Only 0.7% of charities were examined by the IRS last year.

Charitable organizations play a major role in the U.S. economy, providing critical services and resources to those in need.

Internal Revenue Service oversight helps ensure that charities abide by the purposes that justify their tax-exempt status and protects the sector from potential abuses and loss of confidence by donors.

However, budget cutbacks in recent years have called into question the adequacy of IRS oversight.

A review released this month by the Government Accountability Office found that the IRS needs to improve its oversight of charitable organizations.

The GAO review was requested by Sen. Tom Coburn (R-Okla.) in response to an investigation last year by the Tampa Bay Times and the Center for Investigative Reporting on the worst tax-exempt organizations in the country.

The reporters found 50 charities who paid $1 billion to for-profit donation solicitors while giving little in actual aid to their causes. The groups often took names similar to those of well-known charities.

GAO said it had reviewed and analyzed IRS data and strategic planning and performance documents, and documented improvement efforts. It also interviewed IRS and Department of Justice officials, state charity regulators and subject matter specialists. And the agency compared IRS’ practices to federal guidance on performance management.

Reduced IRS Budget

The review found that although charitable organizations varied considerably in size and purpose, in 2011 the largest number of organizations was in the human services sector, providing employment and housing assistance among other services.

The highest concentration of assets was in the health and education sectors, which include hospitals and universities. Besides being concentrated in a few sectors, less than 3% of nonprofits held more than 80% of the assets.

In recent years, budget cuts at the IRS have reduced the number of full-time equivalent staff within the Exempt Organizations division, in turn leading to a steady decrease in the number of tax-exempt organizations examined, the review found.

According to GAO data, the examination rate for charities last year was 0.7%, down from 0.8% in 2011, and lower than the 1% exam rate for individuals and 1.4% for corporations.

The review said that although EO had some compliance information, such as how often exams resulted in change of tax-exempt status, it did not have quantitative measures of compliance for the charitable sector as a whole, for specific segments of the sector or for particular aspects of noncompliance, such as personal inurement or political activity.

Because EO did not have these measures and did not know the current level of compliance, it could not set quantitative, results-oriented goals for increasing compliance or assess to what extent its actions were affecting compliance, the GAO said.

The report noted that statutory requirements for safeguarding taxpayer data limited both IRS’ ability to share data and state regulators’ ability to use the data. Moreover, it said, a lack of clarity about how state regulators were allowed to use IRS data to build cases against suspect charities further impeded regulators’ ability to leverage the IRS’ examination work.

The GAO reported that the e-filing rate for tax-exempt organizations was significantly lower than for other taxpayers, resulting in less digitized data available for data analytics and higher labor costs for the IRS.

Recommendations

GAO recommended that the IRS should develop compliance goals and additional performance measures that could be used to assess the effect of enforcement activities on compliance.

It said IRS should clearly communicate with state charity regulators how they are allowed to use IRS information related to examinations of charitable organizations.

GAO also recommended that Congress consider expanding the mandate for 501(c)(3) entities to electronically file their tax returns to cover a greater share of filed returns.

It said expanded e-filing could result in more accurate and complete data becoming available in a timelier manner, which in turn, would allow IRS to more easily identify areas of noncompliance.

It said that IRS had agreed with its recommendations in written comments.

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