into our
Semiannual Report to Congress.

Type and Value of Outcome Measure:
   •   Revenue Protection – Potential; $604.6 million in backup withholding if the IRS held
       payers liable (as specified by the I.R.C.) when submitting information returns with missing
       payee TINs that are subject to backup withholding (see page 3).

Methodology Used to Measure the Reported Benefit:
We obtained data for TY 2018 information returns subject to backup withholding. We then
identified information returns with missing payee TINs (by analyzing certain data fields) and
removed information returns that were not subject to backup withholding, e.g., duplicate
returns, certain amended returns, foreign payers, and foreign payees.
Our review of TY 2018 information returns identified 123,069 payers that submitted
266,617 TY 2018 information returns for which the payee TIN was missing. These information
returns reported payments totaling $44 billion. As such, payers were required to immediately
withhold almost $11 billion from these payees, yet only $6 million was withheld. I.R.C. § 3406
requires payers to backup withhold at a rate of 24 percent on reportable payments to a payee
after notification that the payee TIN is missing.
After further analysis, we noted that the income amounts reported by payers significantly
differed from one year to the next. Thus, similar to how we accounted for this in our prior
review, we identified those payers who submitted information returns for the same payee with a
missing TIN for two years in a row. Our analysis identified 12,829 payers that submitted
22,406 information returns with the same missing payee TIN, payee name, and payee zip code
for two consecutive tax years (TYs 2017 and 2018). These 22,406 information returns reported
payments totaling about $2.5 billion. As such, payers were required to immediately withhold
$606,756,565, yet just $2,130,240 was withheld. This resulted in the payers needing to report
$604,626,325 in backup withholding.

       Management’s Response: The IRS disagreed with this outcome measure, stating that
       numerous factors contribute to whether some or all of a payment is truly reportable and
       subject to backup withholding by a payer. For example, ****************2****************
       ********************************************2************************************************
       ******************2******************. Additionally, it cannot be assumed that income
       reported on an information return without a payee TIN has not been properly reported
       by the payee and taxed accordingly. A payer has available the Form 4669 and
       Form 4670 process, which may relieve the payer of the backup withholding tax liability.
       Lastly, the IRS has a finite amount of resources to address multiple areas of


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           noncompliance with competing priorities, yet TIGTA’s outcome measure does not
           consider the opportunity costs of diverting resources from one workstream to another.
                    Office of Audit Comment: At a recent congressional hearing, 33 the IRS
                    Commissioner noted that information returns are important to the IRS’s ability to
                    ensure that taxpayers pay what they owe and that this type of reporting reduces
                    the Tax Gap. Furthermore, findings from the IRS’s own Tax Gap analyses show
                    that compliance is higher when amounts are subject to information reporting and
                    even higher when also subject to withholding.
                    However, SB/SE Division’s response to our report does not acknowledge that
                    each of the information returns that we used as the basis for our outcome
                    measure have either no TIN or an invalid TIN. As such, these information returns
                    do not provide the IRS the ability to ensure that the taxpayers pay what they owe.
                    ***************************************2********************************************
                    ***************************************2********************************************
                    ****2****.
                    To address this, Congress enacted legislation dating back to 1983 that requires
                    payers to backup withhold when the payee fails to provide a TIN or provides an
                    invalid TIN. Nearly 30 years later, the IRS still does not have adequate
                    processes/procedures to enforce backup withholding requirements. Rather than
                    take the needed action, SB/SE Division management attempts to refute our
                    analysis by citing unsubstantiated anecdotal scenarios that might not result in
                    requiring backup withholding. The flaw in the management’s reasoning is that
                    none of these situations can be substantiated because these information returns
                    have no TIN or an invalid TIN. The SB/SE Division should be in a much better
                    position to evaluate and address this issue. Its Research Office has approximately
                    58 employees who can use quantitative and qualitative research techniques to
                    provide services such as data analysis and workload selection models with a focus
                    on data-driven results.
                    We note in the narrative of our outcome measure a number of factors that
                    contribute to whether backup withholding is applicable. The fact remains there
                    were 22,406 information returns with missing payee TINs reporting $2.5 billion in
                    reportable payments that required $606.8 million to be withheld, yet only $2.1
                    million was withheld. Additionally, we identified 173,787 information returns with
                    incorrect payee TINs reporting $11.6 billion in reportable payments that required
                    $2.8 billion to be withheld, yet only $2.6 million was withheld. This directly
                    impacts the Tax Gap and the IRS is not taking sufficient actions to address the
                    problem.
                    Finally, we fully acknowledge the IRS’s resource limitation and our report includes
                    analyses that could be performed to identify the most egregious noncompliant
                    payers. The results of these analyses are on pages 3 through 6.




33
     Senate Finance Committee Hearing on 2021 Tax Filing Season, April 13, 2021.
                                                                                                Page 19
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Type and Value of Outcome Measure:
   •   Revenue Protection – Potential; $2.8 billion in backup withholding if the IRS held payers
       liable (as specified by the I.R.C.) when submitting information returns with incorrect
       payee TINs that are subject to backup withholding (see page 3).

Methodology Used to Measure the Reported Benefit:
We obtained data for TYs 2015, 2016, 2017, and 2018 information returns potentially subjected
to backup withholding. We then identified information returns with incorrect payee name/TIN
combinations (by analyzing certain data fields) and removed information returns not subject to
backup withholding, e.g., duplicate returns, certain amended returns, foreign payers, and foreign
payees.
Our review of TY 2018 information returns identified 65,717 payers that submitted
173,787 information returns for which the payer used the same incorrect payee TIN for
four consecutive years (TYs 2015 through 2018). These information returns reported payments
totaling $11.6 billion in TY 2018. As such, payers were required to withhold nearly $2.8 billion
from these payees, yet only $2.6 million was withheld. I.R.C. § 3406 requires payers to backup
withhold at a rate of 24 percent on reportable payments to a payee after notification that the
payee TIN is incorrect. This resulted in the payers needing to report $2,770,804,013 in backup
withholding.
Unlike information returns with missing TINs that require payers to immediately backup
withhold, payers are not required to backup withhold on payments to the payee until
30 business days after the IRS sends the payer correspondence notifying them of an incorrect
payee TIN. If the IRS sends a second notice in a three-calendar-year period to the payer, backup
withholding must begin 30 business days after the notice is sent and the payer does not receive
a copy of the payee’s Social Security card or IRS letter validating the TIN from the payee.
IRS management indicated there are a number of factors that contribute to whether backup
withholding is applicable. For example, taxpayers may use the Form 4669 and Form 4670
process that relieves the payer from their backup withholding liabilities. Additionally, it is
possible that income reported on an information return with a missing payee TIN may have in
fact been reported to the IRS on a subsequent information return with the correct payee TIN
and taxed accordingly. Furthermore, ***********2**************************************************
**************************************************2**************************************************
**************************************************2**************************************************
**************************************************2**************************************************
*****************2*****************.

       Management’s Response: The IRS disagreed with this outcome measure, stating that
       numerous factors contribute to whether some or all of a payment is truly reportable and
       subject to backup withholding by a payer. For example, ****************2****************
       ********************************************2************************************************
       *****************2*****************. Additionally, it cannot be assumed that income
       reported on an information return with an incorrect TIN has not been properly reported
       by the payee and taxed accordingly. A payer has available the Form 4669 and
       Form 4670 process, which may relieve the payer of the backup withholding tax liability.
       As noted in TIGTA’s report, the IRS is already addressing backup withholding in field
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       examinations as well as in its campus operations. Specifically, TIGTA acknowledges that
       the IRS is working TY 2017 backup withholding cases in which ************2**************
       ********************************************2************************************************
       ****2****. To date, these efforts have resulted in adjustment letters to 1,845 taxpayers.
       The Tax Exempt and Government Entities Division has also been working these cases for
       two years. Both the SB/SE and Tax Exempt and Government Entities Divisions are
       working field examinations addressing backup withholding. These programs have
       already started addressing TY 2018 cases. TIGTA also assumes that the IRS has resources
       available to address 100 percent of these returns. The IRS has a finite amount of
       resources to address multiple areas of noncompliance with competing priorities. TIGTA’s
       outcome measure does not consider the opportunity costs of diverting resources from
       one workstream to another.
              Office of Audit Comment: See the Office of Audit Comment in response to the
              IRS’s disagreement to the first outcome measure.

Type and Value of Outcome Measure:
   •   Reliability of Information – Potential; 2.4 million information returns submitted with
       deceased individuals’ TINs as the payee TINs (see Recommendation 1).

Methodology Used to Measure the Reported Benefit:
We obtained data for TY 2018 information returns subject to backup withholding. We then
identified information returns with payee TINs of deceased individuals by analyzing the SSA file
that includes dates of death. We identified forms issued to payees who had been deceased for
at least three years (since December 31, 2015). We arbitrarily chose three years as we thought
this was sufficient time to allow the IRS to update its systems for these decedent TINs.
Our review of TY 2018 information returns subject to backup withholding found that the IRS
received 2,699,110 returns from 52,500 payers totaling $3.7 billion in reportable payments for
1.2 million deceased individuals who were deceased three years prior to the information return
reportable payments; therefore, we assume the income likely does not belong to the taxpayer.
We also analyzed IRS tax records to determine if the 1.2 million decedent payee TINs were used
to file TY 2018 tax returns to claim the income reported on the information returns. Our analysis
identified that 59,649 decedent TINs were used to file either a Form 1041, Form 1040, or
Form 706. The 59,649 deceased payee TINs submitted 256,068 information returns with
$770 million in reportable payments. As a result, 1.1 million decedent TINs used on
2,443,042 (2,699,110 – 256,068) information returns were not used to file a Form 1041,
Form 1040, or Form 706 to claim the reportable payments on the information returns.
Generally, payers should not submit information returns using the SSN of a deceased taxpayer
for identification of the payee. These taxpayers have been deceased for three or more years and
thus are likely being used because payers have not been notified about the death of a payee, an
estate EIN has not been provided to the payer, or payees are providing the **********2**********
**************************************************2*********************.

       Management’s Response: The IRS disagreed with this outcome measure, stating that
       the SSN of a deceased person is not an invalid TIN and can be reflected on information
       returns in accordance with information return filing guidelines. IRS management
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       believes TIGTA wrongly states, “Generally, payers should not submit information returns
       using the TIN of a deceased taxpayer for identification of the payee.” If the payer has
       not been notified of a change in name or TIN, by either the payee or the IRS, the payer is
       in compliance as long as it is filing information returns on time and using a valid TIN.
       TIGTA also did not thoroughly analyze if this income was reported elsewhere. The report
       observes that information returns report income associated with TINs of deceased
       taxpayers that are not associated with filed Forms 1040. However, ***********2**********
       ********************************************2************************************************
       ********************************************2*********************************************** .
       TIGTA also failed to check for this income being reported on any surviving spouse’s
       Form 1040.
               Office of Audit Comment: SB/SE Division management’s response
               mischaracterizes our report. TIGTA did not state that these are invalid SSNs. In
               fact, the IRS previously agreed with our conclusion that there is no clear way to
               match the information returns to income reported for a deceased payee TIN. Our
               reviews continually show that billions of dollars in income are being reported for
               individuals who have been deceased for more than two years.
               Furthermore, SB/SE Division management’s response acknowledges the overall
               risk to tax administration involved with the use of a decedent’s TIN. To address
               this risk, the IRS’s systems ********2************************************************
               ************************************2************************************************
               *****2****. Nonetheless, SB/SE management has not taken any steps to address
               the potential fraud associated with the $770 million in reportable payments
               under a decedent’s TIN.

Type and Value of Outcome Measure:
   •   Increased Revenue – Potential; $133.1 million in additional tax assessments from
       IRS-CAWR discrepancy cases with the highest potential for assessment not worked by
       the IRS (see page 11).

Methodology Used to Measure the Reported Benefit:
Our review of TY 2017 IRS-CAWR discrepancy cases shows that the IRS is still not selecting
discrepancy cases with the highest potential for assessment. The IRS selected and worked
21,372 TY 2017 IRS-CAWR discrepancy cases resulting in securing tax returns or assessing
additional tax totaling $58.8 million. The IRS worked an additional 2,497 discrepancy cases after
the initial selection of 86,538 discrepancy cases, which resulted in additional tax assessed or tax
returns secured totaling $5.9 million. Our review of TY 2017 IRS-CAWR discrepancy cases
identified 240 discrepancy cases for which the IRS-CAWR program did not work the case despite
the potential tax assessment being greater than cases the IRS worked. The total potential tax
associated with these 240 discrepancy cases is $12.1 million. The IRS confirmed that a
programming error resulted in the IRS not selecting TY 2017 cases by the highest potential tax
assessment as was intended. This resulted in the IRS not working potentially $133,071,799 in
additional tax assessments. We calculated the outcome by taking the difference between what
the IRS could have assessed ($197,722,352) and what the IRS actually assessed through securing


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tax returns or assessing additional tax ($58,778,182) and additional discrepancy cases worked
after initial population ($5,872,371).

       Management’s Response: The IRS disagreed with this outcome measure, stating that
       TIGTA incorrectly assumes 100 percent of the potential tax assessments would be
       realized in every case. The IRS informed TIGTA that this assumption is wrong. Numerous
       factors contribute to whether some or all of a potential discrepancy is fully assessable.
       TIGTA’s outcome measures do not take into consideration cases that are worked
       correctly yet result in no tax or a reduced tax assessment. Datasets provided by TIGTA
       contained 23,865 cases that showed current case status. However, these datasets did
       not include dollars associated with these categories of cases, so IRS management can
       only make the following general observations: Of the 23,865 returns, 12 percent (2,732)
       of the closed work has been reconsidered after initial assessment and generally would
       indicate that the ultimate assessment was lower than the amount originally proposed.
       An additional subset of 15,449 (65 percent) cases requires rework and has the potential
       for a similar outcome (i.e., reduced assessment). Only 17 percent (4,250) of the returns
       identified by TIGTA resulted in a full agreement or a return being secured that could
       equal the full potential tax assessment. TIGTA’s outcome measure also assumes that the
       IRS has unlimited resources and does not take into account our finite resources and the
       opportunity costs of diverting resources from one workstream to another.
              Office of Audit Comment: Data for the 23,865 cases that IRS management
              refers to in its response were provided by the IRS, and we used that data to
              identify the 21,372 discrepancy cases the IRS selected and worked that are
              claimed in this outcome measure. The outcome measure reflects the potential
              tax assessment that relates to a programming error we brought to IRS attention
              where the IRS did not select discrepancy cases with the highest potential tax
              assessment. This programming error resulted in the IRS selecting discrepancy
              cases with lower potential tax assessments, which resulted in a potential
              $133.1 million of additional tax assessments that we report in this outcome
              measure.
              Management again cites its resource limitations; however, the programming error
              resulted in the IRS selecting and working cases with a low potential tax
              assessment. If this programming error did not occur, the IRS could have worked
              a more productive mixture of discrepancy cases focusing on the highest potential
              tax assessment, which maximizes the use of these limited resources.




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                                                                                           Appendix III
                 Information Returns Requiring Backup Withholding

     Form 1099-B                    Brokers and Barter Exchanges
     Form 1099-DIV                  Dividends and Distributions
     Form 1099-G                    Certain Government Payments
     Form 1099-INT                  Interest Income
     Form 1099-K                    Payment Card and Third Party Network Transactions
     Form 1099-MISC                 Miscellaneous Income
     Form 1099-OID                  Original Issue Discount
     Form 1099-PATR                 Taxable Distributions Received from Cooperatives
     Form W-2G                      Gambling Winnings 1




1
    Form W-2G is subject to backup withholding only for missing TINs.
                                                                                                 Page 24
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                                                                  Appendix IV
Management’s Response to the Draft Report




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                                                                     Page 26
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                                                                     Page 27
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                                                 2

commit to perform an additional study when TIGTA has not presented any evidence that
such a study is worth the diversion of our limited resources.

IMPLEMENTATION DATE
NA

RESPONSIBLE OFFICIAL:
NA

CORRECTIVE ACTION MONITORING PLAN:
NA

OUTCOME MEASURE 1:
Revenue Potential: $604.6 million in backup withholding if the IRS held payers liable (as
specified by the I.R.C.) when submitting information returns with missing payee TINs
that are subject to backup withholding (see page 3).

IRS RESPONSE:
We disagree with this measure. Numerous factors contribute to whether some or all of a
payment is truly reportable and subject to backup withholding by a payer. For example,
***************************************************2************************************************
***************************************************2********************. Additionally, it cannot
be assumed that income reported on an information return without a payee TIN has not
been properly reported by the payee and taxed accordingly. A payer has available the
Form 4669 and Form 4670 process, which may relieve the payer of the backup
withholding tax liability. Lastly, the IRS has a finite amount of resources to address
multiple areas of noncompliance with competing priorities, yet TIGTA’s outcome
measure does not consider the opportunity costs of diverting resources from one
workstream to another.

OUTCOME MEASURE 2:
Revenue Protection – Potential; $2.8 billion in backup withholding if the IRS held payers
liable (as specified by the I.R.C.) when submitting information returns with incorrect
payee TINs that are subject to backup withholding (see page 3).

IRS RESPONSE:
We disagree with this outcome measure. Numerous factors contribute to whether some
or all of a payment is truly reportable and subject to backup withholding by a payer. For
example, ****************************************2************************************************
***************************************************2**********************************************.
Additionally, it cannot be assumed that income reported on an information return with an
incorrect payee TIN has not been properly reported by the payee and taxed accordingly.




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                                                 3

A payer has available the Form 4669 and Form 4670 process, which may relieve the
payer of the backup withholding tax liability.

As noted in TIGTA’s report, the IRS is already addressing backup withholding in field
examinations as well as in our campus operations. Specifically, TIGTA acknowledges
that the IRS is working “TY 2017 backup withholding cases where the *********2**********
**************************************************2*************************************************
*****2*****. To date, these efforts have resulted in adjustment letters to 1,845 taxpayers.”
TE/GE has also been working these cases for two years. Both SB/SE and TE/GE are
working field examinations addressing backup withholding. These programs have
already started addressing 2018 cases.

TIGTA also assumes that the IRS has resources available to address 100% of these
returns. The IRS has a finite amount of resources to address multiple areas of
noncompliance with competing priorities. TIGTA’s outcome measures do not consider
the opportunity costs of diverting resources from one workstream to another.

OUTCOME MEASURE 3:
Reliability of Information – Potential; 2.4 million information returns submitted with
deceased individuals’ TINs as the payee TINs (Recommendation 1).

IRS RESPONSE:
We disagree with this outcome measure. The SSN of a deceased person is not an
invalid TIN and can be reflected on information returns in accordance with information
return filing guidelines. TIGTA wrongly states, “Generally, payers should not submit
information returns using the TIN of a deceased taxpayer for identification of the payee.”
If the payer hasn’t been notified of a change in name or TIN, by either the payee or the
IRS, the payer is in compliance as long as it is filing information returns on time and
using a valid TIN.

TIGTA also did not thoroughly analyze if this income was reported elsewhere. The
report observes that information returns report income associated with TINs of
deceased taxpayers that are not associated with filed Forms 1040. However, TIGTA
**************************************************2*************************************************
**************************************************2*************************************************
****2****. TIGTA also failed to check for this income being reported on any surviving
spouse’s Forms 1040.

OUTCOME MEASURE 4:
Increased Revenue – Potential; $133.1 million in additional tax assessments from
IRS-CAWR discrepancy cases with the highest potential for assessment not worked by
the IRS (see page 9).




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                                                                          Appendix V
                             Abbreviations

CAWR              Combined Annual Wage Reporting
I.R.C.            Internal Revenue Code
IRS               Internal Revenue Service
SB/SE             Small Business/Self-Employed
SSA               Social Security Administration
SSN               Social Security Number
TIGTA             Treasury Inspector General for Tax Administration
TIN               Taxpayer Identification Number
TY                Tax Year




                                                                               Page 32
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                call our toll-free hotline at:
                         (800) 366-4484


                              By Web:
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                             Or Write:
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                   Washington, D.C. 20044-0589




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