How to get plugged into electronic tax filing.

In 1986, when the Internal Revenue Service initiated electronic filing of tax returns, only five tax preparers participated, submitting about 25,000 returns. This year the IRS reports that about 35,000 preparers submitted more than 7 million returns via electronic filing, which goes by the acronym EFS (electronic filing system).

Several factors account for this growth. Computer-generated returns, transmitted by telephone, generally are easier to process than paper returns; since the information on the forms doesn't have to be keyed in, number by number, by IRS staff into the Service's computers, there is less chance of errors; electronic transmittal is instantaneous, bypassing the frustrating vagaries of the postal system; and the client receives confirmation within a day or two that the return not only was received by the IRS, but was received accurately.

EFS's biggest advantage, from the taxpayer's point of view, is that it shortens the time for refunds from an average of 12 weeks to about 3 weeks. Refunds can even be deposited directly into taxpayers' bank accounts.

As an added incentive, some vendors that provide electronic filing services for tax preparers also offer a service in which clients due a tax refund can apply for an immediate bank loan equal to the expected IRS check. As a result, a client could receive the refund (less bank and preparer fees) within three days of the filing.

FILING AUTOMATION

While EFS generally is more efficient than filing paper returns, such automation does create some extra paperwork and introduces some new expenses and chores for preparers. For example, electronic filers must first mail a paper form (form 8453, U. S. Individual Income Tax Declaration for Electronic Filing) advising the IRS of the forthcoming electronic filing and including the filer's signature. Also, electronic filing or not, a paper copy of the return still must be provided to the client.

In a typical EFS procedure, after a return is transmitted, the IRS confirms its receipt electronically. The confirmation also includes a message that either the return was accepted-that is, the electronic transmittal was in good order, with no data obviously in error or missing-or that it was being rejected because of an error. In either case, the filer must then correct the errors and inform the client, which adds another step to the filing chore.

Not all tax forms can be transmitted electronically. Those that can't include copy B of forms W-2, W-2G or W-2P and any other forms requiring the taxpayer's signature (examples: forms 2120, 8283 and 2848). The IRS requires these paper copies to be mailed or delivered.

In general, returns that show a tax due also are not accepted for EFS. However, this year the IRS is experimenting in 15 states with a technique for getting around this limitation by requiring tax-owing clients to have the funds owed on deposit in their banks, ready for IRS withdrawal.

Taxpayers with more than three Schedule C forms or three rental properties on Schedule E cannot file electronically. Ditto for those with more than 20 W-2 forms. BECOMING AN EFS FIRM Any tax-return preparer can use EFS after some investment and training. The practitioner must buy tax-return preparation and electronic filing software if he or she doesn't already own them, special communications software and a modem to connect a computer to a phone.

Tax returns can be filed electronically in two ways: directly to one of three IRS centers (in Andover, Massachusetts; Cincinnati, Ohio; or Ogden, Utah) or indirectly, through several private communications service vendors known as third-party transmitters. Generally, preparers with a limited number of returns opt for the indirect filing option because, although there is a small charge $4 to $10) for each filing, it requires less computer expertise and less expensive electronic equipment. Practitioners who file indirectly can use a conventional 1200- to 4800-baud device, which costs between $200 and $500.

For those who want to transmit files directly to the IRS, there is no per-file charge. However, they must buy both special communications software (costing between $500 and $1,500) to translate data into a language compatible with IRS computers and a special 4800-baud bisynchronous modem (which costs between $800 and $2,200).

Caveat: Not all tax-preparation software is compatible with every communications program. Tax preparers who plan to expand into EFS should be sure that the tax return preparation software and the communications software are compatible.

INDIRECT FILERS

Tax-return preparers who handle small numbers of returns and/or are relatively inexperienced with computers generally should use indirect filing. Dozens of vendors offer electronic tax-filing services. This article lists a representative sampling of several. (See the exhibit on page 60 for details.) These are some of the vendors and their products.

* Nelco, Inc. provides two products for indirect electronic filing.

Directronic Filing formats computer-prepared tax-return data so a client's file can be read by the IRS's computers. Although this software is usually sold bundled with tax-return preparation software, it is available separately and can be added to any of 40 of the most popular tax-return preparation programs.

Directronic Entry is designed for situations in which a taxpaper with a paper return wants to file electronically for a speedier tax refund. The software helps convert a manually calculated paper return into a format that can be filed electronically. The program displays an IRS form on a computer screen and the preparer copies data from the paper form. Directronic Entry formats and transmits the data.

Although Directronic Entry doesn't calculate taxes, it does run an "audit" that searches for omitted or obviously erroneous data, giving the preparer an opportunity to fill in what was left out and make corrections before transmission.

Directronic Entry is also well suited for tax-return preparation firms that use service bureaus but don't have EFS capabilities. Preparers who use Directronic Entry, however, must also use Directronic Filing to transmit the files to Nelco.

Nelco has established hundreds of local access telephone numbers, so most filers can use its service without incurring long distance charges.

Nelco also has FAST FUND$, a service that helps clients file for refund anticipation loans. Preparers must pay a $240 fee to participate in the service.

* CLR/Fast-Tax offers its GoSystem 1040, an integrated package combining tax return preparation and EFS software.

* SPEED>S Corp.'s EFS communications program is called SPEED>FILING. It cannot be bought separately, only as an add-on feature for any of eight tax-return preparation programs.

SPEED>FILING contains an "auditing" feature that verifies data in the return, reducing the possibility the IRS will reject the return for incompleteness or obvious errors.

Through the company's SPEED>CASH REFUND service, practitioners can help clients get refund-anticipation loans. The cost of participating in the program is about $200; the exact price depends on the tax software used.

FOR DIRECT FILERS

EFS preparers who wish to file directly to the IRS must buy special communications software plus the more expensive 4800baud bisynchronous modem. Some of the available programs are listed below.

* Nelco offers a direct-filing package, the Directronic Filing 3780 software. It's priced at $950.

* CPAid's Master Tax program can be filed directly to the IRS when combined with the company's Syntax communications software program. Its package, priced at $225, contains an extra feature that ensures perfect reception of the file by the IRS.

EFS is only a few years old. The IRS is still experimenting with the process. Its next big step is to let all taxpayers file electronically, even if they have balances due. In fact, the day soon may come when the IRS will demand that all returns be filed electronically. States with income taxes probably will follow suit.

Clearly, the technology is advancing rapidly, and an increasing number of practitioners are embracing it. For those reasons, and to improve their own efficiency, tax preparers should master EFS now. The investment of time and effort today m t prove decisive in ensuring tomorrow's practice.