It is tax time again in the United States — an onerous process dreaded by most. There must be an easier way, and there is.
I traveled to Spain last year as a visiting professor, speaking to a large law firm about taxes. Because I am a former IRS attorney, I discussed the U.S. system of audits and potential penalties if an individual is incorrect in reporting income. As is always the case with international travel, I learned much from the people I spoke with.
Spain has a “tax agency reconciliation system” where, essentially, the government prepares a person’s tax return for them. The person then checks it to make sure it is correct.
Spain is not alone.
According to the Organization of Economic Cooperation and Development, over 45 countries use this type of system, either partially or fully. To put it simply, instead of individuals preparing their own tax returns, the government prepopulates a tax return and a taxpayer check it. Adam, a Spanish professor born and educated in the United States, explained, “it is so much easier than in the States.” What makes this possible is mandatory information reporting by third parties.
When an individual earns wages, the employer reports those wages to the IRS. Interest income on a bank account? Reported by banks to the IRS. Dividends from stocks and other investments? Again, this is reported to the IRS. Reporting is mandated by law.
The government already has this information, yet U.S. taxpayers slog through the preparation of returns and suffer the anxiety that comes with it. The Bureau of Economic Research reports that American taxpayers spend over 1.7 billion hours and $33 billion preparing tax returns each year. This does not even count the pain and suffering of doing so.
While employed by the IRS, individuals frequently “confessed” to me that they did not file their returns. It was not due to fraud or criminal activity. It was because our tax system is so complex. Americans are afraid of preparing their tax returns. The interesting part is many of these people were probably due refunds.
The IRS is dipping its toe in the water to try a different system, with a new IRS DirectFile pilot program starting this year (for 2023 taxes). It is being rolled out only for certain states (every state was invited to participate, but the IRS was only able to accommodate 13 states in 2024). Large states are participating, such as California, Florida, New York and Texas. The program is free, and tax returns are filed directly with the IRS. There is no need to mail in a return or use a company to e-file.
The IRS is starting small. Only those earning wages and salaries (as opposed to investment and business income) would most benefit from the program. The IRS already has all wage earners’ total income figures.
Then come the subtractions.
Approximately 90 percent of Americans take the standard deduction (as opposed to the 10 percent who itemize their deductions). The tax code also has credits that are subtracted from the total tax owed. The Earned Income Tax Credit (EITC) and the Child Tax Credit (CTC) are two of the larger ones available to qualified individuals.
Under the pilot program, those qualifying for the EITC and CTC may use the free DirectFile program to apply deductions and credits to reach the amount of tax due. The program takes you step by step. In addition, the IRS will have personnel available to answer questions as an individual fills out the program online. You may use a computer, a tablet or even a smartphone.
For now, the IRS DirectFile program is not yet able to accommodate a free filing program for other types of income, such as when a person has their own business or has gains or losses from the sale of capital assets (capital gains and losses). If a person chooses to itemize their deductions (such as for charitable contributions, medical expenses, mortgage interest and other expenses), the program again will not yet be able to assist taxpayers with those items. Currently, DirectFile is available only for federal taxes, not state taxes (if an individual’s state taxes income).
If the pilot is successful, the IRS will add more items to the free file program.
For now, a tax preparer or a commercial tax software program may be helpful. There is commercial tax preparation software that is free for those with low incomes. Eight companies provide this service to qualifying people; two companies previously offered free file for low-income taxpayers (H&R Block and Intuit’s TurboTax) but withdrew from the IRS partnership.
There are companies that advertise free tax preparation and filing but are not, in fact, free. The Federal Trade Commission recently issued a consumer alert warning about the TurboTax, and initiated an action against the company.
There is an easier way to file returns. Try the DirectFile program if you qualify.
Ann M. Murphy is professor of law at Gonzaga University School of Law. Previously she served as an attorney for the Internal Revenue Service.