Personal Finance Essentials
Should You Use Tax Preparation Software?
Tax Software: Powerful Tool or
Dangerous Shortcut?
If you prefer to forego the services of a tax professional, you should use tax preparation software to help you prepare your federal and state tax returns. Dozens of companies offer these products, which ask you easy-to-understand questions, automatically complete complex tax forms for you and ensure that deductions and credits aren’t overlooked.
Many also import W‑2s, 1099s and previous returns directly from employers or the IRS, saving time and reducing mistakes. Some subscriptions give you access to tax professionals and audit support.
However, if your personal finances are complicated – such as having multiple income sources, real estate or other investments in more than one state, self-employment income or business ownership – you’ll be better off consulting a professional tax preparer.
The Limits of Software
Tax preparation software is a powerful tool, but it is only as good as the information you enter into it. The software won’t warn you if you skip an important section or enter an incorrect assumption. Consider one pre-retiree who used an online calculator to plan his retirement income. He clicked through the tax section intending to return to it later – and forgot. The program ran its calculations without any tax assumptions, effectively placing him in a zero percent bracket. It reported that he was financially ready to retire. He gave his employer notice.
When a financial planner reviewed the printout, the problem was immediately apparent. After accounting for income taxes, his projected retirement income would be roughly one-third less than the software had shown. He had to call his boss back that same afternoon.
The lesson is straightforward: software calculates what you tell it to calculate. If you enter incorrect assumptions – whether accidentally or otherwise – you’ll get incorrect results. This is why tax preparation software works well for straightforward returns and poorly for complicated ones.