Filing back taxes is important if you're required to file. Did you know the IRS may file a substitute return on your behalf if you fail to file? While letting the IRS do this may sound like a good idea, it's really not. When the IRS prepares a substitute return, referred to as an SFR, the result is commonly a high balance due that is inaccurate. Once the balance is assessed, the IRS may take collection action against the liability and you could be on the hook for amounts you don't even owe. The good news is that you can file an original return - no matter how late it is - before, or even after this action takes place.
The IRS uses wage and income information provided by third parties, such as an employer, to calculate your SFR. The IRS uses a "single" or "married filing separately" filing status for all SFR returns. This results in the lowest standard deduction and highest tax bracket calculation. The IRS does not consider alternate filing statues, exemptions for dependents or credits you may regularly be allowed to take.
If you are self-employed and receive a 1099, the IRS does not consider business expenses when calculating the SFR. While the IRS uses the same income information you must normally report, disallowing eligible tax reducers can have a significant impact on balances.
Once an SFR balance is assessed to your account, the IRS may take enforced collection action against you. This may include liens, bank levies or wage garnishments. The IRS must go through a specific process to initiate this type of action, and you must receive a final notice of intent to levy (Letter 1058, 1058-A, CP 90 or CP91) before action can commence. You have appeal rights to the final notice. If you receive one of these letters, fill out the attached appeal form and mail it to the address on your notice within 30 days from the date of the letter. The IRS may not issue a levy while you are in appeals status, and this gives you time to complete your original returns to protest the balance.
Obtain Tax Forms
Regardless of whether you need to file an SFR protest or a regular outstanding return, you'll need to get the right documents before you begin preparation. The IRS provides free downloads of current and prior year tax forms and instructions. Always use regular return forms - do not use Form 1040X for amended returns to protest an SFR balance. This will cause significant delays in the processing of your request. In addition, if you've lost your W-2s and income documents, you can receive free copies of the information from the IRS. In most cases, income information from the past six to seven years is available. To request income information, complete Form 4506-T and contact your local IRS office to see if an agent can print the transcripts for you. This service is provided at most local offices; however if you are not near and IRS office you may also mail or fax Form 4506-T to the address listed in the form instructions.
Regular returns that have not been assessed a substitute balance must be submitted through normal filing channels. To protest and SFR balance, you must send your protest return to a different processing unit.
If you're filing back taxes for a period that the IRS has not prepared an SFR for, locate the correct filing address for your return, based on the state you live in.
To file an original return in protest of an SFR balance the IRS assessed against you, you must mark the top of your return "SFR PROTEST" and send the return with all attachments to an IRS ASFR reconsideration unit. If your return includes income items from W-2 wage statements, send your return to the Fresno, CA office. If your return includes income items from Schedules C, E or F, or Form 2106, you must send your return to the ASFR unit in Holtzville, NY.
Penalties and Interest
If you owe tax on a late tax return, penalties and interest accrue on the amount back to the date the return should have been filed. There are several penalties that are assessed on late returns with balances due, including late filing and late payment. It's a good idea to file as soon as possible, even if you can't pay as this reduces at least one of the penalties.
The IRS charges a five percent penalty for each month your return is late (maximum of 25 percent), plus half a percent for each month you have a balance due. Interest accrues on your entire balance. Penalties are calculated based on the amount of tax you owe. Because penalties are based on the amount you owe, if you file a return late and do not have a balance due, you will not owe any penalties or interest.
If you are due a refund, you only have three years from the date a return is originally due, including extensions, to receive the refund. If you file a return after this time frame, the IRS will disallow your claim to the funds. It is best to prepare and file your returns on time, regardless of whether you owe or are due a refund. Waiting to file could cost you additional penalties and interest, or cause you to lose your refund.