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How Direct File Will Work in 2025: Free Tax Filing, Explained [1]

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Date: 2024-12

The IRS is expanding who can file for free with the government for the 2025 tax filing season, doubling the number of states that can participate.

Direct File, the government’s free electronic filing software launched this year after the Democrats’ 2022 tax-and-climate law, is now a permanent option. It will be open to 30 million taxpayers at the start of the next filing season.

Its creation has disrupted the tax-prep software industry, which has lobbied for decades against development of such a tool. Republicans in Congress and tax-prep companies argue Direct File is unnecessary and duplicative of free public and private tax-preparation software.

That tax-and-climate law, also known as the Inflation Reduction Act, gave the agency $15 million to study the feasibility of creating an e-filing return system. Treasury leadership then directed the IRS to create a pilot.

The 2024 pilot, which the IRS says was intentionally kept small, had a phased rollout, and smaller set of eligible taxpayers. The uptake was a fraction of the eligible taxpayers though, with 140,803 taxpayers filing using Direct File out of the 19 million eligible.

Still, the IRS said that many of those who used Direct File had positive experiences. Here’s what you need to know.

1. What states will participate?

Taxpayers in two dozen states will be able to file their federal tax returns for free with Direct File. State tax returns will have to be filed separately using a different software.

Direct File will be available in Alaska, Arizona, California, Connecticut, Florida, Idaho, Kansas, Maine, Maryland, Massachusetts, Nevada, New Hampshire, New Jersey, New Mexico, New York, North Carolina, Oregon, Pennsylvania, South Dakota, Tennessee, Texas, Washington, Wisconsin, and Wyoming.

The coordination with states is a key selling point for potential users who want to easily file both their federal and state returns, according to an independently commissioned survey from the MITRE Corporation. The survey found that taxpayers would be less interested in an IRS-run- e-filing option if it didn’t include state tax returns.

The IRS gave all states the option to join for the upcoming filing season, with 24 participating as of Oct. 3.

2. What tax situations qualify?

Taxpayers with low to moderate incomes will be able to use Direct File in the participating states. The criteria to be eligible was expanded from the tool’s pilot season to include additional types of income, credits, and deductions.

Wage restrictions are some of those limiting tax situations: You can’t use it if your wages are more than $200,000 ($168,600 if you had more than one employer), or if you are using the filing status Married Filing Separately and your wages are more than $125,000.

During the pilot, Direct File covered wage income reported on a W-2 form, Social Security income, unemployment compensation, and certain credits and deductions. During next filing season, it also will support 1099 forms for interest income greater than $1,500, retirement income, and the 1099 for Alaska residents reporting the Alaska Permanent Fund dividend.

For the 2025 tax year, Direct File will support individuals who qualify for the credit for other dependents, child and dependent care credit, premium tax credit, retirement savings contributions credit, and the deduction for health savings accounts. This is in addition to tax situations from its pilot season, when the IRS phased in users starting with federal and state workers and then more broadly opening up the tool in the middle of filing season to taxpayers filing simple returns.

In addition to Direct File, the IRS extended its Free File program for five years. Free File is a partnership with the agency and group of tax preparation companies known as the Free File Alliance that help taxpayers file without charging a fee since 2002. Taxpayers who made $79,000 or less in 2023 could file through the Free File program.

3. I filed my federal return. What’s next?

After taxpayers file their federal returns using Direct File, they will be prompted to select an option to file their state return, if they are required.

Some states such as California have their own free filing options and the data from the federal return won’t transfer over. Other states partnered with third-party vendors like Code for America, a civic tech nonprofit, or Fast Enterprises LLC, which will prepare some of the state return using the federal data.

Many states already use Fast Enterprises to manage their internal systems. Code for America provided a state e-filing solution in Arizona and New York for 2024.

Prepopulation of the federal return data into state systems, which aren’t uniform, is more complex to develop and won’t be an option for those using Direct File. Most tax-prep software companies prepopulate forms.

4. How will the results of the November election impact Direct File?

The IRS and Treasury Department have said they are committed to keeping Direct File as an option no matter the results of the presidential and congressional elections.

However, the priorities of the next president and Congress will determine whether the IRS has the funding to implement Direct File. The agency estimated the pilot cost was $31.8 million—a combination of costs for the IRS and its US Digital Service partner.

While neither presidential nominee has publicly shared their position on Direct File, if Republican nominee Donald Trump becomes president again, he could direct that Direct File be reexamined or killed, as many Republicans back. Conversely, many Democrats have long wanted the IRS to create free agency-run filing software and will seek to continue Direct File.

Republicans have chipped away at the agency’s supplemental funding from the 2022 tax-and-climate law and have signaled a desire for more cuts in IRS appropriations. This could cause the IRS to switch resources away from Direct File.

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[1] Url: https://news.bloombergtax.com/daily-tax-report/how-direct-file-will-work-in-2025-free-tax-filing-explained

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