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What you need to know to avoid tax penalties

avoid tax penaltiesWith Tax Day just a few days away, the race is on to get tax returns in the mail or e-file by the due date -- unless, that is, you're filing for an extension. Most taxpayers know interest will accrue on late payments but may not be familiar with penalties. Here's what you need to know:

When you don't file your tax return on time, you're not just missing an important deadline, you're subjecting yourself to a potential failure to file penalty. The failure-to-file penalty is usually more than the failure-to-pay penalty, so if you're running late, file for an extension in order to avoid the penalty.

The penalty for filing your tax return late is usually 5% of the amount of unpaid taxes for each month (or part of a month) that your tax return is late, not to exceed 25% of your unpaid taxes. If you file your tax return more than 60 days after April 15 or the date of your extension (usually Oct. 15), the minimum penalty is the smaller of $135 or 100% of the unpaid tax.

The best advice: Even if you can't afford to pay, be sure to file your tax returns on time (or file for an extension on time) in order to avoid those failure-to-file or late filing penalties.

Of course, an extension is only an extension of the time to file and not the time to pay. If you do not pay your taxes due by the due date, you could face a failure-to-pay penalty. The failure-to-pay penalty is generally ½ of 1% (or .005%) of the amount of your taxes due for each month or part of a month after April 15 that the taxes are not paid. This penalty can be as much as 25% of your unpaid taxes.

If you can't afford to pay your taxes, there are payment options available. The worst thing you can do is put your head in the sand and hope that it goes away. Tax liabilities won't go away, and the penalties will continue to apply. If you file for an extension and pay at least 90% of the amount of tax due by April 15, you won't be subject to a failure-to-pay penalty, provided you pay the remaining amount due by the extension due date (again, in most cases, Oct. 15).

This is why it's extremely important to make a payment along with your request for an extension if you believe that you might owe -- a good guess will take you a long way. Most tax preparation packages and tax professionals can help you estimate your tax due if you don't think you can do it on your own. A good rule of thumb, providing there are no significant changes, is to pay at least as much as you owed last year.

Of course, sometimes bad things happen to good people. If you have reasonable cause for not filing or paying on time, you may be able to avoid the penalties (though not usually the interest). Keep in mind, though, that reasonable cause is a pretty high bar -- simply not having the time or the money isn't enough. But if you have a great excuse, the IRS may cut you a break.

If you owe, or think you might owe, this year, keep in mind that any penalties and interest on that amount will continue to accrue until your tax liabilities are satisfied in full. Your best bet? File on time -- or timely file for an extension -- and pay as much as you can when possible.

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