Should the IRS offer free direct filing?

Read part two of this series

Passed roughly eight months ago, the Inflation Reduction Act of 2022 introduces approximately $500 billion in new spending and tax breaks that will help the country invest in clean energy technology, reduce healthcare costs and increase tax revenues. In other words, while our leaders are aiming to kick-start research and development to reduce carbon emissions and curb how much Americans spend on health services, this law will also fund the IRS to improve taxpayer compliance. 
To that latter goal, there is some very specific language in the act that is directing the IRS to study an IRS-run, free direct e-file tax return system.
This directive reminded me of language in the IRS Restructuring and Reform Act of 1998 (yes, a law from 25 years ago), which directed the Secretary of Treasury to develop procedures for a return-free filing system. For a host of reasons, return-free filing never got any traction.
That memory got me to thinking: Does it even make sense for the government to build (or acquire) a system that allows taxpayers to file directly?
There are valid arguments on both sides, but in the end, I think there was good reason the IRS elected not to pursue free direct filing—five reasons, in fact. 

1. All agencies operated (and still do) under the parameters of Office of Management and Budget (OMB) Circular A-76, which, in essence, said the government should not undertake to do what the private sector could do better, and likely cheaper.
    
2. There was the debate about what “free” meant. Whether a taxpayer pays the private sector for a service or uses an IRS-provided (taxpayer-funded) system, the taxpayer is still paying. However, given the progressive nature of our tax system, lower income taxpayers would pay little to nothing toward a government-provided system, while those in higher income tax brackets (those unlikely to use the system) would pick up the tab. This is why (See Point 3), that the tax industry provides free filing for some taxpayers with lower incomes. 
    
3. There was the question of how many taxpayers would actually use the system? Nearly three-quarters of 1040 filers use professional tax preparers—could we expect any of these to shift? The IRS had to consider taxpayers without bank accounts to pay taxes from or receive refunds into, those with lower levels of literacy and those without secure computer access—none of them would be likely to file electronically. Back then, the tax software industry actually stepped forward and offered free electronic filing for certain segments of the taxpaying public, such as veterans or low-income taxpayers. Several of those companies still do this today. Additionally, the IRS offers two programs—Volunteer Income Tax Assistance (VITA) and Tax Counseling for the Elderly (TCE)—to assist taxpayers. Isn’t that enough?
    
4. What would be the impact on federal-state electronic filing if the IRS introduced free direct filing such that it compromises the federal-state electronic filing partnership? States would have to build their own infrastructure to take returns taxpayers previously filed jointly to and through the IRS.
    
5. And one of the biggest questions at the time—quite relevant today—if the IRS were to build such a system, and taxpayers should come, who would provide customer service and support for the system? It would require the IRS to maintain adequate seasonal staffing for support, which would in turn require dependable funding from Congress. 

Another potential complication, which wasn’t an issue in 1998, is a provision of the Protect Taxpayers from Tax Hikes (PATH) Act of 2015: The IRS holds refunds that include Earned Income Tax Credit (EITC) or Additional Child Tax Credit (ACTC) funds until after February 15 to allow the IRS time to identify fraudulent claims. Would those taxpayers who desire their refunds before February 15 wait, or would they go to a preparer who would advance them some or all of their refund for a fee? 
These are all powerful arguments against an IRS-operated free direct filing system. There are many other non-1040 filer scenarios and questions to answer. 
That was then, and this is now. Much has changed in two and a half decades—technically, politically and socially. What seemed like a stretch in 1998 might be more feasible given current-day technology and private sector solutions and partnerships. I’m looking forward to seeing how this gets sorted this time around.

For more, read my full blog series on tax administration. 

Read part four