IRS Under Scrutiny

It was an awful week in Washington as the administration was buffeted by a series of controversies fueling fears of an overreaching government, none of which might be more damaging than the scandal involving the Internal Revenue Service. A report was released this week by the Treasury Inspector General for Tax Administration ("TIGTA") that revealed the IRS overstepped its bounds. The IRS used inappropriate criteria selecting exempt status applications for review for indications of significant political intervention.

TIGTA initiated their audit based on concerns expressed by members of Congress. The report concluded that the IRS identified for review Tea Party and other organizations applying for tax-exempt status based upon their names or policy provisions instead of indications of potential political campaign intervention.

The types of organizations identified for additional review were social welfare organizations under Internal Revenue Code Section 501(c)(4). The law allows section 501(c)(4) organizations to self-declare and hold themselves out as tax-exempt. Organizations also can apply for IRS recognition as tax-exempt. An organization determined by the IRS to be tax-exempt can rely on that determination if their exempt status is ever questioned, so long as the organization has not deviated from the organizational structure and operational activities set forth in its application. Social welfare organizations may engage in limited political campaign intervention, however, that effort must not constitute the primary activity of the organization. During the 2012 election cycle, these types of organizations spent $315 million on influencing elections, up from $133 million in 2010. Additionally, the number of applications for exemptions received by the IRS for these types of organizations increased from 1,751 in 2009 to 3,357 in 2012.

In its investigation, TIGTA reviewed applications between July and November 2012. Only the process used by the IRS was reviewed, TIGTA made no determination of whether specific applications should be approved or denied. TIGTA found that applications were inappropriately selected for review if they had the words “Tea Party” in their name. Eventually the selection criteria was expanded to include the words “Patriots” and “9/12”. According to media reports, the Exempt Organizations unit of the IRS created a BOLO (Be On The Lookout) spreadsheet for identifying applications for increased scrutiny based on inappropriate criteria.

After being briefed on the expanded criteria in June 2011, the Director of Exempt Organizations immediately directed that the criteria be changed. However, the office reviewing the applications subsequently reverted back to the old, inappropriate criteria because they believed the new criteria was too broad.

TIGTA made eight recommendations in its report, including that the Exempt Organizations Division should:

  1. Ensure that the memorandum requiring the Director, Rulings and Agreements, to approve all original entries and changes to criteria included on the BOLO listing prior to implementation be formalized in the appropriate Internal Revenue Manual;
  2. Develop procedures to better document the reasons applications are chosen for review by the team of specialists
  3. Develop training or workshops to be held before each election cycle including, but not limited to, the proper ways to identify applications that require review of political campaign intervention activities;
  4. Develop a process for the Determinations Unit to formally request assistance from the Technical Unit and Guidance Unit. The process should include actions to initiate, track and monitor requests for assistance to ensure that requests are responded to timely.
  5. Develop guidance for specialists on how to process requests for tax-exempt status involving potentially significant political campaign intervention. This guidance should also be posted to the Internet to provide transparency to organizations on the application process
  6. Develop training or workshops to be held before each election cycle including, but not limited to: a) what constitutes political campaign intervention vs. general advocacy (including case examples) and b) the ability to refer for follow-up those organizations that may conduct activities in a future year which may cause them to lose their tax-exempt status;
  7. Provide oversight to ensure that potential political cases, some of which have been in process for three years, are approved or denied expeditiously.; and
  8. Recommend to IRS Chief Counsel and the Department of Treasury that guidance on how to measure the “primary activity” of IRC section 501(c)(4) social welfare organizations be included for consideration in the Department of Treasury Priority Guidance Plan.

In the aftermath of the TIGTA report, interim IRS Commissioner Steven Miller resigned his position, Joseph Grant, commissioner of the agency's tax-exempt and government entities division, will retire on June 3, according to an IRS statement. President Obama said Thursday that he is naming a trusted White House budget official, Daniel Werfel, to serve as his new acting IRS commissioner.

At Congressional hearings on the matter on May 17, Rep. Dave Camp, R-Mich, chairman of the House Ways and Means Committee, ripped the tax-collecting agency over the practice at the start of the hearing. "Now we know the truth -- or at least some of it," he said. "We also know that these revelations are just the tip of the iceberg. It would be a mistake to treat this as just one scandal."

He questioned how high the scandal went, and also suggested there was other targeting of conservatives that has not yet been acknowledged by the agency. He called it part of a "culture of cover-ups."

"This systemic abuse cannot be fixed with just one resignation, or two," he said. He said the problem is not just personnel, but the size and scope of the IRS.

As the FBI opens a criminal probe of this growing scandal, the news may get worse before the taxing agency begins its attempt to restore public trust.

At the time of this writing, Congressional hearings on the issue were still underway, more details will be provided as they become available. 

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This advice is not intended or written to be used for, and it cannot be used for, the purpose of avoiding any federal tax penalties that may be imposed, or for promoting, marketing or recommending to another person, any tax related matter.

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