If you enter into an installment agreement with the IRS to repay your past-due tax balance, the full amount (including penalties), will be subject to interest. The IRS payment plan interest rate equals the federal short-term rate, which is established by the agency as a minimum interest rate for loans, plus 3 percent, rounded to the nearest whole percentage. Most recently, the short-term rate was listed at 2.72 percent in January 2019, with a rate of 6 percent for IRS installment agreements. This rate is updated each quarter and interest accrues daily.
If you do not pay your balance from the previous tax year by April 15, the IRS will begin assessing interest on this balance along with any applicable penalties. If April 15 falls on a weekend or holiday, the deadline is the next business day. Interest will accrue until your balance is completely paid.
When you make a payment, the amount is first credited to your tax balance, then to penalties, then to unpaid interest. If you successfully apply for a reduction of your tax liability and/or for penalty abatement, the interest that has already been charged will be adjusted and refunded accordingly. You must complete IRS Form 843 to apply for an interest reduction, which is only granted in cases of proven agency error.
The most common taxpayer penalties are for failure to file and failure to pay taxes. Failure to file is much more expensive than failure to pay, so you should always file your tax return on time even if you know you will not be able to pay your balance.
The failure to file penalty is 5 percent of your balance each month to a maximum of 25 percent. The failure to pay penalty is 10 times less, just 0.5 percent of your balance. Like interest, penalties continue to accrue until your balance is paid in full.
The IRS offers several types of installment agreements for individuals who cannot afford to pay their taxes on time:
With a guaranteed installment agreement, you must repay your balance within 36 months. To determine your minimum monthly payment, divide your total liability, including penalties and interest, by 36. You can make a higher monthly payment if you want to pay your IRS debt sooner. Doing so will also reduce the amount of interest you pay over time.
Other types of agreements allow you to choose a monthly payment that you can afford. This amount must be at least the minimum payment, which is the total amount of your balance, penalties, and interest divided by 72. For example, if you owe $15,000 in tax, penalties, and interest, you must pay at least $208.33 per month.
For a partial payment installment agreement, you can use your disposable income to come up with an estimated payment. The IRS may either approve this amount or request a higher amount based on the review of the information you provided on Form 433.
If even a minimum monthly payment is out of reach in your current financial situation, you have a few options when it comes to negotiating with the IRS. First, you can seek currently not collectible status (CNC), which requires a full review of your finances to determine that repaying your taxes would create undue hardship. If you qualify, collection actions will cease for one year but will be renewed if your financial situation changes for the positive.
Some taxpayers can qualify for an offer in compromise, in which the IRS settles the tax debt for less than the full amount you owe. This also requires full financial disclosure.
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