Features

The People vs. the IRS


The People vs. the IRS

Illustration by Dr—Me

(Corrects Marjorie Kornhauser's affiliation with Arizona State University.)

Micah Andrews opened his first notice from the IRS a week before Christmas in 2010. He was standing in the kitchen of the house in the Atlanta suburbs that he and his wife had bought to make space for their new baby. Two years earlier, when the couple had purchased the home, they had considered themselves lucky. In 2008, to buffer the effects of the economic downturn, Congress had voted in a tax credit of $7,500 to first-time home buyers. The couple applied for the funds and moved in November, shortly before their daughter was born. A few months later, they received the credit.

Opening the letter, Andrews, who manages the technical crews at the Georgia Aquarium, was astonished. It was a bill for $8,609.73. Not only had the IRS rescinded the credit, he was being charged about $1,000 in penalties. Everything was due within a few days.

Andrews did not have the money. The family put a freeze on holiday spending, stopped going out for a year, and put off plans to spruce up the house. It took Andrews’s accountant, Bob Gard, several months of calling the IRS special preparer’s hot line to discover that the agency had mistakenly determined that Andrews was not living in the house full time. They had also been sending letters to the wrong address. Gard sent a stream of letters documenting that the home was a primary residence, but Andrews kept receiving bills, with penalties and interest adding up. When Gard called the IRS, the service representatives who answered the phone were sometimes unaware of the letters he had sent. “It’s like quicksand,” Gard says. “Once you enter it, you just can’t get out.”

By last October, Gard, a CPA for 30 years, realized that he could not resolve the situation on his own. The Andrews family had been denied their tax refunds for two years, and the IRS notified his employer they intended to start deducting money directly from Micah’s paycheck. In desperation, Gard turned to a little-known government office within the IRS whose job it is to fight the IRS.


As director of the Taxpayer Advocate Service, Nina Olson oversees “advocates” in every state who are IRS employees and who represent taxpayers in egregious disputes with the service. The petitioners have usually exhausted most other opportunities for recourse and are often experiencing severe economic hardship. The advocates are grease in the gears of an agency that gets jammed all too often.

'For the majority of taxpayers, the IRS has become faceless, nameless, with no accountability and no liability,' says OlsonMilan Zrnic for Bloomberg Businessweek'For the majority of taxpayers, the IRS has become faceless, nameless, with no accountability and no liability,' says Olson

There has been only one national taxpayer advocate, Olson, who has held the position since Congress created it a decade ago. She presides over 2,000 caseworkers and data analysts—a sliver of the IRS, which employs over 100,000 people. Individuals, corporations, small businesses, millionaires, and even sovereign nations have sought the help of the Taxpayer Advocate Service, as have thousands of accountants and trained tax preparers who find the tax code and the IRS impossible to navigate. In a typical year, Olson wins relief for 70 percent of the 300,000 people and businesses that open a case, according to her office. Many, like Andrews, have done nothing wrong.

In 2006 the IRS studied 46,000 audits of taxpayers. Among those returns that were flagged for misreporting income, IRS auditors reported 67 percent of the problems were unintentional errors; 27 percent were computational errors either caused by the IRS or the filer; and 3 percent of mistakes were intentional. Olson helps them all, even the ones who aren’t entirely innocent. “You take your taxpayers as you find them,” she says.

Though she has characterized IRS procedures as Kafkaesque, Olson empathizes with the agency. Congress is constantly demanding that it collect more revenue, both to bridge what’s known as the tax gap—the more than $385 billion discrepancy between the revenue the IRS actually collects and the amount the government believes it is owed each year—and to pay down the federal deficit. While Congress demands more money from the IRS, however, it has not been generous in funding the agency.

Congress is also making the tax code more complicated every day: In 2010, lawmakers voted in 579 changes to the code. Right now it tops out at 3.8 million words, four times as long as War and Peace. The IRS doesn’t have the manpower to manage the scads of credits and changes to the code it is required to enforce. And computer glitches are entangling more people in audits than ever before—millions in just this year.

Part of Olson’s job is to target the agency’s failures and shame it into fixing them. At the same time, she’s looking at taxpayers and trying to figure out why some of them don’t pay.

U.S. history has been punctuated by anti-tax revolts, and attempting to heal the fraught relationship between taxpayer and collector may seem quixotic. Olson says if you can get inside the mind of taxpayers, you can begin to persuade more of them to pay their share on April 15—and perhaps bring about a truce in the country’s unending wars over taxes.


On a March Friday, after a week that included briefing Capitol Hill staffers about identity theft, meeting with IRS lawyers about domestic partnership laws, and working on a blog post about her latest gripes with the agency, Olson gave a keynote speech at the Federal Bar Association’s annual lunch. These lunches are typically schmooze sessions for high-powered attorneys and IRS employees. Nevertheless, she selected a sensitive theme: How the 99 Percent experiences the tax system.

She started with the bad news: One in three won’t get their calls to the IRS answered. The wait time for half of all people who have written to the IRS is more than six weeks. “When I heard that,” she exclaimed, whacking her head, “I nearly hit my head against a wall.”

Olson noted that the IRS relied on computers to audit all but the highest-income brackets. “We’re getting to a situation where the only people who will get face-to-face audits are the 1 Percent,” she said. “For the majority of taxpayers, the IRS has become faceless, nameless, with no accountability and no liability.”

As the audience applauded tepidly, Allen Littman, an attorney with corporate law firm Baker Hostetler, turned to his neighbor. “You know, she’s completely right,” he said. Littman called dealing with the IRS a “hall of mirrors, where there are no real people and only disembodied voices with badge numbers.” He was recently snarled in a two-year fight to reverse a $24,000 penalty for a client, a Midwest manufacturer. “No business,” he said, “could stay in business behaving the way [the IRS does] toward people.” The case was resolved only after Littman brought it to the local affiliate of Olson’s agency.


'No one is willing to fund the IRS to do imaginative thinking,' Olson says. 'We're so far behind'Milan Zrnic for Bloomberg Businessweek'No one is willing to fund the IRS to do imaginative thinking,' Olson says. 'We're so far behind'Olson, 58, is an improbable insider, an animated woman who prefers hot pink blazers and jangly earrings to power suits. She lives in a D.C. townhouse and walks two miles to work every day. When she was younger, she wanted to be a painter. She studied fine arts at Bryn Mawr College in Pennsylvania and moved to Chapel Hill, N.C., after graduation to start her painting career. She took a part-time job working for a lawyer, whose clients were local wineries, coffee shops, and artists. Olson had a knack for numbers and organization, so friends and local businesspeople started asking her to prepare their tax returns. To her surprise, she was good at it. She bought a copy of the tax code and taught herself its ins and outs. In 1987 she enrolled in North Carolina Central University School of Law, taking night classes while working for the lawyer and raising her son by herself. Four years later she became a tax attorney.

In 1991 the local bar association asked Olson if she’d be willing to take on some pro bono work. Olson wanted to use her tax expertise to help those who were unable to buy groceries or pay rent because the IRS was levying their paychecks. The following year she started an independent low-income tax clinic, the first of its kind in the country. Soon the clinic was serving about a thousand taxpayers. One of Olson’s early clients was an immigrant woman from Egypt who earned $10,000 a year as a hairdresser and was being charged about $35,000 by the IRS. The woman’s husband, who beat her, had defrauded the IRS without her knowledge. When the agency uncovered the scheme, he fled the country. The woman could barely read English and had never filed a tax return, but the IRS viewed her as uncooperative. It took Olson four years to free the woman of her obligations. “I saw the consequences of an irrational and overly burdensome approach to tax administration,” she says.

In the 1990s, Senate Republicans held scathing hearings lambasting the agency for abusing taxpayers, which led to the passage of the Internal Revenue Service Restructuring and Reform Act in 1998. The new law increased oversight of the IRS and included federal funding to expand low-income tax clinics. It also created the national taxpayer advocate, a position that reported to then-Treasury Secretary Larry Summers, not the IRS commissioner.

Two years later, Olson learned that Summers was considering her for the job. She didn’t think of herself as a Washington person, “But then, I just went with it,” she says. Olson, whose position has no term limits, told herself that she would stay until she got bored or until frustration with the IRS drove her to quit. “I’m not bored yet,” she says. “And I still have a bit more work to do.”


Olson’s pushing and prodding has had results. In 2009 she found that the IRS was offering partial-payment plans to only one in 375 delinquent taxpayers who requested them, and she complained about this excessively punitive approach. (The IRS is now offering more plans.) Last year, when taxpayers with offshore accounts were encouraged to report them and were hit with big penalties for doing so, Olson criticized the agency for a “bait and switch.” (The agency refutes this one.)

This evidence-gathering has been building toward a larger outcome. Two years ago, she argued in her annual report to Congress that the IRS has reached a tipping point: The tax code has gotten too complex for reasonable people—and even for trained professionals—to understand. This includes the employees of the IRS itself.

In one large study of people who had misreported liabilities on their returns, 30 percent overreported their income; in another study of one-time tax credits, the IRS found that 30 percent of people offered credits didn’t take them. The only explanation, Olson says, is that these taxpayers didn’t comprehend what was being offered on their returns. Simplifying the code, Olson believes, is the No. 1 challenge facing the IRS.

“Complaining about the tax code is like complaining about the weather,” says Bruce Bartlett, a former Bush and Reagan Treasury official. Bartlett thinks code reform can happen only incrementally. “People complain about the complexity, but they won’t do anything meaningful to get simplicity if it means they are going to have to pay more,” he says.

Publicly, the IRS says it backs Olson’s push for a simpler system. “There’s no question that increased complexity in the law makes it difficult to comply with and makes it difficult for the IRS to administer,” says agency spokesman Frank Keith. (IRS Commissioner Douglas Shulman declined repeated requests for an interview but said in a statement: “The Taxpayer Advocate plays an important role in our efforts to provide a fair and efficient tax system.”) “It causes inadvertent mistakes. It also encourages fraud because people can hide behind the complexity,” Keith says. He adds that Olson has helped the IRS understand that aggressively enforcing lien collection had “consequences” for some taxpayers. He concedes that administering new provisions from Congress is challenging and, in some cases, “creates novel interactions between us and taxpayers.”

To taxpayers, the interactions often feel more infuriating than novel. In February last year a group of first-time home buyers started a Facebook group with the name “2011 Tax Refund Delays (5405 form, 1301 or 1481 Error Codes).” Like Andrews, they were all experiencing problems with the 2008 credit. On the site, thousands of fans share tips gleaned from reticent IRS employees, engage in seemingly endless rounds of IRS bashing, and commiserate about getting evicted because of refund delays. That March someone posted Olson’s e-mail address on the group’s wall. Almost immediately, her inbox was flooded. Unlike the rest of the IRS—which has a no-e-mail policy—Olson was happy to correspond. “I had pen pals,” she says.

Olson began forwarding the e-mails to case managers, analysts, and senior IRS officials. She demanded a meeting with Commissioner Shulman. Eventually, the glitches affecting the group were discovered.

Such problems, in Olson’s view, were much more than technical snafus: They reflected a failure to anticipate everyday human scenarios and factor them into computer programming. In the case of the first-time home buyer glitch, couples who tried to pay back more than the minimum were snagged. People whose homes were underwater—and therefore not required to repay the loan—were caught too. The exceptions weren’t built into the computer program. Olson says that at least 128,000 taxpayers were affected.

In meetings, senior officials would tell Olson the glitches had been fixed. The next day, she would receive another wave of e-mails from angry taxpayers. “The IRS’s silence was creating this anxiety level with taxpayers,” Olson says. “You saw on their posts that people had called the IRS, and they had been told by the IRS that they are in status 1301. Or in status 1205. So here they are writing on the page, ‘I’m in status 1301!’ And someone else is responding, ‘Oh, you’re in 1301, I’m in 1205.’ And I’m thinking, why would someone tell them that? Why couldn’t someone explain to them where they were and what was going to happen and what to expect?”

It took eight months to sort out the problems for most people caught in the glitch. For Micah Andrews, relief came within a month of connecting with the local taxpayer advocate in October 2011. The bills stopped, the penalties were erased, and the Andrews family received $5,800 in refunds. Two months ago, Andrews finally painted his walls and built a fence. “If I had known it could have been straightened out so quickly and easily,” he says, “I would have done that years before.”

Olson believes that the underfunding of the IRS is pushing it into fewer face-to-face interactions. The IRS budget, currently $11.8 billion, has been cut each year for the past two years, resulting in a hiring freeze. “No one is willing to fund the IRS to do imaginative thinking,” she says. “The military gets funding to develop the next new weapons system. But the IRS does not get funding to sit down and say, how could we harness the iPad? How could we harness video technology to talk to the taxpayer in their home? I mean, we don’t even e-mail or text the taxpayers. We’re so far behind.”

During the home buyers debacle, Olson received an e-mail she says she’ll never forget. After experiencing a delay in his refund, the angry correspondent said that when it came time to paying taxes next year, he was going to take as long to pay the IRS as it took to get his refund. Olson says this frustration has larger policy implications. “If you get someone who is an upstanding citizen,” she says, “with an inability to get someone on the phone, an inability to get someone to look at their case, well, after a time, it’s perfectly reasonable for them to say ‘why am I making this effort? I’ll just wait for them to come and get me.’”


Millions of taxpayers already feel that way. Many are small business owners who work in the cash economy. Americans whose employers automatically withhold taxes from their paychecks have a 99 percent compliance rate—and little choice. But among people not on the payroll system—small business owners, freelancers, and others—accuracy and honesty is lower. The IRS says that it receives only 43 percent of what this group owes. These 9 million commit most of the flubs, fudges, and swindles that contribute to the annual multibillion-dollar tax discrepancy. Olson is fascinated and troubled by the tax gap and those business owners. She wants to know: What compels some people to pay their taxes when others don’t?

In 2007, Olson came across research conducted by the Irish government that examined what’s known as cognitive ethical reasoning. The investigation explored different scenarios, from saving a drowning man to stealing a shirt from a department store, and tried to calculate the threshold at which people would do the right thing. The results were inconclusive—the study didn’t examine a representative sample of taxpayers—but after reading it, Olson became interested in how people think about taxes as moral choices.

There is a field devoted to the subject of how individuals make choices about paying taxes; it’s called “tax morale.” That year Olson commissioned Marjorie Kornhauser, a professor at Arizona State University’s Sandra Day O’Connor College of Law, to study the cash economy and the factors motivating taxpayers to comply with tax laws. Kornhauser found that fear of getting caught plays a much smaller role in keeping taxpayers honest than is commonly assumed. When taxpayers learn that many people evade taxes, they are more likely to evade them, too. They’re less inclined to dodge when they believe that their cheating creates national problems. The risk of an audit is not enough to explain behavior.

In 2010, Olson hired a social anthropologist, Eric San Juan, to look more closely at the behavior of tax dodgers. San Juan, who is also a tax lawyer, divided evaders into eight categories of noncompliance. Procedural noncompliance is when you don’t pay taxes because IRS procedures are too complicated. Asocial and habitually noncompliant taxpayers get a rush out of cheating. Symbolic noncompliant taxpayers game the system out of principle. Other categories include people who use accountants to cheat—brokered noncompliance—and those who simply can’t afford their tax burden, are too lazy, or think it’s normal not to pay taxes because people in their families didn’t pay.

San Juan and his team designed survey questions that would get at these attitudes. They chose 7,800 small businesspeople across the country. These business owners—who are currently being surveyed—were picked because of what’s known as the DIF score. The DIF score, which stands for discriminant function, is the IRS’s primary risk assessment tool. Every taxpayer has a DIF score, a gauge of your likelihood of cheating based on your past filings. The higher the DIF score, the more honest the tax filer. As Olson’s researchers ask questions, the taxpayers’ answers will be run against their DIF scores.

Olson says there are towns in the U.S. peopled by super-taxpayers. Her team is creating a census of the super-tax-paying communities’ demographics to pinpoint what makes their residents so honest. Is it an inspiring pastor, an immigrant community with values from the home country, or a really good public education system?

Understanding what makes these taxpayers tick is crucial, she says, because current methods of collection enforcement are not paying off. When the IRS puts a lien on a person, it does not recoup the money between two-thirds and three-quarters of the time. That number has barely budged despite a more than 500 percent increase in lien filings in the past decade. A lien, unlike a levy, doesn’t compel payment with payroll deductions but does ruin credit. And many people facing liens simply cannot afford to pay. These liens, which get recycled within the IRS system year after year because people don’t pay them, create the IRS’s largest paperwork jam.

Olson suspects the study results will show that alienation plays a greater role in the equation than people realize. By alienation she means a wider sense of unfairness—the feeling people get when they wait too long on hold, when they’ve been laid off and the IRS will not agree to a payment plan, when they learn their neighbor pays less than they do.

She hopes the study will show her the fault lines of how people see themselves inside the system. “We can disagree about what government should do and how big it should be,” she says. “But if we want a government of some sort, most if not all of its revenue will come from the people in the form of taxes. So we all have a stake in what the tax system looks like.”

Joshua Odintz, who served as tax counsel to the Senate Finance Committee until 2009, worked with Olson for years and says her contribution to tax reform is critical. “She represents the broad taxpayer base who do not have a lobbying group to represent them on the Hill,” he says. “Does that translate into action? Well, sometimes … but there have to be people that take up her issues.”

In the meantime, Olson is applying thousands and thousands of Band-Aids. And she can push the IRS to better address the complexity of people’s lives—or at the very least be more helpful on the phone. “Taxpayers bring a whole bundle of life circumstances, history, economic circumstances, baggage, biases. … They bring a whole bundle of things to the table. Your job is to listen to what they’re bringing,” she says. “Don’t think of these people as widgets.”

Dwoskin is a staff writer for Bloomberg Businessweek in Washington. Follow her on Twitter: @lizzadwoskin.

We Almost Lost the Nasdaq
LIMITED-TIME OFFER SUBSCRIBE NOW

(enter your email)
(enter up to 5 email addresses, separated by commas)

Max 250 characters

 
blog comments powered by Disqus