The tax preparation industry claims that current efforts to create a government-run system that would allow eligible Americans to file their taxes for free could be prohibitively expensive. But a new report reveals that the potential cost of such a free-file program could be less than the total tax subsidies scored last year by the biggest player in an industry that reaps billions from people using services that could be free.
In effect, government tax credits are subsidizing Intuit’s fight against a direct-file system that would let Americans avoid paying for the company’s tax filing services. In October, the Internal Revenue Service (IRS) announced it would pilot its free Direct File platform for select taxpayers in thirteen states during the 2024 tax season — potentially delivering a final blow to a twenty-year agreement with the tax preparation industry that prohibited the IRS from effectively becoming a competitor. That’s assuming Congress doesn’t eliminate funding for the free tax filing program as part of its new military aid bill for Israel, as Republicans have proposed.
In return for the IRS not launching its own e-filing product, private tax prep companies like Intuit and H&R Block were required to provide access to free filing services for qualified taxpayers. But only 3 percent of eligible taxpayers utilized these free services, largely due to roadblocks set up by companies that forced people into paying for their products instead. Both companies ended up pulling out of the free IRS program in recent years.
These deceptive strategies and hurdles have proven to be lucrative for the industry. In 2019, at least fourteen million Americans paid for tax prep services that should have been free, according to a Treasury Department audit spurred by a ProPublica investigation. This earned the industry around $1 billion in revenue.
Leading tax preparation companies, which generated more than $16 billion in revenue last year, have spent more than $90 million over the last two decades lobbying against a government-run system and on other issues, according to reporting by OpenSecrets. This crusade against Direct File has primarily been funded by Intuit, the long-reigning industry leader, with a reported 73 percent of the market share in 2021. With the IRS’ Direct File on the horizon, Intuit spent a record-high $3.5 million on federal lobbying in 2022, and is on track to spend even more in 2023.
In their 2022 annual financial reports, both Intuit and H&R Block use similar language warning investors that the government, with its Free File program, could become their direct competitor — and this could pose material risk to the companies’ bottom line.
“Government funded services that curtail or eliminate the role of taxpayers in preparing their own taxes could potentially have material and adverse revenue implications on us,” Intuit wrote.
Lobbyists for the tax prep industry have pushed the argument that the Free File program would be too expensive — even though the estimated cost of the program is lower than the cost of government subsidies going to Intuit alone.
The IRS estimates its Direct File platform will cost between $64 million and $249 million annually, or about 2 percent of the agency’s overall budget.
But compared to the millions of dollars in federal subsidies the tax prep industry receives each year, an IRS direct-file tool is potentially a more cost-effective option, according to a new report from the Institute on Taxation and Economic Policy (ITEP), a nonpartisan advocacy organization dedicated to tax reform.
In 2022, Intuit claimed a research tax credit of $94 million, accounting for more than a third of its $254 million in total tax breaks, according to an analysis from ITEP.
With research tax credits being a dollar-for-dollar credit against the company’s total tax liability, it cost taxpayers more last year to foot Intuit’s research activities than it would to launch the proposed government system at the low range of the IRS’s estimates.
Research tax credits were ostensibly created to correct the market failure of companies underinvesting in long-term research projects that drive innovation, since those business endeavors can be expensive without guaranteeing returns for the company itself.
But effectively policing the research tax credit to ensure a company is participating in qualified research activities has long proved difficult for an understaffed and underresourced IRS. As a result, these costly, time-consuming audits of research tax credit claimants are infrequent. According to the most recent IRS data, the corporate audit rate fell from 1.3 percent in 2012 to 0.6 percent in 2018.
In addition to evaluating the validity and scope of research being subsidized by the research tax credit, the public value of the research should also be considered, said Joe Hughes, a federal policy analyst with ITEP.
“There might be diminishing returns for that research if you have a very mature company like Intuit that has already grown very large and takes up a large market sector,” said Hughes. “It might be that you’re not getting the same returns for the federal subsidy that you would get for, say, a smaller software company trying to create some really innovative new product.”
He added, “You have to start questioning if there are better ways to encourage publicly valuable research.”