Taxed to the Max

By Larry Barrett Print this article Print

The IRS wants 80% of all returns filed electronically by 2007. But—surprise—its systems aren't ready.

In 1998, Congress gave the Internal Revenue Service 10 years to overhaul its information systems and reduce the $4.2 billion the government spends each year processing income tax returns.

The IRS is aiming to get 80% of federal tax returns filed electronically by 2007 to comply with the IRS Restructuring and Reform Act. Not only does e-filing offer the promise of savings for the IRS, it stands to reduce errors in the processing of tax returns. Americans have been able to submit their tax returns electronically since 1986, but only 35.6% of the 131.7 million returns were processed that way in 2002.

It's another story for business.

Of 1.2 million Form 1120s—U.S. corporation income tax returns—filed in 2001, none were filed electronically. The IRS plans to offer that feature in the 2004, but cannot do so now because IRS information systems are not set up to accept tax return forms used by large companies.

The IRS has been able to accept Form 1065 returns used by partnerships. But of 2.1 million Form 1065s filed in 2001, only 1% were submitted electronically. The goal is to get 12% by 2004. (The IRS can accept other business records electronically such as employment taxes, estates and trusts.)

To reach its targets, IRS officials and tax preparation professionals say the IRS must overcome significant technical shortcomings-such as its current inability to receive Word, Excel and Adobe PDF attachments accompanying electronic returns-if this goal is ever to be realized.

Other stumbling blocks persist. Some taxpayers and tax preparers distrust e-filing, fearful it will increase the chance of an audit. (The IRS disputes that notion.) While the lure of getting a refund two to three weeks faster than those filing a paper return is an incentive for some, it's not the case for those who owe the government money on April 15.

For its part, the IRS is working to replace the antiquated proprietary software used to receive e-filings. That's so it can handle an estimated 105 million electronic returns in 2007 from both individuals and businesses, says Terry Lutes, director of the IRS Electronic Tax Administration.

The new system, he says, will use eXtensible Markup Language (XML), enabling taxpayers to file attachments and other documentation. The IRS concluded that XML would be the ideal programming language for the system because of its ability to exchange data between different software systems while also separating the data from the presentation of the data. In a best-case scenario, Lutes concedes this system won't be in place until sometime in 2004.

"Getting to that goal is going to be tough," says Thala Rolnick, a member of the Electronic Tax Administration Advisory Committee, an organization of tax professionals who provide Congress with an annual report that tracks the IRS' progress on e-filing systems and services. "The IRS has not wanted to say they won't make it, but it's not looking good."

Why the push for e-filing? The IRS says processing a paper income tax return costs about $2.40 in direct labor compared with $1.40 for an electronic return. All of those gains are realized on the front end where the data is manually entered into IRS computers.

But it's difficult to determine exactly how much the IRS saves from an increase in e-filings. A February 2001 study by the General Accounting Office (GAO) found that between 1997 and 2000, actual IRS expenditures for processing both paper and electronic returns actually climbed from $795 million in 1997 to $924 million in 2000, even though the percentage of e-filings went from 15.8% to 27.6% in this same period. The GAO says savings from e-filing were offset by an increase in tax returns filed both by paper and electronically.

In pointing to places where the IRS stands to trim costs, Lutes highlights a plan to shutter a processing center in Brookhaven, N.Y., by this time next year, saving more than $50 million. For now, that's the only tangible gain the IRS has seen from the proliferation of e-filing, but Lutes says other sites may be closed in the future.

What can corporate technology project managers learn from the IRS? Waiting 16 years to update systems leaves an organization unable to handle the most basic functions such as accepting attached documents. Establishing an ambitious business goal without the technology in place only results in frustration.

This article was originally published on 2003-04-09
Senior Writer
Larry, of San Carlos, Calif., was a senior writer and editor at CNet, writing analysis, breaking news and opinion stories. He was technology reporter at the San Jose Business Journal from 1996-1997. He graduated with a B.A. from San Jose State University where he was also executive editor of the daily student newspaper.
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