Individual taxpayers generally have until April 15th each year to file their tax returns and pay any income tax owed for the year. In most cases, you will not be liable for any penalties as long as you file your tax return and pay any tax due by this April 15th due date. If you fail to meet this deadline, however, or you did not pay enough taxes during the year through Federal withholding or estimated tax payments, you may be liable for IRS underpayment of estimated tax, late payment, and/or late filing penalties in addition to any tax you owe.
Underpayment of Estimated Tax Penalty
Probably the most common type of penalty for most taxpayers is the underpayment of estimated tax penalty. This can affect any taxpayer but most often impacts taxpayers who are not W-2 wage earners. Because income taxes are not directly withdrawn and remitted to the IRS during the year (unlike W-2 compensated wage earners), the burden falls on the taxpayer to make estimated tax payments through the year. These estimates must be paid in four quarterly installments which are due on April 15, June 15, September 15, and January 15.
The IRS has provided a safe harbor to help taxpayers avoid these penalties. Individuals are subject to an underpayment penalty unless total withholding and estimated tax payments equal the smaller of:
90% of the tax shown on the current year tax return, or
100% of the tax shown on the prior year tax return – 110% if the taxpayer’s prior year adjusted gross income exceeded $150,000 ($75,000 for married taxpayers filing separately).
The underpayment penalty consists of the interest on the underpaid amount for the number of days the payment is late. Interest is charged at the Federal rate for underpayments which is currently set at 3%.
This underpayment penalty will generally not apply if the tax due, after subtracting any tax withheld, is less than $1,000 or the taxpayer had no tax liability for the prior year return that covered 12 months.
Late Payment Penalty
If you do not pay the tax you owe by the April 15 filing deadline, you will most likely face a failure-to-pay penalty of .5% (½ of 1%) of the unpaid tax. The failure-to-pay penalty applies for each month or part of a month after the due date and starts accruing the day after the filing due date. The penalty increases by .5% every month the taxes remain unpaid and is capped at a maximum of 25% of the tax due.
If you timely requested an extension of time to file your individual income tax return and paid at least 90% of the taxes owed with the extension request, you may not face a failure-to-pay penalty. However, you must pay any remaining tax due by the extended due date (generally October 15).
Late Filing Penalty
One of the most punishing penalties individual taxpayers will ever encounter is for failing to file your tax return on time when you owe tax. The failure-to-file penalty starts at 5% of your unpaid taxes for each month or part of the month the return is late. The penalty is capped at 25% of the unpaid balance due. There will be no penalty imposed if there is no tax due with the tax return filing. In addition, if both the 5% failure-to-file penalty and the .5% failure-to-pay penalty apply in any month, the maximum penalty you will pay for the month will be 5%.
The silver lining with the late filing penalty is that there is no reason to ever incur a late filing penalty. As long as you file an extension by the April 15th due date, you automatically get an additional 6 months to file the tax return.
Grace for Reasonable Cause
Penalties for late payment and late filing will not be imposed if the taxpayer can show that the failure was due to reasonable cause, rather than to willful neglect. Some of the reasonable cause requests that have been approved in the past include death or serious illness of the taxpayer or an immediate family member, unavoidable absence of the taxpayer on the filing due date, and the destruction of the taxpayer’s residence or business.
At Stockman Kast Ryan + Co, we are very familiar with the nuances of each of these penalties and can guide you in navigating these waters should the need arise. Please call us at (719) 630-1186 with any questions related to these or any other tax and accounting matters.