Here in the United States of America, tax collection is based on your ability to pay. Due to unfortunate circumstances, for example Coronavirus or financial mismanagement, you may not be able to pay your tax bill.
It has been estimated that in the extended 2020 filing season, up to a third of American taxpayers may not be able to pay their taxes on time.
It’s a bad idea not to file income taxes, so consider doing so even if you can’t pay!
The tax authorities have a file of almost everyone’s wages and income. Without a tax return filed, the taxing authorities will create their own substitute for the return that often lacks deductions and credits that a taxpayer would get if they filed a return. Filing starts the clocks at the time you can be audited, the time of collection, and begins aging the tax debt for possible discharge in bankruptcy or offers in compromise. Without filing compliance, it is not possible to obtain or maintain an installment agreement, or apply for other types of forbearances. Ignoring the tax filing requirements will eventually cause a lien whereby money is unexpectedly seized from your bank account.
So even if you can’t pay, filing a return is still recommended!
A good outcome for a taxpayer is when taxes were calculated incorrectly to begin with. Due to the complexity of the US tax code, a surprising number of tax returns, especially self-prepared tax returns, are incorrect, with substantial errors that can often go either way.
An erroneous tax return may be corrected, amended to produce a refund within two years from the date of payment or three years from the date of filing under IRC Section 6511. in English). After the IRS’s loss in Weisbart v. The revised US Treasury Regulations state that the IRS will reconsider all refund claims previously rejected for similar reasons, regardless of age.
If the corrected return reduces an unpaid debt rather than producing a return, the return can be corrected at any time (although once in collections the administrative procedure may be more complex than filing an amendment).
Again, charging is based on ability to pay. If you can’t pay your tax debt in full, you can get an installment agreement that allows for affordable monthly payments. If you are unable to pay any payments, you may be placed in non-collectible status and collection activity paused until your situation improves, with a reconsideration of your situation in two years.
The ability to pay is based on complex formulas that use regional standard costs. Allowable expenses are based on the higher or lower of the actual or standard costs depending on the nature of the expense and the collection period. The IRS form used to determine ability to pay is called Form 433. It comes in several flavors, with 433-A and 433-F being the most commonly used. If you want this type of relief, you must provide bank statements or receipts for a period of 3 months, and you must disclose all assets that could be used to pay the tax debt. 433 applications and strategies are complex to the point where it is desirable that most 433 filings be prepared by a tax professional.
(At the time of this writing) an “automatic”, “streamlined” or “unstreamlined campus” installment agreement may be set up up to $250,000 to be paid in full within the collection statute of limitations, and does not require disclosure of 3 months of financial information or completion of Form 433.
Offers in compromise, the question of collectability (settlement of a tax debt for pennies on the dollar, as widely advertised on television) may be a good option for certain taxpayers without the potential for significant future income. IRC 6502 generally gives the government 10 years after assessment to collect a tax debt. If the 10 years are likely to run out without full collection, then the government will consider such compromise offers. The offer in compromise is NOT just a negotiation! It is based on calculating reasonable collection potential from the same information used to request an installment agreement.
Bankruptcy will often release income tax debt older than 3 years that is on file for more than 2 years if any additions to the debt are older than 240 days. It will not release tax liability on a substitute return (if the taxpayer never filed), and it will not release liens attached to real property.
Please note that this is a complex and evolving regulatory practice area, and not all details can be communicated in a short article such as this one.