COVID-19: IRS Implemented Tax Relief for Employers Quickly, but Could Strengthen Its Compliance Efforts
Fast Facts
In response to COVID-19, Congress gave tax breaks to employers for providing paid sick and family leave and retaining employees. These provisions will result in about $237.8 billion in foregone revenue for FYs 2021-2031, Congress estimates.
This report examines the IRS's implementation of these provisions, how many employers used them, and more. For example, about 1.5 million employers claimed $9.8 billion in tax credits for 2020 to help with the costs of paid leave. We made 5 recommendations to the IRS aimed at strengthening its reviews of tax credit claims.
Highlights
What GAO Found
Starting in March 2020, Congress passed several laws, including the CARES Act, to provide employers with tax relief in response to the economic burden brought on by the COVID-19 pandemic. Provisions in these laws established the paid sick and family leave credits (leave credits), the Employee Retention Credit (ERC), and payroll tax deferrals. IRS implemented these provisions while facing delays caused by facility closures and other challenges. As new laws were enacted, IRS continued to revise employment tax returns and guidance.
Leave credits and ERCs for 2020 totaled about $20.7 billion. Payroll tax deferrals totaled about $123.6 billion, as shown in the table. In addition, preliminary data indicate 2021 usage of leave credits and ERCs likely exceed 2020 usage.
Data on Leave Credits, Employee Retention Credits, and Payroll Tax Deferrals, 2020
|
Provision |
Number of employers using |
Dollars in billions |
|
Leave credits |
1,509,611 |
9.8 |
|
Employee Retention Credits |
119,834 |
10.9 |
|
Payroll tax deferrals |
1,026,282 |
123.6 |
Source: GAO analysis of Internal Revenue Service data. | GAO-22-104280
Note: The tax credit dollar figures are as reported by taxpayers and are subject to taxpayer reporting error. Data are from employment and income tax returns, as of December 2021 and January 2022.
Several of the top industry sectors claiming leave credits and ERCs were sectors most affected by the pandemic that GAO identified in previous work. For example, Manufacturing claimed the second highest amounts of leave credit dollars (about 13 percent) and the Accommodation and Food Services sector claimed the highest amount of ERC dollars (about 15 percent).
IRS took some steps to identify and plan for compliance risks associated with the leave credits and the ERC. As IRS continues to plan for examinations of both credits—which expired in 2021 but will be subject to examination for several years after filing—GAO found IRS could strengthen these efforts by expanding its use of selected project management practices. For example, IRS developed objectives but the objectives did not evolve to reflect statutory changes made after the CARES Act, are not measurable, and do not include criteria to measure success. A comprehensive and cohesive compliance plan would help guide IRS efforts to ensure that it adequately identifies and addresses compliance risks.
IRS began creating new processes to research and address compliance risks associated with tax credits claimed on adjusted returns and employers who claimed multiple credits with wages that are restricted from use for more than one type of credit. However, IRS has not documented how it developed those processes or how it would implement them in practice. Documentation increases transparency and can inform future compliance efforts.
In preliminary data, GAO found 337 filings, totaling $100 million, from employers that were established in April 2020 or later, but then stopped filing employment tax returns. IRS screening filters flagged more than 65 percent of these filers for review. However, those controls may still overlook ineligible entities because they do not consider certain factors, such as refund amounts and employer establishment dates.
Why GAO Did This Study
The COVID-19 pandemic resulted in significant challenges to the U.S. economy, leading to business closures. The employment tax relief measures Congress passed to help businesses affected by the pandemic were estimated to result in about $237.8 billion in foregone revenue for fiscal years 2021-2031.
The CARES Act includes a provision for GAO to report on the federal government's response to the COVID-19 pandemic. This report describes IRS's efforts in implementing the employment tax provisions. The report also evaluates IRS's plans and actions to identify compliance risks for the provisions.
GAO reviewed federal laws and compared IRS's compliance plans and procedures with selected project management practices and with tax credit eligibility requirements. GAO analyzed IRS data from employment tax returns for 2020, including data on industry sector. GAO also interviewed IRS employees and officials.
Recommendations
GAO is making five recommendations including that IRS develop a compliance plan consistent with project management principles, document compliance processes for adjusted returns and tax credits using restricted wages, and identify ineligible entities. IRS agreed with two of the recommendations and disagreed with three. IRS said its current processes are sufficient. GAO maintains that these recommendations remain warranted.
Recommendations for Executive Action
| Agency Affected | Recommendation | Status |
|---|---|---|
| Internal Revenue Service | The Commissioner of Internal Revenue should develop an integrated project management plan for the COVID-19 credits to improve IRS's ability to manage and plan compliance efforts related to these credits. The plan should include
|
IRS disagreed with this recommendation, stating in its response letter that it uses project management techniques, and that its project plan includes details to implement the project, including compliance. We acknowledge that IRS partially demonstrated project management practices. However, without measurable objectives, comprehensive planning documents and schedule management, and other practices, IRS is not fully prepared to move forward with compliance activities for the tax credits. In February 2024, IRS officials described several offices and teams involved in Employee Retention Credit compliance efforts. Some of these efforts are underway--such as the Voluntary Disclosure Program and Withdrawal Program--and others are under consideration. IRS has not yet provided any plans associated with these efforts. We will update this recommendation when we receive additional information.
|
| Internal Revenue Service | The Commissioner of Internal Revenue should document the processes being used to address compliance risks associated with Employee Retention Credit and leave credit claims on adjusted employment tax returns. (Recommendation 2) |
In September 2023, IRS announced a processing moratorium on ERC claims filed after Sept. 14, 2023. All of these claims are submitted on adjusted returns. During the moratorium, IRS developed a risk model to analyze over 1 million unprocessed ERC claims, placing each claim into one of three risk categories: low, unacceptable, or high. In June 2024, IRS announced plans to deny improper high-risk ERC claims, and a new round of processing low-risk claims. In June and August 2024, IRS updated its Internal Revenue Manual to reflect changes in processing steps resulting from the risk model for low and high-risk ERC claims. IRS provided documentation on the tests and data within the model that were used to determine risk levels for the claims. As of January 2025, IRS is still developing an additional risk model to further analyze ERC claims that it categorized as unacceptable risk. We are monitoring the development and application of the new risk model. Aside from the risk model, IRS took other steps from 2022 through 2024 to address ineligible ERC claims on adjusted returns. For example, IRS sent disallowance and recapture letters to ineligible employers. IRS provided documentation on the development of these efforts and the criteria for sending the letters. Regarding leave credits, IRS updated its Internal Revenue Manual on processing leave credits on adjusted returns. IRS also provided documentation on filters to check for using leave credit wages for ERC claims on adjusted returns. Leave credits have a lower compliance risk than ERC because they do not have retroactive filings on adjusted returns, making filing volumes much smaller than ERC. Therefore, we view these actions as sufficient for leave credits.
|
| Internal Revenue Service | The Commissioner of Internal Revenue should document the processes being used to address compliance risks associated with the Employee Retention Credit and leave credits that rely on wages that cannot be used for other tax credits. (Recommendation 3) |
IRS took several steps to check for ERC claims that rely on wages for other tax credits. At the time of our report, IRS had completed research or risk assessments on 6 of the 7 tax credits with statutory restrictions on using the same wages for an ERC claim. For the remaining tax credit -- sick and family leave credit (leave credits) -- IRS took action in 2023. IRS considered wages claimed for leave credits when generating tax year 2020 recapture letters for ERCs claimed on original or amended returns. These letters were announced in December 2023 and assessed the affected taxpayers $573 million in additional taxes due. IRS used the same criteria for tax year 2021 recapture letters, which were sent beginning in June 2024 and assessed $1 billion.
|
| Internal Revenue Service | The Commissioner of Internal Revenue should implement additional controls to help identify tax credit recipients who may be ineligible employers. (Recommendation 4) |
As a result of our findings and in response to our recommendation, in April 2024 IRS shared partial results on the Fabricated Entities Project. This project involves mitigating tax harm posed by individuals involved with creating fictitious entities to obtain fraudulent COVID-19 related employment tax credits. This includes identifying entities that created and requested an EIN after the enactment of a credit, similar to our analysis. IRS applies these filters to original returns with ERC claims, according to IRS officials. Refunds from returns that activate the filter are frozen and forwarded to the Office of Fraud Enforcement (OFE)-who oversees the Fabricated Entities Project-for investigation, according to IRS officials. From fiscal years 2022 through Aug. 1, 2024, IRS identified 1,711 fabricated entities. For this time period, OFE investigations protected revenue by preventing refunds from being issued to fabricated entities. Further, by preventing these refunds, the Fabricated Entities Project saved future staff costs of examinations. We determined that, as of Aug. 1, 2024, and when considering implementation costs, the Fabricated Entities Project saved about $295.9 million in protected revenue and costs savings on ineligible credit claims.
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| Internal Revenue Service | The Commissioner of Internal Revenue should update and implement postfiling compliance or examination activities to address potentially invalid or inaccurate employer credit refund claims that were not prevented by internal controls. (Recommendation 5) |
In January 2023, IRS provided data showing it had opened 2,646 examinations on leave credit and Employee Retention Credit claims in fiscal year 2022 and through December 2022. Of the closed examinations, about $20 million had been assessed. These examinations help ensure taxpayers receive the appropriate tax treatment.
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