IRS Fraud Drive Slows Refunds to Needy Taxpayers

Cynthia Jones had to borrow money to pay the rent, buy clothes for her children and re-register her car--and she blames the IRS.

An Internal Revenue Service crackdown on fraud is wreaking havoc with the financial lives of millions of lower-income Americans, including Jones, an Ontario mother of four who says she is still waiting for a refund on the tax return she filed electronically in mid-January.

“I count on that money,” Jones says. “It’s like missing a paycheck.”

Jones’ predicament is the result of an unprecedented IRS campaign to stop tax refund fraud by conducting lengthy and stringent inspections of returns filed predominantly by low-income Americans. As a result, an estimated 7 million to 10 million taxpayers are waiting an unusually long time to get their refunds this year.

While delayed tax refunds are unpleasant for anyone, many of the low-income taxpayers targeted in the IRS probe rely on their refunds as a vital portion of their annual income. They are being forced to cancel vacations, postpone house repairs, miss rent payments and take out loans they cannot afford, many say.

Indeed, so many refunds have been delayed this year--believed to be the highest rate of delays since the IRS revamped its computer system in 1985--that it may even be partly responsible for the recent cooling in the national economy.

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Retail sales were down more than one percentage point in February, and the growth of inflation-adjusted consumer spending is expected to drop below 2% in the first three months of this year, down from a healthy 5% clip in the fourth quarter of 1994, says Gary Schlossberg, economist at Wells Fargo Bank.

“We’re coming off a very strong fourth quarter, which we knew would be unsustainable after the Christmas season,” Schlossberg says. “But the fact that these people (who rely on their refund checks) are now having to deal with a higher level of debt hasn’t helped.”

The IRS says it regrets the hardships on taxpayers but maintains that its crackdown on fraud is long overdue. In particular, roughly 20% to 25% of all claims for the earned-income tax credit--a tax break aimed to benefit lower-income individuals by refunding Social Security taxes paid by workers and employers--are exaggerated, falsified or riddled with mistakes, the agency estimates. Up to $5 billion in revenues is lost each year to tax fraud overall, says IRS spokesperson Deborah Guajardo.

“We’re not intentionally trying to make life difficult for anyone, but we do have a responsibility to the national Treasury and to the taxpayers at large to reduce fraud,” Guajardo says.

“We have to distinguish between those who are playing by the rules and those who are trying to defraud the government,” she says. “There’s a significant amount of money at stake. We’d rather do it right even if its takes a little longer.”

Fortunately, the impact on the economy of delayed refunds is expected to be short-lived, since the bulk of refunds that have been delayed will presumably be paid later. But for low-income individuals, the hardship may prove lasting.

Laura Marquez says that she and her husband paid $113 to file their tax returns electronically and ensure receipt within three days of a loan based on her expected refund. Instead, the Santa Ana couple got only a partial payment, and a few weeks ago received a letter from the IRS asking them to pay back the money until their filing clears.

“They told us it might take up to an entire year to receive full payment. By then it will be time to file our returns again. It’s ridiculous,” says the mother of three who is more than reluctant to return the much-needed money.

“They called it an overpayment, but it’s not. My husband has worked really hard for that money. He’s earned it, and they owe it to us,” Marquez says.

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Having overspent during the Christmas season, Ontario mother Jones also was left “high and dry” when she received a letter from the IRS a month ago informing her that payment of her earned-income tax credit--the larger portion of her refund--would be delayed eight weeks.

“I live from paycheck to paycheck. I make enough to cover the bills and buy the groceries, but I don’t have money saved to buy extras like Christmas presents for the kids,” says Jones, who works at a Los Angeles-based wholesale flower market. “Thinking I’d get the (refund) money on time, in December I spent my paycheck on things I wouldn’t have otherwise. I’ve been in debt ever since.”

Much of the hardship springs from the IRS’ decision to cross-check filing information with Social Security numbers. If a variation in an individual’s name, Social Security number or other personal information is discovered--as is common with newlyweds and children of recently remarried parents--approval of the filing is postponed until the discrepancy is cleared up, says Tom Zimmerman, executive vice president of H&R; Block Tax Services.

Also, the IRS is particularly targeting returns that claim the fuel tax credit or the earned-income tax credit. As many as half the people who claimed those credits will experience extended delays this year, tax accountants estimate.

As a result, tax refunds are running 20% behind this time last year. As of March 10, the IRS issued refunds totaling $23.3 billion, down about $5.9 billion from 1994. This comes as the IRS has in recent years speeded up the processing of refunds, thanks to improved automation.

“In its overzealousness to sift out fraudulent claims, the IRS has made a bureaucratic decision that has caused nothing but discomfort for hundreds of thousands of honest taxpayers,” says Gary Perkinson, spokesman for the Electronic Filing Coalition of America.

Deborah Moman, a receptionist at a Los Angeles architectural firm, faced unexpected hassles this year since the IRS started checking information on Social Security cards.

Because of a discrepancy in her son’s date of birth, Moman had to have her tax returns re-submitted electronically four times--resulting in a week’s delay--before her filing was finally accepted by the IRS. She was even compelled to make a personal visit to the Social Security office, taking time off work to clear up the mistake.

And although Moman received part of her refund within three weeks, the Culver City-based mother of two has been told that she will have to wait up to two more months for the remaining portion to arrive.

“I’m in the process of moving,” she says. “I used one part of my refund to pay the deposit and I was going to use the other part, which still hasn’t arrived, to pay first and last months’ rent. Now I’m going to have to use my next paycheck to do it, and that sets me back over a month.”

The IRS’ new cautiousness has also made it nearly impossible for low-income filers to solve their financial woes by securing loans against their tax refunds. In past years, these loans were widely available. Indeed, roughly 70% of the individuals who filed their returns electronically secured them, despite the fact that refund loans often came with effective interest rates of 100% or more.

But the anti-fraud crackdown has so drastically changed IRS procedures that loan companies say they can’t make the loans to low-income filers who are claiming the earned-income tax credit.

For families like the Paavolas in Upland, the unavailability of a refund loan simply meant their bills had to wait.

“In the past, we always got our loan within 48 hours. But this year they turned us down and we had to wait three weeks until our (refund) check came in the mail,” Tom Paavola says. “It made us look like fools. We’d promised people we owed money to that we would pay them back within a matter of days, but we couldn’t do it.”

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Paavola added that both he and his wife, Holly, were out of work at the time and had intended to use the money as a financial “cushion” while they looked for new jobs. But because the immediate loan was denied, the couple were forced to miss payments and skimp on groceries and other important household items.

Can taxpayers expect similar difficulties next tax season?

According to Guajardo, the IRS will streamline its fraud prevention system in coming years, shortening delays and increasing efficiency. Until then, taxpayers will just have to wait.

Times staff writer Kathy M. Kristof contributed to this story.