In a significant move to address disparities in tax enforcement, the IRS is set to revamp its approach to examining tax returns from individuals, those who come under the low-income tax credit.
Starting in fiscal year 2024, the agency plans to reduce the number of correspondence audits substantially. Audits traditionally conducted through the mail, particularly for low-income tax credits, are frequently claimed by individuals with modest incomes. IRS Commissioner’s letter to Senator Ron Wyden, Chair of the Senate Finance Committee, conveyed this strategic shift.
This development comes on the heels of the IRS’s recent announcement of a forward-looking plan to utilize advanced technology and artificial intelligence to recover unpaid taxes, primarily from higher-income individuals, partnerships, and large corporations.
As part of the broader effort to rebalance tax enforcement, the IRS is committed to enhancing compliance with the low-income tax credit. This effort fosters fairer tax practices for all income brackets.
Chuck Marr, Vice President for Federal Tax Policy at the Center on Budget and Policy Priorities, characterized these changes as part of a broader initiative to rebalance tax enforcement efforts. It addresses the decline in enforcement at the upper-income echelons while reflecting the IRS’s commitment to more equitable tax practices.
Tax audit disparities
In 2019, just 2% of Americans with annual incomes exceeding $5 million underwent tax audits. That is a notable decline from the 16% audited in 2010, as detailed in a report by the Government Accountability Office.
In May, the IRS acknowledged a concerning trend: Black Americans are disproportionately subjected to tax audits. This confirmation aligns with previous research by economists from Stanford University, the University of Michigan, the U.S. Department of the Treasury, and the University of Chicago, highlighting disparities in tax enforcement practices.
IRS Aims to Address Low-Income Tax Credit Imbalance
Research indicates that the earned income tax credit plays a role in this imbalance, and the IRS has been contemplating policy adjustments to tackle the problem.
The IRS intends to lessen the number of correspondence audits associated with the earned income tax credit. That process is assisting taxpayers in submitting more precise returns from the beginning. This approach aims to boost payment accuracy while lessening administrative complexities for the IRS and taxpayers, as I’ve shared in the letter.
This revision in IRS audit procedures ensures that eligible individuals who rely on the low-income tax credit receive the support they deserve while minimizing unnecessary audits.
Nevertheless, experts are eager to receive further information about the specifics of these policy modifications and their implementation.
Challenges and Oversight in Tax Credits
Refundable tax credits, like the low-income tax credit, often undergo heightened scrutiny due to the potential for filers to receive refunds even if they owe no taxes.
The National Taxpayer Advocate’s 2022 annual report to Congress disclosed that in the tax year 2019, more than 26 million taxpayers with lower and middle incomes benefited from the low-income tax credit. Nevertheless, the report also noted that in fiscal year 2020, an alarming amount, exceeding $16 billion, was inaccurately claimed for this tax credit.
The complexity of the tax break is the primary cause of these errors. To be eligible, claimants must be employed and have a qualifying child, as explained by Janet Holtzblatt, a senior fellow at the Urban-Brookings Tax Policy Center.
She noted, “Defining care presents a significant challenge.”
For instance, a child may have multiple caregivers throughout the year, making it challenging to attribute the credit to the correct caregiver accurately.
Amid heightened scrutiny, IRS Commissioner Danny Werfel took decisive action last week. He ordered to halt the immediate processing of new claims for a pandemic-era small business tax break. This move aims to shield filers from a surge in dubious claims.
Known as the employee retention credit (ERC), this tax incentive was established to support small businesses during the COVID-19 pandemic.
It holds the potential to be worth thousands of dollars per employee. However, the ERC has led to a proliferation of specialized firms making false promises to businesses, asserting their eligibility for this intricate tax benefit.