Fernway DiarySM

Nov 10, 2022

The recently passed Inflation Reduction Act included, among its many provisions, significant new funding for the Internal Revenue Service (IRS). The legislation allocated nearly $80 billion in appropriations to the IRS over the next 10 years, to be put toward areas such as taxpayer services and enforcement which were specified in the bill. To put this amount in perspective, consider that the agency had expenditures of $13.7 billion in its 2021 fiscal year, including supplemental funding to handle COVID-19–related expenses. While this funding increase is expected to raise additional revenue by reducing the tax gap—the difference between taxes that are legally owed and those that are collected—there is concern that additional compliance costs could be imposed upon taxpayers as a result of heightened enforcement.

Funding Breakdown

The Inflation Reduction Act directs new allocations to the IRS as follows:

• Enforcement: $45,637,400,000
• Operations support: $25,326,400,000
• Business systems modernization: $4,750,700,000
• Taxpayer services: $3,181,500,000
• Treasury Inspector General for Tax Administration: $403,000,000
• Tax Court: $153,000,000
• Treasury Office of Tax Policy: $104,533,803
• Treasury departmental offices for oversight and implementation support to help the IRS implement the Inflation Reduction Act: $50,000,000
• Task force to design free, direct e-file system: $15,000,000

While the largest line item increase is for enforcement, representing a 69{d61ad4666dda706b731686a225909392f074403d16c1288901cab8f2cf34ab1f} increase over previous 10-year projections, a Congressional Research Service report notes that the largest funding increase percentage-wise goes to business systems modernization, which is boosted 153{d61ad4666dda706b731686a225909392f074403d16c1288901cab8f2cf34ab1f} by the act’s passage.

The act stipulates that modernization funding is to be spent on projects such as the “development of callback technology and other technology to provide a more personalized customer service but not including the operation and maintenance of legacy systems.” In addition, operations support funding in the Inflation Reduction Act can also be used for “information technology development, enhancement, operations, maintenance, and security.” Given that the IRS’s legacy technological systems have become increasingly inadequate and expensive to maintain, it is hoped this investment in modernization will alleviate current deficiencies and improve service to taxpayers.

While the IRS has until 2031 to use most of its new funding, the task force on setting up a new, IRS-run free, direct-file return system must be established within 9 months.

Enforcement

Enforcement funding in the Inflation Reduction Act is intended “to determine and collect owed taxes, to provide legal and litigation support, to conduct criminal investigations (including investigative technology), to provide digital asset monitoring and compliance activities, to enforce criminal statutes related to violations of internal revenue laws and other financial crimes, [and] to purchase and hire passenger motor vehicles.” While it is difficult to calculate the exact effect of increased enforcement on tax revenue, the Congressional Budget Office (CBO) projects that the Inflation Reduction Act will raise $203 billion in gross revenue and $123 billion in net revenue.

Under current IRS funding levels, the CBO estimates each additional dollar of enforcement yields between $5 and $9 in additional revenue. However, as the Tax Foundation notes, in practice many factors are likely to influence the effect of increased IRS enforcement. Higher audit rates should reduce instances of tax underpayment going undetected and may produce a deterrent effect that could reduce present or future tax nonpayment. On the other hand, increased enforcement could subject taxpayers who are already paying their full liability to unnecessary audits, increasing their compliance costs and producing no additional tax revenue. Investments in better information systems and business technology have the potential to improve audit targeting, allowing the IRS to better identify inaccurate tax returns, but it remains to be seen if that will be the case.

Tax Compliance

Professional tax assistance can be invaluable for businesses seeking to reduce the likelihood of being subjected to an IRS audit. Fernway Solutions provides a full range of tax planning and compliance services, including support and guidance through the audit process.

For more information, please contact your US tax advisory team at youradvisor@fernwaysolutions.com or visit us at www.fernwaysolutions.com.

Disclaimer:

The above content is intended to support the marketing of professional services and should not be construed as written tax advice directed at the particular facts and circumstances of any person. If you are interested in the topics presented herein, we encourage you to contact us or an independent tax professional to discuss their potential application to your particular tax situation. To the extent this content may be considered to contain written tax advice, any written advice contained in, forwarded with or attached to this content is not intended to be used, and cannot be used, by any person for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code. Changes in tax laws or other factors could affect, on a prospective or retroactive basis, the information contained herein; Fernway Solutions assumes no obligation to inform the reader of any such changes.