The information in this article is up to date through tax year 2019 (taxes filed in 2020).
If you owe the IRS, you’re not alone. In fact, nearly 30 million taxpayers owe back taxes. And when enough time passes, the IRS will reach out (if they haven’t already), requesting that due taxes be paid as soon as possible. Don’t panic, though. While you should contact the IRS immediately, you will receive these two notices before legal action is taken.
First Reminder: CP501 Notice
Think of the CP501 as your first reminder that you owe the IRS taxes and to take appropriate steps right away. It’s the first written statement you will receive laying out the details: your due date, what you owe and your payment options.
At this point, your taxes are considered delinquent so your balance could reflect more than what you expected, with interest and estimated tax penalties having accrued since the original due date. The IRS sets the underpayment interest rate every quarter, and for 2019, it’s been set to a 6% penalty.
Second Reminder: CP502 Notice
Shortly after you received the CP501 and haven’t responded or resolved your balance, you’ll receive a second reminder, the CP502 notice. This letter may have a more urgent tone, as it’s been a while since the original due date. Your balance will be displayed, perhaps in an amount even more than what was noted on your CP501, with more penalties and interest added. Paying as much as possible, as soon as possible, will help keep these penalties to a minimum.
Don’t let it get to further notices, as those will be much less pleasant, and could inform you that a tax lien has been taken out against any assets you may own. Fortunately, it doesn’t have to get to this point; you just need to know the action steps.
What to Do If You Owe Back Taxes
On each of the above notices, you’ll find a response section, conveniently outlining what to do to get your taxes taken care of. You’ll have three options:
- Pay the balance in full
- Set up a tax installment plan
- Dispute the amount
Not everyone can pay back their overdue taxes in full; that’s why the installment plan is in place. But, if you would like to pay your balance in full, there are a variety of options for paying back the IRS and state. As for the installment plan, you begin paying back your balance in an extended timeframe, with the benefit of interest and penalties no longer accruing. If you choose to dispute the balance, you need a reasonable cause, which you’ll need to qualify for and provide some paperwork. But really, the best approach is to avoid it altogether.
How to Avoid Owing Back Taxes
Before receiving these two notices and any others that may follow the CP501 and CP502, try to avoid even getting there. A lot of factors could influence your withholdings, whether gaining dependents, owning a small business, having any non-wage income, buying or selling stocks, refinancing your home, or perhaps your employer configured withholdings incorrectly like the many others this year.
The best way to avoid any of these affecting your withholdings is by being aware. Check your W-4 form, as you may want your employer to make changes reflecting accurate withholdings. A withholding calculator at www.irs.gov can help taxpayers determine the amount that should be withheld. Otherwise, make sure you’re claiming all the appropriate deductions and credits, as well as keeping accurate records and receipts.