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Must Read Guide to IRS Tax Penalties

Jessica Cotzin Updated: June 27, 2023 • 8 min read
a cuople reading guide to IRS tax penalties

Understanding IRS Tax Penalties

Taxes can be a cause of distress for some and a confounding task for many, especially for those who owe money to the IRS. According to data released at the end of 2021, Americans still owed over $114 billion in back taxes, penalties, and interest from 2020 tax filings. That’s not counting tax bills accumulated during 2021, which is just now being reported.

Whether you owe money or not, it’s important to have a solid understanding of the common tax penalties and fees the IRS can throw your way. It’s also important to know how to best handle these stressful situations so you’re not drowning in tax bills.

4 Common IRS Penalty Fees

The tax deadline has been moved up a few days this year to Tuesday, April 19th. That provides some relief, but it’s not a good reason to put off filing taxes any longer than necessary. This is particularly true for anyone filing a paper return. The IRS is still backed up from last year, so waiting until the deadline and filing manually could result in unexpected penalties. Those could include one or more of the following:

1. Late Payment Penalty

The late payment penalty, also known as the “failure to pay” penalty, is a monthly 0.5% penalty assessed on the balance owed until the full balance is paid off. This penalty will be assessed each month until the total penalty reaches 25% of the billowed. After that, the IRS can no longer assess the penalty, but they may seek a lien on property or wage garnishment.

The late penalty can be reduced to 0.25% per month if the taxpayer makes an installment arrangement with the IRS. This is an agreement to pay the outstanding tax bill in monthly installments within an agreed-upon time. The IRS is sometimes flexible with installment agreements, but no agreement can exceed ten years, which is the statute of limitations for tax collections.

There is also relief available for taxpayers who can prove a good reason for not being able to pay on time. In that scenario, the failure to pay a penalty may be waived entirely. On the opposite side of that scale, if the IRS issues a final notice of intent to levy or seize property, the failure to pay penalty will increase to 1% per month ten days after the notice is issued.

What if you don’t owe taxes or get a tax refund?

Taxpayers who don’t owe taxes or expect a tax refund still need to file a tax return. Failing to do so will put the taxpayer at risk of incurring penalties, and interest charges on those penalties if they go unpaid. The IRS recommends that those with no taxable income file a $0 tax return to avoid this scenario. This number is also factored into social security payment calculations, so the IRS needs it to complete their report to the Social Security Administration.

2. Failure to File Penalty

The failure to file a penalty is assessed when taxpayers file their returns after the due date. The penalty is 5% of the unpaid tax for each month until the return is filed. Many taxpayers struggle with understanding what happens if you can't pay your taxes. The IRS will work with taxpayers on that. Filing dates are something they’re less likely to be lenient about.

Taxpayers who file late and can’t afford to pay will be required to pay just 5%. 0.5% will be applied to the late penalty. The other 4.5% will go towards the failure to file a penalty. Interest will be charged on both if they remain unpaid. Like the late penalty, the failure to file penalty has a maximum. It maxes out after five months at 25%.

Ask for a Filing Extension

If you think you’re going to be late on your taxes and need a little extra time, it’s best to ask for permission rather than forgiveness. It’s also easier! You can request an extension of time to file your tax return by filling out and mailing Form 4858. This will buy you an additional six months to fill out and return your tax return without incurring any late penalties.

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3. Underpayment Tax Penalty

If you’re like most taxpayers, the majority of your income comes from one primary source—your job. You’ve probably noticed that your employer withholds federal income tax from every paycheck. This makes it unlikely that you’ll pay less than you should when filing your tax return.

However, there are those who get their income from other sources, such as freelancers or entrepreneurs, who are subject to a self-employment tax. Unlike your typical worker who has his taxes withheld, these taxpayers must estimate and make tax payments every quarter. If not, they will face tax penalties or a big bill at filing time.

In short, the underpayment penalty is an IRS tax penalty for those who don’t pay enough in tax withholdings or estimated payments in the year. If you’re an underpaying taxpayer, the IRS will provide you with a Form 2210 to determine if you owe a penalty.

There are a few situations in which an underpayment tax penalty will be waived: the tax total is less than $1,000

  • You didn’t owe any taxes the previous year
  • You paid at least 90% of what you owe
  • There was a special circumstance, such as a natural disaster

4. Fraudulent Returns Tax Penalty

Willfully attempting to defraud the IRS or evade lax law is known as income tax fraud. It is a serious crime that can result in fines and imprisonment.

Before you start sweating bullets at the prospect of being thrown in jail for filing your tax return incorrectly, know that the IRS understands. They are able to distinguish between tax fraud and negligence. In other words, the IRS knows whether a person or company is committing fraud or if they made an honest mistake in their filings.

Here are a few red flags that someone may be committing income fraud:

  • Falsifying documents
  • Keeping multiple sets of financial ledgers
  • Underreporting income
  • Using a fake social security number
  • Concealing or transferring income
  • Overstating exemptions and deductions
  • Falsifying business and/or personal expenses

Unlike other types of tax penalties, taxpayers who commit income fraud can face civil and criminal penalties. These penalties are based on the type of fraud. For example, someone who has attempted to evade or defeat paying their taxes will be subject to imprisonment for up to 5 years, a maximum fine of $250,000 for an individual ($500,000) for businesses), or both.


Handling IRS Tax Penalties

So how do you handle your IRS tax penalties other than flat-out paying them?

If tax day has already come and gone and you’re now stuck paying late fees, there are a few options. If this is your first time being late on your filing or payment and you have a clean tax record for the past three years, you can request a first-time penalty abatement from the IRS. This essentially waives the penalties.

Similar to penalty abatement, a statutory exception is a type of IRS tax penalty relief is granted for specific circumstances. The IRS will waive or abate the penalties if you’re newly disabled or retired, if there is no tax liability in the previous year, or if the tax is less than $1,000.

Reasonable cause is another form of tax penalty relief typically provided to those whose situations are outside of their control. For example, it can be available to those experiencing a natural disaster, death, or other legitimate reason. The IRS makes this determination on a case-by-case basis. They’ll look at whether or not you acted in good faith and that your lack of payment was not due to willful neglect.

Prevent Penalties

Prevent penalties from happening by paying your taxes on time every time. If your tax bill is too large to tackle, request an installment agreement with the IRS. This will allow you to pay the amount of taxes you owe in smaller, more manageable monthly payments. The IRS will first determine what you can afford to pay each month. This is based on factors such as income and expenses, and then they’ll determine an appropriate timeframe for the installment plan.

If you’re timely with your payments, you won’t have to worry about receiving a lien or levy on your property, but you will still be on the hook for paying interest on the amount left that you owe on your taxes. Additionally, penalties will continue to accrue until your taxes are paid off.

Bring in the Pros

No one likes paying their taxes and tax penalties, especially when a hefty tax bill is looming come to the April deadline. Bringing in a tax specialist can help you face your taxes head-on, whether you’re dealing with unpaid taxes or penalties. They won’t erase your delinquencies and obligations, but they can help bring relief to your tax problems. They do this by reducing what you owe to the IRS.

Tax relief consists of programs created by the IRS that work to decrease your tax bill, depending on your financial tax situation. Such programs include tax credits and deductions, tax forgiveness, and other programs.

So where do tax professionals come in? Not only are they fluent in tax speak, but they have a full, up-to-date understanding of the rules governing taxes. Most tax relief companies offer a free consultation.  This allows them to learn more about your tax situation and then find the best tax relief services to alleviate your tax load.

Below are two tax relief companies we recommend that can help assist you on your imminent tax bill or tax penalties.

Community Tax

The Community Tax tax relief company has been around for nearly a decade. They provide taxpayers with a variety of tax services, including tax resolution which can help tackle your IRS and state taxes. Their fees start at $250 but largely depend on the individual case. Read more

Call or sign up for a free consultation with a tax expert. There are no minimum tax requirements and Community Tax considers all cases.

Tax Defense Network

This Florida-based tax relief company works with taxpayers on any tax delinquency-related issues, from wage garnishments and tax liens to penalties and more. With two decades in the industry, Tax Defense Network has helped save over $16 billion in outstanding taxes owed. Read more

They charge a flat fee for their services which depends on the complexity of the case. They also offer a free consultation where they can learn more about your case to provide a quote for services.

Final Thoughts

With careful planning and preparation, you can avoid tax penalties and owing money to the IRS. That being said, life happens and not everyone can file their taxes on time. The key is to understand the penalties involved as well as the solutions available to you. These may include filing a first-time penalty abatement, getting an extension on your tax return, or hiring a tax relief company to help bring down.

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Written by Jessica Cotzin

Jessica Cotzin is a writer and the Lendstart authority on small businesses and personal loans. She has been writing about personal finance and the loans industry for a number of years, and holds a bachelor’s degree in journalism from Florida Atlantic University.