oversight

Implementation of Tax Year 2020 Employer Tax Credits Enacted in Response to the COVID-19 Pandemic

Published by the Office of the Treasury Inspector General for Tax Administration on 2021-07-09.

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

  TREASURY INSPECTOR GENERAL FOR TAX ADMINISTRATION




            Implementation of Tax Year 2020 Employer Tax Credits
              Enacted in Response to the COVID-19 Pandemic


                                                       July 9, 2021

                                         Report Number: 2021-46-043




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: Implementation of Tax Year 2020 Employer Tax Credits
                          Enacted in Response to the COVID-19 Pandemic
Final Audit Report issued on July 9, 2021                                        Report Number 2021-46-043

Why TIGTA Did This Audit               What TIGTA Found
In June 2020, TIGTA issued an          Our review identified that the expediency required to implement this
interim report providing               much-needed relief to employers did not allow for the development
preliminary results of the IRS         of the complex systemic verifications, including prerefund controls
efforts to implement business tax      (e.g., electronic business rules). As such, the IRS established
provisions included in                 procedures to manually review and process Forms 7200. Our review
Coronavirus Disease 2019               of 9,459 advance payment requests received as of June 4, 2020,
(COVID-19) relief legislation.         determined that the IRS accurately processed most of these requests.
This report is a continuation of       TIGTA identified processing errors on 17 Forms 7200 with incorrect
our review of the IRS’s                credits totaling $83,806. The errors included forms processed more
implementation of business tax         than once; forms involving a government entity, which does not
provisions included in legislation     qualify; and forms that claimed an amount over the allowable
passed in response to the              threshold. The IRS was able to initiate actions to ensure that the
pandemic. The overall objective        taxpayers’ accounts reflect the correct amount of employer tax
of this review was to assess the       credits.
IRS’s actions to ensure the validity
                                       In addition, TIGTA identified that manual verification processes
of employer tax credit claims as
                                       established to review the advance payments claimed on Form 7200
well as the accuracy of the
                                       ******************2******************* of the credit claims on
employer reconciliations of
                                       Forms 941, Employer’s QUARTERLY Federal Tax Return, during tax
advance payments.
                                       return processing. ************************2***************************
Impact on Taxpayers                    ****2****, our review of Tax Year 2020 Forms 941 processed with an
                                       employer tax credit as of October 1, 2020, identified a total of
In response to the enactment of
                                       317 potentially fraudulent employer tax credits for approximately
legislation, the IRS initiated an
                                       $94.2 million that were not identified during processing.
educational campaign to promote
the availability of the various        Finally, TIGTA identified 113 government entities that filed a
credits to employers; developed        Tax Year 2020 Form 941 as of September 23, 2020, that were not
Form 7200, Advance Payment of          eligible for the employer tax credits claimed totaling $2 million. As of
Employer Credits Due to                December 17, 2020, the IRS identified an additional 420 government
COVID-19; and developed                entities that received $7.2 million in erroneous employer tax credits
processes and procedures to            and is working to reverse the credits. As a result, the IRS has
enable employers to request an         implemented processes and procedures to continue to identify
advance payment of the employer        erroneous employer tax credit claims associated with government
tax credit even though the Tax         entities.
Processing Centers were closed.
                                       What TIGTA Recommended
The IRS started processing
Forms 7200 on April 28, 2020. As       TIGTA made no recommendations as the IRS addressed our concerns
of October 16, 2020, the IRS had       during the review.
processed 10,163 Forms 7200 and
issued over $583 million in
employer tax credits.
                                         U.S. DEPARTMENT OF THE TREASURY
                                                 WASHINGTON, D.C. 20220



TREASURY INSPECTOR GENERAL
  FOR TAX ADMINISTRATION



                                              July 9, 2021


MEMORANDUM FOR: COMMISSIONER OF INTERNAL REVENUE



FROM:                        Michael E. McKenney
                             Deputy Inspector General for Audit

SUBJECT:                     Final Audit Report – Implementation of Tax Year 2020 Employer Tax
                             Credits Enacted in Response to the COVID-19 Pandemic
                             (Audit # 202040633)

This report presents the results of our review to assess the Internal Revenue Service’s (IRS)
actions to ensure the validity of employer tax credit claims as well as the accuracy of the
employer reconciliations of advance payments. This review is part of our Fiscal Year 2021 audit
coverage of the IRS’s response to the coronavirus pandemic and addresses the major
management and performance challenges of Responding to the COVID-19 Pandemic and
Implementing Tax Law Changes.
Management’s complete response to the draft report is included as Appendix IV.
Copies of this report are also being sent to the IRS managers affected by the report information.
If you have any questions, please contact me or Russell P. Martin, Assistant Inspector General for
Audit (Returns Processing and Account Services).
                                          Implementation of Tax Year 2020 Employer Tax Credits
                                            Enacted in Response to the COVID-19 Pandemic




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


Results of Review........................................................................................................................Page         6

            *************************2************************
            *******2****** Identify Potentially Erroneous or
            Fraudulent Employer Tax Credits Claimed on
            Employment Tax Returns ..................................................................................................Page 7
            Processes Are Being Implemented to Ensure That
            Employers Receiving Advance Employer Tax Credits File
            Their Required Employment Tax Return .....................................................................Page 9


Appendices
            Appendix I – Detailed Objective, Scope, and Methodology ................................Page 11
            Appendix II – Outcome Measures .................................................................................Page 13
            Appendix III – Form 7200, Advance Payment of Employer Credits
            Due to COVID-19 .................................................................................................................Page 16
            Appendix IV – Management’s Response to the Draft Report .............................Page 17
            Appendix V – Abbreviations.............................................................................................Page 22
                                 Implementation of Tax Year 2020 Employer Tax Credits
                                   Enacted in Response to the COVID-19 Pandemic




Background
On March 18 and March 27, 2020, respectively, the President signed into law the Families First
Coronavirus Response Act (FFCRA)1 and Coronavirus Aid, Relief, and Economic Security (CARES)
Act.2 Provisions contained in the FFCRA and CARES Act provide businesses impacted by the
Coronavirus Disease 2019 (COVID-19) pandemic with three new employer tax credits – the Sick
Leave Credit, the Family Leave Credit, and the Employee Retention Credit. In addition, the
CARES Act provides employers with the ability to defer payment of their portion of the Social
Security tax. The employer tax credits apply to employee retention wages paid between
March 13, 2020, and June 30, 2021, and wages paid for periods of leave between April 1, 2020,
and March 31, 2021. Employers and self-employed individuals deferring the employer share of
Social Security tax generally must repay half the deferral by December 31, 2021, and the other
half by December 31, 2022.

Families First Coronavirus Response Act
The FFCRA provides refundable tax credits 3 to employers with fewer than 500 employees that
reimburse them, dollar for dollar, for the cost of providing paid sick and family leave wages to
their employees for leave related to COVID-19. Employees may receive up to 80 hours of paid
sick leave to care for their own health needs or to care for other family members. Also, the
employee may receive up to 10 weeks of paid family leave to care for a child whose school or
place of care is closed or whose child care provider is unavailable due to COVID-19 precautions.
Certain self-employed individuals in similar circumstances are entitled to similar credits.
To qualify for the credits, employers must be a nongovernmental entity and provide and pay
qualified sick or family leave wages, defined in the FFCRA, for periods of leave between
April 1, 2020, and March 31, 2021. Specifically, an eligible employer that pays qualified leave
wages to its employees in a calendar quarter before it is required to deposit Federal
employment taxes with the Internal Revenue Service (IRS) for that quarter may reduce the
amount of Federal employment taxes that it deposits by the amount of the qualified leave
wages paid. The eligible employer must account for the reduction in deposits on Form 941,
Employer’s QUARTERLY Federal Tax Return. However, if there are insufficient Federal
employment taxes to cover the amount of the credits, an eligible employer may request an
advance payment of the credits from the IRS. Figure 1 provides the requirements that need to
be met to claim the Sick and Family Leave Credits.




1
 Pub. L. No. 116-127, 134 Stat. 178, as amended by the COVID-Related Tax Relief Act of 2020, Pub. L. No. 116-260,
div. N, 134 Stat. 1182, 1964, and the Taxpayer Certainty and Disaster Tax Relief Act of 2020, Pub. L. No. 116-260,
div. EE, 134 Stat. 1182, 3051 (2020).
2
    Pub. L. No. 116-136, 134 Stat. 281, as amended by the COVID-Related Tax Relief Act of 2020 and the Taxpayer
Certainty and Disaster Tax Relief Act of 2020 (2020).
3
  A refundable credit is a credit to reduce a tax liability. If the tax liability is reduced to zero and a credit remains, it is
eligible to be refunded to the taxpayer.
                                                                                                                        Page 1
                                Implementation of Tax Year 2020 Employer Tax Credits
                                  Enacted in Response to the COVID-19 Pandemic

                 Figure 1: Requirements for the Sick and Family Leave Credits

    Sick Leave Credit                                              Family Leave Credit

    Qualified wages are limited to 80 hours or 10 days             Qualified wages are limited to two-thirds of
    paid to an employee at the employee’s regular                  the employee’s regular rate of pay up to
    rate, or if higher, the Federal minimum wage or                $200 per day per employee for up to
    any applicable State or local minimum wages, up                10 weeks or 50 days of qualified wages paid
    to $511 per day for the individual. An employee                to an employee who is unable to work.
    caring for someone is eligible at two-thirds of the
    employee’s regular rate of pay, or applicable
    minimum wages, up to $200 per day.

    The IRS estimates the maximum credit allowed per               The IRS estimates the maximum credit
    employee is ***2***. 4                                         allowed per employee is approximately
                                                                   ***2***. 5

    Employee must be subjected to Federal, State, or               Employee must be employed for a least
    local government isolation order, requested to                 30 calendar days and unable to
    self-quarantine, experiencing symptoms and                     work/telework due to the need to care for a
    seeking a diagnosis, caring for an individual in               child because their school or place of care
    isolation or self-quarantine, or caring for a child if         has been closed or is unavailable.
    the school or place of care is closed or is
    unavailable.

Source: Summary of requirements in the FFCRA.
As of February 25, 2021, the IRS processed 72,469 tax returns for Tax Year 6 2020 claiming the
Sick and Family Leave Credits totaling $2.8 billion.

Coronavirus Aid, Relief, and Economic Security Act
The CARES Act encourages eligible employers to keep employees on their payroll despite
experiencing economic hardship related to COVID-19. As such, the CARES Act created the
Employee Retention Credit, which is a refundable credit against employment taxes. The
Employee Retention Credit is equal to 50 percent of qualified wages paid (including allocable
qualified health plan expenses) between March 13, 2020, and December 31, 2020. Additional
legislation passed in December 2020 and March 2021 that increased the credit to 70 percent of
qualified wages paid between January 1, 2021, and December 31, 2021.7 Certain government


4
  The maximum amount claimed may not exceed the maximum allowable per employee: **************2**************
**************************************************************2*************************************************************
maximum per employee (approximately). Note that Qualified Health Expenses is a conservative estimate, according
to IRS management.
5
  The maximum amount claimed may not exceed the maximum allowable per employee: **************2**************
**************************************************************2*************************************************************
maximum per employee (approximately). Note that Qualified Health Expenses is a conservative estimate, according
to IRS management.
6
 The 12-month accounting period for keeping records on income and expenses used as the basis for calculating the
annual taxes due. The tax year on quarterly employment tax returns includes each of the four quarterly returns filed
during the calendar year.
7
    The Taxpayer Certainty and Disaster Tax Relief Act of 2020 and the American Rescue Plan Act of 2021.
                                                                                                                   Page 2
                                 Implementation of Tax Year 2020 Employer Tax Credits
                                   Enacted in Response to the COVID-19 Pandemic

entities are not eligible for this credit, and self-employed individuals are not eligible for this
credit with respect to their own self-employment earnings.
To be eligible for the credit, employers must have a trade or business during Calendar Year 2020
or during the calendar quarter for which they are claiming the credit in Calendar Year 2021 and
either fully or partially suspends operation due to orders from an appropriate governmental
authority limiting commerce, travel, or group meetings due to COVID-19 or experiences a
decline in gross receipts during the calendar quarter. For Tax Year 2020, the maximum amount
of qualified wages taken into account with respect to each employee for all calendar quarters is
$10,000, so that the maximum credit for an eligible employer for qualified wages paid to any
employee is $5,000. For Tax Year 2021, the maximum amount of qualified wages taken into
account with respect to each employee for all calendar quarters is $10,000 per quarter, so that
the maximum credit for an eligible employer for qualified wages paid to any employee is $7,000
per quarter.8 An eligible employer that pays qualified wages to its employees in a calendar
quarter before it is required to deposit Federal employment taxes with the IRS may reduce the
amount of Federal employment taxes by the amount of the Employee Retention Credit it plans
to claim. However, if there are insufficient Federal employment taxes to cover the amount of the
credit, an eligible employer may request an advance payment of the credit from the IRS.
As of February 25, 2021, the IRS processed 102,422 tax returns for Tax Year 2020 claiming
Employee Retention Credits totaling $4.5 billion.

The CARES Act allows employers and self-employed individuals to defer the payment of
their employer share of Social Security tax over the next two years.
Generally, half of the deferral is required to be repaid by December 31, 2021, and the other half
is due by December 31, 2022. On August 8, 2020, the President issued a Presidential
Memorandum9 directing the Secretary of the Treasury to expand the deferral to also include the
employee’s portion of Social Security tax.10 Pursuant to Notice 2020-65, Relief With Respect to
Employment Tax Deadlines Applicable to Employers Affected by the Ongoing Coronavirus
(COVID-19) Disease 2019 Pandemic, employers could elect to defer payment and withholding of
the employee portion of Social Security tax between September 1 and December 31, 2020, for
employees with biweekly pay that was less than $4,000. Under Notice 2020-65, the due date for
withholding and paying the deferred tax was extended to April 30, 2021.11 Therefore, as of
September 1, 2020, many employers could defer 100 percent of Social Security tax.




8
 The American Rescue Plan Act of 2021 modifies the Employee Retention Credit for the third and fourth quarters of
Tax Year 2021, which will impact the maximum credit amount for some taxpayers.
9
    Federal Register, Vol. 85, No. 157, pp. 49587–49588, Deferring Payroll Tax Obligations in Light of the Ongoing
COVID-19 Disaster (August 13, 2020).
10
  The IRS’s authority was established in the issuance of Notice 2020-65, Relief With Respect to Employment Tax
Deadlines Applicable to Employers Affected by the Ongoing Coronavirus (COVID-19) Disease 2019 Pandemic
(August 2020).
11
  Notice 2021-11, Additional Relief With Respect to Employment Tax Deadlines Applicable to Employers Affected by
the Ongoing Coronavirus (COVID-19) Disease 2019 Pandemic (January 2021), makes changes to Notice 2020-65 to
extend the payment period to December 31, 2021.
                                                                                                                Page 3
                                 Implementation of Tax Year 2020 Employer Tax Credits
                                   Enacted in Response to the COVID-19 Pandemic

As of February 25, 2021, we identified 152,739 employers that have deferred approximately
$97.1 billion in Social Security tax. As previously mentioned, this amount will need to be fully
repaid by December 31, 2022.12

Legislation passed in December 2020 and March 2021 modified provisions of the FFCRA
and the CARES Act
On December 27, 2020, the President signed into law the Taxpayer Certainty and Disaster Tax
Relief Act of 2020 and the COVID-Related Tax Relief Act of 2020, which make changes to the
new employer tax credits created in the FFCRA and CARES Act passed in March 2020. Employers
are eligible to continue to claim the Sick and Family Leave Credits for periods of leave provided
through March 31, 2021, and the Employee Retention Credit through June 30, 2021. The new
legislation also retroactively clarifies language in the FFCRA and CARES Act. For example, the
legislation clarifies the treatment of group health plan expenses for purposes of the Employee
Retention Credit. Furthermore, the legislation retroactively modified the limitation that
employers who received a Paycheck Protection Program 13 loan could not also receive the
Employee Retention Credit, thus allowing employers to both receive the loan and claim the
credit under certain conditions. Additionally, the new legislation extends the due date for
employers to repay the employee share of the Social Security tax deferral from April 30, 2021, to
December 31, 2021.
On March 11, 2021, the President signed into law the American Rescue Plan Act,14 which also
made changes to the employer tax credits in the FFCRA and CARES Act. Employers are now
eligible to continue to claim the Sick and Family Leave Credits for periods of leave provided
through September 30, 2021, and the Employee Retention Credit through December 31, 2021.
However, the requirements we analyzed in this review were not impacted by the subsequently
signed legislations (e.g., government entity eligibility and credit thresholds).

An interim Treasury Inspector General for Tax Administration (TIGTA) report provides
preliminary results on IRS efforts to implement business tax provisions
In June 2020, we issued an interim report providing preliminary results of the IRS efforts to
implement business tax provisions included in relief legislation.15 We reported that, in response
to the enactment of this legislation, the IRS initiated an educational campaign to promote the
availability of these credits. In addition, the IRS:
       •   Developed the new Form 7200, Advance Payment of Employer Credits Due to
           COVID-19, 16 to enable employers to request an advance payment of these credits. Along
           with the development of the form, the IRS also developed processes and procedures to
           enable employers to submit these requests even though the Tax Processing Centers

12
     This amount includes the employee portion of Social Security tax due by December 31, 2021.
13
  The CARES Act established the Payroll Protection Program to help businesses retain their employees by offering
potentially forgivable loans from Small Business Administration lenders for use to meet payroll needs and other
business expenses.
14
     Pub. L. No. 117-2 (2021).
15
  TIGTA, Report No. 2020-46-041, Interim Results of the 2020 Filing Season: Effect of COVID-19 Shutdown on Tax
Processing and Customer Service Operations and Assessment of Efforts to Implement Legislative Provisions
(June 2020).
16
     See Appendix III for Form 7200.
                                                                                                           Page 4
                      Implementation of Tax Year 2020 Employer Tax Credits
                        Enacted in Response to the COVID-19 Pandemic

    were closed. For example, the IRS implemented a process to enable employers to
    submit these requests via a dedicated E-fax line. Once a Form 7200 is received
    electronically, it is routed to a dedicated group of IRS employees who review and process
    these requests. Employers could begin to submit their Form 7200 starting April 1, 2020.
•   Revised Form 941, adding lines to account for the various employer tax credits (e.g., Sick
    and Family Leave Credits and Employee Retention Credit) and other tax relief (e.g.,
    deferral of payroll tax) due to COVID-19. Businesses will begin filing the revised
    Form 941 for their second quarter employment taxes due at the end of July 2020. In
    addition, businesses that requested and received an advance payment by filing
    Form 7200 will record that amount on the revised Form 941 to determine whether they
    owe additional employment taxes or are due a refund. See Figure 2 for excerpts from
    the revised Form 941 that employers will use to record the advance payment, employer
    tax credits, and Social Security tax deferral.
        Figure 2: Form 941 Sections Used for Reporting Advance Payment,
              Employer Tax Credits, and Social Security Tax Deferral




Source: Excerpts from the TY 2020 Form 941, revised as of July 2020.



                                                                                        Page 5
                          Implementation of Tax Year 2020 Employer Tax Credits
                            Enacted in Response to the COVID-19 Pandemic

This report is a continuation of our review of the IRS’s implementation of business tax provisions
included in laws passed in response to the pandemic. This review evaluates the IRS’s efforts
from when we last reported in June 2020 through January 2021 and includes evaluations of
credit claims from April 2020 to October 2020. We have additional reviews to continue to
evaluate the implementation of changes in eligibility requirements included in laws enacted
subsequent to the FFCRA and CARES Act as well as assessing the IRS’s efforts to track and
monitor employer repayment of Social Security tax deferrals.



Results of Review
Our review identified that the expediency required to implement this much-needed relief to
employers ***************************************2************************************************
*****************************2****************************** the IRS established procedures to
manually review and process Forms 7200, which it did beginning on April 28, 2020. As of
October 16, 2020, the IRS has processed 10,163 Forms 7200 and issued over $583 million in
advance employer tax credits. Figure 3 shows statistics on the Form 7200.
                   Figure 3: Form 7200 Statistics as of October 16, 2020




   Source: IRS reports as of October 16, 2020.
Manual review of Forms 7200 ensured that they were valid claims. Our review of
9,459 Forms 7200 received as of June 4, 2020, determined that the IRS accurately processed the
majority of these forms. We identified processing errors on 17 of the 9,459 Forms 7200, with
incorrect credits totaling $83,806. When we brought our concerns to IRS management’s
attention, management agreed that tax examiners erroneously processed these claims. These
included **1** Forms 7200 processed more than once; **1** Forms 7200 involving a government

                                                                                             Page 6
                                Implementation of Tax Year 2020 Employer Tax Credits
                                  Enacted in Response to the COVID-19 Pandemic

entity, which does not qualify; and **1** Forms 7200 that claimed an amount over the allowable
threshold. Prior to our notifying IRS management, management had already developed
processes to identify and adjust the Forms 7200 processed more than once. This allowed the
IRS to initiate actions to ensure that the taxpayers’ accounts reflect the correct amount of
employer tax credits and plans to take actions to recover the funds erroneously paid.


************************2************************ Identify
Potentially Erroneous or Fraudulent Employer Tax Credits Claimed on
Employment Tax Returns
Our review identified that manual verification processes established to review the advance
payments claimed on Form 7200 were ***********2************************************************
******************2********************. For example, to ensure that Forms 7200 were valid
claims, the IRS developed specific processes and procedures that included:
       •   Additional research on ***************2**************** to determine the eligibility of the
           advance payment. ***********************2*************************************************
           ****************2****************** the Form 7200 relates, reviewers conduct research
           *******************************************2*********************************.
       •   Ensuring that advance payments do not exceed the allowable amounts. For example, the
           Form 7200 reviewers verify that employers claiming the Sick and Family Leave Credits
           *********************2********************** and the Employee Retention Credit *****2*****
           ***************2************** listed on the Form 7200.17
       •   Ensuring that advance payments to entities not entitled to the credits are rejected.
           Government entities are not eligible for the Sick and Family Leave Credits or the
           Employee Retention Credit.
*****************************2************************************ our review of Tax Year 2020
Forms 941 processed with an employer tax credit as of October 1, 2020, identified a total of
317 tax returns with potentially fraudulent employer tax credits for approximately $94.2 million
that were not identified during tax return processing. Each of the questionable Forms 941 we
identified *****************************************2************************************************
******************2*********************. These 317 tax returns with potentially fraudulent claims
include:
       •   *******************************************1*************************************************
           *******************************************1**************************************, 18 ***1****
           *******************************************1*************************************************
           *******************************************1*************************************************
           *******************************************1*************************************************
           *******************************************1*************************************************




17
  The maximum Employee Retention Credit for each quarter was increased to $7,000 per employee for Tax Year 2021
by the Taxpayer Certainty and Disaster Tax Relief Act of 2020.
18
     A unique nine-digit number used to identify a taxpayer’s business account.
                                                                                                       Page 7
                                 Implementation of Tax Year 2020 Employer Tax Credits
                                   Enacted in Response to the COVID-19 Pandemic

           *******************************************1*************************************************
           *******************************************1******.
       •   **1** Forms 941 with potentially fraudulent employer tax credit claims totaling over
           $1 million. These tax returns were ******2************************************************
           ******************2*****************. For example, claims were filed **********2**********
           **********************2************************************. Management agreed with our
           concern and stated that they became aware of this scheme after reviewers of the
           Forms 7200 noted ***********************2************************************************
           *****2****. Management noted that they referred these tax returns to IRS Criminal
           Investigation for action.
       •   **1** Forms 941 with potentially fraudulent employer tax credit claims totaling over
           $1.2 million. These tax returns were ****2************************************************
           *******************************************2************************************************
           *******************************************2************************************************
           *******2*******. There were *1* Employee Retention Credits of over $735,000 and *1* Sick
           and Family Leave Credits of over $484,000.19 We shared these cases with IRS
           management, and they agreed that *1* Forms 941 warranted further review to determine
           if the employer fraudulently claimed Employee Retention or Sick and Family Leave
           Credits. For the remaining *1* Forms 941, the IRS determined that *1* Forms 941 were
           not questionable and has not yet made a determination on *1* Forms 941.
When we asked management why the verification/validation processes and procedures used for
Forms 7200 *************************************2********************, they stated that, unlike
Form 7200, *************************************2******************************. As such, ****2****
**************************************************2************************************************.
Moreover, the IRS ******************************2**************************************************
*2* tax return filing season was already underway and *****************2***************** when
the legislation was enacted. In response to our bringing the above concerns to IRS
management’s attention, the IRS **************2*************************************************
*************************************************2**********************************************. As
of December 2020, the IRS has identified 41 additional tax returns **************2**************,
however, per IRS review, the tax returns did not have similar characteristics and are being
processed through normal procedures.

The IRS created an identity theft filter to identify businesses that ********2********
*******2********* and may be filing a potentially fraudulent tax return
In response to our bringing the above-mentioned erroneous claims to IRS management’s
attention, the IRS developed and implemented a new identity theft fraud filter in
September 2020 to identify, ******************2**************************************************
*********************2********************. As of October 22, 2020, this filter has identified
110 potentially fraudulent tax returns with refunds totaling $1.7 million. When a tax return is
identified by the IRS, the refund will be stopped and a letter will be sent to the taxpayer
requesting that they verify their identity. Once the taxpayer *************2**************, the case
may be sent to the Small Business/Self-Employed Division to *****************2******************

19
     There are 22 tax returns that claimed both credits.
                                                                                                 Page 8
                              Implementation of Tax Year 2020 Employer Tax Credits
                                Enacted in Response to the COVID-19 Pandemic

*************************************************2**********************. If the taxpayer *****2*****
*************2*************, then the tax return is marked as confirmed identity theft. As of
November 4, 2020, the IRS has confirmed that 32 tax returns were valid and the remaining
78 tax returns are awaiting a taxpayer response, with employer tax credits totaling $1.5 million.
It should be noted that the Small Business/Self-Employed Division worked with various IRS
functions to identify ******************************2*********************************. At the time
of our analysis, the IRS had not yet conducted research and/or analysis *************2************
**********************2************************.

Ineligible entities were allowed to claim the COVID-19 employer tax credits in error
Our review also identified 113 government entities that filed a Tax Year 2020 Form 941 as of
September 23, 2020, that, per the FFCRA and CARES Act, are not eligible for the employer tax
credits. These entities received erroneous employer tax credits totaling $2 million. When we
brought these 113 entities to IRS management’s attention, they indicated that they have sent
63 of the 113 entities to the Tax Exempt and Government Entities Division to determine
eligibility and, as of December 17, 2020, began the process of reversing the erroneous credits.
The remaining 50 entities were subsequently determined to have erroneous credits, and the IRS
is working to reverse these credits. As of December 17, 2020, the IRS identified an additional
420 government entities that received $7.2 million in erroneous employer tax credits and are
working to reverse the credits. As a result, the IRS has implemented processes and procedures
to continue to identify erroneous employer tax credit claims associated with government
entities.


Processes Are Being Implemented to Ensure That Employers Receiving
Advance Employer Tax Credits File Their Required Employment Tax Return
Our analysis of 5,524 employers who received advance payments for the second quarter of Tax
Year 2020 (ending June 30, 2020) identified 3,655 employers (66 percent) who did not report the
correct advance payment amount or did not file the required Form 941. These include:
     •   2,154 employers with advance payment discrepancies between what IRS tax accounts
         show were received as an advance payment and the amount reported on the
         corresponding employer’s Form 941. Management noted that tax returns with
         discrepancies are systemically adjusted to reflect the amount of the advance payment
         listed on the filer’s tax account when the Form 941 is processed. This will result in the
         IRS issuing a different refund than the amount reported on the Form 941 or the taxpayer
         needing to make a payment that is different than the amount reported on the Form 941.
     •   1,501 employers with advance payments totaling $73.9 million that did not file a
         Form 941 or were included on another payer’s Form 941, Schedule R, Allocation
         Schedule for Aggregate Form 941 Filers.20 It should be noted that the IRS estimates, as
         of March 2021, show that there are approximately 938,000 second quarter
         Tax Year 2020 Forms 941 that still need to be processed. As a result, the number of
         employers identified as not filing the required Forms 941 will likely change as the IRS

20
  At the time of our analysis, the IRS had not reconciled the Schedule R filers with advance payments; therefore, this
population cannot be differentiated from the population of nonfilers.
                                                                                                               Page 9
                 Implementation of Tax Year 2020 Employer Tax Credits
                   Enacted in Response to the COVID-19 Pandemic

processes these tax returns and completes the reconciliation of the advance employer
tax credits.
Management noted they are implementing a compliance strategy *********2************
*******************************************2************************************************
*******************************************2************************************************
*******************************************2*************************************** the IRS
has not yet contacted these taxpayers.




                                                                                    Page 10
                                  Implementation of Tax Year 2020 Employer Tax Credits
                                    Enacted in Response to the COVID-19 Pandemic


                                                                                                   Appendix I
                        Detailed Objective, Scope, and Methodology
The overall objective of this review was to assess the IRS’s actions to ensure the validity of
employer tax credit claims as well as the accuracy of the employer reconciliations of advance
payments. To accomplish our objective, we:
       •    Evaluated the IRS’s processes to ensure the validity and accuracy of advance payments
            paid to eligible employers, interviewed IRS management on the procedures to process
            Forms 7200, and analyzed Forms 7200 for validity and accuracy.
       •    Evaluated the controls to track E-fax submissions and determined if adequate controls
            over forms exist.
       •    Assessed the process to reconcile Forms 7200 with Forms 941 to ensure that advance
            payments are properly credited to the taxpayer’s account. We compared the advance
            employer tax credit claims reported on Forms 941 with the amounts on Forms 7200.
       •    Reviewed the IRS’s plans for implementing CARES Act § 2302, Delay of payment of
            employer payroll taxes.

Performance of This Review
This review was performed with information obtained from the Small Business/Self-Employed
Division’s Collection Policy office located in Atlanta, Georgia, during the period June 2020
through March 2021. We conducted this performance audit in accordance with generally
accepted government auditing standards. Those standards require that we plan and perform
the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our
findings and conclusions based on our audit objective. We believe that the evidence obtained
provides a reasonable basis for our findings and conclusions based on our audit objective.
Major contributors to the report were Russell P. Martin, Assistant Inspector General for Audit
(Returns Processing and Account Services); Diana M. Tengesdal, Director; Jonathan W. Lloyd,
Audit Manager; Jaclynne O. Durrant, Lead Auditor; and Kenneth L. Carlson, Senior Auditor.

Validity and Reliability of Data From Computer-Based Systems
During this review, we obtained extracts from the Business Master File 1 for Tax Year 2020 for
transaction codes, entity information, and credit information that were available on TIGTA’s Data
Center Warehouse.2 We evaluated the data on the Data Center Warehouse by performing
electronic testing of required data elements and reviewing existing information about the data
and the system that produced them. This includes taking judgmental samples 3 of each dataset




1
 The IRS database that consists of Federal tax-related transactions and accounts for businesses. These include
employment taxes, income taxes on businesses, and excise taxes.
2
    TIGTA’s centralized storage of IRS data files.
3
    A judgmental sample is a nonprobability sample, the results of which cannot be used to project to the population.
                                                                                                              Page 11
                                Implementation of Tax Year 2020 Employer Tax Credits
                                  Enacted in Response to the COVID-19 Pandemic

and validating against IRS source data, i.e., IRS’s Integrated Data Retrieval System.4 We
determined that the data used were sufficiently reliable for the purposes of this report.
Additionally, we obtained statistics on Forms 7200 from the IRS. We performed tests to assess
the reliability of Form 7200 statistics. We evaluated the data by (1) performing electronic testing
of required data elements, (2) reviewing existing information about the data and the system that
produced them, and (3) interviewing agency officials knowledgeable about the data. We
determined that the data were sufficiently reliable for purposes of this report.

Internal Controls Methodology
Internal controls relate to management’s plans, methods, and procedures used to meet their
mission, goals, and objectives. Internal controls include the processes and procedures for
planning, organizing, directing, and controlling program operations. They include the systems
for measuring, reporting, and monitoring program performance. We determined that the
following internal controls were relevant to our audit objective: procedures to review and
process Forms 7200. We evaluated these controls by reviewing the Internal Revenue Manual, 5
interviewing Form 7200 reviewers, and reviewing Form 7200 and Form 941 instructions.




4
 IRS computer system capable of retrieving or updating stored information. It works in conjunction with a taxpayer’s
account records.
5
  The primary, official source of IRS “instructions to staff” relating to the organization, administration, and operation of
the IRS. It details the policies, delegations of authority, procedures, instructions, and guidelines for daily operations
for all divisions and functions of the IRS.
                                                                                                                  Page 12
                          Implementation of Tax Year 2020 Employer Tax Credits
                            Enacted in Response to the COVID-19 Pandemic


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

Type and Value of Outcome Measure:
   •   Cost Savings (Funds Put to Better Use) – Actual; *******************1***********************
       *******************************************1*************************************************
       **1** (see page 7).

Methodology Used to Measure the Reported Benefit:
The IRS established procedures to manually review and process Forms 7200; however, these
procedures were not used to ensure the validity of the employer tax credit claims on Forms 941
during tax return processing. Using the IRS’s Business Master File data, our review of Tax
Year 2020 Forms 941 processed with an employer tax credit as of October 1, 2020, identified
**************************************************1**************************************************
**************************************************2**************************************************
**************************************************2********************************1*****************
**************************************************1**************************************************
**************************************************1**************************************************
**************************************************1**************************************************
********************1**********************.

Type and Value of Outcome Measure:
   •   Cost Savings (Funds Put to Better Use) – Potential; $1,506,831 in potentially erroneous
       employer tax credits processed on potentially erroneous Forms 941 (see page 7).

Methodology Used to Measure the Reported Benefit:
The IRS established procedures to manually review and process Forms 7200; **********2*********
**************************************************2**************************************************
***************2***************. During Form 7200 processing, the IRS checks for entities not
entitled to the employer tax credits, ************2**************************************************
**************************************************2************************************. We
identified 128 potentially fraudulent employer tax credits on 103 Forms 941 processed using
**************************************************2**************************************************
**************2*************. We shared our cases with IRS management, and they agreed that
23 of 103 tax returns warranted further review to determine if the employer fraudulently claimed
the employee tax credits.
As a result, the IRS created a new identity theft filter in September 2020 to **********2***********
**************************************************2**************************************************
*************************2************************. The new filter has identified 110 potentially
                                                                                             Page 13
                              Implementation of Tax Year 2020 Employer Tax Credits
                                Enacted in Response to the COVID-19 Pandemic

fraudulent tax returns. As of November 4, 2020, the IRS has confirmed that 32 tax returns were
valid and the remaining 78 tax returns are awaiting a taxpayer response. These 78 tax returns
still in process have potentially fraudulent employer tax credits totaling $1,506,831. The
Small Business/Self-Employed Division worked with various IRS functions to **********2**********
*********************2**********************. At the time of our analysis, the IRS had not yet
researched the pocket of ************************2******************************.

Type and Value of Outcome Measure:
    •    Cost Savings (Funds Put to Better Use) – Potential; $9,161,609 in potentially erroneous
         employer tax credits processed for government entities on the Form 941 (see page 7).1

Methodology Used to Measure the Reported Benefit:
The IRS established procedures to manually review and process Forms 7200; *********2**********
**************************************************2**************************************************
************2*************. The FFCRA and CARES Act state that government entities are not
eligible for the employer tax credits. During Form 7200 processing, the IRS checks for entities
not entitled to the employer tax credits, e.g., government entities. **************2***************
*******************************2****************************. As a result, our review of Tax
Year 2020 Forms 941 processed with an employer tax credit as of September 23, 2020, identified
113 government entities that filed Forms 941. These entities claimed employer tax credits
totaling $1,966,542. We notified management of the 113 government entities, and
management stated that, as of December 17, 2020, the IRS began the process to reverse the
erroneous credits on 63 entities and agreed to take action on the remaining 50 entities.
Additionally, the IRS identified 420 additional government entities that received $7,195,067 in
erroneous credits and is working to reverse these credits.

         Management’s Response: IRS management disagreed with the outcome measure,
         stating that the outcome incorrectly assumes that 100 percent of the entities cited are
         ineligible to claim employer credits. Management also stated that the systemic
         programming to reject credits claimed by these taxpayers without a manual review may
         reject a valid, otherwise qualifying, entity entitled to the credits. Systemically rejecting
         returns may unintentionally harm taxpayers by erroneously requiring them to contact the
         IRS to rectify the issue, delaying a refund or credit to which they are entitled and
         increasing burden. Instead, the IRS has a process to identify taxpayers who have claimed
         a credit and appear to be ineligible entities and proposes disallowance of the credit in
         question. This post-processing approach more appropriately balances compliance with
         the need to assist taxpayers during a pandemic. Finally, management believed the
         outcome measure does not accurately reflect the potential impact of the TIGTA audit
         since it also includes returns identified by the IRS.
                  Office of Audit Comment: There is no incorrect assumption in our calculation
                  of the outcome measure. Each of the entities used to calculate the outcome
                  measure was a government entity, and the IRS determined they were ineligible to
                  claim the credit. In addition, we disagree that a systemic process to reject these

1
  The outcome is based upon nearly $2 million TIGTA identified and $7.2 million the IRS identified after we brought
the original cases to their attention.
                                                                                                            Page 14
          Implementation of Tax Year 2020 Employer Tax Credits
            Enacted in Response to the COVID-19 Pandemic

tax returns may unintentionally harm government entities identified as
attempting to erroneously claim a credit. In fact, the IRS’s post-processing
approach significantly increases its cost to address these erroneous claims.
Finally, the outcome measure includes those ineligible government entities that
the IRS identified due to processes that were put in place in response to our
identification of erroneous credits issued to ineligible government entities. The
IRS was in the process of developing a compliance strategy, which may have
included identifying these tax returns, at the time of our notifying management
of this issue.




                                                                           Page 15
                Implementation of Tax Year 2020 Employer Tax Credits
                  Enacted in Response to the COVID-19 Pandemic


                                                                       Appendix III
Form 7200, Advance Payment of Employer Credits Due to COVID-19




                                                                             Page 16
     Implementation of Tax Year 2020 Employer Tax Credits
       Enacted in Response to the COVID-19 Pandemic


                                                            Appendix IV
Management’s Response to the Draft Report




                                                                  Page 17
                 Implementation of Tax Year 2020 Employer Tax Credits
                   Enacted in Response to the COVID-19 Pandemic




                                                 2


In addition to developing the Form 7200 review process, the IRS also designed many
systemic processes to limit errors and duplicate refunds. Specifically, we implemented
programming that systemically reconciles the return filed with the dollar amount of
advances paid, which ensures that duplicate payments are not made. Additional risk
mitigations include a systemic refund hold filter that automatically applies when a
significant discrepancy exists between the amount of advance credit reported by a
taxpayer and the amount that was paid to the taxpayer. We also implemented
processes to quickly review and release refund freezes after review completion.

During filing, our programming systemically reverses any advances to liabilities that
have been paid and offsets those liabilities against the credit reported on the taxpayer’s
return. This systemic process recoups improper payments during filing and, if a balance
is owed, generates the required notice. Additionally, in response to the legislation, we
were evaluating incoming returns to identify filter updates to address fraudulent filings
as TIGTA began its audit. Because TIGTA conducted this audit in real-time, we had not
yet completed our analysis or the revision of our filters. We are confident that our
recurring review efforts did and will continue to identify improvements during the
development and completion of the implementation and compliance plans.

We developed and implemented a process to reconcile third-party payers and the
advance credits paid to their clients and other compliance actions. Development began
in June 2020 and the first cases were identified and made available for reconciliation in
August 2020. We also developed procedures to address advance credit recipients who
did not file tax returns. Since August 2020 we have continually monitored advance
recipients’ filing status and will place returns in the examination workstream when return
processing for the period has completed.

In addition to the extensive efforts noted above, the IRS developed post-processing
compliance plans, which include the development and delivery of necessary training for
our employees and revising employment tax examination report forms and associated
tools to allow examiners to make appropriate adjustments to the credits claimed on the
returns.

Our Form 7200 advance process was a success, ensuring that taxpayers received
critical funds they needed in these unprecedented times. We committed extensive
resources to this important process, and we worked to ensure that these tax provisions
were not abused by unscrupulous taxpayers by quickly analyzing incoming data as
returns were filed. However, we disagree with TIGTA’s position that the IRS should
have *********************************************2********************. The volume of
employment tax returns is significantly higher than the volume of Forms 7200 which
***************************************************2************************************************
****************2******************. This proposal would result in the improper rejection of
many legitimate claims.




                                                                                                       Page 18
Implementation of Tax Year 2020 Employer Tax Credits
  Enacted in Response to the COVID-19 Pandemic




                                                       Page 19
                 Implementation of Tax Year 2020 Employer Tax Credits
                   Enacted in Response to the COVID-19 Pandemic




                                                                                    Attachment

Outcome Measure #1: Cost Savings (Funds Put to Better Use) – Actual; *******2********
*********2********* from processing of ***************************2******************************
*************2************ (see page 7).

Comments:
We agree with the methodology for this outcome measure.

Responsible Official:
Director, Return Integrity Verification Program Management (RIVPM).

Outcome Measure #2: Cost Savings (Funds Put to Better Use) – Potential; $1,506,831
in potentially erroneous employer tax credits processed on potentially erroneous Forms
941 (see page 8).

Comments:
We agree with the methodology for this outcome measure.

Responsible Official:
Director, Return Integrity Verification Program Management (RIVPM).

Outcome Measure #3:
Cost Savings (Funds Put to Better Use) – Potential; $9,161,609 potentially erroneous
employer tax credits processed for government entities on the Form 941 (see page 9).

Comments:
We disagree. This outcome measure incorrectly assumes that 100% of the entities cited
are ineligible to claim employer credits.

In addition to the issues discussed above, the systemic programming to reject credits
claimed by these taxpayers without a manual review may reject a valid, otherwise
qualifying, entity entitled to the credits. Systemically rejecting returns may unintentionally
harm taxpayers by erroneously requiring them to contact the IRS rectify the issue,
delaying a refund or credit to which they are entitled and increasing burden. Instead, the
IRS has a process to identify taxpayers who have claimed a credit and appear to be
ineligible entities and proposes disallowance of the credit in question. Our post-
processing approach more appropriately balances compliance with the need to assist
taxpayers during a pandemic.

Finally, the Outcome Measure does not accurately reflect the potential impact of the
TIGTA audit since it also includes returns identified by the IRS.




                                                                                                    Page 20
Implementation of Tax Year 2020 Employer Tax Credits
  Enacted in Response to the COVID-19 Pandemic




                                                       Page 21
           Implementation of Tax Year 2020 Employer Tax Credits
             Enacted in Response to the COVID-19 Pandemic


                                                                   Appendix V
                          Abbreviations

CARES          Coronavirus, Aid, Relief, and Economic Security Act
COVID-19       Coronavirus Disease 2019
EIN            Employer Identification Number
FFCRA          Families First Coronavirus Response Act
IRS            Internal Revenue Service
TIGTA          Treasury Inspector General for Tax Administration




                                                                        Page 22
             To report fraud, waste, or abuse,
                call our toll-free hotline at:
                         (800) 366-4484


                              By Web:
                      www.treasury.gov/tigta/


                             Or Write:
         Treasury Inspector General for Tax Administration
                            P.O. Box 589
                        Ben Franklin Station
                   Washington, D.C. 20044-0589




Information you provide is confidential, and you may remain anonymous.