Falling behind on filing your taxes can be scary, filled with questions and doubt about how to make it right with the IRS. Fortunately, there are steps that can be taken to satisfy the IRS and get you back into the system.
Here are 10 things you should know about getting current with your unfiled returns:
1. In most cases, the IRS requires the last six years’ tax returns to be filed as an indicator of being current and compliant. The reference is IRS Policy Statement 5-133 and Internal Revenue Manual 184.108.40.206. This is the starting point – preparing the last six years’ returns for filing.
2. Gather your records. It is important to do your best to pull together your records for the years where you did not file. This can include 1099s or W2’s you received for work your performed, mortgage interest you paid, or interest, dividends and stock sales. Don’t worry if you are missing records, this is just a starting point.
3. Your records are supplemented by securing internal IRS transcripts that will show what has been reported to the IRS – this will be a comprehensive listing of the 1099s and W2s that were sent to you. This cross-checks against your own records, filling in for anything that is missing.
4. The IRS transcripts are a checking point – if there is income you earned that is not on the transcripts, best efforts need to be taken to determine that income and include it on your return.
5. If you are self-employed, business income and expenses need to be determined. Income can be pieced together by several methods, including 1099 reporting to the IRS (supplemented by any income not reported), or your total bank deposits. Working backwards, determining what you spent to live (food, housing, utilities, auto expense) can cross-check your income on the presumption that you at least earned what you spent and saved.
6. Before preparing the returns, a financial review should be completed to determine how any taxes can (or cannot) be repaid to the IRS. Unfiled returns are really a two-step process, consisting of (1) getting the returns prepared and filed and (2) negotiating solutions to balances due with IRS collections. This involves a review of your current income, living expenses, property and debts. It is often the case that the amount owed on unfiled returns cannot be repaid – you may qualify for an offer in compromise, or may be considered in financial hardship – in those cases, the IRS puts collection of the debt in forbearance (known as uncollectible). Bankruptcy could eventually eliminate the tax debt.
If you cannot pay either way, spending time piecing together every business expense for the returns might be an effort in futility – you will owe more than can be paid with or without the receipts. In that case, it may be best to file a “gross” return, listing your income but not the expenses, and focusing on collection solutions.
7. If you are married but only one spouse earned income, strong consideration should be given to filing a separate return for the spouse that caused the liability. Filing separately can limit who the IRS can collect from – protecting your innocent spouse.
8. If you were employed with wages and had taxes withheld from your paycheck, it is possible that you may not owe the IRS at all. This will depend on the amount withheld from your wages and any other deductions you may have (mortgage interest, etc.).
The IRS charges interest and penalties only on balances due – so there are no penalties if you do not owe. And if you have refunds, you should actually receive those for the last three years’ returns (but note the refunds will be applied to any balances due for other years).
9. Sometimes, when you don’t file a return, the IRS files one for you. In IRS-speak, this is called a Substitute for Return (sometimes known as an SFR). Most times, an IRS substitute for return gets it wrong, charging you for income that was reported on W2s and 1099s but not giving you any deductions or exemptions. You may already have a bill from the IRS from a Substitute for Return. These estimated returns can be corrected – and the tax lowered – by filing an original return.
10. If possible, the unfiled returns should be hand-filed at an IRS walk-in center – bring an extra copy to get it stamped by the IRS as proof of filing. If you are working with an IRS Revenue Officer, the returns should be filed direct with that person. It can take the IRS several months to process the returns – watch for billing notices in the mail that will indicate the IRS processed the returns and you are back in the system. If you owe money, the next step is solutions to the balances due -usually consisting of compromise, installment agreement, uncollectible and bankruptcy.
You can get current on your on unfiled tax returns and get back into the system. Your goals should be the same as the IRS’s – get the returns filed and provide financial disclosures to arrive at a solution for the balances owed.