No one wants to owe taxes to the government. Still, unfortunate circumstances – whether it’s a miscalculation, a missed payment, a forgotten deadline, or financial difficulties – can quickly land you in hot water with the IRS and lead to a black mark on your tax account. Tax debt carries a substantial toll, as it grows faster than most other debts – and dealing with it as quickly as possible should be your top priority. While debt forgiveness comes in many forms, tax debt is not easily forgiven and tends to stick around for years. The longer you wait to pay off your debt, the harsher the IRS’s resulting penalties.
What Is the Failure to Pay Penalty?
One of the most common penalties applied by the IRS is the failure to pay penalty. As implied, the failure to pay penalty is applied to tax accounts that have not paid the tax due on their tax return by the due date or the extended due date. The IRS calculates the failure to pay penalty based on two factors:
- The amount of tax left unpaid by the due date.
- The amount of time passed since the due date.
The failure to pay penalty is increased every month. If you’ve owed back taxes to the IRS for the last 32 days, the IRS calculates and applies two months of penalties. The failure to pay penalty is 0.5 percent of the unpaid taxes due each month, up to a maximum of 25 percent of your unpaid taxes. Specific actions by the IRS, such as the intent to levy, can increase the rate at which your failure to pay penalty grows, up to 1 percent per month. This means the failure to pay penalty caps out after 50 months. Your specific actions, such as entering into an installment agreement with the IRS, can limit or reduce your tax penalty down to 0.25 percent per month.
Taxpayers can accrue multiple types of penalties. For example, in cases where a tax account has both failed to pay its due tax and failed to file its due tax return, the taxpayer will be charged with an additional 4.5 percent penalty per month without filing. Combined, both penalties cap out at 47.5 percent of your original tax debt (25 percent from failure to pay penalties and 22.5 percent from failure to file penalties). You can see how, over time, ignoring tax debt can become very expensive – and that’s without factoring in interest rates.
Can You Delay the Failure to Pay Penalty?
You can file for an extension on the due date for your taxes if you are suffering from undue financial hardship. This effectively delays the failure to pay penalty if the IRS informs you of a due tax and you need more time to address it. However, you cannot typically file for an extension to pay without due cause. You can file for an extension if you need more time to complete your tax return. But this is not the same thing. It can, however, save you from the harsher failure to file penalty (5 percent per month, or 4.5 percent per month if combined with a failure to pay penalty).
Taxes are due in the middle of April, with a few exceptions. For example, in 2020, Tax Day was pushed to May 17, then July 15 due to the COVID pandemic. In 2022, Tax Day is April 18 and April 19 in Maine and Massachusetts (due to Patriots’ Day). Filing for an extension gives taxpayers a few more months to file their tax returns. This year, the extended deadline is October 17. You must fill out Form 4868 – typically with the help of a tax professional – to request an extension to file. Again, this does not provide an extension on the due date for tax payments and does not affect your failure to pay penalties.
Other IRS Penalties to Beware
The IRS can levy other penalties on taxpayers for a variety of reasons. Individual taxpayers may want to watch out for notices and letters describing the following penalties (in addition to the previously described failure to pay and failure to file penalties):
- Accuracy-related penalties apply to taxpayers who file returns with missing income or deductions and credits that they aren’t eligible for.
- Failure to deposit penalties applies to individuals who have not paid employment taxes (i.e., payroll taxes) accurately or on time. These are for individuals in charge of managing payroll at a company.
- Dishonored check penalties apply to taxpayers whose checks bounced while making payments to the IRS.
- Underpayment of estimated tax by individuals can lead to a penalty.
- Information return penalties apply to taxpayers who don’t file their required information returns or payee statements by the due date. These are needed by persons involved in a trade or business who make eligible reportable transactions within a calendar year.
Penalties and Interest
In addition to penalties, the IRS may also charge interest on your tax debt as it goes unpaid. Interest can be significant, and rates change every quarter. For underpayments (i.e., taxes owed), the IRS charges the federal short-term rate plus 3 percent. The IRS’s Newswire provides periodic news releases on changes in the interest rate.
What If You Cannot Pay?
The only way to stop the IRS from charging penalties and interest is to eliminate your tax debt. Even if you can’t pay up all at once, an excellent first step is to contact a tax professional and find out about IRS payment plans and offers in compromise. The IRS offers multiple different kinds of payment plans with varying lengths of the term to help taxpayers eliminate their debt on an installment basis. Entering a payment plan usually reduces the amount of interest and penalties the IRS charges.
If a payment plan is still unfeasible for the amount you owe and your current financial status, you may be eligible for an offer in compromise, which reduces the total debt owed. However, offers in compromise can be difficult to negotiate, as the IRS wants to make sure that you’re paying as much as possible without financial duress. In extreme cases, the IRS will halt all collection actions (such as tax liens and levies) until your financial situation improves. Your debt will continue to grow in the meantime, however.
Some taxpayers are eligible for penalty abatement. For example, if your tax debt resulted from your spouse’s wrongdoings, you could talk to a tax professional about seeking innocent spouse relief. First-time offenders may also seek first-time penalty abatement, drastically reducing their total tax debt. While challenging to navigate, the IRS offers many resources and plenty of information on resolving common taxpayer issues – and by working with a tax professional, you can cut through the chaff and find the right approach for your case.