While taxes owed are always due on or before the filing date of April 15th, taxpayers have the option of filing a tax extension that effectively moves their filing date to October 15th. Is this ever a good thing to do? Sometimes the answer is yes.
For most of us: file on time
It is almost always best to file your tax return on or before the April 15th due date because it starts the audit clock. Once filed, the IRS has a three-year period to audit this tax return from the tax filing due date or when you file your tax return, whichever is later. So if you do not file your return, the three-year audit time-frame does not start. (There are exceptions to this timeframe if you underreport your tax obligation by over 25%.)
In addition, your tax payment is due by the filing date whether you file your return or not. Since most of us need to prepare the tax return to know our obligation, it only makes sense to file it on time. So when does an extension make sense?
When to file an extension
- Missing or incorrect information. If you are waiting for a business tax statement (K-1), it is impossible to file your tax return with accuracy. This is often a problem for taxpayers who are waiting for LLC business tax forms. Perhaps your W-2 or a 1099 has errors on it. It is often better to receive a corrected form prior to filing your tax return. This is especially true if you are required to attach the form to your tax return.
- Recharacterizing Roth IRA rollover amounts. If you roll funds from a tax-deferred IRA into a Roth IRA, the fair market value of the investments at the time of the rollover are taxable as ordinary income. If the investments later lose value, you still need to pay tax based upon the fair market value at the time of the rollover. To solve this problem, there is a one-time roll back (recharacterize) opportunity to avoid paying tax on the inflated value. You can conduct this reclassification up to your tax filing due date including extensions. Many savvy investors who roll funds into a Roth account will often file an extension to make sure they do not pay too much in tax on the fund transfer.
- Extra time for self-employed to donate to a retirement plan. You can buy time to fund a SEP IRA, solo 401(k), and SIMPLE plan through your extension due date. But take caution, as this extended retirement plan funding does not apply to traditional IRAs and Roth IRAs. These latter plans must be funded by April 15th.
- Avoid late filing penalty. If you fail to file a tax return, two tax penalties come into play; a late filing penalty and a late payment penalty. By filing an extension, even if you cannot yet pay the tax, you can push out the potential late-filing penalty for another six months.
- Extend the time to receive a refund. You have three years to claim a refund. This clock starts on the due date of your tax return, unless you file an extension. With an extension, the three year clock starts six months later, on the new (extended) tax due date.
While filing a tax extension is one of the last things you should consider doing, sometimes it may make the most sense.
As always, should you have any questions or concerns regarding your situation please feel free to call.
DiSabatino CPA
651 Via Alondra, Suite 715
Camarillo, CA 93012
Phone: 805-389-7300