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What if You Owe Back Taxes?*

If you can't pay your federal tax liabilities promptly, here are some suggestions on how to partner with the IRS and eventually pay off your debt.

Mention the words "Internal Revenue Service" to your average American taxpayer and the response isn't typically a warm one. This sentiment is especially true as the calendar days tick away and as the standard tax filing deadline of April 15 nears.

Whether you're someone who owes an additional tax payment or someone who expects a refund, the pressure to simply file a return in time can overwhelm even the most educated consumers. These anxieties and angst can compound for taxpayers in arrears - those who owe not only current-year taxes, but previous years, as well.

Ignoring the problem or delaying addressing it doesn't make it go away; in fact, it makes it worse. Serious consequences may befall on those who fail to pay. Penalties may include financial fines and the accrual of interest, the confiscation of personal property, liens on interest-bearing bank accounts, the garnishing of wages and, at the extreme, criminal prosecution. For repeat non-payers, those who flat out refuse to pay their annual tax obligations, the IRS may proactively prepare returns and, where appropriate, send taxpayers a bill for taxes due, plus penalties and interest. Note, that you might not receive credit for all the deductions or exemptions you're entitled to receive in these cases so it's best to file yourself.

Whatever situation you face, the good news for consumers in tax trouble is that help is available. Consider the following suggestions:

Be Proactive
Before the IRS initiates its automated letter campaign to your home notifying you of your default status, reach out to the IRS first. You can reach them by phone, face-to-face at a local branch office or via the Internet. Once you make contact, your goal is to seek assistance regarding your individual circumstances. For example, if you're simply unable to pay due to a job loss or because you don't have the right information at your fingertips, the IRS can help.

In some cases, taxpayers may even be offered amnesty for simply displaying their intent to improve their situation. Approach your local taxing authority with a plan based on your ability to pay and comply with your obligations.

Complete Your Past Filing(s)
As soon as possible, fill out the necessary paperwork for the year for which you owe. This is the fastest way to avoid future interest and other penalties and right your account. Generally, interest is charged on any unpaid tax from the due date of the return until the date of payment. The interest rate is determined quarterly and is the federal short-term rate plus 3%. Interest is compounded daily.

By completing your return, you might be pleasantly surprised to find that the government owes you rather than that you need to pay them. Keep in mind, however, that if you're due a refund for withholding or estimated taxes paid, it generally must be claimed within three years of the return due date or you risk losing the right to it. The same rule applies to a right to claim a tax credit such as the Earned Income Credit.

Note that self-employed persons who do not file a return will not receive credits toward Social Security retirement or disability benefits. Your failure to file also results in not reporting any self-employment income to the Social Security Administration.

Finally, if you lack the documentation required to complete your return, help is available. Contact your employer for a copy of an old W-2 wage statement or your bank for any 1099 statements of self-employment income or interest you may have earned on investments. The IRS also maintains copies of past filings you may need to complete your return. Request copies by completing IRS Form 4506.

Consider Various Payment Options
Having a plan to pay back your taxes is critical, and there are multiple options available to help you pay in full, spread out your obligations or take advantage of other financing options to right your account.

Here are some options to consider:

  • Pay in Full: If your budget allows it, pay your debt in full by writing a check to the IRS or initiating a debit from your personal bank account. Money orders, cashier's checks and cash are also accepted. Paying the full amount owed helps you avoid future monetary penalties.
  • Early booking offers: Many hotels, resorts, and airlines offer discounts or perks if you book your vacation ahead of time. Search popular websites like Travelocity.com and Expedia.com for advanced booking specials and "early bird" rates. You may be surprised to find that you can enjoy the vacation you've always dreamed of at a price you can actually afford.
  • Request an Extension: Contact your local IRS branch and request an extension of 45 days, for example. This option provides you with additional time to fulfill your obligation.
  • Request an Installment Plan: In some cases, the IRS may grant you an installment plan whereby you make partial, monthly payments, with interest, over a drawn-out period of time. Typically, all amounts due to the IRS must be paid off within a three-year limit, giving you the ability to spread your obligation over multiple years.
  • Request a Compromise Agreement: Depending on your situation, you might be able to reach a compromise agreement, whereby you seek a decision from the IRS to excuse a portion of your total obligation amount while you continue making partial payments.

Remain Current

Once you fulfill your past-due obligations, try to prevent this from occurring again next year. For example, if you've underestimated your liabilities or failed to have your employer withhold enough money during the tax year, you'll owe Uncle Sam. In these cases, you may want to decrease the number of withholding allowances you claim on the W-4 form (Employee's Withholding Allowance Certificate) that you completed for your employer. Try using the IRS' online withholding calculator to help determine if you need to give your employer a new W-4 to avoid having too little federal income tax withheld from your pay. In some cases, like for a second job, you may even want to claim zero for maximum withholding.

For any income that is not subject to withholding, the IRS can also provide information necessary to help you make quarterly payments to cover any amount to be owed and help you avoid any tax-day surprises.

Finally, continually organize all incoming tax-related documents throughout the calendar year. Whether you use 9x12" clasping envelopes or hanging file folders, categorize your tax paperwork according to business and medical expenses, charitable contributions, mortgage documents, student loans, childcare, etc., as is pertinent to your individual situation. You may even consider using Microsoft Excel or some other computer system to record such expenses throughout the year. The key is to appropriately file and/or record such documents as soon as they enter your home. You can also contact a certified public accountant for additional help or if your tax situation is too much for you to handle alone.

*This is not intended to be, and is not tax advice. It is always wise to check with a tax professional if you have any questions before filing your taxes. 

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