Almost everyone has heard about California’s budget woes. Among other things, the state’s recently passed $86 billion budget cuts deeply into spending on the state’s universities, medical care for the poor, and the state park system. So if any government could benefit from enhancing its revenue collection capability, it is the Golden State.

One of the people tasked with modernizing the state’s tax collection systems is Cathy Cleek, CIO and chief of the Technology Services Division of the state’s Franchise Tax Board (FTB), which processes more than 15 million personal income tax returns and 1 million business returns every year.

Like her counterparts from other states, Cleek is in the process of updating a legacy system with dozens of moving parts, some of which are decades old. “There are pieces of our system that are healthy and we have no need to change,” she said, “but there are others that need to be pulled out and modernized.”

Some applications were designed in an era when the FTB dealt only with paper, but now the agency is taking 80 percent of returns digitally. “Now we will begin using imaging to digitize the paper, so we have one work process, not two,” explained Cleek.

Tax system reviews and upgrades are under way across the country. Eight states — Kentucky, Pennsylvania, Georgia, Illinois, Massachusetts, Minnesota, California and Oregon — listed tax system modernization among their top five technology priorities in the Center for Digital Government’s 2010 Digital States Survey.

These systems are expensive and they don’t go away easily, so their replacement requires a great deal of planning, noted Adam Schaffer, a director with Revenue Solutions Inc., a Massachusetts consultancy specializing in helping government agencies in tax administration.

The systems on the drawing board now will have to last at least 10 years. The movement from stovepiped applications toward integrated tax systems began 20 years ago, Schaffer added, but many states still haven’t modernized yet. Those states are now looking at their options, which include commercial off-the-shelf software or legacy system modernization. “If an agency is satisfied with its current functionality but just needs a new technology underpinning, it may choose to replatform and move from legacy programming languages to modern languages and frameworks such as Java and .NET,” he said. “The work force turning over is another reason to refresh the technology platform. What we are not seeing is new, custom-built systems.”

Many states are looking at creating service-oriented architectures (SOA), which may support shared services with other state agencies. Businesses could do one-stop shopping — so that registering in one place would allow their information to be shared with multiple agency systems.

When you see RFPs to modernize tax systems, states are usually eager to do a better job on compliance and revenue collection, Schaffer said. Key improvements they’re looking for include integration between departmental software modules, greater customer self-service, and data warehousing tools to identify and recover uncollected revenue from noncompliant taxpayers, as well as to analyze revenue trends and support management reporting.

The Oregon Department of Revenue’s strategic plan identifies the technology constraints of its legacy system:

  • Some key systems are at risk of reaching maximum capacity or failure.
  • Systems don’t talk to one another, precluding a “single view” of the taxpayer.
  • Highly specialized and inflexible applications require manual workarounds.
  • Inflexible and diverse architecture is expensive and complex.
  • Seasonal changes and tax law revisions require multiple, complex system updates.

Oregon technology officials are in the middle of an RFP process and were reluctant to discuss details of their core system replacement. However, the state’s strategic plan makes it clear that “integrated systems and data will enable us to use technology to make smarter decisions, increase voluntary compliance, improve overall compliance and improve revenue administration.”

Avoiding the Big Bang

Cleek said California’s Franchise Tax Board sought to mitigate the risk of a huge system replacement. “We wanted to get away from a big bang, which we have done in the past and is quite risky,” she said. The Enterprise Data to Revenue project she is working on with vendor CGI Group Inc. uses a phased-in approach and an SOA model that overlays Web services on components such as the main accounting system that’s being left in place.

Cleek, who began her career with the FTB in 1983 as a tax auditor and worked her way up through the organization, said the “benefit-funded procurement” contract with CGI also helps reduce risk to the state. CGI has the potential to earn $398 million over five and a half years. “But they will only get paid after we see new revenue based on changes we have made,” she said. Another part of CGI’s compensation is based on a report card that her team prepares. Every quarter, the FTB will look at how the vendor did at resolving project management issues.

“If they are weak on any areas, we can hold back money,” Cleek explained. “For instance, if they were owed a potential $1 million, but only do well on three out of four areas, they might get paid $750,000 until they show improvement in that area. Given where the state is from a budget standpoint, this was very important,” she said. “We work side by side much better when incentives are aligned.”

Beyond the potential to pay CGI $398 million, the FTB’s costs over the five and a half years are budgeted at $271 million. “But it is expected to bring in $1 billion more for the state each and every year through 2016 for a total of $4.7 billion,” she said.

Some of that increased revenue is expected to come from improved data analytics about how to do collections and auditing. “We did this before, but in a clunky way,” Cleek said. “We didn’t always have updated data. It was more 1980s modeling.”

People may be concerned when they hear about computer modeling to target tax audits, she said, but nobody wants to go through a no-change audit. It’s a frustrating process for citizens and businesses, and it doesn’t bring in any additional revenue. “So this will offer more specialized modeling and better determine high-risk people we need to reach out to,” Cleek said.

Tim Blevins, an executive consultant in the Tax, Revenue and Collections Center of Excellence for CGI, said California is by no means alone in not having a sophisticated data warehouse and analytics infrastructure in place yet. “Some organizations are good at business intelligence, but the majority still have a lot of work to do,” he said. “The technology has evolved a lot in the last five years, and even systems that have been in place seven or eight years might need a tune-up.”

Transparency is another key goal, said Cleek. The FTB wants to provide citizens Web access to their tax data all in one place, with proper security and authorizations. “With a taxpayer folder, they can view tax returns and account balances and make payment installment arrangement schedules online without having to talk to us,” Cleek said.

Minnesota

The Minnesota Department of Revenue is nearing the end of a four-year project to implement a commercial software product called GenTax from Fast Enterprises of Greenwood Village, Colo.

As department CIO Steve Kraatz explained, the previous setup involved interfaces and bridges between 85 separate applications and 140 different Lotus, Access and Excel databases.

“We didn’t have one system. We had a collection of systems, many of them mainframe-based,” he said. “We had a reputation for delivering highly customized applications, but when we looked at replacing them all at once, the timeline involved would cross fiscal biennia, and that would be difficult to get approved in these times. We decided to do an RFP for an off-the-shelf system.”

“These projects are considered very high risk,” said James Harrison, a founding partner at Fast Enterprises. Many have failed or have been canceled due to lack of adequate progress. An agency’s best chance of success is to learn from other agencies, kick the tires and invest in upfront research before making a purchase, he said. “It’s especially important to be very skeptical of anything coming from a vendor’s mouth and to have long, frank discussions with management at sister tax agencies. There are plenty of examples of both highly successful projects as well as catastrophic failures.”

During the product research phase, Kraatz made sure the department’s business users traveled to other states to see the look and feel of GenTax in use. “They needed to understand that they couldn’t just ask for completely different features next month,” he said. “They all signed off on it. I have been surprised by how configurable and flexible the software is. Because it was designed for revenue departments, they understood our needs and our lingo. There was no information gap there.”

Minnesota’s rollout has been phased, with sales tax, accounting, collections and audits done the first year, then business income tax the next, and finally individual income tax.

From a business perspective, the key value added is integration, said Vicki Dickinson, the department’s project manager on the transition. “Previously if a person in collections wanted to check a different system, he or she had to remember a login and ID for that system and have a code book because each system used different codes,” she said. “Now we have one system, so we are seeing much greater consistency. It is not in little bits and pieces.”

A side benefit, Kraatz said, is that it frees up staff to look at department procedures. “If we have a write-off policy for small items, it should be treated consistently across these systems,” he said. “It is much easier to do that in one software system.”

Another expected benefit, Dickinson adds, would be to reduce the IT footprint required to maintain the system. The old system has not been fully turned off, so no metrics are available yet, but Minnesota officials hope IT staff can turn to other projects involving the data warehouse and analytics. And Fast Enterprises’ Harrison agrees with CGI’s Blevins that while most agencies have some basic data warehouse capabilities, they also have plenty of room to improve. “Very few agencies have maxed out their ability to generate substantial revenues from modest technology investments,” Harrison said.

Unfortunately in some instances, applying analytics on a backlog of uncollected taxes may show nice results but mask the underlying problem, in which agencies have stovepiped systems and no data consistency, noted Art Dorfman, national vice president of state and local government for SAP Public Services. “Sooner or later,” he said, “you need to get your foundation right, which means introducing an integrated tax system and creating accurate information to be used in your compliance activities.”

New York

Just as California is doing today, a few years ago New York state sought to modernize without the big bang and huge procurement once every 15 years. “Our CIO, Brian Digman, wanted to flatten that out,” recalled James Lieb, director of architecture and Web solutions for the New York State Department of Taxation and Finance. “When it comes to reducing costs and delivering product to constituents, the conversation has to change from large projects to continuous improvement,” he said.

When it started looking at modernization in 2004, the department initially considered purchasing a commercial integrated tax system solution. “But that seemed like we would be throwing away a lot of components,” Lieb said. The IT team had already built a few Web applications — for instance, for the call center to validate a customer. “We decided to go with an SOA approach,” he said. “We created an architecture team separate from the project management office. We meet with business line leaders and ask what they want to do next, whether it is mobile applications, GIS integration or chat features.”

Lieb said this approach leveraged existing assets and was more open to integrating industry standard products for common services. The new architecture enhances the department’s capability to quickly respond to new legislative requirements, he added. “We estimate we have saved $1 million in development costs because it is easier and faster to make changes.”

The department, Lieb said, is modernizing all the time, including moving to e-mail instead of paper for interactions with customers. An analytics engine helps assign collections resources so that staff members take the right next step based on predictive analytics. “That use of analytics saved $83 million in the first year,” he said.

Looking Ahead

Besides a more sophisticated use of analytics, vendors and consultants see a few other major trends that will become increasingly important to tax agencies, including cloud computing, social media and mobility.

CGI’s Blevins predicts that cloud computing initiatives, which are becoming more prevalent at the federal level, will soon spread to some state and county revenue departments, as will outsourced services. “A low-cost, managed-service approach to collections and compliance will make sense for many agencies,” he added. SAP’s Dorfman, however, isn’t so sure that tax departments are ready for the cloud. The concept of trading capital expenses for operational expenses sounds like a no-brainer, he said, but by their very nature, tax agencies are conservative and have serious concerns about security in the cloud. “I can’t imagine taxpayer data in the public cloud in the short term,” he said. But Dorfman suggested that tax agencies can set up shared services for finance, human resources or procurement to drive efficiency gains in the administrative area.

In the social media realm, commissioners of revenue and agency CIOs like California’s Cleek have started communicating on Twitter, YouTube and Facebook and using those channels to check the public perception of the agency.

In 2009, the Virginia Department of Taxation added a live chat option to its traditional modes of communication and handled 112,000 chat sessions in fiscal 2010 compared to only 35,000 e-mails.

The growth rate in smartphone usage suggests they may soon surpass the Internet as a channel for taxpayer interaction, Dorfman noted. For constituent-facing systems, mobile applications are already being developed to file taxes, check refund status and apply for business licenses.

“Agencies are looking at how they can take advantage of the tool internally,” he said, “creating applications for use by field auditors and collection managers for use in the field.”

All of these technology enhancements go hand in hand with business process re-engineering efforts. As Cleek put it: “We are working to improve interactions and resolve more issues right upfront. We can get more agile in processing returns.”

David Raths  |  contributing writer