However, as the first step in the testing phase by members of the general public, the IRS said on Feb. 8 that it started testing the program with a group of around 1,200 taxpayers in a handful of non-income tax states (from the list of 12 participating in the pilot).
Now, the IRS said in a Feb. 16 update that it is expanding the Direct File pilot to several hundred additional filers in three states with income taxes: Arizona, New York, and Massachusetts.
Feedback and Opposition
The IRS said it continues to receive a steady stream of returns from the 1,200 taxpayers from non-income tax states already taking part in the initial phase of the pilot.“Early users report satisfaction with Direct File and the customer service representatives they have interacted with via live chat,” the IRS said in the Feb. 16 update.
“First filers have indicated that Direct File is straightforward and easy to use, and many have successfully filed their taxes in less than 30 minutes,” the agency added.
The initial version of Direct File focuses on handling wage income rather than investment income and can process a limited number of tax credits, such as the child tax credit.
“We write to you in opposition to the unnecessary and unconstitutional efforts to empower the Internal Revenue Service (IRS) with the expansive authority to prepare and file tax returns for all taxpayers,” said a Jan. 30 letter from the Attorneys General to the Treasury Secretary.
“Congress has never granted the Department of the Treasury authority to create a Direct File program. And for good reason: the American taxpayers do not want to invite the proverbial fox into the hen house. A Direct File program will also have negative consequences for low-income filers and devastate small businesses,” the attorneys general wrote.
IRS Commissioner Danny Werfel was challenged about the program during a Thursday hearing in Congress.
“I don’t think you should be wasting your millions of dollars when the private industry is doing a good job,” Rep. Carol Miller (R-W.Va.) told Mr. Werfel of the IRS’ plans for Direct File, referring to a $60 billion funding boost from the Inflation Reduction Act (IRA).
Mr. Werfel defended the program, insisting that the IRS has the “responsibility and authority to offer taxpayers different approaches for how to meet their tax obligation.”
Background
In May, the IRS released a report to Congress that said most taxpayers are interested in such a program and that the IRS is technically capable of delivering a Direct File program.“The IRS review looked at the potential operational and administrative requirements of such a system. Ultimately, the results show there is taxpayer interest in an optional Direct file program, and such a program is technically feasible. Any path forward should start with a limited pilot to assess operational factors,” IRS Commissioner Danny Werfel said in a statement in May, adding that the agency looks forward to working with various stakeholders on the project.
Data cited in the IRS’ “Direct File” report to Congress showed that taxpayers would be more interested in such a program if it included support for filing state tax returns.
As the IRS’ work on the program progressed, it issued a call in January for states to work with the agency on the pilot.
Mr. Werfel said in the letter that the IRS is especially interested in input from states and the FTA on the “challenges they may face when integrating with a Direct File pilot, be they technological, policy-driven, or other concerns.”
“We welcome involvement from all states that are interested in taking part in the 2024 pilot,” Mr. Werfel wrote, asking states to express interest in participating in next year’s test drive by the beginning of September 2023.
Experts have said that a number of issues need to be resolved before a state tax filing component can be incorporated in Direct File, including ensuring the security of taxpayer data.
An analysis from an independent third party on the feasibility of the Direct File system, which was included in the IRS’ report to Congress, was carried out by New America and professor Ariel Kleiman, an associate professor of law at Loyola Law School, Los Angeles.
Mr. Kleiman and New America wrote in their analysis that, for the new system to be successful, it must address several key imperatives (including customer support and data privacy and security) and be rolled out gradually.
The third-party report also noted several challenges to including state tax filing in the Direct File platform.
For example, the report notes that since state governments rely on existing IRS systems for tax collection, benefit administration, and fraud prevention, any potential Direct File system provided by the IRS would need to take care not to disrupt the current business processes of state governments.
Since taxpayers are used to filing federal, state, and local returns at the same time, a potential Direct File tool would need to make it easier for taxpayers to file their state returns using data from their federal returns, the report notes.
All major existing commercial tax software products allow users to file federal and state taxes together, with data usage restrictions that the IRS faces amounting to a potential user experience hurdle and a problem the tax agency needs to solve.
