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Money Management (Distributed by the New Jersey Society of Certified Public Accountants)

How to Avoid IRS Penalties

Don't put off filing your 2001 tax return because you don't have the money to pay your tax bill. The New Jersey Society of Certified Public Accountants (NJSCPA) emphasizes that there are separate penalties for paying late, filing late and failing to file a tax return. Here's what you need to know to avoid IRS penalties.

If you file on time, but don't have enough money for your tax bill, you'll generally have to pay a late payment penalty of 0.5 percent of the tax owed for each month, or part of a month, that the tax remains unpaid, up to 25 percent. For example, if a payment due April 15 is made on May 20, the penalty would be 1 percent of the tax due.

When you do not file on time and owe taxes, you may be charged an additional late filing penalty of 4.5 percent. Thus, the combined penalty you can potentially incur is 5 percent (4.5 percent late filing and 0.5 percent late payment penalty) for each month, or part of a month, that your return is late. The late filing penalty applies to both the tax due on your return and any additional tax. The maximum combined penalty (late filing and late payment) for the first five months is 25 percent. Thereafter, you can incur a failure-to-pay penalty at a rate of 0.5 percent a month for 45 more months (an additional 22.5 percent). Thus, the combined penalties can reach a total of 47.5 percent. If a tax return is not filed within 60 days of the proper due date, including extensions, the penalty will be no less than $100 or 100 percent of the tax due on the return, whichever is lower.

In addition, interest, compounded daily, is charged on any unpaid tax from the due date of the return until the payment date. Interest rates are determined every three months and are equal to the federal short-term rate plus 3 percent. For the first quarter of 2002, the interest rate for IRS underpayments was 6 percent. For current interest rates, go to the IRS website, www.irs.gov, under News Releases and Fact Sheets, and find the most recent Internal Revenue release entitled Quarterly Interest Rates.

Options For Settling Your Tax Bill
If you do not have the cash to settle your tax bill, you have several options. When a short-term cash crunch is your problem, you might choose to use a credit card that offers a low introductory rate. If you know you can pay off the balance within the low-interest period, using a credit card may cost you less than paying the IRS penalty and interest costs. Be sure to check with your credit card company to see if this transaction will be treated as a purchase or a cash advance. Generally, a cash advance carries a higher interest rate and has a fee.

Rather than taking a cash advance, you can pay your taxes directly to the IRS with your American Express, MasterCard, or Discover card. To do this, you must call the Official Payments Corporation at 1-888-2PAYTAX or Phone Charge, Inc. at 1-888-ALLTAXX. The IRS charges a "convenience" fee equal to a percentage of the taxes that are due.

Another less costly option is to request an installment agreement from the IRS. To do so, attach either a completed Form 9465, Installment Agreement Request, or your own written request for a payment plan, to your return. You should propose a schedule specifying the amount you can pay each month and the due date.

The IRS will let you know, usually within 30 days, whether your request is approved, denied, or if additional information is needed. If approved, a one-time user fee of $43 will be charged. Remember, penalties and interest are added to the balance due even if an installment agreement is approved.

Making A Deal With The IRS
If you have a large tax liability that you believe you cannot possibly satisfy, you may want to consult with a CPA about working out an "Offer in Compromise" to settle your tax bill for less than the amount owed. For 2002, the IRS has put in place an inclusive package with simplified instructions, worksheets and an application.

However you decide to settle your tax bill, remember to file your return by April 15, 2002, to avoid failure-to-file penalties.

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Money Management is a weekly column on personal finance distributed by the NJSCPA.

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