Oct. 15 is fast approaching. If you filed an extension to file your taxes, you must do so by this date. It is also the deadline for those who filed a hardship-to-pay extension.
The IRS allowed taxpayers and small businesses additional time to pay their tax liability without assessing the Failure to Pay penalty if they filed Form 1127-A (Application for Extension of Time for Payment of Income Tax for 2011 Due to Undue Hardship) by April 15.
The requirements for filing this form were that the taxpayer was unemployed for a period of 30 consecutive days in 2011 or before April 15 and had an adjusted gross income of less than $100,000 ($200,000 if filing jointly). It also allowed small business owners who experienced a 25 percent reduction of income due to the economic downturn additional time to pay the tax liability.
However, if the tax is not paid by Oct. 15, the Failure to Pay penalty is calculated from the original due date of April 15.
What is sometimes misunderstood about the U.S. tax system is that it is a "pay as you earn" tax. The government expects the taxpayer to pay the taxes on income earned at the time it is earned. Just as a person pays sales tax at the time of purchase, income tax is payable at the time the income is earned.
Adjusting the withholding taken out of the paycheck during the tax year can lead to a tax liability when it's time to pay. For example, increasing the number of exemptions claimed on the taxpayer's W-4 can result in not enough taxes withheld to cover the total tax bill on the income earned, so you will owe the IRS.
It is often easier to have a little taken out of each paycheck than coming up with a lump sum at tax time.
Another situation that usually causes an increase in tax liability is taking out money from your retirement funds, such as a 401(k) or IRA account, before the age of 591/2.
The amount that is taken out is subject to a 10 percent penalty that is assessed on the tax return. That's in addition to what the custodian of your account assesses in penalties for an early withdrawal, plus whatever tax they may withhold when they send you your distribution.
This 10 percent tax assess on your return is in addition to regular income taxes.
This penalty assessed by the fund may apply to Roth IRAs, even if it has been at least five years since you first opened the Roth account. Check with the plan administrator to review the exceptions to early withdrawal of a Roth.
Of course, there are exceptions to the 10 percent, and you should check with your tax preparer for a list of these exceptions.
The amount you withdraw from your retirement is taxable income in most situations. The money taken out is added to your other income, which can put you in a higher tax bracket.
The higher tax bracket causes all the income earned to be taxed at this level, not just the additional money taken out from the retirement account. This causes an increase in the amount of taxes owed, which the taxpayer may not expect.
Careful planning and knowledge of appropriate deductions can help reduce that tax liability. There are changes coming in 2013 that will greatly affect the deductions that have in the past helped reduce the tax liability.
Last week, I discussed the increase from 7.5 to 10 percent of the threshold for medical deductions, starting in 2013. Over the next few weeks, information will be provided on credits and deductions that change in 2013 and future years that will help with tax planning.
For more information, visit www.irs.gov and type "IRA withdrawal" or "paying your tax liability" in the search engine.
Tracy Bunner is an enrolled agent and tax preparer with an office in Harrisville. She can be reached at 801-686-1995 or at firstname.lastname@example.org.