Abusive Tax Avoidance Transactions: IRS Needs Better Data to Inform Decisions about Transactions
Highlights
Abusive tax avoidance transactions (ATAT) range from frivolous tax schemes to highly technical and abusive tax shelters marketed to taxpayers by promoters selling tax advice. ATATs threaten the U.S. tax system's integrity if honest taxpayers believe that others do not pay their fair share of taxes. GAO was asked to (1) describe what is known about trends in ATAT usage; (2) describe results of IRS's ATAT enforcement efforts; and (3) evaluate IRS's implementation of the ATAT provisions in the American Jobs Creation Act of 2004. Using criteria from the act, GAO analyzed statistics and other documents on trends and results and interviewed IRS and other tax experts.
While trend data on taxpayers' use of ATATs are limited, IRS and other experts GAO contacted agreed that a problem exists and is continually changing. One theme that emerged from GAO's discussions with these experts is that ATATs marketed by promoters to corporations and wealthy individuals have declined in recent years, although the experts had different views on the extent of the decline. They also said that ATATs have become more international in nature. Even though estimating the extent of the ATAT problem is inexact because ATATs are often hidden, the experts believed that the changing nature of ATATs warrants continuous IRS vigilance. IRS has many ATAT-related enforcement efforts--investigations, examinations, and settlement initiatives--across different divisions but has incomplete data on the results on those efforts. For example, IRS's small business division's promoter investigations help stop promotions, but IRS had incomplete information on why investigations often closed without penalties or injunctions, information that could be used to help decide the types of investigations to start. In addition, IRS recommended billions of dollars in additional taxes from examining tax returns with suspected ATATs, but IRS did not identify the part of the additional amount that was collected or that related to the ATAT issue as opposed to other issues. In addition, some ATAT results were reported inconsistently across IRS divisions. Without comprehensive or consistent information, IRS does not have the best information to decide which promoters to investigate and the number of examinations that should be done as well as to evaluate their impacts. Even though the 2004 act increased the requirements for taxpayers and promoters to disclose their use of transactions and enhanced the penalties for improper disclosure, problems existed. IRS received many disclosures of transaction use from taxpayers, but it had no assurance that its Office of Tax Shelter Analysis received all the disclosures it should have. In addition, IRS did not verify that all the disclosures it received were complete, and a new process for reviewing the completeness of disclosures and following up with taxpayers was not yet finalized. Not receiving disclosures or receiving incomplete disclosures of transactions would keep IRS from having information needed to identify the transactions that merit an examination of their appropriateness and to assess related penalties as needed. Finally, certain promoters who are required by law under threat of penalty to give their list of investors within 20 business days after IRS requested it did so. However, other promoters who are not covered by this requirement often took longer than 20 days to provide the lists without the threat of a similar penalty. IRS did not comprehensively track how quickly the lists were received. Not receiving lists on a timely basis prevents IRS from quickly working to stop promoter activity. GAO suggests that Congress consider instituting a penalty aimed at certain promoters not giving investor lists to IRS within a specified time. GAO also recommends IRS act or establish processes to (1) improve data on the results of ATAT-related investigations and examinations, (2) ensure that required disclosures are filed by taxpayers, (3) review disclosures for completeness; (4) track the time for IRS to receive investor lists; and (5) induce more promoters to provide investor lists by a specified time. In commenting on a draft of this report, IRS agreed with most recommendations but cited resource and capability constraints in tracking ATAT data and investor lists, which GAO believes can be addressed.
Recommendations
Matter for Congressional Consideration
| Matter | Status | Comments |
|---|---|---|
| Congress may wish to consider instituting a penalty on non-material advisor promoters for failing to provide investor lists to IRS within a specified time period when requested, comparable to the 20-business-day requirement for material advisors. |
Open
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As of March 2024, we have not identified legislative action on the three sections (26 U.S.C. ?? 6111, 6112, 6708) since the release of our report in 2011. No bills have been introduced into the current Congress (118th) to amend these sections of the Internal Revenue Code. |
Recommendations for Executive Action
| Agency Affected | Recommendation | Status Sort descending |
|---|---|---|
| Internal Revenue Service | To improve reporting on the results of examinations on ATAT issues, the Commissioner of Internal Revenue should require all divisions to supply similar, consistent results from existing data systems. |
Closed – Implemented
IRS provided GAO with May 2, 2012 "official desk procedures" designed to ensure data consistency. Among other things, these procedures require divisions to describe how they will compile information before they actually compile it. If divisions differ in their approaches, the Office of Tax Shelter Analysis will help them reconcile issues and agree on one approach for compiling the information. More consistent information will help IRS provide reliable information to the Congress and determine how many examinations it should do and what their impacts are.
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| Internal Revenue Service | To improve reporting on the results of examinations on ATAT issues, the Commissioner of Internal Revenue should separately track the tax amounts recommended, assessed, and collected between ATAT issues and non-ATAT issues. |
Closed – Implemented
IRS took steps to check whether taxpayers filed all required ATAT-related disclosure obligations. In February 2013, IRS implemented a new indicator and matching process to regularly review whether taxpayers were meeting their ATAT-related filing obligations. Additionally, IRS developed a procedure to evaluate the completeness of ATAT-related disclosure forms and to follow up on incomplete forms as necessary, and updated the Internal Revenue Manual to reflect these changes. As of December 2021, IRS has made some progress but has not fully tracked examination results for ATAT versus non-ATAT issues, as GAO recommended in May 2011. In March 2021, IRS provided a paper to explain that benefits from tracking detailed ATAT examination issues are not high enough given the changes that would be necessary to its data systems and given the agency's higher priorities and limited resources, particularly with pandemic-related priorities. In May 2021, IRS officials said the agency had recently created a suite of reports that afford IRS the ability to summarize data from its open and closed tax shelter inventory. In addition to general ATAT examination results, the results of tax shelter inventory, penalty determinations, and Promoter Investigations can be used to study trends and analyze results. GAO informed IRS that these actions could be considered as meeting the intent of the recommendation if IRS could provide examples of using these new data reports to better inform IRS management decisions about program effectiveness and resource allocation in considering ATAT and non-ATAT examinations. In March 2023, IRS provided examples of decisions made using the data. These examples support closing this recommendation. Developing and using these new data will improve IRS's ability to make informed judgments about program effectiveness and resource allocations.
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| Internal Revenue Service | To improve reporting on the results of examinations on ATAT issues, the Commissioner of Internal Revenue should establish a process to review the accuracy of examination data prior to its inclusion in future reports to the Joint Committee on Taxation. |
Closed – Implemented
IRS provided GAO with May 2, 2012, "official desk procedures" designed to ensure data reporting accuracy. Among other things, the procedures specify that when possible, IRS will compile report data from its Enforcement Revenue Information Service database as reconciled and corrected by the Office of Servicewide Penalties. The procedures also make each division responsible for internally vetting its data's accuracy. More accurate data will help IRS provide reliable information to the Congress and best determine how many examinations it should do and what their impacts are.
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| Internal Revenue Service | To ensure that Forms 8886 filed with tax returns are also filed with OTSA, after establishing a new indicator for paper and electronic tax returns, the Commissioner of Internal Revenue should establish a process to periodically check whether the filers met their filing obligations with Office of Tax Shelter Analysis (OTSA). |
Closed – Implemented
In February 2013, IRS implemented a new indicator and a matching process to regularly review whether filers meet their filing obligations with OTSA.
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| Internal Revenue Service | To improve IRS's next study of whether Form 8886 should be filed electronically, the Commissioner of Internal Revenue should identify how often filers already use computers to prepare these forms. |
Closed – Implemented
IRS's next study reported that taxpayers used a computer to prepare 98 percent of the paper forms that taxpayers filed in 2011 and that OTSA scanned or transcribed into a database.
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| Internal Revenue Service | To ensure material advisor disclosure forms are filed, the Commissioner of Internal Revenue should investigate why partnerships and S corporations often did not file a form with OTSA even though they reported on their tax returns that they filed the form with IRS or had a requirement to file. |
Closed – Implemented
IRS conducted the same test using the same data source as GAO did, but used information from more recent (2010) tax return filings. It found a significant drop in mismatched tax returns. However, because some taxpayers still did not file a form even though they indicated that they did file or should have filed, IRS followed up with a sample of them. It found that the taxpayers incorrectly indicated that they filed or should have filed. Nevertheless, it established a process to look for mismatches in the future and follow up with taxpayers that seemed to be material advisers.
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| Internal Revenue Service | To correct problems with its review of the completeness of disclosure forms, the Commissioner of Internal Revenue should ensure that OTSA establishes a new process to review completeness and monitor its success. |
Closed – Implemented
IRS developed a procedure to evaluate the completeness of disclosure forms and follow up on incomplete forms as necessary, and it updated the Internal Revenue Manual to reflect these changes.
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| Internal Revenue Service | To induce non-material advisors to provide investor lists to IRS within a specified time, the Commissioner of Internal Revenue should take steps such as requiring IRS staff to bring a summons for an investor list to the first interview with a suspected non-material advisor, and reevaluating the idea of lowering material advisor dollar thresholds. |
Closed – Implemented
For the first part of the recommendation, IRS took steps such as GAO had recommended by updating the Internal Revenue Manual to suggest that an IRS agent consider preparing a summons to use at an initial meeting with a suspected non-material advisor. For the second part, in line with the GAO recommendation, IRS gathered input from field officials and drafted a memo saying that no one thought lowering the material advisor dollar threshold would be helpful.
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| Internal Revenue Service | To focus resources on promoter investigations most likely to stop abuse, the Commissioner of Internal Revenue should establish a process to ensure that field office staff consistently apply the recently created reason codes for closing investigations without penalties or injunctions, and document how the results are analyzed and used in decisions on investigations to start. |
Closed – Implemented
IRS updated its Internal Revenue Manual in December 2011 to require using disposal codes to indicate why promoter investigations are surveyed or discontinued. It also used the codes to evaluate leads sent to the field. Although it found no specific weaknesses this time, it plans to do this analysis annually.
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| Internal Revenue Service | To monitor the timeliness of investor list receipts, the Commissioner of Internal Revenue should comprehensively track the elapsed days it takes for material advisors and non-material advisors to provide the lists to IRS. |
Closed – Not Implemented
IRS believes that resource and capability constraints to systematically capturing this information may outweigh the benefits of having it.
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