10 Things to Know When Getting Current with Unfiled Returns

Falling behind on filing your taxes can be scary, filled with questions and doubt about how to make it right with the IRS. Fortunately, there are steps that can be taken to satisfy the IRS and get you back into the system without making it worse.

Here are 10 things you should know about getting current with your unfiled returns:

1. In most cases, the IRS requires the last six years’ tax returns to be filed as an indicator of being current and compliant. The reference is IRS Policy Statement 5-133, “Delinquent Returns – Enforcement of Filing Requirements”. and Internal Revenue Manual 4.12.3. This is the starting point – preparing the last six years’ returns for filing.
2. Determining what should be on your return is often the most difficult part about filing back returns.  Your efforts can be made significantly easier by obtaining IRS wage and income transcripts.  These transcripts will show what has been reported to the IRS.  Use this as your starting point to determine what should be listed on the return (1099s, 1098s and W2s, etc.).
3. Gather your records. Use the transcript obtained from the IRS as a checklist of the original documents you should try to gather.  The IRS transcripts do not provide the level of information that can be obtained from the original documents (1099s, 1098s and W2s, etc.) It is important to do your best to pull together your records for the years where you did not file.
4. The IRS transcripts are a checklist – if there is income you earned that is not on the transcripts, best efforts need to be taken to determine that income and include it on your return.  Remember, because you have not filed, there is a better than average chance  you may be audited for the unfiled return.  You do not want to be caught with unreported income.  In an audit, the auditor would look at bank statements to determine income.  You should also look at your bank statements for the potential of income that is not reported on your transcripts.
5. If you are self-employed, business income and expenses need to be determined. Income can be pieced together by several methods, including 1099 reporting to the IRS (supplemented by any income not reported), or your total bank deposits. Working backwards, determining what you spent to live (food, housing, utilities, auto expense) can cross-check your income on the presumption that you at least earned what you spent and saved.
6. Before filing your returns, a financial review should be completed to determine how you will be able to pay the IRS. Resolving tax debts created by unfiled returns is really a two-step process.  First, getting the returns prepared and determining the debt and second, negotiating solutions to balances due with IRS collections. It is a huge mistake to begin filing returns without reviewing your best tax resolution options.  This involves a review of your current income, living expenses, property, and debts. Once the best resolution option has been determined, based upon your financial circumstances, then it is time to file all the outstanding returns.
7. If you are married but only one spouse earned the income, we strongly recommend you consider filing a married filing separate return.  Filing a joint return may expose your spouse to a liability. Filing separately can limit who the IRS can collect from – protecting your innocent spouse.   Note in Community Property states, this protection is somewhat limited.
8. If you were employed with wages and had taxes withheld from your paycheck and just did not file returns, it is possible you may not owe the IRS at all. This will depend on the amount withheld from your wages and any other deductions you may have (mortgage interest, etc.).
9. When you do not file a return for long enough, the IRS will eventually file one for you. This is known as a Substitute for Return (SFR). When this happens, you MUST file your original return to a different unit.  Failure to do so, will usually either cause an extreme delay in resolving the problem or the return will never be processed.
10. The IRS charges interest and penalties only on balances due, so there are no penalties if you do not owe. And if you have refunds, you should receive those for the last three years’ returns (but note the refunds will be applied to any balances due for other years).

Remember, filing back returns is a process.  Failing to follow the correct order can result in a huge nightmare.