What Are The Consequences of Unpaid Federal (IRS) or State Taxes?
Owing back/unpaid taxes can result in a variety of problems, including the addition of substantial tax penalties to the amount you already owe. Fortunately, the IRS and most states have several payment plan options. Designed for taxpayers in precarious financial situations, these options are intended to minimize collection actions and penalties accrued. The following examines consequences of having unpaid taxes, as well as the solutions.
Unpaid Tax Consequences
Multiple factors determine the consequences of unpaid taxes. For example, a significant factor is whether or not the taxes were filed. The total penalty for unfiled and unpaid taxes is ten times more than having only unpaid taxes. When taxes continue to go unpaid, the IRS and most states adhere to a standard collection procedure that frequently results in levies and liens. The following provides a look at penalties and potential collection actions that may be taken to collect unpaid taxes.
Unpaid Tax Penalties When the Return was Filed by the Due Date
When taxes were filed on time, but the amount of taxes owed hasn’t been paid, it is referred to as the failure to pay penalty. It’s charged at a rate of ½ to 1% of the tax liability every month (or portion of the month) that the taxes go unpaid. The maximum penalty amount due is 25% of the unpaid taxes.
If you filed for an extension, then the failure to pay penalty is not charged if 90% of the amount owed on the original due date is paid and the balance is paid by the extension’s due date.
Unpaid and Unfiled Tax Penalties
The IRS charges some of the steepest tax penalties when taxes haven’t been filed by the due date and taxes are owed. The penalty charged by the IRS for unfiled taxes with a balance due is known as the failure to file tax penalty. Usually the tax penalty is charged at a rate of 5% of the amount owed every month. There is a maximum penalty of 25% of the total amount owed. If the taxes aren’t filed for 60 days or more past the due date (or extended due date, if one has been requested and granted), the minimum penalty due is the smaller of 100% of the tax liability amount or $135.
When taxes remain unfiled, the IRS and most states file a substitute tax return on the taxpayer’s behalf to assess tax penalties and liability. Typically, the amount assessed on the substitute return will be more than if the taxpayer filed due to limited credits and deductions being available. The greater the assessed tax liability, the higher the tax penalties will be.
What Else May Happen?
The collection process starts with a letter being sent demanding payment and assessing additional penalties and interest. After the taxpayer has received multiple letters and hasn’t taken action, the process of collection usually begins. The following methods may be used to collect unpaid taxes.
Bank Levy: Tax authorities contact your bank requiring that a hold be placed on any funds in your account. The funds are seized to pay the unpaid tax liability.
Property Seizure: Tax authorities opt to seize your assets, including your home, cars, or any other valuable assets that can be sold to cover the unpaid tax liability.
Tax Lien: A tax lien gives the government claim to the taxpayer’s property. When a lien is in place, the government gets first rights to the property over other creditors.
Wage Garnishment: Tax authorities can contact your employer and require they withhold a specific percentage of your pay to cover your tax liabilities.
Jail Time: Although unlikely, jail time can occur. Tax authorities have the option of having a taxpayer arrested and held in jail.
Taking Care of Unpaid Taxes
In most cases, taxpayers can’t pay the taxes they owe in full due to an unforeseen event. The tax authorities understand this and attempt to work with taxpayers to develop an arrangement. The substantial penalties are charged to ensure taxpayers quickly respond to and work with the IRS or state tax authorities. After an arrangement has been made, the interest and penalties will end or be charged at a significantly lower rate. Frequent methods used to settle unpaid taxes that cannot be paid in full include:
Installment Agreement/ Payment Plan: Installment agreements are designed to allow taxpayers to make monthly payments on the amount they owe After a taxpayer has settled on an installment agreement, they are usually considered to be in good standing with most state tax authorities and the IRS.
Currently Not Collectible (CNC): When a situation is uncollectible, a hold is placed on collection attempts until the taxpayer’s financial situation has improved enough to give them the ability to pay without experiencing financial hardships. Typically, the statute of limitations expires before the debt is collected, leaving the taxpayer not responsible for the debt. There are occasions when the CSED can be extended depending on the actions of the taxpayers. As a result, working with a tax professional is often in a taxpayer’s best interest.
Partial or Part Pay Installment Agreement: This agreement allows taxpayers to pay a smaller monthly payment than what is required in an installment agreement. In most cases, the amount is based on the taxpayer’s financial situation or disposable income. Typically, the payment amount doesn’t pay off the tax debt in full before the statute of limitations or Collection Statute Expiration Date (CSED) expires. On the expiration date, any taxes that haven’t been paid back are wiped away, meaning the taxpayer isn’t responsible for them.
Offer in Compromise (OIC): This program is frequently available to taxpayers who are unlikely to have their tax debt paid off before the CSED on the tax debt expires. Taxpayers are allowed to settle their taxes for less than the amount they owe.
Penalty Abatement: Penalty abatement is often used in combination with the other plans discussed above. If a taxpayer has a valid reason for being noncompliant with tax laws, often referred to as reasonable cause, then the penalties may be reduced or removed completely.
There is a solution for every tax problem. Generally, the taxing authority has no desire to cause the taxpayer financial hardship. In fact, the primary reason the IRS or state taxing authority do cause a financial hardship is because they aren’t aware of the situation and the resulting hardship. Once the IRS or state taxing authority has the opportunity to assess your financial situation and realize that the tax collection process will cause a hardship, they usually work with the taxpayer (or the tax professional acting on their behalf) to work out a resolution that works for everyone involved.
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