Update 598 — The Joke That’s on U.S.
Tax Prep Making Taxpayers April Fools
The March jobs report BLS dropped this morning. The U.S. hiring spree continued in March, with employers adding 431,000 jobs. The unemployment rate fell to 3.6 percent from 3.8 in February. More jobs mean more people filing taxes, following a scramble by many to seek tax filing preparation services.
In perhaps the cruelest of April Fools’ pranks, the tax preparation industry will again find itself buried under a cash windfall after filers learn free doesn’t mean without a fee. Modes of an alternative exist and we explore a Tax Americana — a return- and cost-free, time-freeing tax prep and filing system offered by the government.
Good weekends all,
Benjamin Franklin once opined on our governing document, “Our new Constitution is now established, everything seems to promise it will be durable; but, in this world, nothing is certain except death and taxes.” And, on annual cue, tax season begins in earnest.
What the Founding Father failed to account for was April Fools’ Day. The scramble to file tax returns is at a fever pitch, with just over two weeks remaining until the Internal Revenue Service’s deadline. The most lucrative April Fools’ tax prank of all will again enrich the private tax prep industry. But there is another, frankly more American way to fix this and the myriad of vexations taxpayers face. Ironically, many other prosperous countries are ahead of us and have adopted a form of return-free filing through the government.
A Deal with the Devil
Why does the United States even need such an industry as tax prep? Our tax code is vast and complex. Between countless deductions and credits on top of the various types of income one may need to report, households regularly have 40-page tax filings. The complexity means individual filers collectively spend nearly two billion hours per year completing taxes, or 3,000 average human lifespans. This comes out to nearly 12.5 hours per person just to prepare and file taxes, a grotesque waste of time.
Private companies realized assisting people with tax filings is a cash cow. Through a series of agreements and legislation, the tax prep industry worked with the IRS to prevent the agency from setting up its own free filing system and captured a market all for itself. Following a 1998 bipartisan bill ordering the IRS to develop a no-cost, return-free tax filing program by 2008, the agency created a public-private partnership with tax prep companies — the Free File Alliance, circumventing the Congressional mandate. The Alliance helps deliver the Free File program, a free tax return program for Americans making up to $73,000 in annual gross income, a task the IRS was more than happy to pawn off. But via deceptive practices, the Free File Alliance has funneled millions of taxpayers into paid tax preparation services. Between these practices and traditional tax preparation services, the industry managed to bring in $11.3 billion in revenue in 2019 and is projected to increase revenues to $12 billion by 2024.
While Congress certainly holds most of the blame for our mess of a tax code, the massive revenue the industry brings in from these services creates a distorted incentive to keep the tax code complicated. The result has been tens of millions of dollars in lobbying to secure the industry’s market control. The industry also struck a deal with anti-tax conservatives to entrench their position as return-free filing could reduce aversion to higher taxes by reducing the headaches associated with tax filing.
From astroturfed campaigns stoking anti-tax sentiment to funneling money toward members of Congress to dissuade them from having the IRS step in, the tax prep industry has artificially sustained its own market that is able to produce billions of dollars in profit for these companies. However, we just have to look outside of our borders for a better system.
A World of Options
Thirty-six countries, predominantly wealthy ones like the United States, have adopted tax filing regimes that remove the burden from the taxpayer and place it on the government. These countries have developed methods of accurately collecting taxes while making the tax filing process easy for a significant portion of their populations.
The first return-free tax filing method, exact withholding, instructs the country’s tax agency to use information from taxpayers to withhold the precise amount of taxes from income so that no filing, payment, or refunds are needed. The United Kingdom assesses these withholdings at regular intervals throughout the year, while Germany and Japan alter the withholding on the final paycheck of the tax to remedy any differences between anticipated and actual tax burdens.
The other common return-free system, tax agency reconciliation, is predominantly found across the Scandinavian countries and other European nations. Under this method, taxpayers, employers, financial institutions, and other payers provide the country’s tax agencies with basic information. From there, the tax agency calculates tax liability and provides the filled-out return to the taxpayer. After reviewing, and correcting if necessary, the taxpayer simply confirms the return and liability.
These return-free filing systems mean most people never have to file returns, a huge benefit for taxpayers who would otherwise each have to spend over a dozen hours completing the requisite paperwork. People in these countries generally react as such, giving their countries’ filing systems positive reviews. Swedes are particularly in favor with 72 percent saying taxes were easy to file. If the global tour of return-free systems has not been convincing enough, we can return to the United States for a well-received return-free tax filing pilot program.
For the 2005 and 2006 tax years, California operated ReadyReturn, a return-free tax preparation pilot program. California selected 50,000 taxpayers whose information the state had in order to calculate accurate tax liabilities and provided them with pre-populated returns. The results were outstanding: more than 90 percent of participants reported saving time with ReadyReturn and error rates were significantly lower than non-participants. It’s evident return-free filing would bring much-needed efficiency to tax filing for both taxpayers and the IRS. While the ReadyReturn program was ultimately killed following lobbying from the tax prep industry, components of it were folded into California’s free tax preparation program, CalFile, and has saved taxpayers millions of dollars each year and the state over $500,000 annually in overhead costs. The time and money savings on a national scale would be tremendous.
Senator Elizabeth Warren has a plan for this, of course, to expand no-cost, return-free tax filing to the entire nation. Back in 2017, the Bay State Senator introduced the Tax Filing Simplification Act of 2017 that would direct the IRS to develop its own free tax filing service, ban them from working with the tax prep industry, and offer millions of Americans pre-populated tax returns. Senator Jeanne Shaheen and Representative Bill Foster also each proposed their own versions of return-free tax filing legislation in the same Congress. And former Chair of Council of Economic Advisors Austan Goolsbee proposed his version of the idea in 2006.
We do need to reform our tax code for return-free filing to work. The Treasury Department said as much in a 2003 report. There is room for bipartisanship for tax reform to get to return-free filing: the 1998 bill that ordered the IRS to develop a no-cost, return-free tax filing program was a deal between President Bill Clinton and Speaker Newt Gingrich. President Ronald Reagan came around to supporting return-free tax filing based on the observation that our tax system is “complicated, unfair, cluttered with gobbledygook and loopholes designed for those with the power and influence to hire high-priced legal and tax advisers.” Reagan’s assessment was right: our tax system is designed to benefit the well-connected, wealthy, and tax prep companies. With the right equity-based reforms to simplify our tax code, we can expand a return-free filing process to the vast majority of Americans.