Latest / The Fiscal Policy Podcast with Fexingo: Government Budgets, Stimulus, and Public Spending / How the IRS Spends 12 Billion on Paper Returns
Transcript
- Lucas: Every year, the Internal Revenue Service spends roughly twelve billion dollars processing tax returns. And here's the part that still gets me: a huge chunk of that money goes toward handling paper. Luna: Paper. In 2026. How much are we talking, exactly? Lucas: A Government Accountability Office report from late 2024 put the per-return cost of electronic filing at twenty-two cents. For paper, it's three dollars and forty-seven cents. That's more than fifteen times as expensive. Luna: So why is anyone still mailing in a paper return? I get that some people prefer it, but fifteen times the cost? Lucas: Well, in tax year 2025, about thirty-eight million individual returns were still filed on paper. That's down from previous years, but it's still a lot. And when you add in business returns, amended returns, and correspondence, the volume is massive. Luna: Thirty-eight million. So we're talking about billions of dollars in extra cost just because of the medium. Lucas: Exactly. The IRS has to maintain a whole parallel infrastructure for paper: mailrooms, scanning centers, data entry staff, storage facilities. And a lot of the underlying technology is ancient. Luna: I've read that the IRS still runs on Cobol from the 1960s. Is that right? Lucas: It is. The Individual Master File system — the database that holds every taxpayer's account — was written in Cobol in the early 1960s. It's been patched and updated, but the core is decades old. And it can't easily talk to modern e-file systems. Luna: So the paper returns are a symptom of a deeper tech problem. The IRS can't fully modernize because the underlying system can't handle it. Lucas: Partly. But there's also a political dimension. Congress has capped the IRS's funding for years, so modernization projects get delayed. The 2022 Inflation Reduction Act gave the agency a big funding boost — eighty billion dollars over ten years — but a lot of that has already been clawed back or reallocated. Luna: Right, because some members of Congress argue that a more efficient IRS would lead to more audits of ordinary people. Lucas: That's the political framing. But the GAO report found that the biggest source of taxpayer burden is actually the paper itself. It leads to errors, delays, and manual follow-ups. Electronic filing is more accurate and faster for everyone. Luna: What about the people who can't file electronically? Low-income filers, people without internet access, elderly taxpayers? Lucas: That's a real concern. The IRS has free e-file options, but awareness is low. And some tax preparation software companies actively steer people away from free filing so they can sell paid products. The IRS is supposed to offer a free direct e-file system — they were mandated to study it — but it hasn't happened yet. Luna: So we have a situation where the cheapest option for the government is also the easiest for taxpayers, but the system is stuck because of politics, legacy tech, and industry lobbying. Lucas: That sums it up. The IRS's own strategic plan for 2024 to 2028 sets a goal of eighty percent electronic filing by 2028. We're at about seventy-two percent now for individuals. So there's progress, but it's slow. Luna: And every percentage point that doesn't move costs money. If we could get to ninety percent electronic, the savings would be in the billions. Lucas: Let's put some numbers on that. The IRS processed about 260 million returns of all types in 2025. If each paper return costs an extra three dollars and twenty-five cents, then moving one million returns from paper to electronic saves about three point two five million dollars. Moving ten million returns saves thirty-two point five million. Luna: So the potential savings are huge, but the upfront investment in modernization is also huge. And Congress has to sign off. Lucas: Right. And the IRS has a long history of failed IT projects. The Business Systems Modernization program in the 1990s and 2000s cost billions and delivered little. So there's a trust issue. Luna: I want to come back to that, but first — Lucas, if listeners found this breakdown useful, I want to mention something. We keep this show ad-free, and that's only possible because of listener support. Lucas: It's true. If walking through these fiscal policy details with us has made something click, the way to keep this going is a small contribution at buy me a coffee dot com slash fexingo. It's a simple way to say this matters to you. Luna: And it genuinely helps. Okay, back to the IRS modernization challenge. You mentioned the failed programs. What's different now? Lucas: The current approach is more incremental. Instead of trying to replace the Master File all at once, the IRS is building a new system called the Taxpayer Experience Account, piece by piece. It's meant to eventually replace the old Cobol system, but it's taking years. Luna: And in the meantime, the paper keeps coming in. Every year, millions of returns, and billions of dollars. Lucas: One interesting data point: the IRS's 2024 report to Congress noted that paper returns have error rates of about twenty-one percent, compared to less than one percent for e-filed returns. So the cost isn't just processing — it's also the follow-up work. Luna: That makes the case even stronger. But change is hard in a large bureaucracy. Lucas: It is. And there's a human element, too. The IRS employs thousands of data entry staff who key in paper returns. Any modernization effort raises concerns about job losses. Luna: So it's not just a technical problem, it's a workforce transition problem. Lucas: Exactly. And that's part of why Congress is cautious. But the cost of inaction is also real — twelve billion a year for paper processing is a lot of money that could be spent on enforcement, customer service, or even tax cuts. Luna: Let's talk about enforcement for a second. If the IRS had more resources, they could go after tax evasion more effectively. But instead, they're spending billions on paper. Lucas: The tax gap — the difference between taxes owed and taxes paid — is estimated at over six hundred billion dollars a year. Even modest improvements in enforcement could recover tens of billions. But the IRS can't focus on that when so much of its budget is tied up in legacy operations. Luna: So it's a vicious cycle. Underfunded, so they can't modernize, so they stay inefficient, so they look wasteful, so they get underfunded more. Lucas: That's the story. And it's not just the IRS — it's a pattern across many federal agencies. The difference is that tax season makes it visible every year. Luna: I think the lesson here is that government efficiency isn't glamorous, but it has real fiscal impact. A few billion saved on paper processing is a few billion that could be better spent. Lucas: Right. And it's not about blaming the people who work at the IRS — they're doing their best with the tools they have. It's about whether we, as a country, want to invest in better tools. Luna: So what's one concrete step that would make a difference? If you had to pick one thing. Lucas: Mandating electronic filing for all returns above a certain income threshold, say fifty thousand dollars, and then gradually lowering it. And coupling that with a truly free, simple, government-run e-file system that competes with commercial software. Luna: That would address both the cost and the equity issue. Lucas: It would. But it would also face fierce opposition from the tax preparation industry, which makes billions from paid filing. So it's not just a technical or administrative challenge — it's political. Luna: And that's the fiscal policy reality. Every dollar of waste has a constituency that benefits from it. Lucas: That's worth sitting with. The IRS paper problem is a perfect case study in how government spending gets locked in by inertia, technology, and politics. And it costs twelve billion dollars a year.