IRS Considering Pre-Verifying Tax Returns

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As a tax lawyer, it is interesting to see that as fraud and stolen identities is on the rise when filing returns, the Internal Revenue Service is trying to find new ways to improve how it verifies returns before issuing tax refunds.

A new report from the Government Accountability Office stated that the IRS does not receive many information returns before they issue refunds to taxpayers. For the 2011 tax year, the IRS issues approximately 50% of refunds to individuals by the end of February, however, they only received and processed 3% of the information returns from businesses.

Information returns are a tax documents, used by tax lawyers to prepare income tax returns, which businesses are required to file with the IRS. This is done to document business transactions by third parties, and is how the IRS gathers information on taxpayers. Information returns can include Forms 1097, 1098, 1099, 3921, 3922, 5498, and W-2G.

Most information returns are not received and processed by the IRS until after the April 15thfiling deadline for taxpayers. The IRS does not try to match filed tax returns and the information returns until July of the calendar year filed, and February and May of the following calendar year. The process is cumbersome. For example, in 2010, the IRS did not notify taxpayers of discrepancies on the individual income tax returns filed and the information returns until a year after the filing date.

Starting in 2011, the IRS began to develop a vision for a “Real Time Tax” system. This system would greatly improve verification by matching taxpayer filed income tax returns in the pre-refund screening process. This means that tax data would be analyzed before refunds are issued, instead of after like the current system in place. In 2012, the IRS started to analyze and assess the tradeoffs in accomplishing Real Time Tax.

If the IRS is able to achieve a Real Time Tax system, the implications would affect taxpayers, businesses, and the IRS. A Real Time Tax system would also most likely change the Tax Code, such as making information returns be filed with the IRS with an earlier deadline. If there is a change in the filing deadline, the IRS will need to consider if the businesses or other third parties will have enough time to report information.

As of now, the IRS has not made a final decision as to whether or not they will pursue a Real Time Tax system. The system is more of an idea or goal, without a specific timeline with objectives that need to be met. The Government Accountability Office has recommended, and the IRS has agreed, that there is a need for a time frame for the current exploratory effort, and they should develop a risk management framework for the Real Time Tax system.

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