How to resolve java.io.IOException: Read error at java.io.FileInputStream.read(Native Method)?

You don't need the writeOutputfile method as you are already writing the new XML. Just remove the method and update your execute method like this:

public void execute(InputStream sourceFile, OutputStream targetFile) //throws StreamTransformationException
{       
    BufferedReader reader;
    OutputStreamWriter writer;
    try{    

        // creating the parser object 
        DocumentBuilderFactory dbFactory = DocumentBuilderFactory.newInstance();
        String line = "<Tax>";
        String line1 = "</Tax>";
        String currentLine;
        reader = new BufferedReader(new InputStreamReader(sourceFile));
        writer =new OutputStreamWriter(targetFile);

        dbFactory.setNamespaceAware(true);
        while ( (currentLine = reader.readLine() ) != null){
              String trimmedLine = currentLine.trim();
              if(trimmedLine.equals(line) || trimmedLine.equals(line1) ) continue;
              writer.write(currentLine + System.getProperty("line.separator"));
        }

        reader.close();
        writer.close();
    } catch (Exception e) { 
        e.printStackTrace();    
    }   
}

EDIT: You can also parse the source file with the DOM parser, manipulate the DOM and write it back to a new file:

public static void main(String[] args) throws ParserConfigurationException, SAXException, IOException, TransformerException {
    try { 
        TestIntegrate t = new TestIntegrate();
        t.execute("C:/Users/xyz/workspace/TEST_2.xml", "C:/Users/xyz/workspace/OutputFile.xml");
    } catch (FileNotFoundException e) {
        // TODO Auto-generated catch block
        e.printStackTrace();
    }
}


public void execute(String sourceFile, String targetFile) throws ParserConfigurationException, SAXException, IOException, TransformerException
{
    //Parse the source xml file
    File source = new File(sourceFile);
    DocumentBuilderFactory dbFactory = DocumentBuilderFactory.newInstance();
    DocumentBuilder dBuilder = dbFactory.newDocumentBuilder();
    Document doc = dBuilder.parse(source);
    doc.getDocumentElement().normalize();

    NodeList taxNodes = doc.getElementsByTagName("Tax");

    //Loop through tax nodes and move inner nodes => start at the end as we remove the tax nodes afterwards
    for(int i = taxNodes.getLength() - 1; i > -1; i--)
    {
        Element taxNode = (Element) taxNodes.item(i);
        Node parent = taxNode.getParentNode();

        while (taxNode.hasChildNodes()) 
        {
            parent.insertBefore(taxNode.getFirstChild(), taxNode);
        }

        taxNodes.item(i).getParentNode().removeChild(taxNodes.item(i));
    }

    TransformerFactory transformerFactory = TransformerFactory.newInstance();
    Transformer transformer = transformerFactory.newTransformer();
    DOMSource domSource = new DOMSource(doc);
    StreamResult result = new StreamResult(new File(targetFile));
    transformer.transform(domSource, result);

}

http://www.java2s.com/Tutorial/Java/0440__XML/Moveallchildrenoftheelementinfrontoftheelement.htm

http://www.mkyong.com/java/how-to-read-xml-file-in-java-dom-parser/

EDIT2: Using InputStream and OutputStream (example) ...

public void execute(InputStream sourceFile, OutputStream targetFile) throws StreamTransformationException
{
    //Parse the source xml file
    DocumentBuilderFactory dbFactory = DocumentBuilderFactory.newInstance();
    DocumentBuilder dBuilder = null;
    try
    {
        dBuilder = dbFactory.newDocumentBuilder();
    } 
    catch (ParserConfigurationException e)
    {
        throw new StreamTransformationException(e);
    }
    Document doc = null;
    try
    {
        doc = dBuilder.parse(sourceFile);
    }
    catch (SAXException e) 
    {
        throw new StreamTransformationException(e);
    } 
    catch (IOException e) 
    {
        throw new StreamTransformationException(e);
    }
    doc.getDocumentElement().normalize();

    NodeList taxNodes = doc.getElementsByTagName("Tax");

    //Loop through tax nodes and move inner nodes => start at the end as we remove the tax nodes afterwards
    for(int i = taxNodes.getLength() - 1; i > -1; i--)
    {
        Element taxNode = (Element) taxNodes.item(i);
        Node parent = taxNode.getParentNode();

        while (taxNode.hasChildNodes()) 
        {
            parent.insertBefore(taxNode.getFirstChild(), taxNode);
        }

        taxNodes.item(i).getParentNode().removeChild(taxNodes.item(i));
    }

    TransformerFactory transformerFactory = TransformerFactory.newInstance();
    Transformer transformer = null;
    try
    {
        transformer = transformerFactory.newTransformer();
    }
    catch (TransformerConfigurationException e)
    {
        throw new StreamTransformationException(e);
    }
    DOMSource domSource = new DOMSource(doc);
    StreamResult result = new StreamResult(targetFile);
    try
    {
        transformer.transform(domSource, result);
    } 
    catch (TransformerException e)
    {
        throw new StreamTransformationException(e);
    }

}