What to Do If You Owe Taxes and Can’t Pay

It is not uncommon for individuals to discover they owe taxes when filing their annual return. This situation arises when the total tax liability for the year exceeds the payments made through withholding, estimated taxes, or refundable credits. Understanding that there are established procedures to address this challenge can alleviate immediate concern. Taxpayers facing an unexpected tax bill have options available to them, even if they cannot immediately pay the full amount due.

Understanding Your Tax Liability and Initial Steps

Discovering a tax liability carries immediate implications, primarily the obligation to pay by the due date. For most individual taxpayers, this deadline is April 15th of the following year. Failing to meet this payment deadline can result in penalties and interest, increasing the overall amount owed.

Several types of penalties can accrue on unpaid taxes. A common one is the failure-to-pay penalty, which is 0.5% of the unpaid taxes for each month or part of a month the tax remains unpaid, capped at 25%. If a tax return is filed late and taxes are owed, a failure-to-file penalty also applies, 5% of the unpaid tax for each month or part of a month the return is late, also capped at 25%.

Interest also accrues on underpayments from the original due date until the tax is paid in full. This interest rate is determined quarterly and is the federal short-term rate plus 3 percentage points, compounding daily. These penalties and interest charges are additional costs, highlighting the importance of addressing tax liabilities promptly.

For taxpayers who can pay their full tax liability, several standard payment methods are available. Payments can be made electronically through IRS Direct Pay, the Electronic Federal Tax Payment System (EFTPS), or by debit or credit card. Paying by check or money order through mail is also an option, ensuring the payment is correctly credited to the taxpayer’s account.

Exploring Payment Options When You Cannot Pay in Full

When a taxpayer cannot pay their full tax liability immediately, several options exist to manage the debt. These options include an Installment Agreement, an Offer in Compromise (OIC), or potentially being placed in Currently Not Collectible status. Each option addresses different financial situations and has specific requirements.

An Installment Agreement allows taxpayers to make monthly payments for up to 72 months. This option is suitable for those who can pay their tax debt over time but need a structured payment plan. To request an Installment Agreement, taxpayers use Form 9465, Installment Agreement Request. This form requires basic personal information, the amount owed, and the proposed monthly payment amount.

For an Installment Agreement, the IRS will evaluate the taxpayer’s ability to pay by reviewing income, expenses, assets, and liabilities. If the amount owed is $50,000 or less, individuals can apply online, and the agreement may be automatically approved if certain conditions are met, such as having filed all required tax returns. If the amount is greater than $50,000, supporting financial documentation may be required.

An Offer in Compromise (OIC) allows taxpayers to resolve their tax liability with the IRS for a lower amount than what they originally owe. This option is considered when there is doubt as to collectibility or when paying the full amount would cause significant financial hardship. To apply for an OIC, taxpayers use Form 656, Offer in Compromise. This form requires detailed financial information, including income, expenses, and the value of assets and liabilities.

The OIC application process involves submitting a comprehensive financial statement, Form 433-A (OIC) for individuals or Form 433-B (OIC) for businesses, along with Form 656. These forms require extensive documentation, such as recent pay stubs, bank statements, and information about all assets like real estate, vehicles, and investments. The IRS evaluates the taxpayer’s reasonable collection potential.

Currently Not Collectible (CNC) status is an option for taxpayers experiencing severe financial difficulty. While in CNC status, the IRS temporarily suspends collection efforts, though interest and penalties continue to accrue. This status is not an elimination of the debt but a temporary pause in collection. To qualify for CNC status, taxpayers must provide extensive financial documentation demonstrating their inability to pay, including detailed income and expense information.

Applying for a Payment Arrangement

Once a taxpayer has gathered all necessary financial information and completed the appropriate forms, the next step involves formally submitting the application for a payment arrangement. The method of submission depends on the type of arrangement being requested and the amount of tax owed.

For an Installment Agreement, taxpayers owing $50,000 or less can apply directly online through the IRS website’s Online Payment Agreement application. If applying by mail, Form 9465 can be attached to the tax return itself, or it can be mailed separately to the IRS. Send the form to the correct IRS address as specified in the form instructions.

Submitting an Offer in Compromise requires mailing Form 656 along with the required financial statements (Form 433-A (OIC) or Form 433-B (OIC)) and supporting documentation. A non-refundable application fee is required, as well as an initial payment, depending on the chosen payment option. The mailing address for OIC submissions is provided in the Form 656 booklet.

Requesting Currently Not Collectible status involves contacting the IRS directly, often by phone, to discuss the financial situation. This process does not involve a specific form for initial request, but rather direct engagement with an IRS representative.

After submitting an application, taxpayers should expect a processing period. For Installment Agreements, approval can be immediate online or take a few weeks if mailed. An Offer in Compromise can take several months to process, as the IRS reviews the financial information. During this period, the IRS may request additional documentation or clarification. Taxpayers will receive a written notification from the IRS regarding the approval or denial of their request.

If an agreement is approved, taxpayers must adhere to the terms of the arrangement. This includes making all monthly payments on time and remaining compliant with all future tax filing and payment obligations. Failing to meet these ongoing obligations can result in the default of the agreement, leading to the resumption of collection actions and the imposition of further penalties and interest.