IRS Substitute for Return and the Statute of Limitations

When a taxpayer fails to file a required tax return, the Internal Revenue Service (IRS) can create one on their behalf. This process alters the normal time limits for assessing and collecting tax. Understanding how this IRS-prepared document, known as a Substitute for Return, interacts with the statutes of limitations is important for anyone with unfiled returns.

The Substitute for Return Explained

The IRS has the authority to create a tax return for a non-filer under Internal Revenue Code Section 6020. This document is known as a Substitute for Return (SFR). The agency constructs the SFR using information from third-party sources, such as Forms W-2 from employers or Form 1099-NEC from clients. This provides the IRS with a picture of the taxpayer’s income for the year.

This method almost guarantees a higher tax liability. The IRS prepares the return using a filing status that produces the highest tax, such as Single or Married Filing Separately. The agency will not include any deductions or credits the taxpayer might be entitled to because it lacks the necessary information. The result is a return based solely on gross income, leading to an inflated tax assessment with penalties and interest.

The Statute of Limitations on Assessment

The statute of limitations on assessment is the time the IRS has to determine a taxpayer’s correct tax liability. Under Internal Revenue Code Section 6501, the IRS generally has three years from the date a return is filed to assess additional tax. This period is known as the Assessment Statute Expiration Date (ASED). For example, filing a 2023 return on April 15, 2024, sets the ASED as April 15, 2027.

An SFR prepared by the IRS does not count as a taxpayer-filed return for starting this three-year clock. The ASED countdown begins only when the taxpayer voluntarily files their own return. Therefore, when the IRS prepares an SFR, the statute of limitations on assessment remains open indefinitely, allowing the agency to assess tax for that year at any time.

This differs from a scenario where the taxpayer cooperates with the IRS and signs the return the agency prepares. A signed return is considered validly filed and does start the three-year ASED clock. The unsigned SFR provides no such protection.

The Statute of Limitations on Collection

The statute of limitations on collection is different from the assessment period. Once the IRS formally assesses a tax, a new timeline begins under Internal Revenue Code Section 6502. The agency generally has ten years from the date of assessment to collect the debt, a deadline known as the Collection Statute Expiration Date (CSED).

For a debt from an SFR, the CSED does not begin when the SFR is created. The IRS first prepares the SFR and issues a Notice of Deficiency, or 90-day letter. This notice gives the taxpayer 90 days to challenge the proposed tax in U.S. Tax Court. If the taxpayer does not respond, the IRS makes a formal assessment, and the ten-year collection clock starts on that assessment date.

While the assessment statute remains open, the collection statute is finite once an assessment occurs. This ten-year period allows the IRS to use collection tools like liens and levies. If a taxpayer later files their own return that the IRS accepts, it may reduce the amount owed but does not change the original CSED.

Responding to a Substitute for Return

When you receive a notice about a proposed or filed SFR, such as a Notice of Deficiency, you must take action. The most effective response is to prepare and file an original, accurate tax return for the year in question. Ignoring these notices leads to a finalized assessment and enforced collection.

Filing an original Form 1040 replaces the SFR, allowing you to use the best filing status and claim all eligible deductions and credits. This almost always results in a lower tax liability. Filing your own return also starts the three-year statute of limitations on assessment, providing a clear end date for the IRS to audit that tax year.

If you receive a Notice of Deficiency, you have a 90-day window to petition the U.S. Tax Court and dispute the proposed tax before it is assessed. For most people, the more direct route is to file the correct tax return. This action addresses the cause of the SFR and resolves the tax liability on accurate terms.