Mistakenly, many believe that filing a tax extension is an extension of time to pay your taxes. While a tax extension provides an extension to file your tax return, it does not provide an extension of time to pay taxes owed.
The federal income tax is a pay-as-you-go tax system. If you’re an employee, then your employer will withhold income tax during each pay period in your name and social security number. If you are self-employed, then you would make estimated tax payments throughout the year based on earnings and, generally speaking, have to pay self-employment tax. If you are an employer, then you may have to make federal tax deposits for payroll taxes throughout the year as you are paying your employees.
While you should always aim at timely filing and timely paying your taxes, the good news is that interest rates, which are tied to federal short-term rates, are at historic lows. The IRS recently announced that the interest rates for the calendar quarter beginning Jan. 1, 2015, and ending March 31, 2015 are as follows:
- 3 percent for overpayments, in cases other than corporations
- 2 percent for overpayments in the case of a corporation (except 0.5 percent for the portion of a corporate overpayment exceeding $10,000)
- 3 percent for underpayments (including estimated tax underpayments)
- 5 percent for large corporate underpayments
To put the current interest rates in perspective, at the start of the financial crisis in 2007, rates on tax underpayments were as high as 7%.
Despite rates remaining unchanged since October 1, 2011, they won’t stay low forever. On December 17, 2014, the Federal Reserve indicated that it’s closer to an interest rate hike. Therefore, if you’re in an IRS installment agreement, it could make sense to make voluntary payments above your monthly payment to curb interest rate and future interest rate, hike risk.
Tax interest and penalties is the biggest complaint that I hear from clients. When you do not pay your taxes timely, the IRS, under IRC 6601(a), is required to charge interest on the unpaid taxes from the due date of the return until the date the tax debt is satisfied. To make matters worse, failing to pay your taxes timely will result in the IRS charging a penalty of .5% on the unpaid amount due per month up to 25% of the amount due. The .5% penalty will increase to 1% beginning 10 days after the IRS issues a Notice of Intent to Levy. On top of the tax penalties, IRC 6601(e) directs the IRS to impose interest on penalties. Therefore, owing a back tax can be a difficult debt to extinguish. You have to juggle interest on, not only the tax, but the penalties too.
While tax penalties are discretionary and thus can be negotiated by proving reasonable cause or your prior tax compliance history, interest is not discretionary. Accordingly, the IRS has limited authority to waive interest on a tax deficiency.
IRC 6404 discusses the limited circumstances in which the IRS is permitted to abate tax interest. The IRS may abate interest in the following circumstances:
- A determination is made that the unpaid cost of the tax assessment, including interest, does not warrant administrative and collection costs.
- The IRS made a math error on a return prepared by an IRS employee.
- The IRS provided erroneous written advice that caused interest accruals on a tax due,
- An IRS employee caused an unreasonable delay or error and the taxpayer did not in any way contribute to the delay or error
Because it is rare to abate interest, it is always in the taxpayer’s financial interest to reduce the amount of taxes owed as early and aggressively as possible if you cannot qualify for an offer in compromise or other tax resolution, i.e. Chapter 7 bankruptcy or doubt as to liability offer, that would settle your back taxes owed. In light of the 2015 IRS budget reduction, many of the IRS’s functions such as executing an installment agreement are taking months to complete. Often times, I tell my clients to make voluntary payments or work on current year compliance while waiting for the IRS. Both voluntary payments and current compliance have the effect of curbing IRS interest rate accruals.
Should you have any questions regarding IRS interest assessments, contact the Law Offices of Todd S. Unger, Esq. LLC. Todd S. Unger, Esq. LLC is a boutique tax controversy practice that handles tax collection, audits, tax whistleblower claims, tax preparer representation, and criminal tax investigations. To resolve your tax matter, call Todd S. Unger today (877) 544-4743.
