It’s Time to Build Stripe For Income Taxes
A lack of a shared Income Tax API makes you reinvent the wheel every time you want to build an innovative product in the tax preparation as a service space.
Well-thought-out infrastructure products like AWS, Stripe & Plaid enable others to easily build and scale valuable products. They paved the road for thousands of entrepreneurs to tackle interesting user-facing problems without having to spend valuable resources on ancillary tasks like maintaining servers, managing payments, and financial data between parties. Thanks to these infrastructure products we have seen a massive wave of innovation in the Fintech industry in the last decade.
Unfortunately, the income tax preparation software industry lacks such infrastructure and still follows an ancient business model. For example, If you want to build a self-serve tax preparation software similar to TurboTax, you have to build the entire tax calculation engine from the ground up. In other words,
a lack of a shared Income Tax API makes you reinvent the wheel every time you want to build an innovative product in the tax preparation as a service space.
Tax preparation industry overview
Before we deep dive into the issue, it’s important to understand the two products offered by any tax preparation software company: generic product and unique product.
The underlying tax calculation engine inside every tax preparation software is the generic product. This calculator takes the publicly available IRS (and state) tax rules and forms into consideration and calculates taxes based on the inputs provided by you (W-2, 1099, etc). Said differently, with the same inputs, all tax software should generate the same end result because tax rules are applied uniformly by law. There is no “magic formula” that gives you a higher refund.
What makes this generic product unique is the marketing message and user experience offered by the software provider. Retail user-focussed tax preparation software companies such as TurboTax, H&R Block, and others are merely marketing companies. They are primarily in the business of gathering taxpayers to use their generic product by selling unique marketing messages ‒ “We give you the highest tax savings” and “File from your smartphone or computer. Get guidance every step of the way”. Adding a user-friendly intuitive interface on top of the generic tax calculator also leads to a unique product offering.
Further, there are only a handful of tax software companies in the US right now. Each of these companies spends millions of dollars maintaining and updating their generic product each year. The generic tax calculation engine is not shared nor licensed out to others.
The problem
There’s an uprising demand for industry-specific tax preparation software. An industry-specific tax preparation software is a software application that would only serve taxpayers in a niche market segment extremely well. Ex:- taxpayers with cryptocurrency transactions & Gig economy taxpayers.
Currently, all these taxpayers are serviced by software such as TurboTax and H&R Block that are not fine-tuned to understand unique tax issues associated with each segment. Consequently, users are partially satisfied (or not satisfied) and left with no alternatives to even try out. Often, users are not even aware of what they are missing out on because tax is a complicated subject for most people.
To build an industry-specific tax preparation software, you need to 1) build the tax calculation engine (generic product) and 2) design it to solve all industry-specific problems seamlessly (unique product). Recreating the generic product that has existed for decades is wasteful and takes time out of building the unique product.
The solution - Income Tax API as a service
An Income Tax API as a service product should be built to democratize the tax calculation engine (generic product) so others can easily build unique products on top of it. Such a product would allow fintech companies to offer tax preparation services to their existing audiences. This could also open up an additional income stream while enabling an end-to-end cohesive user experience.
For example, Coinbase (CB) has roughly 53 million users. A company like CB can use the tax API to offer CB branded tax preparation software that specifically addresses cryptocurrency users’ unique tax issues (Airdrops, Hardforks, Staking income, DeFi). Robinhood can offer its millions of users a self-serve tax preparation software geared towards tackling investing activity (stocks, options, derivatives) seamlessly. Airbnb can use the API to offer a self-serve tax preparation tool optimized for rental property-related taxes. The Stripe-like API would run in the backend and seamlessly integrate user data into the tax return.
Why hasn’t this been done before?
This is a fair question to ask and here’s what I found after doing some online research and talking to some of my colleagues at tax software companies.
First, building an API and inviting others to build industry-specific tax preparation software fundamentally contradicts the narrative on which the entire legacy tax preparation software is based. Existing tax software companies love to brag about how they can save you more taxes and/or give you a higher refund compared to their competitors using their “unique” offering. This is far from the truth as explained above. When the entire business and user acquisition model is based on these claims, it’s self-destructive to share their “unique tax calculation engine” with others, even if they can get paid.
Second, the tax preparation software business is a high-margin business patrolled by a handful of legacy companies. Simply put, these companies don’t have any incentives to innovate nor dilute their power by allowing others to easily build tax preparation software.
Finally, people are often attracted to building “cool” software products that could become the next Instagram or Facebook. As a result, boring topics like income taxes have been neglected for decades allowing a handful of legacy tax companies to dominate the market. Moreover, there are not many people who are at the intersection of taxes and technology to identify and successfully tackle the limitations mentioned above.
Essentially, Income tax API as a service would enable any fintech company with an audience to become a tax preparation software company. The shared API will also accelerate innovation in the underdeveloped tax and accounting technology space. If you are interested in building, I'd love to chat.
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Hi Shehan! What's your email address? My startup was recently approved for electronic filing with IRS. I would love to tell you more as you are one of the few people who understands both the tax and tech side of US Income Tax.