The IRS expects to send out over 125,000 collection letters to high-income taxpayers who did not file one or more federal income tax returns between 2017 and 2021.

As part of the new collection initiative, approximately 25,000 letters will be sent to taxpayers with annual incomes of more than $1 million. The rest will be sent to taxpayers with annual incomes between $400,000 and $1 million.

These cases begin as collection cases where the IRS has received third-party information, such as Forms W-2 and Forms 1099, indicating these taxpayers received income of at least $400,000 but failed to file a tax return. The IRS hasn’t pursued these taxpayers recently due to budget and staff limitations, but an influx of funds from the Inflation Reduction Act has enabled the IRS to refocus on high-income taxpayers.

The IRS is sending out 20,000 to 40,000 letters per week, beginning with taxpayers with the highest income. All 125,000 letters should be mailed by the end of March. Some taxpayers — those who didn’t file tax returns in multiple years — will receive more than one letter.

The Collection Notices

The letters the IRS is sending are CP59 Notices. The CP59 Notices provide specific instructions to taxpayers to resolve their failure to file tax returns:

• File a signed tax return immediately or explain why a return is not required.
• Complete Form 15103, called a Form 1040 Return Delinquency, that is included with the notice to explain why they are filing their tax return late, why they don’t have to file a tax return, or that they have already filed their tax return.
• Mail the stub at the bottom of the CP59 Notice with the tax return and Form 15103 to the IRS or fax the documents to the fax number in the CP59 Notice.

The IRS is instructing taxpayers receiving CP59 Notices to take “immediate action” to avoid stronger enforcement measures. The IRS Commissioner has told reporters that taxpayers receiving the CP59 Notice will have about eight weeks to respond.

What Happens to Taxpayers who Ignore the CP59 Notice?

The IRS is entitled to create what is known as a “Substitute for Return” for the taxpayer (an SFR). An SFR is a tax return the IRS creates using information provided to it by third parties. However, since the IRS bases the SFR only on third-party information provided to it, the SFR will not give the taxpayer credit for deductions and exemptions they may be entitled to receive because the IRS does not have this information.

If the IRS creates the SFR and the taxpayer still does not respond to the IRS, the IRS will issue a Notice of Deficiency proposing a formal assessment of tax based on the SFR. Taxpayers receiving a Notice of Deficiency typically have 90 days to contest the proposed deficiency by filing a Petition in the United States Tax Court. Not filing the Petition results in a formal assessment – an official determination by the IRS of the amount owed.

A formal assessment will lead to a tax bill, which, if unpaid, can result in the filing of a Notice of Federal Tax Lien and/or a levy on wages, a bank account or other assets (including a home). In some cases, the IRS may refer the taxpayer for criminal prosecution.

Don’t Forget About Penalties and interest!

The IRS will impose a failure-to-file penalty in the amount of 5% of the unpaid tax balance, every month, up to 25% of the tax bill. The IRS will also impose a failure to pay penalty in the amount of 0.5% of the unpaid tax balance, every month, also up to 25% of the tax bill. And if taxpayers did not withhold or make proper estimated payments, the IRS will also impose an estimated tax penalty. In all, these penalties can total over 50% of the tax balance. On top of the penalties, the IRS will assess interest, from the original due date of the tax return, on both the tax and the interest. The current IRS interest rate for individuals is 8% per year, compounded daily.

Potential Loss of a Tax Refund

Many taxpayers don’t file a tax return because they believe, rightly or wrongly, that they are owed a refund by the IRS. But without a tax return from the taxpayer showing withholding, credits and deductions, the IRS information from third parties will only show income — and the SFR will create a balance due, not a refund.

If taxpayers who are owed a refund do not file a tax return within three years of the due date of the return, they risk losing their refund. Taxpayers who are due refunds for 2017, 2018 and 2019, but didn’t file tax returns for those years, are likely out of luck and will not receive their refunds. For taxpayers who are owed a refund for 2020, the deadline for claiming that refund is coming up in ten weeks, on May 17, 2024. The deadline for claiming a refund for 2021 is April 15, 2025.

The IRS Goal

This initiative is part of a larger effort by the IRS to collect outstanding taxes from large corporations, large partnerships and high-income individuals. Already, the IRS has recovered over $482 million from approximately 1,600 millionaires who did not pay tax liabilities. And the IRS is auditing 75 of the country’s largest partnerships using artificial intelligence. The IRS believes that, conservatively, this initiative will result in the payment of hundreds of millions of dollars of unpaid tax, as well as substantial penalties and interest.

The Takeaway

If you earned more than $400,000 in any year between 2017 and 2021 and didn’t file a tax return, expect to receive a CP59 Notice from the IRS. What steps you take from there will depend on your personal tax situation. While the vast majority of taxpayers will deal with civil investigators trying to collect outstanding taxes, penalties and interest, there is always the possibility that the IRS will start a criminal investigation.

In addition, the balance the IRS claims you owe may not be the correct amount, since the IRS may lack information about withholding, estimated payments, credits and deductions. Determining the correct amount of tax can often be complex, especially for taxpayers with a variety of types, forms and locations of investments, income and expenses. And don’t forget about penalties: Not all penalties are created equally, and in many cases the IRS may be willing to waive penalties.

In these circumstances, it is critical for individuals to involve skilled and experienced tax lawyers at the outset. Fox Rothschild’s Tax Controversy & Litigation Practice Group includes senior lawyers with substantial experience in federal taxation, tax procedure and tax trials in federal courts. Our lawyers routinely represent clients before the Internal Revenue Service, as well as in the Tax Court, federal district courts and the Court of Federal Claims. We closely monitor and keep clients continually informed of developments in tax law administration at the federal, state and local levels, such as changes in the IRS audit process, the emergence of new dispute resolution tools and novel case law and rulings that may impact clients.

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