As part of our ongoing series covering the audit process, this article focuses on the payment stage of the exam and the courses of action available to taxpayers. Whether an audit is big or small, the fundamental procedures are the same.
IRS will request information from the taxpayer and based on the responses provided, IRS will:
- Claim that additional tax is owed by the taxpayer;
- Determine that a refund is due to the taxpayer; or
- Issue a "no change" letter.
In the case where a refund is due or there is no change, the taxpayer will exit the audit process. However, when the audit concludes and additional tax is owed, the taxpayer can choose to appeal the determination or pay the tax. Even if a taxpayer disagrees with IRS' determination, there may be reasons why a taxpayer would choose to pay the balance owed versus appealing. The amount owed may be immaterial relative to the cost of an appeal. Also, a high-profile taxpayer, who continues on to Appeals but without success, might choose to pay the tax rather than moving to the next level where the dispute will become part of the public record. As mentioned in our previous article, once the dispute reaches the Tax Court, the taxpayer's identity will become part of the public record and many high-profile taxpayers may wish to retain anonymity with respect to their private tax matters. A taxpayer has a number of options to consider when paying a balance due. This article will focus on those options.
Option #1 – Write a Check
The most obvious and easiest method to pay a balance due is simply to write a check. An audit determination will usually contain a remittance advice with instructions on how to pay IRS. The taxpayer merely needs to attach a check made payable to the "United States Treasury" and mail it to the address indicated. IRS will credit the taxpayers account for the year, or years, in question and this will complete the audit. However, not all taxpayers have the funds to pay a balance due resulting from an audit. In this situation, IRS does provide alternative payment methods.
Option #2 – Request an "Installment Agreement"
The Installment Agreement is the method of choice for a taxpayer who has the assets to pay the audit assessment, but due to illiquidity, they cannot be easily converted into cash. This agreement allows the taxpayer to pay the balance due over time. IRS generally has 10 years to collect a liability and will not enter into an agreement that lasts beyond this limit. When requesting an installment payment plan, the taxpayer must file form 9465-FS, "Installment Agreement Request," with IRS.
For tax liabilities greater than $50,000, IRS will also require the taxpayer to complete and file Form 433-F, "Collection Information Statement." This is a personal financial statement that will help IRS determine the installment payment amount. IRS will not require the taxpayer to make installment payments so large that the taxpayer would not be able to provide the necessities of life for his or her family. However, the rules are complex and a qualified tax advisor should be consulted when considering this option.
In order to be considered for an Installment Agreement, the taxpayer must be current on all other federal tax liabilities, including estimated tax payments for the current year. IRS will not allow a taxpayer to pay down one tax liability over time, while accruing another for another tax year. It is also important to note that interest and penalties do not stop accruing simply because an installment agreement is reached. These items will still add to the balance owed although their impact will dissipate over time as the liability is paid off.
Option #3 – The "Offer-In-Compromise"
For taxpayers in very poor financial conditions where payment of the tax liability will create a severe financial hardship, IRS will consider an "Offer-In-Compromise." This option allows the taxpayer to settle his or her liability for less than the full amount owed. This can be in the form of a one-time payment or a series of payments.
In order to be considered for this option, the taxpayer must file Form 656 "Offer-In-Compromise" and Form 433-A (OIC) "Collection Information Statement" or Form 433-B (OIC) for businesses. Like Form 433-F, the 433-A or B will provide IRS with a full financial picture of the taxpayer. IRS can then determine the taxpayer's ability to pay the tax balance due. Like the Installment Agreement, the taxpayer must be current on all other tax liabilities to qualify for this option. Also, the taxpayer must not be party to a bankruptcy proceeding. Generally, a taxpayer will not be considered for an "Offer-In-Compromise" if their total assets exceed the amount owed. It is not easy to qualify for this option, but if approved, the taxpayer must comply with the agreed upon arrangement.
Conclusion
This article discussed the methods to pay a federal tax liability that resulted from an audit. Option #1 is to simply write a check to IRS. This might be painful but it will resolve the matter quickly. Option #2, "The Installment Agreement," allows the taxpayer to pay the total liability and penalties over time but interest on the unpaid balance will continue to accrue until paid in full. Option #3, The "Offer-In-Compromise," can yield a settlement for an amount less than the actual tax liability. However, this option is available only to those who can prove severe financial hardship or insolvency. A taxpayer should consider each option carefully with the assistance of a qualified tax advisor in order to choose the most appropriate method.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
