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Paying Taxes Late Usually Doesn't Pay Off

Those who delay too long in paying their taxes could end up paying more interest and fees to the government than they would have by adding the payment to their credit-card debt.

Despite the incentive to file early this year, the IRS estimates that 10.3 million people will apply for a six-month extension -- slightly more than last year. (Taxpayers can only receive their special stimulus check of at least $600 once a tax return is filed.)

In addition, about one-third of those who file returns late find out they are actually entitled to a refund. While penalties and interest do not apply for those years, they do apply for years in which money is owed. The IRS' interest rate changes quarterly, but has ranged from 4% to 9% in recent years. Paying late comes with other penalties as well.

If taxes are not paid, and no effort is made to pay them, the IRS will first ask the taxpayer to get a loan or sell or mortgage their assets. The agency can also levy bank accounts, wages or other income, and take ownership of assets. A federal tax lien can have what the IRS calls a "detrimental effect" on credit scores.

In addition, when you don't file a return, the IRS essentially files one for you based on the information it has available. That calculation could show you owe more than you really do, since it might exclude deductions and credits that only you and your accountant can hammer out. The IRS offers several scenarios on its Web site of when a consumer might owe less or be entitled to a refund instead of the bill conceived by the IRS.

Obviously, the best option is to pay taxes in full, on time, in cash to avoid headaches and costs. Still, there are other options for those who missed the April 15 deadline.

If a "significant life event" such as a divorce, job loss, serious illness, death or catastrophic event is responsible for the delay, you might be eligible for an extension at no or little cost. The key is contacting the IRS as soon as possible to work out a deal.

"Procrastination can either be a fear or a rebellion and many Americans are just trying to make basic housing payments and pay off credit cards," says David Colgren, spokesman for the California Society of CPAs. Still, he adds, "failure to file your taxes or change and re-evaluate your personal finances can result in a worse situation."

Some tips if you're a late tax filer or payer:

Pay as much as you can -- now.
Even if you can't afford the entire bill, file your return and pay as much as you can afford, as soon as possible. That will lower the interest and penalties and show the IRS you're making an effort, which lessens the chance of the agency taking serious collection action.

If you don't have the cash on hand, you can try borrowing from relatives or friends, taking out a loan or using a credit card with a low interest rate, if one is available. However, if you owe more than $10,000, beware: Such a loan could trigger tax consequences if made at a below-market interest rate.

In addition, unsecured loans and home-equity debt won't be available to every late taxpayer. Qualifying for such debt has become difficult, even for those with average credit scores, since banks have tightened lending standards dramatically.

Paying by credit card could avoid penalties and interest from the IRS, but make sure the card's rate is lower than what the IRS charges on installment payments. Keep in mind that the company the IRS has hired to process credit-card payments also charges a payment fee.

Set up monthly installment payments.

If you can't pay your taxes in full, but owe $10,000 or less, the IRS will allow you to set up a monthly payment plan. You'll still get charged interest and penalties, but such a plan will avoid more serious collection action from the IRS.

To enter such an agreement, you should contact the IRS by phone or mail or simply apply online. You can spread out payments over as long as three years and have them automatically withdrawn from your bank account or payroll. The IRS will expect you to pay as much as you can afford each month.

In cases when an unexpected event has worsened your financial condition, the IRS can also temporarily delay collection activities until you get back on your feet.

Propose a compromise.

If you're contesting the amount the IRS says you owe -- or the fact that you'll be able to pay it -- you can propose a compromise. There's no guarantee the agency will accept your offer, but it's worth a shot.

Be aware that it involves a lot of paperwork -- you must prove that there is doubt about the amount owed or that you've exhausted all other options of payment. Still, if you're eligible for this option, it could save you money and avoid collection action by the IRS.

Bankruptcy is an option if all others are exhausted.

If you're overwhelmed with debt and unable to find another solution, bankruptcy will suspend most collection activities by the IRS. In some cases, interest and penalties will also stop accruing.

Bankruptcy will remove unsecured debt like credit-card balances and leave more money to pay the tax bill. However, it leaves a big black mark on your credit score and the government has tightened eligibility standards, making it harder to go bankrupt.

It's a good idea to visit a credit counselor for advice before taking the plunge into Chapter 11. The Department of Justice offers a list of approved counselors on its Web site.

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