Written by: Karen Reed, EA
If you know you have a large tax bill coming that you are not able to pay, the most important thing to know is that you should still file your tax return before the filing deadline. Even if you are not able to make the full payment, filing your return on time and making as large a payment as possible could save you a substantial amount in penalties and interest. If you file for an extension, keep in mind that an extension of your tax return filing deadline does not give you more time to pay the bill, just to file your return.
The IRS assesses different types of penalties when a tax balance is due. The “failure to file” penalty accrues at the rate of 5% for each month or part of a month the return is late with a maximum of 25%. The “failure to pay” penalty accrues at the rate of .5%, ten times lower than the failure to file penalty. This is why it is important to file your return and pay as much as you are able to, on or before the deadline.
While the only way to avoid significant additional penalties for being unable to pay is to file your return properly and timely, the IRS does have several programs in place to assist those who cannot pay their taxes. The key to getting the IRS to help is to be proactive. Below are some of the options available to you when you are unable to pay the full amount you owe.
Installment Agreement Request
Under this option, you may be able to postpone or spread out your tax payments by entering into an installment payment agreement with the IRS. You can request this by filing Form 9465 or applying online.
When you enter into an installment agreement with the IRS, penalties and interest will still accrue, but the late payment penalty will be half the normal rate (.25% instead of .5%) if you file your return on time or with an extension. The IRS typically grants guaranteed installment agreements even if you are able to fully pay your balance.
Undue Hardship Extensions
Another option to extend the amount of time allowed to pay your tax bill is to show that payment would cause undue hardship. Unlike an installment agreement, it is more difficult and requires more effort to qualify for this type of extension. This request is available with Form 1127, and you must provide a detailed explanation of the undue hardship that would result by having to pay your taxes. Your application will not be accepted without a statement of your assets and liabilities as of the end of the previous month and an itemized list of your income and expenses for the three months leading up to the due date of the tax.
Offer in Compromise
An offer in compromise is an agreement to settle your tax debt for less, and often significantly less, than what you owe. The IRS prefers to receive a partial payment rather than nothing, but unless there are special circumstances, an offer to pay less than what you owe will not be accepted. To qualify for this type of settlement, you must show that you are not able to pay the full amount, and also that it is unlikely you will ever be able to pay the full amount. Other ways to qualify may include legitimate doubt about the tax liability owed, or an exceptional circumstance that would make the collection of the tax unfair or inequitable. Partial payments or a down payment must be made while an offer in compromise is being considered. In addition, the IRS is allowed to keep that payment even when they reject the offer, which happens more often than not. There is a $150 fee to apply for an OIC, the period to have it accepted is often one to two years, and the interest continues to build.
Innocent Spouse Relief
Under limited circumstances, you can be relieved from tax liabilities on a joint return if you believe the tax liability should be paid solely by your spouse. This type of relief is very difficult to qualify for and includes substantial requirements. You may qualify if there is an understatement of tax because your spouse omitted income or claimed false deductions or credits without your knowledge. You must be divorced, separated, or no longer living with your spouse, and able to show that, given all the facts and circumstances, it would not be fair to hold you liable for the tax. This type of relief is requested by filing Form 8857.
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This information is being provided to the taxpayer as required by the Internal Revenue Service and follows the guidelines for best practices for tax advisors per Circular 230 §10.33(a)(1-4), and §10.35(b)(2),(8), and (10). This written statement may be considered to be a “covered opinion” as defined by the Internal Revenue Service. This statement(s), along with subsequent correspondence, is not intended or written to be used, and cannot be used by the taxpayer, for the purpose of avoiding lawful penalties that may be imposed on the taxpayer by the Internal Revenue Service. The principal purpose of any stated tax advice included here has as its purpose to claim tax benefits in a manner consistent with the statutes and Congressional intent.