Dealing with the IRS is something none of us has the desire to do, but if that day comes, I don’t want you to make any of the mistakes to make a bad situation worse. Below are 3 steps to follow if you have a state tax or IRS problem. I learned everything I know about the IRS from Board Certified Tax Attorney Jeffrey Kahn.
Step 1. Make sure you actually owe the money
If you owe a lot more tax than you expected, find out why. Read your completed return carefully and look for errors. It’s easy to add the same income twice, or to forget an important deduction. Maybe the IRS didn’t apply one of your prior payments. If you expected to qualify for a deduction or credit, and your tax return doesn’t show it, make sure you answered all the questions correctly. One missed question or checkbox is all it takes to create a problem with the IRS!
Another way to determine if something is amiss is to compare this year’s return to last year. If your tax situation has not changed drastically, but your tax bill has, that’s a red flag.
Just because you received a letter from the IRS stating you owe, don’t assume the IRS is correct. They make mistakes, too. And if you did not file a return, the one the IRS prepares for you will almost always shows a higher amount owed. While you can attempt to contact the IRS for clarification, it is difficult to reach a person who has the knowledge, experience AND THE TIME to understand your problem and work out a solution. Also, when you do finally get to speak with an agent, they are acting in the best interest of the IRS – NOT YOU.
Step 2. Minimize penalties and interest
Large tax bills are worse when you pay penalties and interest on top of the original amount owed. You can minimize penalties and interest in three ways:
Exceptions to underpayment of tax penalties
If you underpaid your taxes this year, but you owed considerably less last year, you generally don’t pay a penalty for underpayment of tax if you paid or had withheld at least as much as you owed last year, and you pay by the due date this year. By looking at last year’s tax liability and other tax information, it can be determined if the safe harbor rule reduces your penalties and interest. You may also be able to reduce your penalties and interest using the annualized income method if you received more of your income in the latter part of the year.
Ask for an abatement of penalties
The IRS may reduce or remove penalties and interest on the penalties if a taxpayer writes a letter explaining the situation. But notice that the interest on the tax cannot be abated. In order to succeed, you must show “reasonable cause” which may be met where you had an unusual tax event, you made an honest mistake, or you or your spouse had a serious illness.
Pay as quickly as possible
If you owe tax that may be subject to penalties and interest, don’t wait until April 15th or if on extension October 15th to file your return. Send an estimated tax payment or file early and pay as much tax as you can.
Step 3. See if you qualify for an Offer In Compromise or alternatively ask for an installment plan
If you can’t pay the tax by the time it is due, don’t avoid the bill. It will only get worse.
The IRS must allow you to make payments on your overdue taxes if you owe $50,000 or less and you can show that you cannot pay the amount you owe now. In that situation you may qualify to pay off the tax in as long as six years. Of course, you must also agree to comply with the tax laws, and you or your spouse must not have had an installment agreement with the IRS in the past five years.
Because an installment plan does not allow for any discount of the amount owed and the balance will continue to accrue penalties and interest, serious consideration should be given to an Offer In Compromise (OIC).
You’ve probably heard ads for “experts” promising to help solve your problems with the IRS by settling your bill for less than you owe. It’s true that the IRS will negotiate back taxes through an OIC.
However, you must plan on offering at least as much as your net worth – everything you own, reduced by your debts. There are also other considerations involved including whether you are a wager earner or you own your own business. You should first seek advice from an expert who is knowledgeable and has the experience in working OIC cases with the IRS. Check their credentials to make sure they are reputable – that is always the best way to insure that you have someone who is established and accountable to their clients. Nowadays, it is so easy and quick to check somebody out on the internet or through any professional licensing boards (i.e. State Bar, CPA, etc.) they are subject to.