What are error rates for refundable credits and what causes them?
The IRS estimates two types of error rates for the earned income tax credit (EITC): the improper payment rate and the over-claim rate. The former includes IRS enforcement activities while the latter does not. The IRS has estimated an EITC improper payment rate of between 22 and 26 percent of EITC payments and an over-claim rate of between 28 and 39 of claims.
Improper Payments in the EITC
Extrapolating from the IRS’s National Research Program compliance study of individual income tax returns for tax year 2009, the Treasury Department projected that in fiscal year 2013 between 22.1 percent and 25.9 percent of total EITC program payments were improper (US Department of the Treasury 2013). The Office of Management and Budget identified the earned income tax credit (EITC) as having the highest improper payment rate and the second-highest improper payment amount among 13 “high-error” programs.
Errors can stem from intentional fraud or innocent mistakes made by taxpayers—the latter, a likely result of complex rules associated with the EITC. Studies by Treasury analysts indicate that only a minority of improper payments stem from fraudulent actions (Holtzblatt and McCubbin 2002).
The estimated 22.1–25.9 percent range is likely higher than the actual error rate. A 2004 study by the Taxpayer Advocate found that, in 2002, among 67,000 people who sought reconsideration of their audit results, 43 percent were owed the entire or almost entire EITC claim that had initially been denied.
A more recent IRS study of returns claiming the EITC found that from 2006 to 2008, between 28.5 and 39.1 percent of all EITC claims represented over-claims totaling between $14.0 billion and $19.3 billion (IRS 2014). The largest source was error in classifying children as “qualified.” Roughly 75 percent of all tax returns with qualifying-child errors violated the requirement that children live with the taxpayer in the United States for more than six months of the year (IRS 2014).
The IRS is combating improper payments by implementing due diligence requirements for paid preparers (IRS 2015). The IRS has tried to strengthen paid-preparer regulation before, but the courts ruled in 2012 that the agency had overstepped its authority and would not be allowed to require competency tests of some preparers. (Taxpayer Advocate 2013).
Book, Leslie. 2014. “H&R Block CEO Asks IRS To Make It Harder To Self-Prepare Tax Returns And Why That's A Good Idea.” Forbes, Procedurally Taxing (blog). December 1.
Holtzblatt, Janet, and Janet McCubbin. 2003. “Issues Affecting Low-Income Filers.” In The Crisis in Tax Administration, edited by Henry Aaron and Joel Slemrod (148–87). Washington, DC: Brookings Institution Press.
Internal Revenue Service (IRS). 2014. “Compliance Estimates for the Earned Income Tax Credit Claimed on 2006–2008 Returns.” Publication 5162. Washington, DC: Internal Revenue Service.
———. 2015. “Due Diligence Law and Regulation.” Accessed August 3, 2015.
Liebman, Jeffrey. 1995. “Noncompliance and the EITC: Taxpayer Error or Taxpayer Fraud.” Cambridge, MA: Harvard University.
Maag, Elaine, Michael Pergamit, Devlin Hanson, Caroline Ratcliffe, Sara Edelstein, and Sarah Minton. 2015. “Using Supplemental Nutrition Assistance Program Data in Earned Income Tax Credit Administration: A Case Study of Florida SNAP Data Linked to IRS Tax Return Data”. Washington, DC: Tax Policy Center.
Taxpayer Advocate Service. 2004.The National Taxpayer Advocate’s 2004 Annual Report to Congress, vol. 2, Earned Income Tax Credit (EITC) Audit Reconsideration Study. Washington, DC: Internal Revenue Service.
———. 2013. “Regulation of Return Preparers.” In 2013 Annual Report to Congress, vol. 1 (61–74). Washington, DC: Internal Revenue Service.
US Department of the Treasury. 2013. Agency Financial Report: Fiscal Year 2013. Part 3, Section E: IPIA (as amended by IPERA) Reporting Details, pp.204-214. Washington, DC: US Department of the Treasury.