First, Stop Digging.

There's a lot of wisdom in the old advice on getting out of holes.  It applies just as much when you get in a hole with the tax authorities.

One of the most common ways taxpayers get in a hole with the IRS is by failing to deposit withholdings and payroll taxes on time.  The penalties are stiff, so the hole gets very deep very fast.  How stiff? If you are one to five days late, you pay a 2% penalty.  If that doesn't seem bad, think about it this way: if you are the full five days late, you are borrowing from the IRS at an effective annual rate of 146%.  If you are only one day late, the effective APR is 730%.  Even car title loans are better than that.

The penalty rate jumps to 5% on day 6, then to 10% on day 16, and eventually to 15%.  Meanwhile, interest accrues the whole time on the whole thing at the IRS underpayment rate.

 

A Minnesota business is learning about the dangers of getting behind on payroll taxes in a very stern school - the federal court system.  It got off to a bad start with the IRS, falling behind on payroll taxes in 1997, its first year.  Twice it negotiated installment agreements to get caught up, and twice it failed to keep up with either the installment plans or its ongoing payroll tax responsibilities.  The Eighth Circuit court of Appeals stopped the music this month; it allowed the IRS to levy on the business to collect $2.5 million in unpaid taxes.

Each year the IRS will tell you how quickly you need to deposit your payroll taxes.  New taxpayers find this out shortly after they apply for their employer identification number.  Be sure to be current - at best, paying late is an expensive way to borrow, and it can become a fatal habit.

Further reading: IRS Tax Workshop on depositing payroll taxes.