published Apr 13th 2017, 5:00 am, by Ben Steverman

(Bloomberg) —
TurboTax, the reigning king of online tax preparation, is facing some particularly strong competition this year.

Arch rival H&R Block started the 2017 tax season aggressively, touting a collaboration with IBM’s supercomputer Watson and free online returns. Credit Karma, a credit monitoring website claiming more than 60 million members, elbowed its way into the competition as well, by offering tax preparation for free.

Both companies have a lot of work to do to unseat Intuit Inc.’s TurboTax, which prepared 40 million returns last year in the U.S., helping 2 out of 3 people who filed with software. H&R Block, the nearest competitor, handled just 6.8 million digital returns in the U.S., and 12.3 million customers in its storefront offices.

Tax preparation domination has its perks: Intuit’s consumer tax division brought in $1.3 billion in operating profit last year, for a profit margin of 65 percent. Intuit, which also sells the popular QuickBooks software for small business, saw its revenue jump 12 percent in fiscal year 2016 to $4.7 billion.

Brad Smith, the chief executive officer of Intuit, was expecting the stiff competition this year. Far more surprising to him is how U.S. taxpayers are behaving.

“The tax season is unfolding slower and more back-end-loaded than anyone would have forecasted,” Smith, 53, said in an interview with Bloomberg News.

Speaking during the final weeks of tax season, Smith was referring to Internal Revenue Service data that shows Americans are filing taxes at a far slower pace than last year. That’s likely to result in a last-minute rush for taxpayers as the IRS deadline–on April 18–approaches.

During the interview, which has been edited for clarity and length, Smith talked about why Americans are procrastinating, how TurboTax is competing with its rivals, and the future of tax preparation.

Q: There are several theories why Americans might be taking longer to file their taxes in 2017, from new IRS rules to the aftermath of the 2016 election. Are there also longer-term trends at play?

You used to have to go to the post office and stand in line and if you didn’t get [your return] stamped by 11:59 p.m., then you were actually late. Now you don’t have to do that. You can sit in your pajamas or your underwear and use TurboTax. You just hit send by 11:59 p.m. and you’re good. The other piece of it is [tax forms] sometimes don’t come until late February or early March. So you don’t even have all your paperwork ready to file. That’s pushed it out farther than it used to for more people.

Q: What else feels different about 2017?

Greater adoption of mobile. Last year we had a big breakthrough where you could file any return, from simple to complex, on a mobile phone.

Q: Are people actually doing that?

Oh yeah. We had 5 to 6 million people who did some portion, if not all, of their taxes on a mobile phone last year.

There’s also been a proliferation of artificial intelligence and machine learning. I want taxes to be basically effortless. We reduced as much as 40 percent of the amount of time it took to get a tax return done by applying these new technologies. We would like to get to the point where you can get a tax return done without answering a single question.

Q: How would that be possible?

It’s a combination of things. With machine learning and artificial intelligence: If you are a journalist, we can look at every other journalist who has filed with TurboTax and look at the deductions they got, and then we could literally recommend to you, “Here are the things you ought to do.” You could just say yes or no verbally, and then we could get it done. That’s our vision.

Q: How do you compete—or not compete–on price?

We price for value. There are some people who are paying $400 or $500 to get their taxes done at a store. So on the higher end of our product line we may charge $70 or $80. That is still significantly better than if you went to a store.

If you go to the other end—people who have very simple returns—we’re free. It’s very hard for a new competitor to come in and undercut free.

There are other areas where the customer would like to have additional value they’re willing to pay for. Credit monitoring [or] audit defense, in case the government calls and says they’re going to audit me. In 2005, we made $29 per return on average. After years of [offering free returns], we now make $49 in revenue per return. So there’s an art and science to “free.” And if the customer doesn’t want what we have to offer, then we’re fine with them being free.

Q: I don’t qualify for a free return. Why should I use TurboTax instead of Credit Karma or discount preparer TaxAct? What am I getting for that $90?

We have over 40 million [tax returns in] one analytic data cloud that we’re able to run algorithms on. We can use data to do things no competitor can match.

Q: What’s an example of that?

Finding the deductions of a schoolteacher [who is] saying, “Hey, can I deduct school supplies?” Or an Uber driver: “What can I deduct?”

Also, we have SmartLook, the ability to press a “mayday” button and have a CPA show up on your screen and answer your question for you.

Q: To what extent do you think you have a competitive moat? And to what extent are you worried about what everyone else is doing?

I’m incredibly paranoid. We don’t think any moat can’t at some point be crossed. We respect competition. That’s why I’m excited about Credit Karma. It puts us on our toes and it grows the category. We’re excited when H&R Block comes out aggressively because it grows the category and puts us on our toes. And I think it makes the taxpayer the winner. What we have to do is we have to make sure we’re the last man or woman standing.

Q: How do you use technology to really make a difference—and not just as a prop in an ad campaign?

[We’re] looking for ways to make all the work [of doing your taxes] go away, even if it means you only spend five seconds on our product. A lot of our categories are going to become effortless if we do our job. We’re going to get you the maximum return on little to no effort. The one who does that the best will be the one who will win 10 years from now.

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To contact the author of this story: Ben Steverman in New York at bsteverman@bloomberg.net To contact the editor responsible for this story: Josh Petri at jpetri4@bloomberg.net
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