The theft of employer identification numbers for use in refund fraud does not get as much attention from the press, the public, and the IRS as the theft of Social Security numbers and taxpayer identification numbers, but when it happens, victims have little recourse.
The extent of EIN theft is unclear. The IRS has released information about tax-related identity theft, but it does not differentiate instances in which a stolen EIN is used in conjunction with other fraudulent identification numbers.
"We don't see the identity theft concern as being quite as great" for EINs compared with other tax ID numbers, Nancy Rose, branch 2 senior counsel, IRS Office of Associate Chief Counsel (Procedure and Administration), said on a February 7 phone call with payroll industry practitioners.
Debera Salam of Ernst & Young LLP said, however, that large companies are plagued by the problem and that it is difficult to combat.
Salam explained to Tax Analysts how a company could become a victim of EIN-related tax fraud. A fraudster can file a bogus income tax return with a fabricated Form W-2 that includes a legitimate EIN and bogus wages. The IRS receives the return and issues the refund to the fraudster. Later, the IRS matches refunds against the Forms 941, "Employer's Quarterly Federal Tax Return," filed by the employer, which reveals a discrepancy. The IRS then charges the employer for the false refund.
There may be thousands of fraudulent transactions using a stolen EIN before the employer or the IRS notices the discrepancy, Salam said. The employer may not know why there is money owed to the IRS and may pay the charges. The fraud may go undetected unless the employer or the IRS figures out what is happening. "The employer may never investigate it and is footing the bill," Salam said. "People are really getting robbed."
Victims of EIN theft are often at a loss for what to do, Salam said. There is little guidance from the IRS about EIN theft and how to protect against it compared with SSN or TIN theft, which is much more publicized, Salam said. It can take several months to a year for a victim to sort things out with the IRS, she said.
Robert J. Foley of State Street Bank and Trust Co. agreed that EIN theft is a problem. In comments submitted to the IRS in response to recently released proposed regs (REG-148873-09) regarding the truncation of TINs on statements, Foley said that truncation should be allowed for EINs as well, which the rules do not currently allow.
"The privacy concerns are identical, particularly for small businesses and closely-held entities," Foley wrote. "Unless there is a material reason to bar protection of entity identifying information, we support the extension of the proposed regulations to EINs."
"We're working on some of those issues internally at the IRS," said John Tuzynski, employment tax operations chief, IRS Small Business/Self-Employed Division. "I know we have some things already operational this year, some things planned for the future," he said, but he did not elaborate.
Asked what entities should do to protect EINs, Tuzynski said only that employers should "be really diligent on the information that [they] have out there." An IRS spokesperson did not respond to a request for comment.
Salam said EIN theft is similar to a long-running problem of payroll check fraud in which fraudsters cash fabricated payroll checks. That problem was largely solved with a system called Positive Pay, in which an employer sends to the bank a list of the payroll checks it has issued, and checks that are not on that list will not be cashed. Something similar is needed to guard against tax-related wage fraud, Salam said.
There is a program at the IRS that does just that, but it is not well publicized. Under the little-known program, the IRS will solicit wage information from large employers, which are the most vulnerable to EIN theft, to guard against refund fraud, Salam said.
Pete Isberg of the industry trade group National Payroll Reporting Consortium elaborated on the program in comments for a public hearing last year on the proposed real-time tax system:
Increasingly in recent years, large employers are being contacted by specialized units within the IRS to request electronic W-2 data long before it is due to be filed with the Social Security Administration. This information is requested on a voluntary basis in order to enable the Service to validate claims of earnings and withholding during the tax season; i.e., to identify potential fraudulent W-2s and prevent refund fraud. The IRS typically accepts such information in any form the employer is able to provide; typically a copy of the W-2 file prepared for submission to the SSA is accepted. Thus, in practice, earlier availability of W-2 data to the IRS from employers directly has proven valuable.
Isberg told Tax Analysts that the program has been around for at least five years but is primarily open only to very large employers. The program is helpful and should be expanded, but it is not clear whether the IRS has the resources or the capability to open it up to more entities, he said.
National Directory of New Hires
Another process that could help guard against EIN theft and refund fraud is expansion of the IRS's access to the National Directory of New Hires (NDNH), Salam said. Every state mandates that employers report new employees, who are then added to the database, she said. If the IRS had access to the directory, it could verify refund requests by matching employees in the database to the employer corresponding to the EIN listed on a return, Salam said. If the IRS is given expanded access to the directory, it should be enlarged to include all employees rather than just new hires, she said.
The IRS already has access to the NDNH but can use it only for purposes of administering the earned income tax credit. The Treasury Inspector General for Tax Administration has recommended that the IRS seek legislative authority to expand the use of the database. The IRS has included such an appeal in its last four budget requests, but Congress has not acted on it. The Obama and George W. Bush administrations have also advocated for that legislation. Last year, House Ways and Means Committee member John Lewis, D-Ga., introduced a bill (H.R. 5543) that would have granted the IRS expanded access to the NDNH, but it did not make it out of the committee. A Ways and Means Democratic aide said it was unclear whether Lewis or any other member would introduce a similar bill in this Congress.
Expanding the IRS's access to the NDNH would be more practical than building a new system from scratch, which is being attempted elsewhere, Salam said. Illinois, for example, requires large employers to submit monthly wage reports, she said. Pakistan is building a national database of fingerprints in part to guard against fraud, she said.
Earlier information reporting to the IRS could go a long way toward addressing wage and tax fraud, but implementing that solution would be complicated, Isberg said. Employers have until January 31 to provide employees with Forms W-2, and until March 31 to report wage information to the IRS, well after the filing season has begun. That means the IRS must use a lookback approach, in which it compares reported wages with information on returns that have already been submitted and for which a refund may have already been issued. Reporting deadlines being pushed forward could allow the IRS to compare refund claims with already reported wage information.
Implementing earlier deadlines could be problematic, Isberg said. Employers need a month to prepare Forms W-2 because they must compile information that may not even be known until two weeks or more after December 31. Some third-party administrators, for example, are not required to provide information to employers until January 15. Employees also need time to look over Forms W-2 and report any errors, Isberg said.
Payroll industry professionals have suggested that the IRS allow truncated EINs in addition to truncated SSNs and TINs on some forms. Janice Krueger of software developer Greatland Corp., which is a third-party transmitter of Forms 1099, said in comments submitted in response to the truncated TIN regulations that allowing truncated EINs would contribute to the prevention of TIN theft.
Payroll software may not distinguish between EINs and TINs, so users of it may not be able to tell whether the number can be truncated on a statement. "In just one of Greatland's products, the type of TIN could not be identified on 17 percent of the total number of 1099s, which accounts for a fairly significant volume of returns," Krueger said.
Salam said that allowing truncated EINs could present its own set of problems. For example, tax return preparers need to know full EINs to fill out returns, she said.
Isberg said there was little that could be done to prevent EIN thieves from obtaining EINs. Some large companies publish their EINs online or in quarterly and annual financial filings. "There is not much you can do about it," he said.
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