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News & Analysis
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Federal Employee Tax Compliance

The IRS Inspector General reviewed federal employee tax compliance and their report is out. The report’s frustration with the lack of enforcement is palpable even in the title “The IRS Has Not Adequately Prioritized Federal Civilian Employee Nonfilers”. A total of $1.5 billion was owed by 149,000 federal civilian employees in FY 2021. The number of delinquent employees increased by nearly a third from FY 2015 to FY 2021, although the total number of federal civilian employees  increased by 6%.

Tax compliance issues can result in disciplinary measures for federal employees. However, the IRS is prohibited from sharing federal employee tax returns with federal agencies outside of the Treasury Department. The report credited the ability to discipline those employees as a reason why IRS employees have a 1.35% delinquency rate compared to the general 4.93% federal civilian delinquency rate. The IRS created a program in 1993 called the “Federal Employee/Retiree Delinquency Initiative” (FERDI) in an attempt to better monitor federal employees and their missed filings. These FERDI taxpayers include “anyone currently receiving a salary or pension from the Federal Government and who either fails to file tax returns or pay taxes owed.” The categorization of FERDI taxpayers apart from other taxpayers may have been intended to subject them to greater scrutiny, yet the effect has been the opposite. Although the Inspector General claimed federal employees “have a higher duty to file tax returns,” the report concluded: “The time the IRS dedicates to Federal employee nonfilers is minimal.”

In conducting their investigation the Inspector General discovered some shocking information. They discovered that the IRS knew of 42,047 federal employees between FYs 2016 and 2020 who failed to file for at least 2 years. Over 41% of this number did not file for 3 years or more years, and 19 did not file for at least 9 years. About 19% of repeat nonfilers had a minimum of $100,000 in income, and despite all of this, only10 employees received a fraudulent failure to file (civil) penalty from FYs 2016 through 2021. There is at least 1 FERDI taxpayer with a delinquency file that has not been resolved in 36 years.

The IRS rejected the proposal to refer all nonfilers who are delinquent for a set number of years to the Justice Department for potential criminal investigation. On the civil side, over 22,000 FERDI cases were referred to auditing in Examination in FY 2020. Examination worked on less than 1% of those cases. These files suffered such low priority that they did not even appear on the list of priorities because “inventory selection was limited to only eight priority buckets” as a result of “legacy programming limitations.” After some pressure from the Inspector General, such files are now third in priority “behind refund hold and high-income nonfiler cases.”

Apart from FERDI matters, the report gave an interesting summary of criminal tax investigations in general:

CI receives, evaluates, and investigates fraud referrals from the civil divisions after there have been established affirmative acts or firm indicators, or ‘badges,’ of fraud. CI then uses the results of those investigations to make referrals to the DOJ. When choosing whether to refer a case to the DOJ, CI will refer to each district’s unique process for case referral. This would include referrals pertaining to Federal employee nonfilers with multiple years of unfiled tax returns. The DOJ does not accept or deny cases for prosecution based on generalized sets of referral criteria. Rather, the process for determining which cases CI will refer to the DOJ requires [judicial] district-level collaboration and the exercise of experience-informed professional judgment.