The following guest post was contributed by Jim Buttnow. Jim is a licensed CPA who spent 19 years with the IRS coordinating large compliance teams of IRS agents and specialized personnel. In the last 5 years, Jim has invented consumer and practitioner software and treatises on how to address many different tax issues. He has also represented many people before the IRS examination, collection, filing, and appeals functions. He currently assists taxpayers through his blog, IRSMind.com and through an active pro bono tax practice aimed at serving people in need.
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Each year, about 20 million taxpayers owe when they file their tax returns. On Sept. 30, 2010, the number of taxpayers with serious tax delinquencies increased to more than 10 million.
With the economy only marginally better and unemployment still at recession levels, the trend looks to continue.
What can you do if you owe on April 15? Here are eight tips to save money and ensure you don’t owe again.
#1: Whatever you do, file on time and save up to 25%. The worst thing you can do when you find out you owe on your tax return is to not file it on time. The penalty for filing late is 5% per month, up to 25%. If you owe $2,000 on your return, that penalty amounts to $500. If you file on time, you will be charged only a small failure to pay penalty and interest on the accrued balances.
#2: It’s easy to set up a payment plan with the IRS. The IRS has basically three payment plans. Most people qualify for the two simple payment plans, and they are dirt simple to set up. In fact, the following two simple agreements make up 94% of all IRS payment plans:
- Guaranteed installment agreement (GIA): This is for taxpayers who owe less than $10,000, can pay in the full balance in three years and have a clean compliance history (no payment plans and all tax returns filed for the last five years). More than 87% of taxpayers who owe have a balance of less than $10,000 – in fact, three out of four taxpayers owe less than $3,000. For the person who owes $3,000, that is a payment of less than $100 a month.
- Streamlined installment agreement (SLIA): This is for taxpayers who owe less than $25,000 and can make payments over five years. The minimum monthly payment is the assessed balance divided by 50, to allow for accruals of the failure to pay penalty and interest. For someone who owes $20,000, the minimum payment would be $400 a month.
The third type of payment plan is a “negotiated payment agreement,” based on the amount you owe and your ability to pay. In this case, you would owe more than $25,000 or you wouldn’t qualify for a GIA or SLIA. In these rare cases, you would have to provide a financial statement to the IRS and work out payment terms. If you have to go this route, visit a local IRS office to speak with a representative for the best results. Bring all of your bank statements, proof of income, and receipts for all of your expenses for the past three months.
#3: Set up a payment plan online to save money and time. The IRS has made it easy to get a payment agreement. You can do it by mail via Form 9465 or at IRS.gov using the Online Payment Agreement. Last year, more than 61,000 taxpayers set up an online payment arrangement, avoiding long IRS phone wait times and professional accountant fees.
#4: Set up a direct debit payment agreement to save $53 and greatly reduce your chances of default. The IRS charges $105 for a payment agreement. But if you set up a direct debit agreement, the fee drops to $52. Also, because the IRS requires you to pay a minimum amount each month (you can’t prepay the next month), a direct debit agreement helps you avoid default. Taxpayers default more than 40% of payment agreements, often because of late-arriving payments. Defaults require another IRS contact, intrusive questions and a $45 reinstatement fee. Avoid this mess by setting up a direct debit agreement.
#5: If you can’t pay anything now, ask for 120 days. Sometimes, all you need is a few months to pay. The IRS will give you 120 days to pay the amount in full. And the cost for a 120-day extension: nothing. If your financial circumstances change within the 120 days, you can inform the IRS and set up a GIA or SLIA, no questions asked. Interest will continue to accrue during this time, but it may give you time to get the funds.
#6: The IRS gives cheap loans at a current 4% interest rate. Each quarter, the IRS sets the interest rate it will charge on underpayments. Currently, it is 4% and has been that low or lower for more than a year. The IRS charges a failure to pay penalty for all balances due, but if you get into a payment plan, this penalty is 0.25% per month – or 3% per year. That is an annual interest and penalty rate of 7% — not bad for any consumer loan.
#7: Do not fall for those late-night ads for “pennies on the dollar” tax relief. These commercials tout the little-used IRS tax relief program called the Offer in Compromise. To illustrate how little it is used: Last year, out of the about 20 million taxpayers who filed and owed, the IRS accepted only about 14,000 Offers in Compromise. Also, the average amount taxpayers paid was over $9,000 in 2010. The tax relief firms that advertise on late-night TV charge $3,000 or more for what is rarely available. Don’t make matters worse with an expensive gamble.
#8: Don’t owe again: Change your withholding or start making estimated tax payments. If you owe for the first time or find yourself owing each year, change your withholding using Form W-4 or start making quarterly estimated tax payments to stop the file-and-owe cycle. Next April 15, you will be glad you did.
If you owe Uncle Sam on April 15, don’t be paralyzed. File on time, pay if you can or make arrangements to pay, and make sure it does not happen next year by changing your withholding. Follow the eight tips outlined here to save yourself money and time.