Calculating the Understatement
The steps for calculating a substantial-understatement penalty are:
Step 1: Compute the tax required to be shown on the return (minus any rebates).
Step 2: Determine the amount of tax actually reported on the return. Include adjustments for which there is substantial authority or adequate disclosure.
Step 3: Calculate the understatement (Step 1 − Step 2).
Step 4: Determine whether the understatement in Step 3 is substantial: for corporations, if it exceeds the lesser of (1) 10% of the tax required to be shown on the return or, if greater, $10,000; or (2) $10 million. For other taxpayers, if it exceeds the greater of (1) 10% of the tax required to be shown on the return, or (2) $5,000. Read more