Prepared in Error: Ohio Mystery Shoppers Uncover Serious Problems with Paid Tax Preparers. David Rothstein October 30, 2015

Transcription

1 Prepared in Error: Ohio Mystery Shoppers Uncover Serious Problems with Paid Tax Preparers David Rothstein October 30, 2015

2 Introduction Tax time is often referred to as the golden moment for asset building and financial check-ups due to the availability of lump sum funds through tax refunds. Tax preparation also has economic and legal ramifications for everything from employment to homeownership. Over 75 percent of households receive a tax refund, 1 and social policy is now routed through the tax code with housing, education, and work credits. Yet, there is very little regulation and oversight of the tax preparation industry. For lowand moderate-income families, their tax refunds may be the single largest chunk of money that they will receive during the entire year, especially if they are recipients of the Earned Income Tax Credit (EITC). Only a handful of states (Maryland, Oregon, New York and California) provide oversight for storefront paid tax preparers. The federal government issued regulations in 2011 requiring testing, registration, and continuing education, only to find them entrenched in a court battle. The D.C. Court of Appeals ultimately ruled that IRS did not have the authority to institute a registration program, which means that Congress or state legislatures must pass laws to oversee paid tax preparers. As an organization that provides high-quality free tax preparation through the Volunteer Income Tax Assistance (VITA) Program, Neighborhood Housing Services of Greater Cleveland values training, quality, and the integrity of clients. 2 Working with the National Consumer Law Center (NCLC), Florida Alliance for Consumer Protection, and Reinvestment Partners NHS tested the process and competency of paid tax preparers. 3 By enlisting trained secret shoppers, NHS conducted testing of ten local paid tax preparers (five for each shopper). Testers posed as taxpayers who asked preparers to fill out, but not file, federal tax returns based on one of the scenarios. Each scenario provided a reason as to why the taxpayer did not want to file their tax return electronically with the preparer. Each tester also had already actually filed their own taxes with their Social Security Number, so that in the unlikely event that a preparer did e-file contrary to the testers instruction, the IRS would automatically rejected the return.. The scenarios for the secret shoppers were created based on typical clients that NHS serves at the VITA site. Commonly, low- and moderate-income clients have multiple W2s, interruptions in income, sideincome not reported to the IRS, and 1099 forms signifying different types of income for which taxes have not been withheld. Many families have social dynamics that include nontraditional child care and living situations making the EITC more difficult to interpret. Finally, NHS tax clients are 70 percent female. The two scenarios below take those considerations into account. 1 Data from IRS Stakeholder Partnerships, Education & Communication (SPEC) Returns Database for Tax Year Returns Filed through June 30, 2014 (Jan. 2015). 2 The NHS of Greater Cleveland VITA program provides 1,000 families with free tax preparation each year leveraging more than $1 million in free refunds using highly trained volunteers who are certified by the IRS. 3 NHS worked with the National Consumer Law Center and other testing groups but testing results and this report are the responsibility of NHS. See Chi Chi Wu (2015), Prepared in Error: Mystery Shopper Testing in Florida and North Carolina Finds Serious Errors in Tax Preparation Services National Consumer Law Center: This research was funded by the Annie E. Casey Foundation. We thank them for their support but acknowledge that the findings and conclusions presented in this report are those of the authors alone, and do not necessarily reflect the opinions of the Foundation. Neighborhood Housing Services of Greater Cleveland Prepared in Error 1

3 Scenario 1: Single Parent Scenario 1: Single Parent Wages: $22,700/year from an administrative assistant job, reported on a W-2 Side Business: Selling craft jewelry; approximately $800 to $1,000 income in non W-2 income for 2014 Child: 3-year-old daughter This scenario involved a single parent with a child. In all testing, the tester was a female. The scenario was constructed so that the tester was not entitled to claim the daughter as a dependent for the EITC. Testers were instructed to state that the daughter spends weekdays with the father and weekends with the tester. Furthermore, the tester was to inform the preparer that the father s mother (grandmother) provides childcare for the daughter during the week. Scenario 2: Graduate Student with irregular wages Scenario 2: Graduate Student Wages: $9,180 from a paid internship at a local nonprofit reported on a 1099-MISC Additional income: $1,000 in wages from helping start-up companies design websites, not reported on a W-2 or This scenario involved a graduate student at a local university. The student earned $9,180 by working over the summer, holidays, and a few hours each week as a website designer for start-up companies. This income was reported on a 1099-MISC. The student also had $1,000 in income from on the side work as a website designer. As a graduate student, the tester did not report any student loans or tuition payments to deduct. 4 Scenario 1: Results from Scenario 1 reveal problems in understanding the EITC and the need to claim non-taxed income. Table 1, below, displays the overall results of testing. None of the five paid preparers prepared the return correctly. Additionally, all five preparers told the tester that she could and should claim her daughter on the tax return and for the EITC. The results for reporting side income for jewelry sales were more mixed with three preparers telling the tester to claim the income and two advising not to claim the side-income without documentation. Several reported conversations during the tax preparation process were troubling. Two of the five paid preparers were on cell phones during the tax preparation process and not engaging with the client. One large chain preparer told the tester to, claim your child quickly, before someone else does. This same preparer told the tester, doing a Schedule C is no fun and you don t have to do that if you have no receipts. The two large chain preparers who did accurately tell the tester they would have to file a Schedule C for the untaxed income were incorrect with respect to their advice in claiming the EITC. One 4 Scenario 2 for NHS is different than in the NCLC study. NHS did not use a mutual fund distribution but rather a 1099-C form, which is more common for NHS clients. Neighborhood Housing Services of Greater Cleveland Prepared in Error 2

4 chain preparer told the tester, you can always claim the EITC since you are the mom. Another chain preparer told the tester that you can claim half the credit (EITC) since you had her half the time. As previous reports found, price estimates were difficult to obtain from preparers. Ranges varied, from $150 to more than $400. Two preparers indicated the computer would tell them what to charge and only gave a range when pushed by the tester. The lack of ability to compare prices is a problem for consumers. Table 1: Preparer Type Claimed the Child Jewelry Income Refunded Amount or Balance Due Estimated/Quoted Tax Preparation Fee Large Chain 1 Yes No $8, $150 Large Chain 2 Yes Yes $2,531 $276 Large Chain 3 Yes Yes $2,836 $289 including state return Large Chain 4 Yes No $3,134 Could not predict w/o Schedule C. Likely owe about $200 but it depends on your write-offs to balance the Independent 1 Yes No Schedule C. Won't know until all forms are complete. Between $200 and $400. "The Computer tells me what to charge you." $150 plus additional for Schedule C Scenario 2: Graduate student with 1099 and untaxed income Under Scenario two, none of the five tax preparers filed the return accurately. Table 2 displays the results of the secret shopping. All five told the tester she did not have to report the sideincome that was not reported on a W-2 or Only one preparer correctly used a Schedule C to declare the income that was reported on the 1099-MISC, the others told the tester they would file it as wages. Comments during the process made by the preparers demonstrated a lack of understanding of 1099 forms and Schedule C returns. When asked about receipts to help with a Schedule C, the large chain preparer said I didn t hear anything. Another large chain preparer told the tester that a Schedule C is only needed if the income exceeded $2,500. Finally, a large chain preparer told the tester that only if she had receipts does she need a Schedule C. The fees were consistent with Scenario 1, ranging from $150 to $230. Neither Scenario provided testers with actual fee schedules or written estimates of costs. Additionally, testers were told they could not take their returns, even if paying for them, because they were not filed. Some preparers responded that Neighborhood Housing Services of Greater Cleveland Prepared in Error 3

5 the return preparation was on the computer and not able to be printed until it was filed. Other preparers indicated that the return was proprietary until it was filed. 5 Table 2: Preparer Type 1099-C Correctly Side Income Refunded Amount or Balance Due Large Chain 1 No No Owed $834 $150 Large Chain 2 No No Owed $945 $175 Independent Preparer 1 No No Owed $834 $169 Large Chain 3 No No Refund $120 $229 Independent Preparer 2 Yes No Owed $200 $189 Estimated/Quoted Tax Preparation Fee Conclusion: Mystery shopper testing in Ohio reveals that tax preparation by commercial paid preparers, despite being important to households, suffers from serious process issues and a lack of transparency and disclosure in the fees charged. As tax refunds have increased, clients have become less sensitive to price, since costs are deducted from the refund rather than paid outright. Clients also struggle to compare and contrast prices and services. It is difficult to get information about credentials, history, and rates of paid tax preparers as NHS testing continues to show. This study finds serious problems in the process of claiming the EITC and reporting 1099 and side income. In all, none of the ten preparers (both major chains and intendent) calculated and filed the tax return correctly. This is comparable to the larger study by the NCLC, which found 90% inaccurate returns in their 2015 study. 6 It reaffirms the critical need for minimum competency requirements, ethical standards, and disclosure in Ohio, as well as the other states that do not prescribe minimum credentials for tax preparers. 5 This situation was unique to Ohio. Other advocates were able to get their printed returns during testing. 6 Chi Chi Wu, Prepared in Error, supra note 3. Neighborhood Housing Services of Greater Cleveland Prepared in Error 4