IRS Using 200 Queries To Pick Exempt Audit Targets

The flurry of post-election news, executive orders, and changing personnel in Washington, D.C., has the potential to make a nonprofit executive’s head spin.

In an effort to remedy any potential confusion, and to provide a glimpse of the lay of the land on Capitol Hill, Ruth Madrigal, partner at Steptoe & Johnson; Alexander Reid, partner at Morgan, Lewis & Bockius, LLP; and Margaret von Lienen, exempt organizations director at the Internal Revenue Service (IRS) presented “Update from the IRS, Treasury & the Hill” during the recent American Institute of Certified Public Accountants (AICPA) Non-For-Profit Conference in National Harbor, Md.

During the session, von Lienen highlighted realignment within the IRS, which took place on May 1 and was caused by a combination of reduced resources and previous duplication of responsibilities between employees covering exempt organizations, government entities, and employee plans.

The IRS conducted 6,440 examinations of exempt organizations in 2016 and had already completed 4,000 this year, according to von Lienen. Improvements have been made to the Form 990 case selection, she said, including the utilization of 200 queries intended to identify organizations at high risk of non-compliance. Every organization, whether they file a Form 990, 990-EZ, or 990-PF, is run through the list of queries, which von Lienen declined to specify in detail. The overall e-filing rates among the forms has grown into the 60 to 70 percent range, she said.

The IRS also began, in 2016, examining 1023-EZ forms to test the process for compliance risk. Of the 1,180 forms sampled, more than 400 had been closed as of May 1, von Lienen said. The vast majority of those closed (86 percent) have been closed with no change or change with advisory. Advisories include issues such as lack of charitable activity, high percentages of unrelated business income, employment tax issues, and inaccurately filed returns.

Changes to 1023-EZ next year include adding two questions that mirror the form’s eligibility check sheet — one about income and another about self-identifying as a house of worship, school, or hospital. A 250-character textbox will also be added to the form to state purposes and activities, similar to electronically filed Form 990s.

From the White House and Treasury side, the overarching theme has been deregulation, according to Madrigal. She reviewed a number of memorandums and executive orders that have come out of the White House since President Donald Trump’s inauguration, including one stating that for every new federal regulation, two must come off the books. Another instructs the IRS and Department of Treasury to hold up on new regulations until presidential appointees are in place.

Madrigal also discussed the CHARITY Act, which has been introduced in the U.S. Senate, as being relevant to the Treasury because the bill picks up on budget proposals of years past. Provisions in the bill include a requirement to file Form 990s electronically, allowing funds from individual retirement accounts (IRAs) to roll over into donor-advised funds, and simplifying the private foundation excise tax to a flat 1 percent.

Finally, where is this broad tax reform many have said is right around the corner? Reid expects headway to be made soon. The trouble has been that there aren’t enough tax loopholes that can be closed to move the needle down from the 39.6 percent current maximum tax rate. Dollars need to flow in from elsewhere to make up for any more substantial cuts and any such decisions must be politically viable.

That’s why, for instance, a consumption tax has become a difficult sell: It breaks President George H.W. Bush’s cardinal rule: “Read my lips: no new taxes.” Reid said that one way of driving revenue, having a consumption tax without having an actual consumption tax, would be to tax corporations selling products from overseas to the U.S. It’s a tax that would ultimately be passed onto consumers in the form of higher costs.