Chances are you will need to pay a tax bill sometime in your life. There are all sorts of events that contribute to such a situation – estate inheritance, sweepstakes or lottery winnings, large work bonus, selling stock options, etc. These windfalls can turn from a momentary boon to a shocking surprise come April 15. If you find yourself with tax debt that you cannot pay in full, know that you do not have to pay it all immediately. Let us walk you through the steps you can take to resolve your tax debt with as little stress as possible.
Get a summary of the issue
It should go without saying that none of the advice that follows will help if you have willfully engaged in tax evasion and fraud. Keep in mind that failure to file and pay your taxes does not mean the Internal Revenue Service (IRS) will prosecute you. If there is no ill intent, contacting the IRS and explaining the situation along with a plan to file and pay your tax debt will be taken into consideration. If you have come by your tax debt legally through the previously mentioned windfalls or through having too little tax withheld, you have a variety of options available to you.
Contact a tax attorney for help
At this point, you should have a good idea if you’re in over your head and need some help. There are a few options available, each with their own advantages. Your accountant or CPA can only do so much and mostly can just help with tax preparation. There are tax relief companies that can act as a go-between with the IRS for you and can make a deal to reduce your debt. However, be on guard when it comes to out-of-state companies, or companies with sales people that will not actually handle your case. Those red flags indicate that there may not be the level of personalization and advocacy that you need when you have a large tax debt.
As with any financial project, it helps to gather all of the available information, which may include your income from all sources, how much taxes you have paid (state and federal), when you paid the taxes, including any interest and fees. Be as thorough as you possibly can, considering that you may not have filed taxes for some time. After bringing all of these details together, you should also know the full total of what you owe the IRS and/or state governments.
The first step is to file all missing tax returns. This shows the IRS that your intentions are genuine, and it also makes all the paperwork available for you to qualify for an installment agreement. The government will not accept any payment plans, offers-in-compromise, or other settlement terms until they have received all paperwork related to your case.
Pay the balance
Always pay in full if you can. After your case is complete, you may be entitled to some of the money back if it’s determined that you overpaid. However, if you pay only what you think you should owe, you will incur late payment charges as well as interest.
Request an installment agreement. If you owe $50,000 or less, you can apply for an installment agreement with the IRS to set up monthly payments. If you can pay your full debt in 120 days or less, you can set up a payment plan with no additional fees. If you need more time, you will pay to set up payroll deduction or direct debit. You can set a payment timeline of up to 72 months, but keep in mind that the IRS will continue to charge interest and assess penalties on your owed balance. For instance, if you enter an agreement to pay $100/month and you owe $10,000 with the IRS charging 10 percent for interest and penalties, you’ll only be paying off $200/year. ($10,000 – $1,200 + $1,000 = $9800). That rate will take longer than 72 months to pay off, so you need to make sure you can pay an amount that will eliminate your bill in the time given.
What if I cannot pay my bill?
If you cannot pay your bill, one of the following options may be available to you.
File for non-collectible status if you qualify. “Currently Non-Collectible” is a temporary designation from the IRS where you provide evidence that you’re not able to pay anything without incurring a hardship and they agree that you are unable to pay your tax bill as well as your living expenses. While in CNC status, the IRS will not pursue collection actions against you. This means they will not garnish your wages or impound other assets. Unfortunately, they will continue to impose interest and penalties, so you may have a bigger problem down the line. They can also keep future refunds to settle your tax bill if you’re still delinquent.
Offer-In-Compromise. The offer-in-compromise is essentially an appeal by the taxpayer to the IRS pay less than you owe to resolve your tax debt. This requires a list of all assets, liabilities and expenses, and can be complex because it is based on more than just what you think you can pay. Once you petition the IRS to dismiss your debt, it is entirely their discretion as to whether or not to accept the offer. You will need to provide ample support for this request including bank records, proof of income, assets – the list goes on and on, and the process is very time-intensive on your end. Keep in mind that there is a substantial fee to file the OIC paperwork and they also continue to charge interest during the request review, further adding to your financial burden. Your offer may be rejected but the IRS can counter with an acceptable amount, which you can appeal.
Bankruptcy is an option that can remove some types of tax debts in certain circumstances
Chapter 7 Bankruptcy. Filing for Chapter 7 bankruptcy can result in full dismissal of your tax debt, but you must meet five criteria:
- The taxes are from personal income
- Your debt must be from at least three years ago
- You’ve filed all of your tax returns (as we previously mentioned)
- You haven’t willfully committed tax fraud or evasion
- You file for bankruptcy more than 240 days after they assess your tax debt.
Chapter 7 bankruptcy works to liquidate debt but is a more complete, comprehensive process, and the requirements to file are well-defined.
Chapter 13 Bankruptcy. If you don’t qualify for Chapter 7 bankruptcy, you may be able to file Chapter 13 which works to repay your creditors over a period of time while enabling you to keep your assets. With Chapter 13 bankruptcy, your payments go to a trustee who then distributes the money among creditors. Your debts are usually reduced under Chapter 13, and the IRS suspends interest and penalties during the period of payback, usually from three to five years.
How long will the IRS pursue collections?
The IRS can only pursue collections for 10 years from the date of the return, but this doesn’t mean you can hide out for 10 years. They can suspend the collections period (during bankruptcy proceedings, for example), which will extend the statute end date as well. As mentioned previously, it’s in your best interest to settle up and in full as soon as possible. The IRS will continue to attempt to collect right up until the end of the 10 year period, often with aggressive tactics.
What if my tax debt was caused by someone else?
If you have taxes caused by business partner or ex-spouse, you can get relief from those debts with proof. If you find that your business partner is claiming fraudulent items for the business, you should report to the IRS as quickly as possible in order to avoid being held liable for any debts or punishments.
In the case of personal divorce, if you and your ex-spouse file jointly, you are held as liable as your spouse to repay any debts. The IRS does recognize that there are sometimes “bad actors” in a marriage and have three types of relief from a joint return:
- Innocent Spouse Relief. Absolves you of all tax debt due to their failure to report income, improperly reported income, or improperly claimed credits or deductions.
- Separation of Liability Relief. Allocates tax debt to you only for the debt you are responsible.
- Equitable Relief. Applies when an improper reporting on your joint tax return is attributable to your spouse, but all other items are correct and true.
Whether you need relief from a business or personal tax debt, both are delicate situations to navigate. Consult with a tax attorney before taking any steps so you have all of your affairs in order.
We hope we have helped put your mind at ease and given you some options as to how to resolve your tax debt. Remember: Tax debt happens. It doesn’t have to be catastrophic, despite initial feelings of being overwhelmed. Instead of hiding and hoping it will all go away, take your time and be thorough, communicating with the IRS about your situation. You have choices to make, so make sure they are informed choices. Contact us for a free, no obligation consultation at (303) 688-0944.