Tax software, services aided by new laws

"Let's face it--the U.S. tax code is not the easiest set of laws to grapple with," said Forrester Research analyst Jamie Punishill. "And any time there's something as sweeping as this year's changes, people want help.

"That used to mean going to a CPA, but now that can just as likely (mean) use of various types of tax-preparation software."

Ongoing economic malaise, the change in presidential administrations and fallout from the Sept. 11 attacks have produced a slew of new tax plans this year. Some, such as the rebate plan pushed by President Bush, have already been approved. Others, such as the myriad tax breaks included in the economic stimulus plan promoted by Bush and Congressional Republicans, are still slogging through the legislative process.

Goldman Sachs analyst Michael Hodes agreed that persistent reports of a tax-code overhaul help those in the tax business. "There is historical evidence to suggest that when there are perceptions of major changes in the tax laws, people have been more inclined to seek out help from professionals...and those have corresponded with better sales of tax software," he said.

"At its core, preparing taxes tends to be something people aren't that comfortable with. And when there are big changes, they're even more uncomfortable."

Such nervousness is likely to accelerate the already solid growth of consumer tax software and services. The market has consisted of personal finance leader Intuit and tax specialist H&R Block since Microsoft scrapped its TaxSaver after the 1999 tax year. Microsoft's decision was largely prompted by its inability to crack the personal-finance software market dominated by Intuit.

Intuit reported that revenue from its consumer tax division was up 26 percent for its fiscal year 2001. The customer base for its TurboTax software products grew 21 percent, pushing retail sales of the various TurboTax versions to 5.2 million units. Growth was more modest in 2000, with Intuit reporting 18 percent unit growth and 2 percent revenue growth for TurboTax.

The number of customers for the Web version of TurboTax jumped 71 percent, with 2.4 million taxpayers using the service to complete their returns. Consumer tax products accounted for $272 million of Intuit's $1.2 billion in total revenue for the year.

"While most of you hate taxes, at Intuit we love taxes," CEO Steve Bennett boasted when Intuit reported third-quarter earnings in August.

"As a company, we love big tax-law changes," Rick Jensen, director of marketing for TurboTax, said in an interview. "It creates a lot of excitement about what's going to happen.

"Every time I go home and listen to the news and they're talking about new tax laws, I get a smile on my face, because I know there are people out there thinking 'What does this mean to me?' And they think, 'Maybe I better get some help.'"

Competitor H&R Block, while a distant second to Intuit in software and online services with a combined 2.3 million users, reported similar growth. Revenue from the company's TaxCut software products grew 33 percent, from $39.5 million in fiscal year 2000 to $58.7 million in 2001, according to the Kansas City, Mo.-based company's annual report. Block's report did not include separate figures for online services. Block reported that software sales grew 18 percent in its 2000 fiscal year.

The most recent figures from researcher NPD Intelect show Mountain View, Calif.-based Intuit with 70 percent of the market for consumer tax software, while internal estimates put Intuit's share of the online tax-preparation market at around 80 percent.

Help for the wary
Both companies have expanded their tax services this year, at least partly with an eye on benefiting from the uncertainty surrounding federal tax laws.

Intuit added an online calculator to its Web site earlier this year to help customers estimate how much they would glean now and over the next few years from proposed rebates, tax cuts and other changes. Similar tools have been added to boxed versions of TurboTax.

"We've had our eye on these tax changes since Bush started running for president," said Jensen.

H&R Block offers a similar service with its "Tax Law Assistant" and also is working to capitalize on its real-world advantage--9,000 nationwide offices staffed with veteran tax preparers--by adding options for online and desktop do-it-yourselfers to seek advice from a professional. Aaron Horvath, Block's director of online products and services, said he expects the service to provide added assurance for anxious taxpayers.

"With the tax law changes, according to everything we've seen, consumers are a little more uneasy this year," he said. "If you're a do-it-yourselfer, you can still do most of the work, but we're offering a backup with professional help to make sure you get the best deal."

One of the biggest selling points for tax software and services is that the companies behind them take the work out of keeping up with the welter of changes still being hammered out in Congress and state legislatures. Although the federal versions of both TurboTax and TaxCut went on store shelves earlier this month, both Intuit and H&R Block provide automatic software updates via the Web that plug in the latest legislative changes as soon as they're official. The software prompts users to download the latest updates as they work on their taxes and prevents them from filing unless the software reflects current laws.

"That's something we're monitoring on a minute-by-minute basis," said Chrys Sullivan, H&R Block's senior product manager for software. "We have the ability with both the online product and the software (to) turn around changes immediately."

Plugged in to Washington
Intuit's Jensen also boasted of the ability to quickly process tax-code changes but said intuition is equally important. After so many years of plowing through IRS codes, the company's tax experts will have a pretty good idea by November which proposals will actually make it into law, allowing the company to put out a product that requires nothing more from users than a one-click update to be current when they file.

"Because we are so in tune with what's going on in Washington, we can have a one-click product on the shelves the first week in December," he said. "The company has really been geared to move how Washington moves, as well as anyone can predict."

That experience has been especially useful this year, Jensen said. "Things we were hearing about in September indicated there might be drastic changes this year," he said. "We're finding there's nothing materially different, just a lot more noise.

"Our product has been around for 18-plus years, so we've seen a lot of administrations come and go. We've developed a pretty good feel for what to expect from Washington."

The IRS is anxious to cooperate, too, as taxpayers who use online or desktop preparation services are much more likely to file electronically, a method the IRS has been promoting for years to save costs and increase efficiency. "Eighty percent of our Web customers file electronically," Jensen said. "It's a little less for desktop users, but still pretty high. The IRS definitely appreciates that."

Online momentum
While both companies expect to see a significant rise in software sales this year, online services are growing faster and promise better profits, even though tax products offer one of the best financial bets for software companies. Besides virtually nil potential for overseas piracy, tax software comes with an upgrade path other companies would kill for: Customers have to spring for a new version of TurboTax or TaxCut each year to get the right forms.

"Every year, you've got to upgrade," said Forrester's Punishill. "It's the best deal there is in the software business."

Still, software has liabilities compared with offering tax preparation as an online service, Goldman Sachs' Hode said. Besides the production, packaging and distribution costs associated with boxed software, each copy of TurboTax or TaxCut can be used to process multiple returns, while online services limit users to one return per fee.

"You get a little bit more bang on the Internet as volume increases," Hode said. "On the Internet, the fee that you pay only entitles someone to one return, period. On the desktop, they tend to get multiple users for each box--I can use the same copy to file my return, my grandmother's return, my sister's return."

Both companies expect use of online services to grow faster than software sales, owing to overall momentum for Web services, rather than customers switching over from packaged software.

"We think we're going to see significantly strong growth in usage of Internet tax services," Hode said. "Some of that is cannibalization (from boxed software), but a lot of it is real growth, from just having exposure on the Internet to new customers."

H&R Block in particular is committed to maintaining multiple avenues for customers to prepare and file their returns, allowing users to blend software, Web and in-person services.

"Part of our strategy as a company is to allow customers to work with us in the manner they choose," Horvath said. "In a lot of cases, people want to migrate between methods--they may have a job change one year and use a professional preparer, and the next they feel they can do it themselves with our software. It's a real competitive advantage for us, I think, that we can offer those kinds of choices."