The Internal Revenue Service has been unable to stop taxpayers from collecting billions of dollars in potentially erroneous education tax credits, according to a new government report.
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The Taxpayer Relief Act of 1997 created two permanent education tax credits, the Hope Credit and Lifetime Learning Credit. The American Recovery and Reinvestment Act of 2009 temporarily replaced the Hope Credit with a refundable tax credit known as the American Opportunity Tax Credit. The AOTC was initially set to expire at the end of calendar year 2010 but has since been extended through 2017. These credits help taxpayers offset the costs of higher education.
Previous TIGTA audits have also reported that taxpayers have claimed billions of dollars of erroneous education credits. TIGTA has made a number of recommendations to the IRS to help reduce the number of erroneous claims, but the IRS seems unable to stop the questionable claims.
"The IRS still does not have effective processes to identify erroneous claims for education credits,” said TIGTA Inspector General J. Russell George in a statement. “Although the IRS has taken steps to address some of our recommendations, many of the deficiencies TIGTA previously identified still exist. As a result, taxpayers continue to receive billions of dollars in potentially erroneous education credits."
Based on its analysis of education credits claimed and received on tax year 2012 tax returns, TIGTA estimates that more than 3.6 million taxpayers (claiming more than 3.8 million students) received more than $5.6 billion in potentially erroneous education credits ($2.5 billion in refundable credits and $3.1 billion in nonrefundable credits). Specifically, TIGTA estimates that more than 2 million taxpayers received more than $3.2 billion in education credits for students with no Form 1098-T, Tuition Statement.
In addition, more than 1.6 million taxpayers received approximately $2.5 billion in education credits for students attending ineligible institutions. The report also found that 419,827 taxpayers received more than $650 million for students who were used to claim the AOTC for more than four tax years. TIGTA also discovered that 427,345 taxpayers received approximately $662 million in AOTCs for students who attended school less than half-time.
Further analysis of the more than 3.6 million taxpayers TIGTA identified as claiming education credits for ineligible students or ineligible institutions showed that 765,943 (or 21 percent) claimed both a student for which the IRS has no Form 1098-T and listed an ineligible institution on their Form 8863, Education Credits (American Opportunity and Lifetime Learning Credits).
TIGTA made five recommendations to the IRS to improve the detection and prevention of erroneous education credit claims, including that the IRS work with the Treasury Department to consider a legislative proposal to move the required filing date for Forms 1098-T to January 31 so the information can be used at the time tax returns are processed to help identify improper education credit claims.
The IRS agreed to implement two of the recommendations but did not agree to implement the other three. TIGTA expressed concern with the IRS’s response.
Debra Holland, commissioner of the IRS’s Wage and Investment Division, acknowledged that the IRS faces significant challenges in administering the AOTC, but she offered an explanation.
“Primarily, third-party information confirming enrollment in a qualified educational institution and verifying tuition expenses is generally not available at the time returns are filed and processed,” she wrote in response to the report. “Further, the ability to use Math Error Authority (MEA) to correct obviously erroneous claims during return processing is limited, thus requiring any treatment to follow deficiency procedures, which draw on limited resources and are the most costly methods for addressing questionable claims.”
Holland pointed out that for tax year 2012, the IRS redesigned the Form 8863 to capture information reported to taxpayers on Form 1098-T, Tuition Statement, by educational institutions, and to document taxpayer responses to questions that aimed to determine their eligibility for the credit.
“The form changes served the dual purpose of clarifying student eligibility requirements for taxpayers and allowing the IRS to leverage MEA for inconsistent entries,” she added. “We believe this change contributed, in part, to the reduction of total education credits claimed from $23.6 billion for tax year 2011, to $19.1 billion for tax year 2012.”
Holland also disagreed with TIGTA’s finding that the IRS does not have effective processes to identify erroneous claims for education credits. She pointed out that the IRS identified 1.8 million questionable returns for potential audit through its exam filters. Of those identified, the IRS selected almost 9,600 cases for examination and more than 126,000 in its Automated Underreporter program for tax year 2012 that had the same questionable characteristics as those identified in earlier TIGTA reports.
“Due to limited audit resources and the need to allocate those resources in a manner that ensures balanced support for all provisions of the Tax Code, our process for selecting returns for review is designed to choose those with the highest potential for error and considers the potential net tax effect that could result from a review,” Holland added. “For the limited number of returns that can be reviewed, we strive to ensure those with the most significant impact are selected.”
Holland observed that the IRS has worked with the Treasury Department to address the challenges that need to be overcome before significant improvement can be made in stopping erroneous claims for education credits. “Requests have been submitted for legislative changes that would enable the IRS to use internal and other governmental databases to validate student eligibility and, when students are found to be ineligible, to remove the credit outside of deficiency procedures,” she wrote. “Requests have also been submitted to simplify the educational credit landscape and to accelerate the filing due date for information returns, including Form 1098-T, to January 31.”
An IRS spokesperson emailed Accounting Today a further response to the report from the agency. “The IRS has taken a number of steps to protect these important credits, including making changes to a key form in 2012 that reduced the number of claims by $4.5 billion in one year,” said the IRS. “IRS efforts in this area are hampered by the complexity of laws affecting education credits. Congress could help by approving legislative proposals that would give the IRS new tools to access other government databases to validate student eligibility and help disallow the credits more easily. Congress could also simplify educational credits and accelerate the filing date for informational returns like the Form 1098-T to the IRS.”
Budget cuts have also had an impact, the IRS pointed out. “Funding limitations have severely hampered our efforts in this and other compliance areas,” the IRS statement continued. “Since 2010, the IRS budget has been reduced by nearly $1.2 billion and we expect to have 16,000 fewer employees by the end of this fiscal year. We simply do not have enough resources to audit every questionable credit. It’s also important to note the IRS believes the dollar estimates in this report are overstated, and the methodology could be more accurate. Regardless of this, the IRS believes more can be done in this area and will continue working with Congress and TIGTA to make improvements.”
Senate Finance Committee chairman Orrin Hatch, R-Utah, nevertheless criticized the IRS in his response to the report. “The findings of today’s TIGTA report once again spell trouble for the IRS and call into question their ability to properly administer the American Opportunity Tax Credit (AOTC),” Hatch said in a statement. “This partially refundable tax credit was established as part of the stimulus, but unfortunately, as today’s report shows, the IRS has only succeeded in stimulating waste by not effectively identifying erroneous claims. Even worse, TIGTA found that ineligible individuals continue to receive erroneous credits. The IRS owes it to American families and hardworking taxpayers to properly safeguard their hard-earned dollars and not dole them out to people who are not qualified to receive such credits.”
