Black CPAs were not surprised at the results of a study showing that the IRS is up to 4.7 times more likely to audit Black taxpayers than non-Black ones. They already knew that from their work with clients.
And now that research, led by Stanford University, confirms their anecdotal experience, it is time to change the U.S. tax system to one that is fairer and not targeted — intentionally or unintentionally — at Black people, they say.
"Somebody should audit the algorithm being used and compare it to the type of people they're auditing and propose audit parameters that don't target a higher proportion of Black people," Davita Pray, CPA, a firm owner in West Chester, Pa., said in an interview with the JofA. "It shouldn't be hard to figure out which audit flags are targeting Black people."
Kimi Ellen, CPA, a firm partner in a CPA firm in Chicago who is also chairman of the Diverse Organization of Firms, a board member of the National Association of Black Accountants, and a founder of the National Society of Black CPAs, agreed.
"If you're auditing one group of people twice as much or more, but they're not twice the population, then clearly there's a problem," she said. "When you know better, you should do better."
The audit study began from an executive order that President Joe Biden issued on his first day in office that required all federal agencies to review the effect of their programs on equity issues (Executive Order 13985). That order led to Treasury's collaborating with Stanford to analyze over 148 million tax returns and about 780,000 audits for tax year 2014, which is an audit rate of 0.54%.
In February, less than a month after the Stanford study was released, Biden issued an executive order on racial equity that included an instruction for agencies to focus on "protecting the public from algorithmic discrimination" (Executive Order 14901).
At a Senate Finance Committee hearing in April, IRS Commissioner Danny Werfel confirmed that he would meet a Tuesday deadline to turn in a plan focused on how the IRS will address the issues raised in the study.
The audit study found that Black taxpayers were 2.9 to 4.7 times more likely to be audited than non-Black taxpayers. When researchers turned to the earned income tax credit (EITC) — which assists low- and moderate-income people — they found that Black taxpayers were the focus of 43% of EITC audits but accounted for just 21% of EITC claims.
That racial disparity persists regardless of gender, marital status, or whether the claim includes children.
The Stanford study also found that the difference in EITC audit rates is "most extreme" for single male taxpayers claiming dependents — the audit rate is 7.73% for Black claimants and 3.46% for non-Black claimants. A large disparity also exists for single male taxpayers who did not claim dependents — 5.66% for Black claimants and 2% for non-Black claimants.
The researchers analyzed data from about 148 million tax returns and 780,000 audits. The IRS does not collect information on race and ethnicity on tax returns, so the researchers' approach was validated through voter registration records from North Carolina, which, until recently, required citizens to check a box for race and ethnicity when they registered to vote.
Jean Wells, CPA, a tax attorney and associate professor in the Howard University School of Business, is dubious about IRS claims on its race neutrality and points to the outcomes to make her point.
For example, a study by a retired senior economist in the IRS Office of Research that ProPublica reported on in April 2019 showed that eight majority-Black counties in Mississippi and one each in Alabama and Louisiana had the highest audit rates in the country for combined tax years 2012–2015.
"For tax years 2012–2015, the 10 most audited counties in America are in the Deep South: Mississippi and Alabama, where the population of Blacks is at least 70%," Wells said. "And these are low-income people — making $20,000, $25,000, $30,000 — so the IRS should have some idea, just based on ZIP code, what the racial and income makeup is. In contrast, the least audited counties are in states like Minnesota, New Hampshire, and Wisconsin. So, I think it's disingenuous to say that the racial and income data for a county is not available."
The least-audited counties include one county in the South — Sumter County in Florida. The others are in Alaska, Minnesota, Nevada, North Dakota, Ohio, and Wisconsin.
The issue of high EITC audit rates came up in late April, when IRS Commissioner Danny Werfel testified before the House Ways and Means Committee. Rep. Terri Sewell, D-Ala., asked about audits of EITC recipients.
"What … the federal government gets by auditing them, while it makes a big difference to those families, it's peanuts in the grand scheme of things," Sewell said. "Can you talk to us about why that is and what you're doing about it?"
"We are looking, studying, and assessing the potential that the EITC audit program is not consistent with these values of fairness and equity," Werfel responded. "And I am going to have to report back to you on what we find and work together to make sure that it is fair."
The Improper Payments Information Act of 2002, P.L. 107-300 — which was enacted to identify, prevent, and recover payment error, waste, fraud, and abuse within federal spending — could be to blame, he said.
The interviewed CPAs said they understand why Black families might draw the attention of the IRS. For example, Black families tend to live in multigenerational homes, where grandparents care for grandchildren and claim the EITC credit as head of household, Ellen said. This means the child and the head of household might have different last names.
James E. Heyward, CPA, owner of Heyward CPA PLLC in Durham, N.C., said it is common in Black communities for people with no experience or credentials to advertise how much of a refund they can get someone.
"There is a huge — I cannot understate it — subculture of nonprofessional people who 'do taxes,'" Heyward said. "They prepare returns with no due diligence or care and submit returns that can trigger audits. They are charging a lot of money and don't even sign the returns. They're anonymous."
These preparers take risks on returns that tax professionals would not take, he said.
Also, Heyward said, the "path of least resistance" for the IRS is refundable credits. "More attention is paid to taxpayers receiving refundable credits like the EITC than people who owe money," he said.
Underfunding of the IRS is also an issue, the interviewed CPAs said. It is easier and cheaper to do a correspondence audit of a simple return than to audit a complex return that might have tens of thousands of pages.
Regardless of the reason for higher audit rates of low-income taxpayers, auditing the poor will not accomplish a goal of closing the tax gap, which averaged $496 billion a year for tax years 2014 through 2016, Wells said.
"Yes, I know there might be some fraud with the EITC, but we're not talking tens of thousands of dollars," she said. "If you do a cost/benefit analysis, wouldn't it be better for you to consider netting possibly millions from high-wealth and self-reporting taxpayers with income from passthrough entities as opposed to a couple of thousand dollars from some poor people?"
Werfel seems to agree. When he testified before the Senate Finance Committee, he reaffirmed that the agency would use some of its $80 billion infusion over 10 years from the Inflation Reduction Act of 2022, P.L.117-169, to focus on high-wealth taxpayers, individuals, corporations, and partnerships and complex partnerships. It also will not increase audits on taxpayers earning less than $400,000 a year from the historic low rates of 2018, he said.
At that hearing, Sen. Bob Menendez, D-N.J., asked Werfel about the IRS response to the study.
"I want to start with the important premise that it's essential that our tax system is fair. Fairness is what anchors our mission statement," Werfel said.
While the response was not ready yet, he said: "I will share that we are asking, I think, the right set of questions. We're asking questions like, what are the major tenets of IRS current corrective action plan to address improper payments to existing EITC case selection process unfairly race audit rates for Black taxpayers in relation to non-Black taxpayers? Six or seven key questions that we're answering."
An IRS representative said the agency declined to comment beyond Werfel's testimony.
Pray, the Pennsylvania firm owner, said: "Going after the little guy really isn't the answer. If you can't go after everybody equally, then why go after the most vulnerable?"
— To comment on this article or to suggest an idea for another article, contact Martha Waggoner at Martha.Waggoner@aicpa-cima.com.