As the 2024 tax filing season begins, the IRS continues to build on the improvements made possible by the infusion of funds from the Inflation Reduction Act. The added support reversed more than a decade of disinvestment in tax administration and enforcement by appropriating $80 billion to modernize the IRS over 10 years. The infusion of long-term funding allows the IRS to invest in new technology and the staff needed to rebuild the agency, improve customer service, and ensure that the nation’s tax laws are enforced effectively.
However, the Republican majority in the U.S. House of Representatives has made repealing the infusion of funds a major priority. They have voted to rescind the full unused portion of the additional funding on a party-line vote and clawed back $21.4 billion as part of the June 2023 agreement to avert default and raise the debt limit. House Republican appropriators initially sought to rescind $67 billion from the funds provided to the IRS, but a deal reached in January made what was originally proposed as a two-year cut a single-year reduction instead.
In April of 2023, the IRS issued a strategic operating plan outlining its ambitious goals for the use of the funds. Additional funding reductions would prevent the achievement of these goals and would exacerbate efforts to close the tax gap, limit the IRS’ ability to ensure the wealthy and large corporations pay what they owe, and reverse efforts to improve service for all tax filers. This column reviews both the progress made by the IRS toward modernization in the first year after the Inflation Reduction Act’s enactment as well as major initiatives currently underway.
Improving customer service
Since the enactment of the Inflation Reduction Act, the IRS has implemented a number of initiatives aimed at improving customer service. These efforts helped dramatically improve customer service, leading to an 87 percent level of telephone service for the 2023 filing season, up from 18 percent in the prior year. Similarly, telephone wait times droppedfrom 27 minutes in 2022 to just 4 minutes in 2023. Efforts to improve service ranged from reopening or adding 35 taxpayer assistance centers (TACs) to opening centers on Saturdays during the 2023 tax filing season. These centers provide face-to-face help on basic tax law and questions regarding individual accounts. By expanding access, the IRS was able to provide in-person service to 100,000 more tax filers in 2023 than in the prior year. By January 2024, 54 TACs had been opened or reopened using funding from the Inflation Reduction Act. Other improvements on tap for 2024 include expanding access to “paperless processing,” which will allow filers to request information and respond to correspondence online, and offering “pop-up” TACs in hard-to-reach communities.
Creating a no-cost public option for tax filing
The IRS will inaugurate Direct File in 2024, a no-cost public option for tax filing. Eligible individuals with relatively simple returns who live in 12 states—Arizona, California, Massachusetts, and New York, along with eight states with no state income tax—will be able to directly file their 2023 federal tax returns online with the IRS for free. If successful, the pilot will be extended to more states in future years.
The IRS pilot will be “mobile friendly”—allowing filers to prepare their return on a laptop, tablet, or smart phone—and will be available with real-time online support in both English and Spanish. A public Direct File option will save filers money; the average taxpayer currently spends $270 preparing their federal return. It can also help ensure that filers access all tax credits and refunds they are entitled to. Members of the House Republican caucus and their allies in the software industry have fought hard to block a public option, despite broad-based, bipartisan public support.
Collecting taxes owed by the very wealthy
Repeated funding cuts since 2010 hindered the ability of the IRS to go toe-to-toe with wealthy tax avoiders who used sophisticated tools and planning strategies to avoid paying the taxes that they owed. Inflation Reduction Act-supported efforts to boost compliance by wealthy individuals with incomes in excess of $1 million owing more than $250,000 in tax debt have already resulted in the collection of $520 million in previously unpaid taxes since the enactment of the Inflation Reduction Act. This amount includes $15 million in restitution from one individual who claimed millions of dollars of business expense deductions to finance construction of a 51,000-square-foot mansion, a swimming pool, and tennis and bocce ball courts. Another individual fraudulently obtained $5 million in COVID-19 relief loans and used the proceeds to buy luxury automobiles.
Recent research by economists at Harvard University and the U.S. Department of the Treasury documents the cost-effectiveness of money spent auditing high-income households. The study found that each dollar spent auditing tax filers in the top 1 percent of the income distribution generates $4.25 in revenue, a figure that rises to $6.29 for those in the top 0.1 percent of the income distribution. These estimates suggest that after taking the deterrence effect into account, each dollar spent on audits of filers in the top 10 percent of the income distribution yields more than $12 in revenue in taxes owed that might otherwise go unpaid.
Research by former U.S. Treasury Department officials Natasha Sarin and Mark Mazur examines the sources of the tax gap and argues that approximately $2 trillion in taxes owed by the top 1 percent of the income distribution will go unpaid over the next decade due to tax evasion based on current IRS estimates.
Addressing corporate tax avoidance
Using funds provided by the Inflation Reduction Act, the IRS has stepped up efforts to ensure that large corporations pay the taxes that they owe by expanding targeted audit programs, with a particular focus on complex cross-border issues and ensuring that U.S. subsidiaries of foreign multinationals pay taxes on profits earned in the United States. The revenues at stake in these efforts are substantial. In one recent effort, the IRS prevailed in U.S. Tax Court in Bats Global Markets Holdings Inc. and Subsidiaries v. Commissioner of Internal Revenue, a case involving abuse of a repealed corporate tax break that upheld the denial of a $1.8 billion deduction. In another high-profile instance, the agency notified Microsoft that the company owed an additional $28.9 billion for the period 2004 to 2013 related to disputes over how the company allocated profits among countries. While Microsoft has appealed the IRS’ action, additional resources will enable the IRS to pursue large corporations that have skirted the tax laws to avoid paying the full amount that they owe. In December 2023, a Swiss bank agreed to pay the U.S. Treasury $122.9 million for its role in helping U.S. taxpayers avoid taxes through the use of undeclared bank accounts.
Rebalancing tax enforcement
The IRS’ ability to address sophisticated tax avoidance by the wealthy and large corporations was severely eroded by past budget cuts. The audit rate for corporations with $20 billion or more in assets dropped from 86.7 percent in 2010 to 57.2 percent in 2018, the last year for which the full statute of limitations had run prior to the publication of the most recent data. The trend in declining audits continued through 2020 with a similar drop in the rate for the highest-income households. This drop largely reflected the agency’s loss of highly skilled staff capable of managing difficult examinations.
Recent increases in funding reverse more than a decade of disinvestment
Prior to the passage of the Inflation Reduction Act, the IRS had suffered from more than a decade of disinvestment. Funding cuts took a harsh toll on the agency’s ability to ensure compliance with the tax code, with spending for enforcement dropping by 27 percent from 2010 to 2022 in inflation-adjusted dollars. Falling support for enforcement fueled an expansion of the tax gap—the gap between the amount of taxes owed and those actually paid—to $625 billion in 2021, more than one out of every six dollars owed. Nearly 30 percent of those unpaid taxes came from the wealthiest 1 percent. The impact of revenues lost due to noncompliance is substantial, as Yale Law School professor and former Treasury Department official Natasha Sarin noted in recent testimony before the Senate Budget Committee:
One year’s worth of uncollected taxes would have covered an extension of the expanded child tax credit—lifting millions of children out of poverty—through 2025. One year’s worth of uncollected taxes would pay for nearly all the non-defense discretionary spending that the federal government does. One year’s worth of uncollected taxes would shrink our annual budget deficits by between one-third to one-half.
The lack of adequate funding has limited the ability of the IRS to keep pace with changes in the economy. In 2019, for example, the IRS audited 0.05 percent of partnerships, which along with other so-called pass-through entities, account for a growing share of economic activity. Similarly, the IRS struggled to respond to the growth in digital assettransactions, such as Bitcoin transactions, where some estimates suggest that more than half the taxes owed go unpaid.
Estimates clearly show that the cost of added spending on tax enforcement will be more than offset by increased revenue collections. The Congressional Budget Office (CBO) initially estimated that the $80 billion increase provided by the Inflation Reduction Act would increase revenue collections by nearly $200 billion; that estimate was later reduced to$186 billion to reflect the claw back of a portion of the increase. However, experts including former Treasury Departmentofficials and former IRS commissioners argue that actual collections may be much, much higher—potentially in the range of $1 trillion or more—over the next 10 years, with continuing increases in subsequent years. The discrepancy between the CBO and experts’ estimates largely reflects CBO scoring conventions that do not account for the deterrence effect of stepped-up enforcement.