It is possible for some taxpayers to reduce or eliminate their tax penalties by obtaining an abatement of penalties. This article will explore the fundamentals of IRS penalties as well as how to go about getting them removed. Taxpayers with a state tax liability may also qualify for an abatement, depending on the state. Most states have abatement criteria that is similar to that of the IRS. However, the focus of this article will be IRS penalties and how to get them abated.
The IRS has four general categories in which penalty relief will be considered. These categories include reasonable cause, statutory exceptions, administrative waivers, and correction of an IRS error.
The most prevalent basis for abatement of penalties is reasonable cause and consequently will be the focus of this article. Reasonable cause relief is generally granted when the taxpayer exercised ordinary business care and prudence in determining his or her tax obligations but nevertheless failed to comply with those obligations.
When determining if the taxpayer exercised ordinary business care and prudence, the IRS looks at four general categories.
- The taxpayer’s reason for the lack of compliance in order to ensure that the dates and explanations clearly correspond with events on which the penalties are based.
- The taxpayer’s compliance history for payment patterns and the taxpayer’s overall compliance history to determine if this is the taxpayer’s first incident of noncompliant behavior. The IRS typically goes back at least three years to review payment patterns and the taxpayer’s overall compliance history as prior assessment of the same penalty may indicate that the taxpayer is not exercising ordinary business care.
- The length of time between the event cited as a reason for the noncompliance and subsequent compliance is taken into consideration.
- If there were circumstances beyond the taxpayer’s control that resulted in the accrual of a tax liability in order to determine whether or not the taxpayer could have anticipated the event that caused the noncompliance. Reasonable cause is generally established when the taxpayer exercises ordinary business care and prudence, but, due to circumstances beyond the taxpayer’s control, the taxpayer was unable to timely meet the tax obligation.
Some of the most common events that give rise to reasonable cause are:
- Death, serious illness, or unavoidable absence of the taxpayer or immediate family that resulted in the tax liability.
- Fire, casualty, natural disaster, or other disturbance that caused the taxpayer to not be able to file or pay the tax liability. Inability to obtain records to file a return due to circumstances beyond the taxpayer’s control despite the taxpayer exercising ordinary business care and prudence may establish reasonable cause.
- Reliance on erroneous advice will be considered but is generally not reasonable cause, as the taxpayer is responsible for meeting his or her tax obligations and that responsibility cannot be delegated.
- Ignorance of the law constitutes reasonable cause in very limited situations. The taxpayer needs to demonstrate that a reasonable and good faith effort was made to comply with the law, or that they were unaware of a requirement and could not reasonably be expected to know of the requirement.
- With regards to individuals, an undue hardship may be grounds for abatement if it can be proven that the taxpayer would sustain a substantial financial loss if required to pay a tax or deficiency on the due date. However, an undue hardship generally does not affect a person’s ability to file and therefore would not provide a basis for penalty relief in a failure to file situation.
In addition to these common categories, a taxpayer may be able to establish reasonable cause for a variety of reasons by demonstrating that he or she exercised ordinary business care and prudence, but was nevertheless unable to comply.
Statutory, regulatory, or administrative penalty relief may be granted if the taxpayer relied on written or oral advice from the IRS, or advice from a tax professional. Penalty relief based on reliance on the advice of a tax advisor is limited to issues generally considered technical or complicated. The taxpayer’s responsibility to file, pay, or deposit taxes typically cannot be excused by reliance on the advice of a tax advisor.
As part of the administrative waiver, the IRS has a provision referred to as a first time abatement program. It allows for penalty relief provided that the taxpayer has not previously been assessed with a similar penalty for the previous three years. However, this type of penalty relief is only applicable to the first tax period in which a penalty has been assessed during the three year period in which no similar penalties had been assessed. Penalty relief for all subsequent tax periods must be based on the showing of reasonable cause (and absence of willful neglect).
When requesting penalty abatements, the burden of proving entitlement to relief is generally upon the taxpayer. To maximize the chances of obtaining a penalty abatement, I recommend composing a persuasive written proposal that presents the facts in a light that is favorable to the taxpayer, identifying the correct laws and IRS policies relative to the taxpayer’s specific facts and circumstances, applying the appropriate law to the facts, and then forcefully arguing that the law requires the IRS to abate penalties. If there are any documents that support the establishment of reasonable cause, those should be included with the abatement request. It may also be beneficial to include affidavits from individuals who can provide statements in support of reasonable cause. Whereas the preparation of a compelling penalty abatement request is similar to the preparation of a legal brief, I believe that tax attorneys (who have training and experience in persuasive legal writing) are better suited for securing penalty abatements than other tax professionals, such as CPA’s or Enrolled Agents.
When determining whether to hire a professional to seek an abatement of penalties on behalf of a taxpayer, one should consider the amount of penalties that could potentially be abated relative to the professional’s fee. For example, if there are $1,500 in penalties that could potentially be abated, it would not make sense to spend more than $1,500 on a professional (unless the professional will be providing services above and beyond a penalty abatement request for that fee). If you find yourself in this situation, you may wish to do your best to draft a compelling penalty abatement request on your own. After all, you have nothing to lose but your time, and you might succeed.
On the other hand, if the amount of penalties is large relative to the professional’s fee, it may make a lot of sense to have a professional prepare your request for you and pursue the approval of your request. However, I would steer clear of any professional who promises an abatement of penalties. Ultimately, the IRS, not your tax pro, decides whether or not reasonable cause has been established, and you have to have facts and circumstances that would help in establishing reasonable cause. A tax pro cannot change your past facts and circumstances, but a good one may be able to significantly improve your chances of convincing the IRS to abate your penalties.
Additional information regarding IRS penalties can be found in Section 20 of the Internal Revenue Manual.