TREASURY
INSPECTOR GENERAL FOR TAX ADMINISTRATION
The Informants’ Rewards
Program Needs More Centralized Management Oversight
June 2006
Reference Number: 2006-30-092
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.
Phone Number |
202-927-7037
Email Address | Bonnie.Heald@tigta.treas.gov
Web Site |
http://www.tigta.gov
June 6, 2006
MEMORANDUM FOR DEPUTY COMMISSIONER FOR SERVICES AND ENFORCEMENT
FROM: Michael R. Phillips
Deputy Inspector General for Audit
SUBJECT: Final Audit Report – The Informants’ Rewards Program Needs More Centralized Management Oversight (Audit # 200530022)
This report presents the results of our review of the Internal Revenue Service’s (IRS) Informants’ Rewards Program. The overall objective of this review, initiated at the request of the Senate Finance Committee, was to determine whether the IRS uses its Informants’ Rewards Program as a viable tool to identify, investigate, and address potential tax law violations with equitable rewards for cooperating informants.
Synopsis
The IRS uses its Informants’ Rewards Program to administer the authority provided by Internal Revenue Code Section 7623 (2004) to make payments to private citizens for assistance in “(1) detecting underpayments of tax, and (2) detecting and bringing to trial and punishment persons guilty of violating the internal revenue laws.” Rewards are paid as a percentage of the taxes, fines, and penalties collected based on the relationship of the informant’s information to the recovery. Rewards can also be paid on amounts collected prior to receipt of the information if the information leads to the denial of a claim for refund that otherwise would have been paid. This Program has been an effective method of identifying and collecting unpaid taxes. From Fiscal Years (FY) 2001 through 2005, over $340 million in taxes, fines, penalties, and interest were recovered based on information obtained through the Informants’ Rewards Program, with rewards of over $27 million paid to informants.
The Informants’ Rewards Program has significantly contributed to the IRS’ efforts to enforce tax laws, but additional management focus could enhance the effectiveness of the Program as an enforcement tool and make the process more accommodating to informants. Our analysis of IRS data indicated that examinations initiated based on informant information were often more effective and efficient than returns initiated using the IRS’ primary method for selecting returns for examination.[1]
However, we found that a lack of standardized procedures and limited managerial oversight resulted in control weaknesses over the Program. We reviewed a judgmental sample of 22 paid claims for reward and 69 rejected claims for reward processed at 3 of the 5 Informants’ Claims Examiner (ICE) units[2] in operation during FY 2005. We noted that each ICE unit maintained its own records because a nationwide database of informant claims does not exist. For the paid informant claims in our sample, we found that 45 percent of the case files reviewed had problems with basic control issues (missing copies of key forms, no record of letters to informants, etc.), and we were unable to determine the justification for the reward percentage awarded to the informant in 32 percent of the cases. For the rejected informant claims in our sample, we were unable to determine the rationale for the reviewer’s decision to reject the claim in 76 percent of the cases reviewed.
We also found that an average of over 7 ½ years passed between the filing of the initial claim by the informant and the payment of the reward. We observed lapses in the monitoring of taxpayers’ accounts for payment activity, which may have contributed to delays. For the rejected claims in our sample, an average of over 6 ½ months elapsed between the date of the claim and the letter to the informant rejecting the claim. We observed instances of lengthy delays in the processing of rejected claims, such as unexplained delays between the receipt of the claim and the initial or subsequent review of the claim by ICE unit personnel.
The lack of centralized and active management oversight of the Program increases the risk of errors such as improper payment of rewards or incorrect rejection of valid claims. Additional management focus could also assist in reducing the processing time for paid claims, which would make the Program more attractive to future informants wishing to report violations of tax laws.
Recommendations
We recommended the Deputy Commissioner for Services and Enforcement centralize management of the Informants’ Rewards Program to increase oversight of the Program and standardize the processing of informant claims. We also recommended the Deputy Commissioner for Services and Enforcement ensure a detailed nationwide database of informant claims is developed and implemented to provide increased visibility of the processing and disposition of informant claims.
Response
IRS management agreed with our recommendations. Management’s response stated that the IRS had conducted its own review of the Informants’ Rewards Program in 2005 and was taking a number of steps to improve the management and oversight of the Program. These steps include designating an Informants’ Rewards Program coordinator for each operating division, establishing a National Oversight Committee for the Informants’ Rewards Program, consolidating informant claims processing at the Ogden Campus, and implementing a nationwide web-based system to track, monitor, and control informant claims. Management’s complete response to the draft report is included as Appendix VII.
Copies of this report are also being sent to IRS officials affected by the report recommendations. Please contact me at (202) 622-6510 if you have questions or Curtis W. Hagan, Assistant Inspector General for Audit (Small Business and Corporate Programs), at (202) 622-3837.
Appendices
Appendix
I – Detailed Objective, Scope, and Methodology
Appendix
II – Major Contributors to This Report
Appendix
III – Report Distribution List
Appendix
IV – Application for Reward for Original Information
Appendix V – Form
Letter to Notify Informant of Rejection of Claim
Appendix VI
– Form Letter to Notify Informant of Receipt of Claim
Appendix
VII – Management’s Response to the Draft Report
Section (§) 7623 of the Internal Revenue Code[3] authorizes payment of rewards for “(1) detecting underpayments of tax, and (2) detecting and bringing to trial and punishment persons guilty of violating the internal revenue laws.” The Internal Revenue Service (IRS) administers this authority through its Informants’ Rewards Program. This Program is unrelated to the rewards[4] paid to private citizens who bring suit for violations of the Federal False Claims Act[5] because the violations of the Internal Revenue Code were specifically excluded from the scope of the False Claims Act.[6]
The Informants’ Rewards Program provides rewards for concerned citizens who supply information to the IRS that leads to the detection and punishment of tax law violations.
The IRS receives information about potential tax violations in the mail, over the telephone, or from visits to IRS walk-in offices. Generally, an IRS employee receiving an allegation of a potential tax violation will record the information on an Information Report Referral (Form 3949). IRS procedures instruct employees not to solicit or encourage an informant to provide information in exchange for a reward. However, if the informant indicates that he or she wants a reward, the IRS employee will provide Rewards for Information Given to the Internal Revenue Service (Publication 733) and an Application for Reward for Original Information (Form 211)[7] to the informant.
Instructions on the back of Form 211 direct informants to submit the completed Form to the IRS campus[8] servicing their State.[9] Upon reaching the campus, the form is routed to the Informants’ Claims Examiner (ICE) staff at the campus, which performs an initial evaluation of the reward claim. If the Form 211 does not contain information that warrants further action, the reward claim should be rejected and the ICE staff will issue a rejection letter[10] to the informant. If the reward claim is not immediately rejected, the claim will be acknowledged,[11] a case file established, and a control number assigned to the reward claim. The ICE staff also performs research on the alleged tax violator’s account to determine whether there is open examination or collection activity. If an open case exists, the examiner should send a copy of the reward claim and any information to the office conducting the ongoing activity. If the informant alleges unreported income of $50,000 or more per year, the information should be routed to the Criminal Investigation function Area Office for the area where the alleged tax violator resides.
For those informant reward claims with open examination or collection activity, the examination or collection employee assigned to the case will complete a Confidential Evaluation Report on Claim for Reward (Form 11369) to assess the significance of the information provided by the informant and whether the informant is entitled to a reward. If the field employee determines that a reward should be allowed, the reward percentage is determined by whether the information directly led to the recovery (15 percent); indirectly led to the recovery (10 percent); or caused the investigation but had no direct relationship to the determination of tax liability (1 percent). The dollar amount of the reward is computed by multiplying the reward percentage by the amount of taxes, fines, and penalties (but not interest) collected. Different reward percentages can be used if the case involves multiple taxpayers and/or tax years. The reward amount must total at least $100 to be paid and cannot exceed $2 million in total. The limits on the reward percentage and dollar amount can be waived by the use of a special agreement between the informant and the IRS, which must be approved by the IRS Commissioner or his or her delegate.
During hearings for the IRS Restructuring and Reform Act of 1998,[12] some members of Congress called for a provision to eliminate the Informants’ Rewards Program, believing it resulted in unwarranted examinations of honest taxpayers. Although this provision was not included in the final legislation, the IRS does not openly promote the Program. The public web site (IRS.gov) does not contain a webpage explaining the Program, nor does the webpage for reporting tax fraud mention the availability of rewards. However, information such as Form 211 and Publication 733 can be located by a search of the web site.
This review was performed at the Small Business/Self-Employed (SB/SE) Division National Headquarters in New Carrollton, Maryland, in the Campus Compliance Services organization and at the ICE staffs in the Brookhaven, Ogden, and Philadelphia Campuses, during the period September 2005 through March 2006. The audit was conducted in accordance with Government Auditing Standards. Detailed information on our audit objective, scope, and methodology is presented in Appendix I. Major contributors to the report are listed in Appendix II.
The Commissioner of the IRS annually provides information to Congress on the amounts collected based on informant information and the rewards paid to informants. Figure 1 shows the results reported to Congress for the past 5 years.
Figure 1: Rewards Paid to Informants and Taxes, Fines, Penalties, and Interest Recovered From Informants’ Information - Fiscal Years (FY) 2001 Through 2005
|
|
FY 2001 |
FY 2002 |
FY 2003 |
FY 2004 |
FY 2005 |
TOTALS |
|
Rewards
Paid to |
$3,337,035 |
$7,707,402 |
$4,057,476 |
$4,585,143 |
$7,602,685 |
$27,289,741 |
|
Taxes,
Fines, & Penalties Recovered |
$30,774,539 |
$56,583,517 |
$48,379,562 |
$45,644,890 |
$68,126,671 |
$249,509,179 |
|
Interest
Recovered on Amount Above |
$13,249,794 |
$10,357,002 |
$13,176,613 |
$28,485,904 |
$25,550,935 |
$90,820,248 |
Source:
IRS annual reports to Congress.
From FYs 2001 through 2005, a total of $27,289,741 in rewards was paid to informants for the recovery of $249,509,179 in taxes, fines, and penalties, for an average reward of 10.9 percent. Interest of $90,820,248 was also recovered on the taxes, fines, and penalties recovered, although rewards are not paid on interest recovered. Therefore, a total of $340,329,427 was recovered due to informant information for FYs 2001 through 2005. Because IRS procedures generally require that rewards be paid only in cases in which the informant’s information led to the examination of an issue,[13] it is reasonable to assume that the amounts recovered due to informants’ information would not have been otherwise recovered by the IRS.
IRS Restructuring and Reform Act of 1998 § 3804 required the Secretary of the Treasury to produce a report on the use of Internal Revenue Code § 7623 and the results of its use.[14] The report, prepared by the IRS, was delivered in September 1999[15] and determined that the cost/benefit ratio of the Program compared favorably with other IRS enforcement programs. The report estimated the IRS incurred slightly over 4 cents in cost (including personnel and administrative costs) for each dollar collected from the Informants’ Rewards Program (including interest), compared to a cost of over 10 cents per dollar collected for all enforcement programs.
The IRS report also found that examinations initiated based on informant information had a higher dollar yield per hour[16] and a lower no-change[17] rate, when compared to returns selected using the IRS’ primary method of selecting returns, the Discriminant Index Function (DIF).[18] The results from the final 3 years of the review are summarized in Figure 2.
Figure 2: Comparison of Recommended Adjustment Dollars and No-Change Rates for Informant Examinations and DIF Returns - FYs 1996 Through 1998
|
|
ADJUSTMENT DOLLARS/HOUR |
NO-CHANGE RETURNS |
||||
|
FYs 1996 -
1998 |
Total Recommended
Adjustments |
Total
Hours |
Dollars
per Hour |
Total
Returns |
No‑ Change
Returns |
No-Change % |
|
Informants’
Program |
$160,091,580 |
169,259 |
$946 |
5,292 |
648 |
12% |
|
DIF-selected |
$7,358,908,430 |
13,418,772 |
$548 |
997,550 |
169,148 |
17% |
Source: IRS study dated September 1999.
Examinations initiated based on informant information continue to be more productive than those initiated based on DIF scores. The examination results from the 3 most recent years for the SB/SE Division, which conducts the vast majority of examinations based on informant information, are shown in Figure 3.
Figure 3: SB/SE
Division – Comparison of Recommended Adjustment Dollars and No-Change Rates for
Informant Examinations and DIF Returns -
FYs 2003 Through 2005
|
|
ADJUSTMENT DOLLARS/HOUR |
NO-CHANGE RETURNS |
||||
|
FYs 2003 - 2005 |
Total Recommended Adjustments |
Total Hours |
Dollars per Hour |
Total Returns |
No‑ Change Returns |
No-Change % |
|
Informants’ Program (SB/SE Division examinations) |
$26,233,554 |
38,139 |
$688 |
727 |
152 |
21% |
|
DIF (SB/SE
Division Revenue Agent Individual & Corporate) |
422,356,790 |
1,105,890 |
$382 |
15,832 |
4,435 |
28% |
Source: Treasury Inspector General for Tax
Administration analysis of IRS data.
Because examinations based on informants’ information involve taxpayers or issues that may not have been otherwise selected by the IRS and are often more productive than examinations initiated using the IRS’ usual methods, the Informants’ Rewards Program continues to contribute to enforcement of the tax laws.
The Effectiveness of the Informants’ Rewards
Program Is Limited by a Lack of Detailed Policies and Procedures and
Centralized Management Oversight
The primary guidance for the Informants’ Rewards Program is found in Internal Revenue Manual Section 25.2. This document contains general guidance for the administration of the Program and the computation of rewards but does not include any provision for centralized management oversight or review of the activities of the ICE units. As a result, each ICE unit has traditionally operated as a semi-autonomous entity, attached to various other teams in the Compliance Services organization at each campus. We visited three of the five ICE units in operation in FY 2005 (Brookhaven, Ogden, and Philadelphia) and found that two of the units were attached to classification teams, while the other was attached to a Tax Equity Fiscal Responsibility Act team. Each ICE unit had different procedures for the processing of claims, but only one unit had written documentation of these procedures.
No nationwide database currently exists to allow management to track and monitor claims on a nationwide basis, although SB/SE Division officials informed us that a system will be implemented in the near future. Yearly reporting of consolidated results to Congress is done by a coordinator at SB/SE Division Headquarters based on written input from each ICE unit. Each of the three ICE units we visited tracked its claim inventory differently: one unit primarily used a manual system and updated an online database periodically; the other two ICE units used different online databases, supplemented by standalone computer spreadsheets.
The overall management of the Informants’ Rewards Program currently resides within the Campus Compliance Services function within the SB/SE Division. A coordinator at the SB/SE Division Headquarters is responsible for collecting and reporting certain information annually to Congress but does not exert any managerial control over the operation of the ICE units. No other personnel within this function devote significant time to the management of the Informants’ Rewards Program. In our discussions with ICE unit and SB/SE Division Headquarters personnel, we were informed that there was no ongoing program to monitor the performance of ICE units, such as operational reviews or management assistance visits.
The lack of standardized procedures and the limited managerial oversight were evident in the results of our reviews of paid and rejected claims at the three ICE units included in our review. We reviewed a judgmental sample of 22 paid claims for reward and 69 rejected claims for reward processed at the 3 ICE units during FY 2005. For the informant claims paid in FY 2005, we found that almost one-half (45 percent) of the case files reviewed had a problem with basic control issues (missing copies of key forms, no record of letters to informants, etc.). For the informant claims rejected in FY 2005, approximately 14 percent of the case files had similar issues, including 4 files that an ICE unit could not locate, despite the fact that the claims were listed on its database.
In addition to reviewing the basic recordkeeping at the ICE units, we reviewed the files of the rejected cases to determine if the informants’ information received appropriate initial and subsequent reviews. We evaluated whether basic evaluation steps were taken after the claims were received, such as a review of the alleged tax violator’s account on the Integrated Data Retrieval System[19] to determine if there was open examination or collection activity against the taxpayer(s) named in the informant’s allegation, and found no evidence of these steps in the files for 59 percent of the rejected claims reviewed. We also reviewed the rejected claims to determine if subsequent steps were taken, for example referring the information to the appropriate entities, such as the Criminal Investigation function for evaluation and/or a field examination function for determination of tax potential. We did not find evidence of such referrals in 80 percent of the case files reviewed.
Finally, we reviewed both the paid and rejected claims to determine if the reviewer’s decision on the ultimate action taken on the claim was justified, based on information in the case file. For a paid claim, the most important decision is on the reward percentage granted to the informant; in 32 percent of the paid claims, we were unable to determine the justification for the percentage granted. In most of these cases, the reviewers simply entered the percentage on the Form 11369 and did not provide any explanation for the decision.
For a rejected claim, the reason for rejection is of major significance. In 76 percent of the rejected informant claims included in our review, we were unable to determine the rationale for the reviewer’s decision to reject the claim, based on information in the case file. In most of these cases, the reviewers simply noted their decisions in the case files and provided little or no description of the rationale for the decisions.
As part of our review of rejected informant claims, we selected 30 rejected claims that alleged tax law violations by taxpayers serviced by the Large and Mid-Size Business (LMSB) Division, to determine if these claims received greater scrutiny due to the higher profile of the taxpayers and presumably larger dollar amounts involved. We reviewed these informant claims for the same attributes as the other rejected claims, which were primarily directed at individual and small business taxpayers. We found the results were largely comparable for all attributes other than the control of claims, as shown in Figure 4.
Figure 4: Comparison of Results for Review of Rejected Claims Pertaining to LMSB Division Taxpayers to Results for Review of All Other Rejected Claims
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Review Item: |