Simplifying the universally hated tax filing experience by embedding it into apps
My chat with Gavin Nachbar, Cofounder & CEO of Column Tax
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Tax filing is a universal experience. Assuming you make taxable income and don’t like breaking laws, it is a necessity and an experience most people hate. It’s like walking into a restaurant, having a nice meal and the waiter asking you to predict the amount in your check to pay for the service. And guessing it wrong could put you in jail!
A common theme on Scatter Brain is how the government tends not to appreciate the value of user experience, and even when they do, it is challenging for them to excel at it. This creates room for startups to build better interfaces. I talked to Column Tax’s CEO, Gavin, about making the tax-filing experience more pleasant, starting with low-income Americans.
In this chat, Gavin and I talked about:
Why is the system so complicated?
Perverse incentives of incumbent vendors
Different types of complexity across the income spectrum
The embedded product strategy
Product experience of the taxpayers
Working with the partner products
Strategic choice of not being in the flow of funds
Relationship with payroll API providers
Working with the IRS
Impact of child tax credit changes on poverty
Sar: Make a case for why the American tax filing system works the way it does.
Gavin: We want different types of income and business entities for people to take advantage of. When you talk about credits and deductions, we want many specifics catering to different situations to incentivize certain behaviors. We put those rules in the tax code. That is complicated for a centralized system to track. We need individuals to track it and report it to the government. That's probably the most rational argument I can make. I'm not sure I believe that, though.
Sar: You are hinting at two distinct things. First is the tax code, a complicated web of rules to follow. I’m sympathetic to the view that complexity helps with personalization across the population. I also think that complexity can and does get abused. The second is the interface you use to file taxes and the overall experience of citizens during the tax season. Startups can’t change the rules, but they can improve the interface. And that’s applicable across all sorts of domains.
Gavin: Yes, I agree. The value is in taking the schlep to file taxes and building a friendly and more digestible interface for people versus going to governmental portals or legacy providers that have been around for 20-plus years.
Sar: Do you think the incumbent vendors have the incentive to keep the tax code as complicated as possible to sustain their business?
Gavin: The tax code is too burdensome for an individual taxpayer to understand how the rules apply to their specific situation. Simplifying the rules is essential. That's counter to a company whose incentive is to capture value from encoding complex rules and makes money from product upsells. If you have a B2C tax filing product that makes money based on different pricing tiers over time, you are incentivized to sell people more expensive tiers. If you are a gig worker and get a 1099 from, let's say, Uber or Lyft, you are being upsold into tiers that potentially cost hundreds of dollars. It’s not like there's more complexity on the software side. It's a natural product upsell point.
Sar: Does being bullish on Column Tax mean being bullish on the idea that most Americans have a fairly straightforward tax return to file? I imagine your target demographic is not the high-income earner with multiple active brokerage accounts, multiple income sources, and a complicated deductions profile.
Gavin: Being bullish on Column Tax means thinking that software can help Americans simplify their experience with income taxes. You are correct that we are focused on helping low-income filers. They generally don’t have complicated income types (K-1s, for example). But they have different kinds of complexity. For example, the instructions for claiming the Earned Income Tax Credit are 44 pages long. The complexity doesn’t come from calculating the credit itself but from helping taxpayers understand their eligibility. We think there’s a big opportunity to focus on households that make less than $75,000 of household income.
Sar: What’s your elevator pitch?
Gavin: We work with companies to help them embed tax filing and year-round tax products for their end-users. We flip the incentives for tax filing by not having upsells, which is important for aligning us, the taxpayer, and our partners.
Sar: What early learnings led you to make those choices?
Gavin: We spent much time talking with taxpayers in the early days, and many recurring themes emerged. The first is that trust is essential when looking for a tax provider. When you stand up a consumer brand, building trust with taxpayers takes lots of time and effort in an industry where you compete against companies like Intuit and H&R Block that have decades of investing in their brands.
The second was the complexity of the tax code and the need for a simplified understanding. We decided to deliver a solution embedded in products people already use for some aspect of their financial life.
The third was how critical the tax refund was for taxpayers in this country. That was our most significant learning. The average tax refund depends on the year, but it's around $3,000; 76% of Americans get a tax refund. It is the largest check they see in a given year. There's an interesting relationship between the stress of filing and the joy of receiving your refund.
Sar: It feels like free money getting dropped into your bank account.
Gavin: Right. It varies based on whether your money was withheld based on your liability or earned credits based on your eligibility. We repeatedly heard from people how they refresh the IRS website every day until they get a refund. That lump sum is critical for many people. As you move up the income scale, you hear more about people trying to do tax optimizations. From day one, we knew that the tax refund was what we needed to be solving for.
Sar: Talk about the product experience for the taxpayers using an example.
Gavin: Lance, our partner, is a bank for freelancers. They help make tax payments, manage spending, and track deductions. In the past, if you’d tracked deductible expenses with Lance, they would generate a pre-populated Schedule C. It would have a summary of your tax deductions on it. You would then have to take it to a tax preparer or use a “do it yourself” product that often costs hundreds of dollars for the “Self Employment” product. Not to mention the stress of entering it right.
With our embedded tax filing, Lance can offer to file in-app to all contractors. They can take the tax deduction information and pre-populate it into the Column Tax filing experience. Connecting year-round tax products (like deduction tracking) with tax filing offers users a much better experience.
Sar: How much of the UI do you own?
Gavin: We do a hundred percent of the UI for filing. The reason is that it’s complicated to create the data ingest questionnaire. Let’s take an example: If a taxpayer has dependents, they have to answer a series of questions for the IRS to accept their filing. If we did not build the UI, our partners would have to build and maintain complicated branching logic. Building screens is one thing. Building screens and all the logic that ties them together is another. Not to mention, it changes every year! We think it’s a better solution to maintain the UI and let our partners focus on what they are best at.
Sar: Talk about the business model.
Gavin: The companies we work with pay us. Most often, that is paying us per filing. It’s their discretion to price the service for their end users. We have partners offering it for free. We have partners who are putting the service into a premium tier. We also have partners that are charging for it directly.
Sar: So you don’t have a direct payment relationship with the taxpayers?
Gavin: We don't transact directly with the taxpayer. We want the right incentives to align the taxpayer, the partner, and us. Our partners pay us and decide how they monetize. We see our job as making our partners look amazing. The IRS mostly pays tax refunds through direct deposits. We're helping facilitate that for our partners, who want to be in the flow of funds. The IRS pays directly to the bank account.
Sar: I assumed you touched the refund money. Owning direct deposits is the holy grail in fintech.
Gavin: Our Tax Refund Unlocks product is strictly about optimizing the amount you get in refunds. We work with a payroll API company like Atomic to pull the income information of W-2 workers. We help people understand whether they're over-withholding because we can see how much is being withheld in their paychecks. If they have been over-withholding, the payroll API partner writes back a new W-4 to their payroll system with updated inputs. It’s similar to a Direct Deposit switch. The changes come in future paychecks due to revised inputs.
Sar: You take care of making sure the amount is right, and your payroll API partner takes care of triggering an action using that information.
Gavin: That's a good reflection of Column Tax. How do we see ourselves? We're the math. We are the tax engine. If you give us a set of inputs, we translate that into things that the IRS would understand as outputs, a payroll system would understand as outputs, or what taxpayers would understand as outputs. If you have the math, you can help people optimize capital gains, help people understand their refund, and help enable companies that want to lend against the refund.
Sar: I appreciate your thinking about the purity of your purpose in the ecosystem.
Gavin: If you don’t have the right incentives in B2B relationships, you get pulled in opposite directions, and it's not good over the long run. They are willing to pay us for what we do for them without being in the flow of funds.
Sar: You work directly with the IRS. Talk about that experience.
Gavin: The IRS has well-established and documented standards for tax software developers in the United States. They have a 205-page PDF outlining the rules. Before you can get started, you have to build to those requirements. The IRS has an assurance testing system. When they send you scenarios, you send back the outputs to be a certified tax provider. Most of our work encodes the tax code and the IRS rules into our product.
Sar: How often do you interact with them?
Gavin: Every time you expand the scope (for example, when we expanded to self-employment income), you go through a process. You re-certify yearly because the tax code changes yearly. Working groups within the industry facilitate interactions.
Sar: What’s underrated about the agency?
Gavin: We have had a wonderful experience working with them. I've worked in multiple companies that interface with the government, and in my experience, almost every individual I worked with is motivated and good at their job. At a system level, it gets complicated because you have large groups that are effectively companies, and it is hard to progress in the way you want.
Sar: So what's next?
Gavin: What’s next for us is nailing the experience for all low-income and self-employed filers. We think there is a big opportunity to support individuals with more complicated types of investments & income types in the future.
Sar: What are we not paying enough attention to?
Gavin: As a part of the American Rescue Plan in 2021, advance payments of up to half the 2021 Child Tax Credit were sent to eligible taxpayers. The first payment was sent in July 2021. From July through December, parents received $250 per child each month (vs. all of it as a part of a refund when they filed their taxes). The advanced child tax credit and program changes had a major impact. Recent U.S. Census data showed that U.S. childhood poverty rates fell 46% in 2021 and reached an all-time low. The expiration of child tax credits has had a major impact on families who need it most; I don’t think that has been covered nearly enough.
A common theme on Scatter Brain is startups working with the government to improve the user interface of interacting with public programs or help them deliver on public interest activities. Here are some past chats on that theme :
Helping people on food stamps with Jimmy Chen, CEO of Propel
Providing real-time curb data to manage parking with Ritwik Pavan, Cofounder of Vade
Transforming farming with Jayce Hafner, CEO of FarmRaise
Simplifying immigration to relocate for work with Hanna Asmussen, CEO of Localyze