These Are the Federal Income Tax Penalties You Want to Avoid
Paying taxes is undeniably stressful.
A great deal goes into the process, and it takes careful planning to pay the proper amount by the due date. That said, preparing your federal income taxes on time ensures a smooth process, and will help you avoid getting hit with penalties.
According to the Internal Revenue Service (IRS), the four following federal tax penalties are among the most common:
Failure to File
Filing your taxes on time is critical. Taxpayers face penalties for not filing their tax returns by the due date (April 15), or by the extended deadline if they have been approved for an extension.
If you don’t file your return on time, you will incur an additional 5% of your unpaid tax bill each month, with a maximum penalty of 25%. The IRS states that a minimum penalty — either $205 or the full amount you owe, the smaller of these figures — applies to federal tax returns received 60 days or more after the due date.
There is one exception to this rule: Those who are due a refund do not need to file their taxes, although it is still in their best interest to do so. Filing is the only way you can access your tax refund.
Failure to Pay
Perhaps you filed your federal income taxes on time, but you haven’t yet paid your bill. Note that an extension to file does not give you more time to pay. If you have not paid all of the taxes reported on your return by the due date, then you risk facing a failure-to-pay penalty.
0.5% of your total IRS debt will be added to your bill every month you do not pay. Similar to the failure-to-file penalty, the total cannot exceed 25% of the amount you owe.
Keep in mind that if you have neither filed nor paid your federal taxes, and both the 5% failure-to-file penalty and the 0.5% failure-to-pay penalty apply in the same month, the most you’ll pay for both is 5%. The maximum penalty for failure to file and failure to pay is 47.5% of the total tax amount — 22.5% late filing and 25% late payment. This does not include interest, which will accrue daily on your unpaid balance.
Failure to Pay the Correct Estimated Taxes
Taxes must be paid throughout the year, through estimated tax payments or withholding. The IRS requests that those who expect to owe more than $1,000 in taxes pay quarterly estimates in April, June, September, and January.
If the income tax withheld from your salary or pension is not enough to cover what you owe in taxes, or if you are in business for yourself, you typically need to make estimated tax payments. Those who receive income from interest, dividends, and alimony — or through other means — may also need to make quarterly tax payments.
Consequently, consumers who are expected to make estimated tax payments may be penalized for failing to do so. The IRS will calculate the penalty based on each tax installment, by multiplying the number of days the payment is late by the interest rate for the installment period.
Make sure there are enough funds in your bank account to cover your tax bill. If your federal tax payment doesn’t clear, you will likely face a one-time penalty.
Dishonored payments of $1,250 or more are subject to a 2% penalty of the total payment amount. Meanwhile, payments under $1,250 are subject to either the payment amount or $25 — whatever is less. But you may not be penalized at all.
Those who act in good faith to comply with federal tax requirements can request relief from certain penalties.