With April 15th approaching, you may find you owe tax but can’t pay in full. Just because you cannot pay your tax liability does not mean that you should not file on time. In fact, failing to file on time can be the worst thing to do as the “Failure to File Penalty” is excessive at 5% per month on the unpaid balance (up to 5 months). If filing by April 15th is problematic, you can request an extension by using form 4868 which will give you until October 15th to file (not pay).
When selecting the most appropriate IRS payment plan, it is important to understand where you stand. Do you think you will have with the money in a few months (<120 days), or do you think you will need more time? Another important factor is estimating or finding out your total tax liability.
If You Can Make a Payment in 120 Days or Less
If you can make a payment in less than 120 days or less, you can request a short-term payment extension with the IRS using the Online Payment Agreement Application (OPA). Requesting a longer term than what is needed will cost you more as a short-term extension carries no application/user fee unlike an Installment Agreement (explained below). If the IRS gives you an online approval for this payment extension, you typically will get a hard-copy confirmation in the mail within 10 days. Realize that the IRS will usually add on a “Failure to Pay Penalty” so, therefore, if you can pay the IRS in full on April 15th, you can avoid this penalty.
If You Cannot Make A Payment in 120 Days or Less
If you cannot make a payment in 120 days or less, you may want to consider an IRS Installment Agreement which will allow you to pay your taxes over a series of monthly payments. It does carry interest (currently 4% compounded daily), and, unfortunately you will incur the Failure to Pay Penalty. However, the latter penalty will be reduced by 50% with an IRS acceptance. Now there are a few different types of IRS Installment Agreements (IAs), each dependent upon your total tax liability, but these have a user fee ($105 or $52 if directly debited from your bank account).
- Guaranteed Installment Agreement – If you owe the Internal Revenue Service over $10,000 this IA will be the most appropriate for you. To request this agreement, either use the IRS Online Payment Agreement Application or file form 9465. Remember, with all types of payment plans you need to make sure you filed all tax returns due. This payment plan is unique because under the tax code you are “guaranteed” an acceptance by the IRS. When requesting this IA you will need to state a monthly payment amount that is equal to or greater than the minimum monthly payment. To calculate this, take the total amount you owe (including penalties and interest) and divide that number by 30. Your minimum payment should pay off your total debt amount in 36 months taking into account penalties and interest.
- Streamlined Installment Agreement – If you owe the IRS more than $10,000 but less than $25,000 (taking into account penalties and interest) you can apply for a “Streamlined” Installment Agreement by utilizing the Online Payment Agreement Application or by completing form 9465. The reason this is typically coined “Streamlined,” is due to the fact that the IRS will not require financial disclosure or verification of your income, expenses, and assets. To figure out your monthly minimum payment take the total amount you owe (again plus interest and penalties) and divide this number by 50.
- Financially Verified Installment Agreement – If you owe tax for over $25,000 or more, or you cannot make the minimum monthly payment on a Streamlined Installment Agreement, it is suggested that you request this type of payment plan. This type of Installment Agreement is more complicated because you need to provide a financial statement to the IRS (Form 433-A) which is called a Collection Information Statement. You need to disclose again your assets, income, and liabilities; your monthly payment will determined by what you have the ability to pay each month determined by Form 433-A. With this IA it is best to work with a tax professional simply because Form 433-A can be complex.
- Partial Payment Installment Agreement – This Installment Agreement is best if you cannot qualify for any of the other IAs, and you owe more than $10,000 (including penalties and interest) in tax. It allows you to pay a monthly payment amount up until the Statute of Collection (SOC) expires on each period of your debt; this time frame is generally 10 years minus the period from the assessment date. As the SOC expires on each period, that debt will fall off, and you will continue to make monthly payments on the remaining balance. This is a great alternative to an Offer In Compromise (OIC), especially if you had an OIC rejected or you are on the cusp of qualifying. It will also allow you to pay what you can afford or what you have the ability to pay, which is determined by Form 433. Ultimately, you will end up paying less than the total amount you owed but expect to pay what equity is left in your assets and your disposable income (over the remaining statutory collection period). Sometimes, though, the IRS will require you to sell or liquidate assets before you can qualify for this payment plan. It is highly recommended that you work with a tax professional as negotiations will occur and you need to understand complex terminology and calculations.
Overall, these are a few different payment options that lead to compliance if you owe the IRS money and you cannot pay in full. Realize, that there is always a cost to paying the IRS over time rather than when your taxes are due. Therefore, in deciding whether to even agree to a payment plan with the IRS, you must consider other alternatives and their respective interest rates (e.g. credit card, bank loan, personal loan, etc). From a nominal perspective, the IRS charges 4% (compounded daily) and (.25% compounded monthly) on the unpaid balance.