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Data mining-combing through computer databases for information about individuals-is increasingly employed by multiple government agencies, including the Internal Revenue Service (IRS), according to a recent report of the U.S. General Accounting Office (GAO), “Data Mining: Federal Efforts Cover a Wide Range of Uses,” GAO-04-548. The Federation of Tax Administrators describes it as a trend “where everybody is headed.” The practice of data mining by taxing authorities has gained widespread support because it promises to increase efficiency for all parties in the tax-compliance process. However, if unchecked, data mining also increases the vulnerability of sensitive taxpayer personal information and consequently threatens taxpayers’ constitutional right to privacy. The United States’ system of tax compliance is in a state of flux. The rapid adoption of data mining by both federal and state taxing authorities is the first step of a fundamental change in the relationship between the taxpayer and the government. The California Franchise Tax Board, for example, implemented a “nonfiler” system in the late 1990s; this year, it sent 23,000 state-completed tax returns to select taxpayers. The tax returns were automatically prepared from collected personal data and then sent to taxpayers for mere review and signature. While databases containing taxpayers’ personal information are still in the developmental stages, they can include taxpayers’ travel, purchase and professional history as well as taxpayers’ credit card statements, U.S. Customs and Border Patrol duties, motor vehicle registrations, bank and brokerage account statements and professional licensing records. This is in addition to the standard W-2 and 1099 forms. Databases grow when agencies share data, contract with commercial data-gathering companies and pay more attention to retaining and organizing data. Convenient? Yes. Worrisome? Indeed. Privacy advocates are waving a red flag, and with good reason. Even the GAO has acknowledged that precautions are necessary, finding that “long-term efforts are needed, such as the development of standards, research into cybersecurity vulnerabilities and technological solutions,” regarding the use of modern technology in federal agencies. The development of standards for the use of data mining in the tax-compliance process should begin with the establishment of a legal right to comprehensive privacy protection at all stages of the collection, maintenance and use of taxpayers’ personal information. Such comprehensive privacy protection will help balance tax-compliance efficiency and enforcement with ade- quate privacy protection. The Federal Trade Commission reports that, for the past 25 years, government agencies in the United States, Canada and Europe have together studied the collection and use of personal information. The studies have resulted in the development of widely accepted principles concerning fair information practices. They have become known as the fair information practice principles or FIPP. They are: notice/awareness; choice/consent; access/participation; integrity/security; and enforcement/redress. The principles have had some positive influence in legislative developments, including the Computer Matching and Privacy Protection Act of 1988 (imposing protections, such as procedural uniformity, due process and oversight of programs for personal records used in government automated matching programs); and the Gramm-Leach-Bliley Act of 2000 (eliminating barriers between banking and commerce, including restricting disclosure of nonpublic personal data and requiring disclosure of certain privacy policies and practices). Both of the acts require federal agencies to notify individuals when and how their personal data are used and impose restrictions on permitted uses of collected information. Only the Gramm-Leach act, however, requires the implementation of appropriate protections. Unfortunately, while the fair information practice principles have served as a basis for evaluating new laws, they have never been codified; therefore, there is no legal standard for comprehensive privacy protection-taxpayers have only received piecemeal privacy protection. The IRS involvement Evidence of the principles is also found in the IRS Restructuring and Reform Act of 1998, which requires the IRS to give taxpayers prior notice of contact with third parties as well as other IRS disclosure obligations during an “examination.” But when has an IRS examination occurred? The IRS uses a variety of methods to evaluate returns before contacting a taxpayer for an audit. It currently pays special attention to offshore credit card users, high-risk/ high-income taxpayers (and nonfilers), evidence of abusive schemes and promoter investigations. These preliminary investigations do not constitute audits and IRS actions are not subject to otherwise applicable protections. By digesting large amounts of diverse taxpayer information, these preliminary investigations become comprehensive examinations. Data mining may be the future of tax compliance, but efficiency should not compromise taxpayer autonomy and independence. As federal, state and local governments consider legislation and practices to enhance tax administration, taxpayers should be able to monitor and help maintain correct and accurate personal information databases. William J. Kambas is a tax consultant at Ernst & Young and writes about consumer privacy and tax policy.

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