Penalty Relief for the Unemployed and Greater Accessibility to Installment Agreements

The IRS has announced, in IR-2012-31 (3/7/12), a significant expansion of its “Fresh Start” initiative that was begun last year to assist financially distressed taxpayers by providing new penalty relief to the unemployed and making installment agreements more accessible. Now, certain taxpayers who have been unemployed for 30 days or longer will be able to avoid failure-to-pay penalties. In addition, the dollar threshold for taxpayers eligible for installment agreements has been doubled to help more people qualify for the program.

Under the new Fresh Start provisions, a six-month grace period on failure-to-pay penalties will be made available to eligible wage earners and self-employed individuals. The request for an extension of time to pay will result in relief from the failure-to-pay penalty for tax year 2011 only if the tax, interest and any other penalties are fully paid by Oct. 15, 2012. The penalty relief will be available to wage earners who have been unemployed at least 30 consecutive days during 2011 or in 2012 up to the April 17 deadline for filing a federal tax return this year and to self-employed individuals who experienced a 25% or greater reduction in business income in 2011 due to the economy. Taxpayers meeting the eligibility criteria will need to complete a new Form 1127A (available on IRS.gov) to seek the 2011 penalty relief.

This penalty relief, however, is subject to income limits. A taxpayer's income must not exceed $200,000 if he or she files as married filing jointly or not exceed $100,000 if he or she files as single or head of household. Penalty relief is also restricted to taxpayers whose calendar year 2011 balance due does not exceed $50,000.

In its announcement, the IRS pointed out that the failure-to-pay penalty is generally half of 1% per month with an upper limit of 25%. It advised that, under these new relief provisions, taxpayers can avoid that penalty until Oct. 15, 2012, which is six months beyond this year's filing deadline. The IRS cautioned, however, that it is still legally required to charge interest on unpaid back taxes and does not have the authority to waive this charge, which is currently 3% on an annual basis. The IRS further cautioned taxpayers to file their returns on time by April 17 or file for an extension because failure-to-file penalties applied to unpaid taxes remain in effect and are generally 5% per month (with a 25% cap).

With respect to installment agreements, the IRS announced that, effective immediately, the threshold for using an installment agreement without having to supply the IRS with a financial statement has been raised from $25,000 to $50,000. Under the new Fresh Start provisions, Taxpayers who owe up to $50,000 in back taxes will be able to enter into a streamlined agreement with the IRS that stretches the payment out over a series of months or years. The maximum term for streamlined installment agreements has also been raised to 72 months from the current 60-month maximum. Taxpayers seeking installment agreements exceeding $50,000 will still need to supply the IRS with a Collection Information Statement (Form 433-A or Form 433-F). Taxpayers may pay down their balance due to $50,000 or less to take advantage of this new payment option.

In its announcement, the IRS advised that, although under the new installment agreement provisions penalties are reduced, interest continues to accrue on the outstanding balance. In order to qualify for the new expanded streamlined installment agreement, a taxpayer must agree to monthly direct debit payments. Taxpayers can set up an installment agreement with the IRS by going to the On-line Payment Agreement (OPA) page on IRS.gov and following the instructions.