The Great American Fraud: The Earned Income Tax Credit
One of the most aggravating questions you can ask an average American is, “Where do taxes go?” It is a topic people love to hate to discuss. What the government does with our taxes never pleases everyone. Some people will always be happy with some expenditures and not others; what pleases and displeases people varies from person to person. Yet, one thing most American taxpayers seem to agree on is that they hate to see their tax dollars wasted, or worse — stolen.
Even the definition of “stolen” varies from person to person. Some people believe those who are receiving welfare are stealing the taxes of other people, while others believe this is a legitimate way of receiving money. Most people agree, however, that fraud is an act that constitutes “stealing” their tax money. Even if a person doesn’t like what the government is doing with their tax money, they are even angrier if they believe a private person or business is stealing it.
While tax fraud is not the most common type of crime in the United States, it does happen. One area where tax fraud is fairly rampant is in the Earned Income Tax Credit (EITC). Lots of people claim this credit when they are not entitled to it. Yet, despite the large numbers of people who appear to be engaging in this type of fraud, the government doesn’t seem to be doing much about it.
It is estimated by the Treasury Inspector General for Tax Administration that from 2003 to 2013, between $124.1 and $148.2 billion dollars in EITC were improperly distributed to those who claimed it but did not qualify for it. That’s a lot of taxpayer money that is being stolen by those who are not entitled to the money. In fact, the stolen amount ranges from 22 to 26 percent of all EITC money paid out in tax refunds or tax credits.
What is the EITC? It is a tax incentive that was added to the tax code to give low income individuals an incentive to work instead of relying on welfare benefits. The tax credit gives them a refund based on the income they earned during the previous tax year, which means the more money the person makes, the greater the amount of the EITC he or she will receive. If you make too much money, the government feels the EITC is no longer needed, which keeps very high income people from claiming the credit when they don’t need it.
The EITC is one of the most commonly claimed and popular tax credits available to the average American, and most people do claim it properly. And some who don’t claim it properly don’t realize they are claiming more than they are entitled to or that they are claiming it when they are not entitled to it; these are usually people who do their own taxes and don’t really understand the tax code. They are not purposefully defrauding the government and the American people. However, some people claim the EITC who know they are claiming more to which they are entitled or claiming it when they are not entitled to it. These are the people committing fraud. What is the government doing about it?
The answer is that currently the government is not doing a whole lot. Government tax authorities have stated their desire to reduce the percentage of EITC tax fraud from 26 percent to 10 percent, yet, they have done very little to make this change happen. Paid tax professionals who claim EITC incorrectly for one of their clients are fined $500 (indexed for inflation), whether the mistake was intentional or not. This fine is imposed for not following government-required due diligence practices. Individuals risk 20% negligence and 75% fraud penalties as well as a 10 year disallowance from claiming the penalty in the future.
Many of the instances of EITC fraud may actually be because of mistakes or purposeful fraud made by tax preparers. If the fraud is purposeful, it may be because the tax preparer works independently and is trying to attract customers by saying he can get large refunds for his clients. His client simply takes his word for it that she is entitled to the EITC and do not question it, because she doesn’t know anything about the tax code or the rules for claiming the EITC. While professional, licensed tax preparers will not do this, as most offer a guarantee against audit to their clients and will take the blame for any mistakes in a client’s tax return, but not every tax preparer is licensed or professional.
It is easy for anyone in the United States to say he or she is a tax preparer without having to take the classes and exams to become licensed. In fact, an estimated 400,000 individual tax preparers in the United States have no qualifications other than saying they are tax preparers. They are not required to take any classes or exams, may have not studied the tax code, and do not have licenses to practice as tax preparers. But, thanks to a lack of regulation in the industry, they are usually left alone to practice with impunity.
More regulation in the tax preparer industry has been called for by the government departments that deal with taxation; however, Congress has not shown much interest in acting on the demand. The IRS has asked Congress for the authority to regulate the tax preparer industry more closely and strictly, but Congress chose to cut a provision to regulate the nation’s tax preparers from recent legislation. Why they chose to cut this measure is unclear, as no statement was made by Congress when the provision was dropped.
Though the IRS has asked for more authority to regulate tax preparers, it has shown little interest or does not have the budget to pursue individual taxpayers who knowingly commit EITC fraud. The Improper Payments Elimination and Recovery Act of 2010 actually requires the IRS to make fraud control targets with the EITC and keep fraudulent EITC payouts to a percentage below 10 percent. But the fraud level has not been reduced since the passage of that legislation.
What the IRS does to combat EITC fraud is minimal at best. They have a page on their website that is geared toward tax preparers that discusses what tax preparers should do if they suspect one of their clients is committing EITC fraud, or who may go to another tax preparer who will commit the fraud for them. Basically, all the IRS asks scrupulous tax preparers to do is to report any known or suspected EITC fraud to them so they can follow up on it. The same website page also mentions the IRS outreach and education program in which inexperienced or unlicensed tax preparers can request educational materials from the IRS or even a visit from them to go over their EITC reporting methods to ensure they are doing it correctly.
Basically, making sure EITC fraud doesn’t happen, whether on purpose or accidentally, falls upon the tax preparer. People who do their own taxes using, self-preparing software such as, TurboTax are not regulated unless they are audited, usually for some other reason than EITC fraud, and the fraud is discovered during the audit. Most individuals who commit EITC fraud get away with it, as do the tax preparers who do it. Since these do-it-yourself software are actually preparing returns with EITC shouldn’t they be subject to the same penalties as paid preparers?
The individual or married people who commit EITC fraud typically know what they are doing. They know how the EITC works, and they file in ways to make the credit work for them. EITC payments increase according to the number of children you have, so some people claim fictitious children to qualify for the EITC, or to get more money from it. They may also claim they are not married when they really are, because a spouse’s income can wipe out the EITC for a single person (or parent) household.
While EITC fraud is a billion-plus-dollar-a-year problem in the United States, the government as well as the IRS doesn’t seem to be interested in doing anything about it. For the time being, billions of dollars a year in EITC will continue to go to people who don’t qualify for it.