The IRS issues hundreds of different notes and letters throughout the year to millions of taxpayers. Not all notices and letters are bad news. But some – like a notice of deficiency – are the mail no one wants to wake up to. However, receiving an IRS notice of deficiency is not the world’s end. You do have a plethora of options, although most of them amount to the same thing: dealing with your tax deficiency. Let’s assess the situation.
What Your Notice of Deficiency Means
A notice of deficiency is issued when the IRS has made a tax assessment on your account and found that you owe a tax debt. The debt could be as insignificant as a few dollars or a sizeable sum. The tax assessment date is essential here – barring any tolling periods, it is the date your tax debt expires in ten years. This gives the IRS ten years to utilize different collection actions to coerce cooperation and payment.
An IRS notice of deficiency is typically sent when the IRS realizes that what you owe does not coincide with what you have paid or what you claimed to owe on your tax return. For example, if you made a math error on your tax return, the IRS may fix the error, notify you, and send an additional notice to call attention to your debt due to the error. Sometimes, your tax refund or applicable tax credits cover little tax errors and smaller debts.
For example, suppose you made enough estimated payments or raised your tax withholding for the year to account for a change in deductibles or some other significant difference in your tax status. In that case, the additional money sent to the IRS may be enough to account for the mistake. If it wasn’t, however, you will be sent a notice of deficiency.
What Happens Next?
You have a few options. First and foremost, think about whether what the IRS told you is accurate. If the IRS found you owing taxes due to a “mistake,” you still have the option of clarifying that mistake and contesting the IRS’s decision to claim a deficiency on your account, provided you have the proof needed to appeal their decision.
In this case, your best bet is to contact a legal professional. You could appeal to the IRS, but you have a skinny margin of error and only 90 days to make your case. If you initiate the appeals process, note that the IRS is usually stopped from commencing any potential collection actions against your account. However, this also counts as a “tolling period,” – meaning the expiration date on your debt is delayed.
This is usually the least of your concerns. If the IRS were correct in its assessment, however, your best bet would be to acknowledge their assessment and begin working with them to pay off your debt. At this point, your next step should be to fill out Form 5564, a Notice of Deficiency Waiver. This form declares that you agree with the IRS’s assessment of your tax situation.
The sooner you pay, the better – the IRS levies financial penalties against failing to deliver an outstanding tax liability, at a rate of 0.5 percent of the total tax debt every month, for 50 months (25 percent). In addition to penalties, the IRS has an interest rate on underpayment and overpayment of taxes. The interest rate changes quarterly – keep an eye out for changes through the IRS News Room.
Considering Your Payment Options
Depending on the severity of your tax debt, you have several potential ways to pay. A single payment made online is simplest if you have the means. Always ensure that you make online payments to the IRS through a licensed and professional tax preparation service or the official IRS.gov website. In addition to paying online either through a bank account, debit/credit card, digital wallet, or the official EFTPS, you may also:
- Send the IRS cash via a retail partner.
- Send the IRS a check or money order via the USPS.
- Send a same-day wire transfer through your bank.
Do not make any payments via email or because you received an online message about a tax deficiency. The IRS will only contact you with an IRS Notice of Deficiency via physical mail and never ask you to make any payments outside official channels. Even the IRS’s privately hired debt collection agencies (CBE Group Inc., Coast Professional Inc., and ConServe, as of August 2022) are required to refer you to the official website or the Electronic Federal Tax Payment System for any payments made to the IRS.
Report any scamming attempts or phishing attempts to the IRS directly. If you cannot make your payment in a single go, you can also opt for an IRS payment plan. Generally, you have two options: the short-term payment plan (multiple lump sums scheduled over six months) or an installment payment plan (monthly installment payments for a maximum of 72 months).
Installment agreements can either be set up online at a reduced or null fee or via mail and an official Form 9465, Installment Agreement Form if your tax debt is too large for an online setup. Under certain circumstances, the IRS may also require you to file Form 433-F, a Collection Information Statement, to accurately understand your current total finances and financial situation.
Avoiding Liens and Levies
Failing to cooperate with the IRS may further collection actions the longer you delay payment. The first course of action for the IRS may be a Public Notice of Federal Tax Lien, which is a legal claim by the government on all your property and assets, meaning you cannot liquidate or sell them without first dealing with your tax debt. You cannot claim a secured loan or satisfy an existing creditor’s claim without addressing your tax situation.
In the past, liens would also massively damage your credit score. However, all three major credit reporting agencies have since stopped recognizing liens due to past mistakes with wrongfully affected credit scores. If liens aren’t enough, the IRS can turn to levies as a last resort. In the case of a levy, the IRS makes a physical claim on your property. While the IRS rarely moves in to claim the real estate, it theoretically can.
Usually, the IRS will claim investment properties, land, second homes, or vacation homes first and leave your primary residence last. In most cases, the IRS will work with your employer to claim a portion of your monthly paycheck through wage garnishment. When dealing with your IRS debt, time is of the essence. Whether you intend to consider a payment plan, an offer of compromise, or an appeal on your tax situation, consider consulting a legal tax professional first.