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Penalties and interest push tax debt past a billion dollars

A breakdown of how much Sam Wyly owes the IRS provides a lesson/warning on accumulating penalties and interest. Ignore a back tax bill and what you have to pay to resolve the situation could double or triple.

The successful entrepreneur and former billionaire had been fighting to discharge tax debt in bankruptcy proceedings. We covered the unfavorable outcome of the bankruptcy case in our May 19th blog post. Last week, a federal bankruptcy judge ordered him to pay $1.1 billion after finding he used offshore trusts to shield family wealth.

Penalties: Failure to file, failure to pay and tax fraud

The back tax bill was approximately $135 million. This amount is significant, but how did it increase to more than a billion – with a B – dollars? Penalties are one reason. The penalties were almost five times the tax debt: about $570 million.

The civil penalties that can be assessed in a tax fraud case are often referred to as draconian. Even when fraud is not alleged there are two penalties that add up over time. These are the:

  • Failure-to- file penalty – as the greater of the two, this one adds on at five percent of the tax bill each month. The penalty caps out at 25 percent.
  • Failure-to-pay penalty – ½ of one percent of the balance due for each month up to 25 percent.

Filing tax returns on time even when you cannot pay the full bill can reduce the amount of penalties you eventually are assessed.

The complex tax code has some gray areas. Wyly claimed this was one and he didn’t understand the unlawful nature of the offshore trusts. The bankruptcy judge did not accept his argument.

Interest on top

The IRS variable interest rate is much more than what you could earn on your money. The Wyly issues stem from 1992 to 2004. It is thus not surprising that interest totaled around $400 million.

Interest rates for individuals are generally the federal short-term interest rate plus three percentage points. They are even higher for large corporate tax debt.

This post should illustrate why waiting to address a tax issue is never a good idea. Don’t let the problem escalate by waiting to take action.

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