There's just another month left in tax season, and some taxpayers are starting to realize that they're likely to get bad news once they complete their returns. Rather than getting that refund they had hoped for, many taxpayers every year have to pay tax. With times tough in many parts of the country, it's common for people not to be able to afford to pay their tax bills.
There's a mistake that people in this position make year in and year out, and it's important to understand that you can save yourself a lot of hassle, headache, and money by avoiding this error. It might seem completely natural, but it's exactly the wrong thing to do and can get you in far more trouble than if you do things the right way.
The key mistake: Not filing your return
A lot of taxpayers who can't afford to pay their tax figure think that there's no reason for them to file their tax returns at all. In fact, they mistakenly think that they're more likely to avoid scrutiny from the IRS if they don't file a return.
However, there are several reasons why that thinking is flawed. The most important is that there's little chance of your escaping the notice of the Internal Revenue Service. If you have income from a job, investment account, or other source that's required to file information returns to the IRS about the money that they've paid you, then not filing a return is just going to raise a red flag in the IRS audit system.
The penalties for not filing your return are also extremely harsh. In addition to paying interest on your balanced owed, you'll have to pay 5% of your outstanding tax bill in penalties for every month or part of a month that you're late in filing. That surcharge can grow to as much as 25%, meaning that by the latter part of August, you'll owe either that 25% amount or the $205 minimum penalty that applies -- as long as that amount doesn't exceed your total tax liability.
A much better situation
Instead, the best thing to do is to go ahead and file your tax return on time, recognizing that you won't be able to attach payment as indicated. You'll owe the same amount of interest, and there's still a penalty for paying late. But the amount of that penalty is much smaller at 0.5% per month, subject to the same 25% maximum. So, following up on the example above, if you're able to pay your bill by late August, your penalty would be just 2.5% as opposed to 25%.
The other thing that you can do if you're not ready to file on time is to request a filing extension. This automatically granted benefit will give you six extra months to prepare and file your return, with a final due date in mid-October. Note, however, that filing an extension doesn't do anything to keep you from owing tax as of mid-April, and the same failure to pay penalties will apply regardless of whether you actually file your return or get an extension.
What if I just owe too much?
If you're really in financial trouble, there are some ways that the IRS offers help. You can arrange a payment plan that will often result in the IRS not moving forward with more aggressive moves to collect the taxes that you owe. Short-term plans of 120 days or less involve no setup fee, while longer-term installment agreements include additional setup fees in addition to the interest and penalties that you'll owe.
The other option is an offer to compromise, which you can propose to repay a lower amount than you owe. In determining whether to accept the offer, the IRS looks at your income, expenses, assets, and ability to repay your taxes owed. If the IRS accepts the offer, then once you pay the agreed-upon amount, any remaining tax liability is wiped out.
Make the smart move
It's tempting to try to hide if you owe tax and can't pay it, but it's absolutely the wrong thing to do. File your return and then find a way to pay later, and you'll be in much better stead with the tax authorities.
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