IRS Collections Process

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Are you squeezed by your tax debt?
HIGHLIGHTS
  • Collections begin when a tax is assessed but not paid
  • Never ignore a Notice of Intent to Levy
  • The IRS can garnish your wages or levy your bank account
  • Speak with a tax professional, if threatened with a levy or if you owe more than $10,000

Steps IRS will Take to Collect on Your Debt

The IRS collection process starts with a tax assessment. Until the IRS makes an assessment, there is no official tax debt. Without an assessment in place, no collection efforts will ensue. An assessment takes place when the IRS officially notes in its records how much a taxpayer owes for any tax year or tax period. Assessments are based on returns that are filed by the taxpayers, returns the IRS files in place of returns a taxpayer neglects to file, or from changes the IRS makes to a return. If the assessment is consistent with the return that the taxpayer filed and is accompanied by a payment from the taxpayer for all taxes owed, then the assessment does not lead to a tax debt. On the other hand, if a taxpayer does not pay a tax debt in full, the IRS will initiate efforts to collect on the delinquent tax debt.

Anytime a taxpayer has a tax debt of over $10,000 or receives a threatening letter from the IRS, it makes good sense to speak to a tax professional about options for resolving IRS tax debt. Given the right circumstances, even a large tax debt can be settled for a small amount.

First Notice

Sometimes, the first IRS notice a taxpayer will receive will inform the taxpayer about the existence of a delinquent debt is a Notice of Taxes Due. This notice will state that the taxpayer owes a certain amount for a certain year or years and is generated when the IRS processes a return the taxpayer filed and sees that it was not paid in full. Another IRS notice is a Notice of Proposed Changes, where the IRS makes changes to a return that the taxpayer filed and adds taxes and/or penalties and interest. The IRS also sends a notice when it files a return for a taxpayer for a year that the taxpayer did not file on his or her own. A return that the IRS files in lieu of one that the taxpayer never filed is called a 'substitute for return.' It can be very important for a taxpayer to replace a substitute for return, as the IRS does not credit the taxpayer for any deductions the taxpayer would have been eligible to claim.

It can be the case that the first time a taxpayer realizes that he or she owes the IRS is when a Notice of Intent to Levy is received. A Notice of Intent to Levy is a written warning that is mailed to the taxpayer, alerting the taxpayer that the IRS is attempting to collect on a tax debt. Notices of Intent to Levy can come with a 10-day warning or a 30-day warning periods, giving the taxpayer some time to action to protect him or herself. A taxpayer should never ignore a Notice of Intent to Levy.

A threatened levy can be stopped, if the taxpayer takes the proper action. Generally, stopping a levy requires that all tax returns are filed up to date. Also, a threatened levy will be stopped if the taxpayer pays the tax debt in full, contacts the IRS and makes payment arrangements, or can prove to the IRS that he or she is in a financial hardship and lacks the ability to make any payment on the tax debt. To prove a financial hardship, the taxpayer must submit a financial disclosure to the IRS and meet the IRS' criteria for financial hardship. It is important to remember that the IRS' definition of a financial hardship is usually more narrow than the taxpayer's definition.

Federal Liens

The IRS can file a federal tax lien, whenever a taxpayer has a delinquent debt. However, the IRS generally does not file a lien unless the taxpayer owes more than $25,000. At that level, the IRS almost always files a tax lien. They also regularly file a tax lien if a taxpayer owes less than $25,000 and gets the IRS to agree that the taxpayer is in 'not collectible status.' Not collectible status is when a taxpayer can show that his or her income is insufficient to pay anything on the tax debt, after only basic needs are taken care of. In not collectible status, the IRS agrees to cease all collection efforts, leaving wages and bank accounts free from tax levies, usually for a period of one year, which is a good thing. The not-so-good part of not collectible status is that it is accompanied by a federal tax lien. Many people think a federal tax lien is filed against property, but that is not the case. The lien is a personal tax lien, filed against the taxpayer. The lien encumbers any real estate property that the taxpayer owns, but it is still a lien filed against the taxpayer, not the property. Federal tax liens will appear on a person's credit report in the public records area. The lien will remain there until the tax debt is paid in full or is settled for less than is owed through an Offer in Compromise.

Notice of Levy

If a taxpayer does not take the proper action after receiving the Notice of Intent to Levy, then the IRS will proceed by issuing a Notice of Levy. The Notice of Levy will show the taxpayer's name, the date the levy was issued, the assessment for one or all of the years owed, any additional penalties and interest that have been added on, and the type of tax debt owed (1040/personal, 941/payroll, or civil penalties). Once a levy is received, the taxpayer is at great risk of suffering immediate harm.

A copy of the levy notice will be sent to anyone who has paid the taxpayer wages in the past or issued a 1099 for services the taxpayer rendered. An employer or business owner/contractor that receives a Notice of Levy for an employee or sub-contractor is required to withhold a portion of the wages/income due and remit them directly to the IRS. The IRS can levy a huge percentage of a person's pay. For a wage-earner, the amount levied will depend on the income and the size of the wage-earner's family. In 2012, a single person that is levied by the IRS can be left with as little as $114.42 per week! The amount of a wage-earner's income that is exempt from IRS levy can be viewed on the IRS' Web site's Tables for Figuring Amount Exempt from Levy on Wages, Salary, and Other Income. This table is updated yearly. Once initiated, the wage levy will stay in place on each and every paycheck until the tax debt is paid off, unless that taxpayer takes the proper steps. For a 1099 recipient, a wage levy can be even more disastrous. Anyone who has previously submitted a 1099 for the taxpayer to the IRS will receive the Notice of Levy. This will prevent the 1099 recipient from receiving any income from the business or contractor until the levy is stopped.

A copy of the levy will also be sent to any bank that the IRS is aware of in which the taxpayer holds an account. Any funds in the account that are equal to or less than the size of the tax debt will be frozen by the bank and sent to the IRS 21 days later. Any account that the taxpayer is listed on is at risk of levy, even if held jointly with someone who has no part in the tax debt. Funds that are deposited in the bank account after a levy is received by the bank are not subject to the levy and will not be sent to the IRS, but a bank account can be levied repeatedly.

It is possible, but difficult, to act within the 21 days to  get the IRS to drop the levy. However, options that existed before the levy was received, such as setting up a payment plan while not having the bank account funds remitted to the IRS, are no longer available. Often, by the time a Notice of Levy is received, even if immediate action is taken to stop the levy, the levy will affect the taxpayer's wages or bank accounts. While the IRS does have authority to seize other assets, such as a house or a car, to collect on a tax debt, it almost never does so, except in cases of tax fraud.

Offset Tax Refunds

In addition to coming after a taxpayers income or bank accounts, the IRS can and will keep any tax refunds that are owed to the taxpayer and apply them to the taxpayer's outstanding tax debt. Additionally, the IRS can act as a collection agent for debts, such as state tax debt, federal student loan debt, or delinquent child support. In these cases, the IRS offsets the expected tax refund or any overpayment it receives and sends them on to the parties that the taxpayer owes.

Summary

Never ignore any correspondence from the IRS. Take immediate action if you receive a Notice of Intent to Levy or Notice of Levy.  Speak to a tax professional to understand your options. While a taxpayer can speak to the IRS directly, the IRS is not there to represent the taxpayer's interests. It can make good sense to have an experienced tax pro assist you.

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