IRS overhaul aims for tenfold increase in audits of the wealthy

The IRS hopes to increase tax audits on the wealthiest taxpayers tenfold under the Biden administration’s plan for the agency, according to a senior administration official and the IRS’s new strategic operating plan.

IRS and Treasury Department officials said Thursday that they will use $80 billion in new funding for the tax service to claw back unpaid balances from high-income earners and complex businesses—restoring audits on those taxpayers to higher rates from more than a decade ago—and boost customer service resources for middle- and low-income tax filers.

The agency plans to digitize its tax-processing pipeline and begin developing government-backed online tax-filing software with money from the Inflation Reduction Act, one of President Biden’s chief legislative victories, officials announced in a 149-page report.

Retooling the IRS, which languished for more than a decade with budget and staffing shortages, was a key provision in the legislation to pay for spending on climate change and health care.

But it also appealed to Biden and Democrats’ political base as the president readies for a reelection campaign in which he’s signaled that a populist economic appeal will be a central theme. He has pledged not to increase taxes or audit rates on those making $400,000 or less.

“The tax system is not fair. It is not fair,” Biden said during his State of the Union address. “No billionaire should be paying a lower tax rate than a schoolteacher or a firefighter. I mean it.”

IRS Commissioner Daniel Werfel, who was confirmed to his post last month and had a ceremonial swearing-in this week, said in the report that his agency would create a “world-class customer service operation” where “Americans have confidence that all taxpayers, regardless of means, are doing their part to meet their responsibilities under our tax laws.”

Deputy Treasury Secretary Wally Adeyemo said in an interview that the IRS hopes to increase audit rates on wealthy individuals to 2011 levels, before when congressional Republicans slashed its budget for five consecutive years.

“One of the things that people talk about when they say that the tax code is unfair is, if you’re low-income, you’re more likely to be audited than if you’re wealthy,” Adeyemo said in an interview. “That is not consistent with tax fairness.”

The IRS will hire hundreds of employees in the coming years with skills to undertake those audits and to transform the agency’s technology to better spot noncompliance. Werfel is set to brief lawmakers later this month on the agency’s hiring plans, Adeyemo said.

In 2019, the most recent year for which data is available, the IRS audited 0.4 percent of taxpayers earning at least $500,000, down from 4.5 percent in 2011.

The most impoverished filers in 2019, those reporting zero positive income, were audited 0.8 percent of the time, more than twice the rate of wealthier taxpayers the same year.

Republicans have criticized the IRS expansion, saying it would “supersize” the agency. Some falsely claimed it would lead armed government agents to harass taxpayers, prompting threats against agency employees.

“Despite what some might think or say, these public servants within the IRS are armed only with calculators and their skills to help us address complex issues,” Werfel said in remarks Tuesday after his ceremonial swearing-in.

The IRS has already spent nearly $850 million to improve taxpayer services and the agency’s ailing technology. But GOP lawmakers such as Sen. Mike Crapo (Idaho) remain skeptical.

“For nearly eight months, the IRS has relied on a ‘spend first, plan later’ approach that is not transparent or responsible, and a surefire recipe for error, waste and mismanagement,” Crapo, the top Republican on the Senate Finance Committee, said Thursday after the new IRS plan was unveiled. “While we carefully review the plan that was released today, I agree with IRS Commissioner Werfel’s previous statement that there ‘should be regular updates and that transparency and accountability will be critical to success.’ I intend to hold the IRS to that standard.”

The agency plans to introduce services to allow taxpayers to complete their returns electronically and solicit help from customer service representatives through secure online portals, according to the report.

It will invest in digital scanning technology for paper tax returns. Roughly 10 percent of filers submit hard-copy returns, bogging down the agency with millions of pieces of paper. Werfel said the IRS will spend Inflation Reduction Act money to buy more scanning equipment, with the goal of eliminating the paper backlogs that snarled the 2022 tax season.

“The vision is that you’re going to be able to interact with the IRS the way you would any other company,” Adeyemo said.

The agency is also in the midst of commissioning a report on the feasibility of developing its own tax preparation software. The IRS diverts online filers to private firms such as Intuit TurboTax and H&R Block to file taxes electronically. Nearly 70 percent of taxpayers qualify for “IRS Free File,” which directs them to other software programs.

Instead, with the new funding, the agency will consider a “question-based electronic service to prepare and file tax returns directly with the IRS,” the report states. The IRS commissioned a study on such a program with the left-leaning New America think tank this year.

The IRS’s new operating plan fulfills an Inflation Reduction Act goal by “eliminating the two-tiered tax system that has allowed the wealthy and well-connected to play by one set of rules and everyone else by another,” said Rep. Richard E. Neal (Mass.), the top Democrat on the House Ways and Means Committee.

But the tax service’s report cautioned that the Inflation Reduction Act funding alone would not be enough for the IRS’s technology, customer service and compliance improvements.

The agency warned that budget cuts—or even just small increases that do not keep pace with inflation—would derail its transformation, forcing it to divert money meant to be spent on information technology upgrades or taxpayer services to keep its head above water in coming tax seasons.

“To fund the government, you need an effectively functioning and fair Internal Revenue Service,” said Mark Everson, who served as IRS commissioner from 2003 to 2007 and was briefed on the strategic plan by administration officials. “Things have gotten so complex, and there have been so many changes, and yet the service has clearly not been able to keep up.”

If Congress cuts the IRS’s budget in 2024 or does not factor inflationary costs into the agency’s annual appropriation, the agency would exhaust its $3.2 billion in Inflation Reduction Act taxpayer services funding within four years, the report says. The agency will also be unable to fund its IT modernization projects without additional funding from Congress.

That’s a risky position for the IRS, which frequently finds itself in partisan crosshairs, said Douglas Holtz-Eakin, president of the conservative think tank American Action Forum and a former director of the Congressional Budget Office. House Republicans have passed legislation to strip the IRS of much of the Inflation Reduction Act funding. (The Democratic-controlled Senate is unlikely to take up the bill.)

Appearing to give Congress an ultimatum about the IRS’s capabilities, he said, rather than working with lawmakers to secure more funding, could spell trouble.

“Don’t blackmail people,” Holtz-Eakin said, “give them options. This should be about the [IRS’s] plans, and not what the Congress does.”