Penalties and/or interest abatement: Penalties and Interest

Penalties and Interest

If the taxpayer does not file a return and pay the tax by the due date, he may have to pay a penalty. Substantially understated tax, understated reportable transactions, erroneous claims for refund or credit, frivolous tax submissions, or failure to supply a Social Security number or individual taxpayer identification number may also result in the IRS assessing a penalty. The IRS may assess a civil fraud penalty if the taxpayer provides fraudulent information on a return.

  • Filing late or(failure-to-file) – If the taxpayer does not file a return by the due date (including extensions) the IRS may assess a failure-to-file penalty. The penalty is usually 5% for each month or part of a month that a return is late, but not more than 25%. The penalty is based on the tax not paid by the due date (without regard to extensions).

1)      Fraud – If the failure to file is due to fraud, the penalty is 15% for each month or part of a month that the return is late, up to a maximum of 75%.

2)      Return more than 60 days late– If the return is filed more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $135 or 100% of the unpaid tax.

  • Paying tax late or(failure-to-pay) – A taxpayer who does not pay all taxes by the due date is subject to the failure-to-pay penalty of one-half of 1% (.50%) of the unpaid taxes for each month, or part of a month, the tax is not paid. This penalty does not apply during the automatic six-month extension of time to file period if the taxpayer paid at least 90% of the actual tax liability on or before the due date of the return and paid the balance when he filed the return.

1)      The monthly rate of the failure-to-pay penalty is half the usual rate (.25% instead of .50%) if an installment agreement is in effect for that month. The taxpayer must file the return by the due date (including extensions) to qualify for this reduced penalty.

2)      If the IRS issues a notice of intent to levy, the rate will increase to 1% at the start of the first month beginning at least 10 days after the day the IRS issues the notice. If the IRS issues a notice and demand for immediate payment, the rate will increase to 1% at the start of the first month beginning after the day that the IRS issues the notice and demand.

3)      This penalty cannot be more than 25% of the unpaid tax.

  • Combined penalties– If both the failure-to-file penalty and the failure-to-pay penalty apply in any month, the 5% (or 15%) failure-to-file penalty is reduced by the failure-to-pay penalty. However, if the return is filed more than 60 days after the due date or extended due date, the minimum penalty is the smaller of $135 or 100% of the unpaid tax.
  • Accuracy-related penalty– A penalty of 20% of unpaid tax may be due if the tax is underpaid due to:

1)      Negligence or disregard of the rules or regulations, or

2)      Substantial understatement of income tax. The understatement is substantial if it is more than the largest of 10% of the correct tax or $5,000.

  • Frivolous tax submission– A penalty of $5,000 may be due if frivolous tax returns or other frivolous submissions are made. A frivolous tax return is one that does not include enough information to figure the correct tax or that contains information clearly showing that the tax reported is substantially incorrect.
  • Fraud– If there is any underpayment of tax on a return due to fraud, the IRS will add a penalty of 75% of the underpayment due to fraud to the tax owed.
  • Failure to supply Social Security number– If a taxpayer omits a SSN where required on a return, statement, or other document, the taxpayer will be subject to a penalty of $50 for each failure.

How to Stop Interest from Accruing

If the taxpayer owes additional tax at the end of the examination, he can stop further accrual of interest by sending money to the IRS to cover all or part of the amount still owed. Interest on part or all of any amount still owed will stop accruing on the date the IRS receives this money.

Suspension of Interest and Penalties

Generally, the IRS has three years from the date the return was filed (or the date the return was due, if later) to assess any additional tax. However, if the return was filed timely (including extensions), interest and certain penalties will be suspended if the IRS does not mail a notice stating liability and the basis for that liability, within a 36-month period beginning on the later of:

  • The date on which the tax return was filed
  • The due date (without extensions) of the tax return

If the IRS mails a notice after the 36-month period, interest and certain penalties applicable to the suspension period will be suspended. The suspension period begins the day after the close of the 36-month period and ends 21 days after the IRS mails a notice to the taxpayer stating liability and the basis for that liability. In addition, the suspension period applies separately to each notice received stating liability and the basis for that liability. The suspension does not apply to the following:

  • Failure-to-pay penalty
  • Fraudulent tax return
  • Penalty, interest, addition to tax, or additional amount with respect to any tax liability shown on the return or with respect to any gross misstatement
  • Penalty, interest, addition to tax, or additional amount with respect to any reportable transaction that is not adequately disclosed or any listed transaction
  • Criminal penalty

Seeking Relief from Improperly Assessed Interest

A taxpayer may seek relief if the IRS assesses interest for periods during which interest should have been suspended because the IRS did not mail a notice in a timely manner. If the taxpayer believes that the IRS assessed interest with respect to a period during which interest should have been suspended, submit Form 843, writing “Section 6404(g) Notification” at the top of the form, with the IRS Service Center where the return was filed. The IRS will review the Form 843 and notify the taxpayer whether or not interest will be abated. If the IRS does not abate interest, the taxpayer may pay the disputed interest assessment and file a claim for refund. If that claim is denied or not acted upon within six months from the date filed, the taxpayer may file a suit for a refund in U.S. District Court or in the U.S. Court of Federal Claims.

Abatement of Interest

The IRS may abate (reduce) the amount of interest owed if the interest is due to an unreasonable error or delay by an IRS officer or employee in performing a:

  • Ministerial act– This is a procedural or mechanical act, not involving the exercise of judgment or discretion, during the processing of a case after all prerequisites (for example, conferences and review by supervisors) have taken place. A decision concerning the proper application of federal tax law (or other federal or state law) is not a ministerial act.
  • Managerial act– This is an administrative act during the processing of a case that involves the loss of records or the exercise of judgment or discretion concerning the management of personnel. A decision concerning the proper application of law is not a managerial act.

Only the amount of interest on income, estate, gift, generation skipping, and certain excise taxes may be reduced. The amount of interest will not be reduced if the taxpayer or anyone related to the taxpayer contributed significantly to the error or delay. The interest is reduced only if the error or delay happened after the IRS contacted the taxpayer in writing about the deficiency or payment on which the interest is based. An audit notification letter is such a contact.

Reasonable Cause

Under certain situations, a taxpayer may appeal penalties assessed against him by the IRS for non-compliance with the tax laws. These involve the use of the reasonable cause criteria. Reasonable cause involves situations that are beyond one’s control after exercising normal care and prudence. Most of the time, they involve death, serious illness, unavoidable absences, absence of needed records, and reliance on written advice from the IRS or tax professional. Similar to interest abatement, a taxpayer may use form 843 to claim a refund or request an abatement of certain taxes, penalties, and additions to tax.

  • Death– This is the death (usually sudden) of a spouse, children, parents, grandparents, or siblings. This may include the tax preparer (or a member of the immediate family) or any individual on whom the taxpayer relies for data needed to prepare the return.
  • Serious illness– Major and (usually) unexpected illness of the individuals listed directly above. This rarely applies to sources of return information.
  • Unavoidable absences– This is related to absences of the taxpayer (or spouse), is very rarely related to the taxpayer’s preparer, and is never related to sources of information. Situations include items such as incarceration, natural disasters, military deployment, and emergency hospitalization.
  • Inability to obtain needed records– The provider of information crucial to the preparation of the return did not provide it by the date required by law, and the taxpayer has sufficient records to support unsuccessful attempts to secure the information in order to file in a timely manner. The taxpayer must also have attempted to obtain the records from any alternative sources without success; for example, if the taxpayer did not receive a W-2, he could prepare a substitute W-2 from the year-end pay stub.
Title and Section Definition 
Title 26 USC § 7201

Attempt to evade or defeat tax

Any person who willfully attempts to evade or defeat any tax imposed by this title or the payment thereof shall, in addition to other penalties provided by law, be guilty of a felony and, upon conviction thereof:

·   Shall be imprisoned not more than five years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both, together with the costs of prosecution

Title 26 USC § 7202

Willful failure to collect or pay over tax

Any person required under this title to collect, account for, and pay over any tax imposed by this title who willfully fails to collect or truthfully account for and pay over such tax shall, in addition to penalties provided by the law, be guilty of a felony and:

·   Shall be imprisoned not more than five years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both, together with the costs of prosecution

Title 26 USC § 7203

Willful failure to file return, supply information, or pay tax

Any person required under this title to pay any estimated tax or tax, or required by this title or by regulations made under authority thereof to make a return, keep any records, or supply any information, who willfully fails to pay such estimated tax or tax, make such return, keep such records, or supply such information, at the time or times required by law or regulations, shall, in addition to other penalties provided by law, be guilty of a misdemeanor and, upon conviction thereof:

·   Shall be imprisoned not more than one year

·   Or fined not more than $100,000 for individuals ($200,000 for corporations)

·   Or both, together with cost of prosecution

Title 26 USC § 7206(1)

Fraud and false statements

Any Person who … (1) Declaration under penalties of perjury – Willfully makes and subscribes any return, statement, or other document, which contains or is verified by a written declaration that is made under the penalties of perjury, and which he does not believe to be true and correct as to every material matter; shall be guilty of a felony and, upon conviction thereof;

·   Shall be imprisoned not more than three years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both, together with cost of prosecution

Title 26 USC § 7206(2)

Fraud and false statements

Any person who …(2) Aid or assistance – Willfully aids or assists in, or procures, counsels, or advises the preparation or presentation under, or in connection with any matter arising under, the Internal Revenue laws, of a return, affidavit, claim, or other document, which is fraudulent or is false as to any material matter, whether or not such falsity or fraud is with the knowledge or consent of the person authorized or required to present such return, affidavit, claim, or document; shall be guilty of a felony and, upon conviction thereof:

·   Shall be imprisoned not more than three years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both, together with cost of prosecution

Title 26 USC § 7212(A)

Attempts to interfere with administration of Internal Revenue laws

Whoever corruptly or by force endeavors to intimidate or impede any officer or employee of the United States acting in an official capacity under this title, or in any other way corruptly or by force obstructs or impedes, or endeavors to obstruct or impede, the due administration of this title, upon conviction:

·   Shall be imprisoned not more than three years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both

Title 18 USC § 371

Conspiracy to commit offense or to defraud the United States

If two or more persons conspire either to commit any offense against the United States, or to defraud the United States, or any agency thereof in any manner or for any purpose, and one or more of such persons do any act to effect the object of the conspiracy, each:

·   Shall be imprisoned not more than five years

·   Or fined not more than $250,000 for individuals ($500,000 for corporations)

·   Or both

  • Reliance on advice– If the actions taken as a direct result of, and in compliance with, written instruction from the IRS (or the oral or written advice of a tax professional) leads to the late filing and/or late payment of taxes, there are grounds for relief from the resulting penalties.

Table 19-1. Criminal Considerations

 

 

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