Tax-filing middlemen feeling the heat after scrutiny, IRS direct file system to launch

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Photo by Erin Scott / Reuters
Photo by Erin Scott / Reuters

According to IRS data, if you had to file taxes for 2022, odds are that you did it electronically, and that you did it through a service like TurboTax. But the company behind that service, Intuit, has been under increasing scrutiny from the press and the IRS over the last few years. If next year's IRS e-filing program gains enough traction, the taxpayers who need it most will be increasingly able to cut out the middleman and file directly with the government for free.

Those who have just used TurboTax for the first time might rush to defend it, perhaps saying that the company has made tax season easier (or at least less dreadful). Sure, the service skims a bit off the top of our returns, but it's convenient. Would taxpayers actually benefit from a government-run, returnless system?

The IRS has been involved with private tax prep companies for a long time. ProPublica published an article in 2019 that brought together employee testimonials, internal documents, and legislation from over 20 years of e-filing history. It alleged that since 1998, multiple administrations' plans to create a free, no-return tax filing system have been quashed by Intuit's lobbying efforts — often with backing from the IRS itself.

In 2002, in response to the George W. Bush administration's proposal to develop "an easy, no-cost option for taxpayers to file their tax returns online," IRS Commissioner Charles Rossotti said that the IRS couldn't possibly handle that workload, and that Congress "will never give you sufficient funding."

Four years later, a slide would be shown in a presentation to the Intuit board of directors, outlining the "repeated challenges" from government legislation, which the company had "successfully met" through lobbying and negotiation.

Out of the 2002 kerfuffle in particular, a lasting deal between the IRS and Intuit was born: as long as Intuit and a coalition of other companies offered free electronic tax prep to a larger percentage of taxpayers, the IRS promised not to develop a free system of its own.

That promise was taken for granted until 2018, when the IRS asked its Advisory Council, a panel of outside experts, to take another look at the coalition's "Free File" system. It turned out that Intuit's stock price and market share hadn't grown so large for no reason. For 12 years, the company had been pushing a product with a similar name, "Free Edition," and hiding the government-backed "Free File" program deliberately.

Another 2019 ProPublica article recounted some of the ways TurboTax's "Free Edition" lured taxpayers in with the promise of "free," and only charged them after they had gone through the trouble of entering sensitive information.

The company had also hidden the actual government-backed "Free File" webpage from appearing on search engines, and even if someone managed to find the right page, each free tax prep service had different requirements based on age, income, and location. TurboTax in particular would only count simple returns in its free service; anything more complicated than a W-2 would incur additional charges.

Partly as a result of ProPublica's exposés, Intuit was sued by multiple states for shady business practices, and in May last year, the company reached a settlement of up to $85 for each of the 4.4 million people who used TurboTax in 2016, 2017, and 2018. Intuit then promptly left the Free File program along with H&R Block, citing a need for more room to innovate.

In a statement to ProPublica, an Intuit spokesperson argued that the IRS shouldn't be responsible for tax preparation because it would be "fraught with conflicts of interest," as the agency is already responsible for tax collection, investigation, and enforcement. Other proponents of tax prep companies have continued to point out that the IRS remains chronically underfunded.

But at least 30 other wealthy nations already have simple, returnless systems in place, in which a government agency does most of the paperwork for taxpayers, and then sends the mostly completed forms to them for verification.

In May this year, the IRS announced plans to launch a pilot program for a similar "direct file system," which the agency claims could save taxpayers billions of dollars annually. The program will launch in 2024.