Tax day 2022 is here. If you owe taxes you cannot afford to pay this may be the day you’ve been dreading.
The tax filing deadline can be a headache just because of the pressure to get your returns in on time. It’s much worse if you find you don’t have the money to pay your taxes.
Don’t panic. Every year, millions of taxpayers are late paying their taxes. It’s a problem, but how big a problem it becomes depends on what you do next.
There are a number of ways to deal with taxes you cannot afford to pay on time. The sooner you take action, the sooner the problem starts to get. The longer you dealym the worse it gets. Here’s our quick guide to dealing with taxes you cannot afford to pay.
File On Time Even If You Have Taxes You Cannot Afford to Pay
The worst way of dealing with taxes you cannot afford to pay is to try to hide from the problem. That will only make things worse – much worse.
For example, if you file but cannot pay, the penalty for paying your taxes late is 0.5% a month. However, if you don’t file your tax return on time, that penalty jumps to 5% a month. That’s ten times more, just for not not filing.
Those penalties max out at a total of 25% of your unpaid tax debt. However, even once that ceiling is reached you’ll continue to be charged interest on what you owe until you pay it.
The IRS charges interest at a rate of 3% over the Federal Reserve’s short-term rate. This applies to both taxes and penalties owed.
In addition to these immediate costs, failure to file or pay your taxes can affect your eligibility for certain federal programs. Meanwhile, the IRS may attach liens to your property or take other legal action. It also uses private collection agencies to pursue delinquent payments.
If you cannot afford to pay your taxes, the first step is still to file your return.
The next step is to figure out the best way of paying what you owe.
Take Out a Loan to Pay Taxes
So what does the IRS recommend that you do if you cannot afford to pay your taxes?
The IRS advises taxpayers that the best option may be to get a loan. This is because the combination of interest and penalties on unpaid taxes often exceeds the cost of borrowing to pay your tax bill. Here are some possibilities, and the pros and cons of each:
- Home equity loan. This may be easier to get than an unsecured loan, and is a relatively low-cost type of loan. On the downside, you need to be very sure you have the means of repaying the loan because your home will be used as collateral.
- Personal loan. A personal loan doesn’t put your home at risk, and it may be cheaper than credit card debt. However, it may be tough to get a personal loan if you are having financial difficulties, and the worse your credit is, the higher the interest rate you’re likely to pay.
- Credit card debt. If you already have credit available on a credit card, you don’t have to worry about qualifying for a loan. However, credit card interest rates are relatively high, plus you’d have to pay a processing fee on top of any interest charges you incur.
- 401k loan. If you have a balance in a 401k plan, you may be able to borrow against that balance. This depends on the rules of your employer’s plan. While this might seem like a readily accessible source of funds, it does come at a cost. You’d miss out on investment returns until the money is repaid, which could put your retirement saving behind schedule. Also, if you leave your job you might have to repay the loan sooner than expected.
Get Help From The IRS for taxes you cannot afford to pay
If you don’t have the means to pay your taxes and aren’t able to borrow, the IRS offers some other ways to work things out:
- Payment plans. The IRS offers both short-term and long-term payment plans. Short-term plans apply if you can pay in full within 180 days. There’s no fee for setting them up, though late-payment penalties and interest will continue to be assessed on the unpaid balance. Long-term plans are for situations where you need longer to repay. There is a fee for setting these up, but the late-payment penalty rate will be reduced.
- Delayed collection. If you can demonstrate that you’re unable to pay on time, the IRS may agree to temporarily delay collection. Penalties and interest on what you owe will continue to accrue, but at least it will stop active collection efforts.
- Penalty relief. If there’s reasonable cause, such as a family tragedy or unavailability of necessary records, the IRS may agree to reduce or waive some penalties.
- Offer in Compromise. This means the IRS agrees to settle for less than what you owe. You have to be able to show that you lack the financial resources to pay the full amount, and you’ll have to set up a payment schedule to pay what you can. There is a fee for applying for an Offer in Compromise, though it may be waived for low-income taxpayers.
Plan for Tax Day 2023
Once you figure out how to pay the taxes you owe for 2022, the final step is to make sure you don’t get into a similar situation in future. Here are some steps to take:
- Adjust your withholding. Having more taken out of your paycheck will mean you owe less when you file your return.
- Track estimated tax payments against reality. If you make estimated tax payments, compare them to actual earnings throughout the year to make sure your estimates are on track.
- Start an emergency fund. This is a good idea for a variety of reasons, because it cushions you against unexpected financial needs.
- Do your taxes earlier. Waiting till the last minute gives you less time to figure out payment options.
Remember, the IRS has the resources to find tax-payers and collect overdue taxes. It’s likely to be a lot less painful if you work with them to figure out how to deal with overdue taxes rather than making them track you down. You may even be able to reduce your tax bill with a few simple tips.
Disclaimer: The article and information provided here is for informational purposes only and is not intended as a substitute for professional advice.