The IRS Made Hourly Billing a Compliance Risk. So Why Are You Still Doing It?
The IRS recently handed firm owners a perfect excuse to finally kill the billable hour (and a massive regulatory headache if they don’t).
My co-host David Leary and I covered the recent IRS announcement on Episode 494 of The Accounting Podcast.
If you’re still charging by the hour for tax prep while using AI, you might accidentally be violating Circular 230.
The IRS drew a line on AI billing
The IRS Office of Professional Responsibility recently issued its first-ever AI guidance for tax practitioners. Most of it is unsurprising. Verify what the AI produces. Don't hand off your professional judgment to a chatbot. Protect client data. Circular 230 already required all of this.
But buried in the bulletin is a sentence that should put the nail in the coffin of hourly billing for tax work. The OPR said charging for time not actually spent because AI made you faster could amount to "an unconscionable fee." Cost savings from AI, it said, need to be reflected in what you bill the client.
In other words, if AI cuts your return prep time in half, and you still bill the client for the hours it used to take, you're now on the wrong side of Circular 230.
Timesheet padding has always been unethical. But with this new bulletin, the IRS explicitly states AI efficiency gains belong to the client, not the firm.
Nobody bills hourly anyway. So why does this matter?
You might think, fine, I don't bill hourly anyway. Neither does almost anyone else.
Last year, Ignition surveyed firms using its platform and found that just 3% of tax prep engagements are still billed hourly. The rest have moved to fixed fees, value pricing, per-form pricing, or some blend of these.
Admittedly, that result is skewed because it only included Ignition customers, and firms using online proposal management software tend to be more forward-thinking.
A separate National Society of Accountants survey puts hourly billing higher, around a quarter of more traditional firms, but even there, it's a minority practice.
So why does an IRS bulletin about hourly billing matter? Because it removes the last argument for the holdouts.
Firms still billing by the hour usually say it's simpler, it's what they've always done, or they're worried fixed fees leave money on the table on complex returns.
The IRS just changed the math. Keep billing hourly, keep using AI, and you now have a regulator on record saying your billing model itself creates compliance exposure.
Fixed fees were never just a pricing philosophy
I've made this case before, and the IRS just handed me another reason to make it again.
Fixed and value-based pricing are the only pricing models that don’t put your firm in direct conflict with your technology.
When you price the outcome instead of the hours, getting faster with AI is a win for your margin and your client's experience. When you bill by the hour, efficiency threatens your revenue.
Where to start
If you're one of the firms still billing hourly for tax prep, you don't need a consultant or a six-month transition plan. Pick your highest-volume, most standardized return type. Individual 1040s are a good place to start. Quote it as a fixed fee for next season. Use this year's actual hours as your baseline, and price to a margin that works even after AI shaves time off the job.
Hourly billing in tax prep was already a shrinking minority practice. Now it's a compliance risk, too.
