Although most American taxpayers (74% in 2020) receive a refund each year when they file their income tax returns, some end up owing for one reason or another. Many of those who owe Uncle Sam don't have the means to pay what they owe by the return due date (usually in April).
Generally, tax due occurs when a wage earner is under-withheld on their payroll or a self-employed individual fails to make sufficient estimated tax payments. This can be a massive problem for those who cannot pay their liability.
It is generally in your best interest to make other arrangements to obtain the funds for paying your 2021 taxes rather than be subjected to the government's penalties and interest for payments made after April 18, 2022.
Here are a few options to consider:
Family Loan– Obtaining a loan from a relative or friend may be the best bet because this type of loan is generally the least costly in terms of interest.
Home Equity Loans and HELOCs - Use the equity in your home—that is, the difference between your home's value and your mortgage balance—as collateral. As the loans are secured against the equity value of your home, home equity loans offer highly competitive interest rates—usually close to those of first mortgages. You'll be paying less in financing fees for the same loan amount than unsecured borrowing sources, such as credit cards. Unfortunately, obtaining these loans takes time, so if you anticipate that you'll need funds from such a loan to pay your taxes in April, you should get the application process started right away.
Credit Card– Another option is to pay by credit card with one of the service providers that work with the IRS. However, since the IRS will not pay a credit card discount fee (the fee charged by the credit card company), you will have to pay the fees due and pay the higher credit card interest rates.
Short-Term Payment Plan – If you can fully pay the tax owed within 180 days and owe less than $100,000, including tax, penalties, and interest, you can apply for a short-term payment plan online at the IRS website. You won't be charged a setup fee but will still have to pay penalties and interest until the balance owed is fully paid. Setup fees will be charged if you apply for a payment plan by phone, mail, or in-person instead of online.
IRS Installment Agreement– If you owe the IRS $50,000 or less, you may qualify for a streamlined installment agreement where you can make monthly payments for up to six years. You will still be subject to the late payment penalty, but it will be reduced by half. Interest will also be charged at the current rate. There is a user fee to set up the payment plan. However, the IRS generally waives the fee for low-income taxpayers who agree to make electronic debit payments. A taxpayer agrees to keep all future years' tax obligations current in the agreement. If the taxpayer does not make payments on time or has an outstanding past due amount in a future year, they will be in default of their agreement, and the IRS has the option of taking enforcement actions to collect the entire amount owed. Taxpayers seeking installment agreements exceeding $50,000 will need to validate their financial condition and need an installment agreement by providing the IRS with a Collection Information Statement (financial statements). Taxpayers may also pay down their balance due to $50,000 or less to take advantage of the streamlined option.
Tap a Retirement Account– This is possibly the worst option for obtaining funds to pay your taxes because you jeopardize your retirement lifestyle. The distributions are generally taxable at your highest bracket, which adds more taxes to your taxes existing problem. In addition, if you are under age 59½, the withdrawal is also subject to a 10% early withdrawal penalty that compounds the situation even further.
Filing Extensions – Don't mistake the ability to apply for an extension of time to file your tax return as an extension to pay any tax liability. It is not and does not grant you an extension of time to pay. The penalties and interest on the amount due will continue to apply as of the return's original due date.
Enforced Collections - If the taxes cannot be paid, and the IRS is not notified as to why they cannot be paid, the law requires that enforcement action be taken, which could include the following:
Issuing a Notice of Levy on salary and other income, bank accounts, or property (IRS can legally seize property to satisfy the tax debt).
Assessing a Trust Fund Recovery Penalty for certain unpaid employment taxes.
Issuing a Summons to the taxpayer or third parties to secure information to prepare unfiled tax returns or determine the taxpayer's ability to pay.
Note: To collect delinquent tax debts, certain federal payments (vendor, OPM, SSA, federal salary, and federal employee travel) disbursed by the Department of the Treasury, Bureau of Fiscal Service (BFS)) may be subject to a levy through the Federal Payment Levy Program (FPLP).
Fresh Start Initiative - The IRS also has the "Fresh Start" initiative to offer more flexible terms in its existing Offer-in-Compromise program, which, under certain circumstances, allows taxpayers to settle their tax debt for reduced amounts. This enables financially distressed taxpayers to clear up their tax problems faster than in the past. While resolving tax problems might previously have taken four or five years, taxpayers may now be able to resolve their issues in as little as two years.
If you have questions about the payment options or an offer-in-compromise, please call this office for assistance. Don't just ignore your tax liability because that is the worst thing you can do.