Tax Debt Issues and Solutions[yoast-breadcrumb]
Tax Debt Issues and Solutions
Paying taxes can be super stressful. The forms are confusing, the rules are complicated, and if you make a mistake, the IRS won’t hesitate to come after you for the money! I’ve been there myself – a few years back, I didn’t properly report some freelance income, and ended up owing the IRS a couple thousand dollars. It was scary getting those notices in the mail, and I worried about tax liens, levies, garnishments, etc. But with some research and help from a tax professional, I figured it out. Now, I want to share what I learned so you can deal with tax debt too!
Common Causes of Tax Debt
There’s a few main ways people end up owing money to the taxman:
- Underreporting income – Maybe you had a side gig or rental property you didn’t fully report. Or you received a 1099 after filing that you didn’t know about.
- Calculation errors – It’s easy to mess up on your forms and miscalculate how much tax you owe.
- Failure to file – If you don’t file your taxes at all, the IRS will file for you and send a bill!
- Failure to pay – If you file on time but don’t send a payment, you’ll end up with tax debt.
Mistakes happen. But even if it was an honest error, the IRS will still come collecting. So what do you do if you get one of those scary tax debt notices?
First things first – if you get a notice from the IRS about tax debt, open it right away and respond ASAP. I made the mistake of ignoring some IRS letters at first because I was scared. Don’t do what I did! The sooner you take action, the more options you’ll have.
Know Your Rights
The IRS has a lot of power when it comes to collecting tax debts. But you still have rights too. Some key things to know:
- You have the right to appeal IRS decisions you disagree with.
- You have the right to enter into a payment plan based on your ability to pay.
- The IRS must treat you professionally and courteously.
- The IRS cannot harass you or violate your rights.
Don’t let the IRS intimidate you – you have rights!
One of the most common tax debt solutions is setting up a payment plan with the IRS. This allows you to pay what you owe over time in smaller, more manageable payments. Some options include:
- Installment Agreement – Pay your full balance due over 6 years or less. There’s usually a setup fee, but low-income taxpayers can get it waived.
- Partial Payment Installment Agreement – If you can’t pay your full debt within 6 years, you may qualify for this option to pay what you can over a longer term.
- Delayed Collection – If you have a short-term financial hardship, you may qualify to delay collection for 30-120 days penalty free.
The IRS looks at your income, expenses, assets, and overall ability to pay when approving payment plans. Having a tax pro help negotiate can increase your chances of getting a reasonable payment plan approved.
Settle for Less
Another option is trying to settle your tax debt for less than you owe through something called an Offer in Compromise (OIC). This allows you to pay a lump sum that’s less than your full balance due in exchange for the IRS forgiving the rest of what you owe.
It’s not easy to qualify for an OIC, but it can be done in cases of:
- Doubt you actually owe the amount due
- Doubt you could ever pay the full amount due
- It would cause you unfair economic hardship to pay in full
The IRS looks closely at your finances, so having an experienced tax pro help put together your offer is highly recommended. But if approved, an OIC can resolve your tax debt for much less than you owe.
Get Penalties Removed
If penalties and interest are making your balance due extra high, you may be able to get them reduced. The IRS can remove penalties for things like:
- Reasonable cause – You had a legitimate reason the tax wasn’t paid on time.
- First time penalty abatement – Your first time receiving a failure-to-file, failure-to-pay, or accuracy related penalty.
- Administrative waiver – The IRS decides it’s in their best interest to remove penalties.
This requires filing a Penalty Abatement request and making a strong case for why your penalties should be removed. A tax pro can help maximize your chances of getting penalties waived.
Currently Not Collectible Status
If you have little or no income and few assets, you may qualify for Currently Not Collectible (CNC) status with the IRS. This puts a hold on IRS collection efforts, including wage garnishment and bank levies. To get into CNC status, you’ll need to fill out a Collection Information Statement and show you have less than a certain amount of income after paying necessary living expenses.
CNC status doesn’t make your debt go away – interest and penalties continue to accrue. But it protects your paycheck and assets while your finances recover. And in some cases, the IRS may agree to temporarily “suspend” debt collection entirely if you have extreme economic hardship.
Innocent Spouse Relief
If your tax debt is due to errors or omissions by your spouse or ex-spouse, you may qualify to be relieved of responsibility for paying it through Innocent Spouse Relief or Separation of Liability. To qualify, you’ll need to show:
- You filed a joint return for the year the tax debt occurred.
- There was an understatement of tax due to your spouse’s errors.
- You can show it would be unfair to hold you liable for the debt.
You’ll need to fill out Form 8857 and make a strong case for why you didn’t know about or have reason to know about the underreported tax. A tax pro can help maximize your chances of getting approved.
While not ideal, declaring bankruptcy can sometimes resolve tax debt, especially if the debt is older. The most applicable options are:
- Chapter 7 Bankruptcy – Liquidates assets to pay debts, including tax debt. Remaining tax debt is discharged.
- Chapter 13 Bankruptcy – Sets up 3-5 year repayment plan to pay down debts, including tax debt.
There are strict eligibility requirements and limits on how much tax debt can be discharged. Consulting a bankruptcy attorney is highly recommended before pursuing this option.