As tax deadlines approach, many taxpayers assume they have two options if they are not ready: file late or file an extension. But those choices are not interchangeable. The difference between filing late and filing an extension can mean the difference between manageable interest charges and rapidly escalating penalties. Filing your return, paying what you owe and avoiding penalties are three separate IRS rules — and an extension only affects one of them.
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Johan Garcia, a CPA, CFP and founder and principal at After Tax Cash, explained the difference and the impact on your finances.
Filing an Extension Does Not Give You More Time To Pay
One of the most common tax misconceptions is that an extension gives you more time to pay your taxes. In reality, an extension only gives you more time to file your tax return, not to put off payment, Garcia said.
In fact, if you owe taxes that are not paid by the original filing deadline, you’ll owe those taxes, plus an underpayment of tax penalty, he said.
When taxpayers miss the deadline without filing an extension, the IRS imposes penalties that are often much more severe than those tied solely to unpaid balances. What an extension does is save you from paying failure-to-file penalties, Garcia explained. It does not eliminate interest.
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Interest Starts Accruing Immediately on Unpaid Taxes
Even with an extension in place, interest does not pause. “Interest starts accruing the day after the filing deadline on any unpaid balance,” Garcia explained. Then it compounds daily and continues until the tax is paid in full.
Taxpayers who underestimate what they owe can find their balances growing faster than expected.
Extensions are most effective when paired with an estimated payment. “The safest move is to overpay slightly with the extension and get a refund later if needed,” he said. Taxpayers can use year-to-date income, withholding totals and last year’s return as a baseline when estimating what to send with an extension.
Who Benefits Most From Filing an Extension
Don’t feel bad if you have to file an extension — they are common among taxpayers with complex financial lives. They can reduce rushed filing errors that can trigger audits or amended returns, he noted.
“People with complex returns or with many taxable income activities benefit most, such as business owners, investors and anyone waiting on K-1s or corrected tax forms,” Garcia said.
When an Extension Doesn’t Help
It’s important for taxpayers to remember that an extension is not a solution for avoiding payment. If a taxpayer already knows they owe, delaying payment only increases the total cost. “In that case, paying as much as possible by the deadline matters more than extra filing time.”
“If you can’t file by the deadline, filing an extension is almost always better than filing late, because it protects you from the worst filing penalties.” Taxpayers should also check state filing and extension rules, which don’t always mirror federal deadlines.
The smartest move, he concluded, “is still paying as much as you can by the deadline to reduce interest and penalties.”
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This article originally appeared on GOBankingRates.com: I’m a Tax Preparer: Here’s the Difference Between Filing Late and Filing an Extension
