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Internal Revenue Service

INTERNAL REVENUE SERVICE

The Internal Revenue Service (IRS) is the federal agency responsible for administering and enforcing all internal revenue laws in the United States, except those relating to alcohol, tobacco, firearms, and explosives, which are the responsibility of the alcohol, tobacco,firearms, and explosives bureau's Tax and Trade division.

The IRS is the largest agency in the treasury department. By the mid-1990s it had approximately 110,000 employees, 650 office locations in the United States, and 12 offices abroad. The agency processes approximately 205 million tax returns and collects more than $1.2 trillion each year.

The U.S. tax system, which the IRS oversees and administers, is based on the principle of voluntary compliance. According to the IRS, this means "that taxpayers are expected to comply with the law without being compelled to do so by action of a federal agent; it does not mean that the taxpayer is free to decide whether or not to comply with the law."

Duties and Powers

The IRS is responsible for enforcing the internal revenue code (U.S.C.A. tit. 26), which codifies all U.S. tax laws. Basic IRS activities include serving and educating taxpayers; determining, assessing, and collecting taxes; investigating individuals and organizations that violate tax laws; determining pension plan qualifications and exempt organization status; and issuing rulings and regulations to supplement the Internal Revenue Code.

Historically, Congress has given the IRS unique and wide-ranging powers for administering the U.S. tax system and enforcing its laws. For example, while in a criminal proceeding the government has the burden to prove that the defendant is guilty beyond a reasonable doubt, in a tax proceeding the burden is on the taxpayer to prove that he or she does not owe the amount claimed by the IRS. The IRS also has the power to impose civil penalties for any of a number of violations of tax law. These penalties are seldom employed, however, and with respect to penalties, the IRS bears the burden of proving that the penalty is justified.

The IRS has the power to collect large amounts of information on U.S. citizens, companies, and other institutions. The most obvious example of this power is that each year all taxpayers must file tax returns containing detailed financial and personal information. Many organizations are also required to notify the IRS of any payments they make to individuals; the IRS receives approximately one billion of these third-party reports annually. The IRS also has the legal authority to order banks, employers, and other institutions to provide information about a taxpayer without having to obtain a warrant from a judge; other law enforcement agencies, such as the federal bureau of investigation and local police forces, must obtain a warrant in such situations.

Another crucial power of the IRS is the ability to withhold taxes automatically from employee paychecks. The IRS was given this authority in 1943, when Congress passed legislation requiring employers to withhold from employees' paychecks the income taxes owed to the government. This withholding requirement was one of several actions taken by the government to increase revenue so that it could meet the huge financial requirements for fighting world war ii. Today, automatic withholding accounts for the majority of tax dollars paid to the government, with only a small portion sent in with tax returns by April 15, the IRS annual tax deadline. Automatic withholding is important to the government because it enables it to receive a steady stream of tax revenue. It is also useful for enforcing voluntary compliance from taxpayers because the individual's tax burden seems less onerous when taxes owed are subtracted from a paycheck before the check is received.

Organization

The IRS is led by a commissioner, who works in the IRS National Office located in Washington, D.C. The commissioner and his or her chief counsel are appointed by the president and must be approved by the Senate. The chief counsel serves as the chief legal adviser to the IRS. At the next level are regional commissioners, who oversee IRS operations in the four regions into which the country is divided: the Northeast, Southeast, Midstates, and Western Regions. Within the four regions are 33 district offices, which are responsible for collecting revenue, examining returns, and pursuing criminal investigations within their geographic area. Also located across the country are ten service centers, five submission processing centers, two computing centers, and 23 customer service centers.

In addition to its geographic divisions, the IRS is organized into programs focusing on specific administrative tasks. Several of these, including the Taxpayer Services and Problem Resolution programs, focus on taxpayer assistance and education. Others, including the Examination, Collection, and Criminal Investigation divisions, focus on ensuring taxpayer compliance. Additional IRS programs include Appeals, which attempts to resolve tax controversies without litigation; Statistics of Income, which compiles and publishes data relating to the operation of the Internal Revenue Code; and Tax Practitioner Conduct, which enforces tax laws applying to attorneys, accountants, and taxpayer agents.

History

The IRS was created in 1952, though it was preceded by various other U.S. tax-collecting offices. The earliest incarnation of the IRS was the Office of the Commissioner of Revenue, which was established by Congress in 1792 in response to the request by Secretary of the Treasury alexander hamilton that various tariffs and taxes be created to raise money to pay off the U.S. Revolutionary War debt. Trench Coxe of Pennsylvania was the first person to hold the office. By creating the Office of the Commissioner of Revenue, Congress delegated its constitutional power to "lay and collect taxes, duties, imposts, and excises" to the Treasury Department, which has retained the power ever since (art. 1, § 8, U.S. Constitution).

By the time thomas jefferson became president in 1801, the internal revenue program had grown to employ 400 revenue officials, who enforced a wide variety of tax regulations, including taxes on distilled spirits, land, houses, and slaves. Jefferson, a Democrat who fiercely opposed Hamilton and his federalist party programs, abolished the entire system and relied instead on taxes assessed on imported items for government revenue. When the war of 1812 increased the government's needs for funds, taxes were reimposed on items such as sugar, carriages, liquor, furniture, and other luxury items. At the war's end, all internal taxes and collection offices were abolished, and customs duties again became the primary source for government revenue.

When the Civil War broke out in 1861, President abraham lincoln faced a financial crisis because the government needed much more money to finance the war effort than could be raised through customs duties. To address this problem, Congress passed sweeping new tax measures, including the Civil War Revenue Act of August 5, 1861, which authorized the country's first income tax and imposed a direct tax of $20 million apportioned among the states. The Revenue Act of July 1, 1862, created a wide variety of new taxes. To oversee their collection, Congress created the Bureau of Internal Revenue under the secretary of the treasury. This office, which represents the first form of the modern internal revenue collection system, administered the tax system by dividing the country into 185 collection districts. The commissioner was given the power to enforce tax laws through both seizure and prosecution. George S. Boutwell of Massachusetts was the first commissioner of internal revenue. Boutwell was initially assisted by three clerks. By January 1863 the office had grown to employ nearly 4,000 people, most of whom worked in the field as revenue collectors or property assessors.

When the Civil War ended in 1865, the government's need for revenue was greatly reduced. Taxes were scaled back, the income tax was eliminated, and customs duties again became a sufficient source for federal funds. With the subsequent rise of industrialism and growth of populist political ideas, however, many citizens wanted the government to take a more active role and therefore lobbied for a reestablishment of the income tax to provide greater revenue. Most of the support for an income tax came from southern and western states. Most of the opposition came from the wealthier states whose citizens would be most affected by an income tax—Massachusetts, New Jersey, New York, and Pennsylvania.

After many attempts Congress finally passed a modest income tax in 1894. The Supreme Court quickly ruled it unconstitutional on the ground that it violated the constitutional provision requiring that federal taxes be apportioned equally among the various states. Supporters of the income tax overcame this hurdle in 1913, when Wyoming became the thirty-sixth state to ratify the sixteenth amendment to the Constitution, giving Congress the power to collect taxes without regard to state apportionment. That same year Congress enacted the first income tax act under the amendment, and the income tax became a permanent feature of the U.S. tax system.

The passage of the Sixteenth Amendment marked the beginning of an era of significant expansion for the Bureau of Internal Revenue. The establishment of the Personal Income Tax Division greatly increased bureau staff, and many new taxes were imposed to finance world war i, thus requiring new bureau divisions and programs. As the bureau's responsibilities continued to multiply, operations became more inefficient and disorganized. In the 1920s, for example, the national office of the bureau was housed in a dozen different buildings located all around the metropolitan Washington, D.C., area. Tax returns became backlogged, tax fraud and evasion were rampant, and an extensive patronage system enabled politically appointed collectors to operate unchecked, outraging their civil service staffs. Beginning in 1945 Congress and the Treasury Department began efforts to overhaul the whole tax collection system. In 1952 the Bureau of Internal Revenue was reorganized and given a new name: the Internal Revenue Service. This new moniker was intended to emphasize the agency's focus on providing service to taxpayers. Patronage was eliminated, and power was decentralized, with the states being divided into seven regional districts through which all return processing, auditing, billing, and refunding would be administered.

Since 1952 the IRS has continued to undergo major changes and reorganizations. Advancements in technology have had a tremendous effect on IRS operations, beginning with the opening of the automatic data processing system

in Martinsburg, West Virginia, in 1962. This system revolutionized the collection and audit process by enabling the IRS to maintain a master file of every taxpayer's account. More recent technological applications have changed the way taxpayers interact with the IRS. In 1995, for example, more than 14 million individuals and businesses used the IRS electronic filing program to submit their tax returns. Another approximately 685,000 taxpayers in ten states filed their tax return using their touch-tone telephone. Taxes were also paid electronically, with more than 41,000 businesses making more than $232 billion in federal tax deposits by electronic funds transfer.

Over the years the IRS has faced continuing pressure from Congress and the public to adopt more reasonable enforcement policies, to provide better service to taxpayers, and to protect private information more carefully. In an attempt to protect taxpayers' rights, Congress in 1988 passed the taxpayer bill of rights (Pub. L. No. 100-647, tit. VI, §§ 6226–6247, 102 Stat. 3730–3752 [Nov. 10, 1988]), which outlines the rights and protections a taxpayer has when dealing with the IRS. Included are the right to have penalties waived if the taxpayer follows incorrect advice given by the IRS, the right to request relief when tax laws result in significant hardship, and the right to attorneys' fees in cases where IRS employees violate the Internal Revenue Code to the detriment of the taxpayer.

In 1995 the IRS administrative structure underwent a major reorganization. The seven regions that had been established in 1952 were reduced to four, and management was consolidated, decreasing the number of districts within those regions from 63 to 33.

The IRS came under close examination from Congress in the late 1990s following a series of allegations from taxpayers of improper behavior by IRS agents. In September 1997, over three days of televised hearings, the U.S. Senate Finance Committee heard a litany of horror stories: taxpayers gave accounts of ruined lives, and IRS agents described a culture of lawlessness that included forgeries, spying, shakedowns, and cover-ups. The dramatic testimony capped a six-month committee probe into IRS misconduct.

The first to testify in the open hearings were taxpayers, from business owners to an elderly priest, who told the panel how unfair IRS audits had led to divorce, bankruptcy, and, in some cases, years of fighting inflexible rules to correct the agency's mistakes. Others said they paid the IRS large sums rather than fight and risk jeopardizing their businesses. Tom Savage, a 69-year-old Delaware construction company owner, told lawmakers that he paid $50,000 in fines despite the fact that the justice department told the IRS that levying him was wrong. Another taxpayer, Nancy Jacobs of California, said that the IRS mistakenly assigned her husband a taxpayer identification number belonging to someone else but that she and her husband paid the agency $11,000 to stop enforcement actions in order to save her husband's optometrist practice.

IRS whistle-blowers also testified. Sitting behind screens with their voices garbled electronically to conceal their identities, they accused IRS management of several questionable practices: illegally snooping on private tax data, preying on vulnerable taxpayers, and unduly focusing collection efforts on lower- and middle-class taxpayers. Their chief allegation was that management evaluated employees based on their collection performance. Agents were pressured, they said, to seize as much taxpayer property and assets as possible, in violation of IRS policy and federal law. Jennifer Long, the only agent not to testify behind a curtain with a voice distortion mask, said that agents ignored cheating by friends and by those with resources to fight an audit. Statistics showed that the audit rate for people with annual incomes of more than $100,000 declined from 11.41 percent to 2.79 percent between 1988 and 1995. During that same period, the audit rate for people with annual incomes of less than $25,000 nearly doubled, from 1.03 percent to 1.96 percent.

In 1998, Congress passed the Internal Revenue Service Restructuring and Reform Act of 1998 (IRSRRA), Pub. L. No. 105-206, 112 Stat. 685 (codified in scattered sections of 26 U.S.C.A.), to overhaul operations within the IRS. Title I reorganized the structure and management of the IRS with three sections designed to improve taxpayer treatment. The act directed the commissioner to discard the IRS organizational structure, which had previously run operations through local, regional, and national offices. In its place the commissioner was required to substitute organizational units serving taxpayers with similar tax obligations, such as individuals, small businesses, large businesses, and nonprofit organizations.

The IRSRRA created the Internal Revenue Service Oversight Board, which operates within the Department of the Treasury. The Oversight Board contains nine members, including the secretary of the treasury, the commissioners of the IRS, six civilians, and one federal government employee appointed by the president with the advice and consent of the Senate. The board's general responsibility is to oversee the IRS "in its administration, management, conduct, direction, and supervision of the execution and application of the internal revenue laws." Although the board may not view the tax returns of individual taxpayers and, therefore, cannot rectify individual taxpayer abuse, IRSRRA commands the board to ensure that the IRS treats taxpayers properly.

Under the IRSRRA, the commissioner of the IRS must terminate agency employees who engage in a list of forbidden conduct that includes the following: failing to obtain required signatures before seizing homes, personal belongings, and business assets to satisfy tax deficiencies; making a false statement under oath concerning a taxpayer's case; violating a taxpayer's constitutional or civil rights; falsifying or destroying documents to conceal IRS mistakes; committing assault or battery on a taxpayer; violating the tax laws or regulations for the purpose of retaliating against or harassing a taxpayer; and threatening to audit a taxpayer to extract a personal benefit. Although a loophole allows the commissioner to take personnel action other than termination at his sole discretion, he may not delegate that authority to any other officer.

Title III of IRSRRA contains a Taxpayer Bill of Rights, also designed to reduce taxpayer abuse. Most notably, it shifts the burden of proof in most tax cases to the IRS. Previously, taxpayers sued by the IRS had the burden of proving that their tax calculation was correct. Under IRSRRA, if a taxpayer keeps the appropriate records, cooperates during IRS investigations, and presents "credible evidence" to support his or her tax calculation, the IRS has the burden of proving the calculation is wrong. The requirement that the taxpayer show credible evidence has proven difficult in some cases. For example, in Higbee v. Commissioner, 116 T.C. No. 28 (2001), the u.s. tax court held that the testimony of the taxpayer and a document from a small-claims courts showing damages to a piece of property, which he alleged entitled him to a deduction, did not constitute credible evidence to shift the burden of proof to the IRS.

The Taxpayer Bill of Rights also regulates IRS collection efforts and helps specific groups of taxpayers who might lack power to protect themselves. Some evidence suggests that IRSRRA reduced taxpayer abuse shortly after its enactment. By March 1999, property seizures were down 98 percent from levels two years prior; garnishment of paychecks and bank accounts were down 75 percent; and liens, which ensure that a tax is paid when property is sold, were down 66 percent. Critics, however, contend that these figures reflect reduced, not better, enforcement efforts caused by IRS employees' fear of losing their jobs for violating the IRSRRA. Moreover, other evidence, addressed in a 2002 article in the New York Times, suggests that IRS agents are more likely to subject wage earners to heavy scrutiny over tax returns than they are businesses, trusts, and partnerships.

further readings

Burnham, David. 1989. A Law unto Itself: Power, Politics, and the IRS. New York: Random House.

Chommie, John C. 1970. The Internal Revenue Service. New York: Praeger.

Ely, Mark H. 2003. "The 'New' IRS Audits." The Tax Adviser 34 (Ocober).

Internal Revenue Service. Available online at <www.irs.org> (accessed July 28, 2003).

Richardson, Margaret Milner. 1994. "Reinventing the Internal Revenue Service." Federal Bar Association Section of Taxation Report 1 (winter).

Treasury Department. Internal Revenue Service. 1996. Guide to the Internal Revenue Service. Washington, D.C.: U.S. Government Printing Office.

Whitman, Donald R., ed. 1983. Government Agencies. Westport, Conn.: Greenwood Press.

cross-references

Civil Service; Customs Duties; Estate and Gift Taxes; Internal Revenue Code; Pollock v. Farmers' Loan & Trust Co.; Taxation; Tax Court; Tax Evasion; Sixteenth Amendment.

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Internal Revenue Service (IRS)

Internal Revenue Service (IRS)

The Internal Revenue Service (IRS) is the agency of the U.S. Department of the Treasury responsible for collecting federal taxes of all kinds. In addition to income taxes from individuals, companies and organizations, the IRS collects several other kinds of taxes, including Social Security, estate, excise, and gift taxes (they are not responsible for collecting taxes based on the revenue derived from the sale of alcohol, tobacco, or firearms). For the tax year 2005 the IRS reported processing 227 million tax returns in it's publication 2005 Data Book. The net tax collected on these 2005 returns totaled $1.999 billion; 44 percent was from individual income taxes; 38.3 percent from employment taxes; 13.7 from corporate income taxes; and 4 percent from estate, gift, and excise taxes.

In addition to processing hundreds of thousands of tax returns each year the Internal Revenue Service's responsibilities include enforcement of U.S. tax laws, distribution of forms and instructions necessary for the filing of tax returns, and provision of counseling for businesses and individuals subject to its regulations.

HISTORY OF THE IRS

The IRS, which is a part of the U.S. Department of the Treasury, was first created by Congress in 1862. In the first years of the IRS, its money-gathering activities were very modest. Until the Civil War, the United States gathered approximately as much money from customs duties as it did from taxation, and the federal government's financial needs were slight because it offered few programs for its citizens. In 1913 IRS responsibilities increased with the introduction of the federal income tax system. Since that time, the government has imposed steadily higher taxes on its citizenry to pay for national defense, social programs, transportation and other infrastructure, and other aspects of modern American society. As internal revenue gathering increased in scope during the past century, the Internal Revenue Service saw similar growth. The IRS, which employed approximately 86,000 workers in the mid-1990s, was reorganized in 2000 into four operating divisions: wage and investment; small business and self-employed; large and mid-size business (those with assets greater than $5 million); and tax exempt and governmental entities. Further information on these divisions can be found on the official IRS web site (www.irs.gov).

The Internal Revenue Service processes more than 180 million tax returns on an annual basis. On a small percentage of these returns, the IRS performs a more detailed tax return examination called an "audit." If an individual or business is audited, the IRS representative conducting the examination typically asks for proof of the various deductions and exemptions claimed on the tax return. Depending on how the audit unfolds, the IRS agent may ultimately decide that additional taxes are owed (or, less frequently, that the taxpayer actually paid too much). Taxpayers who object to these audit findings have the option of appealing to an independent division within the IRS specifically created to deal with such cases. If negotiations still do not satisfy the taxpayer, appeals can be filed in U.S. Tax Court or other federal courts, depending on the nature of the case.

SMALL BUSINESS AND THE IRS

The Internal Revenue Service sponsors several different programs designed to help entrepreneurs and small business owners fulfill their revenue reporting and taxpaying obligations. These include the Small Business Tax Education Program (STEP), which is designed to help small business owners maneuver through the plethora of business tax issues that they face.

Other recent IRS initiatives have met with opposition from small business groups, however. For example, IRS regulations requiring businesses that paid more than $50,000 in employment taxes in 1995 to file federal payments electronicallyand implementing heavy penalties for those not in compliancedeeply angered many small business owners. The IRS's new Market Segment Specialization Program (MSSP) has also been a subject of some controversy within the small business community. The MSSP is described as a research initiative intended to provide the IRS with a greater understanding of the typical structure and operation of several dozen kinds of small businesses. The initiative, which arose as a result of studies that indicated that independent business owners had a relatively high rate of noncompliance with tax laws, is designed to ultimately provide auditors with greater understanding of how each business is conducted and the compliance problems that they sometimes have. While supporters argue that the MSSP will give the IRS greater insights into the tax difficulties that small businesses face, critics contend that the program could ultimately result in tougher audits for small businesses.

THE CHANGING IRS

The rapidly changing face of technology and communications has presented small businesses and multinational corporations alike with a wide array of challenges. The Internal Revenue Service has not been immune to these changes. Indeed, the agency has struggled to modernize its operations, especially in the realm of computers. The IRS recently announced that it is considering outsourcing of its tax-return data entry after replacing some aging computers. According to Computerworld, IRS priorities now include finding an interim solution to the data input situation and solving remittance processing problems.

With the spread of technologies that facilitate the electronic transfer of data, the data input portion of the IRS's processing task shrinks. The IRS has seen a steady increase in the numbers of tax returns that are filed electronically every year. In 2005, according to the IRS's publication 2005 Data Book, more than half of all individual tax returns were filed electronically. The trend towards electronic filing of tax returns is expected to continue. As technologies create new way in which to pay our bills and exchange data so too will the tools used by the IRS to collect our taxes.

see also Tax Returns

BIBLIOGRAPHY

Faulkner, Crystal. "IRS Expanding 'Customer Service' to Businesses." Business Courier-Cincinnati/Northern Kentucky. 18 August 2000.

Gearan, Anne. "IRS e-file and Direct Deposit Outpace Last Year's Results." The America's Intelligence Wire. 15 March 2006.

Griffin, Cynthia E. "Audit Alert: The Key to Surviving an IRS Audit, Know the Rules." Entrepreneur. July 1997.

Guttman, George. "IRS Finishing Up New Strategic Plan." Tax Notes. 27 November 2000.

Hodges, Susan. "Getting Wired for the IRS." Nation's Business. October 1996.

Machlis, Sharon. "Newly Candid IRS Has Year 2000 Fix, Mulls Outsourcing." Computerworld. 10 February 1997.

Stern, Linda. "The IRS's New Focus on Small Business." Home Office Computing. April 1994.

U.S. Department of Treasury Internal Revenue Service. 2005 Data Book. 2006

U.S. Department of Treasury Internal Revenue Service. Tax Guide for Small Business. n.d.

                                Hillstrom, Northern Lights

                                  updated by Magee, ECDI

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Internal Revenue Service

Internal Revenue Service (IRS), division of the U.S. Treasury Dept. that is responsible for the assessment and collection of most federal taxes, except those relating to alcohol, tobacco, firearms, and explosives. Established in 1862, the IRS derives most of its revenues from the collection of corporate and individual income tax.

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