Direct File is a big step toward simple and free tax filing

Recently, the IRS announced that its Direct File program is expanding. This is a big deal.

Filing a tax return is complicated. It’s costly. This is a bad situation for everyone, especially families struggling to get by on low wages. The complexity and cost of filing taxes deters many low-income workers from claiming the tax credits for which they are eligible, undermining some of the nation’s core anti-poverty strategies.

But with Direct File, a new system is beginning to take shape, one that will provide a simple and free way for people to file their tax returns. Courtney O’Reilly, a Senior Program Manager on the Tax Benefits team at Code for America, explains what IRS Direct File is and why its expansion is an exciting development. Then, Daniel Hauser of the Oregon Center for Public Policy discusses what the situation looks like in Oregon – the harm inflicted on Oregonians from our complex and costly tax filing system, as well as efforts to create a better system.

Transcript

Television news anchor: The IRS says it is expanding its free online tax filing program next year, and that means Direct File will be available to taxpayers with certain simple federal returns in all 50 states and the District of Columbia.

Juan Carlos Ordóñez (host) Paying taxes is our civic duty. Taxes are how, together, we fund schools, health care, and so much more. But for decades, fulfilling this responsibility has not been easy. Filing a tax return is complicated. It's costly. With many of us having to pay a big corporation to file and prepare our tax returns. This is a bad situation for everyone, especially families struggling to get by on low wages.

The complexity and cost of filing taxes deters many low income workers from claiming the tax credits for which they are eligible, undermining some of our nation's core anti-poverty strategies. But as we explore in this episode of Policy for the People, a new system is beginning to take shape, one that will provide people a simple and free way to file their tax returns.

We begin by talking with Courtney O'Reilly, a Senior Program Manager on the Tax Benefits team at Code for America, about the need for a simple and free way for people to file their tax returns and how the new IRS Direct File tool is a critical step in that direction. Then I speak with my colleague from the Oregon Center for Public Policy, Daniel Hauser, about what the situation looks like here in Oregon, the harm inflicted on Oregonians from our complex and costly tax filing system, as well as efforts to create a better system.

Hi, Courtney. Welcome to Policy for the People. 

Courtney O’Reilly: Thank you so much for having me. 

Juan Carlos: Courtney, could you share with the listeners a little bit about the mission of Code for America and why part of your organization's work focuses on the tax system? 

Courtney: Code for America is a civic tech nonprofit organization that believes government can and should work well for everyone in the digital age. And we work closely with government partners and community leaders to ensure that that's possible. And specifically for our tax team, our mission is to ensure low and middle income taxpayers can file their returns and claim their eligible refundable credits as simply as possible. And we envision a world where it is easy and free for everyone to file a return.

Juan Carlos: So I imagine that our listeners know firsthand about the headaches and costs that come with preparing and filing tax returns. And certainly a complicated tax filing system is a problem for individuals. But are there also systemic problems associated with having a tax filing system that's so complicated? 

Courtney: Thank you so much for bringing that up. When there are complicated tax systems and there aren't any free or easy to use tools to help people through that system, people end up paying hundreds of dollars to file a return, essentially paying a tax to file their taxes.

And through this process, they may also be encouraged to utilize predatory lending practices that significantly reduces their refund and prevents them from accessing other services and even beyond the expense and headache of filing a return. Sadly, many people find that that's too overwhelming and they don't file a return at all. And as we were saying, when you don't file a return, you miss out on critical benefits.

This adds up to billions of dollars a year in unclaimed tax credits. And so when this happens, families aren't able to access those resources. But there are longer downstream effects. We know that filing a tax return helps access other resources. So think when you are applying for student aid through FAFSA, when you're accessing housing. All of these different things are often tied to the tax return you file.

And so by missing out on filing a tax return, it causes a whole other headache of problems for families who really need every resource they can get. 

Juan Carlos: Last year, the IRS, the Internal Revenue Service, launched a pilot program for an electronic filing tool called Direct File. And your organization called the launch of Direct File, “the beginning of a sea change in the tax system.” Can you explain to our listeners what Direct File is and why it's such a big deal? 

Courtney: Yeah, so Direct File is a forward thinking project to provide free, simple and dignified tax filing services to American families. And this past tax season, they piloted their program to allow families to file directly with them. One of the things they were trying to do in that pilot was address some of the challenges that were called out in a feasibility report.

And by and large, they were able to overcome many of those perceived barriers by adopting best practices and civic technology. They started small. They put low income taxpayers first, and they really developed and delivered a product that people loved. And many of the challenges that were identified were addressed. One of the big challenges that was identified was how are people able to then file a state tax return without making it overly burdensome?

And they created and developed an opportunity to transfer that data securely to a handful of state filing tools to make it as easy as possible. So it’s an exciting first step, and I think we're just even more thrilled to see what's going to come next. 

Juan Carlos: I'm wondering if you can describe what IRS Direct File looks like. Is it basically like a TurboTax kind of program run by the government?

Courtney: Yeah. So Direct File is a is definitely a self prep or a DIY tool for people to file their own taxes. Some of the great things that they offered this year was that it was mobile first. It was available in English and Spanish and it used an interview style question. So asking people questions about their household that they would know the answer to, then advising them on, okay, it looks like you qualify, for example, for head of household. So instead of the person having to guess, do I qualify as head of household, do I file single? Which do I do? It helped them through that, through really thoughtful questions. Included in those questions were a number of helper texts to better explain what was being asked and examples. The other thing that IRS utilized this year was live chat.

So if people got stuck or needed a little bit of additional assistance, they could access that. All of those best practices in somebody filing their own tax return showed that this complicated system can be broken down in really easy ways that allows somebody to quickly file a return and not feel that same overwhelming stress of doing so.

Juan Carlos: This past tax season, IRS Direct File was available as a pilot program. How widely available was it? 

Courtney: They chose a limited scope to try to start small and focus on low to moderate income households. But it's estimated that with their limited scope, which include things like wages, interest, income, unemployment and Social Security and a number of are the most widely used refundable credits like child tax credit and the Earned income credit, the tool was available to over half of low to moderate income households in the selected states. So while it wasn't available to everyone, it did meet a number of people's needs just in the first year. 

Juan Carlos: So there was a big announcement recently by the IRS regarding Direct File, and that is that it's going nationwide next tax season and that the program's going to be permanent. What do you think is the significance of this announcement? 

Courtney: Yeah, just a quick clarification. Yes. So we are so excited that they announced that this is going to be a permanent fixture and that they will continue expanding it to serve more and more people. I think the one caveat is that states can can choose to participate in the direct pilot program next year. So it's, in essence, available to all 50 states to opt into this. It may still be only available to taxpayers in the states that say, yes, I want to be a part of this. We're going to create an integrated tool and the like. 

For years, Code for America has been studying why people are missing out on their tax benefits and why they are unable to file, and how do we resolve some of those barriers that taxpayers are experiencing? And I think we always knew that a government led free, accessible tool was the best answer to meet those needs and overcome those barriers. And so this thing that we thought was a dream far, far out all of a sudden became realized when the IRS announced this, and then doubling down on that and saying, okay, we're going to continue doing this, we're going to continue expanding.

It is an enormous step forward and something we see as really giving people access to a really valuable resource going forward. 

Juan Carlos: IRS Direct File is the system for filing federal tax returns. But in most states, and Oregon included, people also need to file a state tax return. What's happening at the state level in terms of making it easier for people to file their state tax returns?

Courtney: The state filing piece is definitely one of the early questions of what would this look like. We know, most people have a state filing obligation, just as they have a federal filing obligation. And much of the information on a state return comes from what's on a federal return. And so what the IRS did was they created a way for taxpayers to consent to bringing their federal data into a state filing tool.

And then it was up to states to figure out the solution of utilizing that data and making it seamless and easy to use. This past year, Code for America was fortunate to work with New York State and Arizona to build and launch an integrator and seamless state filing tool with Direct File.

So residents in New York and Arizona, after finishing the Direct File tool, were able to bring over their federal information and then skip 90% of the state return questions because it was already answered on the federal return. And then just answer a few additional questions that are specific to states and then file and electronically file their state return.

And so as much as this was a concern and a challenge, we now know it's solvable. And in addition to New York and Arizona, other states tested their own different options. What we're really hoping for this next year is more states step up and say, great, let's find a solution. Let's enter this space and come up with a really easy to use one. And we obviously hope Oregon will be included in that group of states that join this effort. 

Juan Carlos: Beyond having a tool like Direct File and what else needs to happen to have a tax filing system that is truly simple and free? 

Courtney: Yeah, such a good question, and I love that we're getting to the point that once Direct File comes in and solves some of these major barriers, we can really think more broadly and think more holistically about the system.

First and foremost, I think obviously just having these tools is just step one. We want to encourage, whether it's the IRS or state tax agencies to continue iterating, improving, focusing on those who need the most help and making sure that their needs are being met in these tools. So continuing that process. That also includes looking into making sure that there are flexible and optional identity verification options just to make sure that people are able to access it and do so in a way that fits their needs.

And then beyond that, I would say it's important to also know that an easy to use tool is available, making sure that people are aware of both the credits that they may be eligible for and these resources. And this is where you can work directly with state agencies. You can work with people who communicate directly with eligible users to make sure they're aware of that.

Juan Carlos: One of the things that people have discussed in terms of potential next steps is the idea of having pre-filled tax returns, given that tax agencies already have a lot of information about our taxes. They have copies of our W-2s and 1099s and so on. I'm wondering what you think about that idea. 

Courtney: Thank you so much for bringing that up. And I think that is why we were most excited about the IRS getting into Direct File. We think that tax agencies like the IRS and other state agencies are uniquely positioned to address this, what is a major hurdle for families who don't have access to their tax documents. And, you know, it does always feel a little bit silly to type in a tax form information that they may already have a record of.

And by pre-populating some tax returns with the tax data they already have not only reduces the burden on family, but improves accuracy. And so we are hopeful that now that the IRS has announced that they're making it permanent, that over time more and more of these features will be available. And this is where, again, we can make tax filing less of a headache, faster and more accurate for everyone. That not only serves taxpayers, but the agencies that are responsible for processing their tax returns.

Juan Carlos: Courtney, are there any final thoughts you want to share with us regarding this effort to create a simple and free tax filing system? 

Courtney: I think it's just it's a real testament to all of the incredible advocacy across the country. People have been working towards this moment for literally decades. And so I think it's just a moment to celebrate, to say what an incredible thing, to have an agency that is funded, to do something that will make it much easier for people to fulfill their tax filing obligation and access their credits.

So I think this is just a great moment for advocates, and I'm really excited to see what comes next. 

Juan Carlos: That was Courtney O'Reilly of Code for America discussing the new IRS Direct File tool and how it represents a big step in the direction of having a simple and free tax filing system. 

And now we zoom in on Oregon. My colleague Daniel Hauser, deputy director of the Oregon Center for Public Policy, discusses one very clear harm that we're seeing in Oregon as a result of having a complex and costly tax filing system, as well as what's happening in the state in terms of solving the problem. 

Daniel, you recently wrote a paper about the share of Oregon families eligible for the Earned Income Tax Credit that did not claim this tax credit. I want to talk about the findings of the report, but let me start by asking what is the Earned Income Tax Credit? 

Daniel Hauser: So the Earned Income Tax Credit is a federal and state tax policy that helps working families. Here in Oregon, about a quarter million working families benefit from the Earned Income Tax Credit. And the federal Earned Income Tax Credit, really the core structure of the program, is designed to boost the incomes of families that have earned income, that are working, earning wages. And so starting at a low income, just as people are first starting to earn a few thousand dollars, the EITC can kick in and then it hits peak, if you will, with the full credit amount around $20,000 in income, and then it phases down gradually until you hit around $50,000 to $60,000, depending on your family circumstances. It's larger for working families with more kids, although it is eligible for people who do not have children as well. 

Juan Carlos: So what did your report find in terms of the share of Oregon families eligible for the EITC that did not claim the credit?

Daniel: As I was just noting. The Earned Income Tax Credit is complicated. It is hard for a family struggling to make ends meet, working two jobs with young kids to fill out their taxes, especially with this credit that has some of the most complicated instructions of anything that an average family might fill out for the federal income taxes.

And that does leave a lot of families not claiming the EITC in Oregon who are eligible for it. Our research estimated that about a third of eligible families did not claim it in 2022, and that's the lowest level in the nation. We estimate that's about 90,000. A little more than 90,000 Oregon families that did not claim the Earned Income Tax Credit that otherwise could have claimed it and could have got thousands of dollars back on their taxes. And historically, Oregon has been at or near the bottom over more than a decade. We've really you know, we've only been out of that bottom ten, maybe once. 

Juan Carlos: Why is it so concerning that a significant portion — you said a third of families — eligible for the credit for the Earned Income Tax Credit did not claim it?

Daniel: Fundamentally, these are families struggling to make ends meet. They are struggling to pay rent, are struggling to invest in their children's health and their education. This program is designed to route thousands of dollars to these families. So it really undermines the effectiveness of this program if people who are eligible aren't claiming the EITC, and the benefits of the EITC then don't percolate out into these communities and into these families.

There's really robust research showing that the Earned Income Tax Credit and other means of providing flexible cash to families to help them meet their needs lead to really robust outcomes in the long run for their children and for the economy. And we're talking about real money. Like the federal money that would be coming into Oregon if every Oregon family that was eligible for the Earned Income Tax Credit actually claimed it would be nearly $100 million a year.

We're talking about a really meaningful amount of money that could be in our local communities being spent at local businesses. 

Juan Carlos: So as you said, this is not a new problem. Oregon has been at or near the bottom in terms of EITC participation for a long time. Has Oregon tried addressing the problem of eligible families not claiming the Earned Income Tax Credit?

Daniel: There have been attempts recently. In 2017, the Oregon Legislature passed a bill that required a notice to be on W2s, that tax form you get from your employer showing your wages, to include a note that someone might be eligible for the Earned Income Tax Credit. We don't see any really robust evidence that that led towards a big uptick in people's participation in the EITC, and that's consistent with the research.

Sadly, there's been a number of studies that have really dug into outreach campaigns. You know, if you do things like putting up billboards or do things like targeted text messages, these types of experiments over the years have not shown really big differences in EITC participation rates. So it's not that we shouldn't do outreach. It's not that we shouldn't raise awareness about the EITC. We should. But what's clear is that alone will not solve the problem. That alone will not mean the more than 90,000 Oregon families that are eligible and aren't claiming the EITC are all going to, you know, start claiming it tomorrow just because they heard about the EITC. Many of these families have heard about the EITC. It's just not something that works for them in their family, in their circumstance, to have to go about figuring out how to file taxes and claiming it.

The vast majority of people who don't claim the EITC who are eligible don't file taxes. They're not legally required to file taxes, and so they don't. So awareness alone is not not going to be the solution to this. 

One other thing that I do want to mention. Oregon has attempted to increase credit participation rates in the 2022 legislative session. So just a couple of years ago, Oregon did create a new program called the Tax Infrastructure Grant Program. And what this program does is it invests resources directly into low income tax assistance clinics, VITA clinics. And those resources help support recruiting and training volunteers and other folks who can actually meet with low income families and help them file their taxes. These resources have gone to work helping people file, but the program is relatively small. It doesn't have enough funding to reach nearly the magnitude of the 90,000 families that could really benefit from claiming the EITC. 

Juan Carlos: So if information and outreach alone is not going to get the job done, what else should we be trying? What's the real solution here?

Daniel: I think it's twofold. First, we need to really address the structure, the process that it takes of filing or taxes is onerous. It's complicated. It's stressful. You have to track all the right data. If you do it wrong, you could be afraid that you're going to get penalties. I mean, it's a scary process for a lot of people to file their taxes. And if you use someone to help you file your taxes, a tax preparer or you go through tax software, you're having to spend money to just fill out your tax return, just to have your legally required tax payments remitted to the state and federal governments. So what we really need to do fundamentally is to make tax filings simple and easy. That way people are able to file taxes and those thousands of eligible families for the EITC who aren't filing their taxes can claim it without the same fear and confusion that they have today. 

Juan Carlos: So earlier in the show, we heard from Courtney O'Rilley from Code for America discuss the new IRS Direct File tool this past tax season. The IRS tool was available to people from about a dozen states, but not Oregon. I'm wondering what's happening in Oregon in terms of making it easy and simple for people to file their tax returns. 

Daniel: The federal program for Direct File that you talked to Courtney about earlier is an absolutely incredible program, and we're very excited about it. But here in Oregon, we actually took our own steps towards doing Direct File. So for the first time, just about five months ago, Oregonians could go ahead and they could file their own taxes through Direct File Oregon.

They could go to an Oregon Department of Revenue website. They can answer simple, accessible questions about their life circumstances — Do you own a home? Do you have kids? How old are they? — that make it really easy and customer friendly to fill out your taxes directly with the Department of Revenue here in Oregon. From what I understand, and talking to the Department of Revenue, they've had thousands of people use Direct File Oregon in its first year and they had really, really strong positive results from that. The feedback they got from people who filed their taxes using Direct File Oregon was overwhelmingly positive.

And that is really encouraging and that is fundamentally the direction we need to go if we want to make tax filing in Oregon free and simple. Another big thing that happened recently is that the IRS announced that this Direct File tool is going to be available for all states that choose to participate next tax season. So it's possible that it'll be available to Oregonians, you know, next year.

Juan Carlos:  What else needs to happen to ultimately achieve a simple and free tax filing system?

Daniel: The IRS Direct File program going national is big news, and I have every reason to believe that the Oregon Department of Revenue is going to be working hard to integrate with the federal program to make it to where an Oregonian who might be eligible can go to the IRS website, enter in their information in this very customer friendly, very easy to access tool. And that information, when they are ready to file their federal taxes, will go right down to the state. You can you can just click a little button that says fill out your state taxes and that data will get put right into the Oregon Direct File system. And people only need to answer a handful more questions that are unique to Oregon's tax system before they can complete the filing. I know other states that were able to use the Direct File tool that had the state federal integration this last year and outside of Oregon, that the results were great.

People were able to do it in minutes, in many cases, to complete their state filings. And that's exactly what I expect to happen here in Oregon at our next filing season. Everything I've heard is that the State Department of Revenue wants to make that happen, and it's going to work to do so. So that'll be really great. But that's for next filing season.

What we need is to keep making it simple and easier along the way. And one of the really key ways to do that is to provide pre-populated tax forms. In many cases, the Oregon Department of Revenue in the IRS, when you verify your identity right with them, your your social, your individual taxpayer identification number, whatever means of verifying your identity years, they will have your last tax return. They'll know that you have kids, they'll know their ages and their Social Security numbers. They'll know where you worked last year. They might even already have your W-2 or your other tax forms where that information can then be automatically pre-populated. They can just tell you the information they already know. You can add anything else that might be happening for you. Maybe you bought a home and they weren't aware yet, whatever it is, but you'll be starting from this pre-populated form that will make it so much easier to file and claim or file your taxes and claim refundable tax credits like the Earned Income Tax Credit. 

And one other thing that I think is really important for Oregon to get right, to make tax filing simple and free, is funding for these tax assistance programs. I mentioned earlier the Tax Infrastructure Grant program here in Oregon that was created just a couple of years ago. Right now, it's got $4 million per year going out to community based groups and low income tax assistance clinics around the state to help people file their taxes. And that's great, but they need more. It's clear that the demand and the need for these services far exceeds that funding. And so seeing additional investments at the state and federal level in tax assistance for low income families is going to be absolutely crucial for us to reach a place where Oregon's tax filing is as simple and free as possible. 

Juan Carlos: Daniel, any final thoughts you want to share with us regarding the need to move towards a simple and free tax filing system?

Daniel: We are talking about a system that you're legally required to participate in, and many cases we have laws that require you to file your taxes. It's part of being a member of society, a member of our community, and yet we make it so hard. We make it so difficult and expensive to file. And so a free and simple tax filing system, yes, it'll absolutely help EITC-eligible, low income working families. And yes, that's a lot of what we spent time today talking about. But it will surely help all Oregonians file their taxes. Every one of us can have an easier, cheaper, more convenient means of filing our taxes.