With the end of tax season just around the corner, millions may be cringing over income tax bills they simply can’t afford to pay. Ignoring payment is not an option, but there are alternatives that taxpayers facing this situation should know about, according to CCH, a Wolters Kluwer business and a leading global provider of tax, accounting and audit information, software and services.
“If you can’t pay what you owe all at once, you should still file your tax return and make payment arrangements with the IRS,” said CCH Principal Federal Tax Analyst Mark Luscombe, JD, LLM, CPA. “If you don’t file because you can’t pay, you’re immediately facing a failure-to-file penalty as well as interest, additional costs and potentially a tax lien or levy down the road.”
Last year, the IRS issued new rules to help soften the blow for taxpayers who can’t afford to pay their taxes when owed, including increasing the threshold at which the IRS files a tax lien, as well as expanding the installment and offers in compromise programs to allow more taxpayers to qualify. Despite the changes, however, taxpayers can still face a host of issues for not paying taxes when owed and need to understand the options available to address their tax debt. The IRS also followed-up this year with some expanded penalty relief.
Newly Expanded Fresh Start Initiative
To better help those who may be struggling to pay their taxes, the IRS has expanded its “Fresh Start” initiative. To take advantage of the initiative, taxpayers may fill out a new Form 1127A to request the 2011 penalty relief if they are in one of these two categories:
- Wage earners who have been unemployed at least 30 consecutive days during 2011 or in 2012 up to this year’s April 17 tax deadline; or
- Self-employed individuals who experienced a 25-percent or greater reduction in business income in 2011 due to the economy.
To qualify for this penalty relief, the taxpayer’s adjusted gross income must not exceed $200,000 if married filing jointly or $100,000 if filing status is single, married filing separately, head of household or qualifying widower. However, a taxpayer’s 2011 balance due can not exceed $50,000. The penalty relief only extends to October 15, 2012, and interest continues to accrue during that period.
Penalties for Ignoring Tax Deadlines
If a taxpayer does not file a return and pay the taxes owed when due, the IRS can take several steps, including:
- Failure-to-file penalty – The taxpayer faces a penalty of 5 percent of the tax due for every month or any fraction of a month that the return is overdue, capped at 25 percent;
- Substitute tax return – The IRS can file a substitute tax return for the taxpayer based on information it has from other sources; and
- Levies and liens – The IRS may start a collection process that can include a tax levy or tax lien against the taxpayer’s property, bank account or wages. Tax liens can impact credit ratings and make it difficult to buy and sell property and even get a job.
However, there are options taxpayers can look into.
Options available to taxpayers include:
1. Borrow, liquidate assets or charge it.
Taxpayers who owe and can’t pay their entire tax bill when it’s due, but can pay the full amount within 120 days, can ask the IRS for a short-term administrative extension.
Those who need more time have just a few options: They can try to secure a bank loan, such as a home equity loan, cash out a retirement account or use their credit card.
While going into debt to pay off a debt may not seem the best option, the interest rate and fees assessed by a bank or credit card issuer may be lower than the interest and penalties assessed by the IRS. Credit card payments must be made electronically, through personal tax software, a paid tax preparer or through credit card service payment providers.
2. Enter into an installment agreement with the IRS.
The IRS is required to accept installment payments if a taxpayer has a good filing and payment record over the past five years, the amount owed is not more than $10,000 and it can be paid off in full within three years.
Small businesses may enter into “streamlined” installment agreements if their debt is below $25,000 and they agree to pay it off in 24 months. This option is available to small businesses that file as an individual or as a business.
3. Reach an offer in compromise with the IRS.
In some instances, the IRS may accept less than the full amount due. This typically occurs if the taxpayer can show that the full tax debt could never be collected or they have a dispute with the IRS as to how much is owed, but neither party wants to enter into a legal battle to resolve the issue.
Under the new rules issued in February, more people may be eligible to participate in offers in compromise. Taxpayers with incomes of up to $100,000 (up from $50,000) and who have a tax debt below $50,000 (up from $25,000) can now request an offer in compromise from the IRS.