Taxing times

IRS e-filing plan spells good news, bad news for systems integrators

The government's agreement to refrain from direct Internet filing "was the quid pro quo" for industry to provide free tax preparation software to a substantial number of taxpayers, said Jason Mahler of the Computer and Communications Industry Association.

(Washington Technology photo by Ricky Carioti)

A new private-public partnership for electronic tax filing unveiled by federal officials last month is a mixed blessing for systems integrators.

Federal officials want to create a consortium of companies that would provide free, online federal tax filing to low-income and other taxpayers as a way to dramatically boost the number of returns filed electronically. The consortium would consist of tax preparation companies such as Intuit Inc., Mountain View, Calif., and H&R Block Inc., Kansas City, Mo., which offer the products TurboTax and TaxCut, respectively.

The plan marks the end of the demand for front-end, electronic tax applications for the federal government, and may sharply curtail the de-mand for electronic applications by state tax agencies as well, industry officials said. But if the consortium helps stimulate a significant increase in online filing, it should produce fresh opportunities for systems integrators that design back-end tax systems.

"The consortium is a great first step in providing an initial port of entry, but there is a great opportunity for business through the redesign and redevelopment of electronic processing systems and supporting systems to make this work," said Kevin Belden, executive consultant for the treasury practice of IBM Global Services of Armonk, N.Y. Belden is also chairman of the Electronic Tax Administration Advisory Committee, a group established by law to help the Internal Revenue Service increase electronic filing.

This new plan represents a victory for tax preparation companies, which have lobbied hard to keep the federal government from providing online filing capabilities that might encroach on their businesses. In essence, the federal government has agreed it will not provide e-filing services that might be construed as tax preparation. In return, tax preparation companies have agreed to make their services available for free to low-income taxpayers.

Federal officials said the consortium will fulfill the objectives of the EZ Tax Filing project, one of the Bush administration's 24 e-government initiatives, by making it easier for taxpayers to file returns online, according to the Office of Management and Budget.

But some industry and state government officials said the program could jeopardize programs in states that have already put in place systems that allow taxpayers to file directly online for free.

Systems that allow taxpayers to file returns directly through the state tax agency's Web site would be incompatible with the federal program, because the consortium approach requires taxpayers to file from sites operated by consortium members.

State officials are worried that taxpayers ultimately might file both federal and state returns online through the consortium, rather than through state agency sites, which would render obsolete state direct e-filing programs.

The federal plan puts those states in the awkward position of having to choose between continuing to offer direct filing or dismantling their systems to participate in the consortium.

Some large states such as California and New York may follow the consortium's approach, industry officials said. In California, tax preparers are attempting to block an effort by the California Franchise Tax Board to provide free direct Internet filing. In New York, officials have said they will not offer direct filing if the federal government does not offer it.

Those states that now offer direct Internet filing believe it would be "very difficult for them to stop the program and disband the effort" if that's what had to be done to participate in the consortium being planned by the IRS and the private sector, said Harley Duncan, executive director of the Federation of Tax Administrators of Washington, a group representing state tax officials.

Anatomy of a compromise

The government's agreement to refrain from direct Internet filing "was the quid pro quo for industry stepping up" and providing free tax preparation software to a substantial number of taxpayers, said Jason Mahler, vice president and general counsel of the Computer and Communications Industry Association.

The Treasury Department, Internal Revenue Service and Office of Management and Budget were involved in negotiating the government side of the agreement. The Computer and Communications Industry Association of Washington, the Council for Electronic Revenue Communication Advancement of Alexandria, Va., Intuit and H&R Block represented the tax preparation industry, industry officials said. The final agreement, which took six months to negotiate, was announced July 31, Mahler said.

The agreement followed intense internal debate within the administration over whether the federal government should provide electronic tax preparation and filing directly to consumers. OMB floated the idea of direct Internet filing, but IRS officials were reluctant to consider the idea because Commissioner Charles Rossotti had told the tax preparation industry it would be included in any e-filing program.

Throughout the debate, the tax preparation industry clung to the IRS' promise to allow it to play a central role in the final plan. In the end, the Treasury Department and OMB agreed that the IRS would not develop applications for direct Internet filing but would allow industry to provide them under the terms of the agreement that establishes the consortium.

"One of the things that we made clear with EZ Tax Filing [project] is the IRS doesn't do their own software for new projects anymore," said Mark Forman, OMB associate director for information technology and e-government, during a meeting with PostNewsweek Tech Media editors and reporters.

"In no case would we have ... the IRS start building software again. ... Industry is going to do this one way or the other," Forman said.

Ed Black, CCIA's president and chief executive officer, said that while the tax preparation software industry believes the government should provide Internet filing as part of e-government, the industry was vehemently opposed to any attempt by the government "to slide into tax preparation."

The final agreement "was a fairly natural evolution from commitments that Rossotti made several years ago," Black said.

The final agreement calls to establish a nonprofit tax software consortium, of which its members will provide free software to a percentage of eligible taxpayers in return for the federal government's promise that it won't provide free electronic filing without forewarning to the tax preparation industry. The agreement will be published shortly for public comment in the Federal Register, OMB said.

Among the requirements for participating in the consortium, companies would have to offer free services to a number of individual taxpayers that equals or exceeds 10 percent of all individual income tax returns. They also would be required to have experience providing e-filing services, privacy and security certification and at least one electronic link to the IRS.

The companies would not develop new products or applications but will make existing products available for free to eligible taxpayers, government and industry officials said.

Taxpayers who choose to file their federal tax returns online may pay an average of $12.50 in filing fees in addition to the cost of purchasing preparation software, OMB said.

The consortium could be up and running as soon as next January, in time for the 2003 tax season, said Stephen Ryan, a partner with Manatt, Phelps & Phillips, who assisted the CCIA in negotiating the agreement.

Unplugging the states

Some who helped establish the consortium said states with e-filing programs should consider unplugging their systems in favor of participating in the EZ Tax Filing program.

"From my viewpoint, the states would be better off with this model than with the life-cycle costs of their own models or systems," Ryan said. "States may want to re-examine the life-cycle cost of their programs and see whether this is a better use of their money in a recession."

More than 20 states offer direct e-filing via a state Web site where taxpayers can submit both state and federal returns in a single transaction using their personal software or through a practitioner that uses filing software.

If the EZ Tax Filing project does not offer access to state electronic filing, it could draw taxpayers away from state agency sites, Duncan said. But if the project provides taxpayers with access to state filing and increases overall electronic filing, then it would be beneficial to the states, he said.

States with e-filing programs are interested in working with the consortium, but the companies involved have said they do not want to work with them "as long as the states continue to develop their own direct Internet filing programs," he said.

States that don't have an electronic filing program are eager to work with the consortium, Duncan said.

Belden said concerns about existing state e-filing programs are unfounded. The consortium "isn't a threat to standalone systems. It might draw some people away, but people using [state] systems will probably continue to use them," he said.

About the Author

William Welsh is a freelance writer covering IT and defense technology.

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