Mice, Elephants, and the IRS Published January 1, 2015
This article was originally published in Commercial Factor and focuses on important trends at the IRS. Knowing these trends you are able to be more proactive with the IRS.
A leg is perceived to be a “pillar.” An ear is a “fan.” The elephant’s back is a “cliff” and so on. It is not until one mouse puts all of the pieces together that the mice discover they have actually encountered an elephant. There are a number of significant trends at the IRS. When each is considered separately, it might seem inconsequential. However, when the trends are taken into account as a whole, they could have tremendous consequences for lenders as well as their clients with federal tax liabilities. There are two general patterns. First, delinquencies are increasing, but the IRS is filing fewer federal tax liens. Second, additional and deep budget cuts are negatively impacting customer service (fewer employees with much less training). As such, future interactions with the IRS will likely be more difficult. Because of these trends, it is more important than ever to be vigilant and proactive when dealing with the IRS.
Delinquencies Increasing/ Liens Decreasing. The number of taxpayers who owe money to the IRS – businesses and individuals with delinquencies or liabilities (money owed to the IRS after the return was filed) – is increasing. The figure rose from 10,391,000 in 2010 to 11,721,000 in 2013, a 13 percent increase (IRS Data Books).
One might assume that if delinquencies are increasing, the number of federal tax liens filed should increase as well. Well, you know what they say about assumptions. From 2010 to 2014, there was a 51 percent reduction in the number of liens filed – from 1,096,376 in 2010 to 535,580 in 2014 (2014 Taxpayer Advocate Annual Report to Congress, January 2015).
The majority of the decrease can be attributed to the IRS’s “Fresh Start” program, which was implemented in 2011 and 2012 and modified thresholds (dollar amounts) for lien filings. The National Taxpayer Advocate argued in favor of the program, contending that liens interfere with taxpayers’ ability to obtain loans. The logic is that fewer liens allow for more loans, which increases collection. Generally, there are two entities responsible for Collections with the IRS – the Automated Collection System (ACS) and the field (Revenue Officers). Since 2011, ACS is sending more accounts to the “Queue” awaiting assignment to a Revenue Officer without first making a lien determination. As of September 30, 2014, there were 3,097,401 “collectable” delinquent accounts valued at $57.7 billion sitting in the “Queue” delinquencies. However, the IRS is simultaneously filing fewer federal tax liens and taking longer to do it. As such, it is harder for a lender to uncover a federal tax liability through a public record search when the IRS is waiting longer to file a fewer number of federal tax liens.
Make no mistake – if the liability is large enough to be assigned to a Revenue Officer, the Revenue Officer will likely file the federal tax lien at some point. However, because (a) ACS is filing fewer federal tax liens, (b) the lien determination is increasingly being left up to Revenue Officers, and (c) it is taking longer for Revenue Officers to be assigned to cases, lenders cannot rely on public record searches to identify problems with the IRS.
The utilization of public record searches to identify clients’ federal tax liabilities and manage risk is a flawed methodology. The risk is created when the taxpayer client files a return without payment, not when the federal tax lien is filed. When the IRS files a federal tax lien is unpredictable. By the time the lien is filed, there is little, if any, time to resolve the issue before the lender loses its priority secured position.
Additionally, the IRS does not have to file a federal tax lien prior to levying bank accounts or receivables, which can threaten the existence of lenders’ clients and tie up lenders’ monies. The lender can appeal to the IRS based on “wrongful” levy provisions, but the process is time consuming and arduous. It is much easier to simply avoid liens and levies in the first place.
The solution to this shifting of risk is to (a) routinely monitor the taxpayer client for compliance and (b) obtain information directly from the IRS. Routine monitoring allows lenders to uncover federal tax liabilities in real time at the point of accrual, months before a federal tax lien is filed. The additional time is crucial to identify liabilities before they balloon out of control and can be addressed in a timely manner.
Budget Cuts. The IRS’s 2015 budget is $10.9 billion, which represents a 10 percent reduction from 2010 when the budget was $12.1 billion. With inflation considered, the 2015 budget is actually comparable to the 1998 budget. However, the IRS will process 30 million more business and individual returns than it did 17 years ago. In short, the workload is much greater (not to mention implementation of aspects of the Affordable Care Act, which is a separate discussion), but resources are fewer. Something has to give.
Customer Service. The impacts of the declining IRS budgets over the past few years are scary relative to personnel and training. Per the Government Accountability Office, approximately 75 percent of the IRS budget goes to personnel. As such, budget cuts have led to a commensurate decrease in personnel. In 2014, the IRS had about 10,400 (11 percent) fewer employees than in 2010.
Moreover, for every five people who leave due to attrition, the IRS has only hired one replacement (IRS Oversight Board, Special Report from May 2014). This attrition has disproportionately affected the divisions directly involved in enforcing tax laws or providing taxpayer services. From 2010 to 2013, approximately 39 percent of ACS’s workforce and 21 percent of Revenue Officers were lost due to attrition or reassignment (TIGTA Report, November 4, 2014).
The IRS has had to get “creative” when reducing expenses as it is reluctant to terminate employees other than through attrition. As such, the IRS has cut costs in other areas, the most concerning of which is training. From 2010 to 2013, the IRS reduced its training budget by 87 percent, from about $172 million to about $22 million (IRS Oversight Board, Special Report from May 2014). Anyone who has spoken with a representative from the IRS has likely been frustrated by the experience. Additional cuts in training will only make that situation worse in the near future (assuming they answer the call).
Consequences of Budget Cuts. Lenders’ clients with IRS liabilities are going to be working with an understaffed and undertrained IRS workforce. Decreased levels of customer service – unanswered phone calls, delays in processing requests, incorrect information – will make it especially difficult for taxpayers to resolve their issues with the IRS in a timely fashion.
The vast majority of Revenue Officers and Advisors are good people with difficult jobs, who genuinely want to resolve these issues. However, the inability to hire new Revenue Officers and Advisors will stretch the existing staff further, resulting in significant delays in processing Installment Agreements and subordinations of federal tax lien (Agreements and Subordinations, respectively).
Lenders will be adversely affected as well. Once a federal tax lien is filed, the lender has 45 days (at most, depending on the lender’s threshold for risk) to resolve the issue and preserve its priority lien position through an Agreement and Subordination. Every situation is different and there are exceptions to every rule, but it is already difficult to fit negotiations for an Agreement and Subordination into 45 days. Because of existing staffing issues with Advisory offices across the country, Subordinations alone typically take 30 to 45 days to obtain.
If a lender waits until the federal tax lien is filed to begin negotiations for an Agreement and Subordination, the 45 days may come and go with proposals and/or applications stuck on desks with partial or no review. Without an Agreement and Subordination from the IRS, the lender will have to cease funding and lose a client; the client will likely cease operations.
There is a two-part solution to the delays and customer services issues within the IRS – (1) be proactive and (2) ensure the client is working with a representative who understands how the IRS works and also understands the specific needs of the lender. If a lender regularly monitors compliance with the IRS, a federal tax liability will be uncovered well before a federal tax lien is filed. Once the issue is identified, it can be proactively resolved prior to the filing of a federal tax lien. It is much easier to prevent or delay the filing of a federal tax lien than to try to cram months of work into a few weeks. Moreover, because of the backlog, delays, and the IRS’s lack of understanding of the lenders’ concerns, it is imperative that the lenders’ client work with an experienced representative who can navigate the resolution process while ensuring that the lender maintains a priority secured position.
The IRS is not the 800-pound gorilla in the room; it is the six-ton elephant (my apologies for mixing metaphors). It may take some time for the elephant to get up to speed, but once it does it can crush a lender’s client (maybe even the lender) like a grape. However, if the lender monitors its client’s compliance with the IRS and proactively addresses issues as they arise, the lender can recognize the elephant for what it is and deftly avoid getting hurt.
Jason S. Peckham, Esq., is vice president of Resolutions for Tax Guard, Inc. Tax Guard monitors federal tax compliance, identifies risks before federal tax liens are filed and resolves federal and state tax liabilities. He can be reached at firstname.lastname@example.org or 303-953-6325.