IRS improper payments on tax credits increased last year

The Internal Revenue Service’s overall improper payment rate on tax breaks like the Earned Income Tax Credit increased from 21.9% in fiscal year 2024 to 26.5% in FY 2025 and the total estimated improper payments amounted to approximately $28.1 billion, according to a new report.

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The report, released last week by the Treasury Inspector General for Tax Administration, is mandated by the Payment Integrity Information Act of 2019 and requires agencies such as the IRS to annually report on all programs and activities and identify those that may be susceptible to significant improper payments. The IRS has four programs considered to be susceptible to improper payments: the Additional Child Tax Credit, American Opportunity Tax Credit, Earned Income Tax Credit and Net Premium Tax Credit. All of those are refundable tax credits, which can produce a refund even if the taxpayer doesn’t have a tax liability. 

For fiscal year 2025, the IRS did not comply with all the requirements of the 2019 law, whose goal is to reduce the improper payment rate to less than 10% for the four high-risk refundable tax credits. In addition, the IRS failed to demonstrate improvements to payment integrity, the report found. 

For the IRS to effectively reduce improper payment rates and prevent financial loss to the federal government, it would need to prevent refunds from being issued during return processing, TIGTA noted. The IRS runs different kinds of automated checks on a tax return before paying a refund, but has limited ability and information to verify taxpayer eligibility on a timely basis. For example, the IRS reported that from fiscal years 2023 through 2025, it used math error authority to reduce total claims by approximately 2% ($7.6 billion), adjusting claims from $330.5 billion to approximately $322.8 billion. Outside of its existing math error authority, though, the IRS doesn’t have sufficient or reliable data to systemically prevent ineligible individuals from receiving refundable credits. For example, relationship eligibility criteria can’t be verified at the time of filing,which is particularly important for the Additional Child Tax Credit. Therefore, the IRS generally must examine questionable refundable tax credit claims before issuing a refund to prevent financial loss to the government. However, the IRS reported that it examines less than 1% of returns claiming these credits. 

In addition, in the past three fiscal years, prerefund examinations of refundable credits have declined by approximately 70%. The IRS indicated it would continue to focus on outreach and education as opposed to increasing examinations in a prerefund environment. 

“However, these strategies make little impact on the IRS’s overall improper payment rate,” said the report. “Without legislative intervention, it is likely the IRS’s improper payment rate will continue to remain above the 10% threshold.”

TIGTA made five recommendations to the IRS including that it should: work with the Treasury Department’s Office of Tax Policy as well as Congress to request legislative changes to refundable credits eligibility; increase correctable error authority; create data sharing agreements with external partners to systemically verify refundable credit eligibility; and improve its social media strategies. IRS officials agreed with all of TIGTA’s recommendations.

In response to the report, the IRS noted that the main drivers of improper payments for refundable tax credits are the complexity of the statutory eligibility requirements in the tax laws, along with the IRS’s limited ability to verify self-certified information from taxpayers before issuing refunds to them. 

“Unlike traditional payment programs, refundable tax credit improper payments generally are overclaims that arise within overall tax administration,” wrote IRS CFO Todd Newmam. “These challenges are more appropriately considered within the broader context of tax compliance and the tax gap, where they can be evaluated alongside other forms of noncompliance. The IRS will continue to strengthen payment integrity through taxpayer outreach and education, data-driven compliance strategies and collaboration with the Department of Treasury and Congress to address the underlying statutory and systemic challenges associated with RTCs.”

The report acknowledged that one reason why examinations are decreasing is due to reductions in staffing. In FY 2025, the IRS’s Refundable Credits Examination Operations Unit lost about 20% (86 examiners) of its 439 examiners. The IRS has also reported that budget reductions resulted in decreased examination staffing. When the IRS received additional funding through the Inflation Reduction Act of 2022, former Treasury Secretary Janet Yellen directed the IRS not to increase examinations for taxpayers earning $400,000 per year or less. 

In October 2020, the IRS estimated it would need to examine 4.2 million more tax returns from EITC recipients before issuing the refunds to be compliant with the 10% goal. That’s more than the IRS identifies annually for potential examinations. At the time, the IRS estimated the additional examinations would cost more than $2.5 billion (at an average of $595 per exam). Applying the IRS’s current average cost of $804 for prerefund examinations, TIGTA estimates the cost to conduct 4.2 million additional examinations has increased to $3.4 billion a year. In addition, TIGTA estimates the IRS would need 12,700 more examiners to do the additional examinations that the IRS estimates are needed.