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Consequences of Running from the IRS

The consequences of running from the IRS are specific to federal tax laws that govern the ability of the agency to pursue and recover tax funds as well as those tax laws that govern your response to notices of tax deficiency.

It is important to understand that the statute of limitations for taxes never runs out. Specifically, “[t]he IRS has no time limit if you never file a return or if it can prove civil or criminal fraud” (Wood, “Even the IRS Has Time Limits,” 8/15/2013). However, it has up to three years from the due date of the return to pursue action against you. If you file your tax return late and do not require an extension, the statute will run three years from the date you filed your return late.

There are exceptions to this three-year rule. If you substantially understate your income, then the statute runs six years. “Generally this means you’ve left off 25% or more of your gross income, but exactly what that means is currently the subject of litigation. The IRS is now arguing in court that anything on your tax return that has an effect of a 25% understatement of gross income[1] gives it an extra three years” (Wood). In essence, the IRS wants six years to review over-statements where you understate the basis of tax.

Taxpayers are subject to time limits. For example, taxpayers wanting to amend their tax returns must do so within three years of the original filing date. However, there are consequences and limits to amending tax returns. “You might think that amending a return restarts the three-year statute, but it doesn’t. However, where your amended return shows an increase in tax, and you submit the amended return within 60 days before the three-year statute runs out, the IRS has 60 days after it receives the amended return to make an assessment” (Wood). This provision offers a window of planning opportunity, but it also provides the taxpayer with a greater chance of incurring a tax liability.

The consequences of running from the IRS are lastly extended to tax evaders. Tax evasion is a serious tax crime. Tax evasion is simply the willful avoidance, or evasion, of paying taxes owed. Taxpayers guilty of tax evasion have been found to misrepresent the true state of their financial affairs by understating or underreporting income and/or by overstating deductions. The goal in this sense is to reduce one’s tax burden. However, the IRS views this goal as criminal. Taxpayers—i.e., individuals, corporations, and trusts—may fail to file tax returns, divert income offshore, and/or file amended returns. The penalties for tax evasion may include jail time, a prison sentence, and hefty fines.

The consequences further are extended to two categories of penalties[2]: failure-to-file penalty and failure-to-pay penalty. If you do not file by the deadline, then you can expect to pay a failure-to-file penalty. “The penalty for filing late is usually 5 percent of the unpaid taxes for each month or part of a month that a return is late. This penalty will not exceed 25 percent of your unpaid taxes[3]” (IRS.gov, “Failure to File or Pay Penalties: Eight Facts,” 8/16/2013). On the other hand, if you fail to pay your filed tax return, then you can expect to pay a failure-to-pay penalty. “If you do not pay your taxes by the due date, you will generally have to pay a failure-to-pay penalty of ½ of 1 percent of your unpaid taxes for each month or part of a month after the due date that the taxes are not paid” (“Failure to File or Pay Penalties: Eight Facts”). Similar to failure-to-file, the failure-to-pay penalty may reach as high as 25 percent of your unpaid taxes. Extension requests may increase your tax penalty liability. In some cases, if you can prove reasonable cause[4], you may not have to pay either the failure-to-file penalty or the failure-to-pay penalty, provided that your failure was not due to willful neglect.

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[1] Most court decisions today conclude that “overstating deductions is not the same as omitting income” (Wood).

[2] Types of IRS Penalties are discussed at the end of the previous chapter.

[3] If a taxpayer files a return more than 60 days after the due date or even the extended due date, the minimum penalty will be “the smaller of $135 or 100 percent of the unpaid tax” (IRS.gov, “Failure to File or Pay Penalties: Eight Facts,” 8/16/2013).

[4] The subject of reasonable cause is further discussed in Chapter 5: Penalties and Interest.

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