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QUESTIONS FOR MS. CYNTHIA BEERBOWER
DEPUTY ASSISTANT SECRETARY FOR TAX POLICY

DEPARTMENT OF THE TREASURY

In September 1994, at a House Ways and Means Oversight Subcommittee hearing, Internal Revenue Service Commissioner Richardson promised to look into the logistical problems plaguing the Diesel Fuel Dyeing Program (for example, the great lag time in refund claim processing).

What progress has the Commissioner made in this area, and what specific actions have been taken to make the program more efficient and fair?

The statute provides for two types of refund claims for tax on diesel fuel. Most refunds (without interest) are available to the ultimate user for the nontaxable (or reduced tax) use of the diesel fuel. For refunds of diesel fuel sold to farmers and State and local governments, refunds are available to the ultimate vendor. Ultimate vendor claims accrue interest unless they are paid within twenty days of receipt of a properly filed claim. Initially, a number of ultimate vendor diesel fuel refund claims that did not contain all of the required information were filed with the IRS. These claims were rejected and returned to the claimant requesting that the missing information be provided. The 20-day time frame for claims by ultimate vendors selling to farmers or State and local governments does not begin until the IRS has received all the information required to be filed with the claim form. From the taxpayer's perspective, this caused a delay in receiving the monies, and the refunds may not have included interest even though twenty days had elapsed since the initial (albeit incomplete) claim had been filed. The IRS has worked closely with industry groups and individual claimants to ensure that the filing requirements for diesel fuel claims are fully understood. These efforts have resulted in fewer claims being rejected for lack of required information.

Currently, over 95 percent of the ultimate vendor diesel fuel claims filed are paid within the twenty days provided by the statute before interest accrues to the claimant.

While ultimate user diesel fuel tax refunds do not have the same twenty-day expedited payment process, the IRS has established a 45-day time frame for processing these refund claims. This is the same time frame for processing income tax and gasoline excise tax refunds. Currently, over 96 percent of these claims are processed and paid within the 45-day period.

I believe that a working group was established to look into this matter in late spring of 1995.

What are that group's recommendations?

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The processing and refunding of diesel fuel claims was studied as part of a larger task force effort that reviewed IRS' system for processing and refunding all types of excise tax claims. The Excise Tax Claims Task Force was initiated in June 1994, with the express purpose of assessing the operational effectiveness and efficiency of the excise tax claims process, with emphasis on fuel claims. After evaluating the overall operations of the system, recommendations were to be made in the areas of: compliance detection, system operations, and reduction of taxpayer burden.

The task force made numerous recommendations for improving the refund process of all excise tax claims. The major recommendation was that the IRS should centralize the filing and processing of all excise tax claims in one service center. If this recommendation were adopted, it is believed that it would be less costly and more feasible to adopt the remaining recommendations.

The IRS would be happy to provide a briefing for the Committee members and staff on the specific recommendations. The specific recommendations and IRS plans for implementation are a part of our ongoing law enforcement effort to detect specific fraudulent and abusive refund claims. Therefore, fraud controls must be kept confidential so those intent on committing fraud and circumventing the system do not know the IRS' detection methods.

When will those recommendations be implemented?
What is the cost of implementing those recommendations?

The IRS plans to centralize the filing and processing of all excise tax claims in one service center by 1997 dependent on budgetary constraints. The remaining recommendations would be adopted after 1997, again dependent on future budgetary constraints. The cost of implementing these recommendations has not yet been determined.

What costs are included other than requiring that the IRS pay interest on claims not processed within twenty-one days?

The interest requirement on ultimate vendor diesel fuel refund claims not paid within twenty days has created a new claims process at the service centers that requires a manual refund to be issued in place of a computer-generated one. The

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manual refund cost is $39.00, compared to 41 cents for a computer-generated refund, a difference of $38.59. In calendar year 1994, the IRS processed over 123,000 total ultimate user and ultimate vendor diesel fuel claims.

Further, given the experience from the most recent filing seasons, we believe that delays in processing refund claims to allow processors the opportunity to adequately pursue questionable claims can sometimes stem fraud. It is difficult, however, to quantify the total impact on fraud detection due to these expedited claims.

Why has there been a delay in implementing corrections?

As previously stated, implementing corrections for the ultimate vendor refunds were delayed due to the necessity to educate claimants on the filing requirements for a properly filed claim. These requirements are necessary to ensure against payment of fraudulent claims.

PREPARED STATEMENT OF W. GENE BURDEN

Introduction

My name is Gene Burden. I am the Commissioner of Environmental Conservation for the State of Alaska. Prior to my appointment by Governor Knowles in December 1994 I served as Senior Vice President of Marketing and Operations for Tesoro Alaska Petroleum Company, Anchorage, Alaska. I thank you for the opportunity to describe the affects in Alaska of a current IRS requirement to add dye to tax exempt diesel fuel.

My testimony is based on my ten plus years of experience with Tesoro and my familiarity with the Alaska petroleum refining, marketing, and distribution businesses.

The Origin of the Problem

The Omnibus Reconciliation Act of 1993 included provisions requiring segregation of diesel fuel used for taxable purposes (generally "on road" use by vehicles) and nontaxable purposes such as power generation, home heating, commercial fishing, and other stationary

uses.

Alaska's reliance on diesel for nontaxable uses is unique

Alaska has four refineries that produce and market diesel fuel. Alaska's sparse population, enormous geography, limited distribution channels, and lack of demand for taxable diesel fuel present challenges that have been compounded by the requirement for diesel dyeing.

Road systems do not link the entire state. Approximately 65% of the state's communities are served solely by barge lines with only 35% served by the federal aid highway system. Alaskans rely on diesel fuel for home heating, power generation, commercial fishing, operation of construction equipment, and for on road vehicles; however, contrary to the rest of the country less than 4% of the diesel consumed in Alaska is used for taxable purposes. (The state's largest refiner indicates that less than 2.5% of its diesel is used for taxable purposes.) One distributor who supplies fuel to predominantly marine customers estimates that less than 1% of its sales go for taxable purposes. This means that Alaska distributors and refiners are dyeing from 96% to 99+% of their diesel fuel to satisfy IRS requirements to segregate the remainder.

The significance of Alaska's usage rate versus the rest of the country is illustrated in the following table which describes U.S. "on road" use and then a projection of taxable use by petroleum districts.

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Note 1: U.S. data obtained for "on-road use only. Source: National Petroleum News. June 1995 page 64
Note 2: Petroleum District data ("PAD") derived from Petroleum Supply Monthly, April 1995. The fuel
reported for non-road use was subtracted from total diesel sales generating a slightly different
projection but still illustrating the range of the relationships between use in Alaska.

Note 3: PAD 5 includes Alaska, Arizona, California, Hawaii, Nevada, Oregon, and Washington

Note: The 4% rate in Alaska is probably high as the state's largest refiner
indicated sales of around 2% and a smaller refiner indicated less than 1%.
Some suppliers dye over 99% of their fuel to comply with the
requirements aimed at the less than 1% that is taxable.

IRS'S Objective is to Eliminate Illegal Sale of Nontaxed Diesel

The opportunity to divert nontaxed diesel for taxable on-road uses has been recognized as a problem in a number of areas in the U.S. I recall that during the initial effort to obtain an exemption, a calculation was made of the tax increase expected from these requirements. I recall that the figure was reached by taking the quantity of illegal sales assumed by IRS to occur in the U.S. and make a similar assumption for Alaska. This generated a projected $500,000 in federal revenues that could be expected to be recouped; however there are a number of factors to suggest that the actual loss in Alaska is probably substantially below the national average. These factors include:

Alaska's diesel fuel is exempted from the low sulfur requirements of the Clean Air Act because such a small percentage of vehicles use diesel and because of the significant costs associated with converting existing refineries to produce the fuel. As a result, the diesel produced in Alaska is not a candidate to enter the trade in other states.

Transportation costs and storage limitations further insulate Alaska from organized schemes to avoid the federal tax for on-road diesel use.

In addition, Alaska fuel distributors collected the federal tax for on-road diesel for many years prior to the dye requirement and there has been no indication of any significant abuses. The taxes will continue to be collected whether the dye is used or not thanks, in part to

an already existing compliance program for the taxable fuel facilitated by a Certificate of Use form that each distributor must obtain from each customer.

The Costs to Alaska Far Exceed Increased Revenues From Dyeing the Fuel

I conducted a telephone poll of the three largest Alaska refiners (Mapco, Tesoro, and Petro Star) on July 10-11, 1995 to obtain an update on costs associated with this requirement. One of the companies has installed injection systems at a cost of $125,000 and annual operating costs of over $100,000 plus the cost of dye which was not immediately available. One of the refiners indicated annual expenditures for the dye alone exceed $750,000 and that there are costs associated with personnel for the mixing procedures and associated accounting which were characterized as substantial.' Another refiner that presently splash blends the dye indicated concerns that new IRS regulations were going to mandate installation of expensive injection systems. Based on these discussions, a conservative estimate of annual costs to administer this program exceed $1 Million. In areas where only clear "taxable diesel" is available, purchasers intending to use the fuel for nontaxable purposes must file for a refund. This has prompted concern about the costs of floating these dollars.

There are reports that the added cost of dyeing diesel fuel is less than 1/2 cent per gallon. This may be true in the rest of the United States; however, one refiner/distributor indicates the cost should be based on the gallons sold as taxable that are not dyed. If that is done in Alaska there is a cost of as high as 11 cents for every gallon of taxable diesel sold. The end result is that the Alaska consumer pays those costs. The magnitude of the issue is illustrated by the Alaskan based Petro Marine services which sold over 75,000,000 gallons last year with only 600,000 gallons taxable -- well less than 1%. In Petro Marine's case approximately 74.4 Million gallons had to be dyed so they could sell 0.6 million clear taxable diesel.

There are other "costs" to Alaskans in addition to the imbalance of dollar costs versus tax revenues expected. There are inadequate storage tanks in Alaska to accommodate both taxable and nontaxable diesel fuel. In many rural locations, the communities rely on annual barge deliveries of diesel fuel.

The present regulations do not require, and the refineries do not inject dye into barges. This leaves the distributors with the choice of injecting dye at remote transfer points or charging tax on all sales. The splash dyeing of barge loads of diesel present unique Alaska challenges to the distributors and actually pose potential health and safety threats to their employees. The addition of the dye occurs on the vessel's deck and exposes employees to risk during the process. particularly in the range of weather extremes that occur in the areas served. There have also been concerns expressed about the safety of employees from exposure to the caustic dye handled during these blending exercises.

This figure is consistent with Mapco's projections of expenses in an April 18, 1994 letter to Senator Murkowski that included a prediction that the dye expenses alone would cost three times as much as any increase in tax income.

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