Online Tax Preparation – Should I Self-Prepare My Return?

Online tax preparation has become increasingly popular among taxpayers who prefer the convenience and cost-effectiveness of filing their returns themselves. The appeal of using online tax software lies in its user-friendly interface, step-by-step guidance, and lower costs compared to hiring a professional. However, the decision to self-prepare your tax return involves several considerations, especially given the complexities of the U.S. tax code.

Nearly half of American taxpayers now use online tax software to file their returns, reflecting a significant increase in recent years. However, this rise in self-preparation also correlates with an increase in errors and IRS notices. Self-prepared tax returns have an error rate of about 50%, making it a risky option for many. For expatriates, the risks are even higher due to complex international issues and additional reporting requirements.

This guide explores when it might be suitable to self-prepare your tax return and the potential pitfalls you should be aware of, particularly for expatriates.

When Might You Consider Doing Your Own Taxes?

1. Simple Tax Returns

If your tax situation is straightforward—without complex deductions, investments, foreign bank accounts, or rental properties—then online tax preparation software can be a practical and economical choice. For instance, if you do not live overseas or own a business, using software like TurboTax, TaxAct, or eSmart Tax can help you file a basic return efficiently.

2. Cost Considerations

For those who cannot afford the services of a tax professional, online tax software offers a cost-effective alternative. These tools are designed to be user-friendly and guide you through the process step-by-step. However, you must understand that the software relies on the accuracy of your inputs. Mistakes made due to misunderstandings or incorrect data entry can lead to significant errors on your tax return.

TIP: If you decide to use tax software for simple returns, consider choosing one that offers interview-based input.

The Complexity of the U.S. Tax Code

The U.S. tax code is complex and subject to frequent changes, which can make self-filing challenging. Each year, new laws and regulations add layers of intricacy, increasing the risk of errors and omissions. 

At Tax Samaritan, we often assist taxpayers who have received IRS notices due to mistakes in self-prepared returns. While online tax software can assist with calculations, it cannot replace the nuanced understanding of a tax professional.

TIP: Subscribe to IRS updates or newsletters to stay informed about changes in the tax code. This can help you avoid mistakes that arise from outdated information.​

Why Online Tax Preparation Is Challenging for Expats

1. Unique Tax Obligations

Expatriates face unique tax obligations that domestic taxpayers typically do not encounter. These include the need to report foreign income, comply with international tax treaties, and file additional forms. The intricacies of these requirements make it challenging for online tax software to handle without expert guidance. Many professional tax preparers and online tax software packages have only basic knowledge of these matters and may not provide adequate assistance for expatriates beyond simple situations. In contrast, expat tax professionals specialize in these areas and can provide the necessary expertise.

2. Complex Forms and Requirements

Most tax preparers do not support (nor are familiar with) complex tax forms that apply to many US expats, and none of the online tax software options will support them.

If any of these forms apply to your expatriate tax preparation needs, you will want to ensure that your tax professional is qualified to support you in these areas, as these forms are innately complex and require specialized training and knowledge.

For example, the IRS estimates that each Form 5471 will require more than 27 hours of preparation (not including recordkeeping), while each Form 8621 (i.e., for each individual foreign mutual fund held) requires 21 hours.

Instructions and published guidance from the IRS and other outside resources are very limited and incomplete. It is very common for the inexperienced to make significant errors and omissions, which can delay the statute of limitations indefinitely until corrected.

Here are some important forms expatriates need to be aware of:

• Form 2555: If you qualify, you can use this form to figure your foreign earned income exclusion and your housing exclusion or deduction. You cannot exclude or deduct more than your foreign earned income for the year.
• FBAR (FinCEN Form 114): If you have a financial interest in or signature authority over a foreign financial account, including a bank account, brokerage account, mutual fund, trust, or other type of foreign financial account exceeding certain thresholds, the Bank Secrecy Act may require you to report the account yearly to the Department of Treasury by electronically filing a Financial Crimes Enforcement Network (FinCEN) 114, Report of Foreign Bank and Financial Accounts (FBAR).
• Form 8938: This form is used to report your specified foreign financial assets if the total value of all the specified foreign financial assets in which you have an interest is more than the appropriate reporting threshold.
• Form 5471: If you run your own business in a foreign country and have established a foreign entity separate from yourself (not a sole proprietorship), then depending on your ownership interest (and resulting category or categories applicable) and the type of entity, you generally will have a Form 5471 filing requirement.
• Form 8621 : If you have investments in foreign mutual funds, REITs, ETFs and the like, these investments typically will be classified as Passive Foreign Investment Companies (or PFIC) and subject to punitive tax rules and reporting that are extremely unfavorable.

3. Risk of Non-Compliance

Many Americans abroad try to do their own tax returns or use a preparer who lacks experience with expatriate tax returns. This often leads to non-compliance due to misunderstandings or incorrect data entries, resulting in incomplete filings with missing forms. The consequences can be severe, including substantial fines, penalties, and an indefinitely extended statute of limitations. Professional expatriate tax services ensure that all necessary forms are filed correctly and on time, helping to avoid these risks.

4. Limited Support and Guidance

Online tax preparation tools provide limited support and guidance, especially for complex expatriate tax situations. Professional tax preparers, on the other hand, offer personalized advice and can help you navigate the complexities of the tax code. They can answer your questions, help you understand your tax obligations, and ensure that your return is accurate and complete.

Pitfalls of Online Tax Preparation

1. Errors and Omissions

The most common issue with self-prepared returns is errors due to a lack of tax knowledge. The old adage “garbage in, garbage out” holds true—incorrect inputs lead to incorrect outputs. Many taxpayers do not have a foundational understanding of tax law, resulting in mistakes that can trigger IRS notices or audits.

2. No Automatic Tax Savings

Online tax software cannot generate tax savings on its own. It’s up to you to maintain meticulous records of your income and expenses. The software can only optimize your tax situation based on the data you provide. Incorrect or incomplete data can result in missed deductions or credits, potentially costing you money.

3. Time and Effort

While online tax preparation might save you money on preparation fees, it requires a significant time investment. Preparing your own tax return can take several hours, especially if you need to gather and organize all necessary documents. The opportunity cost of this time should be considered, as it might be better spent on other productive activities.

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When to Consider Hiring a Tax Preparation Service

There are several situations where hiring a tax preparation service may be worth the investment. Here are key scenarios where professional assistance can be particularly beneficial, compared to using online tax preparation:

• You are an expatriate or an individual with a foreign income
• You are self-employed or run a small business
• You have multiple unfiled tax returns
• You owe significant back taxes
• You have multiple income streams
• You have complex investments
• You bought or sold a home
• You experienced major life changes, such as marriage or divorce
• You earned income in multiple states or countries
• You support dependents
• You have estate or trust issues
• You are short on time and have limited tax knowledge
• You were audited previously
• You want to maximize deductions and credits

TIP: If you have a complex tax situation, hiring a tax professional can save you more than just time. They can provide strategic advice on how to minimize your tax liability and ensure compliance with all tax regulations​.

Reasons to Hire a Tax Preparation Services Firm

Below are our top ten reasons to hire a tax preparation services company:

1. Significant Savings

A tax preparation services company can uncover opportunities for tax deductions and credits that you may not be familiar with or have even heard about. By contrast, using online tax preparation might miss these opportunities. Consequently, professional assistance can potentially save you a substantial amount of money.

2. Expertise and Peace of Mind

Hiring a credentialed tax professional, such as an Enrolled Agent (“America’s Tax Expert”), ensures your tax preparation is in good hands. You can have peace of mind knowing that an expert is handling your taxes.

3. Future Tax Planning

A tax preparation services firm can help you with tax planning for future years, saving you even more money in subsequent years by advising you on strategies to reduce your tax liability.

4. Education and Clarity

You can get answers to your tax questions and become more educated about your tax situation. This ensures you are not in the dark about your taxes and their accuracy.

5. Representation During Audits

Only a tax preparation services firm with professionals, such as Enrolled Agents, can represent you in an audit and help resolve other tax issues and problems. Doing it on your own might save on preparation fees but can expose you to more risks and expenses later.

6. Avoid Costly Mistakes

Making mistakes, such as errors and omissions, can cost you a lot of money—often much more than you would save by self-preparation. Professional tax preparers minimize the risk of these costly errors.

7. Adapting to Changes in Tax Law

Tax laws change every year, which can result in an increasingly complex tax system prone to more errors and missed opportunities for non-professionals. Tax preparation services stay updated on these changes to ensure compliance and optimization.

8. Time and Stress Relief

Using a tax preparation services firm saves you time and money. Additionally, it spares you the hassle and stress of dealing with taxes. This allows you to focus on other important aspects of your life or business.

9. Handling Complex Situations

Your life is complicated, and so are your taxes. Tax preparation services can simplify complex tax situations, such as divorce, and ensure everything is handled correctly.

10. Specialized Knowledge for Unique Tax Situations

Your tax situation might fall under nuanced and less common sections of the tax code, such as those pertaining to taxpayers overseas. Professional tax preparers have the specialized knowledge to handle these unique situations effectively.

Wrapping Up

Deciding whether to self-prepare your tax return using online tax software depends on your individual tax situation. For those with simple returns and a good understanding of their tax documents, online preparation can be a viable option. However, for expatriates, the complexities of international tax law and the potential for costly mistakes make hiring a professional tax preparation service the better choice. Therefore, it is important to assess your specific needs before making a decision.

At Tax Samaritan, we aim to provide expert counsel, advocacy, and personalized service to ensure your tax return is accurate and optimized for your unique circumstances.

Do you need help filing your US expat taxes? Schedule a call using the button below.