A recent report by the Taxpayer Inspector General for TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. Administration (TIGTA) found that the 2.1 million tax filers claimed $3.2 billion in erroneous higher education tax credits for tax year 2009. Specifically, the tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly. studied was the American Opportunity Tax Credit a partially refundable tax creditA refundable tax credit can be used to generate a federal tax refund larger than the amount of tax paid throughout the year. In other words, a refundable tax credit creates the possibility of a negative federal tax liability. An example of a refundable tax credit is the Earned Income Tax Credit (EITC). worth up to $4,000. The credit was created by the American Recovery and Reinvestment Act as the more generous successor to the Hope Credit. The report notes that over the 4-year life of the credit the potential amount of erroneous payments could reach nearly $13 billion.
The TIGTA report found that tax filers who received the credit in error fell into four categories, as seen in this table taken from the report.
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Potentially Erroneous Education Credits Received Through May 28, 2010 |
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Erroneous Education Credit Ineligibility Classification |
Number of Taxpayers Receiving Erroneous Credits |
Claims Prepared by a Paid Tax Return Preparer |
Amount of Erroneous Credits |
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|
Number |
Percentage |
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Students Who Did Not Attend an Educational Institution |
1,700,653 |
1,079,714 |
63% |
$2.57 billion (Potential) |
|
Students Who Attended Less Than Half-Time or Were Graduate Students |
361,467 |
N/A |
N/A |
$550 million (Projected) |
|
Students Allowed as Dependents on Another Taxpayer’s Tax Return |
63,713 |
32,478 |
51% |
$88.4 million (Actual) |
|
Prisoners (Incarcerated All Year) Claiming Dependent Students |
250 |
60 |
24% |
$255,879 (Actual) |
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TOTAL |
2,126,083 |
|
|
$3.2 billion |
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Source: TIGTA analysis of education credits through May 28, 2010. |
By far the largest and most troubling category is the oxymoronic “Students Who Did Not Attend an Educational Institution.” The errors in the other categories could arguably be a result of a misunderstanding or misreading of the rules by taxpayers or tax preparers, or the result of record keeping mistakes. However, filing for a higher education tax credit when you did not have anyone in your family who actually attended college is a pretty flagrant mistake. So flagrant, in fact, that one would have a hard time believing that most of the errors in this category aren’t simply outright fraud. Even more disconcerting is that 63% of the tax returns in this category were prepared by paid, professional tax preparers.
The problem of erroneous and fraudulent tax credit payments is not unique to education tax credits (see reports on the EITC, the First Time Homebuyer Credit, and others) nor is it necessarily the fault of the IRS. In addition to collecting taxes, Congress has tasked the IRS with administering numerous tax provisions that look less like pure tax policies and more like programs administered by government agencies like Health and Human Services or the Department of Education. But being a tax collecting agency, the IRS is not set up to do this efficiently. And Congress expects the IRS to achieve all this while threatening the agency with budget cuts.
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