Extensions Anyone? [Tax Q&A]

Death & Taxes

Extensions Anyone?

By Roy Lewis
April 9, 1999

Well, it's pretty close to April 15. I'll just bet that some of you have not yet completed your tax returns and are thinking to yourself, "I'll just file an extension." Maybe you have completed your tax return, but find that you have a balance due and don't have the funds available to pay, so you say, "No problem. I'll just file an extension."

My advice to you... DON'T DO IT!! Extensions are only valid for filing the tax forms. An extension does not extend the time you have to make your tax payment! If you find that you have a balance due and simply try to file an extension without the required payment, you could find yourself in the middle of a nightmare.

That said, if you do find that you have a balance due and don't currently have the funds available to make the payment, file the return by April 15 anyway -- without the payment. You can then consider filing IRS Form 1127 (Application for Extension of Time for Payment of Tax) or IRS Form 9465 (Installment Agreement Request) with Uncle Sammy for some potential relief.

But, the relief isn't automatic. Check out my article in the Tax Q&A called I Can't Pay�Now What? for additional information and requirements for filing these forms. One thing you certainly don't want to do is file a bogus extension, though.

Automatic Extensions
Form 4868, Application for Automatic Extension of Time to File US Individual Income Tax Return, is the form you need to use. You can obtain an automatic four-month extension to file your tax return by completing and filing Form 4868 by April 15. But, for Form 4868 to be valid, you must make a reasonable effort to determine your tax liability and pay any anticipated taxes due with the Form 4868.

"So what if I don't?" you say. I'll tell you so what...

If you file Form 4868 and the IRS determines that you did not make a reasonable effort to determine your tax liability, the IRS can deny the extension retroactive to April 15 (IRS Notice 93-22). If you file Form 4868 and make no payment with the extension and then determine that you do have a balance due with your tax return, the IRS can deny your extension and assess a late tax return filing penalty against you -- that's 5% per month (or any portion of a month) on the tax owed, not to exceed a maximum of 25%. The IRS can also hit you with a failure-to-pay penalty of 0.5% per month, not to mention interest. Ouch!

For example, let's assume you owe $1,500 in taxes. You finally file your return on June 5. Your extension is retroactively denied. Your late-filing penalty will be $225, and your failure-to-pay penalty will be $22.50. Add interest to these amounts and you'll find that you are paying an effective annualized interest rate of over 1,000%! You're sure not going to make that kind of money in the bank.

Moral: File your tax return on time -- even if you can't pay the balance due in full. You'll avoid, at least, the late-filing penalty.

Impact on Other Elections
Another thing to be aware of is that a number of elections on your tax return are required to be made by "the due date of the return, including extensions." What does that mean? Let's look at an example (and this is a REAL LIVE example -- a client I represented before the IRS had this very problem).

For those who qualify, a contribution to a Simplified Employee Pension plan (or SEP) can be made on the due date of the return, including extensions. Let's say you choose to ignore the April 15 filing date and simply file Form 4868, showing no balance due and making no payment with the extension. You finally complete your tax return in late July and find, much to your horror, that you owe the IRS $7,500 and you also need to make your SEP contribution in the amount of $3,250. So you make your SEP contribution and file your tax return, making full payment with the return. A short time later you receive a notice from the IRS advising you that they have denied your extension retroactively to April 15. They also advise you that if you didn't make your SEP contribution on or before April 15, your SEP contribution will be denied.

Huh? Why? NO WAY! Oh, yes way.

Since your extension was denied retroactively, your due date to make your SEP contribution reverted back to April 15. The SEP contribution deduction that you took on your tax return could be removed by IRS, and they may also try to assess taxes on your SEP "excess contribution."

And there are a number of other tax elections that must be made on a timely filed return that you may place in jeopardy by having your extension denied. So, make every effort to file your return on time, or at least make a valid effort to compute your balance due and pay that balance due when filing Form 4868. If you overpay, you can get a refund or apply the overpayment to next year's taxes. But, if you underpay, you could buy yourself some big problems.

Additional Extension
If you find, even after the additional four-month grace period, that you still can't complete your return, file IRS Form 2688, Application for Additional Extension of Time To File US Individual Income Tax Return, by August 15. That will buy you an additional two months (until October 15) to file your return. But this extension is not automatic, and you'll be required to provide a "reasonable cause" statement with the application. The IRS will then review your statement and determine if your cause is actually reasonable. The IRS will notify you if your additional extension is approved or denied. Make sure that your statement shows a reasonable cause (generally, something beyond your control). Don't try the old "my dog ate my W-2 form" excuse. The additional extension is not simply there for your convenience.

I hope that this information will help guide you through the extension maze. If you need any additional help, you can always leave us a question in the Tax Strategies message folder

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