Does the IRS Owe You Money?

Uncle Sam may be looking for you because the IRS owes you money. A total of 99,123 refund checks amounting to $153.3 million have not been sent to its owners due to mailing address errors. This comes up to $1,547 per person.

Most of the people whom the IRS cannot track are those who did not opt for direct deposit and those who did not file their returns electronically. Direct deposit into a bank account means the IRS can refund you without sending you a check via the mail. According to IRS statistics, more than 78.4 million taxpayers chose to get their refund by direct deposit last year.

On the other hand, electronic filing significantly reduces human errors and gets your refund money back much faster. Last year, almost 80% of taxpayers filed their returns electronically. The original target was to achieve 80% electronic filing by 2007, according to the Government Accountability Office (GAO).

E-filing is a result of the Government Performance and Results Act (GPRA) Modernization Act of 2010 that stipulates that the IRS must consult with Congress and the Office of Management and Budget to set performance goals at least every 2 years. Congress closely monitored IRS performance on meeting established e-filing goals, held 22 hearings related to e-filing since 1998 when the Internal Revenue Service Restructuring Reform Act was passed and requested annual GAO reports on filing season performance, including e-file.

However, not 100% of the taxpaying public uses direct deposits or e-filing. This has led to the almost 100,000 undeliverable checks in IRS possession. So you should visit the IRS website at www.irs.gov and click on the “Undelivered Refunds” section or call (800) 829-1954 if you think you are due a refund and have not received your check yet. You can also click on the “Where’s my refund” tool and you can view your refund status. You might even be able to see “instructions on how to resolve delivery problems”.

But you need to watch out for scam artists posing as IRS agents. They usually contact you via phony emails that pretend to be from the IRS.

According to the IRS, “The public should be aware that the IRS does not contact taxpayers by email to alert them of pending refunds and does not ask for personal or financial information through email”. These emails are often nothing more than “phishing scams,” and you should simply ignore them. Under no circumstances should you divulge your personal information, reply, open any attachments or click on any links in the emails to avoid viruses or Trojan horses that can infect their computers.

Then you should report the matter to the IRS at phishing@irs.gov.

IRS Commissioner Doug Shulman proposed that Forms 1099, W-2 and other documents be collected ahead of the full filing of income tax returns by taxpayers. This will give the IRS time to reject returns that didn’t match records before processing, reducing burdens on the agency and on filers.

The computer operations in the IRS have improved enough to allow the agency to make fundamental changes in how taxes are filed. This will enable the IRS to process all returns on a 24 hour cycle instead of a weekly cycle as presently done thus making the processing real time.

At present, the IRS processes tax returns on the ‘after-the-fact’ basis. This means the agency evaluates a tax return and supporting documents after the return has been filed. In such situations, if the IRS questions a return, the taxpayer must go through past records of up to two years after the activity occurred that is subject to possible taxation.

But if taxpayers could check information in returns against data reported to the IRS by employers and other income sources at the time of reporting such data, then a lot of problems can be prevented.

These days, everyone is used to making quick electronic transactions with banks and other financial institutions. Thus, the IRS is striving to provide the same speed of service. “I think the American people have a different kind of expectation,” said Commissioner Shulman.

In addition, real time reporting will be needed in the face of budget cuts to the IRS made by Congress, forcing it to offers buyouts to 5,400 of its estimated 95,000 workers. Shulman said about 1,000 employees have accepted the buyout. The government is expecting as many as 4,000 job cuts in the IRS next year including some that would reduce tax enforcement and collections.

The changes being made to the tax reporting system will have a significant effect on other associated parties such as tax preparation software makers like Intuit Inc. of Mountain View, California and tax preparation companies including H&R Block Inc. based in Kansas City, Missouri and Jackson Hewitt Tax Service Inc. of Parsippany, New Jersey.

Commenting on a real time tax system, Kathy Pickering, executive director of H&R Block’s Tax Institute said such a move would entail “a significant investment in infrastructure and the ripple effect of implementing it would be far-reaching.”

Pickering spoke on a panel of tax preparer groups that included the American Institute of Certified Public Accountants, National Association of Enrolled Agents and the National Association of Tax Preparers of Appleton, Wisconsin. Other panels represented regulators such as the Government Accountability Office and consumer advocates.

The real time reporting system is expected to benefit both the IRS and taxpayers in the long run. The IRS would benefit by gaining billions of dollars in net revenue and cost savings resulting from upfront quality checks on tax returns. On the other hand, taxpayers would save millions of dollars in penalties and interest and have millions of fewer contacts with the IRS under a real time system.

The IRS will be employing a new system designed to ensure greater tax compliance. SAS, a business analytics software and services company, has won a $6.25 million contract to support IRS’ new electronic Return Review Program system. With this system the IRS intends to make significant inroads in reducing the tax gap of approximately $345 billion each year. The tax gap is the difference between the amount of taxes that should be collected and the amount of taxes actually paid on time each year.

Under the contract, the IRS is able to tap into various SAS technologies including the SAS Fraud Framework for Government, SAS Social Network Analysis and SAS' data integration, data mining and business intelligence technologies. Using these technologies, the IRS would be able to improve detection of fraud and discover non-compliance at the point of initial tax submission. This would in turn reduce the issuance of possible fraudulent refunds.

The SAS In-Database functionality, SAS Scoring Accelerator for Greenplum and SAS Grid Manager will give the IRS the capability to manage and analyze massive amounts of data.

The sophisticated SAS software will rate each tax submission using a multi-pronged approach of business rules, anomaly detection, predictive modeling and social network analysis. Anomaly detection is used to discover fraud. Predictive modeling uses historical data information to identify suspicious behaviors similar to known fraud patterns. Social network analysis uncovers hidden relationships or links that suggest collusion and organized fraud rings.

In addition, the SAS Text Miner goes through unstructured data, such as call center data, to detect any suspicious activity. Alerts and results are reported through a customizable dashboard and SAS' case management capabilities help investigators prioritize and assign cases. With the software, the IRS can set up business rules that detect possible fraud and immediately alert investigators or auditors to suspect returns.

In fact, the IRS is not the only government agency using SAS technology. 15 other federal agencies and 80 national governments use SAS software to manage performance, perform budgeting, arrange logistics, firm up cyber defense, detect fraud and improper payments and even assess threats.

SAS originally stood for Statistical Analysis System and was founded in 1976 at North Carolina State University to analyze agricultural research. But today, SAS technology is used to tackle fraud, waste and improper payments in many areas of government – from detecting collusive patterns in entitlement programs such as Medicare and Medicaid to purchase-card fraud, bid-rigging and terrorist financing.

Here are the tips we have covered so far in how to reduce your taxes next year:
1. Pay no more than you should
2. Max out your 401s
3. Sell your loss making shares
4. Write off the biggest tax breaks
5. Make charitable donations
6. Make significant charitable donations
7. Make energy-efficient home improvements
8. Avoid buying mutual funds before the ex-dividend date

9. Give to your loved ones

You can give up to $13,000 to any one of your loved ones this year and not have to pay any gift tax. You can also transfer up to $5 million in your lifetime to any next-of-kin without having to pay estate tax. But the $5 million lifetime exclusion from tax expires at the end of next year, unless Congress decides otherwise.

Maybe $5 million is out of your league, but the $13,000 gift is probably not. Suppose you want to give your son a gift for his 21st birthday. Mom and Dad could buy him a car with $26,000 ($13,000 from each) and it would be free from tax. The only thing you will have to do is file gift tax Form 709 to make a record of your joint gift, even though no gift tax is due. The only hitch is that the $13,000 per person cannot be carried over to the following year. If you do not use this tax break this year, it disappears but you do get another $13,000 next year.

10. Use up your flex plan funds

Use up your 2011 flexible spending account to avoid the "use it or lose it" rule. You just have to remember that using your flex spending account funds for certain over-the-counter drugs like ibuprofen or aspirin without a prescription from a doctor is not allowed (the exception is for insulin). But other health-related expenses that do not require a prescription such as for bandages, contact lens solutions or crutches are not subject to this rule. IRS Publication 502 shows you what items are allowed by law. The same rules on eligible purchases apply to health savings accounts.

Most employers set the deadline as March 15, 2011 to use up your 2010 funds but some employers have postponed the deadline to December 31. So ask your employer about your plan’s deadline.

At this point, there is no limit to the flex amount but next year will be the last year before Congress imposes a ceiling of $2,500 that goes into effect 2013. Therefore, at present many employers set the limit above $2,500. So think about signing on for a larger-than-usual spending amount for 2012 with the plan of accelerating some medical expenses, such as eye laser surgery or tooth veneers.

Before continuing from where I left off, let me recap what I shared in my previous article. To reduce your tax liability next year, you should:

1. Pay no more than you should
2. Max out your 401s
3. Sell off loss making shares

Here are a few more things you can do:

4. Write off the biggest tax breaks

In most cases, you can choose between writing off your state income tax or sales tax by itemizing your deductions. Choose the deductions that would likely give you the biggest tax break (which in most cases would be your income tax). If you live in a state with no income tax, or if you bought a large asset like a car or a boat, then you should write off your sales tax. Unless Congress acts this year or next, the ability to write off sales taxes will be gone after 2011.

5. Make charitable donations

You can claim tax deductions by making charitable donations if you itemize them. If you make donations in kind, you need to value them first. The charity you donate your items to will list the value of your items in Form 1098-C which you have to attach to your tax return.

If you make cash donations, keep your check buds or credit card statements as proof. If you contribute $250 or more, you'll also need an acknowledgment from the charity.

6. Make significant charitable donations

If you are in a position to donate large amounts to charity, consider donating your profitable stocks and mutual funds that you have owned for more than a year. The amount deductible from your taxes is the fair market value of your shares at the time of donation, not at the time of purchase. This means you do not have to pay taxes on the capital appreciation of the shares.

7. Make energy-efficient home improvements

You can claim deductions to your taxes if you make energy efficient improvements to your principal home. The amount you can claim is 10% of the cost of new windows, doors, skylights, insulation, and heating and air conditioning systems, up to a maximum $500 credit. The amount claimable for new windows is limited to $200.

If you install alternative energy equipment such as geothermal pumps, solar energy panels and wind turbines, you can claim even more. The amount claimable is 30% of costs including installation without limit. This tax credit is valid until 2016.

8. Avoid buying mutual funds before the ex-dividend date

Mutual funds declare dividends to their investors on a certain day known as the ex-dividend date. If you intend to buy into mutual funds before the ex-dividend date just to earn the dividends, bear in mind that such dividends are taxable income. Furthermore, the value of the shares in the fund falls by the exact amount of dividends declared, meaning the fund is refunding you part of the purchase price you paid.

But the IRS is not concerned with the value of the fund. The agency sees your dividend as taxable income regardless of whether the value of your shares in the fund falls or not. So it would be wiser to buy mutual funds after and not before the ex-dividend date. Check up the mutual fund’s website to find out the ex-dividend date.

I’ll be sharing more tips on how to reduce next year’s taxes in part 3 of this article.