During February and March of 2008, Treasury Inspector General for Tax Administration (TIGTA) auditors posing as taxpayers paid to have individual tax returns prepared by 28 unenrolled, unlicensed tax preparers. TIGTA found significant errors in most of the returns prepared in the test.
In the test, TIGTA auditors had 28 individual tax returns prepared by unenrolled, unlicensed preparers (i.e., the preparers were not attorneys, CPAs, enrolled agents, or enrolled actuaries). Preparers in commercial tax preparation chain offices prepared 12 of the returns and preparers in independently owned offices prepared the other 16. All of the preparers used commercial tax preparation software. TIGTA conducted the test in a single (unidentified) large metropolitan area.
The auditors used five different scenarios in the test, including four in which the taxpayer was single with one or more children and one in which the taxpayer was married with two children. Under the facts in some of the single taxpayer scenarios, the taxpayer qualified to file as head of household. The income of the taxpayers in the scenarios ranged from $16,000 to $85,000, and the issues presented included a variety of commonly encountered tax topics, including eligibility for and calculation of the earned income credit. According to the TIGTA report, the five scenarios "were not considered complex, and the tax topics were specific, straightforward, and not dependent on interpretation."
On review, TIGTA found that most of the returns (17, or 61%) contained errors that affected both the expected tax refunds and liabilities. Of these 17 returns, 11 contained errors that TIGTA considered to be the result of human error and/or misinterpretation of the law. Six contained misstatements or omissions that TIGTA considered to be willful or reckless.
Six of the 17 incorrect returns had overstatements of tax liability, and 11 had overstatements of refunds or understatements of tax liability. Although 5 of the 17 incorrectly prepared returns had relatively small errors (less than $200), the other 12 had significant errors that ranged from a tax overstatement of almost $5,000 to a liability understatement of almost $6,000. If the tax returns had been filed, the net understatement of taxes would have been $12,828.
The review showed a particular lack of proficiency in preparing returns with business expenses. The preparers did not report those expenses correctly on any of the six returns for scenarios that included business income and expenses. In addition, out of 12 returns with scenarios involving the self-employment tax and the deduction for the tax, only one reported these items correctly.
Willful or Reckless Errors
Six of the returns (35%) contained omissions or misstatements that TIGTA considered to have been willful or reckless. The net effect of these six returns, if they had been filed, would have been a $9,647 tax understatement.
Some of the return preparers increased or added deductions without the TIGTA auditors' permission—in some cases this was done even after the auditors had questioned whether they were entitled to the deduction. In a case in which the information worksheet showed children living in the home less than half the year, the preparer showed on the return that the children lived with the auditor for 12 months. The preparer then changed the auditor's filing status from single to head of household, increased the dependency exemptions claimed, and qualified the auditor for both the child tax and earned income credits. This increased the refund from $100 to $6,000.
In another case, the preparer added a charitable contribution deduction to the return without the auditor's knowledge and after the auditor had informed the preparer that there were no charitable contributions. The same preparer added a property tax deduction without the auditor's assertion or documentation.
Such problems, if found on real returns, could subject the preparers to penalties under Sec. 6694(b) for willful or reckless conduct.
In its report, TIGTA noted that while paid preparers file the majority of income tax returns, the IRS has no system in place to track or monitor paid preparers. TIGTA recommended that the IRS develop a single identification number that paid preparers are required to use so that the IRS can control and monitor their activities. The IRS has agreed to study the issue to see if it is feasible to implement this recommendation.
It is not clear from the report how this single identification number would differ from the return preparer number currently required by Sec. 6109, but the report noted that unenrolled return preparers currently use a mix of Social Security numbers, employer identification numbers, and practitioner identification numbers. In addition, the report noted that the Service does not maintain a central database of information on unenrolled preparers.
Although TIGTA's report clearly points out that the sample involved in its test was limited and was not statistically representative of the entire universe of unenrolled, unlicensed preparers, the dismal results will likely be interpreted as indicating that a serious problem exists nationwide. Undoubtedly, legislators who have been calling for increased regulation of paid preparers in general and the licensing of unenrolled, unlicensed preparers by the IRS in particular will cite the report as evidence that regulation and licensing are needed—going beyond TIGTA's recommendation.
Since the IRS already has some means at its disposal for monitoring return preparers (for example, background checks are performed on electronic return originators) and for penalizing bad behavior by return preparers, whether unenrolled or not, it is not clear that increased regulation and licensing are the answer.
TIGTA Audit Report 2008-40-171
The reports of cases, rulings, etc., herein, except for the Reflections, are edited versions of the relevant court opinion, published ruling, etc.