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It is that time of year again – school is out and so are report cards. It is also time for TAS to publish its report card for the IRS. Each year, I submit the National Taxpayer Advocate Annual Report to Congress (ARC) with recommendations for administrative actions the IRS can take to resolve problems encountered by taxpayers. The IRS is statutorily required to respond to our recommendations. TAS’s recommendations, the IRS’s responses, and TAS’s comments on the responses are then incorporated into the Annual Report to Congress Report Card.
Of the 77 administrative recommendations I made in the 2024 ARC, the IRS has agreed to implement 42 (or 55 percent) of the recommendations in full or in part. I appreciate the IRS’s efforts to incorporate TAS’s recommendations on behalf of taxpayers to improve tax administration.
In the coming weeks, I will address the IRS’s responses to recommendations I made regarding specific most serious problems (MSPs) included in my 2024 ARC. This blog highlights the IRS responses to some of my Criminal Voluntary Disclosure Practice (VDP) recommendations.
The IRS’s Criminal VDP offers taxpayers with potential criminal tax exposure a critical opportunity to self-correct their compliance failures. By voluntarily coming forward, these individuals and entities can pay back taxes, penalties, and interest and avoid criminal prosecution. In return, the IRS gains revenue, closes part of the tax gap, and promotes future compliance. When effectively structured and fairly administered, the VDP serves as a powerful compliance tool that benefits both taxpayers and the government. However, starting in 2018 the IRS made significant changes to the VDP that made it more burdensome, reduced its attractiveness, and caused many practitioners to hesitate to recommend it to their clients, thus affecting participation.
My recommendations focus on ways for the IRS to identify and understand specific barriers preventing taxpayers from participating in the VDP and improve the program to reduce burden and increase participation. Taxpayers scored some important wins with the IRS agreeing to adopt four of my recommendations in full or in part. However, the IRS’s responses to some of my recommendations fail to make the grade.
Willfulness checkbox:
One of the most controversial changes the IRS made to the VDP was adding a “willfulness checkbox” on Form 14457, Voluntary Disclosure Practice Preclearance Request and Application. Taxpayers must check this box and affirmatively admit under penalty of perjury that they were willful in their noncompliance actions. The legal implications of making this admission are concerning. By affirming willfulness, taxpayers risk incriminating themselves, especially if the IRS decides to deny them participation in the VDP or later revokes their preliminary acceptance and uses this admission against them.
Because of the potential consequences of this admission and the chilling effect this requirement may have on participation in the VDP, I recommended the IRS eliminate the willfulness checkbox. The IRS agreed and committed to remove the checkbox from the next revision of Form 14457. By deleting the checkbox, the IRS will lessen taxpayers’ and practitioners’ concerns regarding the legal effect of making an explicit admission of willfulness and encourage greater participation in the VDP. This is a big win for taxpayers, and TAS commends the IRS for listening. In light of this agreement, I would recommend the IRS not require any taxpayer to check the box on the current version of the form while it is updating Form 14457. This effort is a start in improving the program.
Program Review and Data Collection:
Practitioners report that the VDP process is overly complex and unfairly risky, deterring taxpayers from coming forward. To make the VDP fairer and more accessible, I recommended the IRS convene a working group to comprehensively review the current VDP, provide recommendations for reforming the program, narrow the definition of illegal source income to encourage greater participation in the VDP, and clarify other terms. I also recommended that the IRS begin collecting robust program data, including the amount collected through the VDP, to measure program effectiveness.
The IRS agreed to my program review recommendations and stated that it is “comprehensively reviewing the VDP with input from stakeholders” and expanding the program to make allowances for illegal income derived from, or related to, the sale of marijuana. This is promising as a comprehensive review of the VDP that includes stakeholder input is key to guaranteeing the program is viable and meets its intended goal of obtaining increased compliance. Additionally, narrowing the illegal income definition should increase eligibility for the VDP and encourage more taxpayers to participate. The IRS also agreed to collect data on tax, interest, and penalties collected through the VDP. The IRS needs this information to evaluate the effectiveness of the VDP and its agreement to collect this data is a positive step to gauge the program’s success.
Penalty Structure:
Under the current VDP, taxpayers must submit to a six-year disclosure period and agree to assessment of the 75 percent civil fraud penalty and willful Foreign Bank and Financial Reports (FBAR) penalty, if applicable, on the highest tax liability period. The IRS’s application of this one-size-fits-all penalty structure inappropriately ignores taxpayers’ individual circumstances. And, for many taxpayers, the penalty may be too severe to make participation in the VDP attractive. I therefore recommended that the IRS review the current penalty structure to determine whether it deters participation and reconsider the 75 percent civil fraud penalty, balancing the goals of bringing noncompliant taxpayers into the program without discouraging compliant taxpayers from staying compliant. However, the IRS refused to implement this common-sense recommendation. I will still continue to advocate for reconsideration of the penalty structure.
Participation in the VDP is low. As of August 31, 2024, the IRS had completed only 161 criminal VDP cases since the beginning of fiscal year 2019 when the 75 percent civil penalty requirement was incorporated.
This fact underscores the reality that the structure and penalty framework of the VDP is not working effectively to encourage participation. As a thorough review of the VDP would necessarily include examination of all significant program terms, it is discouraging that the IRS is unwilling to review the structure and penalty requirements as part of its “comprehensive review.”
To complete the VDP, taxpayers must agree to the assessment of tax, penalties, and interest determined by the IRS regardless of whether they agree with the results of the examination. There is no avenue to dispute the IRS’s determination. Taxpayers must also either pay all tax, penalties, and interest in full at the close of the examination or secure a full-pay installment agreement. If they cannot pay, they are removed from the VDP. Thus, it is the IRS’s way or the highway and not good for future compliance.
To improve accessibility and ensure fairness, I recommended the IRS extend appeal rights to VDP participants who disagree with positions taken by the IRS examiner and allow taxpayers who establish they cannot pay in full to enter into alternative payment arrangements. The IRS refused to implement either recommendation, maintaining that since the VDP is voluntary taxpayers are required to accept its terms, including assessment and full payment of the tax, penalties, and interest the IRS determines are due. However, this policy ignores the facts that taxpayers still retain the right to pay no more than the correct amount of tax and IRS revenue agents are not always right. Currently, the taxpayer’s options are accepting an incorrect legal position or withdrawing from the program – a Hobson’s choice. Allowing taxpayers to go to the Independent Office of Appeals would be a start to protecting taxpayer rights within the VDP. Further, allowing flexible payment options would enable taxpayers who want to come forward and resolve their noncompliance but are unable to pay in full to participate in the program and enhance overall tax compliance. Therefore, I am not giving up on these recommendations. I will continue to advocate for the IRS to reconsider the full-pay requirement and to allow appeal rights to participants thereby eliminating the Hobson’s choice.
I applaud the IRS for agreeing to my recommendations to eliminate the willfulness checkbox and collect data regarding amounts collected through the VDP. These signal good news for taxpayers and the program. However, while the IRS’s willingness to review the VDP is promising, its refusal to consider certain key components of the program, including penalty structure, opportunity for appeal, and payment flexibility, in its review raises concerns as to how “comprehensive” the review will be. If properly structured and executed, the VDP can potentially attract a significant number of noncompliant taxpayers and be an effective mechanism to bring them into the system. I encourage the IRS to look at all aspects of the VDP so that it can craft a fairer and more effective program and bring those taxpayers into compliance.
The views expressed in this blog are solely those of the National Taxpayer Advocate. The National Taxpayer Advocate presents an independent taxpayer perspective that does not necessarily reflect the position of the IRS, the Treasury Department, or the Office of Management and Budget.