The IRS Direct File pilot is currently open to eligible taxpayers here

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President Biden signed legislation over the weekend to rescind $20.2 billion in investments from the IRS as part of an agreement to avoid a partial government shutdown. The appropriations package also kept IRS funding flat at fiscal year 2023 levels, a further de facto cut to the agency, given that costs as well as the number of taxpayers rise each year.

While the funding cuts may have been necessary as a political matter to avoid harmful agency shutdowns, they are severely misguided as a policy matter. By all serious accounts, cuts to IRS funding increase the deficit due to uncollected taxes – mostly from big businesses and the very wealthy.

On the flip side, regular taxpayers benefit from a competent and well-funded IRS. Most people do their best to pay their taxes accurately and on time, and slashes to funding like we saw in the decade before the Inflation Reduction Act (and in the past year) that leave the agency understaffed and underequipped only create more headaches. Such cuts also redirect enforcement resources from high-income taxpayers with complicated returns to the rest of us with relatively simpler returns.

Decade of Austerity Diminished the IRS’ Ability to Serve its Mission

Between 2010 and 2021, the agency’s budget was cut by a fifth and the number of revenue agents dropped by 35 percent. Meanwhile, the number of tax returns filed grew by 13 percent, and the number of tax returns filed by individuals making more than $500,000 grew by 70 percent from 2011 to 2019. As a result, the audit rate on these wealthy individuals dropped by more than 76 percent.

Although the IRS budget cuts were part of a larger campaign of government austerity following the Great Recession, the cuts put the federal budget in a worse position. The gap between the taxes that people legally owed and what they actually paid grew as high as $600 billion annually by 2021, more than half of that due to unpaid taxes from the top 5 percent of income earners.

It wasn’t just the country’s fiscal situation that suffered from the assault on the IRS. Regular taxpayers trying to file accurate and timely tax returns found themselves dealing with an agency unable to meet the needs of the public. In 2022, the Washington Post reported on outdated and understaffed IRS processing facilities. IRS employees were in many cases using ‘70s-era technology and business processes. The Austin, Texas facility was so strained that its cafeteria became an impromptu document processing center.

The agency was failing. It was simply unable to answer calls, respond to letters, or issue swift tax refunds, much less ensure that large, complex businesses were paying the taxes they owed.

Recent Improvements to the IRS are Delivering Immediate Results for Taxpayers

The Inflation Reduction Act passed in 2022 reversed the decades of funding cuts to the IRS. The bill allocated $80 billion in immediate funding to the agency to return its workforce to adequate levels, modernize its business systems and technology, and increase tax enforcement on big businesses and people making more than $400,000 a year.

The results were immediate. In prior years, the IRS had satisfactorily answered just 15 percent of phone calls. Last year – the first tax year with the new funding – it resolved 85 percent. That’s still too low by most standards but a remarkable improvement. The agency also opened or re-opened 54 in-person centers to assist taxpayers across the country.

This year, for the first time ever, many taxpayers can file their taxes directly through the IRS as part of the Direct File pilot program. In past years, taxpayers were forced to either file by hand themselves or to use paid tax preparers like TurboTax, H&R Block, or Jackson Hewitt. The IRS did attempt to get private companies to offer free filing services for taxpayers with relatively simple returns through a program called the Free File Alliance, and the companies participated for some time. But this arrangement did not always go as planned.

Some companies hid the free services from search engine results, and in TurboTax’s case, their parent company Intuit was eventually sued for deceptively leading taxpayers into paid services rather than the free services. Intuit eventually settled for $141 million.

This year, the IRS Direct File option is only open to families with simple tax returns in select states. But the program should be available to more taxpayers in future years as more states adopt complementary programs to file their state tax returns. And in a recent Senate hearing, Treasury Sec. Yellen indicated that the agency is planning to improve the functionality of Direct File through improvements such as pre-populating taxpayers’ W-2s and other forms.

Positive Results for the Federal Budget Too

The improvements to the IRS have delivered progress toward closing the tax gap as well. Last year, the agency released a comprehensive strategic operating plan. In addition to improving taxpayer services, the document laid out the agency’s strategy for increasing audit rates on high-income individuals and complex business structures. While it may only take one auditor a few hours to review the tax return of a family claiming a child tax credit, dissecting the tax return of a large S-corporation could be a years-long project for an entire team of auditors. So, the first step is to hire more staff and provide them with the best training and technology available.

In January, the IRS announced that the new initiative was paying off. The agency collected $520 million in unpaid taxes from millionaires that would otherwise have gone uncollected in the first tax year after the new funding was passed. The agency had also begun leveraging modern technology like artificial intelligence to identify the most suspicious returns from large, complex partnerships.

Cutting this funding is costly, not just for the honest taxpayers who will spend more hours waiting on the phone, but with direct increases in the federal deficit. The latest estimates from the Congressional Budget Office show that a $20 billion recission in IRS funds will result in $44 billion in lost revenue. That estimate tracks with a recent Government Accountability Office report that found every hour spent auditing the returns of the most well-off families found $13,000 in unpaid taxes.

Despite Early Success, an Improved IRS Still Faces Opposition from Corporate Lobbyists and Republican Policymakers

The cuts to the agency’s funding included in the government funding bill are unfortunate, but unsurprising given the powerful forces opposed to a competent revenue agency. Of course, big corporations, private equity funds, and wealthy taxpayers don’t want effective tax enforcement. That in itself is a rather mundane storyline. But more insidious are the lobbyists and politicians who actually want to make it more difficult for regular Americans to pay their taxes.

Big Tax Prep Pushes Bizarre Claims About Direct File

Intuit – the maker of TurboTax, the largest paid tax prep software – spent millions last year lobbying against the Direct File pilot. Their arguments against Direct File are absurd, but creative.

Their original reason for leaving the Free Filing Coalition (of course, this was after they were sued for deceptive practices) was that their goal of increasing electronic filing had already been achieved. Ninety percent of Americans filed their taxes electronically, which for Intuit meant that taxpayers no longer needed a Free File TurboTax option. If it’s hard to see the connection there, the rest of their blog post explains the true motivation. They spend the dozen or so following paragraphs explaining that involvement in the IRS-sponsored coalition restricted their ability to market other paid services to the Free File clientele.

Intuit has also made racial equity arguments against Direct File that are totally divorced from reality. They promoted op-eds in Black newspapers and industry magazines arguing that the IRS option will harm Black Americans and that only the paid tax prep industry can adequately protect these communities. The argument relied on a flawed interpretation of recent research examining higher audit rates of Black taxpayers. One researcher behind the paper publicly stated that her work did not support the claims made by Intuit and other Direct File opponents.

In fact, it appears that Direct File may disproportionately benefit Black and Hispanic taxpayers. A new report from the groups Color of Change and Better IRS finds that not only are many paid tax preparers sorely undertrained and unqualified, but that they also concentrate their business fronts in areas with higher Black and Hispanic populations.

Other arguments have focused on the cost of Direct File. Intuit asserts that the IRS is deceiving taxpayers by calling it “free” because the program is government funded, so ultimately paid for through tax revenues. (This is a rather gutsy claim given Intuit’s own track record on deceptive use of the word “free.”)

Interestingly, though, the tax breaks that Intuit receives annually for software research potentially exceed the entire cost of the IRS Direct File pilot. Those tax breaks are no more “free” to the public than the IRS program since they result in revenue decreases that must be made up with either higher taxes on others, cuts to federal spending, or increases in the deficit.

Republican State Officials Amplify Nonsensical Arguments

Intuit is of course not the only party opposed to an improved IRS. Conservative pundits and lawmakers have long sought to undermine the agency and damage the public’s trust in taxes and government. They argue against increased tax enforcement on billionaire tax cheats by telling boogeyman stories of armed IRS agents crashing down the doors of small businesses.

Recently, Republican officials from 19 states sent a letter to the Treasury Department asking them to ditch Direct File. Their argument is one of the silliest yet. They claim that Direct File will lead to fewer people filing state tax returns. Never mind the fact the letter is signed by officials from states including Alaska, Florida, South Dakota, and Wyoming that have no state income tax and thus do not require taxpayers to file state returns anyway.

But how do these state officials argue a free Direct File option results in fewer people filing state tax returns? Only through a preposterous misrepresentation of the program. They claim that since Direct File only covers federal taxes, taxpayers will be misled into thinking they only need to file a federal return.

Naturally, the IRS took steps to prevent such mishaps before the pilot program even went online. For the most part, Direct File is only available in its first year to taxpayers who do not need to file state returns in the first place, namely those in states without income taxes. In four other states, the IRS partnered with state agencies to develop state-level Direct File programs that taxpayers are automatically directed to after completing their federal returns, much the same as how paid online tax prep services function.

It’s no surprise that anti-IRS activists are scrambling to find a leg to stand on. The first year and a half since the agency received a significant funding boost has proven that the agency can be a competent public resource when it has the tools it needs. The $20 billion recission passed last week is unfortunate, and it will increase the deficit by all accounts. Lawmakers must stop there and protect the agency for the benefit of regular taxpayers and for the government’s fiscal health.

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