IRS penalty relief brings big business opportunities for astute tax practitioners as the IRS does indeed have the authority to provide relief from various penalties if you know how to do the dance.
In 2014 the IRS abated either in part or in full approximately 12.3% of the 40.3 million penalties issued reducing penalty assessments paid by US Taxpayers up to $9.8 billion.
According to the IRM, relief from penalties can fall into one of four separate categories.
- Reasonable cause.
- Statutory exceptions.
- Administrative waivers.
- Correction of IRS error.
This post drills down into Reasonable Cause. The IRS bases reasonable cause on all the facts and circumstances of each individual case file and it allows for relief of penalties as per IRM 188.8.131.52.2.
The IRS grants reasonable cause relief when you exercised ordinary business care and prudence in determining your tax obligations but nevertheless were unable to to timely comply with those obligations.
IRS Policy Statement 3-2 provides a very limited list of ’causes’ which can be ‘reasonable’ for late filing of a return or failure to deposit or pay tax when due (IRM 184.108.40.206.2).
Examples of sound causes for delay which can be accepted as reasonable cause include:
- Death or serious illness in your immediate family. In the case of a corporation, estate, trust, etc., the death or serious illness must have been of an individual having sole authority to execute the return or make the deposit or payment or of a member of such individual’s immediate family.
- Unavoidable absence. In the case of a corporation, estate, trust, etc., here too the absence must have been of an individual having sole authority to execute the return or make the deposit or payment.
- Destruction by fire or other casualty of your place of business or business records.
- You were unable to determine amount of deposit or tax due for reasons beyond your control. This cause will be acceptable for federal tax deposits or payments of trust fund taxes only when you are unable to access your own records.
- The facts indicate that your ability to make deposits or payments has been materially impaired by civil disturbances.
- Lack of funds CAN INDEED BE an acceptable reasonable cause for failure to pay any tax or make federal tax deposits only when you can demonstrate the lack of funds occurred despite the exercise of ordinary business care and prudence.
Acceptable explanations of delinquency are not limited to the examples given above.
Any reason for delinquency in filing or making deposits or payments that can establish you exercised ordinary business care and prudence but were nevertheless unable to comply within the prescribed time deadlines can be deemed as a reasonable cause.
The key words above are EXERCISING ORDINARY BUSINESS CARE AND PRUDENCE.
The IRM does provide some limited guidance as to what the IRS takes into consideration when looking at the facts and circumstances as to whether you acted in good faith and exercised ordinary business care and prudence.
When an examiner evaluates whether you exercised ordinary business care and prudence, he or she reviews the following information as per IRM 220.127.116.11.2.2.
- Your reason. Make sure your reason directly addresses the penalty imposed and that the dates and explanations clearly correspond with the events on which the penalties are based. If the examiner is not satisfied with the information received, he or she can request more.
- Compliance history. The examiner checks at least the last three years of your payment history for any payment patterns and overall compliance history. If the examiner notices the same penalty assessed in a previous year, this indicates that you may not be exercising ordinary business care.
- Length of time. The examiner considers when law required the act, the period of time during which you were unable to comply with the law due to circumstances beyond your control, and when you complied with the law.
- Circumstances beyond your control. The examiner considers whether you could have anticipated the circumstance that caused the noncompliance. Some examples of circumstances beyond control are death, serious illness or unavoidable absence, casualty, or inability to obtain records.
Examiners consider the following in conjunction with serious illness, unavoidable absence, and inability to obtain records:
- What happened and when did it happen?
- During the period of time you were non-compliant, what facts and circumstances prevented you from filing a return, paying a tax, or otherwise complying with the law?
- How did the facts and circumstances prevent you from complying?
- How did you handle the remainder of your affairs during this time?
- What attempt did you make to comply with your tax obligation once the facts and circumstances changed?
Some examples of items that generally do NOT prove reasonable cause to an examiner consist of:
- A mistake
- Ignorance of the law.
- Erroneous IRS advice.
NOTE – For erroneous advice look to statutory exceptions first to determine if the argument falls under §6404(f). If you do not qualify for relief under §6404(f), then determine if ordinary business care and prudence was exercised when relying on the IRS’s advice.
Some examples of acceptable reasonable cause are:
- Embezzlement or theft.
- Fire, flood, windstorm, riot, or other disaster out of your control.
- Bad accounting advice.
- Lost or destroyed records.
- Serious health ailment.
- Serious health ailment of a family member.
- Death of a close family member.
- A divorce that caused a lot of anxiety and upset the taxpayer’s financial and/or mental equilibrium.
- Caring for someone who cannot care for himself or herself.
- Retired or on a fixed income.
- Psychological problem that required treatment.
- Lengthy period of unemployment.
- First time filer of a new tax form.
Have a tax question? Need help? Contact John Dundon.