Correspondence Audits Need Some Work, Tax Community Tells IRS

The IRS’ use of correspondence audits to resolve issues with tax returns has mushroomed over the past decade—but taxpayer satisfaction with the program is fairly low. According to the Treasury Inspector General for Tax Administration (TIGTA), only 48% of those surveyed by the IRS said they were either somewhat or very satisfied with the service related to their audit.

Correspondence audits were the subject of a public hearing Tuesday by the IRS Oversight Board.

The IRS uses correspondence audits to obtain additional information from taxpayers about a few limited issues on the taxpayer’s return. Correspondence audits are generally narrower than a traditional audit of a taxpayer’s return and are conducted by mail or other written communications, making it a cheaper and less labor-intensive process for the IRS. Among the chief sources of taxpayer dissatisfaction are the excessive time it takes the IRS to resolve cases and difficulties reaching someone to learn the status of a case. Under the IRS’ earlier call system, 13% of callers phoned more than eight times before their issue was resolved, and 70% of the calls went to voice mail. The IRS has started to implement a new system called Intelligent Contact Management to provide faster connections to someone who can answer the taxpayer’s question.

“AICPA members are very familiar with the difficulties and challenges taxpayers have faced with correspondence examinations,” said AICPA Tax Executive Committee Chair Patricia Thompson, one of four panelists at the hearing. Problems identified by members and previously communicated to the IRS are similar to those in the survey. However, she cited informal feedback from CPAs that the IRS is doing a better job at holding off on issuing a deficiency notice (i.e., the 90-day letter) before reviewing correspondence from the taxpayer.

Thompson recommended that the IRS:

• Conduct an internal review to determine if the correct types of returns are being selected for review under the correspondence audit program.
• Expand e-services to alleviate delays related to telephone and mail processing and expedite communications between the IRS and either the preparer or taxpayer.
• Be given adequate resources to effectively and efficiently administer tax laws and collect taxes.

Thompson also stated that taxpayers are often requested to substantiate specific tax deductions such as miscellaneous itemized deductions, state and local income taxes, and real estate taxes. However, the IRS may be making this substantiation request to a large number of taxpayers who happen to be in an alternative minimum tax position, so the deductions would not affect the taxpayer’s ultimate tax liability. The net result, Thompson pointed out in her testimony, is a “no-change” audit for the taxpayer and a waste of resources for the IRS. “We suggest that the IRS create an additional ‘filter’ for its correspondence audit selection process to remove these types of cases from the Service’s active case file,” she said.

The scope of the current audits was raised by other panelists. Margaret Begg, TIGTA Assistant Inspector General for Audit, Compliance and Enforcement, noted that $68 billion of the tax gap in 2001 was due to the underreporting of income by sole proprietors and suggested that correspondence examiners probe for unreported income, echoing the recommendations of aTIGTA report issued in 2010. That report noted that the procedures for correspondence audits do not require examiners to complete minimum checks for unfiled returns (employment tax and information returns) or to look for unreported income.

Lonnie Gary, representing the National Association of Enrolled Agents, recommended that the IRS avoid using correspondence audits for complex cases, particularly ones related to Schedule C and E returns or Form 2106, Employee Business Expenses. Consultant Andre Re voiced a similar sentiment, saying that it would be hard to do such a probe by correspondence and suggesting that the correspondence audits be limited to adjustments and earned income tax credit disparities. Asked to comment as to whether Schedule Cs should be subject to correspondence audits, Thompson said it would depend on the questions being asked, as some of the questions could be very easily answered through that process.