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IRS’ tight budget is hurting taxpayers, watchdog says

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The Internal Revenue Service’s workload has intensified as Congress has cut its budget, resulting in slower refunds and service to taxpayers, an in-house watchdog said Wednesday.

The tax agency is resorting to shortcuts, relying excessively on automation that either fails to identify fraudulent claims or flags taxpayers for making mistakes when they haven’t, National Taxpayer Advocate Nina E. Olson concluded in her annual report to Congress.

“The imbalance between [the agency’s] workload and its resources is becoming unmanageable,” Olson wrote in a 900-page report that takes on the consequences of budget cuts on the agency that collects most of the government’s revenue.

The IRS “cannot keep pace with its workload in a declining budget environment without seriously eroding the service that taxpayers deserve,” she wrote.

Among the hurdles created by the IRS’s more complex responsibilities is a worsening response time. At the end of fiscal 2011, nearly half of taxpayers who corresponded with the IRS by mail waited more than 61 / 2 weeks for a response.

Olson said Congress should give the IRS and its 95,000 employees enough money to perform properly. The agency’s budget this year is $11.8 billion. That’s $300 million less than last year and $1.5 billion below what President Barack Obama had requested as the administration argued that boosting agency spending would help it go after tax delinquents.

Olson’s report came days after the IRS estimated that people and companies underpaid $385 billion in taxes last year, and that it had collected about $2.3 trillion.

“Obtaining a little extra money to bring in a lot of extra money remains an intractable challenge for the IRS, and that is unfortunate,” Olson said.

The IRS and the union representing its employees agreed with the report.

“Budget cuts can lead to noticeable degradation of IRS efforts involving both taxpayer service and tax enforcement and can have a lasting impact on the nation’s voluntary tax compliance,” agency spokeswoman Michelle Eldridge said in a statement.

National Treasury Employees Union President Colleen M. Kelley noted that the federal budget does not take into account that a dollar spent by the IRS generates far more than a dollar in additional tax collections.

“Funding the IRS is not a cost, it is an investment that pays significant dividends for our country,” Kelley said in a statement.

As it collects money to pay about 90 percent of the government’s bills, the demands on the IRS have grown, Olson wrote. The tax code is becoming more complex every day, with 4,430 changes from 2001 to 2010 — an average of more than one change per day and 579 adjustments in 2010 alone.

These are not merely tweaks; the IRS must explain each new provision to taxpayers, train its staff to identify returns that don’t comply and write new computer code so it can process returns affected by the changes.

In addition, the staff now must process a slew of new refundable tax credits, many enacted during the Obama administration, that offer a range of benefits for adoption, health care, first-time home buyers and other services.

But the credits have become targets for fraud, Olson wrote, with a growing number of taxpayers claiming refunds that exceed the taxes they’ve paid. The IRS’s fraud division flagged 1 million returns for fraud last year, a jump of 72 percent over 2010, Olson said, warning that many fraudulent claims are never identified. Identity-theft related cases also grew by 20 percent in the same period.

Olson serves as an independent ombudsman within the IRS, advocating for the country’s 141.2 million taxpayers. Her staff also helps about 300,000 taxpayers a year resolve disputes over refunds or payments to the agency.

With fewer resources, the IRS has automated more functions. But the heavy reliance on computers to do business is not always best for the taxpayer, Olson wrote. The system is often not fine-tuned enough, flagging returns as questionable that turn out to be legitimate, and vice versa.

The rush to do more with less also has resulted in less personal contact with taxpayers, Olson wrote. Last year the IRS declined to process about 900,000 returns but did not tell those taxpayers that their claims were questionable, denying them an opportunity to contest the decision.

Most audits are now done through the mail rather than face-to-face, with no single IRS employee responsible for an audit. This make it harder for taxpayers to have a back-and-forth with a real person about their case.

Communication with taxpayers is taking longer, too, the report said. Olson’s staff compared the last week of fiscal 2004 with the same week of fiscal 2011 and found that the backlog of correspondence about tax adjustments jumped by 158 percent (to 920,768 from 357,151).

The percentage of correspondence classified as “over-age” (45 days or older, with issues that needed resolution) had jumped to 47 percent from 11.5 percent.

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