Failing to file or pay your taxes on time can result in costly penalties and interest from the IRS—costs that can quickly snowball if left unaddressed. Whether you’re a business owner or an individual taxpayer, understanding how these penalties work and how to avoid them is essential. Below is a breakdown of the key IRS penalties you should be aware of heading into the 2025 tax season.
1. Failure-to-File Penalty
This penalty applies when you don’t file your tax return by the deadline, even if you owe taxes.
- Rate: 5% of the unpaid tax amount for each month (or part of a month) the return is late, up to a maximum of 25%.
- Minimum Penalty: If your return is more than 60 days late, the minimum penalty is $435 or 100% of the unpaid tax, whichever is less.
How to Avoid It:
File your return on time, even if you can’t pay the full amount owed. Filing late often results in significantly higher penalties than paying late.
2. Failure-to-Pay Penalty
This penalty is charged when you don’t pay your taxes by the due date, even if you filed on time.
- Rate: 0.5% of the unpaid taxes per month (or part of a month), up to a total of 25%.
- Increased Rate: This can rise to 1% per month if the IRS sends a notice of intent to levy and payment is still not made within 10 days.
- Reduced Rate: If you enter into an approved installment agreement, the rate drops to 0.25% per month.
How to Avoid It:
Pay as much as possible by the filing deadline (April 15) and set up a payment plan promptly if full payment isn’t feasible.
3. Underpayment of Estimated Tax Penalty
This penalty occurs when taxpayers don’t pay enough tax throughout the year, either through withholding or estimated tax payments.
When It Applies:
- You haven’t paid at least 90% of your current year’s total tax, or
- You didn’t pay at least 100% of your prior year’s tax (or 110% if your prior-year AGI exceeded $150,000).
How to Avoid It:
- Adjust your tax withholding through your employer.
- If you’re self-employed or earn significant non-wage income, make quarterly estimated payments.
- Use IRS Form 1040-ES to calculate and schedule estimated tax payments accurately.
4. IRS Interest on Unpaid Taxes
In addition to penalties, the IRS charges interest on unpaid tax and penalty amounts.
- How It’s Calculated: Based on the federal short-term rate plus 3%.
- 2025 Interest Rates: As of now, the rate is 7% for the first two quarters of 2025. Rates for the second half of the year will be announced by the IRS.
- Compounding: Interest compounds daily, which means it can accumulate quickly if left unpaid.
How to Avoid IRS Penalties and Interest
Minimizing or avoiding IRS penalties comes down to proactive planning and responsible compliance. Here are some key practices:
1. File On Time
Never miss the April 15 filing deadline (or the extension deadline, if applicable).
2. Pay What You Owe
Aim to pay your full tax liability by the due date. Even partial payments can reduce future penalties and interest.
3. Stay Current With Estimated Payments
If you are self-employed or earn additional income outside of regular wages, stay compliant by making quarterly estimated tax payments throughout the year.
4. Monitor IRS Updates
Tax laws and rates can change annually. Review IRS guidance regularly, and consult a tax advisor to ensure your compliance.
IRS penalties and interest charges are entirely avoidable with proper planning and timely action. Whether it’s filing your returns, paying your balance due, or making estimated payments, staying on top of your tax responsibilities helps protect your business and personal finances from unnecessary costs.
If you have questions, contact Paragon today!
