Can’t Pay Your Taxes? File Your Tax Return Anyway!

As a tax attorney I often hear the lament, “I can’t file my taxes because I don’t have the money!” Not having the money to pay your taxes is not great but IRS stormtroopers are not going to flood into your home to carry you off to some black site in Nebraska. At worst, you will get a love letter from the IRS asking you to please, with sugar on top, pay the outstanding balance. Now please do not misunderstand me, I am not saying there are no consequences for filing a return with a balance due. If you file your return on time but you owe taxes you will be assessed penalties and interest on the unpaid balance until it is paid (or the 10 year period for collection expires). I am saying that failure to file your taxes on time can make a bad situation much worse.

First, the “failure to pay penalty” is only one-half of one percent for each month the tax remains due, up to a maximum of 25% on the amount of tax owed. The “failure to file penalty” is five percent of the tax owed for each month the tax remains due, up to a maximum of 25% of the amount of tax owed. I do not think you have to be a MIT grad to know that there is a big difference between a 5% penalty versus .05%, especially where a substantial tax is due; it only takes 5 months to reach the maximum 25% penalty for the failure to file versus the 50 months to reach the maximum 25% penalty for failure to pay. As an aside, the failure to file penalty is reduced by .05%, if the failure to pay penalty is also assessed on the taxpayer. Not much of a consolation but it is something.

Second, the IRS has ten years from the date of assessment, usually the tax return filing date, to collect unpaid taxes. Failure to file the return means the clock does not start tick until you eventually file your tax return. Worse, if the IRS contacts you to file a return and you fail to do so it will prepare what is a called a substitute return. The ten year statute of limitation does not apply to this return and the IRS can continue collection efforts against you as long as it likes. Even worse than that, substitute returns are generally prepared with little effort to minimize the taxes due from the taxpayer resulting in a higher balance due than if the taxpayer prepared his or her own return.

Third, if you file for bankruptcy and you filed your taxes on time then you may be able to discharge certain income tax liabilities. Fail to file on time, however, precludes you from getting those same taxes discharged and you will have to wait out the ten year statute of limitation period. Right now I am working with a client who owes a substantial amount in income taxes. He might otherwise have been able to discharge his taxes in bankruptcy but for his failure to file his tax returns on time. Now he must do his best to pay his taxes until sometime in the 2020s. Not good.

Finally, the IRS offers certain programs to assist you if you cannot fully pay your taxes. The IRS offers installment agreements that allow you to pay your taxes over time, albeit with penalties and interest. It also offers the ability to make an offer in compromise to settle your unpaid taxes for less than the full amount. The IRS even offers an online application for an installment agreement so you do not have to leave the comfort of your home (nor spend hours on the phone waiting for an IRS representative). There is a limit on how much can owe to the IRS and use the online application which I believe is $50,000 for individuals and $25,000 for businesses. My experience thus far with the IRS has been good and I yet to meet an IRS employee who is out to destroy someone’s livelihood whether it be by garnishing a person’s wages or seizing property so there is no downside to being proactive about entering into a payment agreement with the IRS.

In summary, if you owe Uncle Sam it is foolish not to file your tax return on time, whether it be on April 15th or extended to October 15th. The IRS will eventually catch up to you and when it does the consequences will be much worse than if you faced your taxes head on in the first place. Hey, while you are at it why not talk to your local accountant or tax attorney (PLUG!) to get a second opinion. You may have missed a tax deduction or credit which would turn your balance due into a refund?!

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