Replacement direct deposit refunds

Misdirected direct deposits of COVID-19 economic relief payments are getting a lot of attention. They should.

But this is not a new problem. Lost electronic tax refunds happen every filing season. 

What is new is the mechanism the Treasury Department established at the end of 2020 to deal with errant Internal Revenue Service direct deposits.

A new regulation, the final version of which was published in the Federal Register on Dec. 22, 2020, details how taxpayers report this problem and how the IRS should handle it and get filers their misdirected money.

Previously, not the IRS’s problem: More of us every year get comfortable with making financial transactions. The IRS has been a big backer of such transactions.

However, it’s taken the agency a while to get fully up to speed with all of the ramifications.

In prior years, when money you asked the IRS to directly deposit went into someone else’s account, working out the erroneous deposit was totally between you and your financial institution.

It didn’t matter if the error was the IRS’ or the taxpayer or bank entered a wrong account number. There simply was no cross-checking mechanism.

So if the wrong account number was an active one, the refund amount from the IRS simply went into it, even though the money belonged to someone else. You just had to hope the surprise recipient returned the windfall, either to the bank or IRS.

In the best of these worse event cases, some banks officials, upon realizing that the deposit was a mistake due to a misplaced numeral, worked with customers to get the funds to the appropriate taxpayer account or, more likely, back to the IRS.

In either case, many taxpayers simply were out of luck and money. Unlike paper Treasury checks that are lost in the mail, the IRS didn’t have a replacement system for missing direct deposits.

Congress orders changes: The Taxpayer First Act changed that. The major IRS reform measure, signed into law on July 1, 2019, required Treasury and the IRS to create a system for handling misdirected electronic tax refund deposits.

Specifically, section 1407 of the act says the procedures should:

• Allow taxpayers to report when an electronic refund was not transferred to their account.
• Establish coordination with financial institutions to identify and recover these payments.
• Deliver refunds to the correct accounts of taxpayers.

The way the IRS will do that is detailed in the new regulations.

Reporting, finding missing refund money: The first step, of course, is taxpayer notification of the IRS of the missing direct deposit.

You or your authorized representative have four ways to do that:

1. Call the IRS,
2. File Form 3911, Taxpayer Statement Regarding Refund,
3. Contact your local Taxpayer Advocate Service office or
4. Visit (after making an appointment) your nearest Taxpayer Assistance Center.

Once the IRS confirms the refund didn’t make it into the correct account, it will work with the Bureau of the Fiscal Service (BFS). This is the Treasury office that manages all federal payments and collections, as well as provides government-wide accounting and reporting services.

The BFS, using its already-established procedures, will coordinate with the financial institution that holds the account into which the refund was supposed to go. Essentially, it will locate the refund, verify the account and routing number and confirm the account holder.

If this tracking shows that the refund went to someone else instead of to the taxpayer who filed the report, the IRS will try to recover the mistakenly deposited money.

However, under the new procedures, the IRS’ success or failure in ultimately getting back the misdirected cash doesn’t matter to the taxpayer as long as it wasn’t the filer’s fault. The IRS will issue a replacement refund.

You can have it sent as a direct deposit if you’re feeling lucky this time or ask the IRS to snail mail you a paper Treasury check for the missing amount. That mailed refund will go to your last known address that the IRS has in its files.

Paying for your error: Of course, there are a couple of caveats. Feel free to make your surprised-not-surprised face here.

First, you did notice that phrase, “as long as it wasn’t the filer’s fault,” a few paragraphs earlier, right? Who screwed up the direct deposit makes a difference.

The IRS’ new misdirected direct deposit replacement procedure applies only where the delivery problem was the fault of the IRS or your financial institution.

If, however, you or your tax preparer entered the wrong routing information or transposed some digits in your bank account, things are a bit different.

In this case, you don’t get your replacement refund amount until the IRS gets back the original refund amount from the incorrect account into which it was directly deposited.

And secondly, the actual amount of replacement refund you’ll get will depend on how much the IRS recovers.

Say, for example, you mistakenly told the IRS to send your $1,000 refund to account #123445 instead of your correct account #123455. The IRS is able to get only $500 or your refund from the owner of #123445. And because you (or your tax representative) erroneously entered an incorrect account number, you’ll only get a replacement refund of $500.

So be very careful in entering in account and other financial information (or in giving that data to your tax pro) when you file.