Cracking the Tax Code

April 15, 2002 • Commentary

Computer programmers have done what lawmakers would not do and what activists could not do: radically reduce the costs of paying income taxes. Programmers have not lowered our tax rates, of course. But they have written software that makes it stupendously cheaper and easier for us to file our income taxes. We can thus thank those heroic geeks for saving us millions of dollars worth of time, effort and anguish. Paradoxically, though, the growing use of tax preparation software threatens to influence public policy for the worst, saddling us with an increasingly meddlesome and inefficient income tax system.

To the injury of taking our money, income taxes add the insult of forcing us to calculate how much we owe. Americans spent 4.6 billion hours trying to make accurate and timely federal income filings (to say nothing of state income taxes) in 2001. Because lost time equals lost money, that busywork imposed a deadweight loss on our economy of over $140 billion. That same year, 57 percent of individual federal taxpayers effectively gave up trying to understand their filing obligations, instead punting to paid professionals. Complying with income taxes has plainly grown too costly and difficult.

Thankfully, clever entrepreneurs and programmers have rushed to our aid. Software like Intuit’s TurboTax, H & R Block’s TaxCut, and Second Story’s TaxAct, offer fast, cheap, and accurate help with federal and state income taxes. Such tax preparation programs will guide you step‐​by‐​step through the maze of tax rules, complete your federal and state returns, and electronically file them with the appropriate authorities. Some programs even offer videos of tax experts explaining arcane topics, loans against expected refunds, and insurance against audits. None cost more than $40; some versions cost nothing.

Unsurprisingly, given those evident benefits, the use of tax preparation software has exploded. IRS statistics reveal that in the last year the number of returns individuals prepared on their own computers and filed electronically increased by 39.6 percent. The year before it increased by 36.7 percent. Already this filing season, 9.5 percent of individual filers have taken the high‐​tech do‐​it‐​yourself route. Even that understates the popularity of tax preparation software, as untold numbers of users no doubt print out their forms and mail them in via snailmail. If current trends continue, as seems likely, most Americans may soon regard filing income taxes no more burdensome than, say, spending an afternoon online planning a vacation.

None of this is to say that software can remove every cost of complying with income taxes. It cannot, for instance, decide how much you should deduct for your home office (though it can certainly explain the relevant standards). And though cheaper than professional help, most tax preparation software still costs something (though you may be able to take a deduction for those costs).

Nonetheless, tax preparation software undoubtedly offers a huge improvement over the old‐​fashioned way of filing income taxes. It offers a largely welcome change, too, as it stands to radically reduce the deadweight losses and out‐​of‐​pocket costs that formerly accompanied the preparation of tax returns. In the long run, though, the growing use of tax preparation software may have some surprising and unwelcome side effects.

First and most obviously, tax preparation software stands to reduce citizens’ dissatisfaction with income taxes. No computer program will make us enjoy giving our money to the government. But by making it considerably less painful to prepare and file our returns, tax preparation software largely mitigates one universal and heartfelt complaint about income taxes.

As a consequence, second, tax preparation software will hamper efforts to simplify or eliminate income taxes. Although they can cite other arguments for instituting flat or value‐​added taxes, reformers will find it increasingly hard to rouse voter outrage over the incomprehensibility of the income tax code and the burdens of preparing tax returns. Programmers, for better or worse, will have solved that problem.

Third and most disturbingly, lawmakers may feel fewer inhibitions about using income taxes to micromanage citizens’ behavior. Special interests have already loaded the tax code with carrots and sticks. Because tax preparation software reduces voters’ costs of complying with such meddlesome details, it makes them more politically attractive. Preparation software may thus encourage greater tax complexity in the same way that withholding, a similar anesthetic, encouraged higher tax rates.

Incautious fans of an activist government may welcome that side effect of tax preparation software. But careful economists will note that, even with reduced compliance costs, the income tax system imposes crushing inefficiencies on our economy. And advocates of limited government will continue to object that the income tax system intrudes on our privacy, unfairly redistributes wealth, and empowers political busybodies. Regardless of how tax preparation software may soften its blows, we should not forget that the income tax batters our economy and threatens our rights.

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