6 Ways to Handle Tax for the Struggling Taxpayers

Filling out and filing those tax returns is not fun, but it's not as painful as coming to the end of the form and realizing you owe more than you have left in your checking account.

That's likely to happen to more people than usual this year. Many reduced the amount of taxes withheld from their take-home pay in 2009 so they could collect their Making Work Pay credit in every paycheck. Some over adjusted and had too little withheld. Others lost jobs, and collected taxable unemployment benefits that they weren't paying taxes on.

With many taxpayers still struggling with less work and less pay than they are used to, there will be lots of unhappiness and worry when those numbers emerge at the bottom of the form. The Internal Revenue Service says it's going to be more lenient than ever in working out deals to help folks who can't pay.

There are good ways and bad ways to handle the big-bill-no-cash situation. Here's what you need to know now.

1. Don't hide. The penalties for not filing a tax return are severe, amounting to 5 percent of the amount owed per month, up to 25 percent the total owed. And simply ignoring the situation is sure to increase your stress levels.
2. Don't be in a hurry to put the balance on your credit card. You'll have to pay 2 percent to 4 percent off the top, just to do the transaction. Then you'll pay interest at your credit card's high annual rate, until you've paid off the balance. If you have a credit card that is offering a decent low-interest cash-advance offer, you can write a check against that card and deposit it into your checking account and then use that cash to pay your tax bill. But good low-interest (and low-fee) credit card cash advance offers are hard to find these days.
3. Do look for other sources of cash. That can be anything from borrowing from a relative to hosting a yard sale, to taking money out of a low-yielding savings account. Don't take money out of a tax-deferred retirement or college savings account to pay a tax bill. Consider writing a check on your home-equity line of credit.
4. Ask the IRS for a short-term loan. If you think you'll have the money within 4 months, you can simply stretch out your payments to the tax agency. You'll need to file an online payment agreement at the IRS website . You will have to pay a penalty of 0.5 percent per month (that's one-tenth of the penalty for not filing) plus interest at an annual rate of 4 percent a year. That is not a bad deal.
5. Ask for even more time. That same interest and penalty rate also be stretched out over a longer period of time, if you agree to make regular payments. You can have the IRS deduct money from your paycheck or bank account on a regular basis, or simply agree to make regular payments on your own. If you owe less than $25,000 and can pay it off in under three years, the IRS is likely to approve your installment plan without much fuss. You can use the same online payment form to set up an installment plan.
6. If you have big problems, look for big solutions. If you are teetering on the edge of bankruptcy, with no hope of ever paying your bill, you may be able to get the IRS to agree to accept a smaller amount. This is called an Offer in Compromise, and it is not the easy pennies-on-the-dollar deal hawked in often fraudulent television ads. The agency approves only one in four of the requests it got last year. However, the IRS says it's going to grant more leeway to its agents to accept these offers this year. It will, for the first time, allow agents to make forward-looking judgments about whether taxpayers will have the income in the future to pay bills based on their income in the past.

For many taxpayers who used to be flying high but now are skating on the edge, which could be a big help.