Tax Compliance Systems: New York State Saves $889 by Optimizing Fraud Detection

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New York State saves$889 million byoptimizing audit caseselection

The New York State Department of Taxation and Finance annuallyprocesses 24 million business and personal tax returns and collectsmore than $90 billion in state and local tax payments.

Closing the “tax gap”Which refunds should not be paid? Which tax returns should beaudited and investigated? For the Taxation and Finance Department ofNew York State, having the answers to these questions is key to maxi-mizing the amount of tax revenue collected and to confirming fairness.The vast majority of taxpayers are entitled both to the refunds theyrequest and to a prompt response from the state. However, tax evasiontechniques were getting more sophisticated and the state was not keeping up with the challenge of identifying refunds that should bedenied—the “tax gap” between what was owed and what was collectedwas growing.

“We wanted to provide a fair and equitable taxing authority to the citi-zens of New York State,” says Tim Gardinier, manager of the DataWarehousing Unit for the New York State Department of Taxationand Finance.

Focusing resources where it mattersWith implementation of the IBM® Tax Audit and Compliance System,the New York State Department of Taxation and Finance has trans-formed its approach from “pay and chase” to “next best case”—thepending case most likely to be questionable. The system proactivelyidentifies returns that are outliers and focuses constrained auditresources on those returns that seem most unusual. This sophisticatedsystem grew out of a long-term project to leverage information totransform the department’s operations.

OverviewThe NeedCombat sophisticated tax evasion tech-niques that can cost the state millionsand impact processing time for therefunds of honest taxpayers.

The SolutionA tax audit and compliance system withdata warehousing software that auto-matically rejects refunds that are clearlyineligible and directs auditors to onlythose returns that seem most unusual.

What Makes it SmarterThe system identifies new patterns ofquestionable returns to predict fraudand accurately prioritize audit cases soauditors can focus on returns with thegreatest potential to make a difference.

The Result“The system allows us to processrefunds faster, getting the money to thecitizens of New York quicker.”

—Tim Gardinier, Manager, DataWarehousing Unit, New York StateDepartment of Taxation and Finance

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SmarterGovernment:

Identifying patterns to predict fraud

Instrumented Captures history of each case and each return and feeds it into pre-dictive and behavioral models.

Interconnected Leverages information from across the department including taxpay-ers’ past interactions, data on businesses and employees, and datafrom other internal silos.

Intelligent The system analytically derives new business rules and identifies pat-terns of questionable returns to effectively prioritize audit cases andautomatically reject ineligible refunds.

Initially, the team created a department-wide data warehouse focusedon improving audit case selection that gave access to the history ofeach case and each return. This trusted source of information validatesand improves the business rules that drive the audit process. Createdand managed by business experts, these rules identify the cases thatshould be considered for audit.

Over time the department has been able to use this data warehouse toanalytically derive new business rules, find new patterns of questionablereturns, and add these rules to the system. The accessibility of the dataand the analytic tools has allowed the department’s business users todevelop and maintain these rules themselves. Most recently the datahas been used to develop predictive models. These behavioral modelspredict how likely a return is to be questionable, allowing the system toprioritize the cases that are least likely to be eligible. The system auto-matically rejects those refund requests that are clearly ineligible, pre-venting these cases from even entering the audit process. It then usespredictive models and business rules to make a decision as to the priority of each remaining case. As case officers complete each case, thesystem presents the next best case. This helps to ensure that thedepartment’s resources are always focused where they will make themost difference. With limited resources and a finite time in which tomake a decision—refunds cannot be held up indefinitely—the system maximizes the effectiveness of audit officers.

Business Benefits● Saved the state more than $889 mil-

lion, while allowing it to processrefunds faster

● Resulted in an increase from $56 million in refund denials per yearto more than $200 million withoutincreasing staff levels

● Increased the percentage of auditsthat found questionable refunds

● Enables staff to evaluate the effective-ness of different audit programs forongoing improvement

● Allows New York State to refund hon-est taxpayers more rapidly

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The department has steadily increased the amount of data involved inthe decision-making process. The data now includes taxpayer’s pastinteractions with the tax department—allowing a history of honestinteractions to drive future decisions—as well as data on businesses andemployees, and data from other internal information silos.

Saving $889 millionIn the five years the system has been operating it has saved New YorkState more than $889 million—$889 million of tax revenue that wouldhave been lost to the state and would have had to be made up withmore taxes on honest taxpayers or cuts in state services. This additionaltax revenue is a direct result of the effectiveness and efficiency of thesystem. The system is much more effective, increasing the percentageof audits that found questionable refunds. It is also much more effi-cient, with automated rejections and other efficiencies allowing existingstaff to process more cases. This has resulted in an increase from $56 million in refund denials per year to more than $200 million without increasing staff levels. Additionally, the system allows thedepartment to evaluate the effectiveness of different audit programsand has allowed a comprehensive and informative audit history to bedeveloped, setting the stage for ongoing improvement. As Gardiniersays, “The system allows us to process refunds faster, getting themoney to the citizens of New York quicker.”

“We wanted to provide afair and equitable taxing authority to thecitizens of New YorkState.”

—Tim Gardinier, Manager, Data WarehousingUnit, New York State Department ofTaxation and Finance

Solution ComponentsSoftware● IBM® Tax Audit and Compliance

System● IBM DB2® 9 for Linux®, UNIX® and

Windows®● IBM WebSphere® MQ Workflow

Services● IBM Global Business Services –

Business Analytics and Optimization

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