Coming clean on your taxesPublished:
It goes without saying that you should file your tax returns each year and pay what you owe. But if you mess up, there are ways to move beyond the problem.
Except in cases of tax fraud, the U.S. Internal Revenue Service will generally work with taxpayers to get them back into the system. You can often negotiate a payment plan, and if you are truly strapped, you may be able to cut a deal on how much you must pay. But first you must fess up to the problem.
What happens if you do not file can get ugly, but you may not realize it at first. The IRS may be slow to catch up with nonfilers, as its computers go through the laborious process of matching tax documents with returns.
At first, nothing may happen, but nonfilers cannot escape notice forever.
For Hank, it all started when he lost his job at an ad agency. He began tapping his retirement funds to pay the bills, and did not put anything aside to pay taxes on the early withdrawals. For more than five years, he neither filed a return nor paid his taxes.
"I had some depression issues, and I had a little bit of a problem with alcohol," says the Los Angeles area resident. "It was just really stupid."
Now sober for three years, Hank has filed for the years he missed and is working to negotiate down the tax bill, which he figures is, very roughly, $40,000.
"I can see that I have made some egregious errors, and it's time to grow up and be responsible," says Hank, who spoke on condition that his last name not be used.
While few people like to talk about it, Hank's story is not uncommon. "It's usually drugs, booze or women," says Don Williamson, executive director of the Kogod Tax Center at American University in Washington, D.C.
Add to that the serious financial problems that have squeezed many Americans over the past five years.
"There are tax issues people haven't dealt with because they had a home foreclosure or lost their job or withdrew money out of a retirement plan and did not pay taxes on it," says Chuck Putney, who represents taxpayers before the IRS for Putney-Klein Associates in Walnut Creek, California.
"If someone doesn't file for a year, they think they can't file the next year," he says, "and then they get into a three- or four-year funk."
FEAR, SHAME AND DENIAL
A nonfiler's first communication from the IRS is usually a notice stating the amount it believes is due. It may not be accurate, and you should not assume it is.
Rather than pay too much, you should do your returns so you can figure out the correct amount you owe.
"They'll propose a large tax due, and they won't have any allowance for deductions," Putney says. "You can always file a correct return that says you have two kids and a home mortgage."
If you deal with the problem at that point, you can avoid worse penalties, such as a claim on your assets or the seizure of your property by the IRS.
The more common reactions, however, are fear, shame and denial. "I've seen clients bring in envelopes, and they're afraid to even open them," Putney says.
Valerie, a teacher who ran into financial trouble after Hurricane Sandy, has not yet filed her New York taxes this year, although she did file her federal return. She says she was afraid.
"It just seems overwhelming, and the emotional aspect blocks me," she says. "There is shame in not getting your stuff together. It's just a monster in the closet."
In the end, Valerie overcame her fears and started to deal with the issues. By mid-May, she had found an accountant to work with, and was hoping to set up a payment plan.
The first step is to open those notices and file the back returns. If you do not have what you owe, you may be able to negotiate an agreement to make monthly payments. To do so, you first need to file your back taxes.
Another option is the Offer in Compromise program, in which you can negotiate away part of your tax deficiency. The rules governing this program are strict, though, and you will generally have to be in extremely bad financial straits to qualify.
Especially if the numbers are large, you will want tax help. Working through back taxes on your own is not for the faint of heart.
© Copyright 2013 Thomson Reuters.