A man holds his envelopes as he waits in line to mail his family's income tax returns at a mobile post office near the Internal Revenue Service building in downtown Washington
A man holds his envelopes as he waits in line to mail his family's income tax returns at a mobile post office near the Internal Revenue Service building in downtown Washington Reuters

As Congress makes it easier for taxpayers to collect refunds from the Internal Revenue Services (IRS), hundreds of thousands of crooks have been cashing in on loopholes in the US tax system by stealing people's identities, costing the debt-ridden federal government billions of dollars.

In a recent report by the Treasury Inspector General for Tax Administration (TIGTA), the IRS said that as much as $5.2 billion in fraudulent refunds claimed by 1.5 million additional return filings could have slid under the radar last year.

The IRS however identified about 1 million false returns and managed to ward off $6.5 billion in false returns filed in 2011. Over the next five years, the IRS could lose another $21 billion to tax refund frauds arising from stolen identities, TIGTA estimates.

Though the IRS has stepped up its efforts to uncover and prevent identity scams, it is weighed down by disquieting gaps in existing tax regulations. Under the current rules, third parties are not required to submit their incomes to the IRS until March 31. Moreover, they have leeway to withhold documents containing relevant information. Taxpayers, however, can start filing their returns from mid-January.

The gap of over two months impedes surveillance efforts by delaying access to third-party incomes and keeping IRS officials in the dark about important bits of third-party information at the time the tax returns are actually filed, TIGTA said in its report.

As the IRS struggles to keep up with the growing spate of identity frauds, scammers are turning to direct deposits and debit cards to claim refunds fraudulently and escape detection from the agency. Even so, the IRS continues to make room for multiple direct deposits to the same bank account -- a red flag for investigators hunting for impostors who could be filing for refunds for many people at once.

Depositing hundreds of refunds into the same bank account makes it exceedingly difficult for the IRS to recoup duplicitous tax refunds issued to debit cards. In one example, the IRS deposited 590 refunds into one account. These refunds add up to nearly $1 million.

"We found multiple reasons for the IRS's inability to detect billions of dollars in fraud," J. Russell George, the Treasury Department's inspector general for tax administration, said in a statement. "At a time when every dollar counts, these results are extremely troubling."

The tax refund scam not only erodes public confidence in a system that is supposed to be safe and reliable, but also makes people increasingly insecure about what could happen to them, officials suggest. That bubbling anxiety comes from existing processes and systems, including easy access to social security numbers of deceased people and the simplicity of opening credit card accounts in the names of other people who might have forgotten to shred a letter that bears their address on it.

Another recent trend suggests that offenders have started robbing the identities of unsuspecting low-income people who are legally exempt from filing tax returns themselves, the TIGTA report indicated. The ease with which the theft can go undetected for a long period of time is appalling because there's no angry taxpayer to rant about an identity theft to tax officials.

The IRS recommends process-driven changes to the current system of information filing, including expediting the process of information filed by employers. However, the flummoxed officials face a triple whammy: legislative approval, protests from the business community and inordinate time to bring about those changes.

In some cases, Congress has turned a blind eye to IRS pleas for additional authority to help it fight the tax refund identity theft problem, the agency's commissioner Doug Shulman suggested, when he addressed his concerns at a House committee hearing on Thursday.

Meanwhile, new legislation may be coming to curb identity fraud in the tax regime. Last week, Sen. Bill Nelson (D-FL) reached out to Sen. Tom Coburn (R-Okla) with a proposed bill that will improve protections for Social Security numbers that fraudsters need to file their returns. The bill also seeks to expand outreach efforts for a current program that offers previous ID theft victims a personal identification number to discourage repeated offenses against the same person. Another bipartisan bill that won the House's seal of approval on Wednesday aims at imposing stricter criminal penalties on the wrongdoers.

The IRS is scampering to put in place new ID theft screening filters that will keep the refunds on hold until taxpayers' identities are verified.

The damning report comes at a time when Republicans are questioning the effectiveness of the IRS.