IRS Watchdog Finds Nonfiler Program Riddled With Gaps — What It Means for Taxpayers Who Haven't Filed?

If you have unfiled tax returns sitting in a drawer somewhere, a new federal watchdog report is worth your attention. On August 31, 2026, the Treasury Inspector General for Tax Administration (TIGTA) released Report No. 2026-308-047, Agencywide Coordination Could Enhance the IRS's Approach to Nonfilers, a sharply critical audit of how the IRS identifies, tracks, and pursues taxpayers who fail to file required returns.

The findings matter well beyond IRS headquarters. They reveal an enforcement system that is inconsistent, under-resourced, and in thousands of cases actively working against taxpayers who have already done the right thing.

The Nonfiler Problem, By the Numbers

Nonfilers are a meaningful piece of the federal Tax Gap, the difference between taxes owed and taxes actually paid on time. TIGTA's audit puts the projected gross Tax Gap for Tax Year 2022 at $696 billion, and attributes roughly $63 billion (9%) of that directly to taxpayers who simply never filed (TIGTA).

The pool of potential nonfilers has also grown sharply. The IRS's own identification program flagged nearly 8.8 million potential nonfilers for Tax Year 2015; a number that climbed to nearly 14.7 million by Tax Year 2022, an increase of about 5.9 million taxpayers (TIGTA).

Cases Stuck in Limbo — With Real Dollars at Stake

TIGTA's most striking findings involve cases that are simply sitting idle:

·        As of June 30, 2025, 38,824 high-priority nonfiler cases involving 33,653 taxpayers were stuck in "first-notice status," meaning the IRS had sent an initial notice but taken no further enforcement action. TIGTA estimates that releasing these cases could allow the IRS to secure a return or make an assessment on 10,482 cases, worth roughly $321.3 million in additional tax (TIGTA).

·       Separately, 10,969 high-priority cases involving 8,853 taxpayers sat unworked in the IRS collection queue. Prioritizing those cases could yield assessments on 2,962 cases worth an estimated $90.8 million (TIGTA).

·       By December 31, 2025, 33,757 high-income nonfiler cases remained in first-notice status and 9,463 cases remained in the collection queue — showing the backlog persists even after the IRS reported moving cases out of first-notice status in March 2026 (TIGTA).

A Costly Irony: Notices Sent to Taxpayers Who Already Filed

Perhaps the most consequential finding for ordinary taxpayers: the IRS issued first notices to 4,918 cases (4,748 taxpayers) who had, in fact, already filed their returns — returns collectively reporting $178.3 million in additional tax due, plus interest and penalties (TIGTA).

Of those already-filed returns, 67% were paper-filed and 33% were e-filed, and the IRS took more than a year to post 29% of them (1,433 returns). TIGTA concluded that folding these taxpayers into the nonfiler initiative and delaying processing "compromised the taxpayers' right to quality service" and imposed unnecessary burdens on people who had already complied (TIGTA).

Practical takeaway: if you or your business filed a return on paper and later received an IRS nonfiler notice, don't assume it's a mistake you can ignore, but also don't assume you actually owe anything. Respond promptly with proof of filing (certified mail receipt, e-file confirmation, or a transcript request) to avoid escalation to collections.

Why the Program Is Falling Short

TIGTA traced the breakdowns to a lack of coordinated leadership:

·       The IRS's Nonfiler Strategic Plan was finalized in May 2018 and has never been updated (TIGTA).

·       The Nonfiler Executive Steering Committee, which is meant to oversee the program across IRS divisions, hasn't met since September 2020, and doesn't even represent all the IRS functions involved in nonfiler work (TIGTA).

·       The IRS generally prioritizes collecting on accounts with a known balance due over pursuing taxpayers who haven't filed at all: in FY 2025, 76% of Small Business/Self-Employed collection dispositions addressed balance-due accounts versus just 24% for unfiled-return cases (TIGTA).

·       The IRS's own performance report showed 657,000 individual returns secured and about $1.2 billion collected in FY 2025 — but the agency couldn't break out how much each individual nonfiler program contributed, making it impossible to evaluate what's actually working (TIGTA).

Compounding all of this, IRS staffing fell sharply between January 2025 and January 2026 — from roughly 103,000 to 74,000 employees, a 30% reduction. Frontline collection functions were hit hardest: the Automated Collection System lost 46% of its tax examiners and collection representatives, and Field Collection lost 40% of its staff (TIGTA).

TIGTA's Recommendations — and the IRS's Response

TIGTA issued six recommendations, including: lifting the first-notice-status hold so cases can move forward or be referred to other enforcement channels; addressing the backlog of unworked delinquency investigations; building a genuine agencywide nonfiler strategy with executive ownership and dedicated staff; separately tracking resources devoted to nonfiler work; better prioritizing high-risk nonfilers for tools like the Automated Substitute for Return program; and reporting results program-by-program rather than in aggregate. The IRS agreed to all six and has outlined corrective actions (TIGTA).

What This Means for You

1.       If you have unfiled returns, the enforcement backlog described in this report is not a reason for complacency — a strained system is still a system that eventually catches up, often with penalties and interest that compound the longer you wait. Voluntary disclosure or a delinquent-return filing now is almost always better than waiting for an IRS notice.

2.      If you've received a nonfiler notice but already filed, gather your proof of filing immediately and respond in writing rather than assuming the notice will resolve itself — TIGTA's data shows the IRS's own systems can take over a year to catch up.

3.      If you're under IRS collection pressure on a balance-due account while also having unfiled prior-year returns, be aware the IRS's internal prioritization tends to favor collecting on known balances over chasing unfiled returns — which can create planning opportunities but also compliance risk if left unaddressed.

As always, the right first step is a conversation with a tax professional who can review your specific filing history, IRS transcripts, and notice history before you respond to the IRS directly.

Have IRS Tax Problems?

     Contact the Tax Lawyers at

Marini & Associates, P.A. 

for a FREE Tax HELP Contact us at:
www.TaxAid.com or www.OVDPLaw.com
or Toll Free at 888 8TAXAID (888-882-9243)

Federal Circuit Just Killed the NIIT Treaty Credit Refund Strategy

Americans living in Canada or France just lost a major argument for avoiding double taxation on investment income. On August 31, 2026, the U.S. Court of Appeals for the Federal Circuit ruled in two companion cases — Estate of Paul Bruyea v. United States, No. 2025-1563 (opinion), and Christensen v. United States, No. 2024-1284 (opinion) — that foreign tax credits under the U.S.-Canada and U.S.-France income tax treaties cannot offset the 3.8% Net Investment Income Tax (NIIT) imposed by IRC § 1411 (KPMG).

Why the NIIT Falls Outside the Foreign Tax Credit

The NIIT sits in Chapter 2A of the Code, entirely separate from Chapter 1, where the foreign tax credit rules of IRC §§ 27 and 901 live. Because those sections limit credits to "the tax imposed by this chapter" (Chapter 1), and § 26(b) confirms the NIIT isn't a Chapter 1 tax, the Code itself has never allowed a credit against it — a gap taxpayers had hoped their treaties would fill.

The Two Cases

·         Bruyea: A U.S. citizen in British Columbia paid Canadian tax and $263,523 in U.S. NIIT on a Canadian real estate sale, then sued for a refund under Article XXIV of the U.S.-Canada treaty. The Court of Federal Claims agreed with him in 2024 — reversed on appeal.

·         Christensen: U.S. citizens in Paris paid French tax and $3,851 in NIIT on a stock sale, relying on Article 24(2)(b) of the U.S.-France treaty (the provision specific to dual U.S. citizen/French residents). The Court of Federal Claims sided with them in 2023 — also reversed.

The Court's Reasoning: The "U.S. Law Limitation" Controls

Both treaties grant relief "in accordance with the provisions and subject to the limitations of the law of the United States." The Federal Circuit held this phrase incorporates the Code's Chapter 1 restriction directly into the treaty — it isn't merely a computational cross-reference.

In Christensen, the taxpayers argued that Article 24(2)(b) escaped this limitation because it doesn't repeat the language. The court disagreed, applying the "whole-text canon": the limitation appears once, up front in Article 24(2), and governs both subparagraphs. The court also noted that the treaties' re-sourcing provisions would be pointless if the credit already operated independently of the Code, and that the taxpayers' reading would let citizens abroad claim both a treaty credit and the foreign earned income exclusion on the same income — a "double benefit" the Code expressly bars for U.S. residents.

Why This Reaches Beyond Canada and France

The "subject to the limitations of U.S. law" language the court relied on is standard across the U.S. treaty network, not unique to these two treaties. Practitioners should expect the same analysis to apply to clients under other bilateral treaties with comparable clauses (Current Federal Tax Developments).

What Clients Should Do Now

·         Drop the treaty-credit refund theory. It's no longer viable under Canada or France treaties, and likely not under most others.

·         Consider the § 164 deduction for foreign taxes as a partial offset, since it reduces the NIIT base even without a dollar-for-dollar credit.

·         Review timing and character of gains to see if income can avoid "net investment income" classification under § 1411(c).

·         Know that Mutual Agreement Procedure relief remains a government-to-government option, separate from a self-help credit on a tax return.

Bottom Line

Bruyea and Christensen confirm that the NIIT's placement in Chapter 2A puts it outside the reach of both statutory and treaty-based foreign tax credits unless a treaty explicitly overrides the Code — and none currently does. Expatriate clients facing double taxation on investment income need updated planning now.

Have IRS Tax Problems?

     Contact the Tax Lawyers at

Marini & Associates, P.A. 

for a FREE Tax HELP Contact us at:
www.TaxAid.com or www.OVDPLaw.com
or Toll Free at 888 8TAXAID (888-882-9243)

Sources: 

Bruyea opinion 

Christensen opinion 

KPMG summary 

Current Federal Tax Developments analysis

The Year-End CFC Sale Loophole Just Closed — Here's What Replaces It

On August 25, 2026, the U.S. Treasury Department and the IRS released long-awaited proposed regulations (REG-115646-25) implementing sweeping changes that the 2025 budget reconciliation bill—commonly known as the One Big Beautiful Bill Act (OBBBA)—made to the decades-old Subpart F regime. For any client who owns, is selling, is buying, or is restructuring an interest in a controlled foreign corporation (CFC)—a foreign corporation more than 50% owned by U.S. shareholders—this guidance fundamentally changes how and when foreign-earnings tax bills land, and it closes a planning technique that international families and cross-border business owners have relied on for years.

For decades, whether a U.S. shareholder had to include Subpart F income (and, more recently, GILTI-style "net CFC tested income," or NCTI) in taxable income turned on a single moment: did you own the CFC stock on the last day of the corporation's tax year? If you sold your interest even one day before year-end, you generally escaped the inclusion entirely, and the buyer inherited it instead. This "last day" rule created a well-worn planning opportunity around year-end sales, gifts, and restructurings of foreign holding companies.

OBBBA eliminates that rule for tax years of foreign corporations beginning after December 31, 2025. Under revised section 951(a), a U.S. shareholder who owns CFC stock on any day during the year must pick up its pro rata share of Subpart F income and NCTI—prorated daily for the actual number of days the stock was held while the company was a CFC and the owner was a U.S. shareholder. The new proposed regulations flesh out exactly how that daily proration works, including separate calculations for shares issued or redeemed mid-year and a weighted-average-share methodology when the share count itself changes.

Two related mechanics matter for deal timing. First, a CFC's tax year must now close automatically whenever the company becomes or ceases to be a CFC mid-year (a "status change event"), so a sale that flips control doesn't just get prorated—it can trigger a hard split of the tax year. Second, in ownership shifts among unrelated parties that cause a swing of more than 50 percentage points in ownership—the kind of shift typical in many M&A and family succession transactions—the shareholders may jointly elect to close the CFC's tax year early, provided they enter into a written binding agreement and each attaches an "Elective Section 951 Year-Closing Statement" to their return.

Critically, the "last day" rule survives for one purpose: Section 956 inclusions on investments in U.S. property still turn on ownership as of the last day of the CFC's tax year, so that particular exposure has not gone away for clients using foreign corporations to hold or guarantee U.S. assets. And the proposed regulations pair this new daily-proration regime with a transition rule addressing dividends paid between June 28, 2025 (when OBBBA was enacted) and the CFC's first post-2025 tax year—these dividends generally will not reduce a shareholder's Subpart F pro rata share unless they actually increased a U.S. person's taxable income, which matters for any client who tried to distribute earnings out of a CFC during that window to get ahead of the new rules.

For high-net-worth and international clients, this is not an academic change. Anyone contemplating a sale, gift, trust distribution, or restructuring involving CFC stock now needs to model the tax consequences based on the exact closing date and daily ownership count, not just year-end position. Form 5471 reporting is also expanding to require detailed, date-stamped tracking of every change in share ownership and outstanding stock.

Three things to put in motion now: Start tracking CFC ownership changes on a daily basis going forward, since the calendar-year snapshot approach no longer works. Review any dividends paid or ownership shifts between June 28, 2025 and your CFC's first 2026 tax year to see whether the transition rule documentation needs to go on Form 5471. Build the mandatory- and elective-closing analysis into the timeline of any pending or contemplated sale, gift, or restructuring of foreign corporation stock, since the election requires a written agreement among shareholders and a timely filed statement.

The bottom line for cross-border families and business owners: the days of timing a CFC sale to land just before year-end and walk away clean are over. Every day of ownership now has tax consequences, and deal structuring, gifting, and succession planning involving foreign corporations need to build daily proration, potential year-closings, and the new documentation requirements into the timeline from the outset. Comments on the proposed regulations are due October 26, 2026, and Treasury has indicated it intends to finalize them by January 4, 2027—but taxpayers may rely on the rules now, provided they and their related parties follow them in full.

Have IRS Tax Problems?

     Contact the Tax Lawyers at

Marini & Associates, P.A. 

for a FREE Tax HELP Contact us at:
www.TaxAid.com or www.OVDPLaw.com
or Toll Free at 888 8TAXAID (888-882-9243)

Sources: 

KPMG, "Proposed regulations: Guidance under section 951(a) on pro rata share of subpart F income, tested income, or tested loss of CFCs"; 

Current Federal Tax Developments, "Pro Rata Share Determinations Under the One, Big, Beautiful Bill Act"; 

Bloomberg Tax, "Treasury Proposes Reg on Pro Rata Share of Foreign Dividends"; 

Federal Register, REG-115646-25 (Aug. 26, 2026).

Got an IRS Notice in the Virgin Islands? Don't Ignore This Filing Notice

If you are a bona fide resident of the U.S. Virgin Islands, you generally file your income tax return with the Virgin Islands Bureau of Internal Revenue (BIR) — not the IRS — and you report your worldwide income to the USVI. Do that correctly, and you usually have no obligation to file a U.S. Form 1040 at all.taxpayeradvocate.irs

So why is an IRS notice sitting in your mailbox?

Why the IRS Comes Knocking Anyway

IRS systems match wage and income data, prior filing history, and account records to flag taxpayers who appear to have skipped a required return. Because the IRS does not automatically "see" your USVI filing, bona fide territory residents routinely get non-filer notices such as CP 59, CP 515, CP 516, or CP 518.

A notice does not mean you owe U.S. income tax. It does mean you have to respond, by the deadline printed on the notice. Ignoring it invites additional notices and further compliance action.

The One Big Exception: Self-Employment Tax

Self-employment tax plays by different rules. If you have business income, gig work, or independent contractor earnings, you may still be required to file Form 1040-SS, U.S. Self-Employment Tax Return, with the IRS — even though you owe no Form 1040. Miss that filing and you are looking at self-employment tax, penalties, and interest.

A Four-Step Response Plan

1. Read the notice closely. Identify the tax year at issue, the form the IRS says is missing, the response deadline, and the reply address.

2. Confirm where you were required to file. Test your bona fide residency for that year — where you lived, where your tax home was, and the strength of your connection to the territory. Married filing jointly couples face different rules, so get professional advice. IRS Publication 570 is the starting point.

3. Gather your proof. Useful records include proof of filing with the USVI BIR, wage and income statements, travel, housing, and employment records, and Form 8898 if you began or ended bona fide residence during the year.

4. Answer in writing, by the deadline. Explain whether you were a bona fide USVI resident, whether you filed with the BIR, whether you reported worldwide income to the USVI, and whether you had self-employment income. Send copies of your supporting documents — never originals.

A Trap Worth Highlighting

Do not send the IRS a copy of your USVI tax return. Instead, furnish a certificate issued by the USVI BIR confirming that you filed there. Sending the return itself can create a duplicate filing and open the door to double taxation.

The Bottom Line

Territory residency is one of the most misunderstood areas of U.S. tax law, and an unanswered non-filer notice can escalate quickly, delayed refunds, mounting penalties, and a far harder problem to unwind later. Bona fide USVI residency is a factual test, and the burden of proving it is yours.

Have a Question About USVI Residency
or an IRS Residency Notice?

     Contact the Tax Lawyers at

Marini & Associates, P.A. 

for a FREE Tax HELP Contact us at:
www.TaxAid.com or www.OVDPLaw.com
or Toll Free at 888 8TAXAID (888-882-9243)

Contact the Tax Lawyers at Marini & Associates, P.A. for a FREE Tax Consultation at www.TaxAid.com or www.OVDPLaw.com, or Toll Free at 888-8TaxAid (888-882-9243).