Income tax debt is that debt which arises due to unpaid State and federal income taxes and the associated penalties and interest on the debt and fees leveled by the tax collection authorities arising from the original failure to pay the tax debt. If a taxpayer fails to file a return and it is determined by the IRS that he owed a tax a failure to file penalty, a failure to pay penalty and interest charges will be added to the original income tax debt and additional interest and penalties will be added onto that debt if that debt is not paid.
- The failure-to-file penalty is calculated based on the time from the deadline of your tax return, including any filing extensions, to the date you actually filed your tax return. The penalty is 5% for each month the tax return is late, up to a total maximum penalty of 25% of the debt due. The percentage is of the tax due as shown on the tax return. If a tax return is more than five months late, simply multiply the debt due by 25% to calculate the failure to file penalty.
- The failure-to-pay penalty is calculated based on the amount of tax owed. The penalty is 0.5% for each month the tax is not paid in full. There is no maximum limit to the failure-to-pay penalty. The penalty is calculated from the original payment deadline, usually the original April 15th filing deadline, until the balance due is paid in full.
- Interest is calculated based on how much tax is owed. Interest rates change every three months. Currently, the IRS interest rate for underpayment of tax is 5% per year. The interest is calculated for each day the debt balance due is not paid in full.
Reducing or Eliminating Tax Debt
- Installment agreement - An installment agreement is an agreement with IRS to pay the tax debt through a monthly payment plan that eventually will cover the entire tax debt.
- Partial payment installment agreement - This a fairly new debt management program where the taxpayer is given a long term payment plan to pay off the IRS at a reduced dollar amount.
- Offer in Compromise - A taxpayer may be allowed to settle the tax debts for less than what he owes. This requires making a lump sum or short term payment plan to pay off the IRS at a reduced dollar amount.
- Not currently collectible - There is a program where the IRS voluntarily agrees not to collect on the tax debt for a year or so because the taxpayer is financially unable to pay.
- Filing bankruptcy - Tax debt may be dischargeable under a Chapter 7 or 13 bankruptcy petition.
Statute of Limitations on IRS Debt Collection
In essence, the IRS has 10 years to collect outstanding taxpayer tax debt liabilities. This time limit is measured from the day a tax liability has been finalized. A tax liability can be finalized in a number of ways. It could be a balance due on a tax return, an assessment from an audit, or a proposed assessment that has become final. From that day, the IRS has ten years to collect the full amount, plus any penalties and interest. If the IRS doesn't collect the full amount in the 10-year period, then the remaining balance on the account disappears forever. The statute of limitations on collecting the tax has expired.
There is no question that if a taxpayer has somehow run up a significant amount of tax debt the assistance of an experience tax attorney is needed to reduce or eliminate the debt through available abatements, settlements, filing bankruptcy or other appropriate methods of containing the problem. This is not a “go it alone” situation. The expense of hiring attorney assistance dims against ever escalating tax debt due to cumulative accruing IRS penalties and interest.
