Letter from the Editor: A Tale of Two Tax Penalties

While the weather is still cold much of the time these days, now in early February, the days are already a little longer than just a month ago. And though it is often cold, after a string of 18 and 19-degree days followed by eight and nine-degree days, a 30-degree day feels downright spring-like. Almost t-shirt weather.red-heart

Any moment now it will be Valentine’s Day. Then at the end of February, major league baseball’s spring training starts. Alas, not long after that comes Tax Day, April 15th, and with it the annual ritual of gathering up one’s bank statements, W-2’s and 1099’s, and sundry receipts tucked away in wallets, desk drawers, and other places you’re trying to remember right now, so that we, on our own, or with help can prepare and file our tax returns.

Because I’ve worked with many a taxpayer who somehow strayed from the righteous path, to represent them so that they did not have to take on the IRS (or New York’s DTF) alone, I’ve heard many stories about how it was that things went wrong.

Frequently, part of the story of how a taxpayer finds him or herself sitting across a conference table from a lawyer, is that in addition to all the tax on income owed for all those years, there are also the tax returns themselves, which were never filed or were filed even a day late.

The taxpayer makes plain: “I didn’t have the money to pay the tax, so I didn’t do the returns either.” And also, occasionally, “I figured that if I didn’t file, they wouldn’t come after me as quickly.”

The problem with this strategy is that, to the IRS, as important as collecting tax payments is, a taxpayer timely filing his or her return is even more important.

How do we know this? The penalties the IRS imposes for failure to file are ten times higher than for paying late.

Late Payment Penalty: where a taxpayer has not paid or paid in full the tax due by the due date, the taxpayer will likely be subject to a late payment penalty of one-half of one percent of the tax due, for every month – or fraction of a month – that the tax is not paid.

For example, if a taxpayer owes $100,000 and it is not paid on time, that taxpayer becomes subject to a late payment penalty of $500 as of the day after the due date.

By contrast, if the taxpayer fails to file a tax return by the due date, the taxpayer will become subject to a Late Filing Penalty 10 times larger than the late-payment penalty, i.e., 5 percent of the unpaid taxes for each month or part of a month at that a tax return is late. So if that taxpayer who owed a $100,000 did not file a return on time, there would be a $5,000 penalty for the first month a tax return is filed late (as compared to the $500 late payment penalty). This late filing penalty is capped at 25% of the unpaid taxes.

Why is this so? Imagine, with Valentine’s Day almost here, that a gentleman did nothing on February 14th, and sometime in March finally got around to bringing his sweetheart flowers and chocolates. “Happy Valentine’s Day, Sweetie!”

Does anyone think this would be a success with this guy’s loved one? Considering the severity of the penalty imposed on taxpayers, not only does the IRS want you to be its gift-giving valentine, but it’s unhappiness seems to go into Fatal Attraction territory, for those of you who recall Glenn Close warning Michael Douglas, “I will NOT be ignored.” As he soon discovers, her threat was not an idle one, and she would cost him dearly.

Similarly, Congress has empowered the IRS, through these penalties, to make the actual filing of tax returns more important that the mere payment of tax, and the IRS is warning you, Dear Taxpayer: “I will not be ignored.”

Happy Valentine’s Day. Don’t ignore your sweetheart.

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