(RIVERWOODS, ILL., April 11, 2006) – With April 17 approaching, you may feel crunched for time, money or both. Perhaps your records are in a mess and you just don’t have time to figure out what to put on every line of every schedule. Or perhaps you’ve just taken a first look at your taxes, and it’s not good news. You owe more than you had withheld, more than you paid in estimated tax, more than you can afford to pay by April 17. It’s awfully tempting to go to bed, pull the covers over your head and hope that the IRS will go away. But that’s one temptation that has to be resisted at all costs, according to CCH, a Wolters Kluwer business and a leading provider of tax and accounting information, software and services (CCHGroup.com).
“The one thing that can make a bad situation worse is not filing your return or requesting an extension. That brings on a failure-to-file penalty, in addition to possible penalties and interest for failure to pay,” said Mark Luscombe, JD, CPA and CCH principal federal tax analyst. “It’s smart to file even if you can’t pay, and pay even if you get an extension to file.”
Extension Allows More Time to File
If you aren’t able to fill out a complete return – because you need more information or more time to cope with the information you have – you should file for an extension, using Form 4868, estimating your ultimate tax liability and paying as much of it as you can by April 17.
“With an extension, you can get more time for filing, but you will owe interest on any underpayment, starting on April 17. If you underpay by more than 10 percent, you may be subject to a penalty,” Luscombe noted. “Of course, if you’re due a refund, you won’t get it until you actually file your return.”
Automatic Extension Now Six Months
An extension will automatically give you six additional months to file your 2005 taxes. This is a change from previous years, when an automatic extension allowed only four months, and you had to state a reason for getting an additional two-month extension.
“Increasing the length of the automatic extension will save taxpayers some time and trouble, but it’s still smart to file as soon as you can,” Luscombe observed.
Failing to get an extension, or not filing by the extended date, can subject you to a failure-to-file penalty. The penalty is 5 percent of the tax due for every month or any fraction of a month that the return is overdue, capped at 25 percent. However, there is a minimum penalty for any return not filed within 60 days of the due date (plus any extensions) of $100 or 100 percent of the tax due, whichever is less.
“The bottom line is that if you don’t file, you’ll almost certainly pay more in the end, and you aren’t likely to sleep very soundly knowing that the IRS may be looking for you, either,” Luscombe said.
Just Charge It
If you can’t pay all of your tax bill with what money you have at hand, there are two options for paying off your full tax debt over time – using a credit card or arranging an installment agreement with the IRS.
For several years now, it has been possible to pay your taxes with a credit card, and there are some advantages to taking this route. One is that the “convenience fees” of 2 to 3 percent charged for making the credit card transaction may be lower than the fee charged by the IRS for an installment agreement. Another is that you may earn frequent flyer miles or other perks by using your card. If you owe a relatively small amount and if you pay it off within a few months, the total costs can easily be less than if you deal with the IRS directly.
All credit card payments have to be made electronically, through personal tax software, a paid tax preparer or through credit card service payment providers that you contact by phone or over the Internet.
Installments with the IRS
There are some good reasons to deal directly with the IRS itself, however. One is that costs can be lower in the end because the IRS charges relatively low interest on installment payment agreements. The other is that you may be able to convince the IRS to accept less than the full amount due – a so-called “offer in compromise.”
“Until 2004, with the installment agreement, you were agreeing to pay the full amount, with interest, whereas with an offer in compromise, you and the IRS reach an agreed upon amount you will pay,” said Luscombe. “However, the American Jobs Creation Act now permits the IRS to enter into installment agreements for less than full payment.”
Under a 1998 law, the IRS is required to accept installment payments if you have a good filing and payment record, the amount owed is not more than $10,000 and it can be paid off within three years, but they can charge you interest, which varies with the federal short-term rate and is adjusted quarterly. Also, they can assess a 0.25-percent penalty for failing to pay in any month the installment payment is in effect. Any installment agreement that the IRS is required to accept must still be for full payment.
The “good filing and payment record” means you’ve filed and paid your taxes on time for the last five years and that your current withholding and estimated tax payments are sufficient to cover taxes for the current tax year.
You apply for an installment agreement on Form 9465, detailing the amount you owe, the monthly amount you propose to pay and the date of the month (no later than the 28 th) on which you’ll make the payment. You’ll be charged a one-time $43 fee when the IRS accepts your installment payment agreement.
Let’s Make a Deal
Offers in compromise normally arise because you convince the IRS that the tax debt in its entirety could never be collected or there’s a dispute between you and the IRS as to how much is actually owed, but neither party wants to enter into a legal battle to resolve the issue. In rare instances, you may be able to work out an offer in compromise even when there’s no doubt about the amount you owe and its collectibility, but you can convince the IRS that collecting the debt in full would impose an undue hardship.
Taxpayers should be prepared to bare their financial souls when they apply for an offer in compromise on Form 656 and truly make a serious offer.
The IRS has indicated that it will have little patience with taxpayers who propose settling their tax debts for “pennies on the dollar” and warns that many unscrupulous promoters are urging people to make such offers, while charging them excessive fees for their dubious advice.
There’s a $150 fee charged for offers in compromise. People who fall below certain income levels based on Department of Health and Human Services poverty guidelines can ask for a waiver with an “Application Fee Worksheet,” which is now included in the basic offer-in-compromise package. For example, a family of four living in the 48 contiguous states with a monthly income of less than $1,667 can apply for an offer without paying the fee.
Avoiding Future Problems
Anyone who feels stretched to pay this year’s tax bill is likely to have another problem looming on the horizon: next year’s tax bill. Painful as it may be, taxpayers should use Form W-4 to adjust their withholding and estimated tax payments, if necessary, to keep debts to the IRS from snowballing.
“It’s tough to have additional amounts withheld from your paycheck when you’re already in an installment agreement or tapped out from last year’s taxes, but the IRS is one creditor that most people don’t want to have,” Luscombe said.
About CCH, a Wolters Kluwer business
CCH, a Wolters Kluwer business (CCHGroup.com) is a leading provider of tax, audit and accounting information, software and services.
Wolters Kluwer is a leading multinational publisher and information services company. Wolters Kluwer is headquartered in Amsterdam, the Netherlands. Its depositary receipts of shares are quoted on the Euronext Amsterdam (WKL) and are included in the AEX and Euronext 100 indices. For more information, see www.wolterskluwer.com.