Muni tax lawyers hopeful about IRS fund infusion

BY SourceMedia | MUNICIPAL | 09/29/22 02:11 PM EDT By Scott Sowers

Concerns about the Internal Revenue Service's ability to keep up to speed have some muni bond tax attorneys hopeful about the agency's promised funding increase.

Partisan politics has pulled the agency's modernization efforts into the headlines, but many see low hanging fruit in the form of improved security and increasing awareness of the Tax Exempt / Government Entities secure messaging system known as TEBConnect. The browser-based tool provides an antidote to fax machines and the mail.

"TEBConnect is relatively user friendly and provides a way for issuers and borrowers to electronically send materials?which are often voluminous?to the IRS in response to the agency's information requests in examinations of tax-exempt bond issues," said Johnny Hutchinson, partner, Nixon Peabody LLP.

The tool's untapped potential may be tied the agency's reluctance to try new things. "It appears to be gaining acceptance among IRS agents as they become more comfortable with using it," said Hutchinson. "TEBConnect represents an upgrade over the former system, which required issuers to load the required information onto a removable disk, such as a USB thumb drive, or to fax or mail documents to the IRS."

The IRS is slated for an $80 billion funding increase thanks to the Inflation Reduction Act signed into law by President Biden in August. The additional funding will boost the IRS's budget from around $12 billion per year to roughly $20 billion, a 66% increase.

The act calls for over $45 billion for enforcement, over $25 billion for operations and $4.8 billion for business system modernization.

The jump in funding has some politicos howling mad about an eventual enforcement overreach and already putting targets on the numbers.

The age of the equipment being used by the IRS dates back several decades and depends on a pipeline of paper that has completely flooded the agency's cafeteria in Austin, Texas with thousands of files. In July, the agency confirmed a backlog of 10.2 million unprocessed individual tax returns. The sophistication level and age of the government's equipment are a cause for concern.

"The IRS stores and processes very sensitive personal and financial information, including social security numbers, income, and financial accounts, among other details," said Jason Kravitz, partner, Nixon Peabody LLP. "It has been reported that the IRS and other federal agencies often use dated software, which creates a rich target for hackers. Cybercriminals definitely know this."

Vulnerabilities also appear on the other side of the transaction. "Bond issuers are prime targets for cybercriminals because local governments often store sensitive information about businesses and residents," said Kravitz. "They often lack the resources to harden their network defenses. This makes them easy marks for bad actors."

Working from home has made cyber security even more challenging. Kravitz said individuals communicating with the IRS from home should use VPNs rather than relying on open networks. They should also avoid personal computers unless they have been properly protected, he said.

In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so avoiding losses caused by price volatility by holding them until maturity is not possible.

Lower-quality debt securities generally offer higher yields, but also involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

Before investing, consider the funds' investment objectives, risks, charges, and expenses. Contact Fidelity for a prospectus or, if available, a summary prospectus containing this information. Read it carefully.