IRS prepares campaign to resuscitate Free File

IG blames a renegotiated agreement for the steep drop in taxpayer participation

Participation in the Internal Revenue Service’s Free File program dropped dramatically in the past year because of a new agreement between the IRS and a group of companies that provide the free electronic tax-filing service. Under the new agreement, fewer people are eligible for the free service.

Cindy Hockenberry, a tax information analyst at the National Association of Tax Professionals, which represents tax practitioners, said the IRS agreed to the new terms to accommodate a variety of interests, including those of the tax software industry. Tax practitioners are in business to make money, and if e-filing is available to everyone for free, those companies couldn’t stay in business, Hockenberry said.

A report from the Treasury Department’s inspector general for tax administration documents the recent decline in Free File participation. It shows a nearly 23 percent drop in Free File use in 2006 compared with 2005, before the new agreement set stricter income rules and disqualified many people who had been using the free service.

Nina Olson, national taxpayer advocate, said this year’s decline in Free File use masks a deeper problem. “Even at its maximum usage, Free File has not been very successful at inducing current paper filers to file electronically,” she said, because many taxpayers have security concerns about routing their personal financial and tax information through third-party tax preparers.

Olson said the IRS should develop a free Web portal to let taxpayers e-file returns directly and bypass third parties. Some lawmakers have made similar suggestions to the IRS.

IRS records show that about 70 million taxpayers filed electronically in 2006, and about 4 million of them used Free File. In the past, the IRS had no way of knowing how many people used Free File. But under the new Free File agreement, tax preparation companies that provide the free service must add a code to electronic tax forms that they submit under the program. The code enables the IRS to measure taxpayer participation in the Free File program. Before 2006, tax preparers reported those figures themselves.

Within the terms of the new agreement, the IRS wants to persuade the 93 million taxpayers who are eligible for Free File to use the program. IRS officials say they are developing a marketing plan to expand the program.

Bert DuMars, director of the IRS’ Electronic Tax Administration, said the agency is creating a marketing campaign and working with the participating companies to attract eligible taxpayers in the next filing season. “Our biggest challenge to overcome is awareness,” DuMars said.

Another challenge has been reaching a consensus in the government on the purpose of the Free File program. The terms of the original Free File agreement between the IRS and a group of tax companies known as the Free File Alliance focused on serving low-income taxpayers, said Timothy Hugo, executive director of the Free File Alliance. But a recent report from the IG for tax administration states that the intent of other federal initiatives, such as e-government and EZ Tax Filing, is to provide free electronic filing to all taxpayers, which the Free File program does not accomplish.

The new Free File agreement excluded 39 million taxpayers who previously had been eligible for the program. It limits the program’s use to taxpayers with an adjusted gross income of $50,000 or less, which is about 93 million people or 70 percent of taxpayers, according to the IG report released in September.

“This binding 70 percent coverage requirement will increase in numbers as the taxpayer population increases,” Hugo said.

In 2002, when the IRS and the Free File Alliance signed their initial public/private partnership deal, they agreed to offer a free online tax preparation and e-filing service to at least 60 percent of taxpayers.
Baucus weighs alternative to Free FileSen. Max Baucus (D-Mont.), the incoming Senate Finance Committee chairman, said programs that promote electronic tax filing will help close the annual $345 billion gap between taxes legally owed and taxes collected on time. But Free File, an Internal Revenue Service partnership program that could contribute to closing the gap, is not working, he said.

“The Free File program is just too restrictive, too circuitous and too often simply not free to be a truly effective tool for taxpayers who want to meet their annual tax obligations,” Baucus said.

The senator said he supports creating a Web portal on the IRS’ Web site where taxpayers could file their tax returns electronically rather than having to file via third-party tax preparers.

— Matthew Weigelt

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