Whether you haven’t filed your taxes on purpose or time just got the better of you and you forgot, don’t assume that the IRS hasn’t noticed. Yes, the IRS has to keep track of over 150 million tax returns each year, but it is very difficult to slip through the cracks.
While you may think that you’re evading detection, the IRS has likely already recognized your failure to file, but they just haven’t started the collections process yet. Learn more about how the IRS knows you owe taxes, the downsides of waiting to file, and how to catch up.
Key Takeaways
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Even if you do not file your tax returns, the IRS likely knows that you owe them money and how much.
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W-2s and 1099s are a couple of the tax forms the IRS uses to find those who have earned taxable income but have not filed a return.
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If you do not file your return, the IRS may file a Substitute for Return that estimates how much you owe. Your SFR does not give you any credits or deductions, so it is generally in your best interest to file a new return.
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Once you file your old returns, you can access relief options like installment agreements and offers in compromise.
The IRS Doesn’t Just Depend on Your Tax Return—Information They Get Behind the Scenes
Failure to file a tax return is often a two-pronged problem. It often arises because the taxpayer knows they will owe taxes that they cannot pay in full. Instead of filing their return and then handling their payment options, they hold off on filing until they can get caught up financially. The thought process is that the IRS won’t know that they owe money until they file, so they can hold them off until they have the money to pay.
Unfortunately, that isn’t the case. The IRS does not rely solely on your tax return to determine what you owe. Every tax document you receive—your W-2, 1099, bank interest statements, and so on—is also sent to the IRS. If they have that documentation in their systems, but you do not file a return, their automatic systems flag your SSN. The Information Returns Program collects and stores this data to flag missing returns for the IRS.
Filing a tax return that shows you owe money doesn’t alert the IRS to the fact that you owe money; it just confirms what the IRS already knows.
What Happens If the IRS Discovers You Didn’t File?
The IRS may not notify you as soon as you miss a tax return. Depending on their workload and the volume of missed tax returns they are handling, it may take a significant amount of time (potentially several years) before they start following up.
Notices You May Receive
The IRS has a long list of notices used to alert taxpayers to missing returns. You may receive CP59 if you are missing one or more personal tax returns. CP63 is sent when the IRS knows you have not filed and believes you may owe taxes. Additional notices include CP259, CP515, CP516, and CP518. If you ignore all of these notices, the IRS may move forward with CP2566. The IRS sends this after calculating your taxes based on the information they have received from third parties. You may also get CP3219N. This is a Notice of Deficiency that gives you 90 days to address the missing return.
How Ignoring the Problem Makes it Worse
Even if your tax return is already delinquent, that doesn’t mean you should continue waiting until you are able to pay in full. The bad news is that the longer you wait to file your tax return, the worse your situation is.
As we noted earlier, the IRS sends multiple notices reminding taxpayers to catch up on their tax returns. If the taxpayer in question fails to do so, the IRS will file a Substitute for Return on their behalf. A Substitute for Return is, essentially, the worst-case scenario for your tax return. It includes all of the income reported to the IRS, but without any of the credits, deductions, and exemptions that could decrease your bill.
Additionally, you cannot forget the penalties and interest that will inflate your bill even more. The failure-to-file penalty is 5% of the tax due for each month or partial month your return is not filed. Although it’s capped at 25% of the total bill, that is a significant jump—and it’s one you could completely avoid by filing your taxes. You’ll also have to pay interest on the bill and any penalties that accrue. Since interest on IRS debt compounds daily, every single day you don’t address your tax debt makes your problem worse.
Consequences of Failing to File
There are several ways that failing to file can catch up with you and put you in a risky financial or legal situation.
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Loss of tax refund – First, even if you think you will owe the IRS money once you file, you may actually be owed a refund. It’s very common for taxpayers to overestimate how much they owe and then be pleasantly surprised by a refund. However, there is a time limit on a tax refund. You only have three years from the tax return’s original due date to file your return and claim any refund you are owed. If you wait to file and you get past that three-year date, it doesn’t matter—whether the IRS would have owed you $10 or $10,000, you have given up that money for good. It’s bad enough giving the government an interest-free loan all year long when you receive a refund, but to give that money up permanently is a painful financial hit.
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Risk of SFR – If you do actually owe the IRS additional money, waiting to file is a risky choice. Remember that the IRS likely already knows you owe money, and unfortunately, if they file an SFR, the tax liability is likely to be much higher than it should be. SFRs don’t include deductions, business expenses, and most credits, and they also use the least advantageous filing status, all of which lead to a higher bill.
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Enforced collection actions – Once the IRS files that Substitute for Return, they can begin enforced collection actions. You are at risk of the IRS placing a lien on your property, levying your assets, garnishing your wages, or even seizing your passport once your tax debt gets high enough.
Catch Up by Filing Now and Taking Action
We understand that realizing you’re behind on your taxes can be stressful and anxiety-inducing. The best time to file your tax returns was on their due date; the second-best time is now. The sooner you file your missing returns and face what you owe, the sooner you can start making progress on your tax liability.
Once tax is assessed, the IRS has ten years to collect. However, tax is not assessed until a return is filed. Filing your returns puts a time limit on the life of your tax liability and allows you to apply for a variety of payment options. In contrast, if you don’t file, the IRS can go back an unlimited amount of time to assess tax against you – there’s no statute of limitations on unfiled returns.
If you are unable to pay in full, there are resolution options you can look into. First, you may want to consider an installment agreement. These IRS payment plans allow you to spread your tax payments over a period as long as 72 months (even longer in some cases, with a financial disclosure).
An offer in compromise may be accessible to you if your tax debt is too high for you to pay off, either in full or over time. The process of applying for an offer in compromise is time-consuming and requires extensive financial documentation, so you may want to talk to a tax attorney to find out if you have a chance at qualifying before you put the work in. The IRS will request information on your income sources, assets and equity, monthly bills, and other debts. They expect an offer in compromise to be the last possible option for you, so if you have equity in your home or other assets, they expect you to exhaust that before asking for your tax debt to be reduced.
If you are in a situation that leaves you unable to afford any tax payments, you may want to request currently not collectible status from the IRS. This requires the same type of financial disclosure as an offer in compromise, but it results in a temporary pause in collection actions. Interest and penalties continue to accrue, so if your financial situation ever changes, the debt you have to pay back will be higher.
Of course, there’s always the possibility that the IRS actually owes you money in the form of a tax refund. In that situation, filing now could give you access to the money you’ve paid in over the years.
How a Tax Professional Can Help
For many people, the hardest part of tackling a tax problem is getting started. This is especially true if you have multiple years of unfiled tax returns. Working with a tax professional can show you exactly what you need to do, give you an accurate estimate of how much you owe, and help you explore payment options that may fit your financial situation.
If you’re facing imminent collection actions, such as wage garnishment or levies, your tax attorney can negotiate with the IRS on your behalf to secure a more favorable payment arrangement.
Reach Out to Paladini Law Today
Wondering if the IRS knows about your unfiled tax returns and how serious your tax debt really is? You deserve answers—and the peace of mind that comes with knowing your tax situation. Contact Paladini Law to discuss your tax situation and develop a plan that puts you back on track. You can contact us online or call us at 201-381-4472 now.
Sources:
https://www.irs.gov/pub/irs-pdf/f8821.pdf
https://www.irs.gov/individuals/understanding-your-cp2566-notice
https://www.irs.gov/irm/part3/irm_03-024-008
https://www.irs.gov/businesses/small-businesses-self-employed/notices-for-past-due-tax-returns
