Unfiled Returns

There are numerous practical reasons to file tax returns. Whether buying a home or financing a business, copies of filed returns must be submitted to the lending institution. Social Security retirement and disability benefits as well as Medicare are all computed based on a person’s lifetime earnings reported to the IRS and the Social Security Administration. State benefits such as unemployment compensation and industrial insurance are also based on reported income.

Why do otherwise law-abiding, conscientious citizens suddenly stop filing federal income tax returns? IRS research has shown taxpayers first fail to file a return in a year when circumstances change.  For either emotional or financial reasons (or a combination of both), they are unable to prepare and file a return.  The reason might even be procrastination. Whatever the reason, failure to take corrective action only compounds the problem.

When the next year’s return is due, the taxpayer faces a dilemma. Will filing call attention to them?  What about the forms needed to prepare the earlier return?  What about the financial burden of paying taxes due in previous years?  What if they have lost some of the records needed to prepare the earlier return?  There is also the stress of worrying about being discovered by the IRS.  

The IRS continues to improve its database of income transactions and increase its ability to identify people who have a filing requirement but have failed to file a return.  Eventually, contact will be made and the correct tax liability computed.  By this time, however, the original tax bill will be multiplied many times by the addition of interest and penalties.  The IRS also has a wide range of civil and criminal sanctions available that can be imposed on persons who fail to file returns.  From any perspective, the consequences of failing to file returns are just not worth it!

The law allows the IRS to file a substitute return for people who do not voluntarily file.  A series of letters is first sent explaining the possible action and the recourse available.  If no return or other indication of disagreement such as a request to exercise appeal rights is received, the IRS proceeds with filing a basic return that does not include any additional exemptions or expenses a person may be entitled to.  If the IRS has already filed a substitute return, it is still recommended the person file their own return to claim any additional items.  The individual’s account will generally be adjusted to reflect the correct figures

Another reason to file is because the clock is running on any refunds due. In cases where a return was not filed, the law provides most taxpayers with a three-year window of opportunity for claiming a refund. If no return is filed to claim the refund within the three years, the money becomes the property of the U.S. Treasury. After the expiration of the refund statute, not only does the law prevent the issuance of a refund check, it also prevents the application of any credits, including overpayments of estimated or withholding taxes, to other tax years that are underpaid.

On the other hand, the statute of limitations for IRS to assess and collect any outstanding balances does not start until a return has been filed. In other words, there is no statute of limitations for assessing and collecting the tax if no return has been filed.

So, what should a person do who has one or more unfiled tax returns? They should immediately contact a tax professional or the IRS and get the delinquent returns filed. Failure to take prompt corrective action only compounds the problem! The fact that you don’t have the money to pay should not stop you from acting. The IRS has payment plans and other options available.

Whatever you do, take action before the IRS comes knocking.