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IRS Safeguards Toothless in Tea Party Nonprofit Cases

Photographer: Tom Williams/CQ Roll Call/Getty Images

From left, J. Russell George, left, Treasury Inspector General for Tax Administration, Douglas Shulman former IRS Commissioner, Lois Lerner, director of exempt organizations for the Internal Revenue Service, and Deputy Treasury Secretary Neal Wolin, are sworn in to a House Oversight and Government Reform Committee hearing on the investigation of the IRS's targeting of political groups. Close

From left, J. Russell George, left, Treasury Inspector General for Tax Administration,... Read More

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Photographer: Tom Williams/CQ Roll Call/Getty Images

From left, J. Russell George, left, Treasury Inspector General for Tax Administration, Douglas Shulman former IRS Commissioner, Lois Lerner, director of exempt organizations for the Internal Revenue Service, and Deputy Treasury Secretary Neal Wolin, are sworn in to a House Oversight and Government Reform Committee hearing on the investigation of the IRS's targeting of political groups.

On July 22, 1998, President Bill Clinton signed into law a reorganization of the Internal Revenue Service designed to “give the American people an IRS that reflects America’s values and respects America’s taxpayers.”

That didn’t work out so well.

As the Obama administration confronts a political crisis that has reinforced the worst imaginings of anti-Washington Republicans -- and many others -- the IRS instead has become an emblem of government dysfunction.

“The service is an amazing bureaucracy,” said Bryan Camp, a former attorney in the IRS’s chief counsel office. “Amazing in that it’s able to get done what it gets done and amazing in its incredibly byzantine and archaic chain of command.”

Lawmakers of both parties and President Barack Obama this week assailed the IRS for singling out for special scrutiny applications for tax-exempt status from anti-tax Tea Party groups. Republicans, including Utah Senator Mike Lee, leveled a broader indictment, saying the agency’s actions demonstrated the inherent dangers of runaway government.

The agency at the center of Washington’s latest political storm hardly lacked for institutional safeguards. The 1998 restructuring -- the first such changes in nearly half a century -- created a nine-member IRS Oversight Board designed “to oversee the IRS in its administration, management, conduct, direction, and supervision” of the tax laws.

Multiple Overseers

By 2010, when the IRS began struggling to process applications from groups seeking tax-exempt status, the support apparatus had expanded to include an IRS Advisory Council, the office of the National Taxpayer Advocate, the inspector general and several subject-specific advisory committees, including one for tax-exempt entities.

Elsewhere, six congressional committees monitor the IRS, while the Government Accountability Office issues reports on its activities and the Treasury Department oversees it.

Those safeguards proved toothless, poorly designed or both when the agency needed them most, according to leaders from both parties.

“The first line of defense is the board and that board’s been weak from the beginning,” said former Senator Bob Kerrey, a Nebraska Democrat, who was co-chairman of a 1997 commission on IRS restructuring. “You need that strong oversight board.”

Senator Rob Portman, an Ohio Republican who was Kerrey’s co-chairman, said in an interview that he is considering legislation to resurrect the panel’s recommendation for a strong board with the power to hire and fire the IRS commissioner.

Additional Safeguards

“We do need to have additional safeguards,” he said. “It’s different in kind than most other federal agencies and therefore it requires this special level of scrutiny.”

Existing protections didn’t catch officials in an IRS office in Cincinnati, who over an 18-month period employed “inappropriate criteria” in identifying and slowing the applications for tax-exempt status from some groups, according to the IRS inspector general.

The inspector general’s May 14 report said “ineffective management” at the IRS was to blame for chronic problems that emerged with the processing of applications for tax-exempt status. Dozens of applications from Republican-leaning and other groups -- including some founded by Democrats -- remained in limbo for more than three years, longer than the agency’s 121-day goal for a final ruling, according to the IG report.

Lois Lerner, the official at the center of the controversy, is being replaced on an acting basis, the IRS said yesterday. Two other officials have submitted resignations or retirements.

Management ‘Breakdown’

Appearing before a House committee on Wednesday, former IRS Commissioner Douglas Shulman acknowledged “a breakdown” in management and suggested an expanding work load was to blame.

During his almost five years at the helm, Shulman said the IRS “was called upon to tackle a number of challenges,” including administering $300 billion of the economic stimulus program, combating offshore tax evasion and modernizing its information technology systems. The agency is gearing up to enforce the 2010 health care law’s mandate that Americans obtain insurance or pay a fine.

As it affects every household and business in the nation, the IRS is a bureaucratic titan. In 2012, it harvested $2.5 trillion from U.S. taxpayers, processing 237,345,000 separate individual and corporate returns.

IRS Culture

This week’s congressional hearings have zeroed in on the agency’s internal workings. Senate Finance Committee Chairman Max Baucus, a Montana Democrat, accused the IRS of a “culture of indifference to the American people.”

The agency’s unwritten rules may be partly to blame. By design, the IRS must be independent of outside influence to administer the tax laws fairly.

Major scandals over IRS operations in 1951, when more than 160 agents were fired or resigned amid allegations of corruption and favoritism, and in the early 1970s, when President Richard Nixon ordered IRS audits of his political opponents, demonstrated the need for the tax agency to be kept at a distance from the partisanship that permeates Washington.

Independence may have curdled into insularity. Portman said senior IRS officials misled lawmakers who sent letters to the agency in 2012 asking if Republican-leaning groups were being targeted. Then-deputy commissioner Steven Miller, who has been forced out as acting commissioner in the controversy, replied in writing that no such targeting was taking place, claims Republicans this week said were misleading.

‘Flagrant Disregard’

Portman said the IRS attitude amounted to “a flagrant disregard by senior officials of a congressional inquiry.”

Two days before the scandal broke, Nina Olson, the national taxpayer advocate, said in written testimony to Congress that budget cuts were imperiling the ability of the IRS to do its job.

Across-the-board belt-tightening, coupled with this year’s automatic budget cuts known as sequestration, have lopped about $1 billion or 8 percent off the IRS budget. Employees also must take five furlough days this year -- including today -- because of the cuts.

Employee training, which the inspector general recommended be expanded to prevent a recurrence of the current scandal, has been especially hard hit.

Budget Cuts

By the end of the current fiscal year, such spending will have been reduced by 83 percent compared with fiscal 2010. “I have never been more concerned than I am today about the IRS’s ability to fulfill its mission,” she told the Senate Appropriations Subcommittee on Financial Services.

In seeking a $1 billion budget increase for IRS, Treasury Secretary Jacob J. Lew told the same panel that each dollar spent on enforcement would yield $6 for the government.

The IRS’s 90,280 workers number 4,500 fewer than fiscal 2010. Over that same time, the number of applications for tax-exempt status rose in both main categories: 501(c)3s climbed to 66,543 from 59,486 and 501(c)4s rose to 3,357 from 1,735.

Still, as complaints from conservative-leaning applicants mounted, IRS higher-ups ignored obvious signs of trouble. “Once the cases started to back up, it should have been a red flag to management,” said Charles Lacijan, who retired last year after 11 years as the oversight board’s staff director.

‘Substantial Powers’

In 1997, the Kerrey-Portman commission capped a yearlong inquiry with a series of recommendations, including creation of a powerful “board of directors” with “overall responsibility for executive branch governance of the IRS.”

Kerrey described the board in 1998 as one “that has substantial powers over the IRS to manage this agency and to work with Congress.”

By the time legislation emerged from Congress, the board’s powers had been circumscribed. Clinton administration officials were reluctant to surrender Treasury Department control of the agency, according to Chris Rizek, who was associate tax legislative counsel at Treasury between 1995 and 1998.

The part-time panel, whose members are compensated, focuses on tax administration issues and approves IRS budget requests and strategic plans.

“They’re at such a high level, like a board of directors but without the powers of a board of directors,” said Camp, now a law professor at Texas Tech University. “They’re primarily a cheerleader for the service on budget issues.”

Stalled Nominations

The president nominates seven tax experts to the board along with the Treasury secretary and the IRS commissioner. Two of the seven non-government posts now are vacant. Four others, including chairman Paul Cherecwich, a corporate tax attorney who was appointed by President George W. Bush and who retired from the law firm of Miller & Chevalier in 2004, are continuing to serve though their terms have expired.

On July 1, 2010, Obama nominated Timothy Scheve, chief executive officer of Janney Montgomery Scott LLC in Philadelphia, as a member of the oversight board. After the Senate failed to act on his nomination, Scheve withdrew his name on Jan. 24, 2012. The post remains vacant.

A more powerful board with greater independence may have been able to intervene as the IRS stumbled over management of the tax-exempt applications.

“There’s no question in my mind it would have caught it before it got to this point,” Kerrey said in a telephone interview.

‘Deeply Troubled’

Instead, when the targeting became public, the Oversight Board released a May 16 statement saying only that it was “deeply troubled” by the news and blaming a “breakdown in the business processing system of the IRS.”

The board said “IRS leadership” never notified it of the change in filtering criteria.

Cherecwich said he sees the IRS’s travails as evidence of the difficulty of managing a mammoth bureaucracy, and the current board wasn’t equipped to do much to help.

“Whistle-blowers don’t come to us,” said Cherecwich, adding: “I don’t know how you mandate perfect management.”

To contact the reporters on this story: David J. Lynch in Washington at dlynch27@bloomberg.net; Richard Rubin in Washington at rrubin12@bloomberg.net

To contact the editors responsible for this story: Jodi Schneider at jschneider50@bloomberg.net; Jeanne Cummings at jcummings21@bloomberg.net

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