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Confidential Special Report! Why Now Is The Best Opportunity In Years To Settle Your IRS Tax Debts!

What Happens If I Don't File My Taxes?
How Not To Finance Your Business
The Taxpayer Relief Act Of 1997 Benefits Most Of Us! ONE WORD OF CAUTION- “READ THE FINE PRINT.”
Top Ten Mistakes Business Owners Make

If you think you're doing yourself a favor by failing to file taxes and living underground, think again. You are probably doing yourself more harm than good. This article explains why you're better off staying current and in compliance with tax filing requirements, and the consequences you face if you don't file your income tax returns in a timely manner.

Late Filing Penalty
Let's say you want to file but you know you owe the IRS and, for various reasons, cannot pay the tax due with your returns. By not filing on time, you automatically subject yourself to the late filing penalty, IRC 6651(a)(1), unless you have reasonable cause for filing late. The first month or fraction of a month that your taxes go unpaid, you will be charged 5 percent of the total tax you owe as a late penalty. Each subsequent month that the taxes go unpaid, you will be charged an additional 5 percent of the total tax you owe, not to exceed 25 percent of your total tax bill. By filing late, you've just added to the taxes you know you already owe.

Interest on Penalties
In general, interest on penalties will only be imposed if the penalty or additional tax is not paid within 10 days after notice and demand, and then only for the period from the date of notice and demand to the date of payment. Most people who procrastinate and file late usually can't pay their taxes and penalties within 10 days of notice and demand to do so. Now, in addition to the taxes owed and late filing penalty, you will be assessed interest on penalties. This is on top of the regular interest on the balance of taxes due. Fortunately, the IRS doesn't charge excessive rates of interest.

Payment Options

What are your payment options when you can't pay your taxes after filing them? Requesting and obtaining an installment plan is one. An offer in compromise is another. Another is discharging the taxes through bankruptcy.

Installment Plan
In order to obtain an installment plan, all of your tax returns must be filed. So if you receive a wage levy at work and want to obtain an installment plan in lieu of the IRS grabbing up to 25 percent of your take-home pay, you must have all of your past years' taxes filed. If not, the IRS won't deal with you because you lack "good faith" and are not in "compliance."

Offer in Compromise
An offer in compromise (OIC) is an offer to pay the IRS in settlement of tax liabilities less than 100 percent on the dollar but as much as they otherwise would expect to collect.

The recent IRS Restructuring And Reform Act of 1998 includes provisions making the IRS more receptive to and even encouraging offers in compromise in settlement of tax liabilities. However, all tax years must be filed or the IRS won't consider an OIC. By not filing past years' tax returns, you may be missing a great opportunity to settle with the IRS, depending on your current financial position, for substantially less than the total taxes, interest, and penalties you owe them.

People think the best time to make an offer is when they're financially sound. Actually, the best time to make an offer is when they're financially distressed because the IRS usually accepts OICs when they otherwise could not expect to collect the full amount owed. One other caveat: If the IRS accepts your OIC, you must remain current for five years by filing on time and paying timely otherwise the IRS can revoke your OIC.

Discharging Taxes Via Bankruptcy  
In general, you can discharge personal income taxes through bankruptcy if the following three rules are met:
The Three-Year Rule. The tax return due date, including extensions, must be more than three years old before the bankruptcy petition date.

The Two-Year Rule. No discharge will be allowed if a tax return, including extensions, was not filed or a delinquent tax return was filed within two years of the date of the bankruptcy petition.
The 240-Day Rule. Any tax must be assessed more than 240 days before the bankruptcy petition date to be dischargeable.

If a Chapter 7 is filed and the rules above are met for each tax year, one can discharge individual income taxes completely. The rules vary for a Chapter 13 bankruptcy petition. In certain circumstances a taxpayer may completely discharge his or her taxes for a given tax year even though no return was filed for that year.
For the most part, in order to completely discharge individual income taxes through bankruptcy, tax returns need to be filed.

Don't Make This Mistake
I had a client engage me to prepare seven years of back tax returns. Four of the seven years he was due refunds totaling $10,000. He lost those refunds because he filed them too late. Yes, there is a statute of limitations on collecting tax refunds. Generally, if no return was filed, the claim for refund must be filed within two years from the time the tax was paid.

Criminal Implications
Criminal penalties may apply when a taxpayer willfully fails to file a tax return, fails to keep records, fails to supply required information, or fails to pay any tax or estimated tax. You don't want to risk the IRS construing your not filing as being willful. The cost of hiring a criminal tax attorney is expensive and the mental anguish of undergoing a criminal investigation can be devastating.  Your browser may not support display of this image.

The Bottom Line
The bottom line is, if you have unfiled tax returns, stop procrastinating. You may be hurting yourself and ruining your chances of getting an installment agreement, obtaining a refund, getting an offer in compromise or having your taxes discharged through bankruptcy. Why live in hiding? It's not pleasant to live without a bank account. If you can't locate income records, you can hire a tax professional, give them power of attorney, and then they can request your income records from the IRS under the Freedom of Information Act. There's no better time to get your unfiled tax returns filed and get current. Once you start the process, you'll feel better.
Once your returns are filed, your chances of settling your tax liabilities will be enhanced.

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Too many times I’ve seen businesses finance themselves by borrowing from the government.  They do this by borrowing from the government.  They do this by getting behind on or ceasing to pay their payroll taxes.  In effect, a business is borrowing from the IRS or Employment Development Dept. to keep their enterprise afloat.  It’s tempting to go to the cookie jar.  However, the consequences can be harsh.
Consequences can include but are not limited to:

A. Interest & Penalties – The penalty for paying tax last under Internal Revenue Code (IRC) Section 6651(a) is 0.5% of the tax due for each whole or part month the tax is not paid when required.  The maximum penalty for paying late is 25% of the unpaid tax.  The IRS can also charge interest on the balance due.

   B. Trust Fund Penalty – The Trust Fund Recovery Penalty (IRC 6672) is a collection tool that allows the IRS to collect unpaid employment taxes from individuals in responsible positions of the business.  It is called a trust fund because employers are required to withhold the tax and hold them in trust for their employees until the taxes are turned over to the government.  It is called a penalty because it is collected from an individual who did not personally owe the original employment tax.  Thus, the 100% penalty assessed against a responsible equals the amount of unpaid employment tax that a business failed to pay.  It is not a doubling of the original tax paid.  The penalty may be assessed against any person responsible for collecting or paying over income and employment taxes, or paying over collected excise taxes, who willfully fails to do so.  There is no requirement that evil intent or personal gain be established.  In effect, this prohibits an individual from hiding behind a corporate shield to defraud the government from its money.

   C. A Cash Squeeze – It’s difficult to stay current and catch up on payroll taxes.

   D. IRS can shut down the business and. If reasonable efforts aren’t immediately made to pay the taxes in arrears and stay current, they will.

   E. Filing Bankruptcy – which can ruin your credit and lessen your credibility with suppliers.  Besides, employment taxes can very rarely, if ever, be discharged.
Small business owners typically begin to finance their operations with credit cards.  The high interest rates make it tough, if not impossible, to service the debt.  Next, a home equity line is considered.  But what if you don’t have a home, have no equity in your home, or have a combination of no equity and bad credit.  Your possibilities are limited.

Faced with customers, who aren’t paying within 30 or 60 days, a payroll to meet, and city business and other income taxes, what’s a business owner to do when cash gets tight?  Three alternatives are obtaining a business credit line, accounts receivable financing or a family loan.

Business credit lines are becoming popular.  You usually have to be in business for two or more years, be reasonably profitable, and have good credit.  Applications can be as short as one page and tax returns may not even be required.  Furthermore, with the banks vying for your business, interest rates are reasonable.  Glendale Federal Bank recently introduced a Prime plus nothing loan.  For a short time the interest rate is at prime then it goes to prime plus two or something similar.

With a business credit line you only pay interest on what you use and there is usually no pre-payment penalty.  You may even ask the bank to waive their application and/or annual fee if you transfer your account to them.

Accounts Receivable Financing (ARF) may be possible but the cost can be prohibitive.  To qualify, banks like to see financials prepared by a CPA whose fees can be expensive.  However, Alliance Bank, headquartered in Culver City, (310) 410-9281, offers ARF to small businesses with $50,000 or more of Accounts Receivable.  Their fees may be as little as 1%-2% per month.  Not bad if you qualify.

Getting a family loan can be touchy.  Mom and Dad have just enough of a nest egg to retire comfortably.  Uncle Bob has his hands full putting his children through college.  What if business went sour and you couldn’t pay your relative’s back?  Your credibility would be ruined forever.

Proper planning can alleviate the temptation to finance one’s business the wrong way – by getting behind or ceasing to pay your payroll taxes.  The old adage, “people don’t plan to fail, they just fail to plan,” has a lot of merit and can save you much heartache.

I strongly urge you to avoid the cookie jar as it will most likely catch up with you.  The risk of losing the business you worked so hard to build is too great.

If you’re just starting a business, immediately begin planning.  Make sure you have enough capital to carry you through cash shortages.  Have a backup plan.

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The long waited reduction in capital gains rates have finally arrived as one of many attractive pieces of the Taxpayer Relief Act of 1997.  Instead of the 28% maximum capital gains rate under old law, beginning with sales on May 7, 1997, most capital gains will be taxed at rates no higher than 20%.  Tax-payers in the 15% bracket will pay only 10% on their long-term capital gains.  

There are many other favorable reductions.  Most notably, the Universal Exclusion for Gain on Sale of one’s Principal Residence.  Post-May 6, 97 sales, allow a seller of any age who’s used and lived in his principal residence for at least 2 of the past 5 years prior to the sale, to exclude from income up to $250,000 of gain ($500,000 for joint filers who meet the criteria.

Other provisions include more IRA choices, an increase in the Unified Estate and Gift Tax Credit, and the rollover of gain from qualified small business stock.

A client who owns a restaurant & nightclub asked me to research the rollover of gain from qualified small business stock.   Under the new act, code section 1045 allows a taxpayer to elect to rollover(delay) gain from the sale of qualified small business stock, held for more than six months, so that gain is recognized only to the extent the amount realized exceeds (1) the cost of qualified small business stock bought by the taxpayer during the 60 day period beginning on the sale date, reduced by (2) any portion of such cost previously taken into account under the rule.

Code section 1045 refers to code section 1202(C) for the definition of “Qualified Small Business Stock.”  In code section 1202(c) subsection (e)(3), I found the term “qualified trade or business” means any trade or business other than (E) any business of operating a hotel, motel, restaurant or similar business.  Other businesses excluded include (A) businesses involving the performance of services in the fields of health, law, engineering, architecture, accounting, brokerage services, performing arts etc. where the principal asset of such trade or business is the reputation or skill of l or more of its employees; (B) any banking, insurance, financing, leasing, investing, or similar business; (C) any farming business (including the business of raising or harvesting trees); (D) any business involving the production or extraction of products of a character with respect to which a deduction is allowable under section 613 or 613A i.e., Except for certain manufacturing businesses, most businesses are excluded.  The definition of a “qualified trade or business” under IRC 1202(C) seems narrow.  What was congresses intent?  On the surface, it appears pro-manufacturer.  Perhaps congress felt manufacturing businesses would be most beneficial to our economy by creating the most jobs.  

What about the rest of us?
I had to inform my client that the gain on the sale of his small business stock would have to be recognized immediately even if he reinvested in “qualified small business stock.”  Fortunately, he has large Net Operating Loss carryforwards and since Alternative Minimum Tax is being repealed for small business corporations, his tax bite won’t be too severe.

Can portions of The Taxpayer Relief Act of 1997 be a mirage?
This is living proof.  “You better read the fine print.”

 

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